UNITED STATESSECURITIES AND EXCHANGE
COMMISSIONWASHINGTON, D.C. 20549




FORM 10-QSB




(Mark One)


|[X] |  | QUARTERLY REPORT UNDER SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934 For the quarterly period ended April 30, 2006.
|--- |  | --------------------------------------------------------------------------------------------------------------------------------

|[  ] |  | TRANSITION REPORT UNDER SECTION 13 OR 15(d) OF THE EXCHANGE
ACT For the transition period from __________ to __________
|---- |  | -----------------------------------------------------------------------------------------------------------------------



Commission file number 000-49626




CORTELCO SYSTEMS PUERTO RICO, INC.(Exact name of
small business issuer as specified in its charter)


|PUERTO
RICO              |  |  |  | 66-0567491                       
|------------------------ |  |  |  | ---------------------------------
|(State of
incorporation) |  |  |  | (IRS Employer Identification No.)



Parque Ind. Caguas Oeste Road 156 km 58.2, Caguas, Puerto
Rico, 00725-0137(Address of principal executive office)




(787) 758-0000(Issuers telephone number,
including area code)




Check whether the issuer (1) filed all reports required to be
filed by Section 13 or 15(d) of the Exchange Act during the past 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 [  ]




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




State the number of shares outstanding of each of the
issuers classes of common equity, as of the latest practicable date:




1,604,557 shares of Common Stock, $0.01 par value, as of
April 30, 2006.




Transitional Small Business Disclosure Format (Check one): Yes
[  ] No [X]


---





CORTELCO SYSTEMS PUERTO RICO, INC. FORM 10-QSB
QUARTER ENDED APRIL 30, 2006




INDEX


|PART
IFINANCIAL INFORMATION                                          |  |  |  |  | 1  | 
|--------------------------------------------------------------------- |  |  |  |  | -- | 
|                                                                     
|ITEM 1.
FINANCIAL STATEMENTS (UNAUDITED)                              |  |  |  |  | 1  | 
|Condensed
Balance Sheet (Unaudited)                                   |  |  |  |  | 1  | 
|Condensed
Income (Loss) Statements and Comprehensive Loss (Unaudited) |  |  |  |  | 2  | 
|Condensed
Statements of Changes in Stockholders Equity (Unaudited)   |  |  |  |  | 3  | 
|Balance,
April 30, 2006                                               |  |  |  |  | 3  | 
|Condensed
Statements of Cash Flows (Unaudited)                        |  |  |  |  | 4  | 
|Notes to
Condensed Financial Statements (Unaudited)                   |  |  |  |  | 5  | 
|ITEM 2.
MANAGEMENTS DISCUSSION AND ANALYSIS                          |  |  |  |  | 8  | 
|ITEM 3.
CONTROLS AND PROCEDURES                                       |  |  |  |  | 12 | 
|PART
IIOTHER INFORMATION                                             |  |  |  |  | 13 | 
|ITEM 1. LEGAL
PROCEEDINGS                                             |  |  |  |  | 13 | 
|ITEM 2.
UNREGISTERED SALES OF EQUITY SECURITIES AND USE OF PROCEEDS   |  |  |  |  | 13 | 
|ITEM 3.
DEFAULTS UPON SENIOR SECURITIES                               |  |  |  |  | 13 | 
|ITEM 4.
SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS           |  |  |  |  | 13 | 
|ITEM 5. OTHER
INFORMATION                                             |  |  |  |  | 13 | 
|ITEM 6.
EXHIBITS AND REPORTS ON FORM 8-K                              |  |  |  |  | 13 | 
|SIGNATURES                                                            |  |  |  |  | 14 | 

---





PART IFINANCIAL INFORMATION




ITEM 1. FINANCIAL STATEMENTS (UNAUDITED)




CORTELCO SYSTEMS PUERTO RICO, INC. Condensed Balance Sheet (Unaudited) April 30, 2006 (Dollars in
thousands)


|ASSETS                                                                                                       
|-------------------------------------------------------------------------------------------------------------
|Current
assets:                                                                                              
|Cash and cash
equivalents                                                                                    
|Trade accounts
receivable, net                                                                               
|Inventories,
net                                                                                             
|Prepaid
expenses                                                                                             
|Total current
assets                                                                                         
|Available
for sale securities                                                                                
|Property
and equipment,net                                                                                   
|Purchased
software, net of accumulated amortization of $88                                                   
|Total                                                                                                        
|LIABILITIES AND STOCKHOLDERS EQUITY                                                                         
|Current
liabilities:                                                                                         
|Trade accounts
payable                                                                                       
|Due to
affiliated entities                                                                                   
|Deposits on
purchases                                                                                        
|Other accrued
liabilities                                                                                    
|Deferred
revenue                                                                                             
|Total current
liabilities                                                                                    
|Stockholders equity:                                                                                        
|Preferred
stock, par value $0.01 per share; authorized, 10,000,000 shares, no shares issued                  
|Common stock,
par value $0.01 per share, 5,000,000 shares authorized; 1,604,557 shares issued and outstanding
|Capital in
excess of par value                                                                               
|Deficit                                                                                                      
|Accumulated
other comprehensive income                                                                       
|Total
stockholders equity                                                                                   
|Total                                                                                                        



See notes to condensed financial statements.




1


---



CORTELCO SYSTEMS PUERTO RICO, INC.




Condensed Income Statements and Comprehensive Income
(Unaudited)




For the Three Months and Nine Months Ended April 30, 2006 and
2005




(Dollars in thousands, except per share
data)







|                                                      |  |  |  | Three Months EndedApril 30, |       | Nine Months Ended April 30, | 
|----------------------------------------------------- |  |  |  | --------------------------- | ----- | --------------------------- | 
|
|Net
revenues:                                         |  |  |  |                             |       |                             | 
|Products                                              |  |  |  | $                           | 1,261 |                             | 
|Services                                              |  |  |  |                             | 772   |                             | 
|Total net
revenues                                    |  |  |  |                             | 2,033 |                             | 
|Cost of
revenues:                                     |  |  |  |                             |       |                             | 
|Products                                              |  |  |  |                             | 897   |                             | 
|Services                                              |  |  |  |                             | 517   |                             | 
|Total cost
of revenues                                |  |  |  |                             | 1,414 |                             | 
|Gross
profit                                          |  |  |  |                             | 619   |                             | 
|Operating
expenses:                                   |  |  |  |                             |       |                             | 
|Selling,
general, & administrative                    |  |  |  |                             | 559   |                             | 
|Total
operating expenses                              |  |  |  |                             | 559   |                             | 
|Income from
operations                                |  |  |  |                             | 60    |                             | 
|Other
income, net:                                    |  |  |  |                             |      |                             | 
|Income
before income taxes                            |  |  |  |                             | 60    |                             | 
|Provision
for income taxes:                           |  |  |  |                             |       |                             | 
|Current,
assuming no carryforward benefit             |  |  |  |                             | 9     |                             | 
|Change in
valuation allowance                         |  |  |  |                             | (9    | )                           | 
|Total income
tax expense                              |  |  |  |                             |      |                             | 
|Net
income                                            |  |  |  |                             | 60    |                             | 
|Other
comprehensive income:                           |  |  |  |                             |       |                             | 
|Net
unrealized gain on available for sales securities |  |  |  |                             | 100   |                             | 
|Comprehensive income                                  |  |  |  | $                           | 160   |                             | 
|Basic and
diluted net income per common share         |  |  |  | $                           | 0.04  |                             | 



See notes to condensed financial statements.




2


---



CORTELCO SYSTEMS PUERTO RICO,
INC.




Condensed Statements of Changes in Stockholders
Equity (Unaudited)




For the Nine Months Ended April 30, 2006




(Dollars in thousands)


|                                                                   |  |  |  | Common stock |    | Capital in excess of par value |  | Capital contribution note receivable from
related party |       | (Deficit) |  | Accumulated other comprehensive gain |      | Total
|------------------------------------------------------------------ |  |  |  | ------------ | -- | ------------------------------ |  | ------------------------------------------------------- | ----- | --------- |  | ------------------------------------ | ---- | -----
|Balance,
July 31, 2005                                             |  |  |  | $            | 16 |                                |  | $                                                       | 7,273 |           |  | $                                    | (304 | )    
|Partial
collection of capital contribution note from related party |  |  |  |              |   |                                |  |                                                         |      |           |  |                                      | 290  |      
|Cancellation
of debt assumed in 2002 spin-off                      |  |  |  |              |    |                                |  |                                                         | 43    |           |  |                                      |      |      
|Net
income                                                         |  |  |  |              |   |                                |  |                                                         |      |           |  |                                      |     |      
|Other
comprehensive gain                                           |  |  |  |              |   |                                |  |                                                         |      |           |  |                                      |     |      
|Balance,
April 30, 2006                                            |  |  |  | $            | 16 |                                |  | $                                                       | 7,316 |           |  | $                                    | (14  | )    



See notes to condensed financial statements




3


---



CORTELCO SYSTEMS PUERTO RICO, INC.




Condensed Statements of Cash Flows
(Unaudited)




For the Three Months and Nine Months Ended April 30, 2006 and
2005




(Dollars in thousands)







|                                                                                  |  |  |  | Three Months Ended,April 30, |      | Nine Months Ended, April 30, | 
|--------------------------------------------------------------------------------- |  |  |  | ---------------------------- | ---- | ---------------------------- | 
|
|CASH FLOWS
FROM OPERATING ACTIVITIES:                                             |  |  |  |                              |      |                              | 
|Net
income                                                                        |  |  |  | $                            | 60   |                              | 
|Adjustments
to reconcile net income to net cash provided by operating activities: |  |  |  |                              |      |                              | 
|Depreciation
and amortization                                                     |  |  |  |                              | 28   |                              | 
|Changes in
operating assets and liabilities:                                      |  |  |  |                              |      |                              | 
|Decrease
(increase) in:                                                           |  |  |  |                              |      |                              | 
|Trade
accounts receivable                                                         |  |  |  |                              | 52   |                              | 
|Inventories                                                                       |  |  |  |                              | 135  |                              | 
|Prepaid
expenses                                                                  |  |  |  |                              | 36   |                              | 
|Increase
(decrease) in:                                                           |  |  |  |                              |      |                              | 
|Trade
accounts payable                                                            |  |  |  |                              | 55   |                              | 
|Due to
affiliated entities                                                        |  |  |  |                              | 36   |                              | 
|Deposits on
purchases                                                             |  |  |  |                              | (271 | )                            | 
|Accrued
liabilities                                                               |  |  |  |                              | 27   |                              | 
|Deferred
revenue                                                                  |  |  |  |                              | 41   |                              | 
|Total
adjustments                                                                 |  |  |  |                              | 139  |                              | 
|Net cash
provided by operating activities                                         |  |  |  |                              | 199  |                              | 
|CASH FLOWS
FROM INVESTING ACTIVITIES:                                             |  |  |  |                              |      |                              | 
|Capital
expenditures                                                              |  |  |  |                              | (20  | )                            | 
|Net cash
used in investing activities                                             |  |  |  |                              | (20  | )                            | 
|NET CHANGE
IN CASH                                                                |  |  |  |                              | 179  |                              | 
|CASH,
BEGINNING OF PERIOD                                                         |  |  |  |                              | 425  |                              | 
|CASH, END OF
THE PERIOD                                                           |  |  |  | $                            | 604  |                              | 
|Supplemental Disclosure of Non cash Investing and Financing Activities           
|Common stock
received in partial settlement of related party receivable           |  |  |  | $                            |     |                              | 
|Cancellation
of debt assumed in 2002 spin-off                                     |  |  |  | $                            | 43   |                              | 



See notes to condensed financial statements.




4


---



Cortelco Systems Puerto Rico, Inc.




Notes to Condensed Financial Statements
(Unaudited)




For the Three Months and Nine Months Ended April 30, 2006 and
2005




Basis of Presentation




The accompanying unaudited condensed financial statements have
been prepared by Cortelco Systems Puerto Rico, Inc. (CSPR or the Company). It is managements opinion that these
statements include all adjustments necessary to present fairly the financial position, results of operations, changes in stockholders equity, and
cash flows as of April 30, 2006 and for all periods presented.




Certain information and footnote disclosures normally included in
the annual financial statements prepared in accordance with accounting principles generally accepted in the United States of America have been
condensed or omitted. These condensed financial statements should be read in conjunction with the financial statements and notes as of July 31, 2005
and for the periods then ended, which are included in the Annual Report on Form 10-KSB for the year ended July 31, 2005 filed with the Securities and
Exchange Commission.




The accompanying financial statements have been prepared on a
going concern basis, which contemplates the realization of assets and the settlement of liabilities and commitments in the normal course of business.
The Companys previous years recurring losses, reduced market share, and lack of financing resources raised doubt about the Companys ability
to continue as a going concern. The Companys current efforts to reorganize its core business has allowed the Company to be in a break-even
position since 2004 (prior to non-recurring charges in 2004), but efforts continue to return to profitability. Accordingly, although management is
optimistic about the projected outcome for other quarters of this fiscal year 2006, no assurances can be given that the Company will be successful in
maintaining positive cash flows and profitability. The financial statements do not include any adjustments that might result from the outcome of this
uncertainty.




Significant Accounting Policies




Use of Estimates  The preparation of financial
statements in conformity with accounting principles generally accepted in the United States of America requires management to make estimates and
assumptions that affect the reported amount of assets and liabilities and the disclosure of contingent assets and liabilities at the date of the
financial statements and the reported amounts of revenues and expenses during the reporting period. Actual results could differ from those
estimates.




Fair value of financial instruments  The carrying
amounts of cash is a reasonable estimate of its fair value. The carrying amounts of accounts receivable, accounts payable (including to related
parties), accrued expenses, and deposit liabilities approximate fair value due to their short-term maturities. Marketable securities are classified as
available for sale and are reported at fair value.




Revenue Recognition  The Company recognizes revenues
for equipment shipped to customers only after completion of installation services and acceptance by the customer due to the customized nature of each
installation. Revenues from communications systems service contracts are recognized over the life of the individual contracts. Currently, the Company
sells and services communications systems purchased from various third-party vendors. The Company allocates fees from multiple-element arrangement to
the elements based on the relative fair value of each element.




The Company believes that its revenues recognition policies are
compliant with Staff Accounting Bulleting No. 104, Revenue Recognition in Financial Statements.




Maintenance contracts  Maintenance contract revenues
are recognized over the remaining life of each contract (usually one year) based on the straight-line method.




5


---



The following table summarizes the activity relating to the
unexpired maintenance contracts during the quarter ended April 30, 2006.


|(Dollars in thousands) |  |  |  | January 31, 2006Liability Balance |      | Additions |  | Deductions |      | April 30, 2006 Liability Balance
|---------------------- |  |  |  | --------------------------------- | ---- | --------- |  | ---------- | ---- | --------------------------------
|Maintenance
Contracts  |  |  |  |                                   | $239 |           |  |            | $118 |                                 



Product Warranties  The Company gives a one-year
warranty to certain products sold. The Company recognizes an accrued warranty liability when it sells a product. This amount is an estimate of the cost
of labor to be performed if that warranty is exercised, based on experience. If the Company is required to perform on its warranty, it sends the
product to the manufacturer that normally warrants the product. The Company only incurs the cost of labor of technicians and return freight. The
Company recognizes warranty revenue over the term of the warranty period. The costs related to warranties exercised are recognized directly as cost of
sales when incurred.




The following table summarizes the activity relating to the
warranty reserve during the quarter ended April 30, 2006.


|(Dollars in thousands) |  |  |  | January 31, 2006Liability Balance |     | Additions |  | Deductions |     | April 30, 2006 Liability Balance
|---------------------- |  |  |  | --------------------------------- | --- | --------- |  | ---------- | --- | --------------------------------
|Warranty
Reserve       |  |  |  |                                   | $56 |           |  |            | $51 |                                 



Cash  Cash includes cash deposited in high-credit
qualified financial institutions.




Allowance for Doubtful Accounts  The allowance for
doubtful accounts is an amount that management believes will be adequate to absorb losses on existing accounts receivable that are considered
uncollectible based on evaluations of collectibility of the outstanding accounts.




Inventories  Purchased inventories are stated at the
lower of cost or market. Cost is determined by the first-in, first-out (FIFO) method. Returned equipment and inventory, mostly related to
warranty claims and replacements of outdated communication systems, is accounted at no cost, unless repaired, as which time, it is valued at the lower
of the repair cost or its net realizable value.




Available for sale securities  Securities held in
eOn Communications, a related party, are accounted as available for sale securities although they represent restricted shares as defined in Rule 144
under the Act. They are reported at fair value, and unrealized gains and losses reported as a net amount in other comprehensive
income.




Accounting for income taxes  Deferred income taxes
are accounted for using the asset and liability method of accounting. Under this method, deferred tax assets and liabilities are recognized for the
future tax consequences attributable to differences between the financial statement carrying amounts of existing assets and liabilities and the
respective tax bases and operating loss and tax credit carryforwards. Deferred tax assets and liabilities are measured using the enacted tax rates
expected to apply to taxable income in the years in which those temporary differences are expected to be recovered or settled. The effect on deferred
tax assets and liabilities of a change in tax rates is recognized in income in the period that includes the enactment date.




On August 4, 2003, the Company was granted certain tax exemption
benefits under the Commonwealth of Puerto Rico Law 135 of December 2, 1997, as amended. Under the ten-year decree, beginning on December 30, 2002, the
Companys process of assembling communication equipment will enjoy preferential tax rates, as follows:


|Tax       |  |  |  | Benefit      
|--------- |  |  |  | -------------
|Income    |  |  |  | 7% flat
tax  
|Property  |  |  |  | 90%
exemption
|Municipal |  |  |  | 60%
exemption



6


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Recent Accounting Pronouncements




In March 2006, the FASB issued SFAS No. 156, Accounting for
Servicing of Financial Assets  an amendment of FASB Statement No. 140. This statement amends FASB Statements No. 140, Accounting for Transfers
and Servicing of Financial Assets and Extinguishments of Liabilities, with respect to the accounting for separately recognized servicing assets and
servicing liabilities.




As revised in 2004, the FASB issued SFAS No. 123(R),
Accounting for Stock-Based Compensation. This Statement requires that when an entity exchanges its own equity instruments for goods or services,
the transaction should be accounted at the fair value of the shares surrendered. The Company is required to implement SFAS No. 123, as amended, during
the first quarter of fiscal year 2007. At present, the Company does not have any stock issued under any Stock-Based Compensation agreements; however
there are 375,000 common stock shares segregated for such purposes in the future. The implementation of SFAS No. 123(R), as amended, is not expected to
have a material impact in the Companys financial statements.




The future implementation of this Statement will have no
significant effect on the Companys financial statements.




Other recently issued FASB Statements or Interpretations, SEC
Staff Accounting Bulletins, and AICPA Emerging Issue Task Force Consensuses have either been implemented in prior periods or are not applicable to the
Company.




Securities Authorized for Issuance Under the Companys
Equity Compensation Plan




The following table summarizes the Company equity compensation
plan as of April 30, 2006:







|Plan category                                              |  |  |  | Number of securities to beissued upon exercise
of outstanding options,warrants and rights |   | Weighted-averageexercise price ofoutstanding
options, warrants and rights |  | Number of securitiesremaining availablefor
future issuanceunder equity compensationplans (excluding securities reflected in column (a)
|---------------------------------------------------------- |  |  |  | ----------------------------------------------------------------------------------------- | - | ------------------------------------------------------------------------- |  | --------------------------------------------------------------------------------------------------------------------------------------
|                                                           |  |  |  | (a)                                                                                       |   | (b)                                                                       |  | (c)                                                                                                                                   
|Equity
compensation plans approved by security holders     |  |  |  |                                                                                           |  |                                                                           |  |                                                                                                                                       
|Equity
compensation plans not approved by security holders |  |  |  |                                                                                           |  |                                                                           |  |                                                                                                                                       
|Total                                                      |  |  |  |                                                                                           |  |                                                                           |  |                                                                                                                                       



Inventories




Inventories consist of the following:


|                                                            |  |  |  | April 30, 2006
|----------------------------------------------------------- |  |  |  | --------------
|
|Purchased
components, net                                   |  |  |  | $             
|Components
and materials related to installation in process |  |  |  |               
|Parts and
materials for maintenance, net                    |  |  |  |               
|Total
inventories                                           |  |  |  | $             



Income per Common Share




The Company reports its earnings per share (EPS)
using Financial Accounting Standards Board (FASB) Statement No. 128, Earnings Per Share (SFAS 128). SFAS 128 requires
dual presentation of basic and diluted EPS. Basic EPS is computed by dividing income (loss) attributable to common stockholders by the weighted average
number of common shares outstanding for the period. Diluted EPS reflects the potential dilution that could occur if securities or other contracts to
issue common stock were exercised or converted into common stock.




7


---



The computations of basic and diluted income per share were as
follows:







|                                                         |  |  |  | Three Months EndedApril 30, |           | Nine Months Ended April 30, | 
|-------------------------------------------------------- |  |  |  | --------------------------- | --------- | --------------------------- | 
|
|
|Basic and
diluted income per share:                      |  |  |  |                             |           |                             | 
|                                                        
|Net
income                                               |  |  |  | $                           | 60        |                             | 
|Weighted
average number of     common shares outstanding |  |  |  |                             | 1,604,557 |                             | 
|                                                        
|Income from
operations per share                         |  |  |  | $                           | 0.04      |                             | 



Contingencies




CSPR is currently subject to one claim regarding an alleged
breach of contract, and one claim regarding an employment issue. In the breach of contract case, the plaintiff alleges that the Company breached the
terms of contract by ceasing to supply services to the plaintiff, and the plaintiff seeks damages of approximately $855,000. Although management is
strongly contesting the claim, management believes, based on the opinion of counsel, that if the Court does not accept the Companys defense, a
negative outcome is reasonably possible, although for a lower sum than the one claimed by plaintiff. Because the loss, if any, cannot be classified as
probable nor the amount determinable, an accrual for losses has not been recorded in the Companys financial statements. The Company is also
defendant in one claim by a former employee, totaling approximately $5 million. The Company has filed motion for summary judgment and such motion is
under the consideration of the Court. The Companys management believes, based on the opinion of counsel, that the same is without merit and does
not believe that this case will result in a significant unfavorable outcome that would have a material adverse effect upon the Companys
business.




During the current quarter, the Municipal Revenue Collections Center of Puerto Rico started an audit regarding personal property taxes for the years
1999-2004. During the audit process, they alleged that some components of the inventory reported as exempt should be taxable. The parties met several
times and continue negotiations, as the Company has strong arguments to support its position as to the
exemption of such inventory components. At this point, the Company cannot predict the outcome of this audit but estimates that if the outcome is a
decision adverse to the Companys position; it will not result in a significant impact that would have a materially adverse affect upon the
Companys financial statements.




Related Party Transactions




On September 16, 2005, the Board of Directors authorized the
Officers of the Company to accept a partial settlement related to a note receivable of $304,000 from a related party, assigned to the Company upon the
spin-off from eOn Communication Corporation, on July 31, 2002. The partial settlement consist of 43,104 shares of CSPR stock valued at 60 days trailing
average from September 13, 2005, of $0.33 per share, and 175,983 shares of eOn stock valued at 60 days trailing average from September 13, 2005, of
$1.29 per share. On January 12, 2006, the Company received the 175,983 shares of eOn stock. At April 30, 2006 the fair value of eOns shares was
$1.69 and a comprehensive gain of $70,393 was recorded. The Company expects to receive the CSPR shares before July 31, 2006, and will account for the
same, as treasury stocks at the time the shares are received from the related party. The original note is presented in the financial statements as a
reduction of stockholders equity, net of collections.




ITEM 2. MANAGEMENTS DISCUSSION AND
ANALYSIS.




This report contains unaudited forward-looking statements within
the meaning of the federal securities laws. Unaudited forward-looking statements are those that express managements views of future events,
developments, and trends. In some cases, these statements may be identified by terminology such as may, will,
should, expects, plans, intends, anticipates, believes, estimates,
predicts, potential, or continue or the negative of such terms and other comparable expressions. Unaudited
forward-looking statements include statements regarding the Companys anticipated or projected operating performance, financial results, liquidity
and capital resources. These statements are




8


---



based on managements beliefs, assumptions, and expectations, which in turn are based on the
information currently available to management. Information contained in these unaudited forward-looking statements is inherently uncertain, and the
Companys actual operating performance, financial results, liquidity, and capital resources may differ materially due to a number of factors, most
of which are beyond Managements ability to predict or control. The Company also directs your attention to the risk factors affecting its business that
are discussed in our 10-KSB filed for the period ended July 31, 2005. CSPR disclaims any obligation to update any of the unaudited forward-looking
statements contained in this report to reflect any future events or developments. The following discussions should be read in conjunction with the
Companys unaudited financial statements and the notes included thereto.




Plan of Operation




During the month of January, the Company began a new line of
business, the resale of Puerto Rico Telephone Company (PRTC  the local main telephone company) services offered to the local users of
intra-island calls, ISDN, T1, and other services excluding the long distance outside Puerto Rico to customers that are willing to change the billing
company. To increase this line of business, CSPR hired two salespersons and expect to hire one or two additional employees before the fiscal year
end.




CSPR also began a business partner relationship with Cisco
Systems, Inc. in order to sell their products in the area of data and security. Many of CSPRs customers have Cisco routers and switches in their
LAN/WAN infrastructure. With this approach, CSPR is trying to be a one-stop-shop to our customers for all their telecommunications needs, including
voice, data, security, applications and transmission services.




Another new line of business that the Company has the commitment
to develop is the sale of CellStik, a new product in the market. CellStik is a small hand-held device that allows simple and easy back up, edit and
transfer between handsets of cellular telephones contacts. It also allows users to enter and edit cell phonebook contacts from the comfort of their
full-sized PC keyboard. The CellStik is manufactured by Spark Technologies, a California company that is wholly owned by Mr. David S. Lee, the majority
shareholder of CSPR. The Company has hired one salesperson to introduce and develop the product in Puerto Ricos market. This product could
represent a potential for growth in the future to CSPR if it is well accepted in the market.




To achieve the increased opportunities, CSPR will continue to
seek a credit line from a Puerto Rican financial institution to provide cash flow financing. Also, the Company believes that, if its financial
condition continues to improve, it will continue to obtain more beneficial credit terms from its primary suppliers.




CSPR plans to continue to closely monitor company operating costs
and expenses, which stabilized in 2005. The Company will continually look for ways to increase its installed base of customers via improved equipment
sales and customer service performance, along with increased maintenance service sales efforts. To improve service performance, the Company will
continue its training program to develop more highly qualified technicians and salespersons. CSPR has achieved Platinum level with Avaya, the highest
qualification that Avaya gives to its Business Partner. Among other things, being a Platinum Business Partner entitles the Company to additional
discounts and special technical trainings. Also, CSPRs technical staff includes an Avaya Certified Expert (ACE). This is not only the highest
level given to a technical person but also is the first ACE awarded to an Avaya Business Partner in the Caribbean. CSPR is also seeking the highest
certifications in Mitel and Nortel, which are the other key product lines, which the Company believes will improve its competitive position with
customers and suppliers. To improve new installation and maintenance sales results, the Company has three salespersons dedicated to support and
increase its customer base. The Company is pursuing productivity with continuing improvements in customer service and support through Web ticketing and
Project Management programs.




CSPR has established a recognized presence in the Virgin Islands
as part of its ongoing efforts to increase sales in the Caribbean.




While the Company believes that here are a number of positive
trends in its business, no assurance can be given that CSPR will be successful in achieving its near term goals.




Managements Discussion and Analysis of Financial
Condition and Results of Operations




The Companys cash position has improved from prior years.
The Company will continue with the policy of accelerated payment terms to improve cash flows and continue to maintain accounts receivable and
inventories at controlled levels




9


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during the current fiscal year.
CSPRs slight shortfall to budgeted sales in the first quarter ended October 31, 2005 was due to a postponement of the installation of a major
system. Historically, the second quarter of each fiscal year is a low point for sales revenue, but CSPR achieved the current budget for the quarter
ended January 31, 2006. The third quarter results indicated a slight shortfall to budgeted sales due to a postponement of only one installation. For
the fourth quarter, the Company has been receiving customer commitments for new systems installations that should allow CSPR to achieve the current
budget.




Results of Operations and Cash Flow for the Three Months Ended
April 30, 2006 and 2005




The following discussion provides information about the
Companys operations, for the three months ended April 30, 2006 and for the three months ended April 30, 2005.




Net Revenues




Net revenues consist of sales of new system installations and
additions (Products) and services related to revenues from maintenance contract, warranties and other billable services
(Services). Net revenues decreased 11.53% in the three months ended April 30, 2006 compared to the same quarter last fiscal year. The
results primarily reflect decreased revenue of approximately $275,000 in Products, due to export sales that the current quarter does not reflect, and
an increase of approximately $10,000 in Services due to normal fluctuations in the maintenance business.




Cost of Revenues and Gross Profit




Cost of revenues consists primarily of purchases from equipment
manufacturers and other suppliers and costs incurred for final assembly, quality assurance, system installation and maintenance labor cost. The gross
margin for the three months ended April 30, 2006 and 2005 was 30.45% and 26.28%, respectively. The gross margin improvement results basically from
better markups in the price of products, maximizing productivity, decrease in some subcontracting services by doing them with internal resources, and
more competitive selling and operational strategies.




Selling, General and Administrative




Selling, general and administrative expenses consist primarily of
salaries and benefit costs, advertising, facilities and other overhead expenses incurred to support our business. This expense increased less than
1% to approximately $559,000 in the three months ended April 30, 2006 from approximately $555,000 in the same quarter last fiscal year. This is the
result of Managements ongoing plan of monitoring this expense.




Interest, Other Income and Expense and Other Comprehensive
Loss




The Company had no significant other income and interest expense
in the three months ended April 30, 2006 or 2005.




For the quarters ended April 30, 2006 and 2005, the resulting
income tax was offset by the available carryforward losses, through a change in valuation allowance.




Other comprehensive gain consists of unrealized potential gain,
if sold, of securities owned by the Company.




Cash Flow




Cash flow provided by operating activities was approximately
$199,000 and $29,000 in the three months ended April 30, 2006 and 2005 respectively. Cash provided by operating activities in both three months period
resulted primarily from income before depreciation adjusted by normal fluctuations in the operating asset and liability balances. Cash flows used in
investing activities for the three months ended April 30, 2006 was approximately ($20,000). The change in cash for investing activities in the quarter
ended April 30, 2006 was related to the acquisition of new hardware and software to improve employee performance.




Results of Operations and Cash Flow for the Nine Months Ended
April 30, 2006 and 2005




The following discussion provides information about the
Companys operations, for the nine months ended April 30, 2006 and for the nine months ended April 30, 2005.




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Net Revenues




Net revenues decreased 6.49% in the nine months ended April 30,
2006 compared to the nine months ended April 30, 2005. The decrease was primarily due to revenues of approximately $200,000 in export sales achieved
during the fiscal year that the current period does not reflect.




Cost of Revenues and Gross profit




The gross margin for the nine months ended April 30, 2006 and
2005 were 31.73% and 28.30%, respectively. The gross margin improvement results basically from better markups in the price of products, maximizing
productivity, decrease in some subcontracting services by doing them with internal resources, and more competitive selling and operational
strategies.




Selling, General and Administrative




Selling, general and administrative expenses decreased
approximately $28,000 in the nine months ended April 30, 2006 from approximately $1,650,000 at April 30, 2005 to approximately $1,622,000 at April 30,
2006. This is the result of Managements ongoing plan of monitoring this expense.




Interest, Other Income and Expense and Other Comprehensive
Loss




The Company had no significant other income and interest expense
in the nine months ended April 30, 2006.




For these nine months periods ended April 30, 2006 and 2005, the
resulting income tax was offset by the available carryforward losses, through a change in valuation allowance.




Other comprehensive gain consists of unrealized potential gain,
if sold, of securities owned by the Company.




Cash Flow




Cash flow provided by operating activities was approximately
$137,000 and $274,000 in the nine months ended April 30, 2006 and 2005, respectively. Cash provided by operating activities in both nine months period
resulted primarily from income before depreciation adjusted by normal fluctuations in the operating asset and liability balances. Cash flows used in
investing activities for the nine months ended April 30, 2006 and 2005 was approximately ($32,000) and ($19,000), respectively. The change in cash for
investing activities in both period reported is related to the acquisition of new hardware and software to improve employee
performance.




Liquidity and Capital Resources




The Company has principally relied on cash provided from
operations as our primary sources of capital. CSPR does not anticipate the need to raise additional capital to meet its operational, and capital
expenditure requirements in the foreseeable future. The Companys funding status is dependent on a number of factors in the cash flow, including
those related to profit margins, inventories, and the control of selling, general and administrative expenses. CSPR expects the cash generated from
operations will be sufficient to meet the cash requirements for the business, including capital expenditures and working capital needs for the near
future. Should actual results differ significantly from current assumptions, the Companys liquidity position could be adversely affected and
could be in a position that would require the Company to raise additional capital, which may not be available to CSPR or may not be available on
acceptable terms.




Other Relevant Financial Information




The Companys Board of Directors has the authority to issue
up to 10,000,000 shares of preferred stock and to determine the preferences, rights and privileges of those shares without any further vote or action
by the stockholders. The rights of the holders of any preferred stock that may be issued in the future may harm the rights of the holders of common
stock. Certain provisions of our certificate of incorporation and bylaws may make it more difficult for a third party to acquire control of CSPR
without the consent of our Board of Directors, even if such changes were favored by a majority of the stockholders. These include provisions that
provide for a staggered board of directors, prohibit stockholders from taking action by written consent and restrict the ability of stockholders to
call special meetings.




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CSPRs officers, directors and five percent or greater
stockholders beneficially own or control, directly or indirectly, approximately 979,850 shares, which in the aggregate represent approximately 61%
voting interest in the outstanding shares of our common stock. These stockholders have the ability to control all matters submitted to our stockholders
for approval, including the election and removal of directors and the approval of any business combinations.




The Company believes its stock fits the definition of a penny
stock. The Securities Exchange Act of 1934 defines a penny stock as any equity security that is not traded on a national securities exchange or
authorized for quotation on The Nasdaq Stock Market and that has a market price of less than $5.00 per share, with certain exceptions. Penny stocks are
subject to Rule 15g under the Securities Exchange Act of 1934, which imposes additional sales practice requirements on broker-dealers who sell such
securities. In general, a broker-dealer, prior to a transaction in a penny stock, must deliver a standardized risk disclosure document that provides
information about penny stocks and the risks in the penny stock market. The broker-dealer must provide the customer with current bid and offer
quotations for the penny stock, information about the commission payable to the broker-dealer and its salesperson in the transaction and monthly
statements that disclose recent price information for each penny stock in the customers account. Finally, prior to any transaction in a penny
stock, the broker-dealer must make a special written suitability determination for the purchaser and receive the purchasers written consent to
the transaction prior to sale. All of these requirements may restrict your ability to sell CSPR stock and could limit the trading volume and adversely
affect the price investors are willing to pay for CSPR stock.




Off-Balance Sheet Arrangements




CSPR was not involved in any significant off-balance sheet
arrangements during the nine months ended April 30, 2006 and for the nine months ended April 30, 2005.




ITEM 3. CONTROLS AND PROCEDURES.




Under the supervision and with the participation of the Company
management, including the Chief Executive Officer and Chief Financial Officer, the Company has evaluated the effectiveness of the design and operation
of its disclosure controls and procedures pursuant to Exchange Act Rule 13a-15(e) as of the end of the period covered by this report. Based on that
evaluation, the Chief Executive Officer and Chief Financial Officer have concluded that these disclosure controls and procedure are effective. There
were no changes in CSPR internal control over financial reporting during the nine months ended April 30, 2006 that have materially affected, or are
reasonably likely to materially affect, the Company internal controls over financial reporting.




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PART II  OTHER INFORMATION




ITEM 1. LEGAL PROCEEDINGS.




No new legal proceedings.




ITEM 2. UNREGISTERED SALES OF EQUITY SECURITIES AND USE OF
PROCEEDS.




None.




ITEM 3. DEFAULTS UPON SENIOR SECURITIES.




None.




ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY
HOLDERS.




None.




ITEM 5. OTHER INFORMATION.




None.




ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K.


|(A) |  | Exhibits.
|--- |  | ---------

|Exhibit Number |  |  |  | Description of Document                                                                    
|-------------- |  |  |  | -------------------------------------------------------------------------------------------
|31.1           |  |  |  | Officers Certification pursuant to Rules 13a-14(a) of the Securities Exchange Act of 1934.
|31.2           |  |  |  | Officers Certification pursuant to Rules 13a-14(a) of the Securities Exchange Act of 1934.
|32.1           |  |  |  | Officers Certification pursuant to 18 U.S.C ss1350.                                       

|(B) |  | Reports On Form 8-K.
|--- |  | --------------------



None.




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SIGNATURES




In accordance with the requirements of the Exchange Act, the
Registrant caused this report to be signed on its behalf by the undersigned, thereunto duly authorized.







|                    |  |  |  | Cortelco Systems Puerto Rico, Inc.                                                                                                     |  |  |  | 
|------------------- |  |  |  | -------------------------------------------------------------------------------------------------------------------------------------- |  |  |  | 
|                    |  |  |  |                                                                                                                                        |  |  |  | 
|Date: June 14,
2006 |  |  |  | /s/ Francisco Sanchez                                                                                                                  |  |  |  | 
|                    |  |  |  | Francisco Sanchez, Vice PresidentChief Financial Officer, TreasurerDuly Authorized Officer(Principal Financial and Accounting
Officer) |  |  |  | 



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