10-Q 1 pt_10q-2ndqtr.txt FORM 10-Q UNITED STATES SECURITIES AND EXCHANGE COMMISSION WASHINGTON, D.C. 20549 ------------- FORM 10-Q ------------- /X/ QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 For the quarterly period ended June 30, 2005 OR / / 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: 0-28602 PRO TECH COMMUNICATIONS, INC. (Exact name of registrant as specified in its charter) Florida 59-3281593 (State or other jurisdiction of (I.R.S. Employer incorporation or organization) Identification No.) 4492 Okeechobee Road, Fort Pierce, Florida 34947 (Address of principal executive offices) (Zip Code) (772) 464-5100 (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. /X/ Yes /_/ No Indicate by check mark whether the registrant is an accelerated filer (as defined in Rule 12b-2 of the Act). /_/ Yes /X/ No The number of shares of the registrant's common stock outstanding as of August 5, 2005 was 75,234,140 shares.

2 PART I FINANCIAL INFORMATION ITEM 1. FINANCIAL STATEMENTS

5 PRO TECH COMMUNICATIONS, INC. NOTES TO THE CONDENSED FINANCIAL STATEMENTS (UNAUDITED) 1. Organization and Basis of Presentation Throughout this document, Pro Tech Communications, Inc. is referred to as "we," "us," "our" or "Pro Tech." Pro Tech engineers, designs and distributes audio and communication solutions and other products for consumers, business users and industrial users. We have been a majority-owned subsidiary of NCT Hearing Products, Inc. ("NCT Hearing"), a wholly-owned subsidiary of NCT Group, Inc. ("NCT"), since September 2000. As of June 30, 2005, NCT Hearing owned approximately 83% of our outstanding common stock. The accompanying condensed financial statements are unaudited but, in the opinion of management, contain all adjustments (consisting of those of a normal recurring nature) considered necessary to present fairly the condensed financial position and the results of operations and cash flows for the periods presented in conformity with accounting principles generally accepted in the United States of America applicable to interim periods. The results of operations for the three and six months ended June 30, 2005 and cash flows for the six months ended June 30, 2005 are not necessarily indicative of the results that may be expected for any other interim period or the full year. These condensed financial statements should be read in conjunction with the audited financial statements and notes thereto for the year ended December 31, 2004 contained in our Annual Report on Form 10-K for the year ended December 31, 2004. The preparation of financial statements in conformity with accounting principles generally accepted in the United States of America requires us to make estimates and assumptions that affect the amounts reported in the financial statements and accompanying notes. Actual results could differ from these estimates. Certain amounts for 2004 have been reclassified to conform to the 2005 classifications. Loss per Share We report loss per common share in accordance with Statement of Financial Accounting Standards ("SFAS") No. 128, "Earnings Per Share." The effect of potential common shares such as options, warrants and convertible preferred stock at June 30, 2004 and 2005 was not included in the net loss per share calculations for the interim periods then ended, as the effect would be antidilutive. Recent Accounting Pronouncements In November 2004, the Financial Accounting Standards Board ("FASB") issued SFAS No. 151, "Inventory Costs--an amendment of ARB No. 43," which is the result of its efforts to converge U.S. accounting standards for inventories with International Accounting Standards. SFAS No. 151 requires idle facility expenses, freight, handling cost and wasted material (spoilage) costs to be recognized as current-period charges. It also requires that allocation of fixed production overhead to the costs of conversion be based on the normal capacity of the production facilities. SFAS No. 151 will be effective for us beginning January 1, 2006. We do not anticipate that the adoption of SFAS No. 151 will have a material impact on our financial position, results of operations or cash flows. In December 2004, the FASB issued SFAS No. 123 (Revised 2004) "Share-Based Payment" that prescribes the accounting for share-based payment transactions in which a company receives employee services in exchange for (a) equity instruments of the company or (b) liabilities that are based on the fair value of the company's equity instruments or that may be settled by the issuance of such equity instruments. SFAS No. 123R addresses all forms of share-based payment awards, including shares issued under employee stock purchase plans, stock options, restricted stock and stock appreciation rights. SFAS No. 123R eliminates the ability to account for share-based compensation transactions using APB Opinion No. 25, "Accounting for Stock Issued to Employees," that was previously allowed under SFAS No. 123 as originally issued. Under SFAS No. 123R, companies are required to record compensation expense for all share based payment award transactions measured at fair value. In April 2005, the Securities and Exchange Commission ("SEC") delayed the effective date of SFAS No. 123R. Accordingly, this statement is effective for us beginning January 1, 2006. We have not yet determined the impact, if any, that the adoption of SFAS No. 123R will have on our financial position, results of operations or cash flows. 6 In December 2004, the FASB issued SFAS No. 153, "Exchanges of Nonmonetary Assets--an amendment of APB Opinion No. 29" that amends Opinion No. 29 to eliminate the exception for nonmonetary exchanges of similar productive assets and replaces it with a general exception for exchanges of nonmonetary assets that do not have commercial substance. A nonmonetary exchange has commercial substance if the future cash flows of the entity are expected to change significantly as a result of the exchange. The provisions of this statement are effective for non-monetary asset exchanges for us beginning July 1, 2005. We do not anticipate that the adoption of SFAS No. 153 will have a material impact on our financial position, results of operations or cash flows. In May 2005, the FASB issued SFAS No. 154, "Accounting Changes and Error Corrections--A Replacement of APB Opinion No. 20 and FASB Statement No. 3." SFAS No. 154 requires retrospective application to prior periods' financial statements for changes in accounting principle, unless it is impracticable to determine either the period-specific effects or the cumulative effect of the change. SFAS No. 154 also requires that retrospective application of a change in accounting principle be limited to the direct effects of the change. Indirect effects of a change in accounting principle, such as a change in non-discretionary profit-sharing payments resulting from an accounting change, should be recognized in the period of the accounting change. SFAS No. 154 also requires that a change in depreciation, amortization, or depletion method for long-lived non-financial assets be accounted for as a change in accounting estimate affected by a change in accounting principle. SFAS No. 154 is effective for accounting changes and corrections of errors made in fiscal years beginning after December 15, 2005. The provisions of this statement are effective for us beginning January 1, 2006. We do not anticipate that the adoption of SFAS No. 154 will have a material impact on our financial position, results of operations or cash flows. In June 2005, the FASB's Emerging Issues Task Force reached a consensus on Issue No. 05-6, "Determining the Amortization Period for Leasehold Improvements" ("EITF 05-6"). The guidance requires that leasehold improvements acquired in a business combination or purchased subsequent to the inception of a lease be amortized over the lesser of the useful life of the assets or a term that includes renewals that are reasonably assured at the date of the business combination or purchase. The guidance is effective for us beginning July 1, 2005. We do not anticipate that the adoption of EITF 05-6 will have a material impact on our financial position, results of operations or cash flows. 2. Stock Options We have elected to apply the disclosure-only provisions of SFAS No. 123, "Accounting for Stock-Based Compensation," as amended by SFAS No. 148, "Accounting for Stock-Based Compensation - Transition and Disclosure - an amendment to FASB Statement No. 123," and continue to apply Accounting Principles Board ("APB") Opinion No. 25 and related interpretations in accounting for our stock-based compensation plans. Under APB No. 25, no compensation costs are recognized if the option exercise price is equal to or greater than the fair market price of the common stock on the date of the grant. Under SFAS No. 123, stock options are valued at grant date using the Black-Scholes option pricing model and compensation costs are recognized ratably over the vesting period. No stock-based employee compensation cost is reflected in our net loss, as options granted under our plans have an exercise price equal to or greater than the market value of the underlying common stock on the date of grant. Had compensation costs been determined as prescribed by SFAS No. 123, our net loss and net loss per share would have been the pro forma amounts indicated below:

7 3. Inventories Inventories, net consisted of the following: December 31, June 30, 2004 2005 --------------- --------------- Finished goods $ 268,012 $ 253,858 Components 174,726 190,953 Work in progress 19,640 35,227 --------------- --------------- Gross inventory 462,378 480,038 Less: reserve for obsolete inventory 118,531 118,531 --------------- --------------- $ 343,847 $ 361,507 =============== =============== 4. Other Current Assets Other current assets consisted of the following: December 31, June 30, 2004 2005 --------------- --------------- Prepaid insurance $ 15,922 $ 6,840 Prepaid inventory purchases 4,843 13,953 Other 15,121 11,651 --------------- --------------- $ 35,886 $ 32,444 =============== =============== 5. Property and Equipment Property and equipment, net consisted of the following: December 31, June 30, 2004 2005 --------------- --------------- Production molds $ 454,303 $ 483,798 Office equipment 171,582 171,582 Production equipment 39,140 39,140 Leasehold improvements 315,050 315,050 Vehicles 12,414 19,281 Marketing displays 18,116 18,116 --------------- --------------- 1,010,605 1,046,967 Less accumulated depreciation and amortization 708,946 758,794 --------------- --------------- 301,659 288,173 --------------- --------------- Assets under capital lease: Cost 61,893 61,893 Less accumulated amortization 57,154 58,821 --------------- --------------- 4,739 3,072 --------------- --------------- $ 306,398 $ 291,245 =============== =============== Total depreciation and amortization expense, with respect to property and equipment, was $75,691 and $63,929, for the six months ended June 30, 2004 and 2005, respectively. 8 6. Other Liabilities Other liabilities consisted of the following: December 31, June 30, 2004 2005 --------------- --------------- Due to factor $ 4,017 $ - Due to NCT Hearing Products, Inc. 57,847 70,272 --------------- --------------- $ 61,864 $ 70,272 =============== =============== At June 30, 2005, accounts receivable factored and still outstanding was zero. Total factoring fees amounted to $763 and $1,109 for the six months ended June 30, 2004 and 2005, respectively. Interest expense incurred under this agreement amounted to $434 and $710 for the six months ended June 30, 2004 and 2005, respectively. During the six months ended June 30, 2005, NCT Hearing, our parent company, advanced cash to us in anticipation of the receipt of funds from outstanding accounts receivable. These advances are non-interest bearing and are payable within 35 days. As of June 30, 2005, outstanding cash advances to us from NCT Hearing under this arrangement were $70,272 (see Note 13). 7. Note Payable and Note Payable to Stockholder On January 20, 2005, we obtained a bank loan of $17,601. The loan, secured by a vehicle, provides for equal monthly payments of approximately $358, including interest at 8.0%, maturing on February 10, 2010. On June 1, 2005, we refinanced $23,396 in principal from a note payable to a stockholder, which was due to mature on June 27, 2005, into a new note. The new note bears interest at 8.5% and provides for monthly payments including interest of $3,500 through November 30, 2005, with the remaining balance due on December 30, 2005. 8. Preferred Stock Subject to Mandatory Conversion into a Variable Number of Shares of Common Stock Series A Convertible Preferred Stock On March 31, 2005, the remaining outstanding 50 shares of our series A preferred stock plus accrued dividends were automatically converted into 1,844,007 shares of our common stock. As a result, no shares of our series A preferred stock are outstanding. Dividends classified as interest expense for series A preferred stock were $997 and $482, for the six months ended June 30, 2004 and 2005, respectively. Series B Convertible Preferred Stock No shares of our series B preferred stock were converted or exchanged during the six months ended June 30, 2005. Dividends classified as interest expense for series B preferred stock were $9,688 and $9,125, for the six months ended June 30, 2004 and 2005, respectively. Our series B preferred stock is carried on our balance sheet as of June 30, 2005 at its monetary value of $647,139, which is comprised of the fair value of the shares of $575,000, plus the cash value of the accrued dividends of $72,139. We would have to issue approximately 26.1 million shares of our common stock if settlement of the stated value of our series B preferred stock had occurred as of June 30, 2005. We have the option to settle the accrued dividends in cash or common stock. As of June 30, 2005, settlement in common stock for the accrued dividends on our series B preferred stock would require issuance of approximately 4.1 million shares. There is no limit on the number of shares that we could be required to issue upon conversion of the series B preferred stock. 9 9. Notes Payable Due to Affiliates During the six months ended June 30, 2005, we issued an aggregate of $2,461,920 of secured promissory notes to NCT Hearing Products, Inc., our parent company, as consideration for $115,000 of cash advanced, $550,289 of services provided and the refinancing of $1,706,843 of principal and $89,788 of interest for notes consolidated in advance of maturity. As of June 30, 2005, we owed $2,941,072 to NCT Hearing under the following secured promissory notes, bearing interest at the prime rate (6.25% at June 30, 2005):

10. Stockholders' Equity (Capital Deficit) The changes in stockholders' equity (capital deficit) during the six months ended June 30, 2005, were as follows:

11. Common Stock On March 31, 2005, we issued 1,844,007 shares upon automatic conversion of 50 shares plus accrued dividends of our series A convertible preferred stock (see Note 8). At June 30, 2005, we were required to reserve approximately 43.8 million shares of our common stock for issuance, including shares issuable upon exercise of outstanding options and upon conversion of our series B convertible preferred stock. 10 12. Business Divisions Results Products Business: Our Products Business develops, manufactures and distributes headphone and communications headset products and systems into the contact center, quick service restaurant, cellular/mobile telephone and consumer audio markets. Our current products include Apollo headsets and amplifiers for use in contact centers, ProCom headsets for use in quick-service restaurants and NoiseBuster active noise reduction consumer audio headphones. In June 2005, we also announced the introduction of our NoiseBuster safety earmuff. Telecommunications Systems Integration Business: Our Telecommunications Systems Integration Business sells and installs simple to sophisticated analog, digital and Internet Protocol phone systems providing telecommunications system integration support to the small office and the large corporate call center clients. Call Center Operations Business: Our Call Center Operations Business performed outbound telemarketing and information gathering services. The extent of our commercial activities for this business during 2004 was insignificant and management had decided to let the operations runoff. The net (loss) income before other income (expense) from this business division for the three and six months ended June 30, 2004 was $(58) and $2,134, respectively, and has been reclassified, for the periods presented, under our Products Business division. The net (loss) income before other income (expense) from this business division for each of the three and six months ended June 30, 2005 was zero. As of June 30, 2005, these divisions were not deemed to be reportable segments in accordance with SFAS No. 131, "Disclosures about Segments of an Enterprise and Related Information." Business division data is as follows:

11 13. Related Party Transactions NCT Hearing and Affiliates NCT Hearing and its affiliates charge us for labor and overhead which are included in NCT Hearing and affiliates charges on our condensed statements of operations. The following table summarizes the approximate charges by NCT Hearing and its affiliates during the three and six months ended June 30, 2004 and 2005. For the Three Months For the Six Months Ended June 30, Ended June 30, -------------------------------- -------------------------------- 2004 2005 2004 2005 --------------- --------------- --------------- --------------- Labor $ 92,000 $ 205,000 $ 146,000 $ 413,000 Overhead 29,000 27,000 54,000 55,000 --------------- --------------- --------------- --------------- $ 121,000 $ 232,000 $ 200,000 $ 468,000 =============== =============== =============== =============== In addition, NCT Hearing charged us for expenses incurred on our behalf of approximately $62,000 and $55,000 during the three months ended June 30, 2004 and 2005, respectively, and approximately $73,000 and $82,000 during the six months ended June 30, 2004 and 2005, respectively, which are included in selling, general and administrative expenses on our condensed statements of operations. As of December 31, 2004 and June 30, 2005, we owed an aggregate of $2,265,102 and $3,011,344, respectively, to NCT Hearing. As of June 30, 2005, $2,941,072 is included in notes payable due to affiliates and the remaining $70,272 is included in other liabilities (see Note 6) on our condensed balance sheet. 12 ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS Forward-Looking Statements This report contains forward-looking statements, in accordance with Section 27A of the Securities Act of 1933, as amended, and Section 21E of the Securities Exchange Act of 1934, as amended, that reflect our current estimates, expectations and projections about our future results, performance, prospects and opportunities. Forward-looking statements include all statements that are not historical facts. These statements are often identified by words such as "anticipate," "believe," "could," "estimate," "expect," "intend," "plan," "may," "should," "will," "would" and similar expressions. These forward-looking statements are based on information currently available to us and are subject to numerous risks and uncertainties that could cause our actual results, performance, prospects or opportunities to differ materially from those expressed in, or implied by, the forward-looking statements we make in this report. Important factors that could cause our actual results to differ materially from the results referred to in the forward-looking statements we make in this report include: o our ability to generate sufficient revenues to sustain our current level of operations and to execute our business plan; o our ability to obtain additional financing if and when necessary; o the level of demand for our products and services; o the level and intensity of competition in our industries; o difficulties or delays in manufacturing; o our ability to develop new products and the market's acceptance of these products; o our ability to maintain and expand our strategic relationships; o our ability to protect our intellectual property rights; o our ability to effectively manage our operating costs; and o our ability to attract and retain key personnel. You should not place undue reliance on any forward-looking statements. Except as otherwise required by federal securities laws, we undertake no obligation to publicly update or revise any forward-looking statements, whether as a result of new information, future events, changed circumstances or any other reason after the date of this report. Description of Business Pro Tech primarily develops and distributes headphone and communications headset products and systems into the contact center, quick service restaurant and consumer audio markets. We currently offer headphones, headsets, amplifiers, hands-free telephones and accessories. We also have limited operations in the telecommunications systems integration business. We introduced the NoiseBuster safety earmuff in late June 2005. This earmuff is designed to provide industrial hearing protection for use in high-noise environments by combining passive hearing protection with advanced active noise reduction technology. We expect to commercially produce this product during the second half of 2005. We intend to continue to pursue new product development utilizing the license with our parent company, NCT Hearing, under which we have access to over 50 patents, patents pending and innovations relating to active noise reduction and noise and echo cancellation. We plan to address additional markets of opportunity, including spectator racing, two-way radio communications and aviation. Critical Accounting Policies and Estimates The preparation of our financial statements requires our management to make estimates and assumptions that affect the reported amounts of assets, liabilities, revenues and expenses and related disclosures of contingent assets and liabilities. Several of our accounting policies involve significant judgments and uncertainties. On an on-going basis, our management evaluates its estimates and judgments, including those related to allowance for doubtful accounts, adjustments to inventory valuations, asset impairment and accrual for warranty expense. Our 13 management bases its estimates on historical experience, observable trends and various other assumptions that are believed to be reasonable under the circumstances, the results of which form the basis of judgments made about the carrying values of assets and liabilities that are not readily apparent from other sources. Our management believes that the accounting estimates employed are appropriate and resulting balances are reasonable; however, actual results could differ from the original estimates, requiring adjustments to these balances in future periods. A summary of our critical accounting policies and estimates is included in Management's Discussion and Analysis of Financial Condition and Results of Operations contained in our Annual Report on Form 10-K for the year ended December 31, 2004. There have been no changes to these policies since December 31, 2004. Results of Operations Three Months Ended June 30, 2005 Compared to Three Months Ended June 30, 2004 Net loss. Net loss for the three months ended June 30, 2005 increased approximately $127,000, or 42%, compared to the same three-month period in 2004. This increase was due to increases of approximately $111,000 in NCT Hearing and affiliates charges, approximately $22,000 in selling, general and administrative expenses and approximately $23,000 in interest expense - NCT Hearing, partially offset by an increase of approximately $42,000 in net sales. Net sales. Net sales for the three months ended June 30, 2005 increased approximately $42,000, or 16%, compared to the three months ended June 30, 2004. The increase was primarily due to an increase in sales from our consumer audio and telephone markets, partially offset by a reduction in sales from our quick service restaurant market. Sales from our quick service restaurant market decreased approximately $24,000 for the three months ended June 30, 2005 as compared to the same three-month period in 2004. This decrease was primarily due to the implementation of wireless headsets into this market, which reduces the marketability of our headset solutions, as well as the continuing impact of market competition from Far East headset manufacturers. Sales from our telephone market increased approximately $23,000 for the three months ended June 30, 2005 as compared to the same three-month period in 2004. This increase was due to increased sales of our Apollo line of products. Sales from our consumer audio market were approximately $45,000 for the three months ended June 30, 2005. We had not yet entered this market during the three months ended June 30, 2004. Cost of goods sold. For the three months ended June 30, 2005, cost of goods sold increased approximately $13,000, or 15%, compared to the same three-month period in 2004. This increase was attributable to the increase in sales volume from our consumer audio market. Gross profit percentage. Gross profit on net sales before depreciation and amortization, as a percentage of net sales, remained steady at 69% for the three months ended June 30, 2005 and June 30, 2004. Selling, general and administrative expenses. For the three months ended June 30, 2005, selling, general and administrative expenses increased approximately $22,000, or 6%, compared to the same three-month period in 2004. This increase was due mainly to an increase of $11,000 in payroll and related expenses related to an increase in headcount and an increase of $15,000 in research and development related to our Apollo amplifier and anticipated new products. NCT Hearing and affiliates charges. For the three months ended June 30, 2005, NCT Hearing and affiliates charges increased approximately $111,000, or 91%, compared to the same three-month period in 2004. This increase was due primarily to the additional work performed by their engineering staff in connection with product development of the NoiseBuster safety earmuff and anticipated new products. 14 Interest expense. For the three months ended June 30, 2005, interest expense - NCT Hearing increased approximately $23,000, or 154%, compared to the same three-month period in 2004. The increase was due to the increased amount of outstanding notes payable to NCT Hearing, which represent amounts owed to NCT Hearing for services provided to us by NCT Hearing and its affiliated companies. Six Months Ended June 30, 2005 Compared to Six Months Ended June 30, 2004 Net loss. Net loss for the six months ended June 30, 2005 increased approximately $332,000, or 60%, compared to the same six-month period in 2004. This increase was due to increases of approximately $269,000 in NCT Hearing and affiliates charges and approximately $94,000 in selling, general and administrative expenses, partially offset by an increase of approximately $94,000 in net sales. Net sales. Net sales for the six months ended June 30, 2005 increased approximately $94,000, or 18%, compared to the six months ended June 30, 2004. The increase was primarily due to an increase in sales from our consumer audio and telephone markets, partially offset by a reduction in sales from our quick service restaurant market. Sales from our quick service restaurant market decreased approximately $50,000 for the six months ended June 30, 2005 as compared to the same six-month period in 2004. This decrease was due to the continuing impact of market competition from Far East headset manufacturers and the implementation of wireless headsets into this market, which reduces the marketability of our headset solutions. Sales from our telephone market increased approximately $59,000 for the six months ended June 30, 2005 as compared to the same six-month period in 2004. The increase was due to increased sales of our Apollo line of products. Sales from our consumer audio market were approximately $104,000 for the six months ended June 30, 2005. We had not yet entered this market during the six months ended June 30, 2004. Cost of goods sold. For the six months ended June 30, 2005, cost of goods sold increased approximately $33,000, or 20%, compared to the same six-month period in 2004. This increase was attributable to the increase in sales volume for our consumer audio market along with the change in the mix of products sold. Gross profit percentage. Gross profit on net sales before depreciation and amortization, as a percentage of net sales, decreased slightly to approximately 68% for the six months ended June 30, 2005 from approximately 69% for the six months ended June 30, 2004. Selling, general and administrative expenses. For the six months ended June 30, 2005, selling, general and administrative expenses increased approximately $94,000, or 14%, compared to the same six-month period in 2004. This increase was due mainly to increases of: (1) $48,000 in payroll and related expenses; (2) $17,000 in marketing expenses reflecting increased spending related to our consumer audio headset, the NoiseBuster and (3) $31,000 in research and development of our Apollo amplifier and anticipated new products. NCT Hearing and affiliates charges. For the six months ended June 30, 2005, NCT Hearing and affiliates charges increased approximately $269,000, or 134%, compared to the same six-month period in 2004. This increase was due mainly to the additional work performed by their (1) engineering staff in connection with the re-engineering of our Apollo amplifier and product development of the NoiseBuster safety earmuff and (2) marketing staff in connection with the continued support related to our NoiseBuster consumer audio headset. Interest expense. For the six months ended June 30, 2005, interest expense - NCT Hearing increased approximately $35,000, or 105%, compared to the same six-month period in 2004. The increase was due to the increased amount of outstanding notes payable to NCT Hearing, which represent amounts owed to NCT Hearing for services provided to us by NCT Hearing and its affiliated companies, as well as cash advances. As of June 30, 2005, the balance of the outstanding notes payable, including interest, was $2,941,072 compared to $1,672,638 as of June 30, 2004. 15 Liquidity and Capital Resources We have experienced net losses since our inception. These losses have been funded primarily from product sales, the sale of convertible preferred stock and advances from NCT Hearing and its affiliates. During the six months ended June 30, 2005, we funded working capital requirements with continued use of our short-term financing arrangement and advances from NCT Hearing and its affiliates. Management believes we will have sufficient funds to meet anticipated working capital requirements for the next 12 months. However, our liquidity is affected by many factors, including, among others, the level of product sales, capital expenditures, the level of new product development efforts and other factors related to the uncertainties of our industry and the economy in general. Accordingly, we may be required to seek additional financing during the next 12 months. Management can give no assurance that any additional financing, including from NCT Hearing, will be available to us on commercially reasonable terms, or at all. The failure to obtain any needed financing could have a material adverse effect on us. On June 1, 2005, we refinanced our $23,396 outstanding note payable to Westek Electronics, a stockholder, into a note payable bearing interest at 8.5% and payable in monthly installments of $3,500 through November 30, 2005, with the remaining balance maturing on December 30, 2005. At June 30, 2005, cash and cash equivalents were $47,213. The current ratio (current assets to current liabilities) was .50 to 1.00 at June 30, 2005, as compared to .48 to 1.00 at December 31, 2004. At June 30, 2005, our working capital deficit was $586,788 compared to a working capital deficit of $636,388 at December 31, 2004. This decrease in working capital deficit of approximately $50,000 was due primarily to a decrease in current liabilities of approximately $72,000 related to the mandatory conversion of our series A convertible preferred stock into shares of our common stock partially offset by an increase of approximately $31,000 in accounts payable and accrued expenses. For the six months ended June 30, 2005, net cash used in operating activities was $77,890 compared to $89,751 for the six months ended June 30, 2004. This decrease of approximately $12,000 was due primarily to the increase in notes payable issued for services rendered of $270,000 and an increase in accounts payable and accrued expenses of $68,000, substantially offset by the increase in net loss of $332,000. For the six months ended June 30, 2005, net cash used in investing activities was $31,175 compared to $1,730 for the six months ended June 30, 2004. This increase of approximately $29,000 was due primarily to the purchase of tooling equipment for the NoiseBuster line of products. For the six months ended June 30, 2005, net cash provided by financing activities was $97,181 compared to $181,038 for the six months ended June 30, 2004. This decrease of approximately $84,000 was due to a decrease of approximately $77,000 in net cash received from NCT Hearing during the six months ended June 30, 2005 as compared to the same period in 2004. We have no lines of credit with banks or other lending institutions. Capital Expenditures There were no material commitments for capital expenditures as of June 30, 2005 and no material commitments are expected in the near future. In connection with the recent introduction of our new NoiseBuster safety earmuff, we have incurred 25% of the approximate $110,000 in tooling costs and anticipate incurring the remaining tooling costs (for the mold needed for the product) payable as follows: 25% with the first shipment of product and the 50% remainder based upon unit production, not to exceed 12 months. We expect to finance these costs from working capital. In the event that our working capital is not sufficient, we will seek additional funding from NCT Hearing. 16 ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK Our primary market risk exposures include fluctuations in interest rates. We are exposed to short-term interest rate risk on certain debt obligations and trade accounts receivable sales. We do not use derivative financial instruments to hedge cash flows for these obligations. In the normal course of business, we employ established policies and procedures to manage these risks. Based upon a hypothetical 10% proportionate increase in interest rates from the average level of interest rates during the last twelve months, and taking into consideration commissions paid to selling agents, growth of new business and the expected borrowing level of variable-rate debt, the expected effect on net income related to our financial instruments would be immaterial. ITEM 4. CONTROLS AND PROCEDURES Evaluation of Disclosure Controls and Procedures Our management, with the participation of our President and Chief Financial Officer, evaluated the effectiveness of our disclosure controls and procedures (as defined in Rule 13a-15(e) under the Securities Exchange Act of 1934, as amended) as of June 30, 2005. Based on that evaluation, our President and Chief Financial Officer concluded that our disclosure controls and procedures as of June 30, 2005 were effective in ensuring that information required to be disclosed by us in reports that we file or submit under the Securities Exchange Act of 1934, as amended, is recorded, processed, summarized and reported within the time periods specified in the Securities and Exchange Commission's rules and forms. We believe that a control system, no matter how well designed and operated, cannot provide absolute assurance that the objectives of the control system are met, and no evaluation of controls can provide absolute assurance that all control issues and instances of fraud, if any, could be detected within a company. Changes in Internal Controls There were no changes in our internal control over financial reporting that occurred during the quarter ended June 30, 2005 that have materially affected, or are reasonably likely to materially affect, our internal control over financial reporting. 17 PART II OTHER INFORMATION ITEM 6. EXHIBITS 31.1 Certification of President pursuant to Rule 13a-14(a) under the Securities Exchange Act of 1934. 31.2 Certification of Chief Financial Officer pursuant to Rule 13a-14(a) under the Securities Exchange Act of 1934. 32.1 Certification of President and Chief Financial Officer pursuant to Rule 13a-14(b) under the Securities Exchange Act of 1934 and 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002. 18 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. PRO TECH COMMUNICATIONS, INC. By: /s/ RICHARD HENNESSEY ----------------------- Richard Hennessey President By: /s/ MARY CHRISTIAN-HEIN ----------------------- Mary Christian-Hein Chief Financial Officer Dated: August 9, 2005 19

PRO TECH COMMUNICATIONS INC 10-Q