10-Q/A 1 xt907918.htm FORM 10-Q/A

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

FORM 10-Q/A

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

	For the quarterly period ended January 31, 2004

OR

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

Commission File Number 0-16231

XETA Technologies, Inc.

(Exact name of registrant as specified in its charter)

Oklahoma		73-1130045

(State or other jurisdiction of incorporation or organization)		(I.R.S. Employee Identification No.)

1814 W. Tacoma, Broken Arrow, OK		74012-1406

(Address of principal executive offices)		(Zip Code)

918-664-8200

(Registrant’s telephone number, including area code)



(Former name, former address and former fiscal year, if changed since last report)

Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the 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 o

Indicate by check mark whether the registrant is an accelerated filer (as defined in Rule 12b-2 of the Exchange Act).

Yes o

No x

Number of shares outstanding of each of the registrant’s classes of common stock, as of the latest practicable date.

Class		Outstanding at February 15, 2003

Common Stock, $.001 par value		10,002,952

EXPLANATORY NOTE

Xeta Technologies, Inc. is filing this Amendment No. 1 to its Quarterly Report on Form 10-Q/A for the quarterly period ended January 31, 2004 (the “Form 10-Q/A”) to amend certain disclosures in its Quarterly Report on Form 10-Q for the quarterly period ended January 31, 2004, which was originally filed with the Securities and Exchange Commission on March 2, 2004 (the “Quarterly Report”). This amendment is being filed to correct an error in Footnote 2 to the Consolidated Financial Statements with regard to the disclosure for “Stock-Based Compensation Plans”. The amendment to the Quarterly Report does not result in a restatement of the Company’s reported earnings, its financial condition, cash flows, or stockholders’ equity, nor does the amendment affect any other disclosures made in the Quarterly Report.

In accordance with the provisions of Statement of Financial Accounting Standards No. 123, “Accounting for Stock-Based Compensation” (SFAS 123) and SFAS 148, “Accounting for Stock-Based Compensation – Transition and Disclosure – an amendment of FASB Statement No. 123”, the Company accounts for stock-based employee compensation under the intrinsic value method, an alternative to the fair value method allowed by SFAS 123. Under this method, the Company discloses the pro forma effect of issued stock options as if the expense, based on the fair value method, had been recorded in the financial statements; and, as if the Company would have not adjusted its employee compensation plans to minimize the impact of such effect on the income statement. The Company recently discovered that it had misapplied certain of the provisions of SFAS 123 relating to computing the pro forma impact of the stock options. Most significantly, the Company has been amortizing the pro forma effect of the stock options over their expected life, estimated to be six years, rather than their vesting period, generally three years. This Form 10-Q amendment corrects the pro forma net income and pro forma earnings per share disclosures, found in Footnote 2 to the unaudited Consolidated Financial Statements, under the caption “Stock-Based Compensation Plans.”

This Amendment amends Item 1 of Part I to the extent discussed above, and except for such Item and Exhibits 31.1, 31.2, 32.1 and 32.2, no other information in the Quarterly Report as originally filed is amended hereby.

This Form 10-Q/A continues to speak as of the date of the original filing of the Quarterly Report and we have not updated any disclosures contained herein to reflect any events that have occurred since the filing of the original Quarterly Report. Accordingly, this Form 10-Q/A should be read in conjunction with the Company's subsequent filings with the SEC. The filing of this Form 10-Q/A shall not be deemed an admission that the original filing, when made, included any untrue statement of a material fact or omitted to state a material fact necessary to make a statement not misleading.

PART I. FINANCIAL INFORMATION

		PAGE

ITEM 1.	FINANCIAL STATEMENTS (Unaudited)

Consolidated Balance Sheets – January 31, 2004 and October 31, 2003		4

Consolidated Statements of Operations - For the Three Months Ended January 31, 2004 and 2003		5

Consolidated Statement of Shareholders’ Equity – For the Three Months Ended January 31, 2004		6

Consolidated Statements of Cash Flows - For the Three Months Ended January 31, 2004 and 2003		7

Notes to Consolidated Financial Statements		8

XETA TECHNOLOGIES, INC.
CONSOLIDATED BALANCE SHEETS
UNAUDITED

	January 31, 2004			October 31, 2003

ASSETS
Current Assets:
Cash and cash equivalents	$	121,117		$	291,118
Current portion of net investment in sales-type leases and other receivables		971,727			979,255
Trade accounts receivable, net		9,436,389			5,794,949
Inventories, net		6,196,927			5,614,902
Deferred tax asset, net		1,011,233			885,752
Prepaid taxes Prepaid expenses and other assets		471,717			322,699

Total current assets		18,209,110			13,888,675

Noncurrent Assets:
Goodwill, net of accumulated amortization prior to adoption of SFAS 142		25,712,992			25,726,886
Net investment in sales-type leases, less current portion above		421,471			419,800
Property, plant & equipment, net		10,577,532			10,466,824
Capitalized software production costs, net of accumulated amortization of $1,291,021 and $1,233,066		—			57,955
Other assets		56,790			112,528

Total noncurrent assets		36,768,785			36,783,993

Total assets	$	54,977,895		$	50,672,668

LIABILITIES AND SHAREHOLDERS’ EQUITY
Current liabilities:
Current portion of long-term debt	$	1,209,645		$	1,209,645
Revolving line of credit		1,736,773			719,073
Accounts payable		5,575,840			3,928,878
Unearned revenue		2,408,326			1,620,323
Accrued liabilities		2,210,550			1,869,024
Accrued taxes		334,920			58,134
Other liabilities		189,535			279,250

Total current liabilities		13,665,589			9,684,327

Noncurrent liabilities:
Long-term debt, less current portion above		3,727,393			4,029,738
Accrued long-term liabilities		144,100			144,101
Unearned service revenue		235,614			229,910
Noncurrent deferred tax liability, net		2,013,769			1,973,575

		6,120,876			6,377,324

Contingencies
Shareholders’ equity:
Preferred stock; $.10 par value; 50,000 shares authorized, 0 issued		—			—
Common stock; $.001 par value; 50,000,000 shares authorized, 11,021,740 issued at January 31, 2004 and October 31, 2003		11,021			11,021
Paid-in capital		12,681,681			12,681,681
Retained earnings		24,791,892			24,229,820
Accumulated other comprehensive loss		(48,505	)		(66,846	)
Less treasury stock, at cost		(2,244,659	)		(2,244,659	)

Total shareholders’ equity		35,191,430			34,611,017

Total liabilities and shareholders’ equity	$	54,977,895		$	50,672,668

The accompanying notes are an integral part of these consolidated balance sheets.

XETA TECHNOLOGIES, INC.
CONSOLIDATED STATEMENTS OF OPERATIONS
UNAUDITED

	For the Three Months Ended January 31,

	2004			2003

Systems sales	$	10,018,357		$	8,725,109
Installation and service revenues		6,755,110			6,116,505
Other revenues		155,934			589,791

Net sales and service revenues		16,929,401			15,431,405

Cost of systems sales		8,002,901			6,428,212
Installation and services costs		4,629,602			4,360,407
Cost of other revenues & corporate COGS		341,541			723,691

Total cost of sales and service		12,974,044			11,512,310

Gross profit		3,955,357			3,919,095

Operating expenses:
Selling, general and administrative		2,927,493			2,937,355
Amortization		73,026			45,000

Total operating expenses		3,000,519			2,982,355

Income from operations		954,838			936,740
Interest expense		(83,780	)		(179,677	)
Interest and other income		54,014			50,172

Subtotal		(29,766	)		(129,505	)
Income before provision for income taxes		925,072			807,235
Provision for income taxes		363,000			316,000

Net income	$	562,072		$	491,235

Earnings per share
Basic	$	0.06		$	0.05

Diluted	$	0.06		$	0.05

Weighted average shares outstanding		10,002,952			9,702,952

Weighted average equivalent shares		10,208,822			9,941,968

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

XETA TECHNOLOGIES, INC.
CONSOLIDATED STATEMENTS OF SHAREHOLDERS’ EQUITY
UNAUDITED

	Common Stock				Treasury Stock
										Paid-in Capital		Comprehensive Loss			Retained Earnings		Total
	Shares Issued		Par Value		Shares		Amount			Paid-in Capital		Comprehensive Loss			Retained Earnings		Total

Balance-October 31, 2003		11,021,740	$	11,021	1,018,788		$	(2,244,659	)	$	12,681,681	$	(66,846	)	$	24,229,820	$	34,611,017

Components of comprehensive income:
Net income		—		—		—		—			—		—			562,072		562,072
Unrealized gain on hedge, net of tax of $9,978		—		—		—		—			—		18,341			—		18,341

Total comprehensive income																		580,413

Balance- January 31, 2004		11,021,740	$	11,021	1,018,788		$	(2,244,659	)	$	12,681,681	$	(48,505	)	$	24,791,892	$	35,191,430

XETA TECHNOLOGIES, INC.
CONSOLIDATED STATEMENTS OF CASH FLOWS
UNAUDITED

	For the Three Months Ended January 31,

	2004			2003

Cash flows from operating activities:
Net income	$	562,072		$	491,235

Adjustments to reconcile net income to net cash provided by operating activities:
Depreciation		224,663			245,259
Amortization		57,955			45,000
Ineffectiveness of cash flow hedges		4,712			—
Provision for excess and obsolete inventory		—			81,082
Change in assets and liabilities, net of acquisitions:
(Increase) decrease in net investment in sales-type leases & other receivables		5,857			206,492
(Increase) in trade receivables		(3,641,440	)		(771,341	)
(Increase) decrease in inventories		(582,025	)		532,985
(Increase) decrease in deferred tax asset		(125,481	)		15,357
(Increase) in prepaid expenses and other assets		(108,350	)		(243,599	)
Decrease in prepaid taxes		—			298,911
Increase (decrease) in accounts payable		1,646,962			(2,216,086	)
Increase (decrease) in unearned revenue		793,707			(96,423	)
Increase in accrued income taxes		286,340			9,556
Increase (decrease) in accrued liabilities		277,265			(269,089	)
Increase in deferred tax liabilities		32,709			216,837

Total adjustments		(1,127,126	)		(1,945,059	)

Net cash provided by (used in) operating activities		(565,054	)		(1,453,824	)

Cash flows from investing activities:
Additions to property, plant & equipment		(320,301	)		(244,186	)
Proceeds from sale of assets		—			1,818

Net cash used in investing activities		(320,301	)		(242,368	)

Cash flows from financing activities:
Proceeds from draws on revolving line of credit		9,219,391			2,000,000
Principal payments on debt		(302,346	)		(822,084	)
Payments on revolving line of credit		(8,201,691	)		—

Net cash provided by financing activities		715,354			1,177,916

Net decrease in cash and cash equivalents		(170,001	)		(518,276	)
Cash and cash equivalents, beginning of period		291,118			1,966,734

Cash and cash equivalents, end of period	$	121,117		$	1,448,458

Supplemental disclosure of cash flow information:
Cash paid during the period for interest	$	62,399		$	240,338
Cash paid during the period for income taxes	$	169,432		$	14,183

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

XETA TECHNOLOGIES, INC.
January 31, 2004
(Unaudited)

1. BASIS OF PRESENTATION:

XETA Technologies, Inc. (“XETA” or the “Company”) is a leading provider of communications solutions with sales and service locations nationwide, serving business clients in sales, consulting, engineering, project management, installation, and service support. The Company sells products which are manufactured by a variety of manufacturers including Avaya, Nortel Networks, Cisco, Hitachi, and Hewlett Packard. In addition, the Company manufactures and markets call accounting systems to the hospitality industry. XETA is an Oklahoma corporation.

The accompanying consolidated financial statements have been prepared by the Company, without an audit, pursuant to the rules and regulations of the Securities and Exchange Commission (the “Commission”). Certain information and footnote disclosures, normally included in annual financial statements prepared in accordance with accounting principles generally accepted in the United States, have been condensed or omitted pursuant to those rules and regulations. However, the Company believes that the disclosures made are adequate to make the information presented not misleading when read in conjunction with the consolidated financial statements and the notes thereto included in the Company’s latest financial statements filed as part of the Company’s Annual Report on Form 10-K, Commission File No. 0-16231. Management believes that the financial statements contain all adjustments necessary for a fair statement of the results for the interim periods presented. All adjustments made were of a normal recurring nature. The results of operations for the interim period are not necessarily indicative of the results for the entire fiscal year.

These statements should be read in conjunction with the audited financial statements and notes thereto included in the Company’s Annual Report on Form 10-K, which was filed with the Commission on January 16, 2004, and amended on February 27 and June 14, 2004.

2. SUMMARY OF CRITICAL ACCOUNTING POLICIES:

Fair Value of Financial Instruments
The following methods and assumptions were used to estimate the fair value of each class of financial instruments for which it is practicable to estimate the value:

The carrying value of cash, customer deposits, trade accounts receivable, sales-type leases, accounts payable and short-term debt approximate their respective fair values due to their short maturities.

The fair value of the Company’s long-term debt is estimated based on the expected current rates which would be offered to the Company for debt of the same maturities.

Revenue Recognition

Equipment revenues from systems sales are recognized upon shipment of the system. Installation and service revenues are recognized upon the completion of the installation or service assignment. Service revenues earned from contractual arrangements are recognized monthly over the life of the related service agreement on a straight-line basis. The Company recognizes revenue from sales-type leases as discussed below under the caption “Lease Accounting.”

Shipping and Handling Fees

In accordance with Emerging Issues Task Force Issue 00-10, “Accounting for Shipping and Handling Fees and Costs,” freight billed to customers is included in net sales and service revenues in the consolidated statements of operations, while freight billed by vendors is included in cost of sales in the consolidated statements of operations.

Accounting for Manufacturer Incentives

The Company receives various forms of incentive payments, rebates, and negotiated price discounts from the manufacturers of the products it sells. Rebates and negotiated price discounts directly related to specific customer sales are recorded as a reduction in the cost of goods sold on those systems sales. Incentive payments which are based on purchasing certain product lines exclusively from one manufacturer (“loyalty rebates”) are also recorded as a reduction in systems cost of goods sold. Rebates and other incentives designed to offset marketing expenses and certain growth initiatives supported by the manufacturer are recorded as contra expense to the related expenditure. Incentive payments are recorded when earned under the specific rules of the incentive plan.

Lease Accounting

A small portion (less than 1%) of the Company’s revenues has been generated using sales-type leases. The Company sells some of its call accounting systems to the lodging industry under sales-type leases to be paid over three, four and five-year periods. Because the present value (computed at the rate implicit in the lease) of the minimum payments under these sales-type leases equals or exceeds 90 percent of the fair market value of the systems and/or the length of the lease exceeds 75 percent of the estimated economic life of the equipment, the Company recognizes the net effect of these transactions as a sale, as required by accounting principles generally accepted in the U.S.

Interest and other income is primarily the recognition of interest income on the Company’s sales-type lease receivables and income earned on short-term cash investments. Interest income from a sales-type lease represents that portion of the aggregate payments to be received over the life of the lease, which exceeds the present value of such payments using a discount factor equal to the rate implicit in the underlying leases.

Accounts Receivable

Accounts Receivable are recorded at amounts billed to customers less an allowance for doubtful accounts. The allowance for doubtful accounts is based on management’s assessment of the realizability of customers’ balances and any specific disputes. The Company did not record any bad debt expense for the three months ended January 31, 2004 and 2003, respectively.

Property, Plant and Equipment

The Company capitalizes the cost of all significant property, plant and equipment additions including equipment manufactured by the Company and installed at customer locations under certain systems service agreements. Depreciation is computed over the estimated useful life of the asset or the terms of the lease for leasehold improvements, whichever is shorter, on a straight-line basis. When assets are retired or sold, the cost of the assets and the related accumulated depreciation is removed from the accounts and any resulting gain or loss is included in income. Maintenance and repair costs are expensed as incurred. Interest costs related to an investment in long-lived assets are capitalized as part of the cost of the asset during the period the asset is being prepared for use. The Company capitalized $45,000 and $82,000 in interest costs in the three months ended January 31, 2004, and 2003, respectively.

Research and Development and Capitalization of Software Production Costs

In the past, the Company developed proprietary telecommunications products related to the lodging industry. The Company capitalized software production costs related to a product upon the establishment of technological feasibility as defined by accounting principles generally accepted in the U.S. Amortization is provided on a product-by-product basis based upon the estimated useful life of the software (generally seven years). All other research and development costs (including those related to software for which technological feasibility has not been established) are expensed as incurred.

Software Development Costs

The Company applies the provisions of SOP 98-1, “Accounting for the Cost of Computer Software Developed or Obtained for Internal Use.” Under SOP 98-1 external direct costs of software development, payroll and payroll related costs for time spent on the project by employees directly associated with the development, and interest costs incurred during the development, as provided under the provisions of SFAS No. 34, “Capitalization of Interest Costs,” should be capitalized after the “preliminary project stage” has been completed. Accordingly, the Company had capitalized $6.8 million and $6.7 million related to the software development as of January 31, 2004 and October 31, 2003, respectively.

Goodwill

The Company applies the provisions of SFAS 142, “Goodwill and Other Intangible Assets. Under SFAS 142, goodwill recorded as a part of a business combination is subject to at least an annual assessment for impairment by applying a fair-value-based test. As required by the standard, the Company has conducted impairment tests shortly after the close of its fiscal year on both October 31, 2003 and 2002. The results of each of these appraisals indicated that the fair value of the Company’s reporting units in which goodwill is associated was higher than their respective carrying values on the balance sheet. Therefore no impairment loss was recognized. An annual impairment test will be conducted in future periods shortly after the close of the Company’s fiscal year.

Derivative Instruments and Hedging Activities

The Company applies the provisions of SFAS No. 133, “Accounting for Derivative Instruments and Hedging Activities,” as amended. SFAS No. 133 requires companies to recognize all derivative instruments as either assets or liabilities in the consolidated balance sheets at fair value. In November 2001 the Company entered into interest rate swaps to hedge the variability of cash flows associated with variable rate interest payments, on amortizing notional amounts of $10.0 million. At January 31, 2004, the notional amount included under the interest rate swap was $5.7 million. The “pay fixed rates” under the swap agreements are 3.32%. The “receive floating rates” for the swap agreements are “1-month” LIBOR, resetting monthly. The interest rate swaps expire in November 2004. Variable rate debt outstanding at January 31, 2004, net of the swap agreements was $4.9 million. Under the provisions of SFAS No. 133, the Company accounts for the swap agreements as a cash flow hedge with the effective portion of the hedge recorded as other comprehensive income and the ineffective portion of the hedge recorded in the consolidated statement of operations.

Segment Information

The Company has three reportable segments: commercial system sales, lodging system sales and installation and service. The Company defines commercial system sales as sales to the non-lodging industry. Installation and service revenues represent revenues earned from installing and maintaining systems for customers in both the commercial and lodging segments.

The reporting segments follow the same accounting policies used for the Company’s consolidated financial statements and described in the summary of critical accounting policies. Company management evaluates a segment’s performance based upon gross margins. Assets are not allocated to the segments. Sales to customers located outside of the U.S. are immaterial.

The following is tabulation of business segment information for the three months ended January 31, 2004 and 2003.

	Commercial System Sales			Lodging System Sales			Installation and Service Revenues			Other Revenue			Total

2004
Sales	$	8,070,809		$	1,947,548		$	6,755,110		$	155,934		$	16,929,401
Cost of sales		(6,590,108	)		(1,412,793	)		(4,629,602	)		(341,541	)		(12,974,044	)
Gross profit	$	1,480,701		$	534,755		$	2,125,508		$	(185,607	)	$	3,955,357
2003
Sales	$	7,742,221		$	982,888		$	6,116,505		$	589,791		$	15,431,405
Cost of sales		(5,834,179	)		(594,033	)		(4,360,407	)		(723,691	)		(11,512,310	)
Gross profit	$	1,908,042		$	388,855		$	1,756,098		$	(133,900	)	$	3,919,095

Stock-Based Compensation Plans

The Company accounts for its stock-based awards granted to officers, directors and key employees using APB Opinion No. 25, Accounting for Stock Issued to Employees. Options under these plans are granted at fair market value on the date of grant and thus no compensation cost has been recorded in the financial statements. Accordingly, the Company follows fixed plan accounting. XETA applies the disclosure only provisions of Statement of Financial Accounting Standards No. 123, Accounting for Stock-Based Compensation (SFAS 123).

In December 2002, the FASB issued SFAS No. 148, “Accounting for Stock-Based Compensation – Transition and Disclosure – an amendment of FASB Statement No. 123” (“SFAS 148”). This statement provides alternative methods of transition for a voluntary change to the fair value based method of accounting for stock-based employee compensation. It also amends the disclosure requirements of Statement 123 to require prominent disclosures in both annual and interim financial statements about the method of accounting for stock-based employee compensation and the effect of the method used on reported results. Presently, the Company accounts for stock-based employee compensation under the intrinsic value method, an alternative to the fair value method allowed by SFAS 123. Under this alternative method, the Company is only required to disclose the impact of issued stock options, as set forth below, as if the expense had been recorded in the financial statements.

The Company recently discovered that it had misapplied certain provisions of SFAS 123, most significantly relating to the amortization period to be used when computing the pro forma impact of issued stock options. The Company has been amortizing the pro forma effect of issued stock options over the option’s expected life, estimated to be six years, rather than the option’s vesting period, generally three years. The following pro forma disclosures for the three months ended January 31, 2004 and 2003, have been revised to correct the previously reported pro forma disclosures and are presented in the table below:

	For the Three Months Ended January 31,

Revised Pro Forma Disclosures	2004		2003

Net income as reported	$	562,072	$	491,235
Less: total stock-based employee compensation expense determined under fair value based method for all awards, net of related tax effects		22,018		150,087

Pro forma net income	$	540,054	$	341,148

EARNINGS PER SHARE:
As reported – Basic	$	0.06	$	0.05
As reported – Diluted	$	0.06	$	0.05
Pro forma – Basic	$	0.05	$	0.04
Pro forma – Diluted	$	0.05	$	0.03

Previously reported pro forma amounts for the three months ended January 31, 2004 and 2003 were as follows: stock-based employee compensation expense, net of tax effects - $154,469 and $179,187, respectively: net income - $407,603 and $312,048, respectively; earnings per share – basic - $0.04 and $0.03, respectively; and earnings per share – diluted - $0.04 and $0.03, respectively.

The fair value of the options granted was estimated at the date of grant using the Black-Scholes pricing model with the following assumptions: risk free interest rate (4.46% to 5.78%), dividend yield (0.00%), expected volatility (80.50% to 86.31%), and expected life (6 years).

3. INVENTORIES:

Inventories are stated at the lower of cost (first-in, first-out or average) or market and consist of the following components:

	January 31, 2004		October 31, 2003

Finished goods and spare parts	$	6,977,611	$	6,430,977
Raw materials		366,996		366,305

		7,344,607		6,797,282
Less- reserve for excess and obsolete inventories		1,147,680		1,182,380

Total inventories, net	$	6,196,927	$	5,614,902

4. PROPERTY, PLANT AND EQUIPMENT:

Property, plant and equipment consist of the following:

	Estimated Useful Lives		January 31, 2004		October 31, 2003

Building		20	$	2,397,954	$	2,397,954
Data processing and computer field equipment		3-5		4,341,397		4,280,916
Software development costs		N/A		6,848,604		6,687,540
Land		—		611,582		611,582
Office furniture		5		1,113,301		1,108,029
Auto		5		220,228		126,743
Other		3-7		511,320		511,320

Total property, plant and equipment				16,044,386		15,724,084
Less- accumulated depreciation				5,466,854		5,257,260

Total property, plant and equipment, net			$	10,577,532	$	10,466,824

Software development costs represent the costs of a new enterprise-wide software system under development to replace the Company’s three existing software platforms. Implementation is expected in fiscal 2004 and will be amortized over a weighted average useful life of approximately 7.5 years.

5. ACCRUED LIABILITIES:

Accrued liabilities consist of the following:

	January 31, 2004		October 31, 2003

Commissions	$	545,714	$	371,765
Vacation		416,212		436,784
Payroll		234,417		424,243
Bonuses		455,848		363,794
Interest		32,869		13,413
Other		525,490		259,025

Total current		2,210,550		1,869,024
Noncurrent liabilities		144,100		144,101

Total accrued liabilities	$	2,354,650	$	2,013,125

6. UNEARNED REVENUE:

Unearned revenue consists of the following:

	January 31, 2004		October 31, 2003

Customer deposits	$	952,940	$	488,137
Service contracts		892,627		640,922
Warranty service		369,467		344,192
Systems shipped but not installed		145,710		99,490
Other		47,582		47,582

Total current unearned revenue		2,408,326		1,620,323
Noncurrent unearned service contract revenue		235,614		229,910

Total unearned revenue	$	2,643,940	$	1,850,233

7. INCOME TAXES:

Income tax expense is based on pretax financial accounting income. Deferred income taxes are computed using the asset-liability method and are provided on all temporary differences between the financial basis and the tax basis of the Company’s assets and liabilities.

The tax effect of temporary differences that give rise to significant portions of the deferred tax assets and deferred tax liabilities are presented below:

	January 31, 2004			October 31, 2003

Deferred tax assets:
Currently nondeductible reserves	$	439,022		$	453,413
Accrued liabilities		453,805			345,021
Prepaid service contracts		124,468			107,310
Unamortized cost of service contracts		16,398			19,338
Other		120,292			111,605

Total deferred tax asset		1,153,985			1,036,687

Deferred tax liabilities:
Intangible assets and other		1,789,773			1,620,098
Tax income to be recognized on sales-type lease contracts		12,438			27,000
Depreciation and sale of assets		354,310			454,694
Unamortized capitalized software development costs		—			22,718

Total deferred tax liability		2,156,521			2,124,510

Net deferred liability	$	(1,002,536	)	$	(1,087,823	)

8. CREDIT AGREEMENTS:

On October 1, 2003, the Company entered into a new revolving credit and term loan agreement with a new banking institution, replacing the previous credit facility and bank syndicate. This new agreement contains three separate notes: a term loan amortizing over 36 months, a mortgage agreement amortizing over 13 years, and a $7.5 million revolving credit agreement to finance growth in working capital. Availability under the revolving line of credit is secured by trade accounts receivable and inventories. The Company had approximately $5.7 million available under the revolving line of credit at January 31, 2004. Advance rates are defined in the agreement, but are generally at the rate of 80% on qualified trade accounts receivable and 40% of qualified inventories. The revolving line of credit matures on September 29, 2004. At January 31, 2004, long-term debt consisted of the following:

	January 31, 2004		October 31, 2003

Term loan, payable in monthly installments of $86,524, due September 30, 2006 collateralized by all assets of the Company.	$	2,769,469	$	3,029,041
Real estate term note, payable in monthly installments of $14,166, due September 30, 2006, secured by a first mortgage on the Company’s building.		2,167,569		2,210,342

		4,937,038		5,239,383
Less-current maturities		1,209,645		1,209,645

	$	3,727,393	$	4,029,738

Interest on all outstanding debt under the credit facility accrues at either a) the London Interbank Offered Rate (which was 1.12% at January 31, 2004) plus 1.25% to 2.75% depending on the Company’s funded debt to cash flow ratio, or b) the bank’s prime rate (which was 4.00% at January 31, 2004) minus 0% to minus 1.125% also depending on the Company’s funded debt to cash flow ratio. At January 31, 2004, the Company was paying 3.13% on the revolving line of credit borrowings, 3.12% on the term loan and 2.87% on the mortgage note. The credit facility contains several financial covenants common in such agreements including tangible net worth requirements, limitations on the amount of funded debt to EBITDA, limitations on capital spending, and debt service coverage requirements. At January 31, 2004, the Company was in compliance with all of the covenants contained in the agreement.

Based on the borrowing rates currently available to the Company for bank loans with similar terms and average maturities, the fair value of the long-term debt approximates the carrying value.

9. EARNINGS PER SHARE:

Basic and diluted earnings per common share were computed by dividing net income (loss) by the weighted average number of shares of common stock outstanding during the reporting periods. Options to purchase 240,188 shares of common stock at an average exercise price of $15.63 and 1,240,081 shares of common stock at an average exercise price of $7.25 were not included in the computation of diluted earnings per share for the three months ended January 31, 2004 and 2003, respectively, because inclusion of these options would be anti-dilutive.

10. GOODWILL:

During fiscal years 2000 and 2001, the Company made four acquisitions, all using the purchase method of accounting. To the extent that the purchase price of the assets exceeded their fair value, the Company recorded the difference as goodwill. Prior to the adoption of SFAS No. 142, the Company amortized goodwill into its operating results over the estimated useful life of 20 years. Upon adoption of SFAS No. 142, amortization was ended and replaced with periodic evaluation of the fair value of goodwill compared to its recorded book value. In addition, the Company is reducing the carrying value of goodwill each period to amortize the difference between the recorded value of goodwill on the Company’s tax return compared to the value recorded on the Company’s balance sheet, reflecting a difference in the valuation dates used for common stock given in one of the acquisitions. During fiscal 2004, the Company has reduced goodwill by $13,894 to reflect this difference.

11. CONTINGENCIES:

On August 1, 2003, the Software & Information Industry Association (“SIIA”), an association of software publishers, contacted the Company by letter and claimed that XETA had violated the Copyright Act, 17 U.S.C. § 501, et seq. by allegedly using unlicensed software in XETA’s business. SIIA made demand that the Company audit all of its computers and servers to determine whether it used both licensed and/or allegedly unlicensed software for any of SIIA’s 965 members. This audit was conducted and the Company determined that some software present on a limited number of Company computers was unlicensed. Many of these programs were located on personal computers utilized by employees for both personal and business use, or on computers that were “inherited” through the Company’s various acquisitions and were most likely loaded prior to XETA’s acquisition of these companies. Nevertheless, XETA has potential exposure to damages under the

law for possessing unlicensed software and has recorded a loss contingency representing Management’s best estimate of the potential damages based upon available facts of the claim at the present time. While no assurance can be given, based upon the current status of the claim Management does not believe that the ultimate damages will exceed the current loss contingency in an amount that would materially impact the Company’s results of operations. The Company initiated settlement negotiations with SIIA which later stalled because the nature of XETA’s liability and the amount of damages due SIIA was in dispute. The Company therefore filed a declaratory judgment in the U.S. District Court for the Northern District of Oklahoma seeking a judicial determination of liability and damages. This action is still pending.

Since 1994, we have been monitoring numerous patent infringement lawsuits filed by Phonometrics, Inc., a Florida company, against certain telecommunications equipment manufacturers and hotels who use such equipment. While we were never named as a defendant in any of these cases, several of our call accounting customers were named defendants and notified us that they will seek indemnification under the terms of their contracts with us. However, because there were other equipment vendors implicated along with us in the cases filed against our customers, we never assumed the outright defense of our customers in any of these actions. All of the cases filed by Phonometrics against our customers were originally filed in, or transferred to, the United States District Court for the Southern District of Florida. In October 1998, the Florida Court dismissed all of the cases filed against the hotels for failure to state a claim. After years of appeals by Phonometrics, all of which were lost on the merits, a final order dismissing the cases with prejudice was entered in November 2002, and the defendant hotels have been awarded attorney fees and costs against both Phonometrics and its legal counsel. Phonometrics continues to dispute the amount of fees awarded in some cases, and this issue continues to be litigated by Phonometrics.

PART II. OTHER INFORMATION

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

a) Exhibits (filed herewith):

	SEC Exhibit No.		Description

	31.1		Rule 13a-14(a)/15d-14(a) Certification of Chief Executive Officer

	31.2		Rule 13a-14(a)/15d-14(a) Certification of Chief Financial Officer

	32.1		Certification of Chief Executive Officer Pursuant to Title 18, United States Code, Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.

	32.2		Certificate of Chief Financial Officer Pursuant to Title 18, United States Code, Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.

(b) Reports on Form 8-K - During the quarter for which this report is filed, the Company filed the following reports on Form 8-K:

Form 8-K filed December 12, 2003 (to furnish earnings release for 2003 fiscal year ).

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.

	XETA TECHNOLOGIES, INC.
	(Registrant)


Dated: June 10, 2004	By:	/s/ JACK R. INGRAM

		Jack R. Ingram Chief Executive Officer

Dated: June 10, 2004	By:	/s/ ROBERT B. WAGNER

		Robert B. Wagner Chief Financial Officer

EXHIBIT INDEX

SEC Exhibit No.		Description


31.1		Rule 13a-14(a)/15d-14(a) Certification of Chief Executive Officer

31.2		Rule 13a-14(a)/15d-14(a) Certification of Chief Financial Officer

32.1		Certification of Chief Executive Officer Pursuant to Title 18, United States Code, Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.

32.2		Certificate of Chief Financial Officer Pursuant to Title 18, United States Code, Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.