<PAGE> 1
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 July 31, 1999
or
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d)
OF THE SECURITIES EXCHANGE ACT OF 1934
Commission File Number 0-16231
XETA Corporation
- --------------------------------------------------------------------------------
(Exact name of registrant as specified in its charter)
Oklahoma 73-1130045
- --------------------------------------------------------------------------------
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification No.)
1814 West Tacoma, Broken Arrow, OK 74012-1406
- --------------------------------------------------------------------------------
(Address of principal executive offices) (Zip Code)
918-664-8200
- --------------------------------------------------------------------------------
(Registrant's telephone number, including area code)
4500 S. Garnett, Suite 1000, Tulsa, OK 74146
- --------------------------------------------------------------------------------
(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
--- ---
Number of shares outstanding of each of the registrant's classes of common
stock, as of the latest practicable date.
Class Outstanding at September 1, 1999
- -------------------------------- --------------------------------
Common Stock, $.05 par value 3,977,308
<PAGE> 2
PART I. FINANCIAL INFORMATION
ITEM 1. FINANCIAL STATEMENTS
Consolidated Balance Sheets - July 31, 1999
and October 31, 1998
Consolidated Statements of Operations - For the Three and
nine months ending July 31, 1999 and 1998
Consolidated Statement of Shareholders' Equity - November 1,
1998 through July 31, 1999
Consolidated Statements of Cash Flows - For the Nine months
ending July 31, 1999 and 1998
Notes to Consolidated Financial Statements
2
<PAGE> 3
XETA CORPORATION
CONSOLIDATED BALANCE SHEETS
ASSETS
<TABLE>
<CAPTION>
July 31, 1999 October 31,1998
------------- ---------------
(Unaudited)
<S> <C> <C>
Current Assets:
Cash and cash equivalents $ 4,178,103 $ 3,238,218
Current portion of net investment in
sales-type leases 2,048,726 1,500,095
Other receivables, net 4,003,785 3,561,201
Inventories, net 3,371,420 2,022,256
Deferred tax asset, net 564,412 575,587
Prepaid expenses and other assets 178,484 73,895
------------ ------------
Total current assets 14,344,930 10,971,252
------------ ------------
Noncurrent Assets:
Net investment in sales-type leases,
less current portion above 3,083,714 1,210,939
Purchased service and long distance contracts,
net 914,736 2,537,437
Property, plant & equipment, net 3,972,698 2,817,370
Capitalized software production costs, net of
accumulated amortization of $543,066 at July
31, 1999 and $453,066 at Oct. 31, 1998 648,740 655,370
Other assets 217,280 99,618
------------ ------------
Total noncurrent assets 8,837,168 7,320,734
------------ ------------
Total assets $ 23,182,098 $ 18,291,986
============ ============
LIABILITIES & SHAREHOLDERS' EQUITY
Current liabilities:
Accounts payable $ 1,780,132 $ 1,747,009
Unearned revenue 4,830,680 3,096,217
Accrued liabilities 1,060,822 824,454
Accrued federal and state income taxes -- 181,876
------------ ------------
Total current liabilities 7,671,634 5,849,556
------------ ------------
Unearned service revenue 1,598,097 730,314
------------ ------------
Noncurrent deferred tax liability, net 580,510 526,881
------------ ------------
Commitments
Shareholders' equity:
Preferred stock; $.10 par value; 50,000 shares
authorized, 0 issued -- --
Common stock; $.05 par value; 10,000,000
shares authorized, 4,636,702 and 4,572,568
issued at July 31, 1999 and October
31, 1998, respectively 231,835 228,628
Paid-in capital 5,373,855 5,135,818
Retained earnings 10,632,326 7,568,905
------------ ------------
16,238,016 12,933,351
Less treasury stock, at cost (2,906,159) (1,748,116)
------------ ------------
Total shareholders' equity 13,331,857 11,185,235
------------ ------------
Total liabilities & shareholders' equity $ 23,182,098 $ 18,291,986
============ ============
</TABLE>
The accompanying notes are an integral part of these statements
3
<PAGE> 4
XETA CORPORATION
CONSOLIDATED STATEMENTS OF OPERATIONS
(Unaudited)
<TABLE>
<CAPTION>
For the Three Months For the Nine Months
Ending July 31, Ending July 31,
1999 1998 1999 1998
---- ---- ---- ----
<S> <C> <C> <C> <C>
Installation and service revenues $4,989,077 $ 3,432,990 $13,417,619 $ 9,564,188
Sales of systems
4,630,361 3,438,804 12,124,335 8,475,713
Long distance services
169,758 310,444 534,445 759,508
---------- ----------- ----------- --------------
Net sales and service revenues 9,789,196 7,182,238 26,076,399 18,799,409
---------- ----------- ----------- --------------
Installation and service cost 3,231,949 2,185,549 8,650,114 5,986,941
Cost of sales 2,899,146 2,486,024 7,299,636 5,766,507
Cost of long distance services 57,274 151,653 181,097 315,024
---------- ----------- ----------- --------------
Total cost of sales and service 6,188,369 4,823,226 16,130,847 12,068,472
---------- ----------- ----------- --------------
Gross profit 3,600,827 2,359,012 9,945,552 6,730,937
---------- ----------- ----------- --------------
Operating expenses:
Selling, general and administrative 1,370,227 1,069,940 3,592,460 3,079,776
Engineering, research and development 162,074 96,299 390,662 286,885
Amortization 415,502 81,216 1,385,550 243,648
---------- ----------- ----------- --------------
Total operating expenses 1,947,803 1,247,455 5,368,672 3,610,309
---------- ----------- ----------- --------------
Income from operations 1,653,024 1,111,557 4,576,880 3,120,628
Interest and other income 170,192 171,341 450,541 505,206
---------- ----------- ----------- --------------
Income before provision for income
taxes 1,823,216 1,282,898 5,027,421 3,625,834
Provision for income taxes 712,000 477,000 1,964,000 1,346,000
---------- ----------- ----------- --------------
Net income $1,111,216 $ 805,898 $ 3,063,421 $ 2,279,834
========== =========== =========== ==============
Earnings per share
Basic $ 0.28 $ 0.20 $ 0.76 $ 0.56
========== =========== =========== ==============
Diluted $ 0.24 $ 0.17 $ 0.66 $ 0.48
========== =========== =========== ==============
Weighted average shares outstanding 3,974,334 4,089,752 4,021,689 4,061,796
========== =========== =========== ==============
Weighted average shares equivalents 4,642,350 4,721,206 4,623,435 4,738,406
========== =========== =========== ==============
</TABLE>
The accompanying notes are an integral part of these statements.
4
<PAGE> 5
XETA CORPORATION
CONSOLIDATED STATEMENT OF SHAREHOLDERS' EQUITY
NOVEMBER 1, 1998 THROUGH JULY 31, 1999
(Unaudited)
<TABLE>
<CAPTION>
Common Stock Treasury Stock .
--------------------------- ----------------------------
Number of
Shares Issued Paid-in Retained
& Outstanding Par Value Shares Amount Capital Earnings
------------- --------- -------- ----------- ---------- -----------
<S> <C> <C> <C> <C> <C> <C>
Balance -
October 31, 1998 2,286,284 $228,628 (264,547) $(1,748,116) $5,135,818 $ 7,568,905
Stock options
exercised 32,067 3,207 49,469
Tax benefit of stock
Options exercised 188,568
Treasury stock
acquired (65,150) (1,158,043)
Two-for-one stock
Split 2,318,351 (329,697)
Net Income 3,063,421
--------- -------- -------- ----------- ---------- -----------
Balance -
July 31, 1999 4,636,702 $231,835 (659,394) $(2,906,159) $5,373,855 $10,632,326
========= ======== ======== =========== ========== ===========
</TABLE>
The accompanying notes are an integral part of these statements.
5
<PAGE> 6
XETA CORPORATION
CONSOLIDATED STATEMENTS OF CASH FLOWS
(Unaudited)
<TABLE>
<CAPTION>
For the Nine Months
Ending July 31,
1999 1998
----------- -----------
<S> <C> <C>
Cash flows from operating activities:
Net Income $ 3,063,421 $ 2,279,834
----------- -----------
Adjustments to reconcile net income to net cash provided by operating
activities:
Depreciation
311,940 220,234
Amortization
1,385,550 243,648
Loss on sale of assets
-- 14,517
Provision for doubtful accounts receivable
27,000 67,000
Change in assets and liabilities:
(Increase) decrease in net investment in
sales-type leases
(2,421,406) 577,176
Increase in other receivables
(469,584) (1,209,342)
Increase in inventories
(1,349,164) (839,581)
(Increase) decrease in deferred tax asset
11,175 (405,740)
Increase in prepaid expenses and
other assets
(222,251) (32,646)
Increase in accounts payable
33,123 579,557
Increase in unearned revenue
2,602,246 351,763
Increase in accrued income taxes
6,692 205,125
Increase in accrued liabilities
236,368 28,544
Increase (decrease) in deferred tax liabilities
53,629 (47,660)
----------- -----------
Total
adjustments 205,318 (247,405)
----------- -----------
Net cash provided by
operating activities
3,268,739 2,032,429
----------- -----------
Cash flows from investing activities:
Additions to capitalized software
(83,370) (178,998)
Additions to property, plant & equipment
(1,467,268) (1,522,225)
Addition to purchase price of service contracts
327,151 --
Proceeds from sale of assets
-- 852
----------- -----------
Net cash used in investing activities
(1,223,487) (1,700,371)
----------- -----------
Cash flows from financing activities:
Purchase of treasury stock
(1,158,043) (1,221,813)
Exercise of stock options
52,676 92,900
----------- -----------
Net cash used in financing activities
(1,105,367) (1,128,913)
----------- -----------
Net increase (decrease) in cash and cash equivalents
939,885 (796,855)
Cash and cash equivalents, beginning of period
3,238,218 6,011,841
----------- -----------
Cash and cash equivalents, end of period $ 4,178,103 $ 5,214,986
=========== ===========
Supplemental disclosure of cash flow information:
Cash paid during the period for interest $ 15,752 $ 19,051
Cash paid during the period for income taxes $ 1,899,810 $ 1,572,799
</TABLE>
The accompanying notes are an integral part of these statements.
6
<PAGE> 7
XETA CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
July 31, 1999
(Unaudited)
(1) BASIS OF PRESENTATION
The consolidated financial statements included herein include the
accounts of XETA Corporation and its wholly-owned subsidiary, Xetacom, Inc.
Xetacom's operations have been insignificant to date. All significant
intercompany accounts and transactions have been eliminated.
The consolidated financial statements have been prepared by the
Company, without an audit, pursuant to the rules and regulations of the
Securities and Exchange Commission. Certain information and footnote disclosures
normally included in financial statements prepared in accordance with generally
accepted accounting principles have been condensed or omitted pursuant to such
rules and regulations. The Company believes that the disclosures made in these
financial statements 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-KSB, 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 share and per share amounts have been restated to reflect
the effect of the two-for-one stock split on August 13, 1999. All adjustments
made were of a normal recurring nature.
(2) INVENTORIES
The following are the components of inventories:
<TABLE>
<CAPTION>
July 31, October 31,
1999 1998
----------- -----------
(Unaudited)
<S> <C> <C>
Raw materials $ 1,287,680 $ 1,092,278
Finished goods and spare parts 2,408,740 1,254,978
----------- -----------
3,696,420 2,347,256
Less reserve for excess and
obsolete inventory (325,000) (325,000)
----------- -----------
$ 3,371,420 $ 2,022,256
=========== ===========
</TABLE>
7
<PAGE> 8
(3) PROPERTY, PLANT AND EQUIPMENT
Property, plant and equipment consist of the following:
<TABLE>
<CAPTION>
July 31, October 31,
1999 1998
----------- -----------
(Unaudited)
<S> <C> <C>
Building $ 2,397,954 $ 1,565,601
Data processing and computer field equipment 1,619,991 1,368,075
Land 611,582 611,582
Office furniture 434,735 136,143
Other 355,575 271,171
----------- -----------
5,419,837 3,952,572
Less accumulated depreciation (1,447,140) 1,135,202
----------- -----------
$ 3,972,697 $ 2,817,370
=========== ===========
</TABLE>
(4) UNEARNED INCOME
Unearned income consists of the following:
<TABLE>
<CAPTION>
July 31, October 31,
1999 1998
----------- -----------
(Unaudited)
<S> <C> <C>
Service contracts $ 1,472,877 $ 1,245,506
Customer deposits 1,903,452 688,778
Warranty service 1,208,683 951,238
Systems shipped, but not installed 125,544 69,364
Other deferred revenue 120,124 141,331
----------- -----------
Total current deferred revenue 4,830,680 3,096,217
Noncurrent unearned service revenues 1,598,097 730,314
----------- -----------
$ 6,428,777 $ 3,826,531
=========== ===========
</TABLE>
8
<PAGE> 9
(5) INCOME TAXES
The tax effects of temporary differences that give rise to significant
portions of the deferred tax assets and deferred tax liabilities are presented
below:
<TABLE>
<CAPTION>
July 31, October 31,
1999 1998
--------- ----------
(Unaudited)
<S> <C> <C>
Deferred tax assets:
Prepaid service contracts $ 476,564 $ 347,322
Nondeductible reserves 296,875 315,585
Unamortized cost of service contracts 36,732 --
Other 52,006 35,078
--------- ---------
Total deferred tax asset 862,177 697,985
--------- ---------
Deferred tax liabilities:
Unamortized capitalized software
development costs 220,572 222,826
Tax income to be recognized on sales-type
lease contracts 539,479 250,479
Unamortized cost of long distance contracts 100,611 110,190
Other 17,613 65,784
--------- ---------
Total deferred tax liability 878,275 649,279
--------- ---------
Net deferred tax asset (liability) $ (16,098) $ 48,706
========= =========
</TABLE>
(6) INTEREST AND OTHER INCOME
Interest and other income recorded in the accompanying financial
statements consists primarily of interest income earned from sales-type leases
and cash investments.
(7) EARNINGS PER SHARE
All earnings per share amounts disclosed herein have been calculated
under the provisions of SFAS 128 and reflect the two-for-one stock split on
August 13. Basic earnings per common share were computed by dividing net income
by the weighted average number of shares of common stock outstanding during the
reported period. A reconciliation of net income and weighted average shares used
in computing basic and diluted earnings per share is as follows:
<TABLE>
<CAPTION>
For the Quarter Ending July 31
-------------------------------------
Income Shares Per-Share
(Numerator) (Denominator) Amount
----------- ------------- ---------
<S> <C> <C> <C>
Basic EPS - 1999
Net income $1,111,216 3,974,334 $.28
Options issued to employees 668,013
Diluted EPS
Net income $1,111,216 4,642,350 $.24
Basic EPS - 1998
Net income $ 805,898 4,089,752 $.20
Options issued to employees 631,454
Diluted EPS
Net income $ 805,898 4,721,206 $.17
</TABLE>
9
<PAGE> 10
<TABLE>
<CAPTION>
For the Nine Months Ending July 31
-------------------------------------
Income Shares Per-Share
(Numerator) (Denominator) Amount
----------- ------------- ---------
<S> <C> <C> <C>
Basic EPS - 1999
Net income $3,063,421 4,021,689 $.76
Options issued to employees 601,746
Diluted EPS
Net income $3,063,421 4,623,435 $.66
Basic EPS - 1998
Net income $2,279,834 4,061,796 $.56
Options issued to employees 676,610
Diluted EPS
Net income $2,279,834 4,738,406 $.48
</TABLE>
(8) FOOTNOTES INCORPORATED BY REFERENCE
Certain footnotes are applicable to the consolidated financial
statements, but would be substantially unchanged from those presented in the
Company's Annual Report on Form 10-KSB, Commission File No. 0-16231, filed with
the Securities and Exchange Commission on January 28, 1999. Accordingly,
reference should be made to those statements for the following:
<TABLE>
<CAPTION>
Note Description
---- -----------
<S> <C>
1 Business and summary of significant accounting policies
4 Accrued liabilities
6 Income taxes
7 Revolving Credit Agreement
8 Purchased Service and Long Distance Contracts
9 Stock options
11 Commitments
12 Major Customers and Concentration of Credit Risk
13 Employment Agreements
14 Contingency
15 Retirement plan
</TABLE>
10
<PAGE> 11
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS
For the quarter ending July 31, 1999, XETA Corporation (the "Company") earned
net income of $1.111 million or $.24 per share (diluted) on revenues of $9.789
million compared to net income of $.806 million or $.17 per share (diluted) on
revenues of $7.182 million reported for the quarter ending July 31, 1998. For
the nine month period ending July 31, 1999, the Company earned net income of
$3.063 million or $.66 per share (diluted) on revenues of $26.076 million. This
compares to net income of $2.280 million or $.48 per share (diluted) on
revenues of $18.799 million for the nine months ending July 31, 1998. Note that
all references to shares and per share amounts reflect the two-for-one stock
split on August 13, 1999 to shareholders of record on July 30, 1999.
These revenues and earnings were the result of many factors including the
continued surge in orders for the Company's call accounting systems, continued
market acceptance of its PBX product and service offerings, and a favorable mix
in revenues which enhanced the gross margins earned on total systems sales.
These factors offset slight declines in the gross margins earned on service
revenues. Additionally, the quarterly and year-to-date results were achieved
while simultaneously amortizing approximately one-fourth and three-fourths,
respectfully, of the cost of the PBX contracts which were purchased in the
fourth quarter of fiscal 1998.
Also during the quarter, the Company announced plans to expand beyond the
lodging industry into the commercial market by entering the voice and data
communications business. As part of this effort, the Company hired Jon A.
Wiese, a former executive with Lucent Technologies, Inc., as President. The
Company's former President, Jack R. Ingram, remains as Chief Executive Officer
and Chairman of the Board.
The Company's plan to expand into the commercial market is based upon its
belief that changes in the communications market which are currently being seen
will cause voice and data networks to converge, leading to a demand within the
commercial market for a "single network" distribution channel proficient in
both voice and data solutions. The Company intends to establish itself as such
a distribution channel through a series of selective acquisitions, supplemented
by internal growth. The Company will continue to further develop its existing
market position in the lodging industry. See "Outlook and Risk Factors" below
for a further discussion of the Company's expansion plans.
The discussion which follows provides further analysis of the matters mentioned
above as well as other major factors and trends which management believes had
the most significant impact on the financial condition of the Company as of
July 31, 1999 and the results of operations for the quarter and nine month
periods then ended as compared to the same periods a year ago. Also included in
this discussion are the major factors, trends and risks which management
believes will affect the outlook for the Company. This analysis should be read
in conjunction with the Consolidated Financial Statements and Notes thereto
contained in this report.
11
<PAGE> 12
FINANCIAL CONDITION
For the nine month period ending July 31, 1999, the Company's cash balances
increased $.940 million reflecting cash earned from operations of $3.269
million offset by cash used in investing activities of $1.223 million and cash
used in financing activities of $1.105 million.
Investing activities primarily included cash used for completing the
construction of the Company's new headquarters and purchases of computer
equipment and furnishings for the building. The Company relocated to its new
facilities in mid-March.
Financing activities primarily consisted of purchases of the Company's common
stock under its on-going stock repurchase program. On February 5, 1999, the
Company's board of directors approved an increase in the repurchase program to
include one-half of each quarter's net income. Previously, one-third of net
income had been allocated to stock repurchases. In addition, the directors
approved a one-time allocation of $500,000 to the program. Purchases under the
program are made in open market transactions, the timing of which are dictated
by overall financial and market conditions. The directors review the program
regularly. During the first six months of the year, the Company spent $1.158
million to purchase 130,300 common shares. No shares were repurchased during
the third quarter of the fiscal year.
In September 1998, the Company purchased approximately 100 Hitachi PBX service
contracts and the associated spare parts inventory from Williams Communications
Solutions, LLC ("WCS"). On May 12, 1999, the Company made a final payment of
$156,000 under the purchase agreement. This payment represented the negotiated
purchase price for the inventory and a reduction in the purchase price of the
service contracts to reflect the net effect of additional contracts identified
after the initial closing and contracts which, by subsequent agreement of the
parties, were not eligible to be purchased. As a result of the reduction in the
amount paid for the service contracts, the Company's third quarter operating
results reflect a downward adjustment in the monthly amortization expense
related to these contracts. As previously disclosed, amortization of this
purchase will be completed at the end of the current fiscal year.
Management believes that the Company's financial condition is strong and that
this strength will play a key role in the Company's plans to expand beyond the
lodging industry into the commercial voice and data communications business. As
part of the stated growth strategy, management is currently evaluating several
acquisition opportunities. The Company is also exploring its potential debt
capacity to finance potential acquisitions and while no assurance can be given,
believes that sufficient debt financing can be arranged to complete the initial
stages of its expansion strategy. Beyond debt financing, management believes
that additional sources of capital will be available including secondary stock
offerings, subordinated debt, owner financing and private placements of both
debt and equity instruments. See also "Outlook and Risk Factors" below for a
further discussion of the Company's expansion plans.
12
<PAGE> 13
RESULTS OF OPERATIONS
Total revenues for the three and nine month periods ending July 31, 1999
increased 36% and 39%, respectively, compared to those same periods in fiscal
1998. The third quarter increase consisted of an increase in installation and
service revenues of $1.556 million or 45%, an increase in systems sales of
$1.192 million or 35%, and a decrease in long distance revenues of $141,000 or
45%. The increase in total revenues for the year to date period consisted of an
increase in installation and service revenues of $3.853 million or 40%, an
increase in systems sales of $3.649 million or 43%, and a decrease in long
distance revenues of $225,000 or 30%. The following discussion analyzes the
Company's revenues by product line.
PBX Revenues. Sales of PBX systems increased $359,000 or 12% during the third
quarter and increased $1.540 million or 22% for the year to date period.
Revenues from PBX service related activities increased $1.165 million or 48%
during the third quarter of fiscal 1999 and increased $3.0 million or 46% for
the year to date period. These increases are being fueled primarily by
continued market acceptance of the Company's PBX product and service offerings.
The Company enjoys a very positive reputation in the lodging industry for its
installation and maintenance services as well as its products. This reputation,
coupled with a healthy and expanding hotel industry, has resulted in
significant expansion of the Company's share of the PBX market during the past
four years. Other factors helping to fuel the growth in PBX related revenues
has been the focus on technology by hotel owners and managers and the
acquisition of service contracts from WCS in the fourth quarter of fiscal 1998.
The current focus on technology in the industry is the result of the desire to
ensure that all computer and telecommunications systems will function properly
in the year 2000 and beyond. This desire and the accompanying time deadline has
resulted in somewhat shorter sales cycles. During the third quarter of fiscal
1999, the Company completed its first installations of Lucent systems, for
which the Company became a distributor in November, 1998. The Company expects
to continue to sell and install both Hitachi and Lucent systems for the
foreseeable future.
Call Accounting Revenues. Sales of call accounting systems in the third quarter
of fiscal 1999 increased $.833 million or 226% and for the nine month period
ending July 31, 1999, increased $2.109 million or 155%, compared to those same
periods in fiscal 1998. Revenues from call accounting installation and service
related activities increased $391,000 or 39% in the third quarter and $.855
million or 29% for the year to date period. The Company is enjoying a surge in
orders for its new, network-friendly Virtual XL(TM) Series call accounting
system. This product, introduced in 1998, performs all of the functions of the
Company's XL(R) Series call accounting system, but can also be connected to
private and/or public networks to allow remote access to reports. Many of the
orders for these new systems represent upgrades or replacement of existing
systems, however, the healthy hotel industry and the Company's continued market
penetration have resulted in sales to new customers as well. The Company's
backlog of orders for call accounting systems remains strong and management
expects sales of call accounting related revenues to continue to show strong
gains through calendar 1999.
Long Distance Services. Revenues earned from long distance services decreased
$141,000 or 45% for the quarter ending July 31, 1999 and decreased $225,000 or
30% for the nine months ending July 31, 1999 compared to those same periods a
13
<PAGE> 14
year ago. This decline represents lower usage of 0+ services at customer
hotels. It is not known whether this trend will continue or whether revenues
will recover to previous levels. Due to competitive pressures in the long
distance segment of the hotel industry, the Company is not focusing on this
segment of its product offerings.
Gross Margins. The gross margins earned on total revenues were 37% in the third
quarter of fiscal 1999 compared to 33% in the third quarter of fiscal 1998.
Gross margins earned on total revenues for the year to date period ending on
July 31, 1999 were 38% compared to 36% for the same period in fiscal 1998.
Gross margins earned on service revenues were 35% for the third quarter of
fiscal 1999 compared to 36% for the third quarter of fiscal 1998. For the nine
month period, the gross margins on service revenues were 36% in the current
year compared to 37% in the previous year. The margins on service revenues are
slightly below management's target range for this revenue stream, but were
steady at 35% for both the second and third quarters. Management continues to
monitor its cost structure and processes in its service department. It is not
known at this time whether those evaluations will result in changes that could
produce higher gross margins on service revenues.
The gross margins earned on systems sales during the third quarter of fiscal
1999 were 37% compared to 28% a year earlier and were 40% for the year to date
period in fiscal 1999 compared to 32% a year earlier. These increases reflect
the higher proportion of higher margin call accounting sales during these
periods. Management expects this trend to continue throughout the remainder of
calendar 1999. Sales of call accounting systems are expected to trend back to
historical levels in fiscal 2000.
Operating Expenses. Operating expenses for the three and nine month periods
ending July 31, 1999 increased 56% and 49%, respectively, compared to those
same periods in fiscal 1998. The majority of the increase in both periods is
due to the increase in amortization expense associated with the purchase of
service contracts from WCS. The increase in amortization expense for the third
quarter was $334,000 and for the year to date period was $1.142 million. As
stated above under "Financial Condition", amortization of the purchase cost of
the service contracts will be complete at the end of the fiscal year. Other
increases in operating expenses for both periods under comparison are primarily
related to sales expenses, commissions and executive bonuses which increased in
conjunction with increases in sales and net income. Partially offsetting the
increases in operating expenses for the nine month period was collection of a
judgement against a former customer of the Company. This judgement was for
$116,000 and represented payment on trade receivables which had been previously
written-off as a bad debt.
Interest and Other Income. When compared to the previous year, interest and
other income decreased $1,000 or 1% in the third quarter and decreased $55,000
or 11% in the year to date period. These decreases included declines in
interest income from cash investments due to lower cash balances during the
year which were partially offset by increases in interest income earned from
XETAPLAN sales-type leases.
Tax Expense. The Company has recorded a combined federal and state tax
provision of 39% of income before taxes compared to a combined rate of 37% in
fiscal 1998. The increase in the tax rate reflects primarily an increase in
14
<PAGE> 15
estimated state income taxes, which fluctuate based on the Company's sales
volumes in each state.
OUTLOOK AND RISK FACTORS
The statements contained in this section are based on current expectations. The
statements are forward-looking in nature and actual results may differ
materially. All such statements should be read in conjunction with the risk
factors discussed herein and elsewhere in this report. Those statements should
also be read in conjunction with the Company's Form 10-KSB for the year ended
October 31, 1998 which contains an expanded discussion of risk factors that
should be read in conjunction with this report. Particular attention should be
paid to the Company's disclosures in the Form 10-KSB regarding the potential
effect of the year 2000 ("Y2k") on its business.
As discussed above, the Company has announced its plans to expand its business
by providing voice and data network solutions to the commercial market. These
plans are predicated, to a large degree, on the acquisition of existing voice
and data communications providers. While management believes that market forces
are present or emerging which will motivate potential target companies to enter
into such transactions, there can be no assurance given that the Company can
consummate such acquisitions. Furthermore, the voice and data markets for
commercial businesses are substantial in size and the Company may face
competition from larger and better capitalized companies who are pursuing the
same growth strategy. Additionally, the Company will likely use a combination
of debt and equity capital to finance the contemplated acquisitions. The use of
these forms of capital may increase the level of risk associated with the
Company's financial condition and could dilute earnings per share on the
Company's core operations from those which would otherwise be reported.
The Company is in the early stages of its relationship with Lucent. Many of the
Company's sales and service technicians have been trained on the Lucent system
and several Lucent systems have been successfully installed since the end of
the second quarter. The Company is actively marketing the Lucent Guestworks(TM)
PBX and while no assurance can be given, management believes that the Lucent
system will enable the Company to compete more effectively in some segments of
the market, specifically large hotels. For the Lucent product offering to be
successful however, the Company must quickly establish itself as a quality
installer and service provider of Lucent products. The Company's performance in
these areas over the next few quarters will largely determine the success of
its Lucent product offering.
As a supplier of PC-based computer systems and proprietary software, the issues
surrounding the potential effect of the year 2000 ("Y2k") on the Company's
business are extremely complex. The evaluation of those issues is ongoing and
will continue up to and through the beginning of the year. As of the date of
this report, management believes that the disclosures provided in the Company's
1998 Annual Report accurately reflect the current state of its evaluations and
its response to the Y2k issues that have come to its attention. The discussion
below provides a brief update regarding the Company's actions regarding Y2k as
it relates to the Company's proprietary PC-based products.
15
<PAGE> 16
The Company is substantially complete with the notification of its customers
regarding the availability of a software upgrade developed by the Company for
its PC-based call accounting products. This upgrade includes patches designed
to compensate for all Y2K issues of which the Company has become aware. The
Company is also providing its customers under service contracts with a hardware
test diskette which the Company developed for its systems. This diskette is
designed to test for Y2K problems related to a system's hardware. The Company
believes that many of the Y2K problems that will occur in the computer industry
will be related to the hardware systems. To date, there have been no reported
test failures and none are expected. Management believes that should a
customer's system report a failure during testing, additional software can be
written to "patch" the problem. The Company continues the process of upgrading
those customers who have responded to the Company's notification and expects to
have them completed by October 31, 1999. While no definite cutoff date has been
set, customers who continue to delay in responding to the Company's notices
risk having to wait until after December 31, 1999 to receive their upgrades.
Customers who fail to respond to the Company's notices cannot be assured that
their systems will function satisfactorily when using dates after December 31,
1999.
Despite the fact that management believes that its systems will operate
properly on and after January 1, 2000, the Company is developing contingency
plans regarding staffing and location of selected inventory for the time period
just before and just after January 1, 2000. Management believes it may receive
a surge in service calls on or shortly after January 1, 2000, whether or not
directly related to the Company's products. The Company's contingency plans are
being designed to provide a prudent response to the possibility of such a surge
in activity. If the volume of calls exceeds the Company's expectations, it
might disrupt the Company's normal operations, including scheduled
installations of new systems, thereby producing materially different operating
results than those expected under normal conditions.
Management continues to believe that regardless of the extent of the Y2k
problems that are actually experienced in the global marketplace, a surge in
litigation will ensue. As a developer of proprietary software and a service
provider for telecommunications systems, the Company is vulnerable to the risk
of increased litigation, despite its best efforts to mitigate the impact of the
Y2k problem on its products and services.
The Company is involved in three matters of pending litigation. See "Legal
Proceedings" under Part II below for a further discussion of this litigation.
Item 3 of Part I has been omitted as inapplicable.
16
<PAGE> 17
PART II. OTHER INFORMATION
Item 1. Legal Proceedings
The Company first reported on the matter of Allendale Mutual Insurance Co. v.
XETA Corporation, Hitachi Telecom (USA), Inc., Public Service Company of
Colorado, AT&T, US West Long Distance, Inc., and Does 1-100, in its Quarterly
Report on Form 10-Q for the fiscal quarter ending January 31, 1999. There have
been no material developments in this case since the Company's last reporting of
this matter in its Quarterly Report on Form 10-Q for the quarter ending April
30, 1999.
The matter of Associated Business Telephone Systems, Inc. ("ABTS"), plaintiff,
vs. XETA Corporation, defendant and third-party plaintiff, vs. D&P Investments,
Inc. ("D&P"), which the Company last reported on in its Quarterly Report on Form
10-Q for the fiscal quarter ending April 30, 1999, has been set for trial on
November 15, 1999. The parties failed to reach agreement following
court-mandated settlement negotiations. On September 1, 1999, the Company filed
a motion for partial summary judgment on certain of ABTS' contract and tort
claims.
Since 1994, when the Company was first notified by one of its hotel customers
that the customer had been sued in Federal court for patent infringement by
Phonometrics, Inc., a Florida company, the Company has been monitoring numerous
patent infringement lawsuits filed by Phonometrics against certain
telecommunications equipment manufacturers and hotels who use such equipment.
While the Company has not been named as a defendant in any of these cases,
several of its customers are named defendants and have notified the Company that
they seek indemnification under the terms of their contracts with the Company.
To the knowledge of the Company, there have been no material developments in
this case since the Company last reported on this matter in its Quarterly Report
on Form 10-Q for the fiscal quarter ended April 30, 1999.
Item 2. Changes in Securities and Use of Proceeds.
(a) The Company declared a two-for-one stock split on its Common Stock,
par value $.10 per share, for shareholders of record on July 30, 1999,
with an effective date of August 13, 1999. Simultaneously, the Company
changed the par value of its Common Stock from $.10 per share to $.05
per share.
Subparts (b) through (d) of Item 2 and all of Items 3, 4, and 5 have been
omitted because they are inapplicable or the responses thereto are negative.
17
<PAGE> 18
Item 6.
(a) Exhibits - See the Exhibit Index at Page 19.
(b) Reports on Form 8-K - On July 28, 1999, the Company filed a
voluntary report with the Securities and Exchange Commission on Form
8-K. This filing reported on the Company's plans to expand its business
activities beyond the lodging industry and reported the engagement of
Jon A. Wiese to lead the expansion effort.
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 CORPORATION
(Registrant)
Dated: September 13, 1999 By: /s/Jack R. Ingram
Jack R. Ingram
Chief Executive Officer
Dated: September 13, 1999 By: /s/Robert B. Wagner
Robert B. Wagner
Chief Financial Officer
18
<PAGE> 19
EXHIBIT INDEX
SEC. NO. Description
- -------- -----------
(2) Plan of acquisition, reorganization, arrangement, liquidation
or succession - None.
(3) (i) Articles of Incorporation - previously filed as Exhibits
3.1 and 3.2 to the Registrant's Registration Statement on Form
S-1, Registration No. 33-7841.
Amendment No. 1 to Amended and Restated Certificate of
Incorporation - previously filed as Exhibit 4.2 to the
Company's Post-Effective Amendment No. 1 to Registration
Statement on Form S-8, Registration No. 33-62173
(ii) Bylaws - previously filed as Exhibit 3(ii) to the
Company's Annual Report on Form 10-KSB for the fiscal year
ended October 31, 1994, Commission File No. 0-16231
Third Amendment to Bylaws - previously filed as Exhibit 4.4 to
the Company's Post-Effective Amendment No. 1 to Registration
Statement on Form S-8, Registration No. 33-62173.
(4) Instruments defining rights of security holders, including
indentures - previously filed as Exhibits 3.1, 3.2 and 3.3 to
the Registrant's Registration Statement on Form S-1,
Registration No. 33-7841.
(10) Material Contracts -
10.1 June 17, 1999 letter to Jon A. Wiese outlining terms of
compensation as President.
10.2 Stock Purchase Option dated June 17, 1999 granted to
Jon A. Wiese.
(11) Statement re: computation of per share earnings -
Inapplicable.
(15) Letter re: unaudited interim financial information -
Inapplicable.
(18) Letter re: change in accounting principles - Inapplicable.
(19) Report furnished to security holders - None.
(22) Published report regarding matters submitted to a vote of
security holders - None.
(23) Consents of experts and counsel
23.1 Consent of Arthur Andersen LLP
(24) Power of attorney - None.
(27) Financial Data Schedule
(99) Additional exhibits - None.
19
<PAGE> 1
EXHIBIT 10.1
June 17, 1999
Mr. Jon Wiese
11509 South Granite Avenue
Tulsa Oklahoma 74137
Dear Jon,
It is my pleasure to document our offer of employment to you.
The offer is for the office of President of XETA Corporation. In addition, we
would like you to serve as a Director. The Directorship will require the
approval of shareholders, which we will request in conjunction with our annual
meeting next spring. Until that time, we would like for you to attend the Board
meetings.
Your salary will be $90,000 per year.
In addition you will receive a quarterly bonus of 25% of XETA's after tax net
income up to a maximum of $5,000 per fiscal quarter. You will also receive an
annual bonus of 3.5% of XETA's after tax net income for the fiscal year. The
quarterly bonus is paid at the end of the month following the fiscal quarter.
The annual bonus is paid in January following the end of the fiscal year. The
first quarterly and annual bonuses will be prorated to your date of employment.
Should you voluntarily terminate your employment with XETA prior to the
scheduled time of any bonus payment, that bonus, along with any future bonus,
will be forfeited. In the event of involuntary termination, you will be
eligible for the bonuses earned up to the date of termination.
You will also be granted non-qualified options to buy 200,000 shares of XETA
stock. You will vest in 50,000 options upon the commencement of your employment
and 50,000 on each of the first three anniversaries of your employment.
I want to thank you again for the time and effort you expended in visiting with
our Board yesterday. All of the Board members are delighted with your
acceptance of our offer pending the successful resolution of the Lucent
non-compete issue. I am also reflecting the attitude of all of the Board by
telling you that I personally am enthusiastically looking forward to this
association.
Sincerely,
/s/ Jack R. Ingram
President
<PAGE> 1
EXHIBIT 10.2
STOCK PURCHASE OPTION
This Stock Purchase Option is granted on this 17th day of June, 1999,
by XETA Corporation, an Oklahoma corporation ("XETA"), to Jon A. Wiese
("Wiese") in conjunction with and pursuant to the terms of his employment by
XETA.
RECITALS
WHEREAS, XETA has hired Wiese as XETA's President, and Wiese has
accepted such employment on this date and will take office on August 2, 1999;
and
WHEREAS, as an inducement to Wiese to accept such employment and as
part of the compensation to be paid to him as President of the Company, XETA
agreed to grant Wiese options to purchase 200,000 shares of XETA's common
stock, par value $.10 per share;
NOW, THEREFORE, in consideration of the foregoing and for other good
and valuable consideration, the receipt and sufficiency of which are hereby
acknowledged, XETA hereby grants the following Stock Purchase Option to Wiese:
1. Option to Purchase. XETA hereby grants to Wiese the option to purchase
200,000 shares of common stock, par value $.10 per share, of XETA (the
"Options"), subject to the terms and conditions set forth herein. The shares to
be issued from time to time upon exercise of the Options shall be unregistered
and "restricted" as that term is defined in Rule 144 of the rules to the
Securities Act of 1933, as amended.
2. Vesting of Options. The Options shall vest in Wiese in four installments of
50,000 shares each on the 2nd day of August, 1999, 2000, 2001 and 2002. Any
unvested Options shall terminate and become void in the event of termination of
Wiese's employment with XETA for any reason (including death).
3. Exercise of Options. The Options shall be exercisable from time to time in
whole or in part for a period of ten (10) years from and after the date of
vesting (the "Option Period"). The Options shall be exercisable by Wiese only
and shall not be assignable or transferable except as provided in Section 5
below. Subject to the conditions and limitations set forth herein, the Options
shall be exercisable by delivering to XETA on any business day prior to
expiration of the Option Period (i) a written notice specifying the number of
shares Wiese desires to purchase, and (ii) cash or certified funds in payment
of the exercise price. Such items shall be sent to XETA at its corporate
headquarters, addressed to the attention of Chief Financial Officer.
<PAGE> 2
4. Purchase Price. The exercise price of the Options shall be $23.25 per share,
representing the fair market value of the Company's stock on the date of grant.
5. Death of Wiese. In the event of the death of Wiese, any Options not vested
prior to death shall be forfeited and become void; and any Options that were
vested prior to death may be exercised by the estate of Wiese or by a person
who acquires the right to exercise such Option by bequest or inheritance from
Wiese, subject to the same conditions upon exercise to which Wiese was subject.
6. Termination of Employment. In the event of the termination of Wiese's
employment for any reason, any options not vested prior to such termination
shall be forfeited and become void.
7. Adjustment. In the event the outstanding shares of common capital stock of
XETA as a whole are increased, decreased, changed into, or exchanged for a
different number or kind of shares or securities of XETA, whether through stock
dividends, stock splits, reclassifications, merger, or the like, an approximate
and proportionate adjustment shall be made in the number, kind and per share
exercise price of shares subject to any unexercised portion of the Options. Any
such adjustment shall be made without a change in the total price applicable to
the unexercised portion of the Options, but with a corresponding adjustment in
the price for each share covered by the Options.
IN WITNESS WHEREOF, the undersigned has caused this Stock Purchase
Option to be executed on the day and year first above written.
XETA Corporation
/s/ Jack R. Ingram
President
Accepted as of the 17th day of June, 1999.
/s/ Jon A. Wiese
<PAGE> 1
EXHIBIT 23.1
CONSENT OF INDEPENDENT PUBLIC ACCOUNTANTS
As independent public accountants, we hereby consent to the use of our report
and to all references to our Firm included in or made a part of the Form S-8
made by Xeta Corporation on August 28, 1995. It should be noted that we have not
audited any financial statements of the Company subsequent to October 31, 1998
or performed any audit procedures subsequent to the date of our report.
ARTHUR ANDERSEN LLP
Tulsa, Oklahoma
September 13, 1999
<TABLE> <S> <C>
<ARTICLE> 5
<LEGEND>
THIS SCHEDULE CONTAINS SUMMARY FINANCIAL INFORMATION EXTRACTED FROM THE
CONSOLIDATED BALANCE SHEETS AND CONSOLIDATED STATEMENTS OF OPERATIONS FOUND ON
PAGES 3 AND 4 OF THE COMPANY'S 10Q FOR THE YEAR TO DATE AND IS QUALIFIED IN ITS
ENTIRETY BY REFERENCE TO SUCH FINANCIAL STATEMENTS.
</LEGEND>
<S> <C>
<PERIOD-TYPE> 9-MOS
<FISCAL-YEAR-END> OCT-31-1999
<PERIOD-END> JUL-31-1999
<CASH> 4,178,103
<SECURITIES> 0
<RECEIVABLES> 4,003,785
<ALLOWANCES> 0
<INVENTORY> 3,371,420
<CURRENT-ASSETS> 14,344,930
<PP&E> 3,972,698
<DEPRECIATION> 0
<TOTAL-ASSETS> 23,182,098
<CURRENT-LIABILITIES> 7,671,634
<BONDS> 0
0
0
<COMMON> 231,835
<OTHER-SE> 13,100,022
<TOTAL-LIABILITY-AND-EQUITY> 23,182,098
<SALES> 9,789,196
<TOTAL-REVENUES> 9,789,196
<CGS> 6,188,369
<TOTAL-COSTS> 6,188,369
<OTHER-EXPENSES> 0
<LOSS-PROVISION> 0
<INTEREST-EXPENSE> 0
<INCOME-PRETAX> 1,823,216
<INCOME-TAX> 712,000
<INCOME-CONTINUING> 1,111,216
<DISCONTINUED> 0
<EXTRAORDINARY> 0
<CHANGES> 0
<NET-INCOME> 1,111,216
<EPS-BASIC> .28
<EPS-DILUTED> .24
</TABLE>
