The number of shares outstanding of the registrant’s Common Stock as of December 19, 200726, 2008 was 10,231,646.10,240,176.

DOCUMENTS INCORPORATED BY REFERENCE

Portions of the Proxy Statement to be filed with the Securities and Exchange Commission in connection with the Annual Meeting of Shareholders to be held April 8, 20087, 2009 are incorporated by reference into Part III, Items 10 through 14 hereof.

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CAUTIONARY STATEMENT REGARDING FORWARD-LOOKING STATEMENTS

This report contains forward-looking statements relating to future events and our future performance and results.  Many of these statements appear in the discussions under the headings “Business,” “Risk Factors,” and “Management’s Discussion and Analysis of Financial Condition and Results of Operations.” All statements other than those that are purely historical may be forward-looking statements.  Forward-looking statements can generally be identified by words such as “expects,” “anticipates,” “may”, “plans,” “believes,” “intends,” “projects,” “estimates,” and similar words or expressions. Forward-looking statements are not guarantees of performance, but rather reflect our current expectations, estimates, and forecasts about the industry and markets in which we operate, and our assumptions and beliefs based upon information currently available to us.  These statements are subject to risks and uncertainties which are difficult to predict or which we are unable to control, including but not limited to such factors as customer demand for advanced communications products,the U.S. economic crisis and its impact on capital spending trends withinin our market,markets, the financial condition of our suppliers and changes by them in their distribution strategies and support, technological changes, product mix, theour ability to attractmaintain and retain highly skilled personnel,improve upon current gross profit margins, unpredictable revenue levels from quarter to quarter, continuing acceptance and success of the Mitel product and services offering, intense competition and industry consolidation, dependence upon a few large wholesale customers in our Managed Services offering, the availability and retention of revenue professionals and certified technicians, and other risks and uncertainties specifically discussed under the heading “Risk Factors” under Part I of this report.  As a result of these risks and uncertainties, actual results may differ materially and adversely from those expressed in forward-looking statements.  Consequently, investors are cautioned to read and consider all forward-looking statements in conjunction with such risk factors and uncertainties.  The Private Securities Litigation Reform Act of 1995 provides a safe-harbor for forward-looking statements made by the Company.

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PART I

ITEM 1.  BUSINESS

Development and Description of Business

XETA Technologies, Inc. (“XETA”, the “Company”, “we”, “us”, or “our”), an Oklahoma corporation formed in 1981, is a leading providerintegrator of advanced cutting edge communications technologies withtechnologies.  Our offerings include a comprehensive array of leading edge products and services available from market leaders.services.  Our market focus is onincludes enterprise-class communications solutions and managed services, in the emerging, highly-technical world ofwith particular emphasis on converged communications.  We specialize in helpingassisting our customers as they transition from traditional voice telephony to Internet Protocol (“IP”) telephony and application based telephony, IP-based telephony enables our customerscommunication platforms also referred to as “converged communications”.  Our goal is to reduce theirour customer’s total communications costs and more effectivelyenable them to serve their own customers more efficiently through utilization of an array of advanced applications such ascommunications solutions.  These solutions include contact centers, message management systems, unified communications and integrated multi-media applications.  We provide these solutions and services to

Our market targets include a variety of companies such as enterprise-class multi-location, mid market and large sized enterprisescompanies located throughout the United States.  We also market our solutions and services to several vertical markets such as the hospitality industry, education, the federalFederal government, and the healthcare industry.healthcare.  We provide services through our nationwide network of Company-employed design engineers and service technicians as well asand our 24-hour, 7-days-per-week callcontact center located inat our headquarters building in Broken Arrow, Oklahoma.

We maintain the industry’s highest certifications as an Avaya Platinum National Business Partner, a Nortel Elite Advantage Partner, and a Mitel Premium PARTNER.  We distribute products and services for these manufacturers under nationwide, non-exclusive dealer agreements.  All three of the manufacturers provide us with important volume incentives and marketing expense reimbursements to carry their products.  We purchase their products from large distributors who also provide pricing and volume incentives.  We have distributed Avaya products since 1998 and Nortel products since 2004.  In October, 2007fiscal 2008, we added the Mitel product line to our product mix in response to market demand in the lodging industry.  Mitel is a market-leader in voice communications for the lodging industry and, like Avaya and Nortel, has transitioned its product line to server-based systems that work effectively in converged voice and data environments.   With the addition of Mitel products, we believe we will be able to expand our already strong market position in the lodging industry.

Our primary operating strategies in fiscal 2007 werecontinued to focus on our target customers,three primary strategies:  acquire, penetrate, and retain targeted customers; expand our wholesales services offerings,wholesale service offerings; and create furtherimprove alignment with our major business partners.  We

Our sales efforts target large, multi-location, national, or super-regional customers.  Our national technical footprint and 24/7/365 contact center are complimentary to the communication needs of these customers.  Additionally, these larger enterprises often have a mixture of manufacturer platforms within their communications equipment portfolio and our ability to sell and service both the Avaya and Nortel product lines is an important competitive advantage.  Because of our extensive array of products and services, at large enterpriseswe enjoy multiple sales opportunities with multiple locationsthese customers, including new product sales, implementation of advanced applications, and oftena variety of potential service relationships.  Once we establish a relationship with multiple technology platforms.  Larger enterprises fita customer, we search for opportunities to penetrate deeper into the account by assessing the customer’s communications needs, proposing appropriate technologies, establishing or expanding the service relationship, and proposing equipment and service solutions to other divisions or subsidiaries.

We launched our key market advantages such as nation-wide coverage, 24-hour operations, and ability to support both Avaya and Nortel products, capabilities that most regional and local integrators do not possess.  Our wholesale service strategy is based on partneringoffering in fiscal 2006 and its success has been a key contributor to our growth in recurring revenue.  Under this service offering, we collaborate with manufacturers, network service providers and largesystems integrators (“wholesale customers”) to provide services to their end-user customers.  Typically,In many instances, we provide field resources to carry out service responsibilities.  However, under a full outsourcing arrangement we may provide a broader range of services, or specificincluding call center support, remote technical expertise to supplement core services provided by our wholesale customers.support, on-site labor and spare parts.  Our ability to support multiple platforms is also often a key factor in this market as well.  Our success in expanding ourentry into the wholesale services revenues wasmarket has succeeded because we provide excellent service to end-user customers and our willingness to create and execute flexible service programs and billing arrangements.  The continued success of this strategic initiative is a key factor invital ingredient to our long-term goal of shifting our revenue growth in fiscal 2007 and is discussedmix toward more fully below.  recurring services revenues.

Finally, we improvedstrive to align our alignmentCompany’s sales, marketing, and services programs with those of our major business partners,manufacturing partners.  Avaya and Nortel in fiscal 2007.  This strategy is focusedapproach the communications technology market differently and therefore we have assigned separate executive sales management to each manufacturer’s products and services.  Our Avaya sales and marketing efforts focus on approaching the market in the manner which best fits each manufacturer.  For Avaya, this means partnering with themAvaya’s national sales force to sell equipment to the enterprise marketlarge and selling their service capabilitiesmedium sized enterprises and to sell Avaya implementation and post-warranty maintenance contracts.  ForOur Nortel this means approaching the market with a regionalinitiatives focus and aligningon creating relationships with Nortel’s regional sales management.  To accomplish significant progress towardmanagement to sell equipment and applications.  In addition, we work to deepen our relationships with key decision makers within Nortel’s Global Delivery Services organization to create wholesale service offerings for large Nortel end-users.  Since starting this initiative in late fiscal 2006, we dedicated senior sales management to each product linehave improved our relationships and have shaped each sales organization as well as their go-to-market strategies to more closely match their respective product lines.penetration with both Nortel and Avaya resulting in a demonstrable increase in equipment and services revenues.

In early fiscal 2007,2008, we completedbecame a transition plandealer for Mitel, selling their communications systems primarily to the lodging market.  Mitel provides us an opportunity to reach a market segment not previously services by us..  We expect to leverage our success in the Mitel product line into the commercial market in fiscal 2009.

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Services

Services revenue is our largest revenue stream.  Due to its recurring nature and generally higher profitability, this portion of our business is of vital importance to our operating results.  Our services product offering includes nation-wide customer service, project management, professional services, installation, consulting, and structured cabling implmentationimplementation to support our customers.  The geographic reach and technical breadth of our services organization are key differentiators between us and our competitors.

Our services organization includes our National Service Center (“NSC”) housed at our headquarters in Broken Arrow, Oklahoma.  The NSC supports our commercial and hospitality customers who have purchased maintenance contracts on their systems, as well as other customers who engage us on a T&Man hourly or per occurrence basis.  We employ a network of highly trained technicians who are strategically located in major metropolitan areas and can be dispatched by the NSC to support our customers in the field or to install new systems.  We also employ design and implementation engineers (which we refer to as our Professional Services Organization or “PSO”), to design voice, data, and converged networks to meet specific customer applications.requirements.  Much of the work done by the PSO represents pre-sales workdesign and is often not recovered in revenues, representingthis activity represents a

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significant investment.  We believe, however, that by hiring the most qualified personnel possible and keeping their talents in-house, we create a competitive advantage in the marketplace.advantage.

To our non-hospitality end-users of Nortel equipment, we sell our ownXETA maintenance contracts.  Additionally, we aggressively market our Nortel services capabilities to existing and potential wholesale customers.  By providing national coverage at competitive hourly rates, the NSC is a valuable resource to wholesale customers by providing geographic coverage and/or technical capabilities to service their customers directly.  Our largest wholesale customer is Nortel.  Nortel has maintenance contracts with many, “Fortune 1000”-type customers.  Nortel outsources much of the on-site service work for these customers to authorized service providers, such as XETA.  Nortel scores our service quality each quarter and according to Nortel, we enjoy the highest ratings of all their authorized service providers.  Our largest wholesale services opportunities are through potential relationships with the Regional Bell Operating Companies (“RBOCs”).  RBOCs are the largest Nortel dealers in the U.S. and as such have large installed bases of customers with Nortel systems.  Under a wholesale customer agreement, the RBOCs use the NSCXETA to service customers out of the RBOCs’ regional service area and/or handle overflow work during peak periods.  Another significantOur experience to date is that the sales cycle associated with the wholesale customerservice revenue is Nortel itself.  Nortel has maintenance contractslengthy.  We must first become qualified with many large, “Fortune 1000”-type customers.  Nortel out-sources muchthe targeted wholesale partner such as an RBOC or systems integrator.  Once qualified, we must negotiate a master service agreement with the wholesale partner.  When these are accomplished, we can begin to compete with other qualified service providers to win service programs with end-users.  Because most end-users in this segment of the on-sitemarket are large, super-regional or national enterprises, the contracts tend to also be large and highly competitive, leading to high service work for these customers to its authorized service providers, including us.level requirements and competitive prices.

For Avaya products sold to non-hospitality customers, we sell Avaya’s post-warranty maintenance contracts, for which we earn a commission.  These commissions are recorded as other revenues“Other Revenues” in our financial statements.statements and are material to our gross profits and net income.

For Avaya, Nortel, and Mitel communications systems sold to hospitality customers, we sell our ownXETA maintenance agreements.  For our proprietary products, we offer post-warranty service contracts to our hospitality customers under one-year and multi-year service contracts.  The revenues earned from the sale of our maintenance contracts are an important part of our business model as they provide a predictable stream of profitable recurring revenue.  We earn a significant portion of our recurring service revenues from hospitality customers who maintain service contracts on their systems.

For our distributed products, we typically pass on the manufacturer’s limited warranty, which is generally one year in length.  Labor costs associated with fulfilling the warranty requirements are generally borne by us.  For our proprietary call accounting products sold to the hospitality industry, we provide our customers with a limited one-year warranty covering parts and labor.labor warranty.

Services revenues represented 53%, 50%, and 49% of total revenues for fiscal years 2007, 2006 and 2005, respectively.  Marriott is a significant customer and services revenues earned from Marriott represented 13%, 15%, and 15% of total services revenues in fiscal years 2007, 2006, and 2005, respectively.

Marketing

We market our products and services primarily through our direct sales force to a wide variety of customers including large national companies, mid-size companies, hospitality industry, education market, Federal government, agencies, and the hospitalityhealthcare industry.

Because the technology we sell is now typically an application running on an existing data network, the focus of our marketing efforts has had to adjust toward data networking decision makers, many of whom are at the executive level of their organization .  These executives may have long-standing relationships with their data products and services dealers.  Furthermore, because most customers are making the decision to convert their traditional voice networks to IP-based platforms for the first time, the decision to do so is often considered riskier and is therefore being made at higher levels within the organization. As a result, we have also adjusted our marketing efforts to provide assurances to customers that we are capable of designing and implementing these new systems effectively.

We hold specific eventsIn addition to support our direct marketing directly to customers.  Additionally, a significantend-users, an important aspect of our marketing effort centers on our relationships with Avaya and Nortel.our manufacturers.  As a national dealer, for both manufacturers, we have certain technical and geographical capabilities that help differentiate us in the marketplace.  Wemarketplace and we aggressively market these capabilities to Avaya, Nortel, and Nortel.  BothMitel.  The manufacturers utilize

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Employees

We employed 364 and 309 employees at December 1, 2007 and 2006, respectively.

Copyrights, Patents And Trademarks

We own registered United States trademarks on the following names for use in the marketing of our hospitality services and systems: “XETA,” “XPERT,” “XL,” “Virtual XL,” and “XTRAMILE”.  All of these trademarks are registered on the principal register of the United States Patent and Trademark Office.

ITEM 1A.  RISK FACTORS

Our business and prospects are subject to many risks and uncertainties. The following items are representative of the risks, uncertainties and assumptions that could affect our business, our future performance and the outcome of theour forward-looking statements we make.statements.

Our business is affected by capital spending. Current economic conditions and the ability of our customers to access credit may reduce capital spending over the next twelve months and beyond.

The U.S. economy is mired in a recessionary contraction.  Credit availability is limited for nearly all enterprises and the outlook for corporate profits is uncertain.  These factors are contributing to a high degree of ambiguity concerning capital spending in 2009.  Because our business depends on capital spending for technology and equipment, we may experience a decline in demand for our products.  Such a decline may have a material, negative impact on our operating results and financial condition.

Our revenue for a particular period is difficult to predict, and a shortfall in revenue can harm our operating results.

Our systems sales, implementation, cabling, and other revenues for a particular quarter are difficult to predict.  Our total revenues may decline or grow at a slower rate than in past periods.  We have experienced periods during which shipments have exceeded net bookings, or manufacturing issues have delayed shipments, resulting in erratic revenues.  The timing of large orders, primarily in our systems sales, can also impact our quarter to quarter business and operating results.  From time to time, we receive large orders that have a significant effect on our operating results for the period that the revenue is recognized.  The timing of such orders is difficult to predict, and the timing of revenue recognition from such orders may result in period-to-period changes in net sales. As a result, our operating results could vary materially from quarter to quarter based on the receipt of such orders, and the ultimate recognition of revenue.  We set our operating expenses based primarily on forecasted revenues.  An unexpected shortfall in revenues could lead to lower than expected operating results if we are unable to quickly reduce these fixed expenses in response to short-term business changes.  Any of these factors could have a material adverse impact on our operations and financial results.

The lack of available credit may impair our ability to expand our business through acquisition.

Because of the uncertainty in the credit markets and the lack of credit available through traditional lending institutions, it may be difficult for us to finance acquisitions with traditional senior debt.  Despite our improved operating results, strong cash flows and low debt, our ability to secure senior debt financing is subject to the same limitations and costs affecting the market as a whole.

We believe that the combination of improved working capital, moderate levels of senior debt, and alternative methods of acquisition financing, such as seller notes and equity, will be sufficient to accomplish our goals for inorganic expansion in fiscal 2009.  However, there is no assurance that these sources of capital will materialize and/or be sufficient to pursue all the acquisition opportunities considered in the best interest of the Company.  As a result we may be unable to pursue certain reasonably priced, synergistic opportunities.

Nortel’s Chapter 11 bankruptcy filing may result in both a short-term and long-term financial loss for the Company.

Nortel filed a voluntary petition for Chapter 11 bankruptcy protection on January 14, 2009.  At the time of the filing the Company was owed approximately $500,000 in billed accounts receivable and approximately $100,000 in services rendered but not yet billed (“pre-petition claims”).  Nortel was current in its payments to us at the time of their filing.  Based on filings approved by the bankruptcy court which allow Nortel to pay for post-petition business operations, we plan to continue to provide services to Nortel’s end-user customers under our wholesale service relationship which currently produces approximately $3 million in annual revenues. If our pre-petition claims are not collectible either in whole or in large, we could experience material, negative operating results in the near term.  Furthermore, it is impossible to know with certainty what the long term impact of Nortel’s bankruptcy filing will have on our managed services revenues or our Nortel equipment business.  However, our ongoing revenues and future financial results could be successfulmaterially impaired in the event that Nortel is unable to fund its future operations; end-users elect to abandon their Nortel equipment for other

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products; Nortel implements dramatic changes to its business plan and strategies which negatively impact our relationship with Nortel as a business partner and/or vendor; the U.S. and global economic crisis negatively impacts Nortel’s ability to reorganize successfully; and/or Nortel is unable to continue as debtor in possession or to emerge from bankruptcy.

Telephone service in hotel rooms is now a net cost to most hotels and feature rich voice applications are of modest value in most hospitality locations.  As a result, the value of our product and service offerings to this market is declining.

Increasing use of cell phones by guests has caused a rapid decline in hotels’ revenues and gross profits earned from long distance and other telephone-related fees.  This development has severely reduced the importance of PBX and call accounting systems in hotels.  Additionally, many of the new voice applications have limited value in the hospitality market.  As a result, there is not a compelling financial reason or guest-driven need to replace existing equipment.  The primary uses of guest room phones are to access hotel amenities such as the front desk or room service or to call other guests.  Additionally, guest room phones are necessary to satisfy laws mandating access to 911 services in all guest rooms.  We believe that manufacturers who enjoy a significant share of the installed base of systems in the lodging market will develop low cost, shared, network dial tone that will meet the needs of hotel properties at prices that will produce a sufficient return on their investment.  While we are carefully monitoring these developments and are communicating frequently with the manufacturers on this subject, there is no assurance that hotels spending on PBX and call accounting systems and associated maintenance services will not continue to drop dramatically resulting in a material, negative impact our operating results.

Success in our overall strategy, a key component of which is to focus on the marketing of advanced communications products and applications and related services.services, may be difficult or even prevented by a variety of factors.

Our operating results may be adversely affected if we are not ableExpansion of our net profit margins and increasing our shareholders’ return on investment over the long term is highly dependent upon our ability to successfully position ourselves asbecome a leader in the sale, implementation, and ongoing maintenance of advanced communications.  Because of their sophistication and complex integration with both network and desktop software applications, including Microsoft Office products such as Outlook, these new advanced communications technologies.products are expected to earn higher margins than our current products  To be successful,succeed in these evolving markets, we must continue to:  train our sales employees on the capabilities and technical specifications of these new technologies; train our services employees to service these new products and applications; develop relationships with new types of qualified service providers to supplement our internal capabilities; and develop new relationships with different disciplines and at higher management levels within our customers’ organizations.

Additionally, because these technologies are still in the early stages of their development,market acceptance, we cannot predict whether: (i) the demand for advanced communications products, applications, and services, including IP telephony systems and UC, will grow as fast as we anticipate;anticipated; (ii) other new technologies may cause the market to evolve in a manner different than we expect; or (iii) technologies developed by manufacturers that we do not represent may become more accepted as the industry standard.

Finally, we cannot predict the impact of the current economic slowdown on the adoption of these technologies.  We believe that most customers will likely limit their capital investments to those with anticipated paybacks of one year or less.  While UC and other voice applications are predicted to enhance user productivity and improve the standardsecurity of certain intra-company communications, the return rate on these investments is yet unproven, therefore customers may choose to wait to invest.

We may experience severe declines in our industry.service revenues from the loss of a major wholesale services customer.

Our wholesale service revenues are generated from a few large customers who contract with us to provide a variety of services for specific end-user customers.  Typically, the end-user customer is a large corporation as well.  Our experience to date in these arrangements indicates that we may experience severe reductions in service revenues in the event that either the end-user or our customer selects a different service provider or changes their operating strategy regarding the delivery of these services.  The loss of one of our wholesale managed service customers could have a sudden, material, adverse effect on our operating results.

Our significant investment of resources into the launch ofmanufacturers could change their incentive programs, which may affect our Mitel product and services offering may not produce satisfactoryoperating results.

BeginningWe participate in the first quartervarious incentive programs with all of fiscal 2008,our major manufacturers.  The payments we receive under these programs are trainingmaterial to our technical workforce,operating results.  Our manufacturers could alter or discontinue these programs without notice, which could have a material, adverse effect on our PSO organization, and our hospitality sales team to design, sell, install and maintain Mitel products.  These investments may not produce the revenues and gross profits that we expect.operating results.

If we incur delays in our anticipated installation schedule, significant installation challenges, product performance issues, or weather-related catastrophes, our expected revenues and gross profits in fiscal 2008 from the sale of equipment and installation services to the Miami-Dade County Public School (“MDCPS”) system could be materially less than expected.

In November, 2007, we announced the award of a series of orders from MDCPS totaling in excess of $10 million to provide and install communications equipment.  The equipment for ten of the schools was shipped prior to the end of fiscal 2007 to support initial installations.  We expect the remaining revenues and gross profits to be recognized in fiscal 2008 based on current installation schedules.  However, we may experience delays in the installation schedule due to circumstances out of our control as we are reliant on MDCPS personnel to assist us in coordinating each installation.  Furthermore, we could experience delays or a halt in installations due to a variety of other factors including catastrophic weather conditions such as hurricanes which are prone to the Miami area.  Additionally, unexpected technical installation challenges or product performance issues could occur, also resulting in delays in the recognition of revenues or erosion of gross profits from these orders.

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Avaya was recently acquired by private investors who may materially alter Avaya’s strategies, including their vendor incentive programs, which might be detrimental to our operating results.

Avaya has been acquired by a consortium of private equity firms and is no longer a public company.  Avaya’s goals, focus and strategies may change materially as the new owners’ influence on Avaya’s operations increases.  The changes could be detrimental to our own strategies and goals and could negatively impact our short-term and or long-term operating results.

Additionally, Avaya has historically provided various financial incentive programs to support increasing the market share, promotion, and sale of its products.  The sum of these incentive amounts are material to our operating results.  Typically, Avaya announces changes to these programs at least annually, and in some years those changes have had a negative impact on the incentive payments we have received.  It is possible that as a result of strategic decisions by Avaya’s new owners, future changes could be more frequent and more adverse to our business model and, therefore, we may experience difficulty in maintaining the level of incentive payments which we have enjoyed in prior years.

The financial condition of Nortel is uncertain and actions they may take could hurt our operating results.

In recent years, Nortel has endured severe financial difficulties, made significant senior management changes, and restated its financial results numerous times.  Recent developments indicate that these financial and accounting difficulties may be subsiding.  However, substantial litigation and government investigations continue to be unresolved and it is possible that unfavorable outcomes or settlements of these matters might require Nortel to take actions that could be detrimental to our operating results or financial condition.

Microsoft Corporation has announced it is enteringentered the unified communicationsUC market, which could result in significant disruption to the current communications market landscape.

Microsoft Corporation (“Micrsosoft”Microsoft”) has announced several new products that will compete directly with existing Avaya and Nortel applications.  Microsoft represents a significant entrant into the converged communications market and may cause a significantconsiderable disruption to our strategy of aligning our efforts with current market leaders Avaya and Nortel.  The timing and quality of our reactionresponse to Microsoft’s entrance into the market, the quality of theseMicrosoft’s new products, and the market acceptance of these products will dictate the potentialmay result in positive or negative impact to us.on our business results.

We are faced withface intense competition fueled by rapid changes in the technologies and markets in which we operate.

The market for our products and services is highly competitive and subject to rapidly changing technologies.  As the industry evolves and new technologies and products are introduced, into the marketplace, new participants enter the market and existing competitors seeksearch for ways to strengthen their positions and expand their product/service offerings.  There has beenis a developing trend toward industry consolidation, which can lead tocould result in the creation of stronger competitors who may be better able to compete as a sole-source vendor for customers.  While we believe that through our transformation and expansion during the last few years, we are well-positionedwell positioned to compete effectively in the marketplace, our failure to maintain or enhance this position could adversely affect our business and results of operations.

Revenues and gross profits earned by hotels from guest calls continue to decline, which may result in hotels canceling their call accounting maintenance agreements with us.

Increasing use of cell phones by guests has caused a rapid decline in hotels’ revenues and gross profits earned from long distance and other telephone-related fees.  This development has severely reduced the importance of call accounting systems in hotels.  As a result, we have experienced some erosion in our base of maintenance contracts as customers cancelled their call accounting maintenance contracts with us.  In fiscal 2007 we earned $3.0 million in revenues associated with these maintenance contracts compared with $3.7 in fiscal 2006.  The additional loss of or reduction in these revenues could materially and negatively impact our operating results.

The success of our business depends significantly upon our ability to retain and recruit highly skilled personnel.

Our ability to attract, train, motivate and retain highly skilled and qualified technical and sales personnel is critical to our success.  Competition for such employees in the rapidly changing communications industry is fierce.  As we have transformed our company into an integratedintegrator of advanced communications solutions provider, we have invested heavily in the hiring and training of personnel to sell and service our portfolio of products and services.  If we are unable to retain our skilled employees or to hire additional qualified personnel as needed, it could adversely impact our ability to implement our strategies efficiently and effectively.

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The technology we sell is highly complex and changes rapidly, increasing our reliance upon the manufacturers for technical assistance and increasing the risk that our inventories on hand will become obsolete.

The communications equipment we sell is highly complex and requires significant technical resources to design, install, and maintain.  This complexity may require us to rely heavily upon the manufacturers’ technical staff to support the installation and maintenance of communications systems.  This reliance may result in lower services revenue or lower profit margins earned on our services revenue.  In addition to their complexity, the systems are evolving rapidly as product enhancements are introduced by the manufacturers.  These rapid changes present risks that our inventory on hand will become obsolete, resulting in the need to reduce sales margins to sell the equipment or in direct write-offs in the value of the equipment.  Any of these results would be detrimental to our profitability.

Our business is directly affected by capital spending trends in the United States and, in particular, market conditions for communications and networking equipment and services.

The direction and relative strength of the U.S. economy has recently been increasingly uncertain due to softness in the housing market, rising oil prices, and continuing geopolitical uncertainties.  Because our business is directly affected by capital spending on technology equipment in the U.S., our business would be directly and negatively impacted if these concerns continue to grow to the point that large enterprises begin curtailing their capital spending,.

The loss of either our Elite designation or Platinum Level statushighest level dealer certifications with Nortel and Avaya, respectively,any of our manufacturers could negatively impact our ability to differentiate our products and services in the market.market and could negatively impact our operating results.

BothWe hold the highest level of dealer certifications with Avaya, Nortel, and Avaya have different status levels for their business partnersMitel.  These certifications are based on technical and sales capabilities and purchasing volumes.  Currently, we hold the highest level of status with each manufacturer.volumes and are reviewed annually.  We emphasize the fact that we are one of the few providers in our market to have the highest statuscertification level with each manufacturer and we believe that this is a significant differentiator with some customers.customers who have two or more of the manufacturers’ products in their installed base.  Additionally, as a result of these certifications we receive enhanced manufacturer incentive payments which are material to our operating statements.  While we expect to be able to maintain the technical capabilities, sales skill sets, and purchasing volumes to maintain our statuses, a downgrade in our status with either manufacturer or both could have a material impact on our reputation in the market, which in turn could negatively impact our operating results.

The introduction of new products could result in reduced revenues, reduced gross margins, reduced customer satisfaction, and longer collection periods.

We are selling a variety of new, highly complex products that incorporate leading-edge technology, including both hardware and software.  The early versions of these products, which we are selling currently, can contain software “bugs” and other defects that can cause the products to not function as intended.  We will be dependent upon Avaya and Nortel to

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fix these problems as they occur.  An inability of the manufacturer to correct these problems quickly could result in damage to our reputation, reduced revenues, reduced customer satisfaction, delays in payments from customers for products purchased, and potential liabilities.

Compliance with new corporate governance and accounting regulations may require a material increase in our operating expenses beginning in fiscal 2008.2010.

We are required to comply with a host of new government-mandated corporate governance and accounting regulations, the most significant of which is section 404 of the Sarbanes-Oxley Act of 2002.  Under the current guidelines issued by the Securities and Exchange Commission, our managementauditors must attest on our report on internal controls over financial reporting must be complete by our fiscal year ended October 31, 2008 and our auditor’s attestation report on internal control over financial reporting will be initially required for our fiscalbeginning in the year ended October 31, 2010.  We believe, based on new guidance provided to small public companies from the Public Companies Accounting Oversight Board and discussions with our external auditors and consultants in this field, that expenditures required to comply with these regulations will not be material to our overall operating results.  However, since we have not completed our workbeen subject to this requirement in this area and will not complete it until the end of the fiscal year,past, we cannot provide assurance that we will not incur significant unexpected costs might be incurred which could materially impact our operating results.  Additionally, the Financial Accounting Standards Board (“FASB”) has issued new accounting standards related to fair value and business combination accounting.  These rules require significantly different accounting treatment for some items that are common in business combinations and as such, our financial results could be materially different for future acquisitions.

A significant portion of our expected growth in services revenues is dependent upon our relationship with a few wholesale customers.

Much of the current growth in our services business is coming from Nortel and Verizona few customers as they use us as a subcontractor to service many of their high profile end-user customers.  While weWe believe our relationship with these companies is strong future changesand to date our service ratings with them have been excellent.  However, our experience to date is that the end-users’ decisions to maintain their service agreements with our customers are dependent primarily on cost and other factors which are not under our control.  Therefore we can provide no assurance that we will not experience sudden declines in Nortel personnel, negativeour recurring service events, and competitive factors could jeopardize this revenue stream.revenues due to the loss of large service contracts by our wholesale customers.

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Hitachi’s decision to cease manufacturing communications systems for the hospitality market has caused some uncertainty with respect to our future relationship with our Hitachi installed base of hospitality customers.

Hitachi, once one of the leading suppliers of traditional PBX systems to the hospitality market, ceased selling systems for this market in March 2005.  We have many long-time hospitality customers with significant portfolios of Hitachi systems in their hotels.  We have several hundred Hitachi systems under service contracts producing recurring contract revenues and gross profits for our business.  Over the next six to seven to eight years, allmost of these customers will have to transition their communications systems to new platforms, presenting a risk to us that another vendor may be selected to service their communications systems.  Our entry into the Mitel product line is in part a response to Hitachi’s exit of the hospitality market.

While Hitachi’s exit from the market created some uncertainty in our relationship with existing customers, we believe our relationship with our Hitachi customers is strong.  Consequently, we believe that in most instances we will be in a favorable position to supply a new system to our customers when they decide to replace their Hitachi system.  Additionally, during the third quarter of fiscal 2006 we acquired the remaining assets and liabilities of Hitachi’s U.S. hospitality market.  Included in the assets acquired was a substantial supply of new and refurbished inventory that enables us to serve our Hitachi customers.  Despite these mitigating factors, no assurance can be given that Hitachi’s exit from this market will not negatively impact our financial results in the future.

We are connecting our products to our customers’ computer networks and problemsintegrating these products to existing customer-owned software applications such as the Microsoft Office Suite of desktop software.  In most cases, we are integrating our products to mission-critical networks and systems owned by the customer such as contact centers.  Problems with the implementation of these products could cause disruption and loss of revenues and gross profits to our customers’ entire operations.

Unlike traditional stand-alone voice systems, our new IP-based products and advanced voice applications are typically are connected to our customers’ existing local and wide area networks.  While we believe the risk of our products disrupting other traffic or operations on these networks is low, such problems could occur, which could cause significant disruption to our customers’ operations.operations, including potentially a loss of revenue, or the inability to access critical services such as 911 emergency services.  These disruptions, in turn, could result in reduced customer satisfaction, delays in payments from customers for products and services purchased, damage to our reputation, and potential liabilities.

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customers or us, alleging that the products we sell infringe on another’s proprietary rights.  Regardless of merit, such claims can be time-consuming, expensive, and/or require us to enter into costly license agreements.  In some instances, a successful claim could prevent us from selling a particular product or service.  We have not conducted patent searches on the third party-products we distribute to independently determine if they infringe upon another’s proprietary rights; nor would it be practical or cost-effective for us to do so.  Rather, we rely on infringement indemnities provided by the equipment manufacturers.  However, because these indemnities are not absolute and in some instances have limits of coverage, no assurance can be given that in the event of a claim, our indemnification by the equipment manufacturer will be adequate to hold us harmless or that we are entitled to indemnification by the equipment manufacturer.

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If any infringement or other intellectual property claim is brought against us succeeds, whether it is based upon a third-party manufacturer’s equipment that we distribute or upon our own proprietary products, our business, operating results and financial condition could be materially and adversely affected.

We are subject to a variety of other general risks and uncertainties inherent in doing business.

In addition to the specific factors discussed above, we are subject to risks that are inherent to doing business.Thesebusiness.  These include growth rates, general economic and political conditions, customer satisfaction with the quality of our services, costs of obtaining insurance, unexpected death of key employees, changes in employment laws and regulations, changes in tax laws and regulations, and other events that can impact revenues and the cost of doing business.

ITEM 1B.               UNRESOLVED STAFF COMMENTS

Not Applicable.

ITEM 2.  PROPERTIES

Our principal executive offices and the NSC are located in a 37,000 square foot, Company-owned, single story building located in a suburban business park near Tulsa, Oklahoma.  This facility also houses a warehouse and assembly area.  The building is located on a 13-acre tract of land subject to a mortgage held by Bank of Oklahoma, NA to secure our credit facility.

We have additional leased facilities located near St. Louis, Missouri.  In addition to our primary warehouse and shipping operation, this facility houses sales staff, technical design, professional services and installation support personnel.  Our Seattle branch office is located in leased office space in Bellevue, Washington, a suburb of Seattle.  This facility houses sales and technical personnel.

We also lease other office space throughout the U.S. for sales, consulting, and technical staff and have informal office arrangements with our regional technicians to allow for storage of spare parts inventory.staff.

ITEM 3.  LEGAL PROCEEDINGS

None.In April 2008, Design Business Communications, Inc., d/b/a/ American Telephone (“AMTEL”) filed a claim with the American Arbitration Association against us and Hitachi Telecom (USA) Inc. (“HITEL”) alleging a breach of AMTEL’s Authorized Distributorship Agreement with HITEL (“Distributor Agreement”).  We are named as a defendant in this matter because we acquired HITEL’s PBX business in 2006 and as part of that transaction, agreed to fulfill HITEL’s surviving service obligations to its authorized distributors under their distributor agreements with HITEL.  The AMTEL Distributor Agreement provides that AMTEL may order and HITEL shall provide “spare parts, software and third level technical support as required for the maintenance of HITEL PRODUCT for a period of ten years from the ship date of the HITEL PRODUCT.”  In April 2007, AMTEL placed a $12,000 order with us (as the party responsible for fulfilling HITEL’s surviving service obligations) under the Distributor Agreement for 48 new telephones, a product that had been previously discontinued by HITEL.  Because we do not believe that this order falls within the scope of obligations under the Distributor Agreement, we did not fulfill the order and AMTEL filed suit claiming breach of the Distributor Agreement.  AMTEL seeks damages as a result of the alleged breach in the amount of $5 million (for loss of service and spare part revenues; loss of business reputation; loss of customers; and possible claims by AMTEL customers for breach of its service obligations and sales and service warranties).  While HITEL is also contesting AMTEL’s claim, it has notified us that it will seek indemnity against us under the terms of the 2006 purchase and sale agreement between us and HITEL.

We are vigorously contesting AMTEL’s claim and in November 2008, all three parties to the arbitration signed a settlement agreement pursuant to which we have agreed to deliver to AMTEL a certain number of new phone sets in exchange for an agreed upon payment by AMTEL.  The settlement agreement provides us 120 days from the date of execution of the agreement to deliver the phones to AMTEL, and AMTEL has 30 days from the date of their receipt to pay for the phones.  In accordance with the terms of the settlement agreement, AMTEL has filed a dismissal of the arbitration without prejudice; and within ten days after receiving the phones from us, AMTEL is obligated to file a dismissal of the arbitration proceeding with prejudice.  Our ability to fulfill our obligations under the settlement agreement depends upon the performance of a third party who has agreed to manufacture the discontinued phones.

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ITEM 6.  SELECTED FINANCIAL DATA

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five, seven and ten years.  In fiscal 2005 we began amortizing the cost of those portions of the system that were ready for use.  Our operating results for fiscal years 2008 and 2007 include $906,000 and 2006 include $619,000, and $391,000, respectively, in amortization expense related to the project.

As noted above, our deferred tax liabilities increased $973,000 during fiscal 2008 and the balance of our noncurrent deferred tax liabilities was $5.5 million at October 31, 2008.  Most of this balance and the annual increase in this account are due to the difference in accounting for Goodwill between generally accepted accounting principles (“GAAP”) and the U.S. tax code.  Under GAAP, Goodwill is not amortized, but instead is evaluated for impairment.  This evaluation is conducted as conditions warrant, but not less than annually under the guidelines set forth in SFAS 142, “Goodwill and Other Intangible Assets”.  For tax purposes, Goodwill is amortized on a straight-line basis over 15 years.  As a result, the Company receives a tax deduction of approximately 1/15th of its Goodwill balance each year in its tax return.  This difference between $0 amortization expense being recorded in the GAAP-based operating statements and approximately $1.8 million in deductions taken on the tax return is recognized in the balance sheet as an additional noncurrent deferred taxliability.  The amount recorded is the difference multiplied by the effective tax rate.  This difference is recorded as a non current item because under GAAP deferred taxes are recorded as current or noncurrent based on the classification of the asset or liability which generated the deferred tax item.  The deferred tax liability associated with Goodwill accounting will not be reduced unless the Company records in impairment charge to Goodwill in a future accounting period.

At October 31, 20072008 the balance on our working capital revolver was $2.8$2.5 million, leaving $4.7$5.0 million available for additional borrowings.  We believe that this available capacity is sufficient for our operating needs for the foreseeable future.  The revolver isand the mortgage on our headquarters facility are scheduled to mature on September 23, 2008,30, 2009, however we expect to renew itthem for another 12-month periodand 36-month periods, respectively prior to its expiration.their expiration with similar terms.  At October 31, 2007,2008, we were in compliance with the covenants of our debt agreements except for a requirement to not exceed $900,000 in capital expenditures.  As discussed above, our capital expenditures were $1.3 million in fiscal 2007.  Our bank has granted a waiver of this technical violation of the credit agreement and we consider our relationship with our bank to be good.agreements.  In addition to the available capacity under our working capital line of credit, we believe we have access to a variety of capital sources such as additional bank debt,

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cash flow ratio.  A hypothetical 10% increase in interest rates would have increased our interest expense by approximately $9,000 in fiscal 2007 and would not have had a material impact on our financial position or cash flows.

ITEM 8.  FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA

The financial information required by this Item is incorporated by reference to the financial statements listed in Items 15(a)(1) and 15(a)(2), which financial statements appear at Pages F-1 through F-21 at the end of this Report.

ITEM 9.  CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND FINANCIAL DISCLOSURE

None.

ITEM 9A.9A(T).  CONTROLS AND PROCEDURES

Evaluation of Disclosure Controls and Procedures

We carried out, under the supervision and with the participation of our management, including our Chief Executive Officer and Chief Financial Officer, an evaluation of our disclosure controls and procedures (as defined in Rules 13a-15(e) and 15d-15(e) under the Securities Exchange Act of 1934, as amended (the “Exchange Act”)) as of the end of our fiscal year ended October 31, 2007.2008.  Based upon our evaluation, our Chief Executive Officer and Chief Financial Officer have concluded that our disclosure controls and procedures are effective to ensure that information required to be disclosed in reports that we file or submit under the Exchange Act are recorded, processed, summarized and reported within the time periods specified in Securities and Exchange Commission (“Commission”) rules and forms and that such information is accumulated and communicated to our management, including our CEO and CFO, as appropriate to allow timely decisions regarding required disclosure.forms.

Changes in Internal Controls

There were no significant changes in our internal controls or in other factors that could significantly affect these controls subsequent to the date of their evaluation. There were no significant deficiencies or material weaknesses, and therefore, there were no corrective actions taken.

Management Report on Internal Control over Financial Reporting

Our management is responsible for establishing and maintaining adequate internal control over financial reporting. Internal control over financial reporting is defined in Rules 13a-15(f) and 15d-15(f) promulgated under the Securities Exchange Act of 1934, as amended, as a process designed by, or under the supervision of, a company’s principal executive and principal financial officers and effected by a company’s board, management and other personnel to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for external purposes in accordance with GAAP and includes those policies and procedures that:

·                  Pertain to the maintenance of records that in reasonable detail accurately and fairly reflect the transactions and dispositions of the assets of a company;

·                  Provide reasonable assurance that transactions are recorded as necessary to permit preparation of financial statements in accordance with GAAP, and that receipts and expenditures of a company are being made only in accordance with authorizations of management and directors of a company; and

·                  Provide reasonable assurance regarding prevention or timely detection of unauthorized acquisition, use or disposition of a company’s assets that could have a material effect on the financial statements.

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Because of its inherent limitations, internal control over financial reporting may not prevent or detect misstatements.  Projections of any evaluation of effectiveness to future periods are subject to the risks that controls may become inadequate because of changes in conditions or that the degree of compliance with the policies or procedures may deteriorate.  Our management assessed the effectiveness of our internal control over financial reporting as of September 30, 2008.  In making this assessment, our management used criteria set forth by the Committee of Sponsoring Organizations of the Treadway Commission (COSO) in Internal Control-Integrated Framework.  Based on its assessment, our management believes that, as of September 30, 2008, our internal control over financial reporting was effective based on those criteria.

This annual report does not include an attestation report of the Company’s registered public accounting firm regarding internal control over financial reporting.  Management’s report was not subject to attestation by the Company’s registered public accounting firm pursuant to temporary rules of the Securities and Exchange Commission that permit the Company to provide only management’s report in this Annual Report.

ITEM 9B.  OTHER INFORMATION

None.

PART III

ITEM 10.  DIRECTORS, EXECUTIVE OFFICERS AND CORPORATE GOVERNANCE

Information required by this Item relating to directors is incorporated by reference to our definitive proxy statement to be filed with the Securities and Exchange Commission (the “Commission”) not later than 120 days after the close of our fiscal year ended October 31, 20072008 (the “Proxy Statement”), under the section “Proposal 1—Election of Directors.”

Information relating to executive officers required by this Item is incorporated by reference to the Proxy Statement under the section “Executive Officers.”

Other information required by this Item is incorporated by reference to the Proxy Statement under the section “Section 16(a) Beneficial Ownership Reporting Compliance,” and to the discussions “Code of Ethics,” “Nominating Committee” and “Audit Committee” under the section “Corporate Governance.”

We have adopted a financial code of ethics that applies to our CEO, CFO, controller, principal accounting officer and any other employee performing similar functions.  This financial code of ethics is posted on our website. The Internet address for our website is www.xeta.com, and the financial code of ethics may be found on the Investor Relations page under “Governance.”

We will satisfy the disclosure requirement under Item 5.05 of Form 8-K regarding any amendment to, or waiver from, a provision of this code of ethics by posting such information on our website, at the address and location specified above.

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ITEM 11.  EXECUTIVE COMPENSATION

Information required by this Item is incorporated by reference to the Proxy Statement under the sections “Executive Compensation” and “Director“ Compensation” of Directors, “ and to the discussion “Compensation Committee Interlocks” under the section “Corporate Governance”Interlocks and Insider Participation”.

ITEM 12.  SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT AND RELATED STOCKHOLDER MATTERS

Information relating to Equity Compensation Plans required by this Item is included in Part II of this Report in the table entitled “Equity Compensation Plan Information” under the caption “Market for the Registrant’s Common Stock and Related Stockholder Matters.”

Other information required by this Item is incorporated by reference to the Proxy Statement under the section “Security Ownership of Certain Beneficial Owners and Management.”

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ITEM 13.  CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS, AND DIRECTOR INDEPENDENCE

Information required by this Item is incorporated by reference to the Proxy Statement under the section “Certain Relationships and Related“Related Transaction” and to the discussion “Director Independence” under the section “Corporate Governance.”

ITEM 14.  PRINCIPAL ACCOUNTING FEES AND SERVICES

Information required by this Item is incorporated by reference to the discussion in the Proxy Statement “Fees“Audit Fees and Independence”Services” under the section “Proposal 2—Independent Public Accountants.”

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*  Indicates Exhibits filed with this report.

†  Indicates management contract or compensatory plan or arrangement.

(b)   See Item 15(a)(3) above.

(c)   See Item 15(a)(2) above.

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SIGNATURES

Pursuant to the requirements of Section 13 or 15(d) 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.

Pursuant to the requirements of the Securities Exchange Act of 1934, this report has been signed below by the following persons on behalf of the registrant and in the capacities and on the dates indicated.

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REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM

To the Board of Directors and Shareholders of

XETA Technologies, Inc.

We have audited the consolidated balance sheets of XETA Technologies, Inc. and subsidiary as of October 31, 20072008 and 2006,2007, and the related consolidated statements of operations, shareholders’ equity and cash flows for each of the three years in the period ended October 31, 2007.2008.  These financial statements are the responsibility of the Company’s management.  Our responsibility is to express an opinion on these financial statements based on our audits.  Tullius Taylor Sartain & Sartain LLP audited the financial statements of XETA Technologies, Inc. as of and for each of the two years in the period ended October 31, 2007, and merged with Hogan & Slovacek P.C. to form HoganTaylor LLP effective January 7, 2009.

We conducted our audits in accordance with the standards of the Public Company Accounting Oversight Board (United States).  Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. The Company is not required to have, nor were we engaged to perform, an audit of its internal control over financial reporting. Our audits included consideration of internal control over financial reporting as a basis for designing audit procedures that are appropriate in the circumstances, but not for the purpose of expressing an opinion on the effectiveness of the Company’s internal control over financial reporting. Accordingly, we express no such opinion.  An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements.  An audit also includes assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation.  We believe that our audits provide a reasonable basis for our opinion.

In our opinion, the consolidated financial statements referred to above present fairly, in all material respects, the financial position of XETA Technologies, Inc. and subsidiary as of October 31, 20072008 and 2006,2007, and the results of their operations and their cash flows for each of the three years in the period ended October 31, 2007,2008, in conformity with U.S. generally accepted accounting principles.

F-1

XETA TECHNOLOGIES, INC. AND SUBSIDIARY

CONSOLIDATED BALANCE SHEETS

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

F-2

XETA TECHNOLOGIES, INC. AND SUBSIDIARY

CONSOLIDATED STATEMENTS OF OPERATIONS