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 April 30,July 31, 2007

 

OR

 

o

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

 

Commission File Number 0-16231

XETA Technologies, Inc.

(Exact name of registrant as specified in its charter)

Oklahoma

 

73-1130045

(State or other jurisdiction of

 

(I.R.S. Employee

incorporation or organization)

 

Identification No.)

1814 W. Tacoma, Broken Arrow, OK

 

74012-1406

(Address of principal executive offices)

 

(Zip Code)

 

918-664-8200

(Registrant’s telephone number, including area code)

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

Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the past 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days.

Yesx

No x       No o

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, or a non-accelerated filer.  See definition of “accelerated filer and large accelerated filer”  in Rule 12b-2 of the Exchange Act.  (Check one):

Large accelerated filer o

Accelerated filer o

Non-accelerated filer x

 

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

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

Class

 

Outstanding at May 25,August 30, 2007

Common Stock, $.001 par value

 

10,214,741

 

 




INDEX

PART I. FINANCIAL INFORMATION

 

 

 

 

 

ITEM 1. FINANCIAL1.FINANCIAL STATEMENTS (Unaudited)

 

 

 

 

 

Consolidated Balance Sheets - April 30,July 31, 2007 and October 31, 2006

 

 

 

 

 

Consolidated Statements of Operations - For the Three and SixNine Months Ended April 30,July 31, 2007 and 2006

 

 

 

 

 

Consolidated Statement of Shareholders’ Equity - For the SixNine Months Ended April 30,July 31, 2007

 

 

 

 

 

Consolidated Statements of Cash Flows - For the SixNine Months Ended April 30,July 31, 2007 and 2006

 

 

 

 

 

Notes to Consolidated Financial Statements

 

 

 

 

 

ITEM 2.

MANAGEMENT’S DISCUSSION AND ANALYSIS

 

 

 

 

 

ITEM 3.

QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK

 

 

 

 

 

ITEM 4.

CONTROLS AND PROCEDURES

 

 

 

 

 

PART II. OTHER INFORMATION

 

 

 

 

 

ITEM 1.

LEGAL PROCEEDINGS

 

 

 

 

 

ITEM 1A. RISK FACTORS

 

 

 

 

 

ITEM 2.

UNREGISTERED SALES OF EQUITY SECURITIES AND USE OF PROCEEDS

 

 

 

 

 

ITEM 3.

DEFAULTS UPON SENIOR SECURITIES

 

 

 

 

 

ITEM 4.

SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS

 

 

 

 

 

ITEM 5.

OTHER5.OTHER INFORMATION

 

 

 

 

 

ITEM 6.

EXHIBITS

 

 

 

2




XETA TECHNOLOGIES, INC. AND SUBSIDIARY

CONSOLIDATED BALANCE SHEETS

 

 

April 30, 2007

 

October 31, 2006

 

 

 

(UNAUDITED)

 

 

 

 

 

 

 

 

 

ASSETS

 

 

 

 

 

Current assets:

 

 

 

 

 

Cash and cash equivalents

 

$

188,182

 

$

174,567

 

Current portion of net investment in sales-type leases and other receivables

 

386,221

 

329,619

 

Trade accounts receivable, net

 

11,333,316

 

12,245,507

 

Inventories, net

 

5,880,412

 

4,942,973

 

Deferred tax asset, net

 

797,311

 

709,343

 

Prepaid taxes

 

13,789

 

22,622

 

Prepaid expenses and other assets

 

606,377

 

300,738

 

Total current assets

 

19,205,608

 

18,725,369

 

 

 

 

 

 

 

Noncurrent assets:

 

 

 

 

 

Goodwill

 

26,392,881

 

26,420,669

 

Intangible assets, net

 

122,959

 

141,875

 

Net investment in sales-type leases, less current portion above

 

122,126

 

128,708

 

Property, plant & equipment, net

 

10,430,677

 

10,485,018

 

Other assets

 

27,475

 

11,124

 

Total noncurrent assets

 

37,096,118

 

37,187,394

 

 

 

 

 

 

 

Total assets

 

$

56,301,726

 

$

55,912,763

 

 

 

 

 

 

 

LIABILITIES AND SHAREHOLDERS’ EQUITY

 

 

 

 

 

 

 

 

 

 

 

Current liabilities:

 

 

 

 

 

Current portion of long-term debt

 

$

171,123

 

$

171,123

 

Revolving line of credit

 

513,317

 

3,119,445

 

Lease payable

 

 

810

 

Accounts payable

 

5,679,224

 

4,325,758

 

Current unearned revenue

 

2,392,342

 

1,802,665

 

Accrued liabilities

 

3,508,757

 

2,993,831

 

Total current liabilities

 

12,264,763

 

12,413,632

 

 

 

 

 

 

 

Noncurrent liabilities:

 

 

 

 

 

Long-term debt, less current portion above

 

1,440,404

 

1,525,950

 

Accrued long-term liability

 

351,250

 

436,850

 

Noncurrent unearned service revenue

 

74,293

 

79,132

 

Noncurrent deferred tax liability, net

 

3,859,757

 

3,572,089

 

Total noncurrent liabilities

 

5,725,704

 

5,614,021

 

 

 

 

 

 

 

Contingencies

 

 

 

 

 

 

 

 

 

 

 

Shareholders’ equity:

 

 

 

 

 

Preferred stock; $.10 par value; 50,000 shares authorized, 0 issued

 

 

 

Common stock; $.001 par value; 50,000,000 shares authorized, 11,233,529 issued at April 30, 2007 and October 31, 2006

 

11,233

 

11,233

 

Paid-in capital

 

13,115,545

 

13,067,676

 

Retained earnings

 

27,429,140

 

27,050,860

 

Less 1,018,788 shares of treasury stock, at cost

 

(2,244,659

)

(2,244,659

)

Total shareholders’ equity

 

38,311,259

 

37,885,110

 

Total liabilities and shareholders’ equity

 

$

56,301,726

 

$

55,912,763

 

(UNAUDITED)

 

 

July 31, 2007

 

October 31, 2006

 

 

 

 

 

 

 

ASSETS

 

 

 

 

 

Current assets:

 

 

 

 

 

Cash and cash equivalents

 

$

55,420

 

$

174,567

 

Current portion of net investment in sales-type leases and other receivables

 

436,578

 

329,619

 

Trade accounts receivable, net

 

14,597,339

 

12,245,507

 

Inventories, net

 

4,289,405

 

4,942,973

 

Deferred tax asset, net

 

999,438

 

709,343

 

Prepaid taxes

 

16,237

 

22,622

 

Prepaid expenses and other assets

 

671,616

 

300,738

 

Total current assets

 

21,066,033

 

18,725,369

 

 

 

 

 

 

 

Noncurrent assets:

 

 

 

 

 

Goodwill

 

26,378,987

 

26,420,669

 

Intangible assets, net

 

113,500

 

141,875

 

Net investment in sales-type leases, less current portion above

 

154,904

 

128,708

 

Property, plant & equipment, net

 

10,497,650

 

10,485,018

 

Other assets

 

7,657

 

11,124

 

Total noncurrent assets

 

37,152,698

 

37,187,394

 

 

 

 

 

 

 

Total assets

 

$

58,218,731

 

$

55,912,763

 

 

 

 

 

 

 

LIABILITIES AND SHAREHOLDERS’ EQUITY

 

 

 

 

 

Current liabilities:

 

 

 

 

 

Current portion of long-term debt

 

$

171,123

 

$

171,123

 

Revolving line of credit

 

2,476,446

 

3,119,445

 

Lease payable

 

 

810

 

Accounts payable

 

4,154,745

 

4,325,758

 

Current unearned revenue

 

2,667,493

 

1,802,665

 

Accrued liabilities

 

4,004,543

 

2,993,831

 

Total current liabilities

 

13,474,350

 

12,413,632

 

 

 

 

 

 

 

Noncurrent liabilities:

 

 

 

 

 

Long-term debt, less current portion above

 

1,397,632

 

1,525,950

 

Accrued long-term liability

 

244,900

 

436,850

 

Noncurrent unearned service revenue

 

91,061

 

79,132

 

Noncurrent deferred tax liability, net

 

4,291,990

 

3,572,089

 

Total noncurrent liabilities

 

6,025,583

 

5,614,021

 

 

 

 

 

 

 

Contingencies

 

 

 

 

 

 

 

 

 

 

 

Shareholders’ equity:

 

 

 

 

 

Preferred stock; $.10 par value; 50,000 shares authorized, 0 issued

 

 

 

Common stock; $.001 par value; 50,000,000 shares authorized, 11,233,529 and 11,233,529 issued at July 31, 2007 and October 31, 2006, respectively

 

11,233

 

11,233

 

Paid-in capital

 

13,146,230

 

13,067,676

 

Retained earnings

 

27,805,994

 

27,050,860

 

Less treasury stock, at cost (1,018,788 shares at July 31, 2007 and October 31, 2006)

 

(2,244,659

)

(2,244,659

)

Total shareholders’ equity

 

38,718,798

 

37,885,110

 

Total liabilities and shareholders’ equity

 

$

58,218,731

 

$

55,912,763

 

 

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


XETA TECHNOLOGIES, INC. AND SUBSIDIARY

CONSOLIDATED STATEMENTS OF OPERATIONS

(UNAUDITED)

 

For the Three Months

 

For the Six Months

 

 

For the Three Months

 

For the Nine Months

 

 

Ended April 30,

 

Ended April 30,

 

 

Ended July 31,

 

Ended July 31,

 

 

2007

 

2006

 

2007

 

2006

 

 

2007

 

2006

 

2007

 

2006

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Managed Services

 

$

8,792,452

 

$

7,248,178

 

$

17,569,215

 

$

13,667,118

 

Systems sales

 

7,762,223

 

7,556,449

 

14,789,071

 

13,257,725

 

 

$

8,657,120

 

$

7,791,020

 

$

23,446,191

 

$

21,048,745

 

Services

 

9,463,504

 

7,778,472

 

27,032,719

 

21,445,590

 

Other revenues

 

134,363

 

89,463

 

381,431

 

651,759

 

 

127,669

 

91,003

 

509,100

 

742,762

 

Net sales and service revenues

 

16,689,038

 

14,894,090

 

32,739,717

 

27,576,602

 

 

18,248,293

 

15,660,495

 

50,988,010

 

43,237,097

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Managed Services costs

 

6,116,344

 

5,197,965

 

12,464,441

 

10,293,864

 

Cost of systems sales

 

5,926,906

 

5,723,797

 

11,234,735

 

9,841,398

 

 

6,684,447

 

6,155,423

 

17,919,182

 

15,996,821

 

Services costs

 

6,557,194

 

5,120,431

 

19,021,635

 

15,414,295

 

Cost of other revenues & corporate COGS

 

446,730

 

436,582

 

889,870

 

1,129,243

 

 

477,190

 

224,989

 

1,367,060

 

1,354,232

 

Total cost of sales and service

 

12,489,980

 

11,358,344

 

24,589,046

 

21,264,505

 

 

13,718,831

 

11,500,843

 

38,307,877

 

32,765,348

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Gross profit

 

4,199,058

 

3,535,746

 

8,150,671

 

6,312,097

 

 

4,529,462

 

4,159,652

 

12,680,133

 

10,471,749

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Operating expenses

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Selling, general and administrative

 

3,713,011

 

3,315,060

 

7,241,421

 

6,142,258

 

 

3,705,080

 

3,574,585

 

10,946,501

 

9,716,843

 

Amortization

 

146,767

 

102,532

 

287,044

 

203,729

 

 

183,721

 

103,356

 

470,765

 

307,085

 

Total operating expenses

 

3,859,778

 

3,417,592

 

7,528,465

 

6,345,987

 

 

3,888,801

 

3,677,941

 

11,417,266

 

10,023,928

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Income (loss) from operations

 

339,280

 

118,154

 

622,206

 

(33,890

)

 

640,661

 

481,711

 

1,262,867

 

447,821

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Interest expense

 

 

(25,902

)

(10,387

)

(97,799

)

 

(28,536

)

(25,096

)

(38,923

)

(122,895

)

Interest and other income

 

8,890

 

11,377

 

26,461

 

19,591

 

 

8,729

 

13,671

 

35,190

 

33,262

 

Total interest and other income (expense)

 

8,890

 

(14,525

)

16,074

 

(78,208

)

 

(19,807

)

(11,425

)

(3,733

)

(89,633

)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Income (loss) before provision (benefit) for income taxes

 

348,170

 

103,629

 

638,280

 

(112,098

)

Income (loss) before provision for income taxes

 

620,854

 

470,286

 

1,259,134

 

358,188

 

Provision (benefit) for income taxes

 

140,000

 

47,000

 

260,000

 

(28,000

)

 

244,000

 

184,000

 

504,000

 

156,000

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Net income (loss)

 

$

208,170

 

$

56,629

 

$

378,280

 

$

(84,098

)

 

$

376,854

 

$

286,286

 

$

755,134

 

$

202,188

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Earnings (loss) per share

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Basic

 

$

0.02

 

$

0.01

 

$

0.04

 

$

(0.01

)

 

$

0.04

 

$

0.03

 

$

0.07

 

$

0.02

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Diluted

 

$

0.02

 

$

0.01

 

$

0.04

 

$

(0.01

)

 

$

0.04

 

$

0.03

 

$

0.07

 

$

0.02

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Weighted average shares outstanding

 

10,214,741

 

10,214,567

 

10,214,741

 

10,201,651

 

 

10,214,741

 

10,214,741

 

10,214,741

 

10,180,728

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Weighted average equivalent shares

 

10,214,741

 

10,214,606

 

10,214,741

 

10,205,033

 

 

10,214,741

 

10,214,741

 

10,214,741

 

10,208,553

 

 

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


XETA TECHNOLOGIES, INC. AND SUBSIDIARY

CONSOLIDATED STATEMENT OF SHAREHOLDERS’ EQUITY

(UNAUDITED)

 

Common Stock

 

Treasury Stock

 

 

 

 

 

 

 

 

Common Stock

 

Treasury Stock

 

 

 

 

 

 

 

 

Shares Issued

 

Par Value

 

Shares

 

Amount

 

Paid-in Capital

 

Retained Earnings

 

Total

 

 

Shares Issued

 

Par Value

 

Shares

 

Amount

 

Paid-in Capital

 

Retained Earnings

 

Total

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Balance- October 31, 2006

 

11,233,529

 

$

11,233

 

1,018,788

 

$

(2,244,659

)

$

13,067,676

 

$

27,050,860

 

$

37,885,110

 

 

11,233,529

 

$

11,233

 

1,018,788

 

$

(2,244,659

)

$

13,067,676

 

$

27,050,860

 

$

37,885,110

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Stock based compensation

 

 

 

 

 

47,869

 

 

47,869

 

 

 

 

 

 

 

 

 

 

78,554

 

 

 

78,554

 

Net Income

 

 

 

 

 

 

378,280

 

378,280

 

 

 

 

 

 

 

755,134

 

755,134

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Balance- April 30, 2007

 

11,233,529

 

$

11,233

 

1,018,788

 

$

(2,244,659

)

$

13,115,545

 

$

27,429,140

 

$

38,311,259

 

Balance- July 31, 2007

 

11,233,529

 

$

11,233

 

1,018,788

 

$

(2,244,659

)

$

13,146,230

 

$

27,805,994

 

$

38,718,798

 

 

The accompanying notes are an integral part of this consolidated financial statement.


XETA TECHNOLOGIES, INC. AND SUBSIDIARY

CONSOLIDATED STATEMENTS OF CASH FLOWS

(UNAUDITED)

 

For the Six Months

 

 

For the Nine Months

 

 

Ended April 30,

 

 

Ended July 31,

 

 

2007

 

2006

 

 

2007

 

2006

 

Cash flows from operating activities:

 

 

 

 

 

 

 

 

 

 

Net income (loss)

 

$

378,280

 

$

(84,098

)

Net income

 

$

755,134

 

$

202,188

 

 

 

 

 

 

 

 

 

 

 

Adjustments to reconcile net income (loss) to net cash provided by operating activities:

 

 

 

 

 

Adjustments to reconcile net income to net cash provided by operating activities:

 

 

 

 

 

Depreciation

 

253,561

 

253,077

 

 

393,304

 

380,300

 

Amortization

 

287,045

 

203,729

 

 

470,765

 

307,084

 

Stock based compensation

 

47,869

 

 

 

78,554

 

 

 

Loss (gain) on sale of assets

 

(5,000

)

4,184

 

 

(5,000

)

4,466

 

Provision for excess and obsolete inventory

 

51,000

 

51,000

 

 

76,500

 

76,500

 

Increase (decrease) in deferred taxes

 

315,456

 

(221,381

)

Change in assets and liabilities:

 

 

 

 

 

Increase in deferred tax liability

 

761,583

 

260,501

 

Change in assets and liabilities, net of acquisitions:

 

 

 

 

 

(Increase) decrease in net investment in sales-type leases & other receivables

 

(50,020

)

158,988

 

 

(133,155

)

224,028

 

Decrease in trade accounts receivable

 

912,191

 

833,235

 

(Increase) decrease in inventories

 

(988,439

)

979,258

 

(Increase) in trade account receivables

 

(2,351,832

)

(902,672

)

Decrease in inventories

 

577,068

 

587,705

 

(Increase) decrease in deferred tax asset

 

(87,968

)

146,495

 

 

(290,095

)

105,682

 

Increase in prepaid expenses and other assets

 

(321,990

)

(279,348

)

(Increase) in prepaid expenses and other assets

 

(367,411

)

(215,597

)

Decrease in prepaid taxes

 

8,833

 

61,269

 

 

6,385

 

57,669

 

Increase (decrease) in accounts payable

 

1,353,466

 

(1,401,362

)

(Decrease) in accounts payable

 

(171,013

)

(1,078,064

)

Increase in unearned revenue

 

584,838

 

728,402

 

 

876,757

 

464,468

 

Increase in accrued taxes

 

 

19,108

 

Increas in accrued taxes

 

 

28,662

 

Increase in accrued liabilities and lease payable

 

428,516

 

158,663

 

 

817,952

 

582,342

 

Total adjustments

 

740,362

 

883,074

 

 

 

 

 

 

Net cash provided by operating activities

 

3,167,638

 

1,611,219

 

 

1,495,496

 

1,085,262

 

 

 

 

 

 

 

 

 

 

 

Cash flows from investing activities:

 

 

 

 

 

 

 

 

 

 

Additions to property, plant & equipment

 

(467,349

)

(507,770

)

 

(848,326

)

(708,852

)

Proceeds from sale of assets

 

5,000

 

17,632

 

 

5,000

 

17,632

 

Net cash used in investing activities

 

(462,349

)

(490,138

)

 

(843,326

)

(691,220

)

 

 

 

 

 

 

 

 

 

 

Cash flows from financing activities:

 

 

 

 

 

 

 

 

 

 

Net payments on revolving line of credit

 

(2,606,128

)

(688,200

)

Principal payments on long-term debt

 

(85,546

)

(604,691

)

Proceeds from draws on revolving line of credit

 

19,563,572

 

18,048,711

 

Principal payments on debt

 

(128,318

)

(907,035

)

Payments on revolving line of credit

 

(20,206,571

)

(17,721,118

)

Exercise of stock options

 

 

52,584

 

 

 

52,584

 

Net cash used in financing activities

 

(2,691,674

)

(1,240,307

)

 

(771,317

)

(526,858

)

 

 

 

 

 

 

 

 

 

 

Net increase (decrease) in cash and cash equivalents

 

13,615

 

(119,226

)

Net (decrease) in cash and cash equivalents

 

(119,147

)

(132,816

)

 

 

 

 

 

 

 

 

 

 

Cash and cash equivalents, beginning of period

 

174,567

 

176,688

 

 

174,567

 

176,688

 

Cash and cash equivalents, end of period

 

$

188,182

 

$

57,462

 

 

$

55,420

 

$

43,872

 

 

 

 

 

 

 

 

 

 

 

Supplemental disclosure of cash flow information:

 

 

 

 

 

 

 

 

 

 

Cash paid during the period for interest, net of amount capitalized of $114,814 in 2007 and $146,596 in 2006

 

$

31,233

 

$

88,678

 

Cash paid during the period for interest, net of amount capitalized of $161,772 in 2007 and $227,934 in 2006

 

54,234

 

119,823

 

Cash paid during the period for income taxes

 

$

23,679

 

$

27,304

 

 

$

26,159

 

$

30,904

 

 

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

6





XETA TECHNOLOGIES, INC. AND SUBSIDIARY

Notes to Consolidated Financial Statements

April 30,July 31, 2007

(Unaudited)

1.  BASIS OF PRESENTATION:

XETA Technologies, Inc. (“XETA” or the “Company”) is a leading provider of communications solutions with nationwide sales and service locations nationwide, servingservice. XETA serves a diverse group of business clients in sales, engineering, project management, installation, and service support.  The Company sells products which are manufacturedproduced by a variety of manufacturers including Avaya, Inc. (“Avaya”), Nortel Networks Corporation (“Nortel”), and Spectralink Corporation.  In addition, the Company manufactures and markets a line of proprietary call accounting systems to the hospitality industry.  XETA is an Oklahoma corporation.

The accompanying unaudited consolidated financial statements have been prepared by the Company pursuant to the rules and regulations of the Securities and Exchange Commission (the “Commission”).  Certain information and footnote disclosures normally included in annual financial statements prepared in accordance with accounting principles generally accepted in the United States of America have been condensed or omitted pursuant to those rules and regulations, although the Company believes that the disclosures made are adequate to make the information presented not misleading.  It is suggested that these condensed financial statements be read in conjunction with the consolidated financial statements and the notes thereto made a part of the Company’s Annual Report on Form 10-K, Commission File No. 0-16231, which was filed with the Commission on January 16, 2007.  Management believes that the financial statements contain all adjustments necessary for a fair statement of the results for the interim periods presented.  All adjustments made were of a normal recurring nature.  The results of operations for the interim period are not necessarily indicative of the results for the entire fiscal year.  Certain reclassifications of prior year amounts have been made to conform to current year presentations.  These reclassifications had no impact on net income.

Segment Information

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

The reporting segments follow the same accounting policies used for the Company’s consolidated financial statements and described in the Summary of Significant Accounting Policies in the Company’s Form 10-K described above.  Company management evaluates a segment’s performance based upon gross margins.  Assets are not allocated to the segments.  Sales to customers located outside of the U.S. are immaterial.

The following is a tabulation of business segment information for the three months ended April 30,July 31, 2007 and 2006.

 

Managed

 

Commercial

 

Lodging

 

 

 

 

 

 

Services

 

Systems

 

Systems

 

Other

 

 

 

 

Revenues

 

Sales

 

Sales

 

Revenue

 

Total

 

 

Managed
Services
Revenues

 

Commercial
Systems
Sales

 

Lodging
Systems
Sales

 

Other
Revenue

 

Total

 

2007

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Sales

 

$

8,792,452

 

$

5,478,709

 

$

2,283,514

 

$

134,363

 

$

16,689,038

 

 

$

9,463,504

 

$

6,522,225

 

$

2,134,895

 

$

127,669

 

$

18,248,293

 

Cost of sales

 

(6,116,344

)

(4,192,565

)

(1,734,341

)

(446,730

)

(12,489,980

)

 

(6,557,194

)

(5,152,119

)

(1,532,328

)

(477,190

)

(13,718,831

)

Gross profit

 

$

2,676,108

 

$

1,286,144

 

$

549,173

 

$

(312,367

)

$

4,199,058

 

 

$

2,906,310

 

$

1,370,106

 

$

602,567

 

$

(349,521

)

$

4,529,462

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

2006

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Sales

 

$

7,248,178

 

$

5,324,036

 

$

2,232,413

 

$

89,463

 

$

14,894,090

 

 

$

7,778,472

 

$

6,280,894

 

$

1,510,126

 

$

91,003

 

$

15,660,495

 

Cost of sales

 

(5,197,965

)

(4,044,850

)

(1,678,947

)

(436,582

)

(11,358,344

)

 

(5,120,431

)

(4,987,908

)

(1,167,515

)

(224,989

)

(11,500,843

)

Gross profit

 

$

2,050,213

 

$

1,279,186

 

$

553,466

 

$

(347,119

)

$

3,535,746

 

 

$

2,658,041

 

$

1,292,986

 

$

342,611

 

$

(133,986

)

$

4,159,652

 

 


The following is a tabulation of business segment information for the sixnine months ended April 30,July 31, 2007 and 2006.

 

Managed

 

Commercial

 

Lodging

 

 

 

 

 

 

Services

 

Systems

 

Systems

 

Other

 

 

 

 

Revenues

 

Sales

 

Sales

 

Revenue

 

Total

 

 

Managed
Services
Revenues

 

Commercial
Systems
Sales

 

Lodging
Systems
Sales

 

Other
Revenue

 

Total

 

2007

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Sales

 

$

17,569,215

 

$

10,731,107

 

$

4,057,964

 

$

381,431

 

$

32,739,717

 

 

$

27,032,719

 

$

17,253,332

 

$

6,192,859

 

$

509,100

 

$

50,988,010

 

Cost of sales

 

(12,464,441

)

(8,176,796

)

(3,057,939

)

(889,870

)

(24,589,046

)

 

(19,021,635

)

(13,328,915

)

(4,590,267

)

(1,367,060

)

(38,307,877

)

Gross profit

 

$

5,104,774

 

$

2,554,311

 

$

1,000,025

 

$

(508,439

)

$

8,150,671

 

 

$

8,011,084

 

$

3,924,417

 

$

1,602,592

 

$

(857,960

)

$

12,680,133

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

2006

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Sales

 

$

13,667,118

 

$

9,512,891

 

$

3,744,834

 

$

651,759

 

$

27,576,602

 

 

$

21,445,590

 

$

15,793,785

 

$

5,254,960

 

$

742,762

 

$

43,237,097

 

Cost of sales

 

(10,293,864

)

(7,058,654

)

(2,782,744

)

(1,129,243

)

(21,264,505

)

 

(15,414,295

)

(12,046,562

)

(3,950,259

)

(1,354,232

)

(32,765,348

)

Gross profit

 

$

3,373,254

 

$

2,454,237

 

$

962,090

 

$

(477,484

)

$

6,312,097

 

 

$

6,031,295

 

$

3,747,223

 

$

1,304,701

 

$

(611,470

)

$

10,471,749

 

 

Stock-Based Compensation Plans

In December 2004, the Financial Accounting Standards Board (“FASB”) issued Statement of Financial Accounting Standards No. 123 (revised 2004), “Share-Based Payment” (“SFAS 123(R)”).  SFAS 123(R) requires companies to measure all employee stock-based compensation awards using a fair value method and recognize compensation cost in its financial statements.  The valuation provisions of SFAS 123(R) apply to new awards and to awards that are outstanding at the effective date and subsequently modified or cancelled.  The Company adopted on a prospective basis SFAS 123(R) beginning November 1, 2005 for stock-based compensation awards granted after that date and for unvested awards outstanding at that date using the modified prospective application method.  The Company recognizes the fair value of stock-based compensation awards as selling, general and administrative expense as appropriate in the consolidated statements of operations on a straight-line basis over the vesting period.  We recognized compensation in the statement of operations as follows.

 

2007

 

2006

 

Three months ended April 30,

 

$

23,935

 

$

 

 

 

 

 

 

 

Six months ended April 30,

 

$

47,869

 

$

 

 

2007

 

2006

 

Three months ended July 31,

 

$

30,685

 

$

 

 

 

 

 

 

 

Six months ended July 31,

 

$

78,554

 

$

 

 

Use of Estimates

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

Reclassifications

Certain reclassifications of prior year amounts have been made to conform to current year presentations.  These reclassifications had no impact on net income.

New Accounting Pronouncements

In June 2006, the FASB issued Interpretation No. 48 (“FIN 48”), Accounting for Uncertainty in Income Taxes—an interpretation of FASB Statement No. 109, to clarify certain aspects of accounting for uncertain tax positions, including issues related to the recognition and measurement of those tax positions. This interpretation is effective for fiscal years beginning after December 15, 2006, and therefore will apply beginning with the Company’s fiscal year endingended October 31, 2008. The Company is currently evaluating the impact of this interpretation.


In September 2006, the FASB issued Statement of Financial Standards No. 157, “Fair Value Measurements” (“SFAS 157”).  SFAS 157 defines fair value, establishes a framework for measuring fair value in accordance with accounting principles generally accepted in the United States, and expands disclosures about fair value measurements.  This statement does not require any new fair value measurements; rather, it applies under other accounting pronouncements that require or permit fair value measurements. The provisions of SFAS 157 are effective for fiscal years beginning after November 15, 2007.  The Company does not expect the adoption of SFAS 157 to have a material impact on the Company’s consolidated financial position or results of operations.

In February 2007, the FASB issued Statement of Financial Accounting Standards No. 159 (“SFAS 159”), “The Fair Value Option for Financial Assets and Liabilities”.  SFAS 159 permits entities to choose to measure many financial instruments and certain other items at fair value.  SFAS 159 will be effective for the Company’s fiscal year beginning November 1, 2008. Early adoption is permitted. The Company has not determined the impact, if any, that adopting this standard may have on its consolidated financial position or results of operations.

2.  ACCOUNTS RECEIVABLE:

 

 

 

(Audited)

 

 

April 30,

 

October 31,

 

 

2007

 

2006

 

 

July 31,
2007

 

(Audited)
October 31,
2006

 

 

 

 

 

 

 

 

 

 

 

Trade receivables

 

$

11,537,159

 

$

12,499,407

 

 

$

14,770,016

 

$

12,499,407

 

Less- reserve for doubtful accounts

 

(203,843

)

(253,900

)

 

(172,677

)

(253,900

)

Net trade receivables

 

$

11,333,316

 

$

12,245,507

 

 

$

14,597,339

 

$

12,245,507

 

 

3.  INVENTORIES:

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

 

 

 

(Audited)

 

 

April 30,

 

October 31,

 

 

2007

 

2006

 

 

July 31,
2007

 

(Audited)
October 31,
2006

 

 

 

 

 

 

 

 

 

 

 

Finished goods and spare parts

 

$

6,596,305

 

$

5,565,484

 

 

$

5,057,968

 

$

5,565,484

 

Less- reserve for excess and obsolete inventories

 

(715,893

)

(622,511

)

 

(768,563

)

(622,511

)

Total inventories, net

 

$

5,880,412

 

$

4,942,973

 

 

$

4,289,405

 

$

4,942,973

 

 


4.  PROPERTY, PLANT AND EQUIPMENT:

Property, plant and equipment consists of the following:

 

Estimated

 

 

 

(Audited)

 

 

Estimated
Useful
Lives

 


July 31,
2007

 

(Audited)
October 31,
2006

 

 

Useful

 

April 30,

 

October 31,

 

 

 

 

 

 

 

 

 

Lives

 

2007

 

2006

 

 

 

 

 

 

 

 

Building

 

20

 

$

2,397,954

 

$

2,397,954

 

Building and building improvements

 

3-20

 

$

2,500,095

 

$

2,397,954

 

Data processing and computer field equipment

 

3-10

 

2,614,814

 

2,469,671

 

 

2-7

 

2,630,170

 

2,469,671

 

Software development costs, work-in-process

 

N/A

 

4,728,432

 

5,274,299

 

 

N/A

 

3,704,041

 

5,274,299

 

Software development costs of components placed Into service

 

3-10

 

3,102,325

 

2,339,644

 

 

3-10

 

4,256,126

 

2,339,644

 

Hardware

 

3-5

 

599,751

 

599,751

 

 

3-5

 

599,751

 

599,751

 

Land

 

 

611,582

 

611,582

 

 

 

611,582

 

611,582

 

Office furniture

 

5

 

932,252

 

932,252

 

 

5-7

 

945,578

 

932,252

 

Auto

 

5

 

516,183

 

428,214

 

 

5

 

516,183

 

428,214

 

Other

 

3-7

 

261,870

 

252,780

 

 

3-7

 

254,780

 

252,780

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Total property, plant and equipment

 

 

 

15,765,163

 

15,306,147

 

 

 

 

16,018,306

 

15,306,147

 

Less- accumulated depreciation

 

 

 

(5,334,486

)

(4,821,129

)

 

 

 

(5,520,656

)

(4,821,129

)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Total property, plant and equipment, net

 

 

 

$

10,430,677

 

$

10,485,018

 

 

 

 

$

10,497,650

 

$

10,485,018

 

 

Interest costs related to an investment in long-lived assets are capitalized as part of the cost of the asset during the period the asset is being prepared for use.  The Company capitalized $114,814$161,772 and $146,596$227,934 in interest costs in the sixnine months ended April 30,July 31, 2007 and 2006, respectively.

5.  INCOME TAXES:

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

 

 

 

(Audited)

 

 

April 30,

 

October 31,

 

 

2007

 

2006

 

 

July 31,
2007

 

(Audited)
October 31,
2006

 

Deferred tax assets:

 

 

 

 

 

 

 

 

 

 

Net operating loss carryforward

 

$

1,576,855

 

$

1,156,913

 

 

$

1,365,031

 

$

1,156,913

 

Currently nondeductible reserves

 

289,044

 

256,764

 

 

309,977

 

256,764

 

Accrued liabilities

 

372,886

 

392,449

 

 

473,352

 

392,449

 

Prepaid service contracts

 

113,788

 

30,770

 

 

191,536

 

30,770

 

Stock based compensation expense

 

30,793

 

 

Other

 

32,569

 

40,436

 

 

35,232

 

40,436

 

Total deferred tax asset

 

2,385,142

 

1,877,332

 

 

2,405,921

 

1,877,332

 

 

 

 

 

 

 

 

 

 

 

Deferred tax liabilities:

 

 

 

 

 

 

 

 

 

 

Intangible assets

 

4,032,924

 

3,686,779

 

 

4,205,997

 

3,686,779

 

Depreciation

 

1,394,338

 

1,032,788

 

 

1,472,738

 

1,032,788

 

Tax income to be recognized on sales-type lease contracts

 

20,326

 

20,511

 

 

19,738

 

20,511

 

Total deferred tax liability

 

5,447,588

 

4,740,078

 

 

5,698,473

 

4,740,078

 

Net deferred tax liability

 

$

(3,062,446

)

$

(2,862,746

)

 

$

(3,292,552

)

$

(2,862,746

)

 

10





 

 

 

 

(Audited)

 

 

April 30,

 

October 31,

 

 

2007

 

2006

 

 

July 31,
2007

 

(Audited)
October 31,
2006

 

Net deferred liability as presented on the balance sheet:

 

 

 

 

 

 

 

 

 

 

Current deferred tax asset

 

$

797,311

 

$

709,343

 

 

$

999,438

 

$

709,343

 

Noncurrent deferred tax liability

 

(3,859,757

)

(3,572,089

)

 

(4,291,990

)

(3,572,089

)

Net deferred tax liability

 

$

(3,062,446

)

$

(2,862,746

)

 

$

(3,292,552

)

$

(2,862,746

)

 

The Company has recorded a tax provision of $260,000$504,000 or 41%40% and a tax benefit of $28,000$156,000 or 25%44% for the sixnine months ended April 30,July 31, 2007 and 2006, respectively, reflecting the statutory federal tax rate of 34% plus a blended state income tax rate of approximately 7%6% and the impact of minimum income tax payments in certain states.

6.  CREDIT AGREEMENTS:

The Company’s credit facility consists of a revolving credit and term loan agreement with a commercial bank including a mortgage agreement maturing on September 30, 2009 and amortizing based on a 13 year life and a $7.5 million revolving credit agreement to finance growth in working capital.  The revolving line of credit is collateralized by trade accounts receivable and inventories.  At April 30,July 31, 2007 and October 31, 2006, the Company had approximately $513 thousand$2.476 million and $3.119 million, respectively, outstanding on the revolving line of credit.  The Company had approximately $6.9$5.0 million available under the revolving line of credit at April 30,July 31, 2007.  Advance rates are defined in the agreement, but are generally at the rate of 80% on qualified trade accounts receivable and 40% of qualified inventories.  The revolving line of credit matures on September 28, 2007.2008.  Long-term debt consisted of the following:

 

 

 

(Audited)

 

 

April 30,

 

October 31,

 

 

2007

 

2006

 

 

July 31,
2007

 

(Audited)
October 31,
2006

 

 

 

 

 

 

 

 

 

 

 

Real estate term note, payable in monthly installments of $14,257 plus interest, plus a fixed payment of $1,198,061 due September 30, 2009, collateralized by a first mortgage on the Company’s building

 

$

1,611,527

 

$

1,697,073

 

 

$

1,568,755

 

$

1,697,073

 

 

 

 

 

 

 

 

 

 

 

Less-current maturities

 

171,123

 

171,123

 

 

171,123

 

171,123

 

 

 

 

 

 

 

 

 

 

 

Total long-term debt, less current maturities

 

$

1,440,404

 

$

1,525,950

 

 

$

1,397,632

 

$

1,525,950

 

 

Interest on all outstanding debt under the credit facility accrues at either a) the London Interbank Offered Rate (which was 5.32% at April 30,July 31, 2007) plus 1.25% to 2.75% depending on the Company’s funded debt to cash flow ratio, or b) the bank’s prime rate (which was 8.25% at April 30,July 31, 2007) minus 0% to minus 1.125% also depending on the Company’s funded debt to cash flow ratio.  At April 30,July 31, 2007, the Company was paying 7.875%7.125% on the revolving line of credit borrowings and 7.07%6.57% on the mortgage note.  The credit facility contains several financial covenants common in such agreements, including tangible net worth requirements, limitations on the amount of funded debt to earnings before interest, taxes, depreciation and amortization, limitations on capital spending, and debt service coverage requirements.  The Company was in compliance with these covenants at April 30,July 31, 2007.

7.  EARNINGS PER SHARE:

Basic earnings per common share were computed by dividing net income by the weighted average number of shares of common stock outstanding during the reporting periods.  Diluted earnings per common share were computed by dividing net income by the weighted average number of shares of common stock and


dilutive potential common stock outstanding during the reporting periods.  A reconciliation of net income and weighted average shares used in computing basic and diluted earnings per share is as follows:

 

For the Three Months Ended April 30, 2007

 

 

Income

 

Shares

 

Per Share

 

 

For the Three Months Ended July 31, 2007

 

 

(Numerator)

 

(Denominator)

 

Amount

 

 

Income
(Numerator)

 

Shares
(Denominator)

 

Per Share
Amount

 

Basic EPS

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Net income

 

$

208,170

 

10,214,741

 

$

0.02

 

 

$

376,854

 

10,214,741

 

$

0.04

 

Dilutive effect of stock options

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Diluted EPS

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Net income

 

$

208,170

 

10,214,741

 

$

0.02

 

 

$

376,854

 

10,214,741

 

$

0.04

 

 

 

For the Three Months Ended April 30, 2006

 

 

Income

 

Shares

 

Per Share

 

 

For the Three Months Ended July 31, 2006

 

 

(Numerator)

 

(Denominator)

 

Amount

 

 

Income
(Numerator)

 

Shares
(Denominator)

 

Per Share
Amount

 

Basic EPS

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Net income

 

$

56,629

 

10,214,567

 

$

0.01

 

 

$

286,286

 

10,214,741

 

$

0.03

 

Dilutive effect of stock options

 

 

 

39

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Diluted EPS

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Net income

 

$

56,629

 

10,214,606

 

$

0.01

 

 

$

286,286

 

10,214,741

 

$

0.03

 

 

 

For the Six Months Ended April 30, 2007

 

 

Income

 

Shares

 

Per Share

 

 

For the Nine Months Ended July 31, 2007

 

 

(Numerator)

 

(Denominator)

 

Amount

 

 

Income
(Numerator)

 

Shares
(Denominator)

 

Per Share
Amount

 

Basic EPS

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Net income

 

$

378,280

 

10,214,741

 

$

0.04

 

 

$

755,134

 

10,214,741

 

$

0.07

 

Dilutive effect of stock options

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Diluted EPS

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Net income

 

$

378,280

 

10,214,741

 

$

0.04

 

 

$

755,134

 

10,214,741

 

$

0.07

 

 

 

For the Six Months Ended April 30, 2006

 

 

Income

 

Shares

 

Per Share

 

 

For the Nine Months Ended July 31, 2006

 

 

(Numerator)

 

(Denominator)

 

Amount

 

 

Income
(Numerator)

 

Shares
(Denominator)

 

Per Share
Amount

 

Basic EPS

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Net loss

 

$

(84,098

)

10,201,651

 

$

(0.01

)

Net Income

 

$

202,188

 

10,180,728

 

$

0.02

 

Dilutive effect of stock options

 

 

 

3,382

 

 

 

 

 

 

27,825

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Diluted EPS

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Net loss

 

$

(84,098

)

10,205,033

 

$

(0.01

)

Net Income

 

$

202,188

 

10,208,553

 

$

0.02

 

 

Options to purchase 1,103,668978,668 shares of common stock at an average exercise price of $7.17$7.00 and 1,119,768  shares of common stock at an average exercise price of $7.17 were not included in the computation of diluted earnings per share for the three-three months ended July 31, 2007 and six-month periods2006, respectively, because inclusion of these options would be antidilutive.  Options to purchase 1,068,668 shares of common stock at an average exercise price of $6.69 and 1,105,668 shares of common stock at an average exercise price of $7.17 were not included in the computation of diluted earnings per share for the nine months ended April 30,July 31, 2007 and 2006, respectively, because inclusion of these options would be antidilutive.


ITEM 2.  MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

Preliminary Note Regarding Forward-Looking Statements

In the following discussion, we make forward-looking statements regarding future events and our future performance and results.  These and other 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, andoperate.  We base our assumptions and beliefs based uponon information currently available to us.  Forward-looking statements can generally be identified by words such as “expects,” “anticipates,” “may”, “plans,” “believes,” “intends,” “projects,” “estimates,” “targets,” “may,” “should” and similar words or expressions.  These statements are subject to risks and uncertainties which are difficult to predict or which wethat are unable tobeyond control, including but not limited to factors such factors as customer demand for advanced communications products; our dependence upon a few large companies to drive our growth in our Managed Services revenues; capital spending trends within our market,market; the financial condition of our suppliers and changes by them in their distribution strategies and support,; technological changes,; fluxuating margins and product mix,mix;, the ability to attract and retainacquiring and retaining highly skilled personnel and technical competencies; intense competition.  These and other risks and uncertainties are discussed under the heading “Risk Factors” under Part I of the Company’s Form 10-K for the fiscal year ended October 31, 2006 (filed with the Commission on January 16, 2007), and in updates to such risk factors set forth in Item 1A of Part II of this and previously filed quarterly reports filed for quarters during fiscal 2007.  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.

Overview

Strategy.  Our financial results inIn the third quarter of fiscal 2007, reflectwe continued our continued success in buildingefforts to grow our commercial Managed Services business. Thisbusiness, improve Managed Services margins, and align sales efforts with our major manufacturing partners.  Our third quarter results reflect improvement in all these areas, with the most important portionsignificant gains coming from our wholesale Managed Services offering.  Our total Managed Services gross margins were above 30% for the second consecutive quarter and year-to-date Managed Services gross margins have improved 2 points over the first three quarters of our business which includes recurring contract maintenance fees and time and materials (“T&M”) revenues, implementation fees, and cabling revenues earned from commercial customersfiscal 2006.  Systems sales increased $2.6 million or 75%11% in the first halfthird quarter due primarily to success in the sale of fiscal 2007 comparedNortel systems to last year. It is our foremost strategy to continue to buildthe commercial and lodging customer segments.  Finally, we also realized approximately 2 points of improvement in operating expense during the quarter.  All of these revenues through acquisitionitems are discussed more fully below under “Results of new services customers and deeper penetration into existing customers. This initiative is integral to our long-term strategy to reduce our dependence on systems sales in favor of more predictable, recurring services revenues.Operations”.

Operating Summary.  In the secondthird quarter of fiscal 2007, we earned $208,000 in net income of $377,000 on revenues of $16.7$18.2 million compared to net income of $57,000$286,000 on revenues of $14.9$15.7 million in the secondthird quarter of last year.  For the first sixnine months of fiscal 2007, we earned $378,000 in net income of $755,000 on revenues of $32.7$50.9 million compared to a net lossincome of $84,000$202,000 on revenues of $27.6 million.$43.2 million for the same period last year.  These improvements primarilypositive results reflect the increases in the Managed Services revenues earned from commercial customers asimprovements discussed above, coupled with improved gross margins on those revenues. These items as well asand other contributing factors which are discussed in more detail under “Results of Operations” below.

Financial Position Summary.  Our financial condition improved during the first halfthree quarters of fiscal 2007.  WeTo date in fiscal 2007 we generated positive cash flows from operations of $3.2 million in the quarter and used that cash primarily to reduce the borrowings on our$1.5 million., Our working capital revolver by $2.6 million or over 83%position improved 20%, and our total debt was reduced 16%.  These and other financial position items are discussed in more detail under “Financial Condition” below.

The following discussion presents additional information regarding our financial condition and results of operations for the three- and six-monthnine-month periods ending April 30,ended July 31, 2007 and 2006 and should be read in conjunction with our comments above as well as the “Risk Factors” section below.


Financial Condition

Cash provided by operations for the sixnine months ended April 30,July 31, 2007 was $3.2$1.5 million, consisting of net income and non-cash charges of $1$1.8 million, a reduction in accounts receivableinventory of $912,000,$577,000, and an increase in current liabilities of $2.7$2.3 million.  These increases were partially offset by an increase in inventoriesaccounts receivable of $988,000$2.4 million and other changes in working capital items which netted to a decrease in cash of $456,000.$789,000.  We used these cash flows to reduce our borrowings on our working capital line of credit by $2.6 million,$643,000, reduce our mortgage balance through scheduled principal payments by $85,000,$128,000, and to fund capital expenditures of $462,000.$843,000.  Non-cash charges included depreciation expense of $254,000,$393,000, amortization expense of $287,000,$471,000, stock-based compensation expense of $48,000,$79,000, and a provision for obsolete inventory of $51,000.$77,000.

At April 30,July 31, 2007 our total borrowings were $2.1$4.1 million, consisting of a mortgage on our headquarters building of $1.6 million and $513,000$2.5 million due on our revolving line of credit.  At April 30,July 31, 2007 there was $6.9$5.0 million available under the revolver to meet working capital needs.  There have been no stock repurchases to date under the repurchase program announced in October 2006.  Under the program, our board of directors authorized the Company to utilize up to $960,000 per year to repurchase our common stock in open market, block purchases or in privately negotiated transactions and at prices we deem appropriate.

The table below presents our contractual obligations at April 30,July 31, 2007 as well as payment obligations over the next five years:

 

 

 

Payments due by period

 

 

 

 

Less than

 

2 – 3

 

4 – 5

 

 

Payments due by period

 

 

Total

 

1 year

 

Years

 

Years

 

 

Total

 

Less than
1 year

 

2 – 3
Years

 

4 – 5
Years

 

Contractual Obligations

Contractual Obligations

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Long-term debt

Long-term debt

 

$

1,852,830

 

$

279,543

 

$

1,573,287

 

$

 

 

$

1,783,419

 

$

277,310

 

$

1,506,109

 

$

 

Operating leases

Operating leases

 

474,332

 

228,747

 

231,801

 

13,784

 

 

422,481

 

232,655

 

189,826

 

 

Total

 

 

$

2,327,162

 

$

508,290

 

$

1,805,088

 

$

13,784

 

 

$

2,205,900

 

$

509,965

 

$

1,695,935

 

$

 

 

Results of Operations

In the secondthird quarter of fiscal 2007, our revenues increased 12%17% or $1.8$2.6 million compared to the same period last year resulting in an increase inand our net income of $152,000increased $91,000 or 268%32%.  In the first sixnine months of the year, our revenues increased 19%18% or $5.2$7.8 million resulting in an increase in earnings of $462,000.and our net income increased $553,000 or 73%.  These improvedpositive results reflect improvements in all of our major revenue categories and improved margins in our Managed Services business.categories.  The narrative below provides further explanation of these results.

Managed Services Revenues.  Managed Services revenues consist of the following:

 

For the Three Months Ended

 

For the Six Months Ended

 

 

April 30,

 

April 30,

 

 

For the Three Months Ended
July 31,

 

For the Nine Months Ended
July 31,

 

 

2007

 

2006

 

2007

 

2006

 

 

2007

 

2006

 

2007

 

2006

 

Contract & T&M

 

$

6,309,000

 

$

5,491,000

 

$

12,314,000

 

$

10,476,000

 

 

$

6,745,000

 

$

5,762,000

 

$

19,059,000

 

$

16,238,000

 

Implementation

 

1,781,000

 

1,451,000

 

3,913,000

 

2,505,000

 

 

2,075,000

 

1,628,000

 

5,988,000

 

4,133,000

 

Cabling

 

702,000

 

306,000

 

1,342,000

 

686,000

 

 

644,000

 

388,000

 

1,986,000

 

1,075,000

 

Total Managed Services revenues

 

$

8,792,000

 

$

7,248,000

 

$

17,569,000

 

$

13,667,000

 

 

$

9,464,000

 

$

7,778,000

 

$

27,033,000

 

$

21,446,000

 

 

Managed Services revenues increased 21%22% for the quarter ending April 30,ended July 31, 2007 compared to the same period last year and 29%26% for the first halfnine months of fiscal 2007 compared to the same period in fiscal 2006.  This growth came fromis the acquisitionproduct of new commercial customersincreases in Contract and penetrationtime and materials (“T&M”) revenues in association with customer adoption of previously acquired customers adopting our wholesale Managed Services offerings andprogram.  Adding a new customer under the wholesale Managed Services offering typically means we begin providing field services support on behalf of our customer to a new end-user..  Revenues from increasesour wholesale service programs are in the form of contract maintenance fees or time charges for services provided.  Some accounts provide additional revenues from minimum monthly charges.  A key aspect to our national structured cabling initiative. Recurringsuccess with these programs has been our flexibility in structuring the service delivery model to meet the unique needs or demands of our customers’ end users.  These recurring contract and T&M revenues earned from commercial customers increased 48%$1.0 million or 17% in the secondthird quarter of fiscal 2007 and 59%increased $2.8 million or 17% in the year-to-date period ended July 31, 2007 compared to those same periods last year. Recurringa year ago.


Implementation services revenues from lodging customers increased 1%27% and 2%45% in the quarter and sixnine month periods ended April 30, 2007, respectively, compared to those same periods last year. The primary driver in the growth of our recurring commercial services revenues is from our newly established relationships with network providers, manufacturers, and systems integrators. Under these relationships, we


provide services on behalf of these customers, usually supporting the end user with our national field resources.

Implementation services revenues increased 23% and 56% in the quarter and six month periods ended April 30,July 31, 2007, respectively, compared to those same periods last year.  These increases primarily reflect higher systems sales and a highergreater proportion of more complex applications sold to date in fiscal 2007 which generatescompared to last year.  These complex applications generate disproportionately higher professional services and installation fees.  In the secondthird quarter of fiscal 2007, implementation revenues were 23%24% of systems sales compared to 19%21% in the secondthird quarter of fiscal 2006.  In the first sixnine months of fiscal 2007, implementation revenues were 27%26% of systems sales compared to 19%20% in the same period in fiscal 2006.  The complexity of implementations varies significantly between projects, but inprojects.  In general we expect implementation revenues, as a proportion of systems sales, to increase over time as the market continues to movemoves toward high-end, software-oriented voice applications, and as we increase our sales of stand-alone professional services such as call center tune-ups and network traffic studies.

Our structured cabling initiativerevenues grew 129%66% in the secondthird quarter and 96%85% in the first halfnine months of fiscal 2007, respectively, compared to those same periods in fiscal 2006.  The increases in these revenues are the result of our success in establishing a national structured cabling business that markets our cabling services to existing and new enterprisecustomers.  With this product and lodging customers.service offering, we are better able to compete for projects where structured cabling is wrapped into an overall communications infrastructure purchase.  We’re also able to compete for stand-alone structured cabling business often associated with new construction.  Our third quarter results reflect the initial cabling revenues from a $1.2 million cabling project, the largest such project in our history.  We expect revenues from this portion of our Managed Services business will improveproject to be recognized ratably over time, but is not yet a predictable revenue stream.the next three fiscal quarters.

Systems Sales.  Systems sales were $7.8$8.7 million in the secondthird quarter of fiscal 2007 compared to $7.5$7.8 million last year.year, an 11% increase.  Year-to-date systems sales were $14.8$23.4 million in fiscal 2007 compared to $13.3$21.0 million last year.year, also an 11% increase.  These increases reflect the strong systemssuccess in aligning our sales experiencedefforts with our major manufacturers.  Sales of Nortel and Avaya products have increased approximately 32% and 2%, respectively, in the first quarteryear-to-date period as compared to the same period last year.  Systems sales continue to be an unpredictable segment of fiscal 2007 which was due primarily to favorableour business as the timing of equipment shipmentsthe receipt of orders, product delivery, and low prior year comparisons. As expected, our year-to-date systems sales camecustomer installation schedules sometimes fluctuate dramatically.  Systems orders’ backlogs typically range from thirty to forty-five days providing short visibility into balance with the first half results from last year and produced a modest 3% increase. These increases included small increases in systems sales to both commercial and lodging customers. We expect our historical trend of stronger second half systems sales to be reflected in thefuture results for the balancethis line of the year.business.

Gross Margins.  The table below presents the gross margins earned on our primary revenue streams:

 

For the Three

 

For the Six

 

 

Months Ended

 

Months Ended

 

 

April 30,

 

April 30,

 

 

2007

 

2006

 

2007

 

2006

 

 

For the Three
Months Ended
July 31,

 

For the Nine
Months Ended
July 31,

 

Gross Margins

 

 

 

 

 

 

 

 

 

 

2007

 

2006

 

2007

 

2006

 

Managed Services revenues

 

30.4

%

28.3

%

29.0

%

24.7

%

 

30.7

%

34.2

%

29.6

%

28.1

%

Systems sales

 

23.6

%

24.3

%

24.0

%

25.8

%

 

22.8

%

21.0

%

23.6

%

24.0

%

Other revenues

 

-6.2

%

10.1

%

38.1

%

33.6

%

 

40.9

%

243.7

%

38.8

%

59.3

%

Corporate cost of goods sold

 

-1.8

%

-2.4

%

-2.0

%

-2.5

%

 

-2.2

%

-2.3

%

-2.1

%

-2.4

%

Total

 

25.2

%

23.7

%

24.9

%

22.9

%

 

24.8

%

26.6

%

24.9

%

24.2

%

 

We have enjoyed improvedThe gross margins fromearned on our Managed Services business in the first halfthird quarter represented the second consecutive fiscal quarter in which these margins were above 30%.  This level of fiscal 2007 as ourgross profits must continue to improve to enhance the long-term profitability of the company.  As Managed Services revenues have increased sufficiently to absorb our investments in all three major service initiatives. The most significant factor ingrown during the improvement in Managed Services gross margins is the growth of our recurring revenues from commercial customers. As these revenues began to grow during fiscal 2006,year, our gross margins on overall Managed Servicesthese revenues have improved as we were ablehave begun to absorbrealize a return on the extra costsinvestments we incurredmade to build our Nortel capability.  As discussed above,Gross margins earned on Managed Services in the third quarter of fiscal 2007 were lower than the same period last year due to unusually strong margins in the implementation and cabling sectors in the third quarter of fiscal 2006.  Our year-to-date margin improvement of almost 1.5 points better reflects the progress we have made in this portionarea of our business is our most important growth driver, as it represents the greatest opportunity for revenue growth while at the same time improving overall gross margins. Another factor helping improve overall Managed Services gross margins has been sustained higher implementation revenues during fiscal 2007. As discussed above, we have enjoyed higher levels of implementation and professional service fees as a proportion of total project orders to date in fiscal 2007. These higher revenues have helped to absorb our fixed personnel costs associated with maintaining our ability to design, sell and implement advanced communications networks. Finally, our success in increasing our structured cabling revenues has also helped to improve our Managed Services margins. The gross margins we earn on our structured cabling revenues depends upon the mix of cabling projects that are fulfilled with third party providers versus Company employees. This mix is determined primarily by the location and timing of the project.this year.


The gross margins on systems sales in the secondthird quarter of fiscal 2007were slightly improved over last year and forare essentially the first half of the fiscal year are within our targets for this revenue stream. The products we sell are becoming commoditized, putting greater pressure on pricing as the industry moves to server-based technology. As such, the primary value of the systems sold residessame in the year-to-date period.  We expect to earn gross margins of 23% to 25% on systems sales.  The gross margins earned in the current fiscal quarter are at the low end of that range and reflect strategic decisions to capture important market share near our headquarters.  Margins on systems sales have been under pressure for several years as hardware becomes commoditized.  We believe that we can sustain


current margins through emphasizing the sale of software applications installed onwhich typically carry greater margins as converged voice and data products continue to evolve.  Another key contributor to our systems sales margins is the hardware and, more importantly, in the design and configuration of those software applications.pricing support we receive from our vendors.  We expect these trends to continue and possibly accelerate. To offset these factors, we emphasize our in-house installation expertise, nationwide geographic presence, and after-installation care to focus customers on the value of purchasing systems from us. Additionally, we work closely with our distributors and manufacturersdiligently to maximize their pricing support. Our desire to maintain the gross marginsthis support; however, no assurance can be given that future support will continue at their historical levels may impact our revenue volumes and may limit our ability to increase our revenues.levels.

A final component to our gross margins is the margins earned on other revenues and our corporate cost of goods sold.  A portion of our other revenues typically represents sales and cost of goods sold on equipment or services outside our normal provisioning processes andprocesses.   These revenues by their nature vary significantly in both sales volume and gross margins earned.  Another segment of other revenues represents the sale of Avaya maintenance contracts for which we earn either a gross profit or commission from Avaya.commission.  We have no continuing service obligation associated with these revenues and gross profits.  This is an unpredictable revenue stream which is dependent upon expiration dates of existing contracts, installation dates of new systems, and the number of years that customers contract for services.  Corporate cost of goods sold represents our material logistics and purchasing functions that support all of our revenue segments.

Operating Expenses.  Our total operating expenses increased $442,000$211,000 or 13%6% in the secondthird quarter of fiscal 2007 compared to the secondthird quarter of fiscal 2006.  Operating expenses increased $1.2$1.4 million or 19%14% for the first halfnine months of fiscal 2007 compared to the same period a year ago.  Operating expenses have remained at approximately 23%were 21.3% of total revenues in the third quarter of fiscal 2007 compared to 23.5% a year ago and were 22.4% for all the comparison periods reflectingnine month period ended July 31, 2007 compared to 23.2% in the fact that most of the increases related to increased commissions and incentive compensation costs due to higher revenues and gross profits. Other increasesprevious year.  This improvement in operating expense margins was expected as we have made balanced investments in sales and administrative expenses included increased personnel coststo drive top-line growth.  We have targeted our operating expense margins to decline to between 18% and additional marketing expenses. Amortization expense in20% over the second quarter was $147,000 comparednext three to $103,000 in the second quarter last year. Year-to-date amortization expense was $287,000 compared to $204,000 for the same period last year.five years through economies of scale and improved operating efficiencies.

Interest Expense and Other IncomeOther incomeNet interest and other expense was $9,000$20,000 in the secondthird quarter of fiscal 2007 compared to net interest and other expense of $15,000$11,000 in the secondthird quarter of fiscal 2006.  For the sixnine month period ended April 30,July 31, 2007, net interest and other incomeexpense was $16,000$4,000 compared to $78,000 in net expense$90,000 in the same period of fiscal 2006.  These changes primarily reflect lower overall borrowing costs in 2007 compared to last year as a result of lowerdue to less outstanding debt.

Tax Provision.  We recorded a combined federal and state tax provision of 40%39% for the secondthird quarter of fiscal 2007 compared to 45% for the second quarter of fiscaland 2006. At lower levels of profitability, as experienced in the second quarter of fiscal 2006, minimum taxes required by certain state jurisdictions increases the tax provision rate.  For the six month periodnine months ended April 30,July 31, 2007, we recorded a tax provision of 41%40% compared to a tax benefitprovision of 25%44% for the first six months of fiscal 2006. As stated above,same period a year ago.  The tax provision recorded for the effect ofyear-to-date period reflects the effective federal tax rate plus the composite state income tax rates adjusted for states that require minimum state taxes reduced the impact of tax benefits resulting from the small operating loss reported in the first half of last year.payments even if tax losses are incurred.  Generally, we expect our tax provision rate to be approximately 40%.

ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK

Market risks relating to our operations resultresults primarily from changes in interest rates.  We did not use derivative financial instruments for speculative or trading purposes during the three or sixnine month periods ending April 30,ended July 31, 2007.

Interest Rate Risk.   WeDue to utilization of variable interest rate debt, we are subject to the risk of fluctuation in interest rates in the normal course of business due to our utilization of variable debt.business.  Our credit facility bears interest at a floating rate at either the London Interbank Offered Rate (“LIBOR”) (5.32% at April 30,July 31, 2007) plus 1.25% to 2.75% or the bank’s prime rate (8.25% at April 30,July 31, 2007) less 0.0% to minus 1.125%.  A hypothetical 1% increase in interest rates would not have a material impact on our financial position or cash flows.

16




ITEM 4.   CONTROLS AND PROCEDURES

Evaluation of Disclosure Controls and Procedures.  Based on an evaluation conducted as of April 30,July 31, 2007 by our management, including our Chief Executive Officer (“CEO”) and our Chief Financial Officer (“CFO”), our CEO and CFO have concluded that 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”) are effective to reasonably ensure that information required to be disclosed in reports that we file or submit under the Exchange Act, is recorded, processed, summarized and reported within the time periods


specified in Securities and Exchange Commission rules and forms, and that such information is accumulated and communicated to our management, including the CEO and CFO, as appropriate to allow timely decisions regarding required disclosure.

Changes in Internal Controls.  There were no changes in our internal controls or in other factors that could materially affect, or is reasonably likely to materially 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.

PART II.  OTHER INFORMATION

ITEM 1.  LEGAL PROCEEDINGS.

NoneNone.

ITEM 1A.  RISK FACTORS

The information presented below is an update to the “Risk Factors” included in the Company’s Annual Report on Form 10-K for the fiscal year ended October 31, 2006 and should be read in conjunction therewith.  Except as set forth below, the Risk Factors included in the Company’s Form 10-K for its 2006 fiscal year have not materially changed.

Our expected growth in Managed Services revenues will likely be derived from a handful offew large companies, therefore exposing us tocompanies.  This poses the risk of a significant negative impact in the event one or more of the loss of any one of suchthese companies as a customer.ends its business relationship with us.

To date, muchMuch of our success in growing the commercial portion of our Managed Services business has come from Nortela small number of very large customers who contractscontract with us to serve as a subcontractor to fulfill service requirements to end-user companies.  Our target market for our Managed Services offerings is manufacturers such as Nortel, large communications carriers such as the regional Bell Operating Companies, and systems integrators.  Typically, these companies will contract with us to provide field technical resources in the field on a subcontract basis and parts fulfillment.  The end-users served are often some of our customers’ largest and most prestigious clients and thereforeclients.  Therefore it is imperative that our customer satisfaction ratings remain high.  Once these revenue streams are established, the loss of any particular relationship could result in a material, adverse impact on our operating results.

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

None.

ITEM 3.  DEFAULTS UPON SENIOR SECURITIES.

None.


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

On April 3, 2007, at our Annual Meeting of Shareholders, the following directors were elected to the Board of Directors, and the votes cast for each nominee were as follows:None.

Nominee

 

For

 

Withhold

 

 

 

 

 

 

 

Ron B. Barber

 

9,145,783

 

426,254

 

Donald T. Duke

 

9,144,983

 

427,054

 

Edward F. Keller

 

9,288,590

 

283,447

 

Robert D. Hisrich

 

7,939,308

 

1,632,729

 

Jack R. Ingram

 

9,292,358

 

279,679

 

Ronald L. Siegenthaler

 

9,104,381

 

467,656

 

The shareholders also voted at the Annual Meeting to ratify the selection of Tullius Taylor Sartain & Sartain LLP as our independent auditors, with votes cast as follows:

For

 

Against

 

Withhold

 

9,290,484

 

258,674

 

22,879

 

ITEM 5.  OTHER INFORMATION.

On May 21, 2007 the Audit Committee of the Board of Directors retained Ron Barber to serve as an advisor to the Audit Committee for a fee of $15,000.  Mr. Barber, a director of the Company, is not a member of the Audit Committee.None.


ITEM 6.   EXHIBITS.

Exhibits (filed herewith):

SEC Exhibit No.

 

Description

10.1

Letter Agreement with Ron Barber

 

 

 

31.1

 

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

 

 

 

31.2

 

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

 

 

 

32.1

 

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

 

 

 

32.2

 

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


SIGNATURES

Pursuant to the requirements of the Securities Exchange Act of 1934, the Registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized.

 

XETA Technologies, Inc.

 

(Registrant)

 

 

 

 

Dated: May 25,September 7, 2007

By:

/s/ Jack R. Ingram    /s/ Greg D. Forrest

 

 

 

Jack R. IngramGreg D. Forrest

 

 

Chief Executive Officer

 

 

 

Dated: May 25,September 7, 2007

By:

/s/    /s/ Robert B. Wagner

 

 

 

Robert B. Wagner

 

 

Chief Financial Officer

 


EXHIBIT INDEX

SEC Exhibit No.

 

Description

10.1

Letter Agreement with Ron Barber

 

 

 

31.1

 

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

 

 

 

31.2

 

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

 

 

 

32.1

 

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

 

 

 

32.2

 

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

 

20