SECURITIES AND EXCHANGE COMMISSION

                             WASHINGTON, D.C. 20549

                                    FORM 10-K
                  ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d)
                     OF THE SECURITIES EXCHANGE ACT OF 1934

For the Fiscal Year Ended December 31, 1999       Commission File Number 0-26912
                          -----------------                              -------

                             VODAVI TECHNOLOGY, INC.
             ------------------------------------------------------
             (Exact name of registrant as specified in its charter)


             DELAWARE                                            86-0789350
   -------------------------------                           ------------------
   (State or other jurisdiction of                            (I.R.S. Employer
    incorporation or organization)                           Identification No.)

      8300 EAST RAINTREE DRIVE
         SCOTTSDALE, ARIZONA                                       85260
---------------------------------------                          ---------
(Address of principal executive offices)                         (Zip Code)

                                 (480) 443-6000
               --------------------------------------------------
              (Registrant's telephone number, including area code)

           Securities registered pursuant to Section 12(b) of the Act:
                                      None

           Securities registered pursuant to Section 12(g) of the Act:
                          Common Stock, $.001 par value

Indicate by check mark whether the registrant (1) has filed all reports required
to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during
the  preceding 12 months (or for such  shorter  period that the  registrant  was
required  to file  such  reports),  and  (2) has  been  subject  to such  filing
requirements for the past 90 days. Yes [X] No [ ]

Indicate by check mark if disclosure of delinquent  filers  pursuant to Item 405
of Regulation  S-K is not contained  herein,  and will not be contained,  to the
best of registrant's  knowledge,  in definitive proxy or information  statements
incorporated by reference in Part III of this Form 10-K or any amendment to this
Form 10-K. [ ]

At March 20, 2000, there were  outstanding  4,326,688 shares of the registrant's
common stock,  $.001 par value,  which excludes  226,800  treasury  shares.  The
aggregate  market value of common stock held by  nonaffiliates of the registrant
(2,990,083 shares) based on the closing price of the common stock as reported on
the Nasdaq National Market on March 20, 2000, was  $15,324,175.  For purposes of
this  computation,  all  officers,  directors and 10%  beneficial  owners of the
registrant are deemed to be affiliates.  Such determination should not be deemed
an admission  that such  officers,  directors or 10%  beneficial  owners are, in
fact, affiliates of the registrant.

Documents  incorporated by reference:  Portions of the  Registrant's  definitive
Proxy Statement for the 2000 Annual Meeting of Stockholders  are incorporated by
reference into Part III of this Report.
<PAGE>
                             VODAVI TECHNOLOGY, INC.
                           ANNUAL REPORT ON FORM 10-K
                       FISCAL YEAR ENDED DECEMBER 31, 1999

                                TABLE OF CONTENTS
                                                                            PAGE
                                                                            ----
PART I

   ITEM 1.  BUSINESS .......................................................  1
   ITEM 2.  PROPERTIES ..................................................... 20
   ITEM 3.  LEGAL PROCEEDINGS............................................... 21
   ITEM 4.  SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS............. 22

PART II

   ITEM 5.  MARKET FOR THE REGISTRANT'S COMMON EQUITY AND RELATED
            STOCKHOLDER MATTERS............................................. 22
   ITEM 6.  SELECTED CONSOLIDATED FINANCIAL DATA............................ 23
   ITEM 7.  MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
            AND RESULTS OF OPERATIONS ...................................... 24
   ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK...... 27
   ITEM 8.  FINANCIAL STATEMENTS AND SUPPLEMENTAL DATA...................... 28
   ITEM 9.  CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING
            AND FINANCIAL DISCLOSURE ....................................... 28

PART III

   ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT.............. 28
   ITEM 11. EXECUTIVE COMPENSATION.......................................... 28
   ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND
            MANAGEMENT...................................................... 28
   ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS.................. 28

PART IV

   ITEM 14. EXHIBITS, FINANCIAL STATEMENT SCHEDULES, AND REPORTS ON
            FORM 8-K........................................................ 28

SIGNATURES.................................................................. 31

                 STATEMENT REGARDING FORWARD-LOOKING STATEMENTS

     THE  STATEMENTS  CONTAINED  IN THIS REPORT ON FORM 10-K THAT ARE NOT PURELY
HISTORICAL ARE  FORWARDING-LOOKING  STATEMENTS  WITHIN THE MEANING OF APPLICABLE
SECURITIES LAWS.  FORWARD-LOOKING  STATEMENTS INCLUDE  STATEMENTS  REGARDING OUR
"EXPECTATIONS,"   "ANTICIPATION,"   "INTENTIONS,"   "BELIEFS,"  OR  "STRATEGIES"
REGARDING  THE  FUTURE.   FORWARD-LOOKING  STATEMENTS  ALSO  INCLUDE  STATEMENTS
REGARDING REVENUE, MARGINS,  EXPENSES, AND EARNINGS ANALYSIS FOR FISCAL 2000 AND
THEREAFTER;  TECHNOLOGICAL DEVELOPMENTS; FUTURE PRODUCTS OR PRODUCT DEVELOPMENT;
OUR  PRODUCT  AND  DISTRIBUTION   CHANNEL  DEVELOPMENT   STRATEGIES;   POTENTIAL
ACQUISITIONS  OR  STRATEGIC  ALLIANCES;  THE  SUCCESS OF  PARTICULAR  PRODUCT OR
MARKETING  PROGRAMS;  AND LIQUIDITY AND ANTICIPATED CASH NEEDS AND AVAILABILITY.
ALL FORWARD-LOOKING  STATEMENTS INCLUDED IN THIS REPORT ARE BASED ON INFORMATION
AVAILABLE  TO US AS OF  THE  FILING  DATE  OF  THIS  REPORT,  AND WE  ASSUME  NO
OBLIGATION TO UPDATE ANY SUCH  FORWARD-LOOKING  STATEMENTS.  OUR ACTUAL  RESULTS
COULD DIFFER MATERIALLY FROM THE FORWARD-LOOKING  STATEMENTS.  AMONG THE FACTORS
THAT COULD CAUSE RESULTS TO DIFFER  MATERIALLY ARE THE FACTORS DISCUSSED IN ITEM
1, "SPECIAL CONSIDERATIONS."

                                       i
<PAGE>
                                     PART I

ITEM 1. BUSINESS

                                  INTRODUCTION

         We design,  develop,  market,  and  support a broad  range of  business
telecommunications  solutions,  including telephony  products,  voice processing
products,  and  computer-telephony  products  for a  wide  variety  of  business
applications.   Our  telecommunications   solutions  incorporate   sophisticated
features,  such as automatic call  distribution  and Internet  protocol,  or IP,
gateways.  Our voice  processing  products  include  interactive  voice response
systems,  automated  attendant,  and voice and fax mail. Our  computer-telephony
products enable users to integrate the  functionality of their telephone systems
with their  computer  systems.  We market our  products  primarily in the United
States as well as in foreign countries  through a distribution  model consisting
of wholesale distributors, direct dealers, and our own direct sales personnel.

         Our   goal  is  to   develop,   deliver,   and   support   high-quality
telecommunications products and services that meet the demands of the markets we
serve. Key elements of our strategy to achieve that goal include the following:

        *   expand our core  business  of  supplying  telephone  systems,  voice
            processing  systems,  and  computer-telephony  integration,  or CTI,
            products;

        *   emphasize sales through our dealer programs;

        *   focus on the integration of existing and newly developed products to
            provide complete,  industry  standard-based  business communications
            solutions to our customers;

        *   expand   our   strategic   relationship   with  LG   Information   &
            Communications,   Ltd.,   or  LGIC,   which  is  a  member   of  the
            multi-billion  dollar,  Korean-based  LG  Group  with  which we have
            enjoyed a long-term relationship; and

        *   enhance  our  existing  products  and  expand our  product  lines by
            expanding  our  technological  expertise and  distribution  channels
            through

            --  business acquisitions, license arrangements, and other strategic
                relationships, and

            --  internal research and development efforts.

         Our  corporate  offices  are  located  at  8300  East  Raintree  Drive,
Scottsdale,  Arizona, and our telephone number is (480) 443-6000.  Our Web site,
which is not a part of this Report, is located at www.vodavi.com. All references
to our  business  operations  in this Report  include the  operations  of Vodavi
Technology, Inc. and our subsidiaries.

                                  OUR BUSINESS

INDUSTRY OVERVIEW

         Virtually every business today relies upon its business  communications
system  as  an  essential  tool  to  speed  and  enhance  the  effectiveness  of
communications  among  employees,  customers,  and vendors;  to contact decision
makers  regardless of their  location;  to increase  employee  productivity;  to
provide better customer  service;  and to reduce operating  costs.  Many factors
have  stimulated the growth of the  telecommunications  industry,  including the
following:

        *   successive technological developments that have resulted in enhanced
            features and services,

        *   advances in telephone and computer hardware and software,

        *   emphasis   on  the  use  of   communications   systems   to  provide
            cost-effective customer service,

        *   development  of  the  Internet  as  an  alternative  to  traditional
            telephone networks, and

                                       1
<PAGE>

        *   regulatory changes.

These factors have resulted in continual  development of full-featured  business
communications  systems designed for use by small- and  medium-sized  businesses
that can be offered at affordable prices.

         Accelerated   technological  advances  in  recent  years  have  enabled
telecommunications  system providers to develop sophisticated systems that offer
a wide  variety of  applications  in  addition  to  traditional  call  switching
functions.  Businesses  of all sizes now  demand  affordable  telecommunications
systems that provide the capacity for

        *   voice  processing  systems,  which automate call answering,  provide
            voice mail and automated call  distribution  functions,  and provide
            the capacity to manage facsimile messages;

        *   interactive  voice  response,  or IVR,  which  enables a business to
            provide  its  customers  with  automated  access  to the  business's
            database via telephone or the Internet; and

        *   computer-telephony  integration,  which greatly enhances  efficiency
            and productivity by integrating businesses' voice and data networks.

Automatic  call  distribution,  IP telephony,  and other  innovations  represent
significant  opportunities  for sales of new product lines and  applications  to
further  increase  employee  mobility  and  efficiency.  We  also  believe  that
international  sales of voice processing products will increase in the future as
demand for features such as voice mail,  interactive voice response, and unified
messaging increases.

         The following table  summarizes  recent  estimates  provided by Frost &
Sullivan  with respect to total market  revenue,  compound  annual market growth
rates,  and  average  retail  prices for each  business  communications  product
category listed.

<TABLE>
<CAPTION>
                                                                                       AVERAGE
                                ESTIMATED                          COMPOUND            RETAIL
                                   1999           PROJECTED         ANNUAL            PRICE PER
  PRODUCT SEGMENT                REVENUE           REVENUE        GROWTH RATE      STATION OR PORT
  ---------------                -------           -------        -----------      ---------------
                              (in millions)     (in millions)
<S>                             <C>               <C>                 <C>                  <C>
Key Telephone Systems           $2,510.0          $2,570.0(1)         2.0%                 $   303
Voice Messaging                    959.2           2,138.4(2)        14.4%         $1,000 - $6,000
Interactive Voice Response         962.0           2,091.3(2)        21.3%         $1,320 - $3,730
Server/PC-Based PBX                 78.8           1,028.9(1)        58.0%         $  200 - $1,100
Internet Telephony                 244.8(4)        3,158.5(3)       132.0%                  $1,055
</TABLE>

----------
(1) Represents projected market revenue for 2005.
(2) Represents projected market revenue for 2004.
(3) Represents projected market revenue for 2002.
(4) Represents estimated revenue for 1998.

OUR PRODUCTS

         We currently design, develop, market, and support a broad range of

        *   telephony  products,  which include digital and analog key telephone
            systems and commercial grade telephones;

        *   voice  processing   products,   including  IVR  systems,   automated
            attendant, automatic call distribution, voice mail and fax mail, and
            unified messaging systems; and

                                       2
<PAGE>
        *   computer-telephony  products,  including  Windows-based  application
            products (such as PC telephones and attendant consoles),  local area
            network (known as LAN) to PBX connection packages, IP gateways,  and
            Internet messaging systems.

TELEPHONY PRODUCTS

         KEY TELEPHONE SYSTEMS

         Sales of key telephone  systems  represented  approximately  70% of our
revenue during 1999 and  approximately  75% during 1998. A key telephone  system
consists primarily of a sophisticated switching unit located at the user's place
of business, along with the individual telephone sets and other devices, such as
facsimile  machines  or modems,  located  at  individual  "stations."  We supply
several models of key telephone sets, several of which are CTI compatible,  with
progressive  features  for use in  conjunction  with  each of our key  telephone
systems.

         We currently market various lines of key telephone  systems,  under our
STARPLUS,  Triad, and INFINITE brand names,  for businesses  requiring as few as
three  incoming  lines and eight  stations  up to 144 lines and 250  stations (a
384-port  system).  We sell the STARPLUS and Triad lines through large wholesale
distributors  and the INFINITE  line through  telephone  sales and  installation
companies known as "direct dealers."

         We market  both  digital and analog key  telephone  systems and related
products.  Our digital telephone systems employ a digital  architecture in order
to provide  digital  voice  transmission  and system  control,  while our analog
telephone  systems employ a  microprocessor-based  architecture  and solid state
switching  for voice  transmission  and system  control.  Most of our  telephone
systems feature flexible  software  combined with modular hardware and card slot
design,  which allow  cost-effective  system customization and expansion to meet
the needs of individual  users. Our telephone  systems are fully compatible with
industry-standard  commercial grade telephones and contain an extensive array of
standard  features  that  add  sophistication  generally  found  only in  larger
telephone  systems.  We design our key telephone  systems to permit expansion or
customization for specific business applications by installation of a variety of
voice processing or computer-telephony integration products.

         Our digital systems enable customers to upgrade their telephone systems
as their  businesses  grow and as  technology  advances  by adding or  replacing
components in stages without replacing their entire systems.  As a result, it is
generally more economical for the end users to expand their STARPLUS,  Triad, or
INFINITE  systems than to switch to a competitor's  system.  We believe that the
economy and flexibility we provide our customers through this migration strategy
provides us with a competitive advantage.

         COMMERCIAL GRADE TELEPHONES

         We  market  several  models  of  commercial  grade  telephones  through
wholesale  distributors for use with analog or digital key systems, PBX systems,
or telephone company central office, or Centrex, switching systems.  Businesses,
the  hospitality   industry,   and  school  districts  represent  the  principal
purchasers of our  commercial  grade  telephones.  All of our  commercial  grade
telephones  meet industry  standards for commercial  telephone  units and may be
used with telephone systems sold by us or by competing manufacturers.

         Our commercial grade telephones offer a myriad of features,  functions,
and designs  ranging from  simple,  traditionally  styled desk and  wall-mounted
telephones  to  programmable  telephones  with  contemporary  styling.  Our more
advanced commercial grade telephones contain a central processing unit, built-in
memory, built-in data jacks, built-in  speakerphones,  and the capability to use
custom calling features provided by local telephone companies.

         During 1999, we  discontinued  sales of our previous line of commercial
grade  telephones  and  introduced a new series of commercial  grade  telephones
primarily  targeted to the business  and  hospitality  markets.  Our new line of
commercial grade telephones offers more advanced  features,  including  built-in
Caller ID and other functions.  Sales of commercial grade telephones represented
approximately 10% of our revenue during 1999 as compared with  approximately 12%
during 1998.

                                       3
<PAGE>
VOICE PROCESSING PRODUCTS

         Voice  processing  includes  functions  designed  to  improve  customer
service and reduce labor costs while providing faster, more efficient routing of
incoming calls and speeding and  simplifying  message  delivery and storage.  We
design our voice processing  products to integrate with the telephone systems we
sell as well as those  sold by  competing  manufacturers.  While  we  frequently
market our voice processing  products  independently  of our telephone  systems,
during  1999 we  increased  the  percentage  of  sales of our  voice  processing
products  that were bundled  with sales of our key  telephone  systems.  We also
cultivate the  expansion of our existing  base of telephone  systems by offering
digitally  integrated  voice  processing  systems for our STARPLUS,  Triad,  and
INFINITE product lines to differentiate them from our competitors'  products and
to provide a value-added  basis for increased sales and profit margins.  Sale of
voice processing  products accounted for approximately 20% of our revenue during
1999 and approximately 13% during 1998.

         VOICE MAIL SYSTEMS

         Voice mail  enables  callers to leave  detailed  messages  and  permits
recipients to retrieve  messages when they return to their offices or by dialing
into the system from remote telephones.  Each voice mailbox can be customized to
the individual user's needs. Voice messages can be stored,  replayed,  saved, or
erased as desired by the user.  The menu routing  functions  included in some of
our voice mail systems  enable  business  users to program the systems to create
custom,   multi-level   menus  that  permit  callers  to  automatically   access
organizational  departments or product, service, or event information by dialing
menu choices.

         In addition to our larger voice processing systems, we market a line of
self-contained,  competitively  priced  voice  processing  systems  designed for
small- to medium-sized  organizations.  These systems, which work in conjunction
with key  telephone  systems sold by us as well as other  manufacturers,  can be
expanded  from two ports up to eight  ports,  feature a full range of  automated
attendant and voice mail functions, and include a serial port for administration
via the user's laptop PC.

         ADVANCED MESSAGING PLATFORM

         Our Microsoft(R)  Windows  NT-based  messaging  systems,  which provide
virtually unlimited port capacities, combine voice mail functions with facsimile
messaging  capabilities  (known  as fax  mail) as well as the  ability  to share
messages with other voice messaging systems over the Internet. Fax mail provides
the ability to receive,  store,  retrieve, and forward facsimile messages in the
same  manner  that  voice  mail  handles  voice  messages.  Our fax mail  system
digitizes and stores facsimile messages and notifies the user that messages have
been received.  The user can retrieve and print the  facsimiles  from his or her
office or remote  locations  (such as a hotel  room) and can also  instruct  the
system  to  forward  facsimiles  to other  recipients.  "Fax-on-demand"  enables
callers to access information stored by a business,  such as sales and marketing
brochures, technical specifications, and pricing data, and request the system to
transmit the desired information to the caller's facsimile machine.

         Our Windows  NT-based  system also uses  Internet  e-mail  protocols to
enable voice  messages to be transported  over the Internet or other  electronic
fields for efficient,  low-cost  information exchange between remote systems. In
addition,  our Windows NT-based Internet fax delivery systems connect the user's
telephone  and  computer  to enable the user to transmit  facsimile  messages or
documents to  conventional  facsimile  machines via the Internet.  These systems
provide  ease of use and avoid  problems  associated  with  e-mail  attachments,
mismatched data encryption techniques, or private or switched network costs. Our
Internet fax delivery systems provide spoken prompts that guide the user through
the transmission process and also transmit delivery  confirmations to the user's
mailbox.  As a result,  a business  with  multiple  offices can extend its voice
messaging  system so as to permit  employees in  different  locations to create,
receive,  answer, or forward voice and facsimile  messages via the Internet more
quickly,  efficiently, and economically than traditional long-distance telephone
calls.

         Our Windows NT-based system also uses Microsoft(R)  Exchange technology
to provide unified messaging.  Unified messaging enables users to access e-mail,
voice mail,  facsimiles,  and paging  messages in a single session

                                       4
<PAGE>
at a  personal  computer.  The  system  displays  a listing of all of the user's
messages  and enables the user to access and control all of his or her  messages
with a click of the computer mouse.

         INTERACTIVE VOICE RESPONSE

         Our IVR  system  connects  a  business's  telephone  system to its host
computer in order to permit the use of any telephone to access and store certain
information in the business's  database.  This interactive  connectivity permits
callers to conduct  transactions,  such as placing orders,  checking  inventory,
tracking order shipments,  or querying account information,  from any telephone.
IVR uses voice prompts to communicate the steps required to enable the caller to
input  information  to  or  retrieve   information  from  the  database  and  to
communicate  information to the caller. The open architecture  design of our IVR
system provides unlimited scalability by permitting users to increase the number
of ports or voice  storage  capacity  simply by  plugging in more voice cards or
disk drives and by linking  multiple  devices into networks to create  virtually
unlimited  configurations.  Users may enhance  the system by adding  independent
off-the-shelf  software  modules that can be  seamlessly  integrated  to provide
additional  features,  such as call routing,  voice  messaging,  web-based  IVR,
speech recognition, and text-to-speech capabilities.

         AUTOMATIC CALL DISTRIBUTION

         We market our automatic call distribution, or ACD, software systems and
ACD  reporting  packages  for use with our digital key  telephone  systems.  The
automatic call  distribution  functions  enable  businesses that receive a large
volume of customer calls, such as catalog sales  operations,  to manage incoming
calls  efficiently by directly  routing them to the proper person or group.  Our
ACD systems reduce the number of abandoned calls by reducing the number of calls
placed on hold and by minimizing the length of time that calls are kept on hold.
When all group member telephones are busy, ACD plays a custom "hold" message for
the caller and connects the call to the first  available  person or sales agent.
ACD saves  employee time by eliminating  the necessity of continually  answering
and  transferring  calls to the same  groups.  ACD enables  agents with  display
telephones  to see the number of calls waiting in queue as well as the length of
the  longest  waiting  call in order to speed  call  handling  at times of heavy
calling activity.  Our ACD reporting package provides  real-time  statistics and
comprehensive reports on calling activity for review by the user's management.

COMPUTER-TELEPHONY INTEGRATION PRODUCTS

         We  design,   develop,  and  market  CTI  products  that  use  an  open
architecture  to integrate  computer and telephone  systems into a user-friendly
information  processing  and storage  system.  We believe that  developing  more
value-added CTI applications  for our telephone  systems will enhance the appeal
of our  product  lines  and  enable  us to  sell  more  key  telephone  systems,
full-featured  telephones,  and other  software  packages and add-on  peripheral
products.  We market CTI  products  that  enable a user to use the  Internet  to
access voice, facsimile, and e-mail messages via personal computer;  incorporate
telephone functions with computer software to speed call handling and permit the
user  to  personalize   telephone  functions;   identify  incoming  callers  and
immediately access computer files relating to the caller;  connect Windows-based
local  area  networks  to  the  user's   telephone   system;   and  quickly  and
inexpensively access and analyze call accounting information.

NEW PRODUCT DEVELOPMENT

         We engage in an ongoing program to develop enhancements to our existing
product lines and to develop new products that address the increasing demands of
business organizations for low-cost productivity enhancing communications tools.
We believe that  continuous  development  of new  products and features  will be
necessary to enable us to offer telephony  systems,  voice processing  products,
computer-telephony  products, and related business  communications products that
will be in greatest demand and that will provide the best  opportunities for our
growth and profitability on an ongoing basis.  Since 1994, we have developed and
introduced several new or enhanced products and product lines, including new ACD
reporting  packages,  additional  enhancements  to our  Windows  NT-based  voice
messaging  systems  and our IVR  systems,  a new line of digital  key  telephone
systems, a new line of commercial grade telephones, and an IP gateway.

                                       5
<PAGE>
         We  currently  are  focusing  our new  product  development  efforts on
developing  and  refining  enhancements  that  will  deliver  greater  features,
sophistication,  functionality,  and value to our current product offerings. For
example, we currently are developing

        *   a 144-port digital switch for our STARPLUS DHS line of products;

        *   desktop telephones with large-screen LCD displays;

        *   a  new  caller  ID  telephone  for  our  line  of  commercial  grade
            telephones;

        *   new software releases for our Triad and INFINITE product lines; and

        *   a LAN card that will enable our digital  switches to network  with a
            business  LAN and to serve as an imbedded IP gateway for  connecting
            with voice over IP  networks.  This will allow users of our existing
            technologies to migrate towards the benefits of IP telephony.

         We have strategic  alliances with LGIC and other third parties  related
to the  development of new products,  product lines,  or product  features.  For
example, we are working with LGIC to develop a full IP-based  telecommunications
solution.  We may enter into  additional  strategic  alliances  for new  product
development in the future.

SALES, MARKETING, AND DISTRIBUTION

         We  currently  market our  products  in all 50 states and, to a limited
extent,  internationally  through a distribution network consisting primarily of
large  wholesale  distributors  and telephone sales and  installation  companies
known as "direct  dealers." We also maintain an in-house direct sales force that
makes  direct  sales of our IVR  products to  businesses  as well as an in-house
sales support staff  assisting our direct dealers and  distributors.  We derived
approximately  75% of our total revenue in 1999 from sales to distributors,  19%
from sales to direct dealers, and 6% from direct sales to IVR customers.  In the
past we have and in the  future we may market our  products  on a private  label
basis to  original  equipment  manufacturers,  or OEMs.  The  following  diagram
illustrates the current distribution channels for our product lines.

                                     VODAVI

       TRIAD          STARPLUS       INFINITE       IVR       INTERNATIONAL
         |                |             |            |             |
         |                |             |            |             |
    Distributor      Distributor                              International
                                                               Distributor
         |                |             |            |             |
         |                |             |            |             |
    Authorized          Dealer      Authorized       |             |
      Dealer              |           Dealer         |             |
         |                |             |            |             |
         |                |             |            |           Dealer
         |                |             |            |             |
         |                |             |            |             |
     End User          End User      End User     End User      End User

         WHOLESALE DISTRIBUTORS

         We design and market our  STARPLUS  brand of products  for sale through
wholesale distributors.  The distributors resell our products primarily to small
local  interconnect   companies  and  independent   telephone   companies.   The
interconnects and independent telephone companies in turn resell our products to
end users,

                                       6
<PAGE>
install  the  systems at the end users'  businesses,  and  provide  service  and
technical support following the sale. We provide ongoing support and training to
enable  distributors  to sell our products more  effectively  and to provide the
interconnects and independent telephone companies with technical assistance they
may request with respect to installation, maintenance, and customer support.

         We believe that sales through  distributors  offers several advantages,
including the following:

        *   established  distribution  systems  and access to a large  number of
            customer accounts;

        *   maintenance  of  customer  credit   facilities  and  an  established
            inventory of our products;

        *   availability of products in over 600 locations throughout the United
            States;

        *   security of receivables;

        *   reduced needs for direct training by us;

        *   effective promotion of our products at trade shows;

        *   geographically  dispersed sales forces that can reach customers more
            effectively than we would otherwise be able to do; and

        *   lower support and carrying costs compared with the costs  associated
            with direct sales to a large number of direct dealers.

         Distributors   that  currently  resell  our  products  include  Graybar
Electric Co., Inc., Alltel Supply, Inc.,  Sprint/North Supply,  Famous Telephone
Supply, ADI, Target, and Power & Telephone Supply Company. Graybar accounted for
41% of our sales during 1999 and 39% in 1998.  Alltel  accounted  for 11% of our
sales during 1999 and 12% during 1998.

         Our sales and  marketing  personnel  stimulate  demand for our products
with the  interconnects  and independent  telephone  companies that purchase our
products from Graybar, Alltel, and other distributors and install these products
at the end  users'  premises.  These  interconnects  and  independent  telephone
companies  provide the "pull  through"  demand for our  products  from  Graybar,
Alltel,  and other  distributors.  As a result,  we believe  that a decrease  in
purchases  by Graybar,  Alltel,  or other  distributors  would  result in only a
temporary  adverse effect on our  operations if  interconnects  and  independent
telephone   companies   would   continue  to  demand  our  products  from  other
distributors,  which  in turn  would  increase  the  purchases  by  these  other
distributors of our products.

         TRIAD DISTRIBUTORS AND DEALERS

         During 1998, we introduced our Triad line of digital  telephone systems
for sale through  distributors to a limited number of authorized  Triad dealers.
The Triad  product  line  includes  a full array of  digital  telephone  systems
ranging  from three lines and eight  stations up to 384 ports,  as well as voice
messaging,  ACD,  CTI, and other  products.  The  authorized  Triad dealers must
commit to minimum  purchases  of Triad or STARPLUS  products and must be trained
and certified through our formal product and sales training program. Our goal is
to encourage the Triad  dealers to promote the Triad line to their  customers as
the preferred line of digital telephone systems. We provide the authorized Triad
dealers with order fulfillment,  marketing, sales, and product support services.
We had approximately 150 authorized Triad dealers as of March 20, 2000.

         INFINITE DIRECT DEALERS

         We  developed  our  INFINITE  line of  telephone  systems  and  related
products for sales to direct dealers.  These direct dealers are medium and large
interconnect companies or local dealers that resell our products directly to end
users.  We believe that the principal  advantages of this  distribution  channel
include  greater  visibility  of our  product  lines  and the  ability  to exert
additional control over factors such as pricing of our products. Sales to direct
dealers,  however,  generally  involve  greater  credit risks,  the necessity to
provide increased direct marketing

                                       7
<PAGE>
and technical  support,  and additional  costs  associated  with  developing and
training the  independent  sales staff of the various  direct  dealers to enable
them to solicit purchases of our products.

         We  increased  the  number of  direct  dealers  that sell our  INFINITE
products from 70 at December 31, 1995 to approximately 115 at December 31, 1999.
During  1999,  however,  we  initiated a program to upgrade and  strengthen  our
dealer network.  Under this program,  we plan to focus on selling to fewer,  but
larger and  better-established,  dealers.  During  the first  quarter of 2000 we
signed  up  approximately  35  large-volume,   well-qualified  new  dealers  and
discontinued  sales  to  approximately  20  dealers  that  have not  provided  a
sufficient  level of sales or support  for our  INFINITE  line.  The new dealers
maintain  large  customer  bases and  possess  the  resources  needed to provide
quality sales presentations and support to their customers.  As a result of this
program,  a total of approximately 130 direct dealers sell our INFINITE products
as of March 20, 2000.

         IN-HOUSE SALES STAFF

         We maintain a sales staff of five  employees  who make direct  sales of
our  IVR  products  in  the  United  States.   Our  sales  force  also  develops
relationships with strategic partners,  which purchase some of our products as a
base  platform,  enhance the platform with  specialized  software that they have
developed, and then resell the combined systems.

         We have an in-house  sales  support  staff of 12 employees  who provide
dealers and distributors with order fulfillment, marketing, sales, and technical
support.  We  believe  that our  commitment  to  support  dealers  that sell our
products  on a pre-sale  and  post-sale  basis  provides  us with a  competitive
advantage with our dealer customers.

         INTERNATIONAL SALES

         To  date,  sales  of  our  products  in  foreign   countries  have  not
represented  a significant  portion of our revenue.  We believe,  however,  that
sales of our voice  processing and other products in  international  markets may
increase in the future as demand for features such as voice mail and interactive
voice  response  increases,  as touchtone  technologies  and cellular  telephone
service become more available and other installed communications infrastructures
are improved,  and as regulatory  differences  between countries are eliminated.
All of our sales in foreign countries are denominated in U.S. dollars.

RESEARCH AND DEVELOPMENT; STRATEGIC ALLIANCES WITH LGIC AND OTHER COMPANIES

         We  believe   that  the   continued   development   of  software   that
distinguishes  the  functions  and  features of our  products  from those of our
competitors represents a critical factor in determining our ongoing success. Our
engineering   staff  consists  of  highly  trained  and   experienced   software
professionals who focus on providing and supporting high-quality,  user-friendly
business  communications  systems  and related  products.  The  availability  of
in-house software and systems development expertise at our facilities in Arizona
and Georgia  provides us with product  control,  permits  faster  turnaround and
reaction  time to  changing  market  conditions,  and  provides  a solid base of
maintenance  and  support  services  to end  users.  We use  product  and market
development  groups that  interact  with  customers in order to  anticipate  and
respond to  customer  needs  through  development  of new product  programs  and
enhancement of existing product lines.

         We conduct joint  development  activities  with LGIC for the design and
development  of  hardware  incorporated  into some of our  existing  or  planned
telephone system and commercial grade telephone  product lines.  Under our joint
development projects with LGIC, we provide market analysis,  product management,
functional and  performance  standards,  software  development,  quality control
program development,  sales and distribution,  and customer service and support,
while LGIC provides hardware  research,  design and development,  development of
components   such  as  integrated   circuits  and   semiconductor   chips,   and
manufacturing  and  production  engineering.  Generally,  LGIC  contributes  the
ongoing research and development costs for the product hardware in return for an
arrangement  under which LGIC produces the finished  goods  developed  under the
alliance. As a result of this arrangement, we have been able to obtain access to
LGIC's  research and development  expertise and resources while  controlling our
capital  expenditures for much of our product development  efforts. In addition,
our  arrangement  with LGIC enables us to minimize the risks  inherent in making
significant

                                       8
<PAGE>
investments  in research and  development  infrastructure  or personnel.  To the
extent  that we  develop  new  hardware  in  conjunction  with  LGIC or  another
development  partner, the development partner typically retains ownership rights
to the new hardware and we retain the right to sell products  incorporating that
hardware  throughout North America.  See Item 1, "Business - Manufacturing"  and
Item 1, "Special  Considerations  - We rely on LGIC as a strategic  partner." We
have  successfully  engaged in such  projects  with LGIC in the past and believe
that we will continue to have access to LGIC's  advanced  hardware  research and
development capabilities as we develop new product lines.

         We enhance our software  development  expertise through acquisitions of
or  licensing  arrangements  and  other  strategic  alliances  with  independent
third-party  developers.  We have active strategic  alliance  relationships with
other  companies that possess  expertise in automatic call  distribution,  small
digital key telephone systems,  computer telephony,  and Internet telephony.  We
believe that our strategic  alliances with other companies  enable us to develop
products and bring them to market more quickly and at a lower cost than we would
be able to achieve by developing  the products  internally.  We intend to pursue
additional  opportunities to enter into strategic alliances with other companies
that  possess  established  expertise  in  specific  technologies  in  order  to
co-develop  proprietary  products,  or to  acquire  such  companies  in order to
develop new products internally.

MANUFACTURING

         We obtain  our key  telephone  systems,  some of our  voice  processing
systems,  and our full-featured  commercial grade telephones under manufacturing
arrangements  with various  third-party  manufacturers,  including LGIC. We also
purchase certain of our voice  processing  products from third parties on an OEM
basis.  We own a  significant  portion of the  tooling  used by the  third-party
manufacturers  to manufacture our products.  Our agreements with the third-party
manufacturers  generally  require  the  manufacturers  to produce  our  products
according to our technical specifications,  to perform quality control functions
or  otherwise  meet our  quality  standards  for  manufacturing,  and to test or
inspect the products prior to shipment. Under the manufacturing agreements,  the
manufacturers  provide us with  warranties that the products are free of defects
in material and  workmanship.  The agreements also require the  manufacturers to
repair or replace,  at their  expense,  products  that fail to conform  with the
warranties  within  specified  periods.  We  perform  final  assembly,   systems
integration, and testing of some of our automated call distribution, voice mail,
automated  attendant,   interactive  voice  response,   and   computer-telephony
integration products at our Arizona and Georgia facilities.

         We obtain  some of our  digital  telephone  systems,  commercial  grade
telephones,  and voice mail products from LGIC, which owns the rights to produce
this equipment. We purchase products manufactured by LGIC in Korea on a purchase
order basis. During 1999, we purchased $11.6 million of product from LGIC, which
represented   41%  of  our  total   purchases  in  1999.   LGIC  currently  owns
approximately  18.8% of our  outstanding  common  stock.  See  Item 1,  "Special
Considerations  -  We  rely  on  LGIC  as  a  strategic  partner"  and  "Special
Considerations  - Certain  conflicts of interest may arise as a result of LGIC's
ownership interest in our company."

         We  obtain  some  of our  analog  telephone  systems  and  most  of our
commercial  grade  telephones and replacement  parts for such telephones from LG
Srithai,  Ltd.,  or LGST,  a joint  venture  between LGIC and Srithai  Group,  a
Thailand-based  entity. Under an agreement with our company, LGST granted us the
right to  distribute  and sell  throughout  the  United  States  and  Canada the
products that LGST  manufactures  for us in Thailand.  Our  agreement  with LGST
prohibits us from  purchasing  the products  covered by the  agreement  from any
other  manufacturer  during  the term of the  agreement.  The  agreement  renews
automatically for successive  one-year terms unless either party provides notice
to the other of its intent to cancel the  agreement  at least three months prior
to the end of the  then-current  term.  We make all  purchases  pursuant  to the
agreement on a purchase  order basis.  During 1999, we purchased $6.8 million of
product from LGST,  which  represented  24% of our total  purchases in 1999. See
Item 1, "Special  Considerations  - We rely on LGIC as a strategic  partner" and
"Special Considerations - Certain conflicts of interest may arise as a result of
LGIC's ownership interest in our company."

         We also obtain some of our digital  key  telephone  systems  from Tecom
Co.,  Ltd., a Republic of China  company.  Under an agreement  with our company,
Tecom granted us the right to sell and  distribute  throughout  all of North and
South  America  the  products  that Tecom  manufactures  for us. The term of the
agreement with

                                       9
<PAGE>
Tecom will remain in effect  until  either  party gives the other party at least
120 days' advance notice of termination.  We make all purchases  pursuant to the
agreement on a purchase order basis.

         We  currently  maintain a $3.8 million  insurance  policy to cover lost
revenue in the event of significant interruptions in purchases from our overseas
manufacturers.  See Item 1, "Special Considerations - We depend on third parties
for  manufacturing"  and  Item  1,  "Special  Considerations  -  We  face  risks
associated with international manufacturing sources."

QUALITY CONTROL

         We recognize that product quality and reliability are critical  factors
in  distinguishing  our products  from those of our  competitors.  We design our
products to include  components  meeting specified quality standards in order to
ensure reliable  performance.  We also require our third-party  manufacturers to
comply with specified quality standards regarding materials and assembly methods
used in manufacturing our products.  In addition, we maintain a rigorous quality
assurance  program  designed  to ensure  that the  manufacture  of our  products
conforms with  specified  standards and to detect  substandard  products  before
shipment.  We have an inspection  program in which we examine varying numbers of
our  products as they arrive at our  warehouse  in Arizona,  depending  upon the
manufacturer and the type of product.

SUPPORT SERVICES

         We  provide  limited   warranties   against  defective   materials  and
workmanship on each of the products that we sell. We provide a complete  support
service for all of our products by  maintaining  a 24-hour  toll-free  telephone
number  and  e-mail  support  that  the  dealers'  or   interconnects'   service
representatives can contact for trouble shooting and diagnostic  assistance.  We
also maintain a technical support page on our Web site that includes  frequently
asked questions, technical tips, and product-related notifications.  We maintain
an operating set-up of each of our telephone  systems,  key telephone units, and
peripheral  systems  at our  headquarters  facility,  supported  by a  staff  of
technicians  trained  to  handle  service  assistance  calls.  When a dealer  or
interconnect  calls with a question  relating to performance  malfunctions or an
operational system question,  our personnel attempt to replicate any problem the
user is encountering,  diagnose the cause, and provide a solution via telephone.
If our  technicians  cannot  determine  the  cause of the  malfunction  over the
telephone,  we dispatch a service representative to the user's place of business
in order to locate the source of the problem and take corrective measures.

         Prior to June 24, 1999, we operated our own repair center and performed
repairs on certain of our products.  On June 24, 1999, we sold the repair center
and entered into a seven-year repair and refurbishment agreement with the buyer.
Under this agreement,  we appointed the buyer as the exclusive authorized repair
center for our  products.  We believe  that this  arrangement  will enable us to
continue to provide  fast  turn-around  time and  consistent  quality of repairs
without the overhead and other  expenses  associated  with  operating the repair
facility.

COMPETITION

         Markets for  communications  products  are  extremely  competitive.  We
currently  compete  principally  on the basis of the  technical  innovation  and
performance  of our  products,  including  their ease of  installation  and use,
reliability,  cost, and the technical support both before and after sales to end
users. Our competitors for the sale of telephone systems and telephones  include
Lucent Technologies,  Inc., Nortel,  Toshiba Information Systems,  Inc., Comdial
Corporation,  Panasonic Communications & Systems Co., Nitsuko, Iwatsu, InterTel,
and NEC Corp.

         Competitors in the market for voice  processing  systems include Active
Voice  Corporation  and Applied  Voice  Technology as well as PBX and key system
telephone  manufacturers that offer integrated voice processing systems of their
own  design  and  under  various  original  equipment  manufacturer  agreements.
Competition  in  the  interactive  voice  response  market  includes  Intervoice
Communications, Inc., Edify Corp., and Syntellect.

         In the  computer  telephony  market,  we compete  with many of the same
companies  indicated above.  Some of our product lines compete with products and
services  provided by the regional Bell  operating  companies,  or

                                       10
<PAGE>
RBOCs,  which  offer key  telephone  systems  and  commercial  grade  telephones
produced by several of the  competitors  named above as well as Centrex  systems
that  provide  automatic  call  distribution  facilities  and  features  through
equipment located in the telephone company's central switching offices.

PATENTS, TRADEMARKS, AND LICENSES

         As of December 31, 1999, we owned six United States patents expiring on
various  dates  beginning  in 2000 and ending in 2008.  We intend to continue to
seek  patents on our  inventions  used in our  products.  The process of seeking
patent  protection  can be  expensive  and can  consume  significant  management
resources.  We believe that our patents strengthen our negotiating position with
respect to future disputes that may arise regarding our technology.  However, we
believe  that our  continued  success  depends  primarily on such factors as the
technological  skills and innovative  abilities of our personnel  rather than on
our  patents.  We cannot  assure you that patents will issue from our pending or
future  applications or that any patents that are issued will provide meaningful
protection or other commercial advantage.

         We own a number  of  registered  and  unregistered  trademarks  that we
consider to be an important  factor in marketing  our  products.  Our ability to
compete may be enhanced by our ability to protect our  proprietary  information,
including  the issuance of patents,  copyrights,  and  trademarks.  We also have
taken steps to protect our  proprietary  information  through a "trade  secrets"
program that  includes copy  protection  of our software  programs and obtaining
confidentiality  agreements with our employees.  We cannot assure you,  however,
that these  efforts will be effective in  preventing  misappropriation,  reverse
engineering,  or independent  development of our proprietary  information by our
competitors.   While  none  of  our  intellectual   property  rights  have  been
invalidated or declared unenforceable, we cannot assure you that our rights will
be upheld in the future.  Accordingly, we believe that, due to the rapid pace of
technological  change in the  telecommunications  industry,  the  technical  and
creative skills of our engineers and other personnel will be extremely important
in determining our future technological success.

         During 1999, we entered into a non-exclusive  licensing  agreement with
Santa  Barbara  Connected  Systems  Corporation  to acquire  the  licensing  and
manufacturing rights to certain of our voice processing systems.  Since 1997, we
had purchased these products from Connected Systems for private-labeled sales to
our distribution  partners and customers.  By acquiring the licensing rights and
having LGIC  manufacture  these  products for us, we obtained a more  dependable
source and better margins for several of our more popular products.

         We  have  a  license   agreement   with   Executone  that  gives  us  a
non-exclusive  license to use Executone's  technology for certain of our digital
telephone  systems.  Under  the  license  agreement,  we  purchase  all  of  the
proprietary  components for those digital  telephone systems at Executone's cost
plus 5%, and we pay Executone a royalty fee of 5.3% of the manufactured  cost of
all of our  products  that use the  technology  covered  by the  agreement.  The
license agreement  expires in 2014. We have discontinued  manufacturing the line
of products that use this licensed  technology,  and we anticipate  that we will
sell our remaining inventory of those products over the next 18 months.

         We license from third  parties the rights to the  software  included in
certain of our products,  including our ACD products.  These licenses  generally
give us a non-exclusive  right to use and sell the licensed software included in
our products during the term of the applicable  agreement.  We pay the licensors
fees based on the number of units that we purchase from them.

         The telecommunications industry is characterized by rapid technological
development and frequent  introduction of new products and features. In order to
remain competitive,  we and other telecommunications  manufacturers  continually
find it necessary  to develop  products  and  features  that  provide  functions
similar to those of other industry participants, often with incomplete knowledge
of whether patent or copyright  protection may have been applied for or obtained
by other  parties.  As a result,  we receive  notices from time to time alleging
possible  infringement  of patents  and other  intellectual  property  rights of
others.  To date,  we have been able to  successfully  defend these claims or to
negotiate  settlements  to these claims on terms we believe to be favorable.  In
the future, however, the defense of such claims, fees paid in settlement of such
claims, or costs associated with

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<PAGE>
licensing  rights to use the  intellectual  property  of  others  or to  develop
alternative technology may have a material adverse impact on our operations.

GOVERNMENT REGULATION

         The U.S.  government from time to time has imposed  anti-dumping duties
on some  telephone  products  manufactured  in some of the  countries  where our
products are manufactured. Most recently, duties on certain of our products were
phased out between 1997 and 2000. We cannot assure you that similar  duties will
not be imposed in the future on  telephone  products,  including  our  products,
manufactured in these or other foreign  countries in the future.  The imposition
of such additional  duties on our products could have a material  adverse effect
our operating results.

EMPLOYEES

         As of March 20, 2000, we employed a total of 145 persons, consisting of
143  full-time  employees  and two  part-time  employees  at our  facilities  in
Scottsdale,  Arizona, and Norcross,  Georgia. This number includes 25 persons in
engineering  and product  development,  80 in sales,  marketing,  and  technical
support, 18 in warehouse and distribution  functions,  and 22 in administration,
including executive  personnel.  We consider our relationship with our employees
to be good,  and none of our employees  currently are  represented by a union in
collective bargaining with us.

         Various third-party  manufacturers provide the personnel engaged in the
manufacture and assembly of our products in South Korea,  Thailand,  Taiwan, and
the  People's  Republic of China  under the  agreements  between the  respective
manufacturers and us.

EXECUTIVE OFFICERS

         The  following  table sets  forth  information  concerning  each of our
executive officers:

           NAME                 AGE                  POSITION
           ----                 ---                  --------

William J. Hinz...............  54    Chairman of the Board
Gregory K. Roeper.............  39    President, Chief Executive Officer, and
                                       Director
Tammy M. Powers...............  30    Vice President - Finance,  Chief Financial
                                       Officer, and Treasurer
Stephen L. Borcich............  53    Vice President - Sales and Marketing

         WILLIAM  J. HINZ has  served as  Chairman  of the Board of our  company
since  October  1997 and as a director  of our company  since April 1997.  Since
October 1999, Mr. Hinz has served as Group President for the Triumph  Components
Group,  which is a group of seven  divisional  companies  within  Triumph Group,
Inc., a publicly held company. Mr. Hinz served as President of Stolper-Fabralloy
Company,  a  precision  aerospace  engine  component   manufacturer  that  is  a
subsidiary of Triumph Group,  Inc.,  from September 1997 until October 1999, and
as Executive Vice President of Operations of  Stolper-Fabralloy  from March 1996
until  September 1997. Mr. Hinz was Vice President of Global Repair and Overhaul
Operations for AlliedSignal  Aerospace  Company from June 1994 until March 1996.
During this period,  Mr. Hinz also was  responsible  for  aerospace  aftermarket
merger and  acquisition  activity.  Mr.  Hinz  served as  President  of European
Operations for AlliedSignal Aerospace Company from December 1991 until June 1994
and served in various other manufacturing management positions with AlliedSignal
Aerospace Company from 1968 to 1991.

         GREGORY K. ROEPER has served as President of our company since December
1998 and as Chief Executive Officer and a director of our company since December
1999.  Mr.  Roeper  served as our Chief  Operating  Officer from June 1998 until
December 1999. Between November 1994 and June 1998, Mr. Roeper held a variety of
other executive  positions with our company,  including Chief Financial Officer,
Executive Vice President - Finance, Administration,  and Operations;  Secretary;
and  Treasurer.  From 1982 to 1994,  Mr. Roeper was

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<PAGE>
employed by Arthur Andersen LLP, most recently as a Senior  Manager.  Mr. Roeper
is a Certified Public Accountant in the state of Arizona.

         TAMMY M. POWERS has served as Vice President - Finance, Chief Financial
Officer, and Treasurer of our company since July 1999. From September 1998 until
July  1999,  Ms.  Powers  served  as Chief  Financial  Officer,  Treasurer,  and
Secretary of Automotive  Performance Group, Inc., a public company  specializing
in  high-performance  automotive  businesses.  From January 1997 until September
1998,  Ms.  Powers  served as Chief  Financial  Officer and Secretary of Unitech
Industries,  Inc., a public company engaged in the  international  manufacturing
and distribution of portable power supplies for mobile telephones.  From January
1992 to January 1997, Ms. Powers was an accountant with Deloitte & Touche,  LLP,
most recently as an audit manager.  Ms. Powers is a Certified Public  Accountant
in the state of Arizona.

         STEPHEN L. BORCICH has served as Vice  President - Sales and  Marketing
of our company since April 1999.  Mr.  Borcich  served as Vice President - Sales
for  Voice  Technologies  Group,  a  manufacturer  and  distributor  of  digital
integration  technology  from August 1998 until March 1999.  From  February 1997
until July 1998,  Mr.  Borcich served as Vice President - Sales and Marketing of
Q.SyS, Inc., a manufacturer of computer telephony applications.  Mr. Borcich was
Vice  President  - Sales  of  Microlog  Corporation  from  December  1990  until
September 1995.

                             SPECIAL CONSIDERATIONS

         YOU SHOULD  CAREFULLY  CONSIDER THE FOLLOWING  FACTORS,  IN ADDITION TO
THOSE  DISCUSSED  ELSEWHERE IN THIS REPORT,  IN  EVALUATING  OUR COMPANY AND OUR
BUSINESS.

WE DEPEND ON THIRD PARTIES FOR MANUFACTURING.

         We depend upon third parties to manufacture our products. We do not own
most of the equipment,  tools, and molds used in the manufacturing  process, and
we have only limited  control  over the  manufacturing  processes.  As a result,
certain  difficulties  could have a  material  adverse  effect on our  business,
including any  difficulties  encountered by the third-party  manufacturers  that
result in

        *   product defects,

        *   production delays,

        *   cost overruns, or

        *   the inability to fulfill orders on a timely basis.

Our operations  would be adversely  affected if we were to lose our relationship
with any of our suppliers,  if any of our suppliers' operations were interrupted
or terminated, or if overseas or air transportation services were disrupted even
for a  relatively  short  period of time.  We do not  maintain an  inventory  of
sufficient  size to provide  protection  for any  significant  period against an
interruption  of  supply,  particularly  if we were  required  to locate and use
alternative sources of supply.

WE FACE RISKS ASSOCIATED WITH INTERNATIONAL MANUFACTURING SOURCES.

         We currently  obtain some of our products  under various  manufacturing
arrangements with third-party  manufacturers in South Korea,  Thailand,  Taiwan,
and the People's  Republic of China.  We believe that  production of our product
lines  overseas  enables us to obtain these items on a cost basis that  enhances
our ability to market them profitably. Our reliance on third-party manufacturers
to provide  personnel and  facilities in these  countries,  our  maintenance  of
equipment  and  inventories  abroad,  and  the  potential  imposition  of  quota
limitations  on  imported  goods from  certain Far East  countries  expose us to
certain economic and political risks, including the following:

        *   the   business   and   financial   condition   of  our   third-party
            manufacturers;

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<PAGE>
        *   political and economic conditions abroad;

        *   the  possibility  of  expropriation,   supply  disruption,  currency
            controls, and exchange fluctuations; and

        *   changes in tax laws, tariffs, and freight rates.

         The countries in which some of our products are manufactured  have been
subject  to  natural  disasters  and  civil  disturbances  in  the  past.  These
circumstances  could affect our ability to obtain some of our products  from our
overseas  manufacturers.  Except for a fire that  interrupted  production at one
plant  in  China  during  late  1993 and the  first  part of  1994,  we have not
experienced any significant  shipment  interruptions to date. The termination of
any of the  arrangements  with our  manufacturers  or our  inability  to  obtain
products  pursuant to such  arrangements,  even for a relatively short period of
time, could have a material adverse effect on our operations.

         The countries in which most of our products are manufactured  also have
been subject to economic problems in the past.  Although the economic  situation
in Asia in recent years has not  resulted in any adverse  changes in our ability
to obtain  products  or the prices  that we pay for our  products,  an  extended
period of financial  pressure on overseas markets or currency  devaluations that
result in a  financial  setback  to our  overseas  manufacturers  could  have an
adverse impact on our operations.

         Protectionist  trade legislation in either the United States or foreign
countries, such as a change in the current tariff structures,  export compliance
laws, or other trade policies,  could  adversely  affect our ability to purchase
our products  from  foreign  suppliers or the price at which we can obtain those
products. In November 1999, the United States and China signed an agreement that
will lift trade  barriers  between the two countries  and that advances  China's
efforts to join the World  Trade  Organization.  Special  interest  groups  have
raised objections to these efforts,  and we cannot be certain whether or to what
extent trade  relations  with China will continue to improve.  Any  developments
that adversely affect trade relations between the United States and China in the
future  could  impact  our  ability  to  obtain  some of our  products  from our
manufacturers in China.

WE RELY ON LGIC AS A STRATEGIC PARTNER.

         We rely on LGIC to supply some of our key telephone systems, commercial
grade  telephones,  and voice mail  products  as well as on LGIC's  engineering,
hardware and circuit development, and manufacturing capabilities.  We purchase a
significant portion of our key telephone systems and commercial grade telephones
from LGIC and LGST,  an affiliate  of LGIC.  During  1999,  we  purchased  $18.4
million of product  from LGIC and LGST,  constituting  approximately  65% of our
total purchases in 1999. During 1998, we purchased $16.3 million of product from
LGIC, LG  Electronics,  Inc., and LGST,  constituting  approximately  60% of our
total  purchases in 1998. We currently  obtain  products from LGIC and LGST on a
purchase order basis and cannot provide assurance that we will be able to secure
long-term  manufacturing  arrangements for the products we currently obtain from
LGIC and  LGST.  LGIC has no formal  commitments  to  support  our  business  or
operations.

MARKETS FOR OUR PRODUCTS ARE  INTENSELY  COMPETITIVE,  AND WE CANNOT  ASSURE YOU
THAT WE WILL BE ABLE TO COMPETE SUCCESSFULLY IN THE FUTURE.

         We  engage  in  an  intensely   competitive   business  that  has  been
characterized  by  price  erosion,   rapid  technological  change,  and  foreign
competition. We compete with major domestic and international companies. Many of
our  competitors  have greater  market  recognition  and  substantially  greater
financial,  technical,  marketing,  distribution,  and other  resources  than we
possess.  Emerging  companies  also  may  increase  their  participation  in the
telephone systems and peripherals  markets.  Our ability to compete successfully
depends on a number of factors  both within and outside our  control,  including
the following:

        *   the  quality,  performance,  reliability,  features,  ease  of  use,
            pricing, and diversity of our product lines;

        *   the quality of our customer services;

        *   our ability to address the needs of our customers;

                                       14
<PAGE>
        *   our success in designing and manufacturing  new products,  including
            those implementing new technologies;

        *   the  availability  of adequate  sources of raw  materials,  finished
            components, and other supplies at acceptable prices;

        *   our suppliers' efficiency of production;

        *   the performance of our distributors and dealers;

        *   the rate at  which  end  users  upgrade  or  expand  their  existing
            telephone systems, applications, and services;

        *   new product introductions by our competitors;

        *   the  number,  nature,  and  success  of our  competitors  in a given
            market; and

        *   general market and economic conditions.

We currently  compete  principally on the basis of the technical  innovation and
performance   of   our   telephone   systems,    voice   processing    products,
computer-telephony  products,  and commercial grade telephones,  including their
ease of use,  reliability,  cost, timely introduction,  delivery schedules,  and
after-sale  service and  technical  support.  We may not  continue to be able to
compete successfully in the future.

WE DEPEND ON NEW PRODUCTS AND TECHNOLOGIES.

         We  operate  in an  industry  that is  characterized  by  fast-changing
technology. As a result, we will be required to expend substantial funds for and
commit significant  resources to the conduct of continuing product  development,
including  research and development  activities and the engagement of additional
engineering and other technical personnel. Any failure on our part to anticipate
or respond adequately to technological developments,  customer requirements,  or
new design  and  production  techniques,  or any  significant  delays in product
development  or  introduction,  could  have a  material  adverse  effect  on our
operations.

         Our future operating results will depend to a significant extent on our
ability  to  identify,  develop,  and market  enhancements  or  improvements  to
existing  product  lines as well as to introduce  new product lines that compare
favorably on the basis of time to  introduction,  cost, and performance with the
product  lines  offered by our  competitors.  The success of new  product  lines
depends  on  various  factors,   including  proper  market  segment   selection,
utilization  of advances in  technology,  innovative  development of new product
concepts,  timely  completion and delivery of new product  lines,  efficient and
cost-effective  features, and market acceptance of our products.  Because of the
complexity of the design and manufacturing  processes  required by our products,
we may  experience  delays  from  time to  time in  completing  the  design  and
manufacture of improvements to existing product lines or the introduction of new
product  lines.  In  addition,  customers  or markets may not accept new product
lines.  Our failure to design and  implement  enhancements  to existing  product
lines or failure to introduce new products on a timely and cost-effective  basis
would adversely affect our future operating results.

         Complex software programs,  such as those we develop or those developed
by other  software  sources and  incorporated  into our  products,  occasionally
contain errors that are discovered only after the product has been installed and
used by many different customers in a variety of business  operations.  Although
we conduct  extensive testing of the software programs included in our products,
we may not  successfully  detect and  eliminate  all such errors in our products
prior to shipment.  Significant  programming  errors in product  software  could
require  substantial  design  modifications  that may  create  delays in product
introduction  and  shipment  and that could  result in an adverse  impact on our
goodwill as well as on our operating results.

WE RELY ON AN INDEPENDENT DISTRIBUTION NETWORK.

         We  currently  market  our  products  through  a  distribution  network
consisting  primarily of large  wholesale  distributors  and telephone sales and
installation   companies  known  as  "direct  dealers."  Distributors  generally
maintain   inventories  in  amounts  that  they  consider   sufficient  to  fill
anticipated  orders for at least a  two-month

                                       15
<PAGE>
period of time. A decline in the volume of sales made by distributors,  however,
could result in their inventory levels exceeding their anticipated  sales, which
could delay  purchases of additional  products  from us until the  distributors'
inventories reach re-ordering levels. Direct dealers generally stock inventories
only in quantities they deem sufficient to fill anticipated  short-term  orders.
As a result,  distributors  and direct  dealers  may cancel  orders and delay or
change  volume  levels on short notice to us.  Because the sale of key telephone
systems,  voice processing  products,  and related products typically involves a
long sales cycle,  we may not be able to  accurately  forecast our own inventory
levels.  Our  reliance  on  third-party  distributors  and  dealers  to sell our
products could further  exaggerate  any inventory  shortages or excesses that we
might  experience,  particularly if our  distributors or dealers are not able to
give us adequate notice of anticipated changes in demand for our products.

         We depend upon independent  distributors and direct dealers to sell our
products to end users, to perform installation  services, and to perform service
and support  functions  after the sale.  Other  telephone  system  manufacturers
compete intensely for the attention of the same distributors and direct dealers,
most of which carry products that compete directly with our products. We may not
be able to maintain  favorable  relationships  with the  distributors and direct
dealers that  currently  carry our product  lines in order to encourage  them to
promote and sell our products instead of those of our competitors.  In addition,
we may not be able to develop such  relationships  with additional  distributors
and dealers in the future.

         Graybar accounted for 41% of our sales during 1999 and 39% during 1998.
Accounts  receivable from Graybar comprised  approximately 33% of total accounts
receivable  at December 31, 1999.  Alltel  accounted for 11% of our sales during
1999  and  12%  during  1998.   Accounts   receivable   from  Alltel   comprised
approximately 10% of total accounts receivable at December 31, 1999.

WE FACE RISKS ASSOCIATED WITH PATENTS, LICENSES, AND INTELLECTUAL PROPERTY.

         Our success depends in part upon our ability to protect our proprietary
technology.  We rely on a combination of copyright,  trademark, and trade secret
laws, nondisclosure and other contractual agreements,  and technical measures to
protect our proprietary technology.  We have acquired certain patents and patent
licenses,  and we intend to  continue  to seek  patents  on our  inventions  and
manufacturing   processes.  We  face  risks  associated  with  our  intellectual
property, including the following:

        *   the steps we have taken to  protect  our  proprietary  rights may be
            inadequate to protect misappropriation of such rights;

        *   third  parties  may  independently  develop  equivalent  or superior
            technology;

        *   the process of seeking patent  protection can be long and expensive,
            and patents may not issue from future applications;

        *   existing  patents or any new  patents  that are issued may not be of
            sufficient scope or strength to provide us meaningful  protection or
            any commercial advantage;

        *   we may be subject to or may initiate interference proceedings in the
            U.S.  Patent and  Trademark  Office,  which can  demand  significant
            financial and management resources; and

        *   we may commence  litigation to enforce patents or other intellectual
            property rights, or to defend us against claimed infringement of the
            rights of others,  which could result in substantial  cost to us and
            diversion of our management's attention.

         As is typical in the telecommunications industry, we have received from
time  to  time,  and  in  the  future  may  receive,   allegations  of  possible
infringement of patents or other intellectual  property rights of others.  Based
on  industry  practice,  we  believe  that in most  cases  we could  obtain  any
necessary  licenses or other rights on  commercially  reasonable  terms.  In the
event that a third party alleges that we are infringing  its rights,  we may not
be able to obtain  licenses  on  commercially  reasonable  terms  from the third
party,  if at all, or the third party may  commence  litigation  against us. The
failure  to obtain  necessary  licenses  or other  rights or the  occurrence  of
litigation  arising out of such claims could materially and adversely affect us,
our result of operations, or prospects.

                                       16
<PAGE>
WE MUST BE ABLE TO MANAGE OUR GROWTH.

         Our failure to manage our growth in an  effective  manner  could have a
material  adverse  effect on our  operations.  Our  ability to manage our growth
effectively in the future will require us to

        *   enhance our operational, financial, and management systems;

        *   expand our facilities and equipment;

        *   successfully  hire,  train,  and  motivate   additional   employees,
            including the technical  personnel  necessary to design the software
            used  in our  telephone  systems,  voice  processing  products,  and
            computer-telephony products; and

        *   integrate new software systems with evolving hardware technologies.

         We may be required to increase  staffing and other  expenses as well as
our  capital  expenditures  in order to meet the  demand  for our  products  and
services.  Customers,  however,  generally do not commit to firm purchase orders
for more than a short time in  advance.  Any  increase  in our  expenditures  in
anticipation of future orders would adversely affect our  profitability if those
orders  do  not  materialize.   The  development  of  new  products  or  product
enhancements  or unexpected  customer orders also may require rapid increases in
design and production services. Such increases in design and production services
could place excessive short-term burdens on our resources.

THE TELECOMMUNICATIONS INDUSTRY IS CYCLICAL.

         The  telecommunications  industry has experienced economic downturns at
various times,  characterized by diminished product demand,  accelerated erosion
of average selling prices, and production overcapacity. We have sought to reduce
our exposure to industry downturns by targeting our product lines towards small-
and medium-sized  businesses,  which we believe will sustain continued growth in
the near and long term,  resulting in a steadily  increasing demand for enhanced
and upgraded telephone systems and voice processing  products.  However,  we may
experience substantial period-to-period fluctuations in future operating results
because  of general  industry  conditions  or events  occurring  in the  general
economy.  In addition,  although we have not experienced  significant  quarterly
sales  fluctuations  in the past,  the size and timing of sales of our new voice
processing and computer-telephony products may vary from quarter to quarter to a
greater extent in future periods. The expanding importance of these new products
could result in  significant  variations in our overall  operating  results on a
quarterly basis.

WE MUST  FINANCE  THE  EXPANSION  OF OUR  BUSINESS  AND THE  DEVELOPMENT  OF NEW
PRODUCTS.

         To remain competitive, we must continue to make significant investments
in research  and  development,  equipment,  and  facilities.  As a result of the
increase  in fixed  costs  and  operating  expenses  related  to  these  capital
expenditures,  our  failure to  increase  net sales  sufficiently  to offset the
increased costs may adversely affect our operating  results.  From time to time,
we may seek  additional  equity or debt  financing  to provide  for the  capital
expenditures required to maintain or expand our design and production facilities
and  equipment.  We cannot  predict  the timing  and amount of any such  capital
requirements.  Such financing may not be available or, if available,  may not be
available on terms  satisfactory  to us. If such  financing is not  available on
satisfactory  terms,  we may be unable to expand our  business  or  develop  new
products  at the  rate  desired  and  our  operating  results  may be  adversely
affected. Debt financing increases expenses and must be repaid regardless of our
operating  results.  Equity  financing  could result in  additional  dilution to
existing  stockholders.  See Item 7,  "Management's  Discussion  and Analysis of
Financial   Condition   and  Results  of  Operations  -  Liquidity  and  Capital
Resources."

WE MAY EXPERIENCE SHORTAGES OF RAW MATERIALS AND SUPPLIES.

         The  principal  raw  materials  and  components  used in producing  our
products consist of

                                       17
<PAGE>
        *   semiconductor components,

        *   unfinished printed circuit boards,

        *   molded plastic parts,

        *   metals, and

        *   packaging materials.

The  third-party  manufacturers  of our  products  acquire  these raw  materials
primarily from Asian  sources,  which  indirectly  subjects us to certain risks,
including supply  interruptions and currency price  fluctuations.  Purchasers of
these materials,  including our third-party  manufacturers  and us, from time to
time  experience  difficulties in obtaining  these  materials.  The suppliers of
these  materials  currently are  adequately  meeting our  requirements.  We also
believe that there are alternate suppliers for most of these materials.

WE DEPEND ON MANAGEMENT AND OTHER KEY PERSONNEL.

         Our  development  and  operations  to date have been,  and our proposed
operations  will be,  substantially  dependent upon the efforts and abilities of
our senior  management  and  technical  personnel.  Although we have  employment
agreements  with  William J. Hinz,  our  Chairman  of the Board,  and Gregory K.
Roeper,  our President and Chief  Executive  Officer,  we do not have employment
agreements  with any of our  other  executive  officers.  However,  we  maintain
agreements  with each of our  officers and  employees  that  prohibit  them from
disclosing confidential information obtained while employed with us. The loss of
existing key personnel or the failure to recruit and retain necessary additional
personnel  would  adversely  affect our business  prospects.  We cannot  provide
assurance  that we will be able to retain our current  personnel or that we will
be able to attract  and retain  necessary  additional  personnel.  Our  internal
growth and the expansion of our product lines will require additional  expertise
in such areas as software  development,  operational  management,  and sales and
marketing. Such growth and expansion activities will increase further the demand
on our resources  and require the addition of new personnel and the  development
of additional expertise by existing personnel. Our failure to attract and retain
personnel with the requisite  expertise or to develop  internally such expertise
could adversely affect the prospects for our success.

CERTAIN CONFLICTS OF INTEREST MAY ARISE AS A RESULT OF LGIC'S OWNERSHIP INTEREST
IN OUR COMPANY.

         LGIC  currently  owns  approximately  18.8% of our  outstanding  common
stock.  We  obtain  some of our  digital  telephone  systems,  commercial  grade
telephones,  and voice mail  products  from LGIC and  obtain  some of our analog
telephone  systems and most of our commercial  grade  telephone and  replacement
parts for such telephones from LGST, an affiliate of LGIC. See Item 1, "Business
-  Manufacturing"  and "Special  Considerations  -We rely on LGIC as a strategic
partner." As a result of LGIC's indirect  ownership  interest in us, an inherent
conflict of interest exists in establishing  the volume and terms and conditions
of our purchases  from LGIC and LGST. In order to mitigate such  conflicts,  all
decisions  with  respect  to such  purchases  will be made by our  officers  and
reviewed by our directors who have no relationship with LGIC.

         We,  LGIC,  and  some  of  our  other  stockholders  are  parties  to a
stockholders' agreement. At any time that we issue shares of our common stock in
an  amount  representing  1% or  more  of  our  outstanding  common  stock,  the
stockholders'  agreement gives LGIC the right to purchase a sufficient number of
shares from us as may be required to enable LGIC to maintain the  percentage  of
ownership of our common stock that existed immediately prior to such issuance.

OUR STOCK PRICE MAY BE VOLATILE.

         The trading price of our common stock in the public  securities  market
could be subject to a variety of factors, including the following:

        *   wide  fluctuations  in  response  to  quarterly  variations  in  our
            operating results or the operating results of our competitors,

                                       18
<PAGE>
        *   actual or anticipated  announcements of technological innovations or
            new product developments by us or our competitors,

        *   significant  actual or  anticipated  expenditures  for  property  or
            equipment, research and development, sales and marketing activities,
            or other planned or unanticipated events,

        *   changes in analysts' estimates of our financial performance,

        *   developments or disputes concerning proprietary rights,

        *   regulatory developments,

        *   general industry conditions, and

        *   worldwide economic and financial conditions.

The trading  volume of our common stock in the past has been limited,  which may
increase  the  volatility  of the  market  price for our stock  and  reduce  the
liquidity  of an  investment  in  shares of our  common  stock.  During  certain
periods,   the  stock  markets  have   experienced   extreme  price  and  volume
fluctuations.  In particular,  prices for many technology stocks often fluctuate
widely,  frequently for reasons  unrelated to the operating  performance of such
companies.  These broad  market  fluctuations  and other  factors may  adversely
affect the market price of our common stock.

RIGHTS TO ACQUIRE OUR COMMON STOCK COULD RESULT IN DILUTION TO OTHER  HOLDERS OF
OUR COMMON STOCK.

         As of March 20, 2000,  we had  outstanding  options to acquire  606,225
shares of our common  stock at a weighted  average  exercise  price of $4.03 per
share.  An additional  91,275  shares remain  available for grant under our 1994
Stock Option Plan. In addition, we sold to the underwriter of our initial public
offering  warrants to purchase  133,333  shares of common stock.  Those warrants
have an  exercise  price per share of $7.20 and are  exercisable  until  October
2000. In February  1999,  we issued  warrants to acquire an aggregate of 122,500
shares of common  stock to an  investor  relations  firm.  Those  warrants  have
exercise prices ranging from $4.00 to $6.50 per share and are exercisable  until
February  2004,  subject to  earlier  expiration  six months  after the date our
agreement  with the investor  relations  firm is terminated  if the  termination
occurs prior to October  2003.  During the terms of these  options and warrants,
the holders  thereof will have the opportunity to profit from an increase in the
market price of the common  stock.  The  existence of these options and warrants
may adversely affect the terms on which we can obtain additional financing,  and
the holders of these  options  and  warrants  can be  expected to exercise  such
options  or  warrants  at a time  when we, in all  likelihood,  would be able to
obtain  additional  capital by offering shares of our common stock on terms more
favorable  to us than  those  provided  by the  exercise  of  these  options  or
warrants.

SALES OF ADDITIONAL  SHARES OF COMMON STOCK COULD HAVE A NEGATIVE  EFFECT ON THE
MARKET PRICE OF OUR COMMON STOCK.

         Sales of  substantial  amounts of our common stock in the public market
could adversely affect  prevailing market prices and could impair our ability to
raise capital through the sale of our equity securities. Approximately 1,548,000
restricted  shares of common stock currently are eligible for sale in the public
market,  subject  to  compliance  with the  requirements  of Rule 144  under the
securities laws.  Shares issued upon the exercise of stock options granted under
our stock option plan  generally will be eligible for sale in the public market.
We also have the authority to issue additional shares of common stock and shares
of one or more series of  preferred  stock.  The  issuance of such shares  could
dilute the voting power of the currently  outstanding shares of our common stock
and could dilute earnings per share.

IT MAY BE  DIFFICULT  FOR A THIRD PARTY TO ACQUIRE  US, EVEN IF THE  ACQUISITION
WOULD BE IN THE BEST INTEREST OF STOCKHOLDERS.

         We are subject to provisions  under  Delaware  corporate law that would
require  us  to  obtain  certain  approvals  from  our  Board  of  Directors  or
stockholders  in order to engage in a business  combination  with an  interested
stockholder   under   certain   circumstances.   Our  Amended   Certificate   of
Incorporation  and Bylaws also

                                       19
<PAGE>
contain a number of other provisions relating to corporate governance and to the
rights of stockholders. These provisions

        *   authorize  the Board of Directors to fill  vacancies on the Board of
            Directors;

        *   authorize the Board of Directors to issue  preferred stock in series
            with such voting  rights and other  powers as the Board of Directors
            may determine; and

        *   require the affirmative  vote of two-thirds of the directors then in
            office to approve:

            --  a public offering of our capital stock;

            --  the merger with or the  acquisition  of another  business or the
                acquisition  of a  significant  amount of the  assets of another
                business;

            --  the sale of a significant amount of our assets;

            --  our entering into contracts with our stockholders or directors;

            --  our assumption or acquisition of debt in excess of $1.0 million;
                and

            --  any amendment of our Amended  Certificate of  Incorporation  and
                Bylaws of our  wholly  owned  subsidiary  Vodavi  Communications
                Systems, Inc.

These  provisions in our Amended  Certificate  of  Incorporation  and Bylaws and
Delaware  corporate law may have the effect of making more difficult or delaying
attempts by others to obtain  control of us, even when these  attempts may be in
the best interests of stockholders.

WE DO NOT PAY CASH DIVIDENDS.

         We have never paid any cash  dividends  on our common  stock and do not
anticipate that we will pay dividends in the  foreseeable  future.  Instead,  we
intend  to  retain  any  earnings  to  provide  funds  for use in our  business.
Furthermore,  the terms of the  revolving  line of credit  facility  between our
wholly owned subsidiary Vodavi Communications Systems, Inc. and General Electric
Capital Corporation  prohibit our subsidiary from paying dividends to us without
the  consent of GE  Capital.  This  restriction  could  limit our ability to pay
dividends in the future.

OUR  OPERATING  RESULTS  COULD  DIFFER   MATERIALLY  FROM  THE   FORWARD-LOOKING
STATEMENTS INCLUDED IN THIS REPORT.

         Some of the  statements and  information  contained in this Report that
are not historical facts are forward-looking statements, as such term is defined
in the securities laws. These include statements  concerning  future,  proposed,
and  anticipated  activities of our company;  certain trends with respect to our
revenue, operating results, capital resources, and liquidity; and certain trends
with respect to the markets where we compete or the telecommunications  industry
in general.  Forward-looking statements, by their very nature, include risks and
uncertainties, many of which are beyond our control. Accordingly, actual results
may  differ,  perhaps  materially,  from those  expressed  in or implied by such
forward-looking  statements.  Factors that could cause actual  results to differ
materially  include  those  discussed  elsewhere  under  this  Item 1,  "Special
Considerations."

ITEM 2.  PROPERTIES

         We lease,  for a term expiring in December 2001,  approximately  60,000
square feet of space in Scottsdale,  Arizona,  where we maintain engineering and
design  laboratories,  a  sound  engineering  laboratory,  software  development
facilities,  testing  laboratories,  product  development  facilities,  customer
service  support  facilities,  an  employee  training  facility,  warehouse  and
distribution  areas,  sales  and  marketing  offices,   and  administrative  and
executive offices.

         We also lease  approximately  16,200  square feet of space in Norcross,
Georgia,  for a term expiring in August 2002. We maintain  software  development
facilities, engineering and design laboratories, product development facilities,
product assembly and testing  facilities,  warehouse and distribution areas, and
sales, marketing, and administrative offices at this location.

                                       20
<PAGE>
         We lease,  for a term ending in  December  2004,  approximately  19,500
square  feet of space in  Scottsdale,  Arizona.  We used this  facility  for our
telecommunications equipment repair operations until we sold those operations in
June 1999.  Following  the sale of the repair  operations,  we  sub-leased  this
facility to a third party.

         We believe our facilities  are adequate for our reasonably  anticipated
needs.

ITEM 3. LEGAL PROCEEDINGS

         On  September  20,  1996,  we and our  subsidiary,  Vodavi-CT,  filed a
lawsuit  against  Michael  Mittel and  Fereydoun  Taslimi,  former  officers and
directors of Vodavi-CT.  The lawsuit alleged,  among other things,  that Messrs.
Mittel and Taslimi violated  federal and Arizona  securities laws and engaged in
fraudulent  activities in connection  with our acquisition of Vodavi-CT in 1995;
breached certain terms of their respective  employment contracts with Vodavi-CT;
and converted  certain  corporate assets of Vodavi-CT,  breached their fiduciary
duties to Vodavi-CT,  and  misappropriated  certain corporate  opportunities for
their own benefit.  On September  24, 1996,  Messrs.  Mittel and Taslimi filed a
lawsuit  against  Vodavi-CT and our company.  The lawsuit alleged that Vodavi-CT
breached  Messrs.  Mittel's and Taslimi's  respective  employment  agreements by
terminating their employment.

         On September 27, 1999,  the court entered an order  granting the motion
of our company and  Vodavi-CT  for summary  judgment as to the claims of Messrs.
Mittel and  Taslimi for breach of their  respective  employment  agreements.  In
addition,  the court denied Messrs.  Mittel's and Taslimi's  motions for summary
judgment  as to  the  claims  of our  company  and  Vodavi-CT  with  respect  to
fraudulent misrepresentation and/or nondisclosure,  negligent misrepresentation,
conversion or misappropriation of corporate assets,  breach of contract,  breach
of implied  covenant of good faith and fair dealing,  breach of fiduciary  duty,
constructive fraud, and  misappropriation of corporate assets. The court granted
the motion of Messrs.  Mittel and Taslimi for summary  judgment as to the claims
of our company and Vodavi-CT with respect to unjust  enrichment and constructive
trust.

         In January  2000, we entered into a settlement  agreement  with Messrs.
Mittel and Taslimi.  Under the agreement,  the parties  executed mutual releases
and we repurchased  210,000  shares of our common stock from Messrs.  Mittel and
Taslimi for an aggregate of $499,800.

         On February 16, 2000, Messrs. Mittel and Taslimi filed a lawsuit in the
United  States  District  Court for the  Northern  District of Georgia,  Atlanta
Division,  against our company and Gregory K. Roeper,  our  President  and Chief
Executive  Officer  (Case No.  1-00-CV-0410).  The  plaintiffs  allege  that our
company  and  Mr.  Roeper   violated   federal   securities   laws,  made  false
representations and omitted material facts, and breached fiduciary duties to the
plaintiffs in connection with the repurchase of their shares of our common stock
in the  settlement  described  above.  The plaintiffs are seeking an unspecified
amount  of  compensatory  and  punitive  damages  as well as their  expenses  of
litigation.  In March  2000,  we and Mr.  Roeper  filed  responses  denying  the
plaintiffs' allegations and asserting various affirmative defenses. We intend to
vigorously defend this lawsuit.

         On November 9, 1998, Paradygm Communications, Inc. and R.C. Patel filed
a lawsuit against our subsidiary,  Vodavi Communications  Systems, Inc., or VCS.
The  complaint  alleges that VCS (i) breached its strategic  alliance  agreement
with  Paradygm,  as well as its warranty of product  fitness under the strategic
alliance  agreement;  (ii)  failed to  provide  reasonable  technical  and sales
training  assistance to Paradygm's  employees to support Paradygm in its efforts
to sell  products  under  the  agreement;  and (iii)  engaged  in  conduct  that
constitutes intentional or negligent  misrepresentation.  The complaint requests
compensatory,  punitive, incidental, and consequential damages, attorneys' fees,
plus any  additional  relief.  VCS answered the complaint  denying the foregoing
allegations,  asserting  that the  complaint  fails to  state a claim  and,  for
various reasons, the relief sought by Paradygm and Patel is barred. VCS also has
filed a  counterclaim  against  Paradygm  alleging  that  Paradygm  breached the
agreement  because of its failure to meet its payment  obligations  to VCS.  The
counterclaim  requests amounts due pursuant to the strategic alliance agreement,
the costs of litigation,  and reasonable attorneys' fees. On March 24, 1999, the
plaintiffs  filed an amended  compliant  to add our  subsidiary  Vodavi-CT as an
additional  defendant.  The amended  complaint  alleges claims against Vodavi-CT
similar to those alleged in the original complaint.  On July 28, 1999, Vodavi-CT
filed an answer and denied those  allegations on the same basis as VCS' original
answer.  The parties  currently  are  conducting  discovery.  We are  vigorously
defending this lawsuit.

                                       21
<PAGE>
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS

         Not applicable.

                                     PART II

ITEM 5. MARKET FOR THE REGISTRANT'S COMMON EQUITY AND RELATED
        STOCKHOLDER MATTERS

         Our common  stock has been quoted in the Nasdaq  National  Market under
the symbol "VTEK" since October 6, 1995. The following table sets forth the high
and low closing sales prices of our common stock on the Nasdaq  National  Market
for the periods indicated.

                                                                HIGH        LOW
                                                                ----        ---
1997:
     First quarter..........................................   $4.75       $3.30
     Second quarter.........................................    5.38        2.63
     Third quarter..........................................    5.50        4.13
     Fourth quarter.........................................    6.00        4.13

1998:
     First quarter..........................................   $4.50       $3.25
     Second quarter.........................................    3.97        2.75
     Third quarter..........................................    3.25        1.75
     Fourth quarter.........................................    3.50        1.81

1999:
     First quarter..........................................   $3.63       $2.06
     Second quarter.........................................    3.13        2.25
     Third quarter..........................................    3.00        2.16
     Fourth quarter.........................................    3.19        1.94

2000:
     First quarter (through March 20, 2000).................   $7.00       $2.75

         On March 20,  2000,  the closing  sales  price of our common  stock was
$5.13 per share.  As of March 20,  2000,  there were 34 holders of record of our
common stock.

         We have not declared or paid any cash dividends on our common stock and
do not intend to declare or pay any cash dividends in the foreseeable future. In
addition,  our credit facility with GE Capital restricts our ability to pay cash
dividends.

                                       22
<PAGE>
ITEM 6. SELECTED CONSOLIDATED FINANCIAL DATA

         The selected consolidated  financial data presented below as of and for
the fiscal  years ended  December  31, 1999 are  derived  from our  consolidated
financial   statements,   which  have  been  audited  by  Arthur  Andersen  LLP,
independent public accountants.  The selected consolidated financial information
provided  below  should  be  read in  conjunction  with  Item  7,  "Management's
Discussion and Analysis of Financial  Condition and Results of  Operations"  and
the Consolidated  Financial Statements of our company and related notes thereto.
No dividends were paid during the periods presented.

<TABLE>
<CAPTION>
                                                        YEAR ENDED DECEMBER 31,
                                ----------------------------------------------------------------------
                                        (IN THOUSANDS, EXCEPT SHARE AND PER SHARE AMOUNTS)
OPERATING DATA:                    1995           1996           1997           1998           1999
                                ----------    -----------     ----------    -----------     ----------
<S>                             <C>           <C>             <C>           <C>             <C>
Revenue ....................    $   39,601    $    46,154     $   47,675    $    47,983     $   49,662
                                ----------    -----------     ----------    -----------     ----------
Gross margin ...............        12,404         15,312         15,667         15,859         17,955
Operating expenses .........        10,399         13,749         13,828         14,415         15,321
Asset impairment and
 restructuring charges .....            --          4,805            819             --             --
                                ----------    -----------     ----------    -----------     ----------
Operating income (loss) ....         2,005         (3,242)         1,020          1,444          2,634
Interest expense ...........         1,130            840            663            791            676
                                ----------    -----------     ----------    -----------     ----------
Income (loss) before
 income taxes ..............           875         (4,082)           357            653          1,958
Provision for (benefit from)
 income taxes ..............           417            327            142           (330)           718
                                ----------    -----------     ----------    -----------     ----------
Net income (loss) ..........    $      458    $    (4,409)    $      215    $       983     $    1,240
                                ==========    ===========     ==========    ===========     ==========
Net income (loss) per share,
   diluted .................    $     0.17    $     (1.02)    $     0.05    $      0.23     $     0.29
                                ==========    ===========     ==========    ===========     ==========
Weighted average shares
 outstanding, diluted ......     2,769,434      4,342,238      4,342,238      4,342,238      4,344,003
                                ==========    ===========     ==========    ===========     ==========

                                                           AS OF DECEMBER 31,
                                 -------------------------------------------------------------------
                                                            (IN THOUSANDS)
BALANCE SHEET DATA:                1995           1996           1997           1998           1999
                                 -------        -------        -------        -------        -------
Assets:
 Current assets ...............  $17,719        $16,591        $19,507        $16,766        $19,645
 Property and equipment, net...    1,731          2,465          2,616          2,663          2,356
 Goodwill, net ................    7,089          2,547          2,395          2,244          1,906
 Other, net ...................      931            815          1,146          1,169          1,307
                                 -------        -------        -------        -------        -------
                                 $27,470        $22,418        $25,664        $22,842        $25,214
                                 =======        =======        =======        =======        =======

Liabilities:
 Current liabilities ..........  $13,591        $12,627        $15,743        $12,044        $13,208
 Other long-term obligations...       69            391            306            199            186
                                 -------        -------        -------        -------        -------
Total liabilities .............   13,660         13,018         16,049         12,243         13,394
Stockholders' equity ..........   13,810          9,400          9,615         10,599         11,820
                                 -------        -------        -------        -------        -------
                                 $27,470        $22,418        $25,664        $22,842        $25,214
                                 =======        =======        =======        =======        =======
</TABLE>

                                       23
<PAGE>
ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
        AND RESULTS OF OPERATIONS

INTRODUCTION

         We were  incorporated in Delaware on March 10, 1994. On April 11, 1994,
we acquired the operating assets of the Vodavi  Communications  Systems Division
(the Vodavi Division) of Executone.  The Vodavi Division and its predecessor had
engaged in the design,  development,  and  marketing of key  telephone  systems,
commercial grade  telephones,  and related products since 1983. In October 1995,
we completed our initial public offering and acquired Vodavi-CT,  Inc. (formerly
Enhanced  Systems,  Inc.).  Vodavi-CT  develops  and markets  voice  processing,
interactive  voice response,  and call accounting  software  products for small,
medium, and large businesses,  universities, and government organizations in the
United States and  internationally.  In July 1995, we acquired from an affiliate
of LGIC certain of the assets and liabilities of a telecommunications  equipment
repair business located in Scottsdale, Arizona. We sold our repair operations in
June 1999.

RESULTS OF OPERATIONS

ANNUAL RESULTS

         The  following  table  sets  forth,  for  the  periods  indicated,  the
percentage of total revenue  represented  by certain  revenue and expense items.
The table  and the  discussion  below  should  be read in  conjunction  with the
Consolidated  Financial  Statements  and Notes thereto that appear  elsewhere in
this Report.

                                                     YEARS ENDED DECEMBER 31,
                                                   ----------------------------
                                                    1997       1998       1999
                                                   ------     ------     ------
                                                     %          %          %
                                                   -----      -----      -----

Revenue.........................................   100.0%     100.0%     100.0%
Cost of goods sold .............................    67.1%      67.0%      63.8%
                                                   -----      -----      -----
  Gross margin .................................    32.9%      33.0%      36.2%
Operating expenses:
Engineering and product development ............     4.4%       3.4%       2.7%
Selling, general, and administrative ...........    24.6%      26.7%      28.2%
Asset impairment and restructuring charges......     1.7%         0%         0%
                                                   -----      -----      -----
Operating income (loss) ........................     2.2%       2.9%       5.3%
Other income (expense), net ....................    (1.4)%     (1.6)%     (1.4)%
                                                   -----      -----      -----
Pretax income (loss) ...........................     0.8%       1.3%       3.9%
Income tax expense (benefit) ...................     0.3%      (0.7)%      1.4%
                                                   -----      -----      -----
Net income (loss) ..............................     0.5%       2.0%       2.5%
                                                   =====      =====      =====

REVENUE

         Revenue in 1999 was  approximately  $49.7 million,  an increase of $1.7
million,  or 3.5%, over 1998 revenue of approximately  $48.0 million.  Sales for
the  INFINITE  product  line  accounted  for an increase of  approximately  $1.9
million, a 25% increase in sales of those products over 1998. Approximately $1.5
million of the increase in INFINITE sales is  attributable  to voice mail sales.
Sales of our voice mail products  increased due to the  introduction  of digital
voice mail in early 1999 and sales  incentives that we offered  throughout 1999.
These sales incentives  encouraged the purchase of voice mail with key telephone
systems,  or bundling.  Revenue for all of our voice processing products through
all of our distribution  channels increased by $2.8 million,  or 40%, in 1999 to
approximately $9.7 million.

         The increase in total revenue  during 1999 was partially  offset by the
migration from our older digital key telephone systems, which we discontinued in
January  2000,  to our newer Triad and DHS systems,  as well as the

                                       24
<PAGE>
migration  of  our  commercial  grade  telephones  to the  new  2700  series  of
commercial  grade  telephones,  which replaced our 2600 series beginning in June
1999.  These  product  migrations  had a  negative  impact  on  our  revenue  of
approximately $1.3 million. In addition, we sold our repair center in the second
quarter of 1999. Repair revenue was  approximately  $772,000 in 1999 as compared
with $1,514,000 in 1998.

         Revenue in 1998  increased  slightly to $48.0  million  over revenue of
approximately  $47.7 million in 1997. Sales of key telephone  products increased
by approximately  $1.3 million over sales of those products in 1997 and sales of
voice mail systems  increased by approximately  $2.0 million over sales of those
products  in  1997.   These  sales  increases  were  offset,   however,   by  an
approximately  $1.8 million decrease in sales of commercial grade telephones and
an approximately $1.6 million decrease in sales to OEMs.

COST OF GOODS SOLD

         Gross  margins  increased to 36.2% of revenue in 1999 as compared  with
33.0% in 1998.  The  improvement in gross margin in 1999 was  attributable  to a
number of factors,  including  changes in product mix as sales of  higher-margin
voice processing  products increased from 13% of total revenue in 1998 to 20% of
total revenue in 1999. Other factors include the elimination of expenses related
to our repair center division,  which we sold during the second quarter of 1999,
negotiated  discounts from our vendors,  a decrease in import duties,  decreased
discounts  provided to wholesale  distributors,  and increased  participation in
rebate programs provided by our vendors.

         During 1999, margins were also favorably impacted by our acquisition of
the licensing and  manufacturing  rights to our "Talkpath" and "Dispatch"  voice
processing  product lines from Connected Systems in May 1999. Our acquisition of
the rights to this  technology has allowed us to contract  directly with LGIC to
manufacture these products, which improved our margin on sales of these systems.

         Gross  margins  increased  slightly  to  33.0%  of  revenue  in 1998 as
compared with 32.9% in 1997.  Although sales of higher-margin voice mail systems
increased  substantially  during 1998, overall gross margins remained relatively
constant  as a result  of  increased  rebates  that we  provided,  primarily  to
wholesale  distributors and the  interconnects to which those  distributors sell
our products.

ENGINEERING AND PRODUCT DEVELOPMENT

         Engineering   and  product   development   expenditures   decreased  to
approximately  $1.4  million in 1999 as compared  with $1.6  million in 1998 and
$2.1 million and 1997.  These  decreases are due to the  elimination  of several
engineering and product  development  positions within our company during fiscal
1998 as a result of the termination of a PBX development project.

SELLING, GENERAL AND ADMINISTRATIVE EXPENSES

         Selling,  general and  administrative,  or SG&A,  expenses increased to
approximately $14.0 million in 1999 as compared with $12.8 million in 1998. As a
percentage of revenue, SG&A expenses increased to 28.2% from 26.7% in 1998. This
increase is  primarily a result of the  addition of several new sales  personnel
and the completion of our executive  management  team. The increase in SG&A also
can be attributed to increased efforts in our marketing and sales programs.

         SG&A  expenses  increased  to  approximately  $12.8  million in 1998 as
compared with $11.7  million in 1997. As a percentage of revenue,  SG&A expenses
increased to 26.7% in 1998 from 24.6% in 1997.  This  increase can be attributed
primarily to an increase in personnel in sales and marketing functions.

ASSET IMPAIRMENT AND RESTRUCTURING CHARGES

         We  established  a provision  of  $411,000  in 1997 for  restructuring,
legal,  and other reserve charges.  Included in accrued  liabilities at December
31, 1997, 1998, and 1999 were $702,000,  $94,000, and $0,  respectively,  of the
reserve established in prior years. We charged $184,000,  $608,000,  and $94,000
against the reserves during 1997, 1998, and 1999, respectively.

                                       25
<PAGE>
INTEREST EXPENSE

         Interest  expense  decreased  from  approximately  $791,000  in 1998 to
approximately  $676,000 in 1999.  The  $115,000  decrease can be  attributed  to
decreased  average  borrowings  during  1999 as a result  of  reduced  levels of
inventory throughout the year.

         Interest  expense  increased  to  approximately  $791,000  in  1998  as
compared with  $663,000 in 1997.  The $128,000  increase in interest  expense in
1998 can be  attributed  to an increase in  borrowings  as a result of increased
levels of inventory and receivables.

INCOME TAXES

         We have  provided for income taxes using an effective  rate of 36.7% in
1999,  as compared  with a tax  benefit of  $330,000,  or 50.5%,  in 1998 and an
effective  rate of 39.8% in 1997.  We  utilized  research  and  development  tax
credits of  approximately  $135,000 in 1999,  $509,000 in 1998,  and $100,000 in
1997, which favorably impacted the effective tax rate in each of those years.

LIQUIDITY AND CAPITAL RESOURCES

         We had cash of  approximately  $1.5 million at December  31, 1999.  Our
cash accounts are swept regularly and applied against our line of credit with GE
Capital.  Effective September 30, 1999, we negotiated an increase in our line of
credit from $12.0 million to $15.0 million.  The line of credit expires in April
2003 and bears interest at 2.5% over the 30-day  commercial  paper rate, a total
of 8.05% at December 31, 1999.  Advances under the line of credit are based upon
eligible accounts receivable and inventory of our wholly owned subsidiary,  VCS,
and are  secured  by  substantially  all of our  assets.  We had  borrowings  of
approximately  $8.7 million  against our available  operating  line of credit at
December 31, 1999,  which represents an increase of $1.0 million from borrowings
of $7.7 million at December 31, 1998.  This  increase was  primarily  due to the
timing of payments received on accounts receivable  balances from customers.  At
December 31, 1999,  our net eligible  borrowing  availability  under the line of
credit was approximately $2.5 million.

         The revolving line of credit contains  covenants that are customary for
similar credit  facilities and also  prohibits our operating  subsidiaries  from
paying  dividends to our company without the consent of GE Capital.  At December
31, 1999, we were in compliance with these covenants.

         Working capital increased to approximately $6.4 million at December 31,
1999 from  approximately  $4.7 million at December 31, 1998.  This  increase was
attributable  to increases in accounts  receivables  (primarily due to timing of
receipts),  inventory, and prepaid and other current assets, partially offset by
increases in accounts payable and the line of credit.  Our current ratio was 1.5
for 1999 as compared with 1.4 for 1998.  The industry  average for this ratio is
2.0 and the S&P 500 average is 1.2.

         During May 1999, we entered into a  non-exclusive  licensing  agreement
with Santa Barbara  Connected  Systems  Corporation to acquire the licensing and
manufacturing  rights to our "Talkpath" and "Dispatch" voice processing  product
lines.  Since 1997, we had purchased  these products from Connected  Systems for
private-labeled  sales  to  distribution  partners  and  customers.   Under  the
agreement,  we paid  Connected  Systems  $500,000  during  1999.  No  additional
payments  are due under this  agreement.  The  purchase of this  technology  has
allowed us to contract directly with the end manufacturer, which has resulted in
significant cost savings on these products.

         On June 24, 1999, we sold our repair center  division's  net inventory,
property, and other assets with a net book value of approximately  $531,000. The
buyer  paid to us  consideration  of  $100,000  in cash,  a note  receivable  of
$200,000  that  the  buyer  paid on July  31,  1999,  and a note  receivable  of
approximately  $195,000 with monthly  payments of  approximately  $16,000 for 12
months commencing August 1, 1999.  Payments on the note were current at December
31, 1999. We also incurred  liabilities of  approximately  $50,000 in connection
with this  transaction,  which we paid in the fourth quarter of 1999. As part of
this  transaction,  we  entered  into  a  seven-year  repair  and  refurbishment
agreement with the buyer.  Under this  agreement,  we appointed the buyer as the
exclusive authorized repair center for our products.

                                       26
<PAGE>
         In October  1999,  our Board of Directors  approved a buy-back of up to
400,000 shares of our outstanding common stock through April 2000. Financing for
the buy-back is provided  through our line of credit,  as amended on October 31,
1999. As of December 31, 1999, we had repurchased  16,800 shares at a total cost
of  $45,000.  Except for the  repurchase  of 210,000  shares of common  stock in
connection  with the  settlement  of a  lawsuit,  we have  not made any  further
repurchases  as of the filing date of this  Report.  We are  accounting  for the
repurchase program under the cost method.

         We  are  a  defendant   in  various   lawsuits.   See  Item  3,  "Legal
Proceedings."  We have not made any  provisions in our financial  statements for
these  lawsuits.  The imposition of damages in any of these matters could have a
material adverse effect on our results of operations and financial position.

         From  time  to time  we  also  are  subject  to  certain  asserted  and
unasserted claims encountered in the normal course of business.  We believe that
the  resolution of these matters will not have a material  adverse effect on our
financial  position  or  results of  operations.  We cannot  provide  assurance,
however,  that damages that result in a material adverse effect on our financial
position or results of operations will not be imposed in these matters.

         We  believe  that  our  working  capital  and  credit   facilities  are
sufficient  to  finance  our  internal  growth  in the near  term.  Although  we
currently  have no  acquisition  targets,  we  intend  to  continue  to  explore
acquisition  opportunities  as they arise and may be required to seek additional
financing in the future to meet such opportunities.

INTERNATIONAL MANUFACTURING SOURCES

         We currently  obtain some of our products  under various  manufacturing
arrangements  with  third-party  manufacturers  in Asia.  As of the date of this
report, we do not believe that the current economic situations in Asia will have
any adverse impact on our operations.

YEAR 2000 COMPLIANCE

         During 1999, we engaged a third-party consultant to evaluate our entire
internal  computer  system and to upgrade  some of our  existing  financial  and
accounting  systems,  including  software  related  to  order  entry,  inventory
management,  materials  planning,  and accounts  payable and  receivable.  These
upgrades  improved  the content,  quality,  and flow of  information  within our
company and addressed Year 2000 issues. These upgrades were completed and tested
prior to December  31, 1999.  As of the filing date of this Report,  we have not
experienced any material disruption to our operations as a result of any failure
of any of our systems to function  properly as of January 1, 2000.  We also have
not experienced any Year 2000 failures related to any of our significant vendors
or suppliers, including our third party manufacturers in Asia.

         Year 2000 compliance has many elements and potential consequences, some
of which  may not be  foreseeable  or may be  realized  in  future  periods.  In
addition,  unforeseen  circumstances  may  arise,  and we may not in the  future
identify equipment or systems that are not Year 2000 compliant.

ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK

         At  December  31,  1999,  we did  not  participate  in  any  derivative
financial  instruments or other  financial and commodity  instruments  for which
fair value disclosure would be required under Statement of Financial  Accounting
Standards  No.  107. We do not hold  investment  securities  that would  require
disclosure of market risk.

         Our market risk  exposure is limited to interest  rate risk  associated
with our credit  instruments.  We incur interest on loans made under a revolving
line of credit at  variable  interest  rates of 2.5% over the 30 day  commercial
prime rate, a total of 8.05% at December 31, 1999.  The principal of loans under
this  line of  credit  is due in  April  2003.  At  December  31,  1999,  we had
outstanding borrowings on the line of credit of approximately $8.7 million.

                                       27
<PAGE>
ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTAL DATA

         Reference is made to the financial statements,  the report thereon, and
the  notes  thereto  commencing  at page  F-1 of this  Report,  which  financial
statements, report, and notes are incorporated herein by reference.

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

         Not applicable.

                                    PART III

ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT

         The  information  required by this Item  relating to our  directors  is
incorporated  herein by reference to the definitive  Proxy Statement to be filed
pursuant to Regulation 14A of the  Securities  Exchange Act of 1934, as amended,
for our 2000 Annual Meeting of  Stockholders.  The information  required by this
Item  relating to our  executive  officers  is  included in Item 1,  "Business -
Executive Officers."

ITEM 11. EXECUTIVE COMPENSATION

         The  information  required  by this  Item  is  incorporated  herein  by
reference to the definitive  Proxy  Statement to be filed pursuant to Regulation
14A of the Exchange Act for our 2000 Annual Meeting of Stockholders.

ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT

         The  information  required  by this  Item  is  incorporated  herein  by
reference to the definitive  Proxy  Statement to be filed pursuant to Regulation
14A of the Exchange Act for our 2000 Annual Meeting of Stockholders.

ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS

         The  information  required  by this  Item  is  incorporated  herein  by
reference to the definitive  Proxy  Statement to be filed pursuant to Regulation
14A of the Exchange Act for our 2000 Annual Meeting of Stockholders.

                                     PART IV

ITEM 14. EXHIBITS, FINANCIAL STATEMENT SCHEDULES, AND REPORTS ON FORM 8-K

(a) FINANCIAL STATEMENTS AND FINANCIAL STATEMENT SCHEDULES

     (1)  Financial Statements are listed in the Index to Consolidated Financial
          Statements on page F-1 of this Report.

     (2)  Financial Statement  Schedules:  Schedule II, Valuation and Qualifying
          Accounts is set forth on page S-2 of this Report.

(b) REPORTS ON FORM 8-K.

         Not applicable.

                                       28
<PAGE>
(C) EXHIBITS

EXHIBIT
NUMBER                                                 EXHIBIT
------                                                 -------

3.1     Amended Certificate of Incorporation of the Registrant(l)
3.2     Amended and Restated Bylaws of the Registrant(l)
4.1     Form of Certificate representing shares of Common Stock, par value $.001
        per share(1)
4.2     Form of Underwriter's Warrant(l)
4.3     Common  Stock  Purchase  Warrant  dated  February  22,  1999,  issued to
        Continental Capital & Equity Corporation
10.2    Security   Agreement   dated  as  of  April  11,  1994  between   Vodavi
        Communications Systems, Inc. and General Electric Capital Corporation(l)
10.3    Stock Pledge and Security  Agreement  dated as of April 11, 1994 between
        the Registrant and General Electric Capital Corporation(l)
10.7    Patent  Collateral  Assignment  Agreement  dated  as of April  11,  1994
        between V Technology  Acquisition  Corp.  and General  Electric  Capital
        Corporation(l)
10.8    Trademark  Security  Agreement  dated as of April  11,  1994  between  V
        Technology Acquisition Corp. and General Electric Capital Corporation(l)
10.9    Vodavi  Technology,  Inc.  Second Amended and Restated 1994 Stock Option
        Plan(8)
10.10   Stockholders'  Agreement  among the  Registrant,  V Technology  Holdings
        Corp.,  GoldStar  Telecommunication  Co., Ltd.,  The Sherman Group,  The
        Opportunity Fund, Steven A. Sherman,  and Glenn R. Fitchet,  dated March
        28, 1994, and Amendment Agreement dated April 5, 1995(1)
10.12   Vodavi  Key  System  Agreement  dated  April 4,  1994  between  GoldStar
        Telecommunication   Co.,  Ltd.,  and  Vodavi  Communication  Systems,  a
        division of Executone Information Systems, Inc.(l)
10.13   Vodavi  Single  Line  Telephone  Agreement  dated April  4,1994  between
        Srithai GoldStar Co., Ltd., and Vodavi  Communication  Systems,  Inc., a
        division of Executone Information Systems, Inc.(l)
10.13A  Vodavi Single Line  Telephone  Agreement  Extension  dated April 4, 1997
        between Vodavi Communications Systems, Inc. and L.G. Srithai Electronics
        Co., Ltd.(2)
10.15   Assignment  and  Assumption  Agreement  dated  April  11,  1994  between
        Executone  Information  Systems,  Inc.  and  V  Technology   Acquisition
        Corp.(l)
10.19   OEM  Agreement  dated as of June 19, 1995,  between  Tecom Co., Ltd. and
        Vodavi Communications Systems, Inc.(3)
10.21   Master  Lease  Agreement  dated May 31,  1996,  between  Matrix  Funding
        Corporation and Vodavi Communications Systems, Inc.(4)
10.22   Master Lease  Agreement  dated October 7, 1996,  between  Matrix Funding
        Corporation and Vodavi Communications Systems, Inc.(5)
10.23   Amended and Restated Credit Agreement dated as of April 11, 1994 between
        Vodavi  Communications   Systems,  Inc.  and  General  Electric  Capital
        Corporation, as Amended and Restated as of June 11, 1997(2)
10.24   First Amendment to Stock Pledge and Security  Agreement dated as of June
        11, 1997, between Vodavi  Technology,  Inc. and General Electric Capital
        Corporation(2)
10.25   Security  Agreement dated as of June 11, 1997 between Enhanced  Systems,
        Inc. and General Electric Capital Corporation(2)
10.26   Security  Agreement  dated as of June 11, 1997  between  Arizona  Repair
        Services, Inc. and General Electric Capital Corporation(2)
10.27   Guaranty  Agreement  dated as of June 11,  1997,  by and  among  Arizona
        Repair  Services,  Inc.,  Enhanced  Systems,  Inc., and General Electric
        Capital Corporation(2)
10.28   Trademark Security Agreement,  dated as of June 11, 1997, by and between
        Vodavi  Communications   Systems,  Inc.  and  General  Electric  Capital
        Corporation(2)
10.29   Trademark  Security  Agreement dated as of June 11, 1997, by and between
        Enhanced Systems, Inc. and General Electric Capital Corporation(2)
10.31   OEM  Agreement  dated  August 15,  1997  between  Vodavi  Communications
        Systems, Inc. and Fujitsu Business Communication Systems, Inc.(6)

                                       29
<PAGE>
10.32   OEM Purchase Agreement dated as of April 11, 1997, between Santa Barbara
        Connected Systems Corporation and Enhanced Systems, Inc.(8)
10.33   Consulting  Agreement  dated  as of  December  5,  1997  between  Vodavi
        Technology, Inc. and Steven A. Sherman(8)
10.34   Bill  of Sale  and  Assignment  dated  June  24,  1999,  between  Vodavi
        Communications Systems, Inc. and Aztec International LLC.(9)
10.35   Repair and Refurbishment  Agreement dated June 24, 1999,  between Vodavi
        Communication Systems, Inc. and Aztec International LLC(9)
10.36   License  Agreement dated May 17, 1999,  between Santa Barbara  Connected
        Systems Corporation and Vodavi Technology, Inc.(9)
10.37   Object Code Software  License  Agreement dated May 24, 1999,  between D2
        Technologies, Inc. and Vodavi Technology, Inc.(9)
10.38   Fourth  Amendment  to Credit  Agreement  between  Vodavi  Communications
        Systems, Inc. and General Electric Capital Corporation(10)
10.39   Stock  Option   Agreement  dated  February  20,  1998,   between  Vodavi
        Technology, Inc. and Larry L. Steinmetz(11)
10.40   Employment  Agreement dated October 1, 1999, between William J. Hinz and
        Vodavi Technology, Inc.
10.41   Employment  Agreement  dated October 1, 1999,  between Gregory K. Roeper
        and Vodavi Technology, Inc.
10.42   Second  Amendment to Amended and Restated Credit Agreement dated October
        31,  1999,  between  Vodavi  Communications  Systems,  Inc.  and General
        Electric Capital Corporation
21      List of Subsidiaries
23.1    Consent of Arthur Andersen LLP
27.1    Financial Data Schedule
27.2    Restated Financial Data Schedule

----------
(1)  Incorporated  by  reference  to  Registration  Statement  on Form  S-1 (No.
     33-95926) and amendments thereto which became effective on October 6, 1995.
(2)  Incorporated by reference to the Registrant's Quarterly Report on Form 10-Q
     for the quarter ended June 30, 1997, as filed on August 11, 1997.
(3)  Incorporated  by reference to the  Registrant's  Annual Report on Form 10-K
     for the fiscal year ended December 31, 1995, as filed on April 1, 1996.
(4)  Incorporated by reference to the Registrant's Quarterly Report on Form 10-Q
     for the quarter ended June 30, 1996, as filed on August 14, 1996.
(5)  Incorporated by reference to the Registrant's Quarterly Report on Form 10-Q
     for the quarter ended September 30, 1996, as filed on November 14, 1996.
(6)  Incorporated by reference to the Registrant's Quarterly Report on Form 10-Q
     for the quarter ended September 30, 1997, as filed on November 14, 1997.
(7)  Incorporated  by reference to the  Registrant's  Annual Report on Form 10-K
     for the fiscal year ended December 31, 1996, as filed on March 28, 1997.
(8)  Incorporated  by reference to the  Registrant's  Annual Report on Form 10-K
     for the fiscal year ended December 31, 1997, as filed on March 31, 1998 and
     as amended on Form 10-K/A filed on April 30, 1998.
(9)  Incorporated by reference to the Registrant's Quarterly Report on Form 10-Q
     for the quarter ended June 30, 1999, as filed on August 16, 1999.
(10) Incorporated by reference to the Registrant's Quarterly Report on Form 10-Q
     for the quarter ended September 30, 1999, as filed on November 12, 1999.
(11) Incorporated  by reference to the  Registration  Statement on Form S-8 (No.
     333-95607) as filed on January 28, 2000.

                                       30
<PAGE>
                                   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.

                                        VODAVI TECHNOLOGY, INC.


Date:  March 23, 2000                   By: /s/ Gregory K. Roeper
                                           -------------------------------------
                                           Gregory K. Roeper
                                           President and Chief Executive Officer

         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 date indicated.


     SIGNATURE                          TITLE                         DATE
     ---------                          -----                         ----


/s/ William J. Hinz             Chairman of the Board             March 23, 2000
----------------------------
William J. Hinz


/s/ Gregory K. Roeper           President, Chief Executive        March 23, 2000
----------------------------    Officer, and Director
Gregory K. Roeper               (Principal Executive Officer)


/s/ Tammy M. Powers             Vice President - Finance, Chief   March 23, 2000
----------------------------    Financial Officer, and Treasurer
Tammy M. Powers                 (Principal Financial and
                                Accounting Officer)


/s/ J. H. Bae                   Director                          March 23, 2000
----------------------------
J. H. Bae


/s/ Gilbert H. Engels           Director                          March 23, 2000
----------------------------
Gilbert H. Engels


/s/ Stephen A McConnell         Director                          March 23, 2000
----------------------------
Stephen A McConnell


/s/ Emmett E. Mitchell          Director                          March 23, 2000
----------------------------
Emmett E. Mitchell

                                       31
<PAGE>
                    VODAVI TECHNOLOGY, INC. AND SUBSIDIARIES

                   INDEX TO CONSOLIDATED FINANCIAL STATEMENTS

                                                                          PAGE
                                                                          ----

Report of Independent Public Accountants ................................. F-2

Consolidated Balance Sheets as of December 31, 1998 and 1999 ............. F-3

Consolidated Statements of Operations for the Years Ended
   December 31, 1997, 1998, and 1999 ..................................... F-4

Consolidated Statements of Changes in Stockholders' Equity for
   the Years Ended December 31, 1997, 1998, and 1999 ..................... F-5

Consolidated Statements of Cash Flows for the Years Ended
   December 31, 1997, 1998, and 1999 ..................................... F-6

Notes to Consolidated Financial Statements ............................... F-7

Report of Independent Public Accountants ................................. S-1

Schedule II, Valuation and Qualifying Accounts ............................S-2


                                      F-1
<PAGE>
                              ARTHUR ANDERSEN LLP

                    REPORT OF INDEPENDENT PUBLIC ACCOUNTANTS


To Vodavi Technology, Inc. and Subsidiaries:


We  have  audited  the  accompanying   consolidated  balance  sheets  of  VODAVI
TECHNOLOGY,  INC. (a Delaware  corporation) AND SUBSIDIARIES (the Company) as of
December  31,  1998  and  1999,  and  the  related  consolidated  statements  of
operations, changes in stockholders' equity and cash flows for each of the three
years in the period  ended  December  31,  1999.  These  consolidated  financial
statements   are  the   responsibility   of  the   Company's   management.   Our
responsibility  is  to  express  an  opinion  on  these  consolidated  financial
statements based on our audits.

We conducted our audits in accordance with auditing standards generally accepted
in the United  States.  Those  standards  require  that we plan and  perform the
audits to obtain reasonable assurance about whether the financial statements are
free of material  misstatement.  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 financial  statements  referred to above present fairly, in
all material respects,  the financial position of the Company as of December 31,
1998 and 1999 and the results of its  operations  and its cash flows for each of
the three years in the period  ended  December  31,  1999,  in  conformity  with
accounting principles generally accepted in the United States.


                                             /s/ Arthur Andersen LLP

Phoenix, Arizona,
  February 10, 2000, (except with
  respect to the matters discussed
  in Note 10, as to which the date
  is February 16, 2000.)

                                      F-2
<PAGE>
                    VODAVI TECHNOLOGY, INC. AND SUBSIDIARIES
                           CONSOLIDATED BALANCE SHEETS
                        IN THOUSANDS EXCEPT SHARE AMOUNTS

                                                              December 31,
                                                        ------------------------
                                                          1998           1999
                                                        --------       --------
                                     ASSETS

CURRENT ASSETS:
 Cash                                                   $    796       $  1,528
 Accounts receivable, net of reserve for
  doubtful accounts and sales returns of
  $674 in 1998 and $1,239 in 1999                          8,888         10,530
 Inventories                                               6,385          6,550
 Prepaid expenses and other                                  697          1,037
                                                        --------       --------

     Total current assets                                 16,766         19,645

PROPERTY AND EQUIPMENT, net                                2,663          2,356

GOODWILL, net                                              2,244          1,906

OTHER LONG-TERM ASSETS, net                                1,169          1,307
                                                        --------       --------

                                                        $ 22,842       $ 25,214
                                                        ========       ========

                      LIABILITIES AND STOCKHOLDERS' EQUITY

CURRENT LIABILITIES:
 Accounts payable                                       $  2,321       $  1,342
 Accrued liabilities                                       1,370          1,074
 Accrued rebates                                             483            472
 Payable to related parties                                   34          1,648
 Revolving credit facility                                 7,711          8,672
 Long-term debt                                              125             --
                                                        --------       --------

     Total current liabilities                            12,044         13,208
                                                        --------       --------

OTHER LONG-TERM OBLIGATIONS                                  199            186
                                                        --------       --------

COMMITMENTS AND CONTINGENCIES

STOCKHOLDERS' EQUITY:
 Preferred stock, $.001 par value, 1,000,000
  shares authorized, no shares issued                         --             --
 Common stock, $.001 par value, 10,000,000
  shares authorized; 4,342,238 shares issued;
  4,342,238 and 4,325,438 shares outstanding
  at December 31, 1998 and 1999, respectively                  4              4
 Additional paid-in capital                               12,308         12,334
 Accumulated deficit                                      (1,713)          (473)
 Treasury stock, at cost, 16,800 shares                       --            (45)
                                                        --------       --------
                                                          10,599         11,820
                                                        --------       --------

                                                        $ 22,842       $ 25,214
                                                        ========       ========

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

                                       F-3
<PAGE>
                    VODAVI TECHNOLOGY, INC. AND SUBSIDIARIES
                      CONSOLIDATED STATEMENTS OF OPERATIONS
                      IN THOUSANDS EXCEPT PER SHARE AMOUNTS


                                                   Years Ended December 31,
                                               ---------------------------------
                                                 1997        1998         1999
                                               --------    --------     --------

REVENUE, net                                   $ 47,675    $ 47,983     $ 49,662

COSTS OF GOODS SOLD (including
 products acquired from related
 parties (LGIC) of $17.8 million,
 $18.0 million, and $18.8 million,
 respectively)                                   32,008      32,124       31,707
                                               --------    --------     --------
         Gross margin                            15,667      15,859       17,955

OPERATING EXPENSES:
 Engineering and product development              2,101       1,616        1,352
 Selling, general and administrative             11,727      12,799       13,969
 Restructuring charge                               819          --           --
                                               --------    --------     --------

OPERATING INCOME                                  1,020       1,444        2,634

INTEREST EXPENSE                                    663         791          676
                                               --------    --------     --------

INCOME BEFORE INCOME TAXES                          357         653        1,958

PROVISION FOR (BENEFIT  FROM)
 INCOME TAXES                                       142        (330)         718
                                               --------    --------     --------

NET INCOME                                     $    215    $    983     $  1,240
                                               ========    ========     ========

BASIC EARNINGS PER SHARE                       $    .05    $    .23     $    .29
                                               ========    ========     ========

DILUTED EARNINGS PER SHARE                     $    .05    $    .23     $    .29
                                               ========    ========     ========
WEIGHTED AVERAGE SHARES
 OUTSTANDING - BASIC                              4,342       4,342        4,340
                                               ========    ========     ========
WEIGHTED AVERAGE SHARES
 OUTSTANDING - DILUTED                            4,342       4,342        4,344
                                               ========    ========     ========

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

                                       F-4
<PAGE>
                    VODAVI TECHNOLOGY, INC. AND SUBSIDIARIES
           CONSOLIDATED STATEMENTS OF CHANGES IN STOCKHOLDERS' EQUITY
                        IN THOUSANDS EXCEPT SHARE AMOUNTS

<TABLE>
<CAPTION>
                                Common Stock    Additional     Treasury Stock
                             -----------------   Paid-In    -------------------  Accumulated
                               Shares   Amount   Capital    Shares      Value      Deficit     Total
                               ------   ------   -------    ------      -----      -------     -----
<S>                         <C>         <C>     <C>       <C>         <C>         <C>        <C>
BALANCE, December 31, 1996   4,342,238   $  4    $12,308        --     $     --    $(2,911)   $  9,401
 Net income                         --      -         --        --           --        215         215
                             ---------   ----    -------   -------     --------    -------    --------
BALANCE, December 31, 1997   4,342,238      4     12,308        --           --     (2,696)      9,616
 Net income                         --      -         --        --           --        983         983
                             ---------   ----    -------   -------     --------    -------    --------
BALANCE, December 31, 1998   4,342,238      4     12,308        --           --     (1,713)     10,599
 Net income                         --      -         --        --           --      1,240       1,240
 Purchase of common stock           --      -         --   (16,800)         (45)        --         (45)
 Warrants issued                    --      -         26        --           --         --          26
                             ---------   ----    -------   -------     --------    -------    --------
BALANCE, December 31, 1999   4,342,238   $  4    $12,334   (16,800)    $    (45)   $  (473)   $ 11,820
                             =========   ====    =======   =======     ========    =======    ========
</TABLE>

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

                                       F-5
<PAGE>
                    VODAVI TECHNOLOGY, INC. AND SUBSIDIARIES
                      CONSOLIDATED STATEMENTS OF CASH FLOWS
                                  IN THOUSANDS

<TABLE>
<CAPTION>
                                                                Years Ended December 31,
                                                           -------------------------------
                                                             1997        1998        1999
                                                           -------     -------     -------
<S>                                                        <C>         <C>         <C>
CASH FLOWS FROM OPERATING ACTIVITIES:
 Net income                                                $   215     $   983     $ 1,240
 Adjustments to reconcile net income to net cash
  provided by (used in) operating activities:
   Depreciation and amortization                               750         765         830
   Asset impairment                                            408          --          --
   Rent equalization                                            44          17         (13)
   Loss on sale of repair center division                       --          --          86
 Changes in working capital:
   Accounts receivable, net                                 (1,944)        794      (1,529)
   Inventories                                              (1,137)      1,901        (407)
   Prepaid expenses and other                                 (352)        209        (338)
   Other long-term assets                                     (451)        (56)        300
   Accounts payable and payables to related parties           (144)     (1,965)        635
   Accrued liabilities and accrued rebates                    (199)       (562)       (307)
                                                           -------     -------     -------
       Net cash flows provided by (used in)
        operating activities                                (2,810)      2,086         497
                                                           -------     -------     -------
CASH FLOWS FROM INVESTING ACTIVITIES:
 Cash paid for license agreement                                --          --        (500)
 Cash paid to acquire property and equipment                  (577)       (629)       (387)
 Proceeds from disposition of repair center division            --          --         331
 Accrued acquisition costs paid                                (36)         --          --
                                                           -------     -------     -------
       Net cash flows used in investing activities            (613)       (629)       (556)
                                                           -------     -------     -------
CASH FLOWS FROM FINANCING ACTIVITIES:
 Net borrowings (payments) on revolving credit facility      3,242        (917)        961
 Payments on capital leases                                   (260)       (378)       (125)
 Purchase of common stock                                       --          --         (45)
 Financing costs paid                                          (77)         --          --
                                                           -------     -------     -------
       Net cash flows provided by (used in)
        financing activities                                 2,905      (1,295)        791
                                                           -------     -------     -------

CHANGE IN CASH                                                (518)        162         732

CASH, beginning of period                                    1,152         634         796
                                                           -------     -------     -------

CASH, end of period                                        $   634     $   796     $ 1,528
                                                           =======     =======     =======
</TABLE>
                 The accompanying notes are an integral part of
                    these consolidated financial statements.

                                       F-6
<PAGE>
                    VODAVI TECHNOLOGY, INC. AND SUBSIDIARIES
                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS



1. NATURE OF BUSINESS AND SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES

     NATURE OF BUSINESS

Vodavi  Technology,  Inc.  (the  Company),  a  Delaware  corporation,   designs,
develops,  markets,  and  supports a broad range of business  telecommunications
solutions,  including digital telephone systems,  voice processing systems,  and
computer-telephony  products  for a wide variety of business  applications.  The
Company  markets  its  products  primarily  in the  United  States as well as in
foreign  countries  through  a  distribution  network  consisting  of  wholesale
distributors,  direct dealers, and its own sales personnel.  The Company's sales
efforts have been  concentrated  on major  wholesale  distributors  as well as a
direct  dealer  network.  During 1997,  1998,  and 1999,  sales to the Company's
largest  distributor  accounted  for  40%,  39%,  and  41%  of  total  revenues,
respectively. During 1997, 1998, and 1999, sales to the Company's second largest
customer  accounted for an additional 10%, 12%, and 11%  respectively.  Accounts
receivable  from these two largest  distributors  comprise 43% of total accounts
receivable for both December 31, 1998 and 1999, respectively.

The Company currently obtains most of its products from manufacturers located in
South Korea,  Thailand,  Taiwan,  and the People's Republic of China.  While the
Company  believes that  production of its product  lines  overseas  enhances its
profitability,  these  arrangements  expose the Company to certain  economic and
political  risks.  Certain of these purchases are made from related parties (See
Note 8).

     PRINCIPLES OF CONSOLIDATION

The consolidated  financial  statements  include the accounts of the Company and
its wholly owned  subsidiaries  Vodavi  Communication  Systems,  Inc. (VCS), and
Vodavi-CT, Inc. (Vodavi-CT),  formerly known as Enhanced Systems, Inc. (together
referred to as the Company).  All material  intercompany  transactions have been
eliminated in consolidation.

     USE OF ESTIMATES

The preparation of financial  statements in conformity  with generally  accepted
accounting  principles  requires the Company's  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  revenue  and  expenses  during  the
reporting period. Actual results could differ from those estimates.

                                       F-7
<PAGE>
     INVENTORIES

Inventories  consist primarily of purchased  products from manufacturers and are
stated at the lower of cost (first-in,  first-out  method) or market.  For these
items,  the Company  takes title to products when they are finished  goods.  The
tooling and manufacturing equipment included within property and equipment below
is owned by the Company and used by third party manufacturers.

     IMPAIRMENT OF LONG-LIVED ASSETS

Statement of Financial  Accounting  Standards (SFAS) No. 121, ACCOUNTING FOR THE
IMPAIRMENT OF  LONG-LIVED  ASSETS AND FOR  LONG-LIVED  ASSETS TO BE DISPOSED OF,
requires that  long-lived  assets be reviewed for impairment  whenever events or
circumstances  indicate  that  the  carrying  amount  of the  assets  may not be
recoverable.  If the sum of the  expected  future cash flows  (undiscounted  and
without  interest  charges)  from an asset to be held and used in  operations is
less than the carrying value of the asset, an impairment loss must be recognized
in the amount of the  difference  between the carrying value and the fair value.
Assets to be disposed  of must be valued at the lower of carrying  value or fair
value less costs to sell.

     PROPERTY AND EQUIPMENT

Property and equipment are recorded at cost.  Depreciation is computed using the
straight-line  method.  Property  and  equipment  and the related  useful  lives
consist of the following as of December 31, 1998 and 1999, respectively:

                                           Useful Life
          Type of Asset                     in Years      1998         1999
          -------------                     --------      ----         ----
    IN THOUSANDS
    Office and computer equipment                5      $ 2,185      $ 2,423
    Furniture and fixtures                      10          339          345
    Tooling and manufacturing equipment        5-8        1,725        1,636
    Property and equipment in progress          --           42           85
                                                        -------      -------
                                                          4,291        4,489
    Less - accumulated depreciation                      (1,628)      (2,133)
                                                        -------      -------
                                                        $ 2,663      $ 2,356
                                                        =======      =======

Property and equipment in progress relates to assets under development that have
not yet been placed in service. Depreciation expense was $482,000, $582,000, and
$604,000, for December 31, 1997, 1998, and 1999, respectively.

                                       F-8
<PAGE>
     GOODWILL

Goodwill  represents the cost in excess of the estimated fair values of tangible
assets  and   liabilities   acquired.   Goodwill  is  being   amortized  on  the
straight-line method over 20 years. Amortization expense was $151,000, $151,000,
and $141,000, for December 31, 1997, 1998, and 1999,  respectively.  Accumulated
amortization   was  $697,000  and  $769,000  at  December  31,  1998  and  1999,
respectively.

     OTHER LONG TERM ASSETS

Included in other long-term assets is a licensing  agreement the Company entered
into in 1999 to  acquire  the  licensing  and  manufacturing  rights to  certain
product lines for $500,000.  This  agreement is being  amortized,  in accordance
with SFAS No. 86,  ACCOUNTING  FOR THE COSTS OF  COMPUTER  SOFTWARE  TO BE SOLD,
LEASED,  OR  OTHERWISE  MARKETED,  utilizing  a  useful  life  of  three  years.
Amortization expense for 1999 was $42,000.

The  remaining  balance in other long term assets is  comprised  of deferred tax
assets  and  various  development  costs  which are being  amortized  over their
remaining useful lives.

     INCOME TAXES

The Company  utilizes the liability method of accounting for income taxes as set
forth in SFAS No. 109,  ACCOUNTING FOR INCOME TAXES. Under the liability method,
deferred  taxes are  provided  based on the  temporary  differences  between the
financial  reporting  basis  and the  tax  basis  of the  Company's  assets  and
liabilities.

     REVENUE RECOGNITION

Revenue  from  product  sales,  net of an  allowance  for  product  returns,  is
recognized  upon  shipment to the  customer.  Revenue  from  custom  software is
recognized upon substantial completion of the Company's obligation. Revenue from
extended  maintenance  contracts is recognized  over the lives of the respective
contracts, generally twelve months.

     EARNINGS PER SHARE

In accordance with SFAS No. 128,  EARNINGS PER SHARE, the Company displays basic
and diluted  earnings per share (EPS).  Basic EPS is  determined by dividing net
income by the weighted  average number of common shares  outstanding.  The basic
weighted  average  number of common  shares  outstanding  excludes  all dilutive
securities.  Diluted EPS is  determined  by dividing  net income by the weighted
average number of common shares and dilutive securities outstanding. No dilutive
securities  were included in the diluted EPS  calculation  for each of the years
ended December 31, 1997 and 1998, as all  outstanding  dilutive  securities were
out of the money.

                                       F-9
<PAGE>
A reconciliation  of the numerator and denominator  (weighted  average number of
shares  outstanding) of the basic and diluted EPS computation for the year ended
December 31, 1999, is as follows:

                                          Income           Shares
                                        (numerator)     (denominator)      EPS
                                        -----------     -------------      ---
     Basic EPS                          $1,240,000        4,339,966       $0.29
     Effect of stock options                    --            4,037          --
                                        ----------       ----------       -----
     Diluted EPS                        $1,240,000        4,344,003       $0.29
                                        ==========       ==========       =====

     FAIR VALUE OF FINANCIAL INSTRUMENTS

The following disclosure of the estimated fair value of financial instruments is
made in accordance with the requirements of SFAS No. 107, DISCLOSURES ABOUT FAIR
VALUE OF FINANCIAL INSTRUMENTS.

The carrying value of cash, accounts  receivable,  accounts payable,  payable to
related  parties,  and accrued  liabilities  approximate  fair values due to the
short-term  maturities of these  instruments.  As the revolving  credit facility
bears a variable  interest rate at 2.5% over the 30-day  commercial  paper rate,
the carrying value approximates fair value.

     RECENTLY ADOPTED ACCOUNTING PRONOUNCEMENTS

Effective  January 1, 1998, the Company adopted SFAS No. 131,  DISCLOSURES ABOUT
SEGMENTS OF  AN ENTERPRISE AND RELATED  INFORMATION,  which established  revised
standards  for the  reporting of financial  and  descriptive  information  about
operating segments in financial statements.

The Company has  determined  that it operates  in one  reportable  segment,  the
distribution  of  telecommunications  equipment.  The Company has three  product
categories - telephony, voice processing, and computer-telephony;  however, each
of these does not meet the segment criteria for SFAS No. 131.

As a result of the foregoing,  the Company has determined that it is appropriate
to present one reportable  segment consistent with the guidance of SFAS No. 131.
Accordingly,  the Company has not presented separate  financial  information for
each product category as the Company's consolidated financial statements present
its one reportable segment.

2. RESTRUCTURING CHARGE

Included in accrued  liabilities  at December  31, 1998 and 1999 are $94,000 and
$0,   respectively,   for  restructuring,   legal,  and  other  reserve  charges
established during 1996 and 1997.  $592,000,  $608,000,  and $94,000 was charged
against these reserves during 1997, 1998, and 1999, respectively.

                                      F-10
<PAGE>
3. REVOLVING CREDIT FACILITY

As of December 31, 1999, the Company  maintains a $15.0 million revolving credit
facility with a financial institution.  Borrowings under the facility, which are
based on inventory and accounts receivable,  carry interest payable monthly at a
variable  rate based on  commercial  paper plus 2.5% (7.8% and 8.05% at December
31, 1998 and 1999, respectively).  The credit facility expires in April 2003 and
is secured by substantially  all of the Company's  assets. At December 31, 1999,
$8.7 million was  outstanding on the revolving  credit facility and $2.5 million
was the total eligible availability.

The credit agreement contains certain financial covenants that are customary for
similar  credit   facilities   and  also   prohibits  the  Company's   operating
subsidiaries  from paying  dividends  to the Company  without the consent of the
financial institution.  At December 31, 1999, the Company was in compliance with
these covenants.

4. LONG-TERM DEBT

During 1997,  the Company  entered into several  capital lease  agreements  with
interest rates ranging from 9% to 13%.  These  agreements had terms of 24 months
and provided the Company with an option to purchase the  equipment for a nominal
amount at the end of the lease  term.  The  remaining  balance  of  $125,000  at
December 31, 1998 was paid and the equipment was acquired during 1999.

5. COMMITMENTS AND CONTINGENCIES

     LEGAL MATTERS

On November 9, 1998,  Paradygm  Communications,  Inc.  (Paradygm) and R.C. Patel
(Patel) filed a lawsuit against the Company's wholly owned subsidiary VCS in the
Superior Court of Gwinnett County, Georgia (Case No. 98-A-8744-6). The complaint
alleges that VCS (i) breached its strategic alliance agreement with Paradygm, as
well as its warranty of product fitness under the strategic alliance  agreement;
(ii) failed to provide  reasonable  technical and sales  training  assistance to
Paradygm's  employees to support  Paradygm in its efforts to sell products under
the  agreement;  and (iii) engaged in conduct that  constitutes  intentional  or
negligent  misrepresentation.  The complaint  requests  compensatory,  punitive,
incidental,  and  consequential  damages,  attorneys'  fees, plus any additional
relief. VCS answered the complaint denying the foregoing allegations,  asserting
that the complaint fails to state a claim and, for various  reasons,  the relief
sought by  Paradygm  and  Patel is  barred.  VCS also has  filed a  counterclaim
against  Paradygm  alleging that Pardygm  breached the agreement  because of its
failure  to meet its  payment  obligations  to VCS.  The  counterclaim  requests
amounts  due  pursuant  to  the  strategic  alliance  agreement,  the  costs  of
litigation, and reasonable attorneys' fees.

On December 21, 1998, the case was removed from the Superior Court to the United
States District Court for the Northern  District of Georgia - Atlanta  Division.
On March  24,  1999,  the  plaintiffs  filed  an  amended  complaint  to add the
Company's subsidiary Vodavi-CT as an

                                      F-11
<PAGE>
additional  defendant.  The amended  complaint  alleges claims against Vodavi-CT
similar to those alleged in the original complaint.  On July 28, 1999, Vodavi-CT
filed an answer and denied those  allegations on the same basis as VCS' original
answer. The parties currently are conducting discovery.

The  Company is  vigorously  defending  this  lawsuit.  As the  Company  can not
reasonably estimate any potential ultimate exposure with respect to this matter,
no provision has been made in its financial statements.

     OPERATING LEASES

The Company has entered into  long-term  lease  agreements for all of its office
and warehouse facilities.  Minimum payments under the Company's lease agreements
are as follows:

     Years Ending December 31,                                     Operating
     IN THOUSANDS                                                   Leases
                                                                   ---------
     2000                                                          $ 1,165
     2001                                                            1,206
     2002                                                              317
     2003                                                              179
     2004                                                              179
                                                                   -------
     Total minimum lease committments                                3,046
     Total minimum noncancelable sublease rentals                     (912)
                                                                   -------
                                                                   $ 2,134
                                                                   =======

Rent  expense  is  recognized  on a  straight-line  basis  and  was  $1,107,000,
$1,107,000,  and  $1,112,000  for the years ended  December 31, 1997,  1998, and
1999, respectively. The difference between rent expensed and paid is included in
other long-term obligations.

     ROYALTIES

VCS acquires certain  proprietary  components from a third party under the terms
of a license  agreement which expires in 2014. Under the terms of the agreement,
VCS will pay a 5.3% royalty over the manufactured cost of all products utilizing
the  proprietary  components.  Total  royalties  related to this  agreement were
$449,000,  $264,000,  and $161,000 in 1997,  1998, and 1999,  respectively.  The
Company  has  discontinued  manufacturing  the  line of  products  that use this
licensed  technology and  anticipates  that the remaining  products in inventory
will be sold over the next 18 months.

     401(k) PROFIT SHARING PLAN

The Company sponsors a profit sharing plan (the 401(k) Plan) pursuant to Section
401(k)  of  the  Internal   Revenue  Code  of  1986.   The  401(k)  Plan  covers
substantially all full-time employees who meet the eligibility  requirements and
provides for a discretionary  profit sharing  contribution by the Company and an
employee elective contribution with a discretionary

                                      F-12
<PAGE>
Company matching  provision.  The Company expensed  discretionary  contributions
pursuant to the 401(k) Plan in the amounts of $75,000,  $70,000, and $68,000 for
the years ended December 31, 1997, 1998, and 1999, respectively.

6. STOCKHOLDERS' EQUITY

     TREASURY STOCK

In the fourth quarter of 1999, the Company began acquiring  shares of its common
stock in connection with a stock repurchase  program authorized by the Company's
Board of  Directors in October  1999.  That  program  authorizes  the Company to
purchase up to 400,000 common shares over a six-month  period on the open market
or  pursuant  to  negotiated  transactions  at price  levels the  Company  deems
attractive.  The Company  purchased  16,800 shares of common stock in 1999 at an
aggregate cost of $45,000.

     WARRANTS

In  connection  with  the  initial  public  offering,  the  Company  sold to its
underwriter  warrants to purchase up to 133,333  shares of its common stock at a
price of $7.20 per share. The warrants are exercisable during a four-year period
commencing on October 12, 1996.

Pursuant to a marketing  agreement with its investor relations firm, on February
22, 1999, the Company issued warrants for 122,500 shares of the Company's common
stock at prices between $4.00-$6.50 per share. The Company valued these warrants
at $26,000  utilizing the  Black-Scholes  option pricing  model.  This amount is
being  amortized  over a 12-month  period.  The warrants are  exercisable  for a
five-year period commencing on February 22, 1999,  subject to earlier expiration
six months from the date of termination of the investor relations firm under the
agreement.  Piggyback  registration  rights were  granted for the common  shares
underlying these warrants.

     OTHER OPTIONS

Pursuant to a separation  agreement,  on February 20, 1998,  the Company  issued
options for 58,750 shares of the Company's  common stock at $4.00 per share. The
options are exercisable for a five year period commencing on February 20, 1998.

     VODAVI TECHNOLOGY, INC. 1994 STOCK OPTION PLAN

The Vodavi  Technology,  Inc.  1994 Stock  Option Plan (the  Plan),  as amended,
provides  for the  granting of (a) options to purchase  shares of the  Company's
common stock, (b) stock appreciation  rights, (c) shares of the Company's common
stock,  or (d) other cash awards  related to the value of the  Company's  common
stock.  Under the Plan,  options and other awards may be issued to key personnel
of  the  Company.   The  options  issued  may  be  incentive  stock  options  or
nonqualified  stock options.  The Plan also includes an automatic  program under
which

                                      F-13
<PAGE>
nonqualified  options are  automatically  granted to the Company's  non-employee
directors.  If any options  terminate or expire without having been exercised in
full, the stock  underlying such options will again be available for grant under
the Plan.  A total of  850,000  shares of common  stock may be issued  under the
Plan. The Plan expires in 2004.

To the extent that granted  options are incentive  stock options,  the terms and
conditions  of  those  options  must  be  consistent   with  the   qualification
requirements set forth in Section 422 of the Internal Revenue Code of 1986.

The  maximum  number of shares of common  stock  that can be  granted to any one
employee,  including officers, during the term of the Plan may not exceed 50% of
the shares of common stock covered by the Plan.

The  expiration  date,  maximum  number  of  shares  purchasable,  and the other
provisions of the options are  established at the time of grant.  Options may be
granted for terms of up to ten years and become  exercisable  in whole or in one
or more installments at such time as may be determined by the plan administrator
upon grant of the options.  The exercise prices of options are determined by the
plan administrator, but may not be less than 100% (110% if the option is granted
to a stockholder  who at the time the option is granted owns stock  representing
more than ten percent of the total  combined  voting power of all classes of the
Company's stock) of the fair market value of the common stock at the time of the
grant.

The following summarizes activity under the Plan for the years ended:

<TABLE>
<CAPTION>
                               December 31, 1997      December 31, 1998        December 31, 1999
                             --------------------  -----------------------   ---------------------
                                         Weighted                 Weighted                Weighted
                                         Average                  Average                  Average
                               Number    Exercise    Number       Exercise     Number     Exercise
                             of Options   Price    of Options      Price     of Options    Price
                             ----------   -----    ----------      -----     ----------    -----
<S>                           <C>         <C>        <C>         <C>          <C>         <C>
Options outstanding at
 beginning of period:         498,500     $5.08      816,900     $   4.80     592,400     $  4.88
  Granted                     380,600      4.45      157,500         3.90     267,500        2.62
  Forfeited                   (62,200)     5.13     (382,000)        4.42     (80,100)       4.95
                             --------     -----    ---------     --------    --------     -------
Options outstanding
 at end of period             816,900     $4.80      592,400     $   4.88     779,800     $  4.03
                             ========     =====    =========     ========    ========     =======
Options available
 for grant                     33,100                257,600                   70,200
                             ========              =========                 ========
Exercisable at end
 of period                    178,125     $4.00      327,325     $   4.99     384,100     $  4.83
                             ========     =====    =========     ========    ========     =======
Weighted average fair
 value of options granted    $   2.93              $    2.43                 $   1.69
                             ========              =========                 ========
</TABLE>

                                      F-14
<PAGE>
<TABLE>
<CAPTION>
                                 OPTIONS OUTSTANDING                   OPTIONS EXERCISABLE
                  ---------------------------------------------   ----------------------------
                                       Weighted-
                                        Average       Weighted-                       Weighted-
                       Number          Remaining      Average         Number          Average
   RANGE OF         Outstanding at    Contractual     Exercise     Exercisable at     Exercise
EXERCISE PRICES   December 31, 1999  Life (in years)   Price      December 31, 1999    Price
---------------   -----------------  ---------------   -----      -----------------    -----
<S>                 <C>                 <C>          <C>            <C>              <C>
$2.375 - $4.25        545,000             7.9          $3.31          195,000          $3.94
$4.625 - $7.00        234,800             5.4          $5.68          189,100          $5.74
                      -------                                         -------
$2.375 - $7.00        779,800             7.1          $4.03          384,100          $4.83
                      =======                                         =======
</TABLE>

The Company has elected to account for its stock-based  compensation plans under
APB Opinion (APB) No. 25, ACCOUNTING FOR STOCK ISSUED TO EMPLOYEES. Accordingly,
no compensation cost is recognized in the accompanying  financial statements for
stock-based employee awards.  Entities electing to remain with the accounting in
APB No. 25 must make pro forma disclosures of net income and earnings per share,
as if the fair  value  based  method  of  accounting  defined  in SFAS No.  123,
ACCOUNTING  FOR  STOCK-BASED  COMPENSATION  had been  applied.  The  Company has
computed,  for pro forma disclosure  purposes,  the value of all options granted
during 1997, 1998, and 1999, using the  Black-Scholes  option pricing model with
the following weighted average assumptions:

                                                Year Ended December 31,
                                          ---------------------------------
                                           1997          1998          1999
                                           ----          ----          ----
     Risk free interest rate               6.16%         5.50%         5.23%
     Expected dividends                    none          none          none
     Expected lives in years                  5             5           4.8
     Expected volatility                  62.47%        70.09%        71.62%

If the Company had accounted for its stock-based  compensation plan using a fair
value based method of  accounting,  the Company's net income (loss) and earnings
(loss) per share would have been reported as follows:

                                                Year Ended December 31,
                                          ---------------------------------
                                           1997          1998          1999
                                           ----          ----          ----
IN THOUSANDS, EXCEPT PER SHARE AMOUNTS
Net income (loss):
 Pro forma                                $(150)         $806         $1,035
Earnings (loss) per share:
 Pro forma - Basic                        $(.03)         $.19         $  .24
 Pro forma - Diluted                       (.03)          .19            .24

                                      F-15
<PAGE>
7. INCOME TAXES

The Company  files a  consolidated  federal  income tax  return.  The income tax
provision (benefit) is comprised of the following:

                                                    1997       1998      1999
                                                    -----     -----     -----
IN THOUSANDS
Current                                             $ 203     $(167)    $ 808
Deferred                                              (61)     (163)      (90)
                                                    -----     -----     -----

                                                    $ 142     $(330)    $ 718
                                                    =====     =====     =====

The  Company  provides  for  deferred  income  taxes  resulting  from  temporary
differences  between  amounts  reported for financial  accounting and income tax
purposes.  The  components of the net deferred  income tax asset at December 31,
1998 and 1999, were as follows:

                                                              1998      1999
                                                             ------    ------
Deferred tax assets:
IN THOUSANDS
  Inventory and receivable reserves                          $  375    $  363
  UNICAP adjustment                                              87        88
  Other accruals                                                256       255
  Research and development credit                               326       219
                                                             ------    ------

                                                              1,044       925
                                                             ------    ------
Deferred tax liabilities:
IN THOUSANDS
  Depreciation differences                                     (264)     (300)
  Amortization differences                                      (37)      (44)
                                                             ------    ------

                                                               (301)     (344)
                                                             ------    ------

Net deferred tax asset                                       $  743    $  581
                                                             ======    ======

Reconciliation of the federal income tax rate to the Company's  effective income
tax rate is as follows:

                                                     1997      1998      1999
                                                    -----     -----     -----
Federal statutory tax rate                           34.0%     34.0%     34.0%
State taxes, net                                      4.6       4.6       3.0
Research and development tax credits                (10.8)    (93.4)    (10.0)
Non-deductible expenses and
  other permanent differences                        12.0       4.3       9.7
                                                    -----     -----     -----

                                                     39.8%    (50.5)%    36.7%
                                                    =====     =====     =====

                                      F-16
<PAGE>
In 1997, the Company  recorded  $100,000 in research and development tax credits
made available through filing amended tax returns for prior years.

In 1998, the Company  finalized its research and development tax credit analysis
and  identified  $509,000 in  available  tax  credits.  $183,000 in research and
development  tax credits were  utilized  through  carrybacks  to prior years and
application  to the 1998 tax  returns.  In  addition,  a  deferred  tax asset of
$326,000 was recorded.

The Company has estimated that it generated $135,000 in research and development
tax credits during 1999. The Company will finalize this analysis prior to filing
its 1999 tax returns.  The  realization of these deferred tax assets will depend
on future income.  The Company  believes that operating  income will more likely
than not be sufficient to fully realize the net deferred tax asset of $581,000.

8. RELATED PARTIES TRANSACTIONS

LG  Information  and  Communications,   Ltd.  (LGIC),  the  Company's  principal
supplier, owned approximately 18.8% of the Company's outstanding common stock at
December 31, 1999. The Company  purchased  approximately  $18.8  million,  $16.3
million,   and  $18.4  million  of  key  telephone  systems,   commercial  grade
telephones,  and voice mail  products  from LGIC and an affiliate of LGIC during
1997, 1998, and 1999, respectively.  Management believes that the purchases from
LGIC and its affiliate  approximate  terms which would be charged to non-related
parties.

9. SUPPLEMENTAL CASH FLOW INFORMATION

Cash paid for interest  and income taxes for the years ended  December 31, 1997,
1998, and 1999 were as follows:

                                                        1997    1998    1999
                                                        ----    ----    ----
IN THOUSANDS
Interest paid                                           $663    $791    $676
Income taxes paid                                       $630    $ 58    $677

On June 24, 1999,  the Company sold its repair center  division's net inventory,
property,  and other  assets with a net book value of  $531,000.  The buyer paid
consideration  of $100,000  cash, a note  receivable  of $200,000 that the buyer
paid on July 31, 1999, and a note  receivable of $195,000 with monthly  payments
of $16,000 for twelve months commencing August 1, 1999. This note was current at
December  31,  1999.  The  Company  also  incurred  liabilities  of  $50,000  in
connection with this transaction, which were paid in the fourth quarter of 1999.
The Company  recorded a loss of $86,000 in connection  with the sale. As part of
this transaction, the Company entered into a seven-year repair and refurbishment
agreement with the buyer. Under this agreement,  the Company appointed the buyer
as the exclusive authorized repair center for the Company's products.

                                      F-17
<PAGE>
     Supplemental  schedule of non-cash  investing and financing  activities for
     the sale of the repair center division is as follows:

IN THOUSANDS
Carrying amount of net assets sold                                      $ 531
Notes receivable from buyer                                              (114)
Loss on sale                                                              (86)
                                                                        -----
  Cash proceeds from disposition of repair center division              $ 331
                                                                        =====

The Company  also issued  warrants to an investor  relations  firm during  1999,
which were  valued  utilizing  the  Black-Scholes  option  pricing  model.  This
calculation resulted in a value of $26,000, which is being amortized over twelve
months.

10. SUBSEQUENT EVENTS

     SETTLEMENT OF LAWSUIT

In January 2000,  the Company  finalized a settlement  agreement with the former
owners of Vodavi-CT,  (formerly  Enhanced Systems,  Inc.). The settlement ends a
three-year  dispute  between the Company and the former owners of Vodavi-CT.  In
connection with this settlement,  the Company  repurchased 210,000 shares of the
Company's  common stock for $500,000 from the former  owners of Vodavi-CT.  This
repurchase  represents  treasury  stock  and is being  accounted  for  under the
program authorized by the Company's Board of Directors in October 1999 (See Note
6).

     LITIGATION FILED SUBSEQUENT TO DATE OF FINANCIAL STATEMENTS

On February 16, 2000,  the former  owners of Vodavi-CT  filed suit in the United
States  District Court for the Northern  District of Georgia,  Atlanta  Division
against the Company and the Company's President and Chief Executive Officer. The
plaintiffs allege that the Company and its President violated federal securities
laws,  made false  representations  and omitted  material  facts,  and  breached
fiduciary  duties to the  plaintiffs in connection  with the repurchase of their
shares of the Company's  common stock in the  settlement  described  above.  The
plaintiffs  are  seeking an  unspecified  amount of  compensatory  and  punitive
damages  as well as  their  expenses  of  litigation.  The  Company  intends  to
vigorously defend this lawsuit.

                                      F-18
<PAGE>
                               ARTHUR ANDERSEN LLP

                    REPORT OF INDEPENDENT PUBLIC ACCOUNTANTS

To Vodavi Technology, Inc. and Subsidiaries:

We have audited, in accordance with auditing standards generally accepted in the
United  States,  the  financial  statements  of  VODAVI  TECHNOLOGY,   INC.  AND
SUBSIDIARIES  (the  Company)  included  in this Form 10-K,  and have  issued our
report  thereon dated  February 10, 2000.  Our audit was made for the purpose of
forming an opinion on those statements  taken as a whole. The schedule  included
at page S-2 is the  responsibility of the Company's  management and is presented
for purposes of complying with the Securities  and Exchange  Commission's  rules
and is not  part of the  basic  financial  statements.  This  schedule  has been
subjected to the auditing procedures applied in the audit of the basic financial
statements  and, in our  opinion,  fairly  states in all  material  respects the
financial  data  required  to be set  forth  therein  in  relation  to the basic
financial statements taken as a whole.

                                             /s/ Arthur Andersen LLP

Phoenix, Arizona,
  February 10, 2000.

                                       S-1
<PAGE>
                                   SCHEDULE II

                        VALUATION AND QUALIFYING ACCOUNTS
              For the years ended December 31, 1997, 1998 and 1999
                                  IN THOUSANDS

                                                    1997      1998       1999
                                                    ----      ----       ----
Reserve for doubtful accounts and sales returns:
  Balance at beginning of year                      $ 234     $ 249     $   674
  Provision                                            83       451         589
  Write-offs                                          (68)      (26)        (24)
                                                    -----     -----     -------
  Balance at end of year                            $ 249     $ 674     $ 1,239
                                                    =====     =====     =======

Restructuring reserve :
  Balance at beginning of year                      $ 475     $ 702     $    94
  Provision (a)                                       411        --          --
  Payments (a)                                       (184)     (608)        (94)
                                                    -----     -----     -------
  Balance at end of year                            $ 702     $  94     $    --
                                                    =====     =====     =======

----------
(a)  - The  difference  between  the  restructuring  provision  and  the  amount
     reported on the  Consolidated  Statements of Operations  for the year ended
     December 31, 1997,  represents  asset write downs taken in connection  with
     the restructuring.

                                       S-2