EXHIBIT 13.0 ANNUAL REPORT TO SECURITY HOLDERS

FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA

REPORT OF ERNST & YOUNG LLP, INDEPENDENT AUDITORS

SHAREHOLDERS AND BOARD OF DIRECTORS
INTER-TEL, INCORPORATED

We have  audited the  accompanying  consolidated  balance  sheets of  Inter-Tel,
Incorporated  and subsidiaries as of December 31, 2001 and 2000, and the related
consolidated statements of operations,  shareholders' equity, and cash flows for
each of the three years in the period ended  December 31, 2001.  Our audits also
included the financial  statement  schedule listed in the Index at Item 14(a) 2.
These financial  statements and schedule are the responsibility of the Company's
management.  Our  responsibility  is to express  an  opinion on these  financial
statements and schedule 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 audit
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  consolidated  financial  position  of  Inter-Tel,
Incorporated   and   subsidiaries  at  December  31,  2001  and  2000,  and  the
consolidated  results of their  operations  and their cash flows for each of the
three years in the period ended December 31, 2001, in conformity with accounting
principles  generally accepted in the United States.  Also, in our opinion,  the
related financial statement  schedule,  when considered in relation to the basic
financial statements taken as a whole,  presents fairly in all material respects
the information set forth therein.

                                        /s/ ERNST & YOUNG LLP

Phoenix, Arizona
February 13, 2002

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<PAGE>
INTER-TEL, INCORPORATED AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
December 31, 2001 and 2000
--------------------------------------------------------------------------------

(In thousands, except share amounts)                       2001         2000
                                                         ---------    ---------
ASSETS
CURRENT ASSETS
Cash and equivalents                                     $  61,795    $  27,103
Accounts receivable, less allowances of
  $11,858 in 2001 and $17,187 in 2000                       45,962       61,482
Inventories, less allowances of $13,202
  in 2001 and $11,897 in 2000                               20,848       35,060
Net investment in sales-leases                              13,799       14,629
Income taxes receivable                                      3,257        9,157
Deferred income taxes                                        8,467       13,116
Prepaid expenses and other assets                            4,891        7,668
                                                         ---------    ---------
TOTAL CURRENT ASSETS                                       159,019      168,215

PROPERTY, PLANT & EQUIPMENT                                 23,835       32,723
EQUIPMENT HELD UNDER LEASE, NET                                 70          423
GOODWILL AND OTHER INTANGIBLES                              18,659       18,389
NET INVESTMENT IN SALES-LEASES                              21,735       22,808
OTHER ASSETS                                                 4,144          568
                                                         ---------    ---------
                                                         $ 227,462    $ 243,126
                                                         ---------    ---------
LIABILITIES AND SHAREHOLDERS' EQUITY
CURRENT LIABILITIES
Accounts payable                                         $  21,812    $  35,438
Other current liabilities                                   44,051       46,769
                                                         ---------    ---------
TOTAL CURRENT LIABILITIES                                   65,863       82,207

DEFERRED TAX LIABILITY                                      17,390        5,222
LEASE RECOURSE LIABILITY                                     8,890        7,697
RESTRUCTURING RESERVE                                        3,060        5,760
OTHER LIABILITIES                                            5,422        5,804

SHAREHOLDERS' EQUITY
Common stock, no par value - authorized 100,000,000
  shares; issued and outstanding - 24,166,430 shares
  in 2001 and 25,950,969 shares in 2000                    108,968      109,132
Less: Shareholder loans                                       (942)      (1,018)
Retained earnings                                           54,877       44,099
Accumulated other comprehensive income                         151         (280)
                                                         ---------    ---------
                                                           163,054      151,933
Less: Treasury stock at cost - 2,995,393 shares in
      2001 and 1,210,854 shares in 2000                    (36,217)     (15,497)
                                                         ---------    ---------

TOTAL SHAREHOLDERS' EQUITY                                 126,837      136,436

                                                         ---------    ---------
                                                         $ 227,462    $ 243,126
                                                         ---------    ---------

See accompanying notes.

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INTER-TEL, INCORPORATED AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF OPERATIONS
Years Ended December 31, 2001, 2000 and 1999
--------------------------------------------------------------------------------

(In thousands, except per share data)           2001        2000        1999
                                              ---------   ---------   ---------
NET SALES                                     $ 385,655   $ 402,723   $ 314,221
Cost of sales                                   211,161     236,046     159,463
Cost of sales - Executone restructuring              --       7,639          --
                                              ---------   ---------   ---------

GROSS PROFIT                                    174,494     159,038     154,758

Research and development                         17,556      19,489      14,798
Selling, general and administrative             131,157     127,468      98,430
In-process research and development                  --       5,433          --
Other charges                                     5,357      45,245          --
                                              ---------   ---------   ---------
                                                154,070     197,635     113,228
                                              ---------   ---------   ---------

OPERATING INCOME (LOSS)                          20,424     (38,597)     41,530
                                              ---------   ---------   ---------

Equity share of Cirilium Corp.'s net Losses          --      (5,938)         --
Write-off of Cirilium Corp. investment               --      (2,045)         --
Interest and other income                          1081       1,474       2,391
Loss on foreign translation adjustments            (337)       (421)        (46)
Interest expense                                   (468)       (213)       (110)
                                              ---------   ---------   ---------
INCOME (LOSS) BEFORE INCOME TAXES                20,700     (45,740)     43,765

INCOME TAXES
Current                                          (3,647)     (9,904)     19,966
Deferred                                         11,306      (6,913)     (3,347)
                                              ---------   ---------   ---------
                                                  7,659     (16,817)     16,619
                                              ---------   ---------   ---------

NET INCOME (LOSS)                             $  13,041   $ (28,923)  $  27,146
                                              ---------   ---------   ---------

NET INCOME (LOSS) PER SHARE
Basic                                         $    0.53   $   (1.10)  $    1.05
Diluted                                       $    0.52   $   (1.10)  $    1.01
                                              ---------   ---------   ---------

Weighted average basic common shares             24,488      26,273      25,949

Weighted average diluted common shares           25,240      26,273      27,004
                                              ---------   ---------   ---------

See accompanying notes.

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INTER-TEL, INCORPORATED AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF SHAREHOLDERS' EQUITY
Years Ended December 31, 2001, 2000 and 1999
--------------------------------------------------------------------------------

<TABLE>
<CAPTION>
                                                                            Accumulated
                                                                               Other       Share-
                                     Common      Treasury      Retained    Comprehensive   Holder
(In thousands)                        Stock        Stock       Earnings    Income (loss)    Loans        Total
                                    ---------    ---------     ---------     ---------    ---------    ---------
<S>                                 <C>          <C>           <C>           <C>          <C>          <C>
BALANCE AT DECEMBER 31, 1998        $ 104,539    $ (15,851)    $  54,194     $    (196)   $      --    $ 142,686

Stock repurchase                                    (6,700)                                               (6,700)
Exercise of stock options                            8,027        (4,420)                                  3,607
Tax benefit from stock options          2,421                                                              2,421
Shareholder loans                                                                            (1,116)      (1,116)
Stock issued under
  Employee Stock Purchase Plan                         896           (45)                                    851
Adjustment to shares previously
  Issued in acquisition                  (107)                                                              (107)

Net income                                                        27,146                                  27,146
Gain on currency translation                                                       373                       373
                                                                                                       ---------
Comprehensive income                                                                                      27,519

Dividends                                                         (1,040)                                 (1,040)
                                    ---------    ---------     ---------     ---------    ---------    ---------
BALANCE AT DECEMBER 31, 1999          106,853      (13,628)       75,835           177       (1,116)     168,121

Stock repurchase                                    (6,711)                                               (6,711)
Exercise of stock options                            3,496        (1,468)                                  2,028
Tax benefit from stock options          1,852                                                              1,852
Shareholder loan repayments                                                                      98           98
Stock issued under
  Employee Stock Purchase Plan                       1,346          (293)                                  1,053
Issuance of shares in acquisition         427                                                                427

Net loss                                                         (28,923)                                (28,923)
Loss on currency translation                                                      (457)                     (457)
                                                                                                       ---------
Comprehensive loss                                                                                       (29,380)

Dividends                                                         (1,052)                                 (1,052)
                                    ---------    ---------     ---------     ---------    ---------    ---------
BALANCE AT DECEMBER 31, 2000          109,132      (15,497)       44,099          (280)      (1,018)     136,436

Stock repurchase                                   (28,905)                                              (28,905)
Exercise of stock options                            1,806          (509)                                  1,297
Tax benefit from stock options            263                                                                263
Shareholder loan repayments                                                                      76           76
Stock issued under
  Employee Stock Purchase Plan                       1,057           (91)                                    966
Issuance of treasury shares in
  conversion of subsidiary stock         (427)       5,322          (471)                                  4,424

Net income                                                        13,041                                  13,041
Gain on currency translation                                                       431                       431
                                                                                                       ---------
Comprehensive income                                                                                      13,472

Dividends                                                         (1,192)                                 (1,192)
                                    ---------    ---------     ---------     ---------    ---------    ---------
BALANCE AT DECEMBER 31, 2001        $ 108,968    $ (36,217)    $  54,877     $     151    $    (942)   $ 126,837
                                    ---------    ---------     ---------     ---------    ---------    ---------
</TABLE>

See accompanying notes.

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<PAGE>
INTER-TEL, INCORPORATED AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
Years ended December 31, 2001, 2000 and 1999
--------------------------------------------------------------------------------

<TABLE>
<CAPTION>
(In thousands)                                         2001        2000        1999
                                                     --------    --------    --------
<S>                                                  <C>         <C>         <C>
OPERATING ACTIVITIES:
Net income (loss)                                    $ 13,041    $(28,923)   $ 27,146
Adjustments to reconcile net income (loss)  to
 net cash provided by operating activities:
  Depreciation of fixed assets                          8,742       9,724       7,653
  Amortization of intangibles                           2,775       3,022       1,470
  Provision for losses on receivables                  12,100      11,720       8,396
  Provision for inventory valuation                     1,614       1,653       1,508
  Increase in other liabilities                         3,547       9,111       6,106
  Loss on sale of property and equipment:                 (39)        157         197
  Deferred income taxes (benefit)                      11,306      (6,913)     (3,347)
  Effect of exchange rate changes                         431        (457)        373
  Purchased in-process research and development            --       5,433          --
  Non-cash portion of other charges                     5,357      41,783          --
  Changes in operating assets and liabilities          16,132     (28,971)    (16,122)
                                                     --------    --------    --------
NET CASH PROVIDED BY OPERATING ACTIVITIES              75,006      17,339      33,380
                                                     --------    --------    --------
INVESTING ACTIVITIES:
Additions to property and equipment                    (7,988)     (9,597)    (12,486)
Additions to operating leases                              --        (122)     (3,115)
Proceeds from sale of property and equipment
 and operating leases                                     173          39       2,904
Cash received from disposition of business segment         --       6,602          --
Cash used in acquisitions and joint ventures           (6,789)     (2,855)    (59,960)
                                                     --------    --------    --------
NET CASH USED IN INVESTING ACTIVITIES                 (14,604)     (5,933)    (72,657)
                                                     --------    --------    --------
FINANCING ACTIVITIES:
Cash dividends paid                                      (983)     (1,054)     (1,040)
Proceeds from exercise of stock options                 1,373       2,126       2,491
Proceeds from stock issued under the
 Employee Stock Purchase Plan                             966       1,053         851
Proceeds from term debt                                 3,387       3,319          --
Payments on term debt                                  (1,548)     (2,262)       (223)
Treasury stock purchases                              (28,905)     (6,711)     (6,700)
                                                     --------    --------    --------
NET CASH USED IN FINANCING ACTIVITIES                 (25,710)     (3,529)     (4,621)
                                                     --------    --------    --------
INCREASE (DECREASE) IN CASH AND
   EQUIVALENTS                                         34,692       7,877     (43,898)

CASH AND EQUIVALENTS AT BEGINNING
   OF YEAR                                             27,103      19,226      63,124
                                                     --------    --------    --------
CASH AND EQUIVALENTS AT END OF YEAR                  $ 61,795    $ 27,103    $ 19,226
                                                     ========    ========    ========
</TABLE>

See accompanying notes.

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<PAGE>
INTER-TEL, INCORPORATED AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 2001, 2000 and 1999
--------------------------------------------------------------------------------

NOTE A - SIGNIFICANT ACCOUNTING POLICIES

     DESCRIPTION OF BUSINESS. Inter-Tel, incorporated in 1969, is a single point
of contact, full service provider of business communications systems, voice mail
systems and  networking  applications.  We market and sell voice  processing and
unified messaging  software,  call accounting  software,  Internet Protocol (IP)
telephony  software,  computer-telephone  integration (CTI)  applications,  long
distance calling services,  and other communications  services. Our products and
services  include the AXXESS by Inter-Tel and  ECLIPSE(2) by Inter-Tel  business
communication  systems,  with integrated voice processing and unified  messaging
systems,  IP telephony voice and data routers,  and  ClearConnect  Talk-to-Agent
e-commerce software.  We also provide maintenance,  leasing and support services
for  our  products.  Our  customers  include  business  enterprises,  government
agencies and non-profit organizations.  Our common stock is quoted on the Nasdaq
National Market System under the symbol "INTL."

     PRINCIPLES OF CONSOLIDATION.  The consolidated financial statements include
the  accounts  of  Inter-Tel,  Incorporated  and all  significant  subsidiaries.
Intercompany accounts and transactions have been eliminated in consolidation.

     CASH AND  EQUIVALENTS.  Cash and  equivalents  include  all  highly  liquid
investments  with a  remaining  maturity  of  three  months  or  less at date of
acquisition.  Excess cash and equivalents are primarily invested in mutual funds
comprised of foreign and domestic high quality dollar  denominated  money market
instruments rated A-1 by Standard & Poor's Ratings Group, or equivalent.

     INVENTORIES.  Inventories,  consisting  principally  of telephone  systems,
computer  equipment  and  related  components,  are  stated at the lower of cost
(first-in, first-out method) or market.

     PROPERTY,  PLANT AND EQUIPMENT.  Property, plant and equipment is stated at
cost. Depreciation is computed using the straight-line method over the estimated
useful lives of the related real and personal  property which range from 3 years
to 30 years.  Leasehold  improvements  are  depreciated  over the shorter of the
related lease terms or the estimated  useful lives of the  improvements.  Within
the category "computer systems and equipment," including database and enterprise
software,  WAN and LAN equipment and software,  personal computers,  servers and
related  software,  the range for estimated  useful lives is 3 years to 7 years.
See Note E for additional information.

     GOODWILL  AND  OTHER  INTANGIBLE   ASSETS.   Purchase  prices  of  acquired
businesses  and  technology  that  are  accounted  for as  purchases  have  been
allocated to the assets and  liabilities  acquired  based on the estimated  fair
values on the respective  acquisition  dates.  Based on these values, the excess
purchase prices over the fair value of the net assets acquired ("goodwill") were
being amortized over 3 to 40 years through December 31, 2001.

     At December 31, 2001, goodwill,  net of accumulated  amortization,  totaled
$13.7  million.  Other  acquisition-related   intangibles,  net  of  accumulated
amortization,   totaled  $5.0   million  at  December   31,  2001.   Accumulated
amortization  through  December 31, 2001 was $7.6 million.  This amount includes
$5.0 million of  amortization  of goodwill and $2.6 million of  amortization  of
other acquisition-related  intangibles.  Other acquisition-related  intangibles,
comprised primarily of developed technology,  customer lists and non-competition
agreements,  are amortized on a  straight-line  basis over periods  ranging from
5-17 years. See Note F for additional information.

     In June 2001 the Financial  Accounting Standards Board issued Statements of
Financial  Accounting  Standards (SFAS) 141,  "Business  Combinations," and 142,
"Goodwill  and Other  Intangible  Assets."  SFAS 141 requires  that the purchase
method of accounting be used for all business combinations  initiated after June
30,  2001.  SFAS 141 also  includes  guidance  on the  initial  recognition  and
measurement  of goodwill  and other  intangible  assets  arising  from  business
combinations  completed after June 30, 2001. SFAS 142 prohibits the amortization
of  goodwill  and  intangible  assets with  indefinite  useful  lives.  SFAS 142
requires  that  these  assets be  reviewed  for  impairment  at least  annually.
Intangible  assets with finite lives will  continue to be  amortized  over their

                                       6
<PAGE>
estimated useful lives.  Additionally,  SFAS 142 requires that goodwill included
in the carrying value of equity method investments no longer be amortized.

     Inter-Tel has adopted SFAS 142 effective  January 1, 2002.  Application  of
the nonamortization  provisions of SFAS 142 is expected to result in an increase
in income from continuing  operations before income taxes of approximately  $1.8
million in 2002. Inter-Tel has tested goodwill for impairment using the two-step
process  prescribed  in SFAS  142.  The  first  step is a screen  for  potential
impairment, while the second step measures the amount of the impairment, if any.
Inter-Tel has performed the first of the required  impairment tests for goodwill
as of January 1, 2002 and has determined that the carrying amount of goodwill is
not impaired.

     SALES-LEASES.  The discounted  present  values of minimum  rental  payments
under sales-type  leases are recorded as sales, net of provisions for continuing
administration  and other  expenses over the lease period.  The costs of systems
installed  under these  sales-leases,  net of residual  values at the end of the
lease periods,  are recorded as costs of sales.  Gains or losses  resulting from
the sale of rental  income from such leases are recorded as net sales.  Refer to
Note D for additional information.

     INCOME TAXES.  Deferred  income taxes result from temporary  differences in
the recognition of revenues and expenses for financial  reporting and income tax
purposes.

     ADVERTISING.  The cost of advertising is expensed as incurred.  We incurred
$596,000;  $513,000;  and $559,000 in advertising  costs during 2001,  2000, and
1999, respectively.

     REVENUE  RECOGNITION.  We recognize  revenue  pursuant to Staff  Accounting
Bulletin No. 101 "Revenue  Recognition  in Financial  Statements."  Accordingly,
revenue is  recognized  when all four of the  following  criteria  are met:  (i)
persuasive  evidence  that  arrangement  exists;  (ii)  delivery of the products
and/or  services  has  occurred;  (iii)  the  selling  price is both  fixed  and
determinable and; (iv)  collectibility is reasonably  probable.  Revenue derived
from sales of systems and  services to end-user  customers  is  recognized  upon
installation  of the  systems and  performance  of the  services,  respectively,
allowing  for  use  by  our  customers  of  these  systems.   Pre-payments   for
communications   services  are  deferred  and   recognized  as  revenue  as  the
communications services are provided.

     For shipments to dealers and other distributors,  our revenues are recorded
as products are shipped and services are rendered,  because the sales process is
complete.  These shipments are primarily to third-party dealers and distributors
and title passes when goods are shipped  (free-on-board  shipping  point).  Long
distance services revenues are recognized as service is provided.

     SHIPPING  AND  HANDLING  COSTS.  EITF 00-10  "Accounting  for  Shipping and
Handling  Fees and Costs,"  addresses the  accounting  for shipping and handling
fees and costs.  Our policy is  primarily  not to bill  customers  for  shipping
costs,  unless the customer requests priority  shipping.  Any amounts billed are
recorded net in cost of goods sold.  Billed  shipping and handling costs in 2001
represented  less  than  $1.16  million,  or  0.3% of net  sales,  and are not a
significant component of our operations.

     STOCK  BASED  COMPENSATION.  We grant stock  options for a fixed  number of
shares to employees with an exercise price equal to the fair market value of the
shares at the date of grant.  We account for stock option  grants in  accordance
with Accounting Principles Board Opinion No. 25, "Accounting for Stock Issued to
Employees,"  ("APB 25") and related  Interpretations,  in  accounting  for stock
based awards to employees.  Under APB 25, we generally recognize no compensation
expense with respect to such awards.

     FOREIGN  CURRENCY  TRANSLATION.  For  our  foreign  operations,  the  local
currency is the functional  currency.  All assets and liabilities are translated
at period-end  exchange rates and all income statement amounts are translated at
an average of month-end rates.  Adjustments  resulting from this translation are
recorded in accumulated other comprehensive income.

     CONTINGENCIES.  We are a party to  various  claims  and  litigation  in the
normal course of business.  However, it is management's opinion that the results
of these  matters  will not have a  material  adverse  impact  on our  financial
position, results of operations or future cash flows.

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<PAGE>
     USE OF ESTIMATES.  The preparation of the consolidated financial statements
in conformity with accounting principles generally accepted in the United States
requires  management to make estimates and  assumptions  that affect the amounts
reported in the consolidated financial statements and accompanying notes. Actual
results could differ from those estimates.

     RECLASSIFICATIONS. Certain reclassifications have been made to the 2000 and
1999 financial statements to conform to the 2001 presentation.

RECENT ACCOUNTING PRONOUNCEMENTS

     In June 2001, the Financial  Accounting  Standards Board (FASB) issued SFAS
141,  "Business  Combinations",  and SFAS 142,  "Goodwill  and Other  Intangible
Assets",  effective for our fiscal year beginning January 1, 2002. Inter-Tel has
adopted SFAS 142 effective January 1, 2002.  Application of the  nonamortization
provisions  of SFAS 142 is  expected  to result in an  increase  in income  from
continuing operations before income taxes of approximately $1.8 million in 2002.
Inter-Tel  has  tested  goodwill  for  impairment  using  the  two-step  process
prescribed  in SFAS 142.  The first step is a screen for  potential  impairment,
while the second step measures the amount of the impairment,  if any.  Inter-Tel
has  performed  the first of the  required  impairment  tests for goodwill as of
January 1, 2002 and has determined  that the carrying  amount of goodwill is not
impaired.

     In April 2001,  the Emerging  Issues Task Force (EITF)  issued Issue 00-25,
Vendor Income Statement  Characterization of Consideration Paid to a Reseller of
the Vendor's Products.  EITF 00-25 addresses the accounting and income statement
classification  of costs that a vendor  incurs to or on behalf of a reseller  in
connection with the reseller's  purchase or promotion of the vendor's  products.
The standard is effective for fiscal periods  beginning  after December 15, 2001
and will be  adopted  by us as of  January  2002.  It is not  expected  that the
adoption of this standard will have a material impact on our financial position,
results of operations or cash flows.

     In July 2001,  the FASB  issued  Statement  No. 143,  Accounting  for Asset
Retirement Obligations.  The standard applies to obligations associated with the
retirement of tangible  long-lived  assets. The standard is effective for fiscal
periods  beginning  after June 15,  2002 and will be adopted by us as of January
2003. It is not expected that the adoption of this standard will have a material
impact on our financial position, results of operations or cash flows.

     In August  2001,  the FASB issued  Statement  No. 144,  Accounting  for the
Impairment or Disposal of Long-Lived  Assets  (Statement)  which supersedes FASB
Statement No. 121,  Accounting for the  Impairment of Long-Lived  Assets and for
Long-Lived  Assets  to Be  Disposed  Of;  however  it  retains  the  fundamental
provisions of that statement  related to the  recognition and measurement of the
impairment of long-lived assets to be "held and used." The standard is effective
for fiscal periods  beginning  after December 15, 2001 and will be adopted by us
as of January  2002.  It is not expected that the adoption of this standard will
have a material impact on our financial position,  results of operations or cash
flows.

NOTE B - ACQUISITIONS, DISPOSITIONS AND RESTRUCTURING CHARGES

CONVERGENT. On January 26, 2001, Inter-Tel Technologies,  Inc., our wholly-owned
subsidiary,  acquired certain assets of Convergent Communications Services, Inc.
(Convergent)  for cash plus the assumption of various  specific  liabilities and
related  acquisition  costs. The Company acquired segments of the voice customer
base,  accounts  receivable,  specified  inventory and fixed assets, and assumed
liabilities for warranty,  maintenance and specified  leased premises costs. The
Convergent   transaction   was  accounted  for  using  the  purchase  method  of
accounting.

     The  adjusted  purchase  price  paid  by us in the  Convergent  transaction
included cash of $3.9 million plus assumption of specific  liabilities  totaling
$6.3 million.  The final  purchase  price was adjusted  pursuant to a settlement
agreement with  Convergent  representatives  which  specified the return of $6.7
million to Inter-Tel,  representing  funds from escrow and other amounts owed to
Inter-Tel by Convergent that were previously set aside by the bankruptcy  court,
as well as adjustments  for assets to be acquired and liabilities to be assumed.
The settlement payments only required  adjustments or reallocations based on the
specified  assets  acquired  and  liabilities  assumed  in  connection  with the
purchase, and differences have been represented as adjustments to the

                                       8
<PAGE>
net assets  acquired.  The  Company  recorded  goodwill  of  $880,000  and other
intangible assets of $120,000 in connection with this acquisition.  Goodwill and
intangibles  were amortized  through December 31, 2001. The net goodwill balance
of $810,000 as of December 31, 2001 will no longer be  amortized,  but accounted
for in  accordance  with SFAS 141 and 142.  The net  balance of $98,000 in other
intangible  assets will continue to be amortized for five years from the date of
the acquisition.

MASTERMIND.  On October  19,  2001,  Inter-Tel  Integrated  Systems,  Inc.,  our
wholly-owned  subsidiary,  acquired  certain of the assets and  assumed  certain
stated liabilities from MasterMind  Technologies,  Inc., a Virginia  corporation
(MasterMind), for $2.0 million. $1.79 million was paid at or before closing with
the balance  placed into a bonus pool with  earnout  provisions  for  MasterMind
shareholders and employees based on performance parameters. The portion relating
to employees who have joined Inter-Tel will be charged to expenses.  The Company
recorded  amortizable  intangible  technology  assets  totaling  $1.4 million in
connection with this  acquisition.  These technology  assets are being amortized
over 5 years.

     Each of the  acquisitions  discussed  above  was  accounted  for  using the
purchase  method of  accounting.  The  results  of  operations  of each of these
acquisitions have been included in our accompanying  consolidated  statements of
operations from the date of acquisitions.

INTER-TEL.NET AND ICA. During the second quarter of 2000,  Inter-Tel  recorded a
pre-tax charge  associated with  Inter-Tel.NET  operations of $2.0 million ($1.2
million after-tax), related to the write-down to net realizable value of network
equipment  and lease  termination  costs of certain  redundant  facilities.  The
reserves  established at the time of the write-down  have been fully utilized as
of  December  31,  2001.  The  following  table  summarizes  the  details of the
write-down and activity in the reserve  balances from the date of the write-down
through December 31, 2001.  Activity represents payments made or amounts written
off.

<TABLE>
<CAPTION>
                                                                                               RESERVE
                                            CASH/           OTHER       2000       2001        BALANCE
             DESCRIPTION                  NON-CASH          CHARGE    ACTIVITY   ACTIVITY    AT 12/31/01
             -----------                  --------          ------    --------   --------    -----------
<S>                                       <C>              <C>        <C>        <C>         <C>
                                                                        (In thousands)
LEASE TERMINATION OBLIGATIONS
(NET OF ANTICIPATED RECOVERY):
  Building leases                           Cash           $  (144)   $    87    $    57       $    --

IMPAIRMENT OF ASSETS:
  Fixed assets                            Non-Cash          (1,824)     1,824         --            --

TOTAL                                                      $(1,968)   $ 1,911    $    57       $    --
</TABLE>

     In March 2000, the Company's Inter-Tel.NET subsidiary acquired the stock of
Intercomm Americas,  Inc. (ICA), an international IP communications reseller for
$580,000 cash and 750,000 shares of  Inter-Tel.NET,  with conversion rights into
Inter-Tel,  Incorporated Common Stock. The acquisition purchase price was valued
at $1.2 million at March 2000. The ICA  shareholders  did not intend to exercise
conversion  rights.  However,  due to market  conditions they decided to convert
their  Inter-Tel.NET  shares  to  Inter-Tel  shares in July  2001.  Based on the
exercise of conversion  rights in July 2001,  the valuation of purchase price of
ICA  increased  to  $6.2  million  in  accordance  with  the  provisions  of the
acquisition  agreement.  The conversion of Inter-Tel.NET  shares into Inter-Tel,
Incorporated  common  stock  was  treated  as an  acquisition  by  Inter-Tel  of
Inter-Tel.NET  shares,  rather than as an  adjustment  to the original  purchase
price of ICA,  as the  conversion  rights  were  part of the  original  purchase
agreement,  even though the value of the conversion  rights could not be readily
determined at that time. As a result,  Inter-Tel made adjustments totaling $4.85
million to goodwill based on the value of the converted  Inter-Tel  shares as of
June 30, 2001.

     On July  24,  2001,  Inter-Tel  agreed  to  sell  83% of  Inter-Tel.NET  to
Comm-Services  Corporation for a note of $4.95 million, secured by Comm-Services
stock,  other  marketable  securities of the  shareholders of Comm- Services and
100% of the net  assets of  Inter-Tel.NET.  The  marketable  securities  held as
collateral may be exchanged for cash or other readily  marketable assets as long
as the fair market value of the collateral exceeds

                                       9
<PAGE>
$2.5  million.  The note is due and payable  interest only from October 16, 2001
through July 15, 2002;  then a principal  payment of $250,000 due July 15, 2002,
monthly  principal  and  interest  payments  based  on 1% of  collected  monthly
revenues  from July 16, 2002 to October  15,  2002 and based on 2% of  collected
monthly  revenues  from October 16, 2002 until paid in full.  Additionally,  any
funds due  Comm-Services  for services rendered can be applied against the note.
The note is due and  payable  on  December  31,  2007,  or  earlier  in  certain
circumstances.

     In connection with the sale of 83% of  Inter-Tel.NET,  we assessed the fair
value of the remaining 17% investment in Inter-Tel.NET. Pursuant to SFAS 121, we
recorded a charge as of the close of the second  quarter of $5.4  million  ($3.4
million  after  tax)  associated  with  the  impairment  of  our  investment  in
Inter-Tel.NET.  The  impairment  was  measured  as the  difference  between  the
carrying value of Inter-Tel's  17% interest in  Inter-Tel.NET/Comm-Services  and
the  estimated  current  fair  market  value of the note plus the 17%  ownership
interest in Inter-Tel.NET. The charge is primarily non-cash.

     Inter-Tel's   management  has  not   participated   in  the  management  of
Inter-Tel.NET since the sale in July 2001. As a result,  since July 24, 2001, we
have accounted for the remaining  Inter-Tel.NET/Comm-Services  investment  using
the cost method of accounting.  On December 30, 2001, Comm-Services entered into
a merger agreement with Vianet.  Inter-Tel's 17% investment in Comm-Services was
converted  to  approximately  10% of Vianet  stock.  The $4.95  million loan was
assumed by Vianet and  Inter-Tel  continues to hold  collateral  from the former
shareholders  of  Comm-Services.  Inter-Tel  will account for the  remaining 10%
investment in Vianet using the cost method of accounting.  The net investment in
the note  receivable  and 10%  interest in Vianet  (formerly  Comm-Services)  is
recorded in other assets for approximately $3.7 million.

     During 1999,  2000 and 2001,  Inter-Tel.NET  entered into  operating  lease
agreements  totaling  approximately  $6.5 million  from an equipment  vendor for
network equipment and software.  The lease agreements required  Inter-Tel.NET to
purchase vendor maintenance on their products.  Inter-Tel originally  guaranteed
the  indebtedness.  In the second  quarter of 2001,  Inter-Tel.NET  notified the
vendor of network and network  equipment  problems  encountered due to equipment
and  software  recommended  by the vendor,  and  supplied  and  financed by this
vendor. Inter-Tel.NET requested that the vendor not only solve the problems, but
also compensate Inter-Tel.NET for the problems and the resulting lost customers,
lost  revenues  and  lost  profits.  Pursuant  to  Inter-Tel's  sale  of  83% of
Inter-Tel.NET,   Comm-Services   assumed  the  vendor   lease  and   maintenance
obligations  and as such  Inter-Tel  has not  recorded any  liability  for these
obligations.  However,  the vendor has not released Inter-Tel from its guarantee
of these  obligations and Inter-Tel has not released the vendor from Inter-Tel's
claims, nor did we assign our rights to these claims to Comm-Services.

EXECUTONE.  On January 1, 2000 Inter-Tel  purchased  certain computer  telephony
assets and assumed certain liabilities of Executone  Information  Systems,  Inc.
(Executone) for $44.3 million in cash plus related acquisition costs, subject to
purchase price adjustments as of the closing date. The Executone transaction was
accounted for using the purchase  method of accounting.  The aggregate  purchase
price was allocated to the fair value of the assets and liabilities acquired, of
which $5.4  million  ($3.4  million  after taxes) was  written-off  as purchased
in-process research and development.

     During the first quarter of 2000, the Executone division  recognized losses
of  approximately  $2.5 million ($1.5  million after taxes,  or $.06 per diluted
share)  excluding  the  charge  for  in-process  research  and  development.  In
connection with the Executone  acquisition,  we sold  Executone's  manufacturing
assets and  liabilities to Varian of Tempe,  Arizona at a net book value of $6.6
million.

     During the second  quarter of 2000,  the  Executone  division  continued to
experience  significant losses. The Executone division recognized pre-tax losses
during the second quarter and six months ended June 30, 2000 of $3.4 million, or
$2.1  million  after-tax  ($.08 per  diluted  share) and $5.9  million,  or $3.6
million after-tax ($.14 per diluted share),  respectively.  As a result of these
losses,  together with other considerations noted below, we decided to close the
primary  Executone   facility  in  Milford,   Connecticut  and  to  recognize  a
restructuring  charge  related  to the  Executone  operations.  At the  time the
original  purchase  was  recorded,  we had not  anticipated  closing the Milford
facility.   After  incurring  higher  than  anticipated  losses  from  Executone
operations and after a deterioration in the Executone  business,  including loss
of dealers and customers, delays in introduction and acceptance of new products,
we decided it was in the best interests of us and our  shareholders to close the
Milford  facility and  consolidate  operations into our  metro-Phoenix,  Arizona
facilities.

                                       10
<PAGE>
     We  have  accounted  for the  restructuring  of the  Executone  operations,
including  severance and related costs,  the shut down and  consolidation of the
Milford facility and the impairment of assets associated with the restructuring.
We  finalized  our  plan  for the  exiting  of  activities  and the  involuntary
termination or relocation of approximately  137 employees in connection with the
integration of Executone  operations.  Accrued costs  associated  with this plan
were estimates,  although the original  estimates made for the second quarter of
2000 for reserve  balances  have not changed  significantly  as of December  31,
2001.

     Exit  costs  associated  with the  closure  of the  Milford  facility  also
included  liabilities  for building,  furniture and equipment  lease,  and other
contractual  obligations.  We are liable for the lease on the Milford  buildings
through January 2005.  Various  furniture leases run concurrently  through March
2002. Other capital leases for computer and other equipment terminate on varying
dates through September 2002. To date, we have entered into sublease  agreements
with third  parties to sublease  portions of the  facility  and  equipment.  The
reserve for lease and other  contractual  obligations is identified in the table
below.

     The  following  tables  summarize  details of the  restructuring  charge in
connection with the Executone acquisition, including the description of the type
and amount of liabilities assumed, and activity in the reserve balances from the
date of the charge through December 31, 2001.  Activity represents payments made
or amounts written off.

<TABLE>
<CAPTION>
                                                                                                            RESERVE
                                              CASH/        RESTRUCTURING      2000           2001           BALANCE
                   DESCRIPTION               NON-CASH         CHARGE        ACTIVITY       ACTIVITY       AT 12/31/01
                   -----------               --------         ------        --------       --------       -----------
<S>                                          <C>           <C>              <C>            <C>            <C>
                                                                         (In thousands)
PERSONNEL COSTS:
  Severance and termination costs             Cash          $ (1,583)       $  1,558       $      2        $    (23)
  Other Plant closure costs                   Cash              (230)             30            200              --

LEASE TERMINATION AND OTHER CONTRACTUAL
OBLIGATIONS (NET OF ANTICIPATED RECOVERY):
  Building and equipment leases               Cash            (7,444)          1,348          1,489          (4,607)
  Other contractual obligations               Cash            (1,700)             --          1,700              --

IMPAIRMENT OF ASSETS:
  Inventories                                Non-Cash         (3,454)          1,376            209          (1,869)
  Prepaid inventory and other expenses       Non-Cash         (2,485)          2,485             --              --
  Accounts receivable                        Non-Cash         (1,685)            521            245            (919)
  Fixed assets                               Non-Cash         (3,151)          2,942             --            (209)
  Net intangible assets                      Non-Cash        (29,184)         29,184             --              --

TOTAL                                                       $(50,916)       $ 39,444       $  3,845        $ (7,627)
</TABLE>

     Included in the total Executone  restructuring  costs of $50.9 million is a
$43.3 million restructuring charge for exit costs and asset impairment, and $7.6
million  associated  with the impairment of  inventories,  which has accordingly
been recorded as additional costs of sales. Refer to Management's Discussion and
Analysis for additional information.

CIRILIUM JOINT VENTURE.  In December 1999,  Inter-Tel  entered into an agreement
with Hypercom Corporation to jointly form Cirilium.  Cirilium comprised parts of
Hypercom's  data and  Inter-Tel's  packet  telephony  experience,  products  and
services,  including Inter-Tel's  Vocal'Net gateway products and technology.  We
accounted for the Cirilium losses using the equity method of accounting  through
September  2000. In September  2000,  we wrote-off  our remaining  investment in
Cirilium. Our Cirilium ownership interest of 19.9% has been fully written-off in
our financial  statements,  and we have not used the equity method of accounting
since the date of the write-off.

                                       11
<PAGE>
MCLEOD.  During the first quarter of 2002, Inter-Tel acquired certain assets and
assumed certain  liabilities of McLeod USA, Inc. (McLeod) for cash of $8 million
plus the  assumption of various  specific  liabilities  and related  acquisition
costs. Generally,  Inter-Tel acquired the voice customer base in Minnesota, Iowa
and Colorado and the DataNet operations in South Dakota, which also includes the
related accounts receivable, inventory and fixed assets along with assumption of
scheduled  specific  liabilities for warranty and maintenance  obligations.  The
acquisition  closed in January  2002 and the  company has up to 90 days from the
date of closing to dispute the  existence of any scheduled  acquired  assets and
$500,000 was placed in escrow to cover potential purchase price adjustments.  We
expect to record  goodwill in  connection  with this  acquisition,  although the
amount has not been fully  quantified.  This transaction was accounted for using
the purchase method of accounting.

NOTE C - PURCHASED IN-PROCESS RESEARCH AND DEVELOPMENT CHARGE

     During the first quarter of 2000,  Inter-Tel  completed the  acquisition of
Executone  (see  NOTE  B).  The  aggregate   purchase  price  of  the  Executone
acquisition  was  allocated  to the fair  value of the  assets  and  liabilities
acquired, of which $5.4 million ($3.4 million after taxes), or $0.13 per diluted
share, was written-off as purchased in-process research and development.

NOTE D - NET INVESTMENT IN SALES-LEASES

     Net  investment  in  sales-leases  represents  the  value  of  sales-leases
presently  held under our Total Solution  program.  We currently sell the rental
income from some of the  sales-leases.  We maintain  reserves against  potential
recourse following the resales based upon loss experience and past due accounts.
Activity during the years was as follows:

                                             Year Ended December 31
                                         ------------------------------
(In thousands)                             2001       2000       1999
                                         --------   --------   --------
Sales of rental income                   $ 86,788   $ 95,127   $ 83,405
Sold income remaining unbilled
 at end of year                          $202,715   $198,361   $163,728
Allowance for uncollectible minimum
 lease payments and recourse liability
 at end of year                          $ 10,513   $  8,870   $  6,734

     Sales of rental income  represents the gross selling price or total present
value of the payment  stream on the sale of the rental income to third  parties.
Sold  income  remaining  unbilled  at the end of the  year  representsthe  total
balance of off-book  leases that are not  included  in our  balance  sheet.  The
allowance for uncollectible minimum lease payments and recourse liability at the
end of the year  represent  reserves  against  the  entire  lease  portfolio  or
allowance for collectibility from customers. These reserves are either netted in
the current and long-term components of "Net investments in Sales-Leases" on the
balance  sheet,  or included in long-term  liabilities  on our balance sheet for
off-book leases.

     We do not  expect  to  incur  any  significant  losses  from  the  recourse
provisions  related to the sale of rental income.  Inter-Tel is compensated  for
administration and servicing of rental income sold.

     At December 31, 2001,  future minimum lease  payments  related to the lease
portfolio are: 2002 --  $14,483,000;  2003 --  $14,278,000;  2004 -- $5,023,000;
2005 - $2,235,000; 2006 -- $1,313,000; thereafter - $3,000.

NOTE E - PROPERTY, PLANT & EQUIPMENT
                                                      December 31
                                                   -----------------
(In thousands)                                       2001      2000
                                                   -------   -------
Computer systems and equipment                     $42,313   $47,047
Transportation equipment                             2,872     2,909
Furniture and fixtures                               5,056     4,839
Leasehold improvements                               3,770     3,101

                                       12
<PAGE>
Building                                             7,297     7,297
Land                                                 2,629     2,629
                                                   -------   -------
                                                    63,937    67,822
Less:  Accumulated depreciation and amortization    40,102    35,099
                                                   -------   -------
Net property, plant & equipment                    $23,835   $32,723
                                                   =======   =======

EQUIPMENT HELD FOR LEASE
Operating leases (telephone equipment)               1,712   $ 1,923
Less:  Accumulated depreciation and amortization     1,642     1,500
                                                   -------   -------
Net Equipment held for lease                       $    70   $   423
                                                   =======   =======

NOTE F - GOODWILL AND OTHER INTANGIBLES
                                                      December 31
                                                   -----------------
(In thousands)                                       2001      2000
                                                   -------   -------
Goodwill                                           $18,681   $17,515
Less:  Accumulated amortization                      5,025     2,642
                                                   -------   -------
Net Goodwill                                        13,656    14,873

Acquired developed technology                        5,786     4,347
Customer lists and non-competition agreements        1,841     1,721
                                                   -------   -------
  Subtotal of Other intangibles                      7,627     6,068
Less:  Accumulated amortization                      2,624     2,552
                                                   -------   -------
Net Other intangibles                                5,003     3,516
                                                   =======   =======

Net Goodwill and other intangibles                 $18,659   $18,389
                                                   =======   =======

NOTE G - OTHER ASSETS
                                                      December 31
                                                   -----------------
(In thousands)                                       2001      2000
                                                   -------   -------
Note receivable and investment in Vianet
(formerly Inter-Tel.Net)                           $ 3,669   $    --
Other assets                                           475       568
                                                   -------   -------
                                                   $ 4,144   $   568
                                                   =======   =======

NOTE H - OTHER CURRENT LIABILITIES
                                                      December 31
                                                   -----------------
(In thousands)                                       2001      2000
                                                   -------   -------
Compensation and employee benefits                 $12,947   $12,284
Restructuring Charge                                 1,389     2,318
Deferred revenues                                    6,445     6,308
Miscellaneous taxes payable                          3,994     8,147
Other accrued expenses                              19,276    17,712
                                                   -------   -------
                                                   $44,051   $46,769
                                                   =======   =======

NOTE I - CREDIT LINE

     We maintain a $25,000,000 unsecured bank credit line at prime rate to cover
international  letters of credit and for other  purposes.  The credit  agreement
matures June 1, 2002 and contains certain  restrictions and financial covenants.
At December 31, 2001,  $544,841of the credit line was committed  under letter of
credit arrangements.

                                       13
<PAGE>
NOTE J - LEASES

     Rental expense amounted to $9,679,000; $8,818,000; and $6,254,000; in 2001,
2000, and 1999, respectively.  Noncancellable operating leases are primarily for
buildings.  Certain of the leases  contain  provisions  for renewal  options and
scheduled rent increases. At December 31, 2001, future minimum commitments under
noncancellable  leases,  including our new  headquarters  facility and a 15 year
lease for our  research  and  development  facility  and 63 month  lease for our
distribution and support facility, are: 2002 -- $9,567,000;  2003 -- $7,798,000;
2004  --  $7,153,000;  2005  -  $3,234,000;  2006  --  $1,630,000  thereafter  -
$1,071,000.

NOTE K - INCOME TAXES

     We  account  for income  taxes  under  Statement  of  Financial  Accounting
Standards No. 109,  "Accounting for Income Taxes" ("SFAS 109").  Under SFAS 109,
the liability method is used in accounting for income taxes.  Under this method,
deferred tax assets and liabilities are determined (and classified as current or
long-term)  based on differences  between  financial  reporting and tax bases of
assets and  liabilities  and are  measured  using the enacted tax rates and laws
that will be in effect when the differences are expected to reverse.

     Significant  components  of our deferred tax  liabilities  and assets as of
December 31 are as follows:

                                                  December 31
                                              -------------------
(In thousands)                                  2001       2000
                                              --------   --------
DEFERRED TAX LIABILITIES:
  Other                                       $  4,944   $     --
  Lease--sales and reserves                     32,027     24,057
                                              --------   --------
TOTAL DEFERRED TAX LIABILITIES                  36,971     24,057
                                              --------   --------
DEFERRED TAX ASSETS:
  Inventory basis differences                    3,285      2,976
  Accounts receivable reserves                   2,789      3,039

  Accrued vacation pay                           1,223        980
  Book over tax depreciation                       771      2,787
  Foreign loss carryforwards                       956      1,358
  In-process R&D write-off                       6,581      7,950
  Restructuring reserves                         3,036      9,006
  Lease Receivable                               3,995      3,371
  Other - net                                    6,226      1,842
                                              --------   --------
Deferred tax assets                             28,862     33,309
  Less valuation reserve                           814      1,358
                                              --------   --------
Net deferred tax assets                         28,048     31,951
                                              --------   --------
NET DEFERRED TAX ASSETS (LIABILITIES)         $ (8,923)  $  7,894
                                              ========   ========

     During  2001,  2000 and 1999,  we  recorded a loss of  $437,000,  income of
$226,000,  and losses of $341,000  respectively,  from  foreign  operations.  At
December  31,  2001,  we  had  foreign  loss   carryforwards   of  approximately
$2,500,000,  which will begin to expire in 2002. The valuation allowance in 2001
decreased by $544,000  and  increased  by $79,000 in 2000 due to  expiration  of
foreign loss carryforwards and increases in foreign loss carryforward benefits.

     Federal and state income taxes (benefit) consisted of the following:

(In thousands)                                  2001       2000       1999
                                              --------   --------   --------
Federal                                       $  5,076   $(15,101)  $ 13,832
State                                            2,583     (1,716)     2,787
                                              --------   --------   --------
                                              $  7,659   $(16,817)  $ 16,619
                                              ========   ========   ========

                                       14
<PAGE>
     The principal  reasons for the difference  between total income tax expense
(benefit) and the amount  computed by applying the statutory  federal income tax
rate to income before taxes are as follows:

                                                2001       2000       1999
                                              --------   --------   --------
Federal tax at statutory rates
  Applied to pre-tax income                       35%       (35)%       35%
State tax net of federal benefit                   5         (4)         3
Credit for research activities                    (5)        --         --
Other - net                                        2          2         --
                                                ----       ----       ----
                                                  37%       (37)%       38%
                                                ====       ====       ====

NOTE L - EQUITY TRANSACTIONS

     TREASURY  STOCK.  During the first  quarter of 2001,  we  initiated a stock
repurchase program under which the Board of Directors  authorized the repurchase
of up to 4,000,000 shares of our Common Stock. During the third quarter of 2000,
we  initiated a stock  repurchase  program  under  which the Board of  Directors
authorized the repurchase of up to 2,000,000  shares of Inter-Tel  Common Stock.
Under these  authorizations,  we purchased  approximately  2,523,000  shares and
expended  approximately  $28.9 million for stock repurchases  during 2001, which
was  funded  primarily   through  existing  cash  balances.   We  also  expended
approximately  $6.7 million and $6.7 million for  repurchases  of  approximately
562,000 and 558,000  shares of  Inter-Tel's  Common  Stock during 2000 and 1999,
respectively,  which was funded  primarily  through  existing cash balances.  We
reissued  approximately  671,000,  379,000 and 740,000 shares in 2001,  2000 and
1999,  respectively,  through  stock option and  employee  stock  purchase  plan
exercises and  issuances,  and stock issued in  conversion  of subsidiary  stock
through an acquisition.  The proceeds  received for the stock reissued were less
than our cost basis. Accordingly,  the difference was recorded as a reduction to
retained earnings.

     DIVIDEND POLICY. On October 23, 2001, our Board of Directors  increased the
cash  dividend  (the "cash  dividend")  from  $0.01 to $0.02 for every  share of
Common Stock, payable quarterly to shareholders of record beginning December 31,
2001,  with  dividend  payments to commence on or about 15 days after the end of
each fiscal  quarter.  From December 31, 1997 through the third quarter of 2001,
we paid  quarterly  cash  dividends  of $0.01 for every share of Common Stock to
shareholders  of  record.  We have made  quarterly  dividend  payments  for each
quarter  since the dividend was  declared in September  1997.  Prior to the cash
dividend,  we  had  declared  no  cash  dividends  on  our  Common  Stock  since
incorporation.

     STOCK OPTION PLANS. In July 1990, we adopted the Director Stock Option Plan
("the Director Plan") and reserved a total of 500,000 shares of Common Stock for
issuance thereunder. In July 2001, subject to shareholder approval at the annual
shareholders' meeting in April 2002, the board of directors extended the term of
the Director Plan to 2010.  Options must be granted at not less than 100% of the
fair  market  value of our  stock at the  dates of  grant.  Commencing  with the
adoption of the Plan, each Eligible Director received a one-time automatic grant
of an option to purchase  5,000 shares of our Common  Stock.  In addition,  each
Eligible  Director  shall be granted an option to purchase 5,000 shares upon the
date five (5) days after such person became Director,  and an additional  option
to purchase 5,000 shares five (5) days after the date of the regularly scheduled
board meeting  following  the close of our third  quarter.  All options  granted
through  2001 had a five-year  term and fully vest at the end of six months from
the grant date.

     In  November  1993,  the  Board  of  Directors  authorized  the  Inter-Tel,
Incorporated  Long-Term  Incentive Plan ("the 1994 Long Term Plan").  A total of
2,000,000  shares of Common Stock has been reserved for issuance  under the 1994
Long Term Plan to selected  officers and key employees.  Options must be granted
at not less  than  100% of the fair  market  value of our  stock at the dates of
grant.  Options  generally  vest over four or five years and expire  five to ten
years from the date of grant.

     In  February  1997,  the  Board  of  Directors  authorized  the  Inter-Tel,
Incorporated 1997 Long-Term  Incentive Plan ("the 1997 Long Term Plan"). A total
of  2,400,000  shares of Common Stock has been  reserved for issuance  under the
1997 Long Term Plan to  selected  officers  and key  employees.  Option  must be
granted at not less than 100% of the fair market value of our stock at the dates
of grant.  Options  generally  vest over four or five years and expire ten years
from the date of grant.  In March 2000,  the Board of  Directors  authorized  an
amendment to the

                                       15
<PAGE>
1997 Long Term Plan to add  1,250,000  more  shares of Common  Stock to the 1997
Long Term Plan for issuance to selected  officers and key employees and to limit
our ability to reprice options under the 1997 Long Term Plan.

     On February 27, 2001 our Board of Directors  authorized an amendment of the
Long Term Plan,  approved by the  stockholders,  that  provides for an automatic
increase  in the number of shares of Common  Stock  reserved  thereunder  on the
first day of each fiscal year equal to the lesser of (a) 2.5% of the outstanding
shares on that date, (b) 750,000 shares  (subject to appropriate  adjustment for
all stock splits, dividends, subdivisions,  combinations,  recapitalizations and
like  transactions)  or (c) a  lesser  amount  as  determined  by the  Board  of
Directors  (the "Renewal  Feature").  For 2002,  based on shares  outstanding at
January 1, 2002 and as approved by the Board of Directors in February 2002, this
renewal  feature  provided for an increase of 604,161  shares for issuance under
the Long Term Plan.

     Under the 1994 and 1997 Long Term Plans, in some  instances,  predetermined
performance  goals and share  market  value  increases  must be met to allow the
options to be exercised before the end of the option term.

     In  April  1998,   the  Board  of  Directors   authorized   the  Inter-Tel,
Incorporated  Acquisition  Stock Option Plan (the Acquisition  Plan). A total of
82,428  shares of Common Stock was reserved for issuance  under the  Acquisition
Plan to selected key employees hired as a result of the acquisition of TMSI. New
options  must be granted at not less than 100% of the fair  market  value of our
stock at the dates of grant.  Options generally vest over four or five years and
expire ten years from the date of grant.  A portion of the options  granted were
replacements  for  options  held to  purchase  shares  of stock  of the  selling
company;  such replacement  grants retained the original terms,  including grant
dates for vesting  purposes and the original  grant prices,  adjusted  using the
applicable  conversion ratio of the fair value of Inter-Tel's  stock compared to
that of the selling company.

     In March 2000,  the Board of Directors  authorized  an  additional  216,000
shares of Common  Stock for  issuance  under the  Acquisition  Plan to  selected
employees  hired as a result of the  acquisition  of Executone.  Options must be
granted at not less than 100% of the fair market value of our stock at the dates
of grant.  Options  vest over five  years and  expire ten years from the date of
grant.

     In February 2001, the Board of Directors  authorized an additional  300,000
shares of Common  Stock for  issuance  under the  Acquisition  Plan to  selected
employees  hired as a result of the acquisition of Convergent.  In addition,  in
October 2001, the Board of Directors  authorized an additional 150,000 shares of
Common Stock for issuance under the Acquisition Plan to selected employees hired
as a result of the  acquisition  of  Mastermind  Technologies.  Options  in each
instance  must be granted at not less than 100% of the fair market  value of our
stock at the dates of grant.  Options  vest over five years and expire ten years
from the date of grant.

     Option activity for the past three years under all plans is as follows:

                                                 Number of Shares
                                   --------------------------------------------
                                       2001            2000            1999
                                   ------------    ------------    ------------
Outstanding at beginning of year      3,143,292       2,486,696       2,948,032
Granted                               2,007,500       1,213,500         491,750
Exercised                              (210,633)       (279,654)       (615,986)
Expired or canceled                    (372,214)       (277,250)       (337,100)
                                   ------------    ------------    ------------
Outstanding at end of year            4,567,945       3,143,292       2,486,696
                                   ------------    ------------    ------------
Exercise price range               $2.24-$43.44    $2.24-$43.44    $2.24-$26.00
Exercisable at end of year            1,458,388       1,188,356         979,630
Weighted-average grant price of
  options granted                        $12.26          $13.65          $11.44
Weighted-average fair value of
  options granted during the year         $6.42           $6.83           $5.15

     At December 31, 2001, we have reserved 4,921,435 shares of Common Stock for
issuance in connection with the stock option plans.

                                       16
<PAGE>
     As permitted under Statement of Financial Accounting Standards No. 123 (FAS
123)  "Accounting  for  Stock-Based  Compensation,"  we have  elected  to follow
Accounting  Principles  Board  Opinion No. 25,  "Accounting  for Stock Issued to
Employees," and related Interpretations, in accounting for stock based awards to
employees.  Under APB 25, we generally  recognize no  compensation  expense with
respect to such awards.

     The following table summarizes  information about stock options outstanding
at December 31, 2001:

                               OPTIONS OUTSTANDING

                          Number          Weighted-Average          Weighted
   Range of            Outstanding           Remaining               Average
Exercise Price         at 12-31-01        Contractual Life       Exercise Price
--------------         -----------        ----------------       --------------
$ 2.24 - $ 4.31           244,203             3 years                $ 3.00
$ 4.81 - $ 7.06           231,100             5 years                $ 5.58
$ 7.25 - $13.44         3,066,200             8 years                $10.43
$15.13 - $43.44         1,026,442             7 years                $21.46

                               OPTIONS EXERCISABLE

                          Number          Weighted-Average          Weighted
   Range of            Exercisable           Remaining               Average
Exercise Price         at 12-31-01        Contractual Life       Exercise Price
--------------         -----------        ----------------       --------------
$ 2.24 - $ 4.31           244,203             3 years                $ 3.00
$ 4.81 - $ 7.06           173,300             5 years                $ 5.69
$ 7.25 - $13.44           620,700             8 years                $10.09
$15.13 - $43.44           420,185             7 years                $22.05

     During  2001,  the  weighted  average  exercise  price of options  granted,
exercised, and expired or canceled was $10.14, $8.05 and $15.02, respectively.

     Had  compensation  cost for our stock option plans been determined based on
the fair value at the grant date for  awards in 2001,  2000 and 1999  consistent
with the  provisions of SFAS 123, the estimated  fair value of the options would
be amortized to expense over the option's  vesting period and our net income and
net income per share for the year ended December 31 would have been as follows:

(in thousands, except per share amounts)      2001       2000        1999
                                            --------   --------    --------
Net (loss) income as reported               $ 13,041   $(28,923)   $ 27,146

Pro forma net (loss) income                 $ 10,595   $(30,480)   $ 26,043

Pro forma (loss) income per diluted share   $   0.42   $  (1.16)   $   0.96

     Pro forma results  disclosed are based on the  provisions of SFAS 123 using
the Black-Scholes option valuation model and are not likely to be representative
of the  effects  on pro forma net  income for future  years.  In  addition,  the
Black-Scholes  option  valuation  model was developed for use in estimating  the
fair value of traded options,  which have no vesting  restrictions and are fully
transferable.  In addition,  option valuation models require the input of highly
subjective  assumptions  including the expected stock price volatility.  Because
our employee  stock options have  characteristics  significantly  different from
those of traded options, and because changes in the subjective input assumptions
can materially  affect the fair value estimate,  in our opinion,  the estimating
models do not necessarily provide a reliable single measure of the fair value of
our employee stock options.

     The fair value for these options was estimated at the date of grant using a
Black-Scholes  option pricing model using the low end of reasonable  assumptions
for input variables  rather than  attempting to identify a best-point  estimate.
The option pricing model utilized the following weighted average assumptions for
2001, 2000 and

                                       17
<PAGE>
1999, respectively:  risk free interest rates of 4.5% for 2001 and 5.5% for 2000
and  1999;  dividend  yields  of .50% for  2001  and  .25%  for  2000 and  1999;
volatility  factors of the expected  market price of our stock averaged .766 for
2001 and .30 for 2000 and 1999;  and a  weighted  average  expected  life of the
option of 4 to 5 years for employee  stock  options which vest over four to five
year periods with a weighted  average  vesting period of 2.5 years and 1.5 years
for director options which vest at the end of six months from the grant date.

     1997 EMPLOYEE  STOCK  PURCHASE  PLAN. In April 1997, the Board of Directors
and  stockholders  adopted the Employee  Stock Purchase Plan (the Purchase Plan)
and  reserved  500,000  shares for  issuance  to eligible  employees.  Under the
Purchase  Plan,  employees  are granted  the right to purchase  shares of Common
Stock at a price per share that is 85% of the lesser of the fair market value of
the shares at: (i) the  participant's  entry date into each  six-month  offering
period,  or (ii)  the end of  each  six-month  offering  period.  Employees  may
designate up to 10% of their  compensation for the purchase of stock.  Under the
Plan, we sold 108,742  shares for  approximately  $966,000  ($8.89 per share) to
employees in 2001,  105,485 shares for approximately  $980,000 ($9.29 per share)
to employees in 2000, and 67,431 shares for  approximately  $851,000 ($12.62 per
share) to employees  in 1999.  At December 31,  2001,  136,670  shares  remained
authorized under the Plan.

     STOCK  OPTION  LOANS.  During  1999,  selected  officers  and  employees of
Inter-Tel were offered loans to acquire Inter-Tel common stock. Promissory Notes
were  established  to cover the cost of  exercise  of stock  options,  including
applicable  taxes,  or the cost of Inter-Tel  common stock purchased in the open
market  during  May and June of 1999.  The loans are  interest-only  notes  with
balloon payments due on or before March 15, 2004. The loans bear interest at the
mid-term  applicable  federal  interest  rate,  compounded  annually.   Interest
payments  are due on or before March 15 of each  anniversary  beginning on March
15,  2000.  The notes are full  recourse  loans and we retain the  common  stock
certificates  as collateral.  The  outstanding  balance of loans at December 31,
2001 totaled $942,417.

NOTE M - EARNINGS PER SHARE

     The  following  table  sets  forth the  computation  of basic  and  diluted
earnings per share:

(In thousands, except per share amounts)        2001       2000        1999
                                              --------   --------    --------
Numerator:
 Net income (loss)                            $ 13,041   $(28,923)   $ 27,146
                                              --------   --------    --------
Denominator:
 Denominator for basic earnings per
 Share - weighted average shares                24,488     26,273      25,949

Effect of dilutive securities:
 Employee and director stock options               752         --       1,055
                                              --------   --------    --------
Denominator for diluted earnings per
 Share - adjusted weighted average
 shares and assumed conversions                 25,240     26,273      27,004
                                              --------   --------    --------

Basic income (loss) per share                 $   0.53   $  (1.10)   $   1.05
                                              ========   ========    ========

Diluted income (loss) per share               $   0.52   $  (1.10)   $   1.01
                                              ========   ========    ========

     Options that are  antidilutive  because the exercise price was greater than
the  average  market  price  of the  common  shares,  are  not  included  in the
computation of diluted earnings per share. For the year ended December 31, 2000,
689,000  shares were excluded from the  computation of diluted EPS above because
they were antidilutive for 2000.

                                       18
<PAGE>
NOTE N - RETIREMENT PLANS

     We have two retirement  plans for the benefit of our  employees.  Under our
401(k)  Retirement Plan,  participants may contribute an amount not exceeding 15
percent of  compensation  received  during  participation  in the Plan.  We make
voluntary   annual   contributions   to  the  Plan  based  on  a  percentage  of
contributions  made by Plan  participants  of up to 10 percent of  compensation.
Contributions to the Plan totaled $1,476,000; $1,381,000; and $780,000; in 2001,
2000 and 1999, respectively.

     In 1992, we initiated an Employee Stock  Ownership  Plan (ESOP),  advancing
$500,000 to the ESOP Trust for the  purpose of  purchasing  Common  Stock of the
Company.  The Trust purchased  307,000 shares of Inter-Tel  Common Stock in July
1992. The loan was paid in full during 1997. As the principal amount of the loan
was repaid to Inter-Tel  through  Company annual  contributions,  the equivalent
number of shares released were allocated to employees' accounts to be held until
retirement.  Total shares so allocated were 32,380 in 1997. Contributions to the
ESOP totaled $62,500 in 1997, and are based upon the historic cost of the shares
purchased by the ESOP.  After the final  allocation of shares in 1997,  the ESOP
plan was "frozen," so that all eligible  participants  as of July 1, 1997 became
100%  vested in their  accounts,  regardless  of length of  service.  No further
purchases are  anticipated  through the ESOP,  and we do not  anticipate  making
future allocations of shares from this plan.

NOTE O - SEGMENT INFORMATION

     Inter-Tel  adopted  Statement of Financial  Accounting  Standards  No. 131,
"Disclosures  about  Segments of an Enterprise and Related  Information"  ("SFAS
131") in the fiscal year ended December 31, 1998. SFAS 131 establishes standards
for  reporting  information  regarding  operating  segments in annual  financial
statements and requires selected  information for those segments to be presented
in interim financial  reports issued to stockholders.  SFAS 131 also establishes
standards for related  disclosures  about  products and services and  geographic
areas.  Operating  segments are identified as components of an enterprise  about
which separate discrete financial information is available for evaluation by the
chief operating decision maker, or decision making group, in making decisions as
to how to  allocate  resources  and  assess  performance.  The  Company's  chief
decision maker, as defined under SFAS 131, is the Chief Executive Officer.

     Prior to 2000,  we had viewed our  operations as  principally  one segment:
telephone systems,  telecommunications  software and hardware,  and related long
distance  calling  services.  These services are provided  through the Company's
direct sales offices and dealer  network to business  customers  throughout  the
United States,  Europe,  Asia, Mexico and South America. As a result,  financial
information disclosed previously represented  substantially all of the financial
information related to the Company's principal operating segment.

     During 2000, the operations of Executone were identified  separately in the
first and second quarters of 2000.  Beginning in the 3rd quarter and directly as
a  result  of the  charge  and  reorganization  associated  with  the  Executone
operations, we no longer account for or directly report the Executone operations
on a stand-alone  basis.  The operations have been integrated with the Company's
existing wholesale, and national and government account, operations.

     In  December  1999,  Inter-Tel  entered  into an  agreement  with  Hypercom
Corporation  to  jointly  form  Cirilium  Corporation   ("Cirilium").   Cirilium
comprises parts of Hypercom's data and Inter-Tel's packet telephony products and
services, including Inter-Tel's Vocal'Net gateway products and technology. As of
the close of the third quarter of 2000,  we wrote off our  remaining  investment
and basis in Cirilium of $2.0 million.  Total pre-tax  losses from Cirilium from
all sources were $8.6 million ($0.21 per diluted share) during 2000. As a result
of the  write-off,  we do not expect to report the  operations  of Cirilium as a
separate  business  segment.  Refer to the  table  below  for a  summary  of the
operations for 2000.

     During  2000,  we  determined   that  the   operations  of   Inter-Tel.NET,
Inter-Tel's former IP long distance subsidiary, would be separately disclosed as
a business segment. The operations  represented a more significant  component of
the  consolidated  operations  in  2000  compared  to  prior  years  and  had  a
significant  impact on the revenues and net losses. On July 24, 2001,  Inter-Tel
agreed to sell 83% of Inter-Tel.NET to Comm-Services  Corporation.  As a result,
since   July   24,   2001,   we   have   accounted   for   the   remaining   17%
Inter-Tel.NET/Comm-Services  investment using the cost method of accounting.  On
December 30, 2001,  Comm-Services  entered into

                                       19
<PAGE>
a   merger    agreement   with   Vianet.    Inter-Tel's    17%   investment   in
Inter-Tel.NET/Comm-Services  was converted to approximately 10% of Vianet stock.
Inter-Tel will account for the remaining 10% investment in Vianet using the cost
method of accounting.

     Commencing  the third  quarter of 2001,  we began  disclosing as a separate
business  segment  operating  results relating to local and long distance resale
services.  Inter-Tel  offers these  services to its customers as part of a total
telephony  solution  approach.  Results of operations  for this segment,  if the
operations  were not included as part of the  consolidated  group,  could differ
materially,  as the  operations  are  integral to the total  telephony  solution
offered by us to our customers.

     For the year ended December 31, we generated income from business segments,
including charges, as follows:

<TABLE>
<CAPTION>
                                                                                                   RESALE OF
                                                                                                   LOCAL AND
                                                            EXECUTONE                                LONG
                                               PRINCIPAL    (CHARGES                               DISTANCE
(In thousands, except per share amounts)        SEGMENT       ONLY)      CIRILIUM   INTER-TEL.NET  SERVICES       TOTAL
                                               ---------    ---------    ---------  -------------  ---------    ---------
<S>                                            <C>          <C>          <C>        <C>            <C>          <C>
2001
----
Net sales                                      $ 346,094    $      --    $      --    $  13,986    $  25,575    $ 385,655
Gross profit (loss)                              173,823           --           --       (5,892)       6,563      174,494
Charge (see Note B)                                   --           --           --       (5,357)          --       (5,357)
Operating income (loss)                           30,911           --           --      (13,718)       3,231       20,424
Interest and other income                            970           --           --           (1)         112        1,081
Loss on foreign translation adjustments             (337)          --           --           --           --         (337)
Interest expense                                    (293)          --           --         (173)          (2)        (468)
Net income (loss)                              $  19,688    $      --    $      --    $  (8,752)   $   2,105    $  13,041
Net income (loss) per diluted share (1)        $    0.78    $      --    $      --    $   (0.36)   $    0.08    $    0.52
Weighted average diluted shares (1)               25,240       25,240       25,240       24,488       25,240       25,240
Total assets                                   $ 215,340    $      --    $      --    $      --    $  12,122    $ 227,462
Depreciation and amortization                      9,247           --           --        2,114          156       11,517

2000
----
Net sales                                      $ 353,313    $      --    $      --    $  22,834    $  26,576    $ 402,723
Cost of goods sold - Executone restructuring          --       (7,639)          --           --           --       (7,639)
Gross profit (loss)                              173,328       (7,639)          --      (11,212)       4,561      159,038
Charges and write-off of IPRD (see Notes B
and C)                                                --      (48,710)          --       (1,968)          --      (50,678)
Operating income (loss)                           37,546      (56,349)        (574)     (19,087)        (133)     (38,597)
Equity share of Cirilium losses                       --           --       (5,938)          --           --       (5,938)
Write-off of Cirilium investment                      --           --       (2,045)          --           --       (2,045)
Interest and other income                          1,423           --           --            2           49        1,474
Loss on foreign translation adjustments             (421)          --           --           --           --         (421)
Interest expense                                    (128)          --           --          (85)          --         (213)
Net income (loss)                              $  24,294    $ (35,631)   $  (5,411)   $ (12,122)   $     (53)   $ (28,923)
Net income (loss) per diluted share (1)        $    0.90    $   (1.36)   $   (0.21)   $   (0.46)   $   (0.00)   $   (1.10)
Weighted average diluted shares (1)               26,962      226,273       26,273       26,273       26,273       26,273
Depreciation and amortization                     10,664           --           --        1,878          204       12,746
</TABLE>

(1) Options that are  antidilutive  because the exercise  price was greater than
the  average  market  price  of  the  common  shares  are  not  included  in the
computation of diluted earnings per share when a net loss is recorded.  See Note
L for additional information.

     Our  revenues  are  generated  predominantly  in the United  States.  Total
revenues generated from U.S.  customers totaled $375.6 million,  $392.1 million,
and $306.5  million,  of total  revenues for the years ended  December 31, 2001,
2000 and 1999, respectively.  Revenues from international sources were primarily
generated from customers located in the United Kingdom, Europe, Asia, Mexico and
South  America.  In  2001,  2000  and  1999,  revenues  from  customers  located
internationally   accounted  for  2.6%,   2.6%,  and  2.5%  of  total  revenues,
respectively.

                                       20
<PAGE>
NOTE P - FINANCIAL INSTRUMENTS

     CONCENTRATION  OF  CREDIT  RISK.  Financial  instruments  that  potentially
subject   Inter-Tel  to  significant   concentrations  of  credit  risk  consist
principally of cash investments,  trade accounts receivable,  and net investment
in  sales-leases.  We maintain cash and equivalents not invested in money market
funds with a major bank in our marketplace.  We perform periodic  evaluations of
the relative credit  standing of the financial  institution.  Concentrations  of
credit risk with respect to trade  accounts  receivable  and net  investment  in
sales-leases  are limited due to the large  number of  entities  comprising  our
customer base.

     FAIR  VALUE OF  FINANCIAL  INSTRUMENTS.  The  carrying  amount  of cash and
equivalents,  accounts receivable, net investment in sales-leases,  and accounts
payable  reported in the  consolidated  balance  sheets  approximate  their fair
value.

NOTE Q - SUPPLEMENTAL CASH FLOW

(In thousands)                                   2001        2000        1999
                                               --------    --------    --------
CASH PAID FOR:
  Interest                                     $    468    $    213    $     65
  Income taxes paid (received)                 $(11,398)   $  4,788    $ 12,405
                                               --------    --------    --------

CHANGES IN OPERATING ASSETS AND LIABILITIES:
  (Increase) decrease in receivables           $  2,064    $ (8,472)   $(13,208)
  (Increase) decrease in inventories             14,647     (15,034)       (656)
  (Increase) decrease in prepaid expenses
    and other assets                             15,620     (20,640)     (8,277)
  (Increase) decrease in long-term
    other assets                                  1,583      14,717     (13,525)
  Increase (decrease) in accounts payable
    and other current liabilities               (17,782)        458      19,544
                                               --------    --------    --------
                                               $ 16,132    $(28,971)   $(16,122)
                                               ========    ========    ========

NOTE R - QUARTERLY RESULTS OF OPERATIONS (UNAUDITED)

     A summary  of the  quarterly  results  of  operations  for the years  ended
December 31, 2001 and 2000 follows:

(In thousands, except per share amounts)

<TABLE>
<CAPTION>
2001                                        1ST QTR        2ND QTR        3RD QTR       4TH QTR
----                                       ---------      ---------      ---------     ---------
<S>                                        <C>            <C>            <C>           <C>
Net sales                                  $  93,702      $ 103,835      $  93,487     $  94,630
Gross profit                                  39,648         44,920         43,276        46,650
Net income                                     1,948            185          4,378         6,531
Net income per share--Basic                $    0.08      $    0.01      $    0.18     $    0.27
Net income per share--Diluted              $    0.08      $    0.01      $    0.18     $    0.26
Weighted average basic
  common shares                               25,500         24,389         23,949        24,116
Weighted average diluted
  common shares                               25,843         24,910         24,804        25,334

2000                                        1ST QTR        2ND QTR        3RD QTR       4TH QTR
----                                       ---------      ---------      ---------     ---------
Net sales                                  $  96,363      $ 101,089      $ 102,650     $ 102,621
Gross profit                                  41,540         30,410         43,798        43,290
Net (loss) income                             (1,221)       (34,162)         2,084         4,376
Net (loss) income per share--Basic         $   (0.05)     $   (1.30)     $    0.08     $    0.17
Net (loss) income per share--Diluted       $   (0.05)     $   (1.30)     $    0.08     $    0.17
Weighted average basic
  common shares                               26,249         26,371         26,435        26,039
Weighted average diluted
  common shares                               26,249         26,371         26,940        26,368
</TABLE>

                                       21
<PAGE>
NOTE S - SUBSEQUENT EVENT

     In May 2001,  Inter-Tel entered into an agreement to submit a lawsuit filed
by Inter-Tel in 1996 to binding  arbitration.  The  arbitration was completed in
January 2002 and as a result of the arbitration, Inter-Tel received a gross cash
award of $20 million in February 2002.  Income taxes,  attorney's  fees,  expert
witness costs,  arbitration  costs and additional costs and expenses,  including
$1.3 million in bonus  payments to employees who assisted in the  litigation and
arbitration,  totaled  approximately  $10.7  million in 2002.  Accordingly,  net
proceeds  from  this  arbitration  totaled   approximately  $9.3  million.  This
transaction  concluded in 2002;  therefore no cash proceeds were included in the
2001 financial statements.

     Included  in the  $1.3  million  total  bonus  payments  to  employees  for
assistance in the litigation and arbitration were payments to executive officers
totaling $740,000 in February 2002. Payments of $250,000, $225,000, $225,000 and
$40,000 were made to Steven G.  Mihaylo,  Norman  Stout,  Craig Rauchle and Jeff
Ford, respectively, in connection with this settlement.

     This  transaction  will be included in the 2002 first quarter  results.  No
cash was  received  and no income was  included  in 2001 from this  arbitration.
However,  Inter-Tel  incurred  costs and expenses,  including  attorney's  fees,
totaling  approximately  $1.3 million from 1997 through 2001 that were  expensed
through  operations  in each period.  Such  expenses are not included in the net
award indicated above.

                                       22
<PAGE>
                 SCHEDULE II - VALUATION AND QUALIFYING ACCOUNTS
                                 (In thousands)

<TABLE>
<CAPTION>
                                       COL. A         COL. B         COL. C           COL. D            COL. E
                                      ---------      --------       --------         --------          ---------

                                              ADDITIONS
                                                                   Charged to
                                      Balance at    Charged to       Other          Charged to          Balance
                                      Beginning      Costs &        Accounts        Deductions          at End
         DESCRIPTION                  of Period      Expenses       Describe         Describe          of Period
         -----------                  ---------      --------       --------         --------          ---------
<S>                                   <C>           <C>            <C>              <C>                <C>
YEAR ENDED DECEMBER 31, 2001

Deducted from asset accounts:
Allowance for doubtful accounts        $17,187       $ 6,260       $   207 (4)       $11,796 (1, 2)     $11,858
Allowance for lease accounts           $ 8,870       $ 5,840       $    --           $ 4,197 (2)        $10,513
Inventory allowance                    $11,897       $ 1,614       $ 2,000 (4)       $ 2,309 (3)        $13,202

YEAR ENDED DECEMBER 31, 2000

Deducted from asset accounts:
Allowance for doubtful accounts        $ 8,814        $ 6,793      $ 4,994 (4)       $ 3,414 (2)        $17,187
Allowance for lease accounts           $ 6,734        $ 4,927      $    --           $ 2,791 (2)        $ 8,870
Inventory allowance                    $ 5,849        $ 1,653      $ 6,278 (4)       $ 1,883 (3)        $11,897

YEAR ENDED DECEMBER 31, 1999

Deducted from asset accounts:
Allowance for doubtful accounts        $ 4,604        $ 4,623      $ 2,628 (4)       $ 3,041 (2)        $ 8,814
Allowance for lease accounts           $ 5,716        $ 3,773      $    --           $ 2,755 (2)        $ 6,734
Inventory allowance                    $ 5,453        $ 1,508      $    83 (4)       $ 1,195 (3)        $ 5,849
</TABLE>

----------
(1)  Includes $4.6 million related to 2000  acquisitions and included in balance
     at end of period 2000 (see item 4 below). Additionally,  this includes $1.9
     million  transferred to Comm-Services  with sale of Inter-Tel.NET  that was
     also included in balance at end of period.
(2)  Uncollectible accounts written off, net of recoveries.
(3)  Inventory written off.
(4)  Acquired in purchase transaction.

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