EXHIBIT 13.0
                 EXCERPTS FROM 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, 1999 and 1998, and the related
consolidated statements of income, shareholders' equity, and cash flows for each
of the three  years in the period  ended  December  31,  1999.  Our audits  also
included the  financial  statement  schedule  listed in the Index at Item 14(a).
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,  1999  and  1998,  and  the
consolidated  results of their  operations  and their cash flows for each of the
three years in the period ended December 31, 1999, in conformity with accounting
principles  generally accepted in the United States.  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 11, 2000

                                      F-1
<PAGE>
INTER-TEL, INCORPORATED AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
December 31, 1999 and 1998

--------------------------------------------------------------------------------

(In thousands, except share amounts)                       1999         1998
                                                         ---------    ---------
ASSETS
CURRENT ASSETS
Cash and equivalents                                     $  19,226    $  63,124
Accounts receivable, less allowances of
 $8,814 in 1999 and $4,604 in 1998                          49,583       41,116
Inventories, less allowances of $ 5,849 in
1999 and $5,453 in 1998                                     18,816       19,663
Net investment in sales-leases                              14,466       13,979
Restricted cash for acquisition                             12,097           --
Prepaid expenses and other assets                            4,926        2,781
                                                         ---------    ---------
TOTAL CURRENT ASSETS                                       119,114      140,663

PROPERTY, PLANT & EQUIPMENT                                 34,016       28,969
GOODWILL                                                    16,452       10,113
OTHER ASSETS                                                70,667       17,285
                                                         ---------    ---------
                                                         $ 240,249    $ 197,030
                                                         ---------    ---------

LIABILITIES AND SHAREHOLDERS' EQUITY
CURRENT LIABILITIES
Accounts payable                                         $  20,540    $  14,956
Other current liabilities                                   37,649       29,390
                                                         ---------    ---------
TOTAL CURRENT LIABILITIES                                   58,189       44,346

DEFERRED TAX LIABILITY                                       6,278        5,026
OTHER LIABILITIES                                            7,661        4,972

SHAREHOLDERS' EQUITY
Common stock, no par value - authorized 100,000,000
 shares, issued and outstanding - 26,135,640 shares
 in 1999, and 26,029,987 shares in 1998                    106,853      104,539
Less: Shareholder loans                                     (1,116)          --
Retained earnings                                           75,835       54,194
Accumulated other comprehensive income                         177         (196)
                                                         ---------    ---------
                                                           181,749      158,537
Less: Treasury stock at cost                               (13,628)     (15,851)
                                                         ---------    ---------
TOTAL SHAREHOLDERS' EQUITY                                 168,121      142,686
                                                         ---------    ---------
                                                         $ 240,249    $ 197,030
                                                         ---------    ---------

See accompanying notes.

                                       F-2
<PAGE>
INTER-TEL, INCORPORATED AND SUBSIDIARIES CONSOLIDATED STATEMENTS OF INCOME
Years Ended December 31, 1999, 1998 and 1997
--------------------------------------------------------------------------------
(In thousands, except per share data)          1999         1998         1997
                                               ----         ----         ----

NET SALES                                   $ 314,221    $ 274,504    $ 223,569
Cost of sales                                 159,463      140,946      122,363
                                            ---------    ---------    ---------

GROSS PROFIT                                  154,758      133,558      101,206

Research and development                       14,798       11,373        7,998
Selling, general and administrative            98,430       86,554       69,942
Special charge                                     --       22,755           --
                                            ---------    ---------    ---------

OPERATING INCOME                               41,530       12,876       23,266
                                            ---------    ---------    ---------

Other income                                    2,345        3,018        1,383
Interest expense                                 (110)         (60)         (47)
                                            ---------    ---------    ---------

INCOME BEFORE INCOME TAXES                     43,765       15,834       24,602

INCOME TAXES
Current                                        19,966       13,390        8,850
Deferred                                       (3,347)      (6,600)       1,070
                                            ---------    ---------    ---------
                                               16,619        6,790        9,920
                                            ---------    ---------    ---------

NET INCOME                                  $  27,146    $   9,044    $  14,682
                                            ---------    ---------    ---------

NET INCOME PER SHARE
Basic                                       $    1.05    $    0.34    $    0.59
Diluted                                     $    1.01    $    0.32    $    0.57
                                            ---------    ---------    ---------

Average common shares outstanding              25,949       26,602       24,836

Average common shares outstanding
   assuming dilution                           27,004       27,846       25,983
                                            ---------    ---------    ---------

See accompanying notes.

                                       F-3
<PAGE>
INTER-TEL, INCORPORATED AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF SHAREHOLDERS' EQUITY
Years Ended December 31, 1999, 1998 and 1997

<TABLE>
<CAPTION>
------------------------------------------------------------------------------------------------------------------
                                                                   Accumulated
                                                                      Other        Share-    Receivable
(In thousands, except             Common    Treasury   Retained   Comprehensive    Holder       From
share amounts)                    Stock      Stock     Earnings       Income       Loans        ESOP        Total
--------------                    -----      -----     --------       ------       -----        ----        -----
<S>                              <C>        <C>        <C>            <C>          <C>          <C>       <C>
BALANCE AT DECEMBER 31, 1996     $ 59,875   $     --   $ 35,464       $ (359)      $    --      $ (46)    $ 94,934

Stock repurchase                             (27,194)                                                      (27,194)
Exercise of stock options             642      4,533     (3,332)                                             1,843
Tax benefit from stock options      1,967                                                                    1,967
Collection from ESOP                                                                               46           46
Stock issued under
 Employee Stock Purchase Plan         256                                                                      256
Issuance of 3,000,000 shares of
 Common Stock                      36,489     22,661                                                        59,150

Net income                                               14,682                                             14,682
Gain on currency translation                                              88                                    88
                                                                                                          --------
Comprehensive income                                                                                        14,770
Dividends                                                  (267)                                              (267)
------------------------------------------------------------------------------------------------------------------

BALANCE AT DECEMBER 31, 1997       99,229         --     46,547         (271)           --         --      145,505

Stock repurchase                             (16,815)                                                      (16,815)
Exercise of stock options           1,487        642       (368)                                             1,761
Tax benefit from stock options      1,979                                                                    1,979
Issuance of 140,000 shares in
 acquisition                        1,485                                                                    1,485
Stock issued under
 Employee Stock Purchase Plan         359        322         30                                                711

Net income                                                9,044                                              9,044
Gain on currency translation                                              75                                    75
                                                                                                          --------
Comprehensive income                                                                                         9,119
Dividends                                                (1,059)                                            (1,059)
------------------------------------------------------------------------------------------------------------------

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
==================================================================================================================
</TABLE>

See accompanying notes.

                                       F-4
<PAGE>
INTER-TEL, INCORPORATED AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
Years ended December 31, 1999, 1998 and 1997

<TABLE>
<CAPTION>
---------------------------------------------------------------------------------------

(In thousands)                                          1999        1998        1997
                                                      --------    --------    --------
<S>                                                   <C>         <C>         <C>
OPERATING ACTIVITIES:
Net income                                            $ 27,146    $  9,044    $ 14,682
Adjustments to reconcile net income
  to net cash provided by operating activities:
  Depreciation and amortization                          9,123       6,718       4,578
  Provision for losses on receivables                    8,396       5,851       4,104
  Provision for inventory valuation                      1,508       1,828       4,021
  Net contribution to ESOP                                  --          --          46
  Increase/(decrease) in other liabilities               1,506         586       1,269
  (Gain)/loss on sale of property and equipment            197          36         (25)
  Deferred income taxes                                  1,253      (6,600)      1,070
  Effect of exchange rate changes                          373          74          88
  Purchased in-process research and development             --      22,755          --
  Changes in operating assets and liabilities          (16,122)     (8,541)     (1,633)
                                                      --------    --------    --------
NET CASH PROVIDED BY OPERATING ACTIVITIES               33,380      31,751      28,200
                                                      --------    --------    --------

INVESTING ACTIVITIES:
Additions to property and equipment                    (12,486)    (15,175)    (12,449)
Additions to operating leases                           (3,115)         --          --
Proceeds from sale of property and equipment
 and operating leases                                    2,904         117          63
Cash used in acquisitions and joint ventures           (59,960)    (25,362)         --
                                                      --------    --------    --------
NET CASH USED IN INVESTING ACTIVITIES                  (72,657)    (40,420)    (12,386)
                                                      --------    --------    --------

FINANCING ACTIVITIES:
Net proceeds from stock offering                            --          --      59,150
Cash dividends paid                                     (1,040)     (1,059)         --
Proceeds from exercise of stock options                  2,491       1,761       1,843
Proceeds from stock issued under the
 Employee Stock Purchase Plan                              851         711         256
Payments on acquired long-term debt                       (223)     (1,610)         --
Treasury stock purchases                                (6,700)    (16,815)    (27,194)
                                                      --------    --------    --------
NET CASH (USED IN)/PROVIDED BY
    FINANCING ACTIVITIES                                (4,621)    (17,012)     34,055
                                                      --------    --------    --------
INCREASE (DECREASE)
 IN CASH AND EQUIVALENTS                               (43,898)    (25,681)     49,869

CASH AND EQUIVALENTS AT BEGINNING
    OF YEAR                                             63,124      88,805      38,936
                                                      --------    --------    --------
CASH AND EQUIVALENTS AT END OF YEAR                   $ 19,226    $ 63,124    $ 88,805
                                                      ========    ========    ========

Non cash transaction: stock acquisition               $     --    $  1,485    $     --
                                                      --------    --------    --------
</TABLE>

See accompanying notes.

                                      F-5
<PAGE>
INTER-TEL, INCORPORATED AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 1999, 1998 and 1997
--------------------------------------------------------------------------------

NOTE A -- SIGNIFICANT ACCOUNTING POLICIES

     DESCRIPTION OF BUSINESS.  Inter-Tel is the largest provider of business key
telephone systems,  voice processing  systems and related software  applications
for the 40+ station key telephone  system market in the United Sates.  Inter-Tel
is also a leading provider of IP telephony voice and data convergence  products.
Inter-Tel's  products include the AXXESS business  telephone  system,  AXXESSORY
TALK  voice  mail  system,   Executone  computer  telephony  products,  and  the
InterPrise  voice and data routers and gateways.  Inter-Tel  also operates an IP
telephony-based  long distance network.  The Company also provides  maintenance,
leasing and support services for its products.

     PRINCIPLES OF CONSOLIDATION.  The consolidated financial statements include
the  accounts  of  Inter-Tel,  Incorporated  and  all  significant  subsidiaries
(collectively, the "Company").  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.

     EXCESS OF  PURCHASE  PRICE OVER NET  ASSETS  ACQUIRED.  Purchase  prices of
acquired  businesses  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") are being amortized
over 3 to 40 years.  Accumulated  amortization  through  December  31,  1999 was
$2,595,000

     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  adjustments  to the
original sales amounts.

     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.  The Company
incurred  $559,000,  $616,000;  and $577,000 in  advertising  costs during 1999,
1998, and 1997, respectively.

     REVENUE RECOGNITION.  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.  Pre-payments  for  communications
services are deferred and recognized as revenue as the  communications  services
are  provided.  For shipments to dealers and other  distributors,  the Company's
revenues are recorded as

                                       F-6
<PAGE>
products are shipped and services are  rendered.  IP telephony and long distance
services revenues are recognized as service is provided.

     STOCK BASED  COMPENSATION.  The Company  grants  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.  The Company accounts for stock option
grants  in  accordance  with  Accounting   Principles   Board  Opinion  No.  25,
"Accounting  for  Stock  Issued  to  Employees,"  ("APB  25")  and  accordingly,
recognizes no compensation  expense for these stock option grants. Refer to note
J regarding additional disclosures.

     FOREIGN CURRENCY  TRANSLATION.  For the Company's 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.  The Company is a party to certain  litigation in the normal
course of business.  Management  does not anticipate that the resolution of such
matters  will  have a  material  adverse  effect on the  Company's  consolidated
financial position. During 1999, the Company also received correspondence from a
major competitor inviting the Company to negotiate a license agreement regarding
the competitor's  patents.  The Company's potential liability in this matter, if
any, has not been determined at this time.

     USE OF ESTIMATES.  The preparation of the consolidated financial statements
in conformity with generally accepted accounting  principles 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 1998 and
1997 financial statements to conform to the 1999 presentation.

RECENTLY ISSUED ACCOUNTING STANDARDS.

     CAPITALIZATION  OF COSTS OF  COMPUTER  SOFTWARE.  On January  1, 1999,  the
Company adopted the accounting  provisions required by the American Institute of
Certified Public  Accountants'  Statement of Position ("SOP") 98-1,  "Accounting
for the Costs of Computer  Software  Developed or Obtained  for  Internal  Use,"
issued in March 1998. SOP 98-1, among other things,  requires that certain costs
of  internal  use  software,  whether  purchased  or  developed  internally,  be
capitalized  and amortized over the estimated  useful life of the software.  The
adoption of the SOP did not have a material impact on the Company's consolidated
results of operations, financial position or cash flows.

     REVENUE  RECOGNITION  IN  FINANCIAL  STATEMENTS.   In  December  1999,  the
Securities and Exchange  Commission (SEC) issued Staff Accounting  Bulletin 101,
"Revenue Recognition in Financial  Statements" (SAB 101) which provides guidance
related to revenue  recognition based on interpretations  and practices followed
by the SEC.  SAB 101 is  effective  the first  fiscal  quarter  of fiscal  years
beginning  after December 15, 1999 and requires  companies to report any changes
in revenue  recognition  as a cumulative  change in accounting  principle at the
time of  implementation  in  accordance  with APB  Opinion  No. 20,  "Accounting
Changes." The Company is currently in the process of evaluating what impact,  if
any, SAB 101 will have on the financial position or results of operations of the
Company.

NOTE B -- ACQUISITIONS AND OTHER TRANSACTIONS

     Each of the  acquisitions  discussed below was accounted for as a purchase.
The results of  operations of each of these  acquisitions  have been included in
the accompanying  consolidated  statements of operations of the Company from the
date of  acquisitions.  The Company will complete  final  allocation of purchase
price of each acquisition  within eighteen months from the acquisition date. The
accompanying   consolidated   financial   statements   reflect  the  preliminary
allocation  of  purchase  price  for  each  acquisition,  which  is  subject  to
adjustment.  It is anticipated that the final  reconciliation  of purchase price
will not differ materially from the preliminary allocation.

                                       F-7
<PAGE>
     In January 1999 the Company  acquired  certain  assets and  liabilities  of
Twisted  Pair,  a  communications  equipment  seller and  installer  for cash of
approximately  $220,000.  The purchase  price over net assets  acquired is being
amortized over 10 years.

     In June 1999 the Company acquired certain assets and liabilities of Network
Services Agency, an agent to sell local access and dedicated  telephone services
for  businesses,  for cash and a short-term  note.  The total  purchase price is
estimated to be between $2.5 and $3.5 million,  pursuant to contract  incentives
for the collection of the outstanding purchased receivables.  The purchase price
over net assets acquired is being amortized over 5 years.

     In July 1999 the Company  acquired certain assets and liabilities of Matrix
Telecommunications  Inc., a communications  equipment seller and installer,  for
cash and a short-term  note totaling  approximately  $3.7 million.  The purchase
price over net assets acquired is being amortized over 10 years.

     In  October  1999  the  Company  acquired  100%  of the  stock  of  Tri-Com
Communications Inc., a communications  equipment seller and installer,  for cash
and a short-term note of approximately $3.6 million. The purchase price over net
assets acquired is being amortized over 10 years.

     Twisted Pair, Network Services Agency, Matrix Telecommunications,  Inc. and
Tri-Com  Communications,  Inc. did not constitute  significant  subsidiaries  as
defined by the Securities and Exchange Commission.

     During the fourth quarter of 1999,  the Company  agreed to acquire  certain
assets and  liabilities  of the Computer  Telephony  division of eLot,  formerly
Executone Business  Information  Systems,  Inc.  ("Executone").  The acquisition
closed in January 2000 for cash purchase  price of  approximately  $44.3 million
plus related  acquisition costs. In connection with this acquisition the Company
anticipates a one-time  charge  resulting  from the write-off of in-process  R&D
costs,  which has not been  quantified at this time. The purchase price over net
assets  acquired will be amortized  over 20 years.  As of December 31, 1999, the
Company placed the funds for the purchase price in escrow. Such funds are listed
on the  balance  sheet as  restricted  cash and  included  in other  current and
long-term  assets.  The  purchase  of  these  assets  and  liabilities  will not
constitute a significant  subsidiary as defined by the  Securities  and Exchange
Commission.

NOTE C -- NET INVESTMENT IN SALES-LEASES

     Net  investment  in  sales-leases  represents  the  value  of  sales-leases
presently  held under the Company's  Totalease  program.  The Company  currently
sells the rental  income from some of the  sales-leases.  The Company  maintains
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)                           1999        1998       1997
                                            --------    --------    -------
     Sales of rental income                 $ 83,405    $ 68,375    $57,812
     Sold income remaining
         unbilled at end of year            $163,728    $131,292    $99,900
     Allowance for uncollectible
         minimum lease payments
         and recourse liability at
         end of year                        $  6,734    $  5,716    $ 3,969

     The  Company  does not  expect any  significant  losses  from the  recourse
provisions  related to the sale of rental income. The Company is compensated for
administration and servicing of rental income sold.

                                       F-8
<PAGE>
NOTE D -- PROPERTY, PLANT & EQUIPMENT

                                                            December 31
                                                        -------------------
     (In thousands)                                      1999        1998
                                                        -------     -------
     Computer systems and equipment                     $37,654     $32,255
     Transportation equipment                             1,560       1,644
     Furniture and fixtures                               4,981       4,611
     Leasehold improvements                               2,033       2,323
     Operating leases (telephone equipment)               7,565       7,970
     Building                                             7,292       1,822
     Land                                                 2,629       2,629
                                                        -------     -------
                                                         63,714      53,254
     Less: Accumulated depreciation
          and amortization                               29,698      24,285
                                                        -------     -------
                                                        $34,016     $28,969
                                                        =======     =======
NOTE E -- OTHER ASSETS

                                                            December 31
                                                        -------------------
     (In thousands)                                       1999        1998
                                                        -------     -------
     Net investment in sales-leases                     $30,258     $17,141
     Restricted cash for acquisition                     32,203          --
     Investment in Cirilium                               7,653          --
     Other assets                                           553         144
                                                        -------     -------
                                                        $70,667     $17,285
                                                        =======     =======

     CIRILIUM  JOINT  VENTURE.  In  December  1999,  Inter-Tel  entered  into an
agreement with Hypercom Corporation to jointly form Cirilium. Cirilium comprises
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.
Inter-Tel's  investment in Cirilium  noted above  includes cash of $6.5 million,
and net assets of $1.2 million.

NOTE F -- OTHER CURRENT LIABILITIES

                                                            December 31
                                                        -------------------
     (In thousands)                                       1999        1998
                                                        -------     -------
     Compensation and employee benefits                 $11,628     $10,829
     Deferred revenues                                    4,515       2,947
     Other accrued expenses                              21,506      15,614
                                                        -------     -------
                                                        $37,649     $29,390
                                                        =======     =======
NOTE G -- CREDIT LINE

     The Company  maintains a  $15,000,000  unsecured  bank credit line at prime
rate to cover international letters of credit and for other purposes. The credit
agreement  matures June 1, 2000 and contains certain  restrictions and financial
covenants.  At December 31, 1999,  $2,535,000  of the credit line was  committed
under letter of credit arrangements.

NOTE H -- LEASES

     Rental expense amounted to $6,254,000; $5,060,000; and $4,342,000; in 1999,
1998 and 1997,  respectively.  Noncancellable operating leases are primarily for
buildings.  Certain of the leases  contain  provisions  for renewal  options and
scheduled rent increases. At December 31, 1999, future minimum commitments under
noncancellable leases, including a five year lease for its headquarters facility
and a 15 year lease for its  distribution  and support  facility,  are:  2000 --
$3,942,000;  2001 -- $3,189,000; 2002 -- $2,216,000; 2003 -- $1,937,000; 2004 --
$1,671,000; thereafter - 2,911,000.

NOTE I -- INCOME TAXES

     The  Company  accounts  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

                                       F-9
<PAGE>
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 the Company's deferred tax liabilities and assets
as of December 31, are as follows:

     (In thousands)                                    1999          1998
                                                     --------       -------
     DEFERRED TAX LIABILITIES:
          Lease--sales and reserves                  $ 15,752       $21,029
                                                     --------       -------
     TOTAL DEFERRED TAX LIABILITIES                    15,752        21,029
                                                     --------       -------
     DEFERRED TAX ASSETS:
          Inventory basis differences                   2,257         3,097
          Accounts receivable reserves                  2,263         1,782
          Maintenance reserve                             117           200
          Accrued vacation pay                            893           750
          Book over tax depreciation                      346         1,058
          Foreign loss carryforwards                    1,279         1,160
          In-process R&D write-off                          0         9,102
          Other -- net                                 10,857         2,674
                                                     --------       -------
     Deferred tax assets                               18,012        19,823
          Less valuation reserve                        1,279         1,160
                                                     --------       -------
     Net deferred tax assets                           16,733        18,663
                                                     --------       -------
     NET DEFERRED TAX LIABILITIES                    $   (981)      $ 2,366
                                                     ========       =======

     During 1999 and 1998, the Company incurred losses of $ 341,000 and $322,000
with  respect to foreign  operations.  At  December  31,  1999,  the Company had
foreign loss  carryforwards  of  approximately  $3,807,000,  which will begin to
expire in 1999.  The valuation  allowance  increased by $119,000 and $113,000 in
1998 due to increases in foreign loss carryforward benefits.

     Federal and state income taxes consisted of the following:

     (In thousands)                             1999      1998      1997
                                               -------    ------    ------
          Federal                              $13,832    $4,910    $8,290
          State                                  2,787     1,880     1,630
                                               -------    ------    ------
                                               $16,619    $6,790    $9,920
                                               =======    ======    ======

     The principal  reasons for the difference  between total income tax expense
and the amount  computed by applying the  statutory  federal  income tax rate to
income before taxes are as follows:

                                                1999       1998      1997
                                               -------    ------    ------
     Federal tax at statutory rates
          applied to pre-tax income              35%       35%       35%
     State tax net of federal benefit             3         5         4
     Valuation reserve increase
          for foreign losses                     --         1         1
     Other - net                                 --         2        --
                                                ---       ---       ---
                                                 38%       43%       40%
                                                ===       ===       ===

NOTE J -- EQUITY TRANSACTIONS

     TREASURY STOCK.  During the second quarter of 1999, the Company initiated a
stock  repurchase  program  under which the Board of  Directors  authorized  the
repurchase of up to 2,500,000  shares of

                                      F-10
<PAGE>
the Company's  Common Stock. The Company  purchased  558,000 shares and expended
approximately  $6.7 million for stock repurchases  during 1999, which was funded
primarily  through  existing cash balances.  The Company reissued shares through
December through stock option exercises and issuances. The proceeds received for
the stock reissued was less than its cost basis. Accordingly, the difference was
recorded  as a  reduction  to  retained  earnings.  The  Company  also  expended
approximately  $16.8 million and $27.2 million for  repurchases of 1,203,600 and
1,470,000   shares  of  the  Company's   Common  Stock  during  1998  and  1997,
respectively, which was funded primarily through existing cash balances.

     PUBLIC STOCK  OFFERING.  In a public offering in December 1997, the Company
sold  3,000,000  shares of Common  Stock.  Net proceeds  from the offering  were
approximately  $59,150,000.  In  conjunction  with the  offering,  all remaining
treasury  shares  were  reissued  first and the  remaining  shares  issued  from
previously unissued Common Stock.

     DIVIDEND  POLICY.  On September 24, 1997, the Company's  Board of Directors
declared a cash  dividend  (the  "Cash  Dividend")  of $0.01 for every  share of
Common Stock, payable quarterly to shareholders of record beginning December 31,
1997,  with  dividend  payments to commence on or about 15 days after the end of
each fiscal quarter.  The Company has made quarterly  dividend payments for each
quarter since the dividend was declared. Prior to the Cash Dividend, the Company
had declared no cash dividends on its Common Stock since incorporation.

     STOCK OPTION PLANS.  In July 1990,  the Company  adopted the Director Stock
Option  Plan ("the  Director  Plan") and  reserved a total of 500,000  shares of
Common Stock for issuance  thereunder.  Options must be granted at not less than
100% of the fair  market  value of the  Company's  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 the Company's
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 annual reelection as Director.  All options granted have 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 the  Company's  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.  Options  must be
granted at not less than 100% of the fair market value of the Company's stock at
the dates of grant.  Options  generally  vest over four or five years and expire
ten years from the date of grant.

     Under the 1994 and 1997 Incentive  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.

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

                                                   Number of Shares
                                        ----------------------------------------
                                           1999          1998          1997
                                           ----          ----          ----

     Outstanding at beginning of year    2,948,032     2,962,524     2,192,300
     Granted                               491,750       576,928     1,523,000
     Exercised                            (615,986)     (370,770)     (511,426)
     Expired or canceled                  (337,100)     (220,650)     (241,350)
                                        ----------    ----------    ----------
     Outstanding at end of year          2,486,696     2,948,032     2,962,524
                                        ----------    ----------    ----------

                                      F-11
<PAGE>
     Exercise price range               $2.24-$26.00  $2.24-$26.00  $2.88-$25.88
     Exercisable at end of year              979,630       882,310       587,774
     Weighted-average fair value of
      options granted                   $      11.44  $       9.75  $       8.42

     At December 31, 1999, the Company has reserved  3,495,619  shares of Common
Stock for issuance in connection with the stock option plans.

     For the stock option  plans  discussed  above,  the Company has adopted the
disclosure  only provisions of Statement of Financial  Accounting  Standards No.
123 "Accounting for Stock-Based  Compensation,"  ("SFAS 123").  Accordingly,  no
compensation cost has been recognized in the accompanying  financial  statements
for the stock option plans.

     The following table summarizes  information about stock options outstanding
at December 31, 1999:

<TABLE>
<CAPTION>
                                    Options Outstanding                          Options Exercisable
                    ----------------------------------------------------   -------------------------------
                                                                               Number
                         Number        Weighted-Average      Weighted      Exercisable at      Weighted
Range of Exercise    Outstanding at        Remaining          Average       December 31,        Average
      Price         December 31, 1999  Contractual Life   Exercise Price        1999        Exercise Price
-----------------   -----------------  ----------------   --------------   --------------   --------------
<S>                       <C>               <C>                <C>            <C>                <C>
  $2.24 - $4.31           357,307           5 years            $2.95          349,088            $2.96
  $4.81 - $7.06           390,200           6 years            $5.67          184,950            $5.93
 $7.25 - $13.44         1,088,145           7 years           $10.27          285,145            $8.21
$15.13 - $26.00           651,044           8 years           $21.51          160,447           $22.17
</TABLE>

     During  1999,  the  weighted  average  exercise  price of options  granted,
exercised, and expired or canceled was $15.01, $6.24 and $11.38, respectively.

     Had compensation  cost for the Company's stock option plans been determined
based on the fair  value at the grant  date for  awards  in 1999,  1998 and 1997
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 the
Company's  net income and net income per share would have been  decreased to the
pro forma amounts indicated below for the year ended December 31:

     (in thousands, except per share amounts)     1999      1998     1997
                                                 -------   ------   -------
     Net income as reported                      $27,146   $9,044   $14,682

     Pro forma net income                        $25,692   $7,942   $14,116

     Pro forma earnings per diluted share        $  0.95   $ 0.29   $  0.54

     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-Sholes 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
the  Company's  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 management's
opinion,  the estimating  models do not  necessarily  provide a reliable  single
measure of the fair value of its 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
1999,  1998 and 1997,  respectively:  risk free  interest  rates of 6.0% in each
year; dividend yields of .25%

                                      F-12
<PAGE>
in 1999, 1998 and 1997;  volatility  factors of the expected market price of the
Company's stock averaged .30; and a weighted average expected life of the option
of 4.0  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
Company  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,  the Company sold 67,431  shares for  approximately  $851,000  ($12.62 per
share) to employees in 1999,  45,654 shares for  approximately  $711,000 ($15.57
per share) to employees in 1998,  and 36,018 shares for  approximately  $256,000
($7.12 per  share) in 1997.  At  December  31,  1999,  350,897  shares  remained
authorized under the Plan.

     STOCK OPTION  LOANS.  During 1999,  selected  officers and employees of the
Company were offered  loans to acquire the Company's  common  stock.  Promissory
Notes were established to cover the cost of exercise of stock options, including
applicable  taxes,  or the cost of the Company's  common stock  purchased in the
open market during May and June of 1999. The loans are interest-only  notes with
balloon  payments due 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 the Company  retains the common
stock certificates as collateral.  The outstanding  balance of loans at December
31, 1999 totaled $1,116,000.

NOTE K - EARNINGS PER SHARE

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

(in thousands, except per share amounts)
                                                  1999        1998        1997
                                                 -------     -------     -------
Numerator:
 Net Income                                      $27,146     $ 9,044     $14,682
                                                 -------     -------     -------
Denominator:
 Denominator for basic earnings per
 share - weighted average shares                  25,949      26,602      24,836

 Effect of dilutive securities:
 Employee and director stock options               1,055       1,244       1,147
                                                 -------     -------     -------

 Denominator for diluted earnings per
 share - adjusted weighted average
 shares and assumed conversions                   27,004      27,846      25,983
                                                 -------     -------     -------

Basic earnings per share                         $  1.05     $  0.34     $  0.59
                                                 =======     =======     =======

Diluted earnings per share                       $  1.01     $  0.32     $  0.57
                                                 =======     =======     =======

     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.  The number of options to purchase
shares of Common Stock that were outstanding  during 1999 that were antidilutive
were  immaterial,  because the market price of the Company's stock was generally
higher  during  the  course of the year than the  prices at which  options  were
granted.

                                      F-13
<PAGE>
NOTE L -- RETIREMENT PLANS

     The  Company  has  two  retirement  plans  for  the  benefit  of all of its
employees.  Under its 401(k)  Retirement  Plan,  participants  may contribute an
amount not exceeding 15 percent of compensation received during participation in
the Plan. The Company makes 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 $840,000, $639,000; and $491,000
in 1999, 1998 and 1997, respectively.

     In 1992,  the Company  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 the Company's Common Stock
in July 1992. The loan was paid in full during 1997. As the principal  amount of
the loan was repaid to the Company  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 the Company
does not anticipate making future allocations of shares from this plan.

NOTE M - SEGMENT INFORMATION

     The Company 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
how to allocate resources and assess  performance.  The Company's chief decision
maker, as defined under SFAS 131, is the Chief Executive  Officer.  To date, the
Company has viewed its operations as principally one segment; telephone systems,
software 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 and South America.  As a
result, the financial  information disclosed herein materially represents all of
the financial information related to the Company's principal operating segment.

     The Company's  revenues are generated  predominantly  in the United States.
Total revenues  generated from U.S.  customers  totaled $306.5  million,  $263.9
million,  and $217.8  million of total revenues for the years ended December 31,
1999, 1998 and 1997,  respectively.  The Company's  revenues from  international
sources were primarily  generated from customers  located in the United Kingdom,
Europe,  Asia and South America. In 1999, 1998 and 1997, revenues from customers
located  internationally  accounted for 2.5%,  3.9%, and 2.6% of total revenues,
respectively.

NOTE N -- FINANCIAL INSTRUMENTS

     CONCENTRATION  OF  CREDIT  RISK.  Financial  instruments  that  potentially
subject  the  Company  to  significant  concentrations  of credit  risk  consist
principally of cash investments,  trade accounts receivable,  and net investment
in  sales-leases.  The Company  maintains cash and  equivalents  not invested in
money market funds with a major bank in its  marketplace.  The Company  performs
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 the Company's 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.

                                      F-14
<PAGE>
NOTE O -- SUPPLEMENTAL CASH FLOW
(In thousands)                                    1999        1998       1997
                                                --------    --------    -------
CASH PAID FOR:
   Interest                                     $     65    $     60    $    47
   Income taxes                                 $ 12,405    $  5,528    $ 5,914
                                                --------    --------    -------
CHANGES IN OPERATING ASSETS AND LIABILITIES:
   Increase in receivables                      $(13,208)   $(17,887)   $(7,294)
   Decrease (increase) in inventories               (656)      1,151     (4,280)
   Decrease in prepaid expenses and
    other assets                                  (1,018)      2,526      4,407
   Increase in long-term other assets            (13,525)     (3,635)    (2,028)
   Increase in accounts payable
      and other current liabilities               12,285       9,304      7,562
                                                --------    --------    -------
                                                $(16,122)   $ (8,541)   $(1,633)
                                                ========    ========    =======

NOTE P -- QUARTERLY RESULTS OF OPERATIONS (UNAUDITED)

     A summary  of the  quarterly  results  of  operations  for the years  ended
December 31, 1999 and 1998 follows: (In thousands, except per share amounts)

1999                               1ST QTR      2ND QTR      3RD QTR     4TH QTR
----                               -------      -------      -------     -------
Net sales                          $65,525     $ 77,788      $81,800     $89,108
Gross profit                        31,672       39,519       39,989      43,578
Net income                           5,092        7,221        7,069       7,764
Net income per share--Basic        $  0.20     $   0.28      $  0.27     $  0.30
Net income per share--Diluted      $  0.19     $   0.27      $  0.26     $  0.29
Average number of common
 shares outstanding -- Basic        26,096       25,826       25,880      25,996
Average number of common
 shares outstanding -- Diluted      27,277       26,711       27,040      26,989

1998                               1ST QTR      2ND QTR      3RD QTR     4TH QTR
----                               -------      -------      -------     -------
Net sales                          $63,758     $ 68,088      $70,389     $72,269
Gross profit                        31,141       32,635       34,846      34,936
Net income                           5,362       (8,643)       5,791       6,534
Net income per share--Basic        $  0.20     $  (0.32)     $  0.22     $  0.25
Net income per share--Diluted      $  0.19     $  (0.32)     $  0.21     $  0.24
Average number of common
 shares outstanding -- Basic        26,741       26,877       26,754      26,035
Average number of common
 shares outstanding -- Diluted      28,242       26,877       27,489      27,225

                                      F-15
<PAGE>
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL
CONDITION AND RESULTS OF OPERATIONS

     THIS  MANAGEMENT'S  DISCUSSION  AND  ANALYSIS OF  FINANCIAL  CONDITION  AND
RESULTS  OF  OPERATIONS  AND OTHER  PARTS OF THIS  REPORT  ON FORM 10-K  CONTAIN
FORWARD-LOOKING  STATEMENTS  THAT  INVOLVE  RISKS AND  UNCERTAINTIES.  THE WORDS
"EXPECTS," "ANTICIPATES,"  "BELIEVES," "INTENDS," "WILL" AND SIMILAR EXPRESSIONS
IDENTIFY FORWARD-LOOKING  STATEMENTS WHICH ARE BASED ON INFORMATION AVAILABLE TO
THE COMPANY ON THE DATE HEREOF,  AND THE COMPANY ASSUMES NO OBLIGATION TO UPDATE
ANY SUCH FORWARD-LOOKING  STATEMENTS.  THE COMPANY'S ACTUAL RESULTS COULD DIFFER
MATERIALLY  FROM THOSE  ANTICIPATED  IN THESE  FORWARD-LOOKING  STATEMENTS  AS A
RESULT OF CERTAIN FACTORS, INCLUDING THOSE SET FORTH IN "FACTORS THAT MAY AFFECT
FUTURE OPERATING RESULTS" AND ELSEWHERE IN THIS 10-K.

GENERAL

     Inter-Tel is a leading  provider of business key telephone  systems,  voice
processing  systems and related  software  applications  for the 40+ station key
telephone  system  market  in the  United  Sates.  Inter-Tel  is also a  leading
provider  of IP  telephony  voice  and data  convergence  products.  Inter-Tel's
products include the AXXESS business telephone system, AXXESSORY TALK voice mail
system, Executone computer telephony products, and the InterPrise voice and data
routers  and  gateways.  Inter-Tel  also  operates  an IP  telephony-based  long
distance network and provides maintenance,  leasing and support services for its
products.  The Company's  Common Stock is quoted on the Nasdaq  National  Market
System under the symbol INTL.

     The Company has  developed  networks of direct sales  offices,  dealers and
value added  resellers in VARs,  which sell the  Company's  products.  In recent
periods,  the Company has focused on expanding its direct sales capabilities and
its dealer and VAR  network.  The Company has  acquired a number of resellers of
telephony  products and integrated  these  operations  with its existing  direct
sales operations in the same geographic areas and in other strategic markets.

     Sales of systems through the Company's dealers and VARs typically  generate
lower gross margins than sales through the Company's direct sales  organization,
although  direct sales typically  require higher levels of selling,  general and
administrative  expenses.  In addition,  the Company's long distance and network
services  typically  generate  lower gross  margins  than sales of software  and
system  products.  Accordingly,  the  Company's  margins may vary from period to
period  depending upon  distribution  channel and product mix. In the event that
sales  through  dealers  or  sales  of  long  distance  services  increase  as a
percentage of net sales, the Company's overall gross margin could decline.

     The Company's operating results depend upon a variety of factors, including
the volume and timing of orders  received  during a period,  the mix of products
sold and the mix of distribution channels, general economic conditions, patterns
of capital spending by customers,  the timing of new product  announcements  and
releases by the Company and its  competitors,  pricing  pressures,  the cost and
effect of acquisitions  and the availability and cost of products and components
from  the  Company's  suppliers.  Historically,  a  substantial  portion  of the
Company's  net sales in a given quarter have been recorded in the third month of
the quarter, with a concentration of such net sales in the last two weeks of the
quarter.  In  addition,  the  Company is subject to seasonal  variations  in its
operating results,  as net sales for the first and third quarters are frequently
less than those experienced during the fourth and second quarters.

     The  markets  served  by the  Company  have  been  characterized  by  rapid
technological  changes and  increasing  customer  requirements.  The Company has
sought to  address  these  requirements  through  the  development  of  software
enhancements  and  improvements to existing  systems and the introduction of new
products and applications.  The Company's research and development  efforts over
the last several years have been focused  primarily on  developing  new products
such as the Inter-Tel  Vocal'Net Server,  the InterPrise Voice and Data Routers,
the ClearConnect  products,  Inter-Tel Axxent system and AXXESSORY TALK CENTRAL;
enhancing the CTI  capabilities of the AXXESS digital  communications  platform;
and expanding the capacity of the Company's  AXXESS and AXXESSORY  TALK systems.
Current efforts are related to the support of industry  standard CTI interfaces,
the  development  of  additional  applications  and  features for the AXXESS and
Executone  digital  communication  systems,  the  enhancement  of the  Inter-Tel
InterPrise router solutions,  and the development of a LAN-based  Communications
Server   incorporating  the  Company's  Call  Processing  and  Voice  Processing
software.  New  applications  under  development  also include  Basic Rate ISDN,
enhanced PBX  networking,  the  Inter-Tel.net  private IP telephony  service and
enhanced unified  messaging.  The  software-based  architecture of the Inter-Tel
digital communication

                                      F-16
<PAGE>
systems  facilitate  maintenance,   support,   upgrades,  and  incorporation  of
additional features and functionality.

     The Company offers to our customers a package of lease  financing and other
services  under  the name  Totalease.  Totalease  provides  to  customers  lease
financing,  maintenance  and support  services,  fixed price  upgrades and other
benefits. The Company finances this program through the periodic resale of lease
rental streams to financial institutions.

     Net sales of the Company have increased  substantially  in each of the past
three years. Such increases were 14.5%,  22.8%, and 20.3% in 1999, 1998 and 1997
over the preceding year.

RESULTS OF OPERATIONS

     The following table sets forth certain  statement of operations data of the
Company expressed as a percentage of net sales for the periods indicated:

                                                 Year Ended December 31
                                             -------------------------------
                                              1999        1998        1997
                                             ------      ------      ------
     Net sales                                100.0%      100.0%      100.0%
     Cost of sales                             50.7        51.3        54.7
                                             ------      ------      ------
     Gross margin                              49.3        48.7        45.3
     Research and development                   4.7         4.2         3.6
     Selling, general and administrative       31.3        31.5        31.3
     Special charge                              --         8.3          --
                                             ------      ------      ------
     Operating income                          13.2         4.7        10.4
     Interest and other income                  0.7         1.1         0.6
     Interest expense                           0.0         0.0         0.0
     Income taxes                               5.3         2.5         4.4
                                             ------      ------      ------
     Net income                                 8.6%        3.3%        6.6%
                                             ------      ------      ------

YEAR ENDED DECEMBER 31, 1999 VERSUS YEAR ENDED DECEMBER 31, 1998

     NET SALES.  Net sales increased 14.5% to $314.2 million in 1999 from $274.5
million  in 1998.  Sales  from  the  Company's  direct  sales  offices  and from
wholesale  distribution  accounted  for $30.4  million of the  increase  and the
network  services  group  accounted  for  $11.0  million  of the  increase.  The
remaining slight decreases occurred in other operations.

     GROSS PROFIT.  Gross profit increased 15.9% to $154.8 million,  or 49.3% of
net sales in 1999 from  $133.6  million,  or 48.7% of net sales,  in 1998.  This
increase in gross profit was primarily a result of higher sales, as a percentage
of total net sales, of AXXESS digital communication  platforms,  call processing
software  and voice  processing  software.  The  increase  in gross  margin  was
primarily  the result of a higher  proportion  of sales  through  the  Company's
direct  sales  offices  compared  to its dealer  network  and a higher  software
content in systems sales,  offset in part by increases in sales of long distance
services, and the impact of some pricing discounts on sales of smaller telephone
systems.

     RESEARCH AND DEVELOPMENT.  Research and development  expenses  increased to
$14.8 million,  or 4.7% of net sales in 1999 from $11.4 million,  or 4.2% of net
sales,  in 1998. In 1999,  these expenses were directed  principally  toward the
continued  development of the digital AXXESS and Inter-Tel  Axxent  software and
systems,  unified messaging and voice processing software,  InterPrise IP router
solutions,  ClearConnect  solutions,  and certain CTI applications.  The Company
expects that  research and  development  expenses  will  continue to increase in
absolute  dollars as the Company  continues to develop and enhance  existing and
new technologies and products. These expenses may vary, however, as a percentage
of net sales.

                                      F-17
<PAGE>
     SELLING,  GENERAL AND ADMINISTRATIVE.  Selling,  general and administrative
expenses  increased to $98.4 million,  or 31.3% of net sales, in 1999 from $86.6
million,  or 31.5% of net sales,  in 1998.  This  reflected  increased  selling,
incentive,  training and other  compensation costs attributable to the increased
sales through the Company's direct sales offices,  continued  development of the
Inter-Tel.net network and related expenses,  additional personnel to support the
direct dealer network,  and expenses  associated with international  operations.
This  increase  is also  attributable  to the  hiring  of  additional  sales and
technical  training staff,  consolidation and expansion of its credit management
group,  and  increases  in  reserves  for patent  royalty  claims  and  accounts
receivable.  The  Company  expects  that  selling,  general  and  administrative
expenses will increase in absolute dollars,  but may vary as a percentage of net
sales.

     INTEREST AND OTHER INCOME. Other income decreased approximately $673,000 in
1999 principally as a result of lower levels of cash available for investment.

     NET INCOME.  Net income  increased  200.2% to $27.1  million,  or $1.01 per
diluted  share,  in 1999  compared to net income of $9.0  million,  or $0.32 per
diluted  share,  in 1998.  Excluding  the special  charge in 1998 related to the
write-off of in process  research  and  development  costs,  net income for 1998
would have been $22.7 million, or $0.82 per diluted share.

YEAR ENDED DECEMBER 31, 1998 VERSUS YEAR ENDED DECEMBER 31, 1997

     NET SALES.  Net sales increased 22.8% to $274.5 million in 1998 from $223.6
million  in 1997.  Sales  from  the  Company's  direct  sales  offices  and from
wholesale   distribution  accounted  for  approximately  $38.2  million  of  the
increase.  The  remaining  increases  occurred in long distance and IP sales and
other operations.

     GROSS PROFIT.  Gross profit increased 32.0% to $133.6 million,  or 48.7% of
net sales in 1998 from  $101.2  million,  or 45.3% of net  sales,  in 1997.  The
increases  in gross  profit and gross  margin were  primarily a result of higher
sales,  as a  percentage  of total net sales,  of AXXESS  digital  communication
platforms,  call processing software and voice processing software. In addition,
gross margin increased despite a lower percentage  increase in sales through the
Company's direct sales offices compared to its dealer network,  as gross margins
are typically higher for sales through the Company's direct sales offices.

     RESEARCH AND DEVELOPMENT.  Research and development  expenses  increased to
$11.4  million,  or 4.2% of net sales in 1998 from $8.0 million,  or 3.6% of net
sales,  in 1997.  The  increases in absolute  dollars and as a percentage of net
sales were principally  attributable to the continued  development of the AXXESS
software and systems, unified messaging and voice processing software, Inter-Tel
IP telephony products and certain CTI applications.

     SELLING,  GENERAL AND ADMINISTRATIVE.  Selling,  general and administrative
expenses  increased to $86.6  million,  or 31.5% of net sales in 1998 from $69.9
million,  or 31.3% of net sales,  in 1997.  The  increase  in  absolute  dollars
reflected  increased selling,  incentive,  training and other compensation costs
attributable to the increased sales through the Company's  direct sales offices,
additional  personnel to support the direct  dealer  network and expansion of IP
telephony  and  long  distance  operations,  development  and  expansion  of the
Inter-Tel.net  network and expenses  associated with  international  operations.
This  increase  is also  attributable  to the  hiring  of  additional  sales and
technical training staff, and increases in reserves for accounts receivable.

     INTEREST  AND OTHER  INCOME.  Other  income  increased  approximately  $1.6
million in 1998  principally  as a result of higher levels of cash available for
investment due to the issuance of the Company's  common stock from the secondary
public offering in the fourth quarter of 1997, offset by the payment of cash for
the purchase of TMSI assets, and the Company's stock repurchases made during the
last half of 1998.

     NET  INCOME.  Including  the special  charge  related to the  write-off  of
in-process  research and  development of TMSI during the second quarter of 1998,
net income decreased 38.4% to $9.0 million,  or $0.32 per diluted share, in 1998
compared to net income of $14.7  million,  or $.57 per diluted  share,  in 1997.

                                      F-18
<PAGE>
Excluding the 1998 special charge, net income would have been $22.7 million,  or
$0.82 per diluted share, an increase of 44.2% over 1997.

INFLATION/CURRENCY FLUCTUATION

     Inflation  and currency  fluctuations  have not  previously  had a material
impact on Inter-Tel's  operations.  International  procurement  agreements  have
traditionally been denominated in U.S. currency.  Moreover, a significant amount
of  contract  manufacturing  has been or is  expected  to be  moved to  domestic
sources.  The expansion of  international  operations in the United  Kingdom and
Europe  and  increased  sales,  if any,  in Japan and other  parts of Asia could
result in higher international sales as a percentage of total revenues; however,
international revenues are currently not significant.

LIQUIDITY AND CAPITAL RESOURCES

     At December 31, 1999,  cash and  equivalents  totaled $19.2 million,  which
represents a decrease of approximately $43.9 million from December 31, 1998. The
Company maintains a $15.0 million,  unsecured revolving line of credit with Bank
One,  Arizona,  NA. The credit  facility is annually  renewable and is available
through June 1, 2000. Under the credit  facility,  the Company has the option to
borrow at a prime  rate or  adjusted  LIBOR  interest  rate.  Historically,  the
Company has used the credit facility primarily to support  international letters
of credit  issued to  suppliers.  In December  1997,  the Company  received  net
proceeds  of  approximately  $59.2  million  from a  public  stock  offering  of
3,000,000 common shares. During the year ended December 31, 1998,  approximately
$25 million plus  acquisition  costs was used to purchase certain assets of TMSI
and an  additional  $16.7  million  was  expended  to  repurchase  shares of the
Company's Common Stock.  During the year ended December 31, 1999,  approximately
$15.7 million was used in  acquisitions  closed in 1999 and to fund the Cirilium
joint venture and an additional $6.7 million was expended to repurchase share of
the Company's Common Stock. In addition, approximately $44.3 million was used to
fund the subsequent  acquisition of certain assets and liabilities of Executone,
which  closed on January 1, 2000.  The  remaining  cash  balances may be used to
develop  and expand  Inter-Tel.net  and for  potential  acquisitions,  strategic
alliances, working capital and general corporate purposes.

     Net cash  provided by operating  activities  totaled  $33.4 million for the
year ended  December  31,  1999,  compared  to net cash  provided  by  operating
activities of $31.8  million for the same period in 1998.  This increase in cash
provided by operating  activities in 1999 was primarily the result of profitable
operations, offset in part by increased accounts receivable net of a decrease in
inventories.  During 1999,  accounts  receivable  increased  approximately $13.2
million  and  inventories  increased  approximately  $656  thousand.   Inter-Tel
continues  to expand its dealer  network,  which has required and is expected to
continue  to require  working  capital for  increased  accounts  receivable  and
inventories.

     Net  cash  used  in  investing   activities,   primarily  in  the  form  of
acquisitions and capital  expenditures,  totaled $72.7 million and $40.4 million
for the years ended  December 31, 1999 and 1998,  respectively.  This net use of
cash in 1999 was  primarily  the result of the  purchase  of  certain  assets of
Executone, the investment in the Cirilium joint venture, as well as additions to
property and  equipment.  Cash used in  acquisitions  and  investments  in joint
ventures  totaled  approximately  $60.0  million in 1999.  Capital  expenditures
totaled approximately $12.5 million for the same period. The Company anticipates
additional   capital   expenditures   during  2000,   principally   relating  to
expenditures   for  equipment  and  management   information   systems  used  in
operations,   facilities  expansion,   acquisition  activities  and  anticipated
increased  volumes of operating  leases  offered by Inter-Tel to our  customers,
which must be capitalized as fixed assets by Inter-Tel.

     Net cash used in financing  activities  totaled  $4.7  million  during 1999
compared to net cash used of $17.0  million in 1998.  Net cash used in financing
activities  during both periods was primarily due to a stock repurchase  program
under  which the  Board of  Directors  authorized  the  repurchase  of up to 2.5
million  shares of our common stock.  The Company  expended  approximately  $6.7
million  and  $16.8  million  for  stock  repurchases   during  1999  and  1998,
respectively, funded by existing cash balances during each period. Additionally,
in 1997 the Company  raised  approximately  $59.2  million in a secondary  stock
offering. During 1999, the Company reissued treasury shares through stock option
exercises and issuances,  with the

                                      F-19
<PAGE>
proceeds  received  totaling  less  than the cost  basis of the  treasury  stock
reissued.  Accordingly,  the  difference was recorded as a reduction to retained
earnings.  Net cash used for cash  dividends  totaled $1.0 million  during 1999,
which was offset by cash  provided by the  exercise  of stock  options and stock
issuances pursuant to our Employee Stock Purchase Plan.

     The Company  offers to our customers  lease  financing and other  services,
including our Totalease program,  through the Inter-Tel Leasing subsidiary.  The
Company funds these programs in part through the sale to financial  institutions
of rental income streams under the leases.  Resold lease rentals totaling $163.7
million and $131.3 million remain unbilled at December 31, 1999 and December 31,
1998,  respectively.  The Company is obligated to repurchase such income streams
in the event of defaults by lease customers and, accordingly, maintains reserves
based upon loss  experience and past due accounts.  Although the Company to date
has been able to resell the rental  streams from leases under its lease programs
profitably and on a substantially current basis, the timing and profitability of
lease resales could impact the Company's  operating results,  particularly in an
environment  of  fluctuating  interest  rates and economic  uncertainty.  If the
Company were required to repurchase rental streams and realize losses thereon in
amounts  exceeding  its  reserves,  its  operating  results  could be materially
adversely affected.

     We believe that the Company's cash balances,  working capital and available
credit  facilities,  together  with  anticipated  ongoing  cash  generated  from
operations,  will be sufficient to develop and expand the Inter-Tel.net network,
to finance  acquisitions of additional resellers of telephony products and other
strategic  acquisitions or corporate alliances,  and to provide adequate working
capital  for at least  the next  twelve  months.  However,  to the  extent  that
additional funds are required in the future to address working capital needs and
to provide  funding for capital  expenditures,  expansion of the business or the
Inter-Tel.net  network  or  additional   acquisitions,   the  Company  may  seek
additional  financing.  There can be no assurance that such additional financing
will be available when required or on acceptable terms.

IMPACT OF RECENTLY ISSUED ACCOUNTING STANDARDS.

     CAPITALIZATION  OF COSTS OF  COMPUTER  SOFTWARE.  On January  1, 1999,  the
Company adopted the accounting  provisions required by the American Institute of
Certified Public  Accountants'  Statement of Position ("SOP") 98-1,  "Accounting
for the Costs of Computer  Software  Developed or Obtained  for  Internal  Use,"
issued in March 1998. SOP 98-1, among other things,  requires that certain costs
of  internal  use  software,  whether  purchased  or  developed  internally,  be
capitalized  and amortized over the estimated  useful life of the software.  The
adoption of the SOP did not have a material impact on the Company's consolidated
results of operations, financial position or cash flows.

ACQUIRED IN-PROCESS RESEARCH AND DEVELOPMENT.

     In connection with the TMSI asset purchase, the Company expensed in-process
research and  development,  on IPRD totaling  $22.8  million as a  non-recurring
charge on the acquisition date in 1998. This was necessary  because the acquired
technology  had not yet  reached  technological  feasibility  and had no  future
alternative  uses.  The  Company  is using the  acquired  IPRD to create  new IP
products,  which will become part of the  Inter-Tel  product suite over the next
several  years.  During 1999,  the Company  released the InterPrise 400 and 3200
product lines.  The Company  expects that the acquired IPRD will be successfully
developed,  but there can be no assurance of the  commercial  viability of these
products.

     The value of the  purchased  in-process  technology  was  determined  using
management's  estimates of the  projected  discounted  net cash flows related to
such products, including costs to complete development and future revenues to be
earned  upon   commercialization.   Calculations   were  revised   after  giving
consideration  to the SEC Staff's  views as set forth in its  September 15, 1998
letter to the American Institute of Certified Public  Accountants.  Calculations
of value therefore gave consideration to value creation efforts of TMSI prior to
the  purchase  relative  to  the  efforts  of  the  Company  subsequent  to  the
transaction.  These efforts were estimated, giving consideration to time-, cost-
and  complexity-based  data.  Time-based  data is measured in developer  months.
Cost-based data estimates dollar amounts spent and to be spent to complete these
projects.  Complexity-based  data considers the high risk development issues and
major milestones associated with the completion of particular projects.

                                      F-20
<PAGE>
     The purchased  in-process  technology  acquired in the TMSI asset  purchase
comprised  five main  projects,  estimated at 49% to 97% complete.  The discount
rates utilized for the developed and in-process  technologies  were 25% and 35%,
respectively.  Revenues  and  operating  profits were assumed to increase in the
first three years of the  seven-year  projection  period at annual rates ranging
from 238% to 520% while  decreasing  over the remaining term.  Projections  were
based on assumed  penetration  of the  existing  customer  base,  synergies as a
result of the TMSI purchase,  new customer transactions and historical retention
rates.  Costs to  complete  the  projects  were  estimated  at $1  million  plus
maintenance.

     During 1999,  revenues and  operating  profit  attributable  to  in-process
technology  were below  original  expectations.  No assurance  can be given that
additional  deviations from these  projections will not occur in the future.  If
the projects to develop  commercial  products  based on the acquired  in-process
technology are not successfully  completed,  the sales and  profitability of the
Company  may be  adversely  affected in future  periods,  and the value of other
intangible assets may become impaired.

                                      F-21