##### Table of Contents





UNITED STATES
SECURITIES AND EXCHANGE COMMISSION


Washington, D.C. 20549


FORM 10-Q

|    |  |                                                                                         
|--- |  | ----------------------------------------------------------------------------------------
|[X] |  | QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15 (d) OF THE SECURITIES EXCHANGE ACT OF 1934

| |  |                                                
| |  | -----------------------------------------------
| |  | For the quarterly period ended January 31, 2004

OR

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

Commission File Number 0-16231

XETA Technologies, Inc.




(Exact name of registrant as specified in its charter)


|                                                               |                                     
|-------------------------------------------------------------- | ------------------------------------
|Oklahoma                                                       | 73-1130045                          
|                                                               |                                     
|(State or other jurisdiction of
incorporation or organization) | (I.R.S. Employee
Identification No.)

|                                         |           
|---------------------------------------- | ----------
|1814 W. Tacoma, Broken Arrow, OK         | 74012-1406
|                                         |           
|(Address of principal executive offices) | (Zip Code)

|                                                                 
|-----------------------------------------------------------------
|918-664-8200
(Registrants telephone number, including area code)



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

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

Yes     [X]      No      [  ]

Indicate by check mark whether the registrant is an accelerated filer (as
defined in Rule 12b-2 of the Exchange Act).

Yes     [  ]      No      [X]

Number of shares outstanding of each of the registrants classes of common
stock, as of the latest practicable date.

|                              |  |                                 
|----------------------------- |  | --------------------------------
|Class                         |  | Outstanding at February 15, 2004
|                              |  |                                 
|Common Stock, $.001 par value |  | 10,002,952                      





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TABLE OF CONTENTS



|                                      |                                                                                               |                                                 |  |  |  |  |  | 
|------------------------------------- | --------------------------------------------------------------------------------------------- | ----------------------------------------------- |  |  |  |  |  | 
|                                      |                                                                                               | CONSOLIDATED BALANCE SHEETS                    
|                                      |                                                                                               | CONSOLIDATED STATEMENTS OF OPERATIONS          
|                                      |                                                                                               | CONSOLIDATED STATEMENTS OF SHAREHOLDERS EQUITY
|                                      |                                                                                               | CONSOLIDATED STATEMENTS OF CASH FLOWS          
|                                      | ITEM 2. MANAGEMENTS DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
|                                      | ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK                           
|                                      | ITEM 4. CONTROLS AND PROCEDURES                                                              
|PART II. OTHER INFORMATION           
|                                      | ITEM 1. LEGAL PROCEEDINGS                                                                    
|                                      | ITEM 2. CHANGES IN SECURITIES AND USE OF PROCEEDS                                            
|                                      | ITEM 3. DEFAULTS UPON SENIOR SECURITIES                                                      
|                                      | ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS                                  
|                                      | ITEM 5. OTHER INFORMATION                                                                    
|                                      | ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K                                                     
|SIGNATURES                           
|EXHIBIT INDEX                        
|Rule 13a-14(d) Certification of CEO  
|Rule 13a-Rule(a) Certification of CFO
|Certification of CEO - Section 906   
|Certification of CFO - Section 906   



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##### Table of Contents





|                              |                                                                    |                                                                                              |  |      |   | 
|----------------------------- | ------------------------------------------------------------------ | -------------------------------------------------------------------------------------------- |  | ---- | - | 
|                              |                                                                    |                                                                                              |  | PAGE
|PART I. FINANCIAL INFORMATION |                                                                    |                                                                                              |  |     
|                              | ITEM 1. FINANCIAL STATEMENTS (Unaudited)                           |                                                                                              |  |      |  
|                              |                                                                    | Consolidated Balance Sheets  January 31, 2004
and October 31, 2003                          |  |      | 3 | 
|                              |                                                                    | Consolidated Statements of Operations - For the
Three Months Ended January 31, 2004 and 2003 |  |      | 4 | 
|                              |                                                                    | Consolidated Statement of Shareholders Equity  For the
Three Months Ended January 31, 2004 |  |      | 5 | 
|                              |                                                                    | Consolidated Statements of Cash Flows - For the
Three Months Ended January 31, 2004 and 2003 |  |      | 6 | 
|                              |                                                                    | Notes to Consolidated Financial Statements                                                   |  |      | 7 | 
|                              | ITEM 2. MANAGEMENTS DISCUSSION AND ANALYSIS                        |                                                                                              |  | 15   |  
|                              | ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK |                                                                                              |  | 20   |  
|                              | ITEM 4. CONTROLS AND PROCEDURES                                    |                                                                                              |  | 21   |  
|PART II. OTHER INFORMATION    |                                                                    |                                                                                              |  |     
|                              | ITEM 1. LEGAL PROCEEDINGS                                          |                                                                                              |  | 21   |  
|                              | ITEM 2. CHANGES IN SECURITIES AND USE OF PROCEEDS                  |                                                                                              |  | 21   |  
|                              | ITEM 3. DEFAULTS UPON SENIOR SECURITIES                            |                                                                                              |  | 21   |  
|                              | ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS        |                                                                                              |  | 21   |  
|                              | ITEM 5. OTHER INFORMATION                                          |                                                                                              |  | 21   |  
|                              | ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K                           |                                                                                              |  | 21   |  

2



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##### Table of Contents



XETA TECHNOLOGIES, INC.




CONSOLIDATED BALANCE SHEETS
UNAUDITED


|                                     |                                                                                                                         |                                            |                           |            |            |                  |           |                  |            |            |  | 
|------------------------------------ | ----------------------------------------------------------------------------------------------------------------------- | ------------------------------------------ | ------------------------- | ---------- | ---------- | ---------------- | --------- | ---------------- | ---------- | ---------- |  | 
|                                     |                                                                                                                         |                                            |                           |            |            | January 31, 2004 |           | October 31, 2003
|                                     |                                                                                                                         |                                            |                           |            |            |                  |           |                 
|ASSETS                               |                                                                                                                         |                                            |                           |            |            |                  |           |                 
|Current Assets:                      |                                                                                                                         |                                            |                           |            |            |                  |           |                 
|                                     | Cash and cash equivalents                                                                                               |                                            | $                         | 121,117    |            |                  | $         | 291,118          |           
|                                     | Current portion of net investment in
sales-type leases and other receivables                                            |                                            |                           | 971,727    |            |                  |           | 979,255          |           
|                                     | Trade accounts receivable, net                                                                                          |                                            |                           | 9,436,389  |            |                  |           | 5,794,949        |           
|                                     | Inventories, net                                                                                                        |                                            |                           | 6,196,927  |            |                  |           | 5,614,902        |           
|                                     | Deferred tax asset, net                                                                                                 |                                            |                           | 1,011,233  |            |                  |           | 885,752          |           
|                                     | Prepaid taxes                                                                                                          
|                                     | Prepaid expenses and other assets                                                                                       |                                            |                           | 471,717    |            |                  |           | 322,699          |           
|                                     |                                                                                                                         |                                            |                           |            |            |                  |           |                 
|                                     |                                                                                                                         |                                            | Total current assets      |            |            | 18,209,110       |           |                  |            | 13,888,675 | 
|                                     |                                                                                                                         |                                            |                           |            |            |                  |           |                 
|Noncurrent Assets:                   |                                                                                                                         |                                            |                           |            |            |                  |           |                 
|                                     | Goodwill, net of accumulated amortization
prior to adoption of SFAS 142                                                 |                                            |                           | 25,712,992 |            |                  |           | 25,726,886       |           
|                                     | Net investment in sales-type leases,
less current portion above                                                         |                                            |                           | 421,471    |            |                  |           | 419,800          |           
|                                     | Property, plant & equipment, net                                                                                        |                                            |                           | 10,577,532 |            |                  |           | 10,466,824       |           
|                                     | Capitalized software production costs, net of
accumulated amortization of $1,291,021 and $1,233,066                     |                                            |                           |           |            |                  |           | 57,955           |           
|                                     | Other assets                                                                                                            |                                            |                           | 56,790     |            |                  |           | 112,528          |           
|                                     |                                                                                                                         |                                            |                           |            |            |                  |           |                 
|                                     |                                                                                                                         |                                            | Total noncurrent assets   |            |            | 36,768,785       |           |                  |            | 36,783,993 | 
|                                     |                                                                                                                         |                                            |                           |            |            |                  |           |                 
|                                     |                                                                                                                         |                                            | Total assets              |            | $          | 54,977,895       |           |                  | $          | 50,672,668 | 
|                                     |                                                                                                                         |                                            |                           |            |            |                  |           |                 
|LIABILITIES AND SHAREHOLDERS EQUITY |                                                                                                                         |                                            |                           |            |            |                  |           |                 
|Current liabilities:                 |                                                                                                                         |                                            |                           |            |            |                  |           |                 
|                                     | Current portion of long-term debt                                                                                       |                                            | $                         | 1,209,645  |            |                  | $         | 1,209,645        |           
|                                     | Revolving line of credit                                                                                                |                                            |                           | 1,736,773  |            |                  |           | 719,073          |           
|                                     | Accounts payable                                                                                                        |                                            |                           | 5,575,840  |            |                  |           | 3,928,878        |           
|                                     | Unearned revenue                                                                                                        |                                            |                           | 2,408,326  |            |                  |           | 1,620,323        |           
|                                     | Accrued liabilities                                                                                                     |                                            |                           | 2,210,550  |            |                  |           | 1,869,024        |           
|                                     | Accrued taxes                                                                                                           |                                            |                           | 334,920    |            |                  |           | 58,134           |           
|                                     | Other liabilities                                                                                                       |                                            |                           | 189,535    |            |                  |           | 279,250          |           
|                                     |                                                                                                                         |                                            |                           |            |            |                  |           |                 
|                                     |                                                                                                                         |                                            | Total current liabilities |            |            | 13,665,589       |           |                  |            | 9,684,327  | 
|                                     |                                                                                                                         |                                            |                           |            |            |                  |           |                 
|Noncurrent liabilities:              |                                                                                                                         |                                            |                           |            |            |                  |           |                 
|                                     | Long-term debt, less current portion above                                                                              |                                            |                           | 3,727,393  |            |                  |           | 4,029,738        |           
|                                     | Accrued long-term liabilities                                                                                           |                                            |                           | 144,100    |            |                  |           | 144,101          |           
|                                     | Unearned service revenue                                                                                                |                                            |                           | 235,614    |            |                  |           | 229,910          |           
|                                     | Noncurrent deferred tax liability, net                                                                                  |                                            |                           | 2,013,769  |            |                  |           | 1,973,575        |           
|                                     |                                                                                                                         |                                            |                           |            |            |                  |           |                 
|                                     |                                                                                                                         |                                            | 6,120,876                 |            |            |                  | 6,377,324 |                 
|                                     |                                                                                                                         |                                            |                           |            |            |                  |           |                 
|Contingencies                        |                                                                                                                         |                                            |                           |            |            |                  |           |                 
|Shareholders equity:                |                                                                                                                         |                                            |                           |            |            |                  |           |                 
|                                     | Preferred stock; $.10 par value; 50,000 shares
authorized, 0 issued                                                     |                                            |                           |           |            |                  |           |                 |           
|                                     | Common stock; $.001 par value; 50,000,000
shares authorized, 11,021,740 issued at
January 31, 2004 and October 31, 2003 |                                            |                           | 11,021     |            |                  |           | 11,021           |           
|                                     | Paid-in capital                                                                                                         |                                            |                           | 12,681,681 |            |                  |           | 12,681,681       |           
|                                     | Retained earnings                                                                                                       |                                            |                           | 24,791,892 |            |                  |           | 24,229,820       |           
|                                     | Accumulated other comprehensive loss                                                                                    |                                            |                           | (48,505    | )          |                  |           | (66,846          | )         
|                                     | Less treasury stock, at cost                                                                                            |                                            |                           | (2,244,659 | )          |                  |           | (2,244,659       | )         
|                                     |                                                                                                                         |                                            |                           |            |            |                  |           |                 
|                                     |                                                                                                                         | Total shareholders equity                 |                           |            | 35,191,430 |                  |           |                  | 34,611,017 |           
|                                     |                                                                                                                         |                                            |                           |            |            |                  |           |                 
|                                     |                                                                                                                         | Total liabilities and shareholders equity |                           | $          | 54,977,895 |                  |           | $                | 50,672,668 |           
|                                     |                                                                                                                         |                                            |                           |            |            |                  |           |                 

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

3



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##### Table of Contents



XETA TECHNOLOGIES, INC.




CONSOLIDATED STATEMENTS OF OPERATIONS
UNAUDITED


|                                         |                                     |              |                          |            |                      |           |           |            |           |           |  
|---------------------------------------- | ----------------------------------- | ------------ | ------------------------ | ---------- | -------------------- | --------- | --------- | ---------- | --------- | --------- | -
|                                         |                                     |              |                          |            | For the Three Months
|                                         |                                     |              |                          |            | Ended January 31,   
|                                         |                                     |              |                          |            | 2004                 |           | 2003     
|                                         |                                     |              |                          |            |                      |           |          
|Systems sales                            |                                     | $            | 10,018,357               |            |                      | $         | 8,725,109 |           
|Installation and service revenues        |                                     |              | 6,755,110                |            |                      |           | 6,116,505 |           
|Other revenues                           |                                     |              | 155,934                  |            |                      |           | 589,791   |           
|                                         |                                     |              |                          |            |                      |           |           |           
|                                         | Net sales and service revenues      |              |                          | 16,929,401 |                      |           |           | 15,431,405 |          
|                                         |                                     |              |                          |            |                      |           |           |           
|Cost of systems sales                    |                                     |              | 8,002,901                |            |                      |           | 6,428,212 |           
|Installation and services costs          |                                     |              | 4,629,602                |            |                      |           | 4,360,407 |           
|Cost of other revenues & corporate COGS  |                                     |              | 341,541                  |            |                      |           | 723,691   |           
|                                         |                                     |              |                          |            |                      |           |           |           
|                                         | Total cost of sales and service     |              |                          | 12,974,044 |                      |           |           | 11,512,310 |          
|                                         |                                     |              |                          |            |                      |           |           |           
|                                         |                                     | Gross profit |                          |            | 3,955,357            |           |           |            | 3,919,095 |          
|                                         |                                     |              |                          |            |                      |           |           |           
|Operating expenses:                      |                                     |              |                          |            |                      |           |           |           
|                                         | Selling, general and administrative |              |                          | 2,927,493  |                      |           |           | 2,937,355  |          
|                                         | Amortization                        |              |                          | 73,026     |                      |           |           | 45,000     |          
|                                         |                                     |              |                          |            |                      |           |           |           
|                                         |                                     |              | Total operating expenses |            |                      | 3,000,519 |           |            |           | 2,982,355 |  
|                                         |                                     |              |                          |            |                      |           |           |           
|Income from operations                   |                                     |              | 954,838                  |            |                      |           | 936,740   |           
|                                         | Interest expense                    |              |                          | (83,780    | )                    |           |           | (179,677   | )        
|                                         | Interest and other income           |              |                          | 54,014     |                      |           |           | 50,172     |          
|                                         |                                     |              |                          |            |                      |           |           |           
|                                         |                                     |              | Subtotal                 |            |                      | (29,766   | )         |            |           | (129,505  | )
|Income before provision for income
taxes |                                     |              | 925,072                  |            |                      |           | 807,235   |           
|Provision for income taxes               |                                     |              | 363,000                  |            |                      |           | 316,000   |           
|                                         |                                     |              |                          |            |                      |           |           |           
|Net income                               |                                     | $            | 562,072                  |            |                      | $         | 491,235   |           
|                                         |                                     |              |                          |            |                      |           |           |           
|Earnings per share                       |                                     |              |                          |            |                      |           |           |           
|                                         | Basic                               |              | $                        | 0.06       |                      |           | $         | 0.05       |          
|                                         |                                     |              |                          |            |                      |           |           |           
|                                         | Diluted                             |              | $                        | 0.06       |                      |           | $         | 0.05       |          
|                                         |                                     |              |                          |            |                      |           |           |           
|Weighted average shares outstanding      |                                     |              | 10,002,952               |            |                      |           | 9,702,952 |           
|                                         |                                     |              |                          |            |                      |           |           |           
|Weighted average equivalent shares       |                                     |              | 10,208,822               |            |                      |           | 9,941,968 |           
|                                         |                                     |              |                          |            |                      |           |           |           

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

4



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##### Table of Contents



XETA TECHNOLOGIES, INC.




CONSOLIDATED STATEMENTS OF SHAREHOLDERS EQUITY
UNAUDITED




|                                    |                                                |  |               |   |                |   |        |   |        |  |           |   |  |   |            |   | 
|----------------------------------- | ---------------------------------------------- |  | ------------- | - | -------------- | - | ------ | - | ------ |  | --------- | - |  | - | ---------- | - | 
|                                    |                                                |  | Common Stock  |   | Treasury Stock
|                                    |                                                |  |               |   |               
|                                    |                                                |  | Shares Issued |   | Par Value      |   | Shares |   | Amount
|                                    |                                                |  |               |   |                |   |        |   |       
|Balance-October 31, 2003            |                                                |  | 11,021,740    |   |                | $ | 11,021 |   |        |  | 1,018,788 |   |  | $ | (2,244,659 | )
|                                    |                                                |  |               |   |                |   |        |   |        |  |           |   |  |   |            |  
|Components of comprehensive income: |                                                |  |               |   |                |   |        |   |        |  |           |   |  |   |            |  
|                                    | Net income                                     |  |               |  |                |   |        |  |        |  |           |  |  |   |            |  | 
|                                    | Unrealized gain on hedge, net of tax of $9,978 |  |               |  |                |   |        |  |        |  |           |  |  |   |            |  | 
|                                    | Total comprehensive income                     |  |               |   |                |   |        |   |        |  |           |   |  |   |            |   | 
|                                    |                                                |  |               |   |                |   |        |   |        |  |           |   |  |   |            |  
|Balance- January 31, 2004           |                                                |  | 11,021,740    |   |                | $ | 11,021 |   |        |  | 1,018,788 |   |  | $ | (2,244,659 | )
|                                    |                                                |  |               |   |                |   |        |   |        |  |           |   |  |   |            |  

[Additional columns below]

[Continued from above table, first column(s) repeated]

|                                    |                                                |   |                 |   |      |   |                   |        |       |   |            |         |  |   |            |         | 
|----------------------------------- | ---------------------------------------------- | - | --------------- | - | ---- | - | ----------------- | ------ | ----- | - | ---------- | ------- |  | - | ---------- | ------- | 
|                                    |                                                |   |                 |   |      |   | Comprehensive     |        |       |   |            |         |  |   |           
|                                    |                                                |   | Paid-in Capital |   | Loss |   | Retained Earnings |        | Total
|                                    |                                                |   |                 |   |      |   |                   |        |      
|Balance-October 31, 2003            |                                                | $ | 12,681,681      |   |      | $ | (66,846           | )      |       | $ | 24,229,820 |         |  | $ | 34,611,017 |        
|                                    |                                                |   |                 |   |      |   |                   |        |       |   |            |         |  |   |            |        
|Components of comprehensive income: |                                                |   |                 |   |      |   |                   |        |       |   |            |         |  |   |            |        
|                                    | Net income                                     |   |                 |  |      |   |                   |       |       |   |            | 562,072 |  |   |            | 562,072 | 
|                                    | Unrealized gain on hedge, net of tax of $9,978 |   |                 |  |      |   |                   | 18,341 |       |   |            |        |  |   |            | 18,341  | 
|                                    |                                                |   |                 |   |      |   |                   |        |       |   |            |         |  |   |            |        
|                                    | Total comprehensive income                     |   |                 |   |      |   |                   |        |       |   |            |         |  |   |            | 580,413 | 
|                                    |                                                |   |                 |   |      |   |                   |        |       |   |            |         |  |   |            |        
|Balance- January 31, 2004           |                                                | $ | 12,681,681      |   |      | $ | (48,505           | )      |       | $ | 24,791,892 |         |  | $ | 35,191,430 |        
|                                    |                                                |   |                 |   |      |   |                   |        |       |   |            |         |  |   |            |        

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

5



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##### Table of Contents



XETA TECHNOLOGIES, INC.




CONSOLIDATED STATEMENTS OF CASH FLOWS
UNAUDITED


|                                                  |                                                                                   |                                                                                |                                      |                                                     |            |                      |            |         |            |         |            |  
|------------------------------------------------- | --------------------------------------------------------------------------------- | ------------------------------------------------------------------------------ | ------------------------------------ | --------------------------------------------------- | ---------- | -------------------- | ---------- | ------- | ---------- | ------- | ---------- | -
|                                                  |                                                                                   |                                                                                |                                      |                                                     |            | For the Three Months
|                                                  |                                                                                   |                                                                                |                                      |                                                     |            | Ended January 31,   
|                                                  |                                                                                   |                                                                                |                                      |                                                     |            | 2004                 |            | 2003   
|                                                  |                                                                                   |                                                                                |                                      |                                                     |            |                      |            |        
|Cash flows from operating activities:             |                                                                                   |                                                                                |                                      |                                                     |            |                      |            |        
|                                                  | Net income                                                                        |                                                                                | $                                    | 562,072                                             |            |                      | $          | 491,235 |           
|                                                  |                                                                                   |                                                                                |                                      |                                                     |            |                      |            |        
|                                                  | Adjustments to reconcile net income to net
cash provided by operating activities: |                                                                                |                                      |                                                     |            |                      |            |         |           
|                                                  |                                                                                   | Depreciation                                                                   |                                      |                                                     | 224,663    |                      |            |         | 245,259    |        
|                                                  |                                                                                   | Amortization                                                                   |                                      |                                                     | 57,955     |                      |            |         | 45,000     |        
|                                                  |                                                                                   | Ineffectiveness of cash flow hedges                                            |                                      |                                                     | 4,712      |                      |            |         |           |        
|                                                  |                                                                                   | Provision for excess and obsolete inventory                                    |                                      |                                                     |           |                      |            |         | 81,082     |        
|                                                  | Change in assets and liabilities, net of acquisitions:                            |                                                                                |                                      |                                                     |            |                      |            |         |           
|                                                  |                                                                                   | (Increase) decrease in net investment in sales-type
leases & other receivables |                                      |                                                     | 5,857      |                      |            |         | 206,492    |        
|                                                  |                                                                                   | (Increase) in trade receivables                                                |                                      |                                                     | (3,641,440 | )                    |            |         | (771,341   | )      
|                                                  |                                                                                   | (Increase) decrease in inventories                                             |                                      |                                                     | (582,025   | )                    |            |         | 532,985    |        
|                                                  |                                                                                   | (Increase) decrease in deferred tax asset                                      |                                      |                                                     | (125,481   | )                    |            |         | 15,357     |        
|                                                  |                                                                                   | (Increase) in prepaid expenses and other assets                                |                                      |                                                     | (108,350   | )                    |            |         | (243,599   | )      
|                                                  |                                                                                   | Decrease in prepaid taxes                                                      |                                      |                                                     |           |                      |            |         | 298,911    |        
|                                                  |                                                                                   | Increase (decrease) in accounts payable                                        |                                      |                                                     | 1,646,962  |                      |            |         | (2,216,086 | )      
|                                                  |                                                                                   | Increase (decrease) in unearned revenue                                        |                                      |                                                     | 793,707    |                      |            |         | (96,423    | )      
|                                                  |                                                                                   |                                                                                | Increase in accrued income taxes     |                                                     |            | 286,340              |            |         |            | 9,556   |           
|                                                  |                                                                                   | Increase (decrease) in accrued liabilities                                     |                                      |                                                     | 277,265    |                      |            |         | (269,089   | )      
|                                                  |                                                                                   |                                                                                | Increase in deferred tax liabilities |                                                     |            | 32,709               |            |         |            | 216,837 |           
|                                                  |                                                                                   |                                                                                |                                      |                                                     |            |                      |            |        
|                                                  |                                                                                   |                                                                                |                                      | Total adjustments                                   |            |                      | (1,127,126 | )       |            |         | (1,945,059 | )
|                                                  |                                                                                   |                                                                                |                                      |                                                     |            |                      |            |        
|                                                  |                                                                                   |                                                                                |                                      | Net cash provided by (used in) operating activities |            |                      | (565,054   | )       |            |         | (1,453,824 | )
|                                                  |                                                                                   |                                                                                |                                      |                                                     |            |                      |            |        
|Cash flows from investing activities:             |                                                                                   |                                                                                |                                      |                                                     |            |                      |            |        
|                                                  |                                                                                   | Additions to property, plant & equipment                                       |                                      |                                                     | (320,301   | )                    |            |         | (244,186   | )      
|                                                  |                                                                                   | Proceeds from sale of assets                                                   |                                      |                                                     |           |                      |            |         | 1,818      |        
|                                                  |                                                                                   |                                                                                |                                      |                                                     |            |                      |            |        
|                                                  |                                                                                   |                                                                                |                                      | Net cash used in investing activities               |            |                      | (320,301   | )       |            |         | (242,368   | )
|                                                  |                                                                                   |                                                                                |                                      |                                                     |            |                      |            |        
|Cash flows from financing activities:             |                                                                                   |                                                                                |                                      |                                                     |            |                      |            |        
|                                                  |                                                                                   | Proceeds from draws on revolving line of credit                                |                                      |                                                     | 9,219,391  |                      |            |         | 2,000,000  |        
|                                                  |                                                                                   | Principal payments on debt                                                     |                                      |                                                     | (302,346   | )                    |            |         | (822,084   | )      
|                                                  |                                                                                   | Payments on revolving line of credit                                           |                                      |                                                     | (8,201,691 | )                    |            |         |           |        
|                                                  |                                                                                   |                                                                                |                                      |                                                     |            |                      |            |        
|                                                  |                                                                                   |                                                                                |                                      | Net cash provided by financing activities           |            |                      | 715,354    |         |            |         | 1,177,916  |  
|                                                  |                                                                                   |                                                                                |                                      |                                                     |            |                      |            |        
|                                                  |                                                                                   |                                                                                |                                      | Net decrease in cash and cash equivalents           |            |                      | (170,001   | )       |            |         | (518,276   | )
|Cash and cash equivalents, beginning of period    |                                                                                   |                                                                                | 291,118                              |                                                     |            |                      | 1,966,734  |        
|                                                  |                                                                                   |                                                                                |                                      |                                                     |            |                      |            |        
|Cash and cash equivalents, end of period          |                                                                                   | $                                                                              | 121,117                              |                                                     |            | $                    | 1,448,458  |        
|                                                  |                                                                                   |                                                                                |                                      |                                                     |            |                      |            |        
|Supplemental disclosure of cash flow information: |                                                                                   |                                                                                |                                      |                                                     |            |                      |            |        
|                                                  | Cash paid during the period for interest                                          |                                                                                | $                                    | 62,399                                              |            |                      | $          | 240,338 |           
|                                                  | Cash paid during the period for income taxes                                      |                                                                                | $                                    | 169,432                                             |            |                      | $          | 14,183  |           

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

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XETA TECHNOLOGIES, INC.
January 31, 2004
(Unaudited)



|1. |  | BASIS OF PRESENTATION
|-- |  | ---------------------

XETA Technologies, Inc. (XETA or the Company) is a leading provider of
communications solutions with sales and service locations nationwide, serving
business clients in sales, consulting, engineering, project management,
installation, and service support. The Company sells products which are
manufactured by a variety of manufacturers including Avaya, Nortel Networks,
Cisco, Hitachi, and Hewlett Packard. In addition, the Company manufactures and
markets call accounting systems to the hospitality industry. XETA is an
Oklahoma corporation.

The accompanying consolidated financial statements have been prepared by the
Company, without an audit, pursuant to the rules and regulations of the
Securities and Exchange Commission (the Commission). Certain information and
footnote disclosures, normally included in annual financial statements prepared
in accordance with accounting principles generally accepted in the United
States, have been condensed or omitted pursuant to those rules and regulations.
However, the Company believes that the disclosures made are adequate to make
the information presented not misleading when read in conjunction with the
consolidated financial statements and the notes thereto included in the
Companys latest financial statements filed as part of the Companys Annual
Report on Form 10-K, Commission File No. 0-16231. Management believes that the
financial statements contain all adjustments necessary for a fair statement of
the results for the interim periods presented. All adjustments made were of a
normal recurring nature. The results of operations for the interim period are
not necessarily indicative of the results for the entire fiscal year.

These statements should be read in conjunction with the audited financial
statements and notes thereto included in the Companys Annual Report on Form
10-K, which was filed with the Commission on January 16, 2004.



|2. |  | SUMMARY OF CRITICAL ACCOUNTING POLICIES
|-- |  | ---------------------------------------

Fair Value of Financial Instruments

The following methods and assumptions were used to estimate the fair value of
each class of financial instruments for which it is practicable to estimate the
value:

The carrying value of cash, customer deposits, trade accounts receivable,
sales-type leases, accounts payable and short-term debt approximate their
respective fair values due to their short maturities.

The fair value of the Companys long-term debt is estimated based on the
expected current rates which would be offered to the Company for debt of the
same maturities.

Revenue Recognition

Equipment revenues from systems sales are recognized upon shipment of the
system. Installation and service revenues are recognized upon the completion
of the installation or service assignment. Service revenues earned from
contractual arrangements are recognized monthly over the life of the related
service agreement on a straight-line basis. The Company recognizes revenue
from sales-type leases as discussed below under the caption Lease Accounting.

Shipping and Handling Fees

In accordance with Emerging Issues Task Force Issue 00-10, Accounting for
Shipping and Handling Fees and Costs, freight billed to customers is included
in net sales and service revenues in the consolidated

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statements of operations, while freight billed by vendors is included in cost
of sales in the consolidated statements of operations.

Accounting for Manufacturer Incentives

The Company receives various forms of incentive payments, rebates, and
negotiated price discounts from the manufacturers of the products it sells.
Rebates and negotiated price discounts directly related to specific customer
sales are recorded as a reduction in the cost of goods sold on those systems
sales. Incentive payments which are based on purchasing certain product lines
exclusively from one manufacturer (loyalty rebates) are also recorded as a
reduction in systems cost of goods sold. Rebates and other incentives designed
to offset marketing expenses and certain growth initiatives supported by the
manufacturer are recorded as contra expense to the related expenditure.
Incentive payments are recorded when earned under the specific rules of the
incentive plan.

Lease Accounting

A small portion (less than 1%) of the Companys revenues has been generated
using sales-type leases. The Company sells some of its call accounting systems
to the lodging industry under sales-type leases to be paid over three, four and
five-year periods. Because the present value (computed at the rate implicit in
the lease) of the minimum payments under these sales-type leases equals or
exceeds 90 percent of the fair market value of the systems and/or the length of
the lease exceeds 75 percent of the estimated economic life of the equipment,
the Company recognizes the net effect of these transactions as a sale, as
required by accounting principles generally accepted in the U.S.

Interest and other income is primarily the recognition of interest income on
the Companys sales-type lease receivables and income earned on short-term cash
investments. Interest income from a sales-type lease represents that portion
of the aggregate payments to be received over the life of the lease, which
exceeds the present value of such payments using a discount factor equal to the
rate implicit in the underlying leases.

Accounts Receivable

Accounts Receivable are recorded at amounts billed to customers less an
allowance for doubtful accounts. The allowance for doubtful accounts is based
on managements assessment of the realizability of customers balances and any
specific disputes. The Company did not record any bad debt expense for the
three months ended January 31, 2004 and 2003, respectively.

Property, Plant and Equipment

The Company capitalizes the cost of all significant property, plant and
equipment additions including equipment manufactured by the Company and
installed at customer locations under certain systems service agreements.
Depreciation is computed over the estimated useful life of the asset or the
terms of the lease for leasehold improvements, whichever is shorter, on a
straight-line basis. When assets are retired or sold, the cost of the assets
and the related accumulated depreciation is removed from the accounts and any
resulting gain or loss is included in income. Maintenance and repair costs are
expensed as incurred. Interest costs related to an investment in long-lived
assets are capitalized as part of the cost of the asset during the period the
asset is being prepared for use. The Company capitalized $45,000 and $82,000
in interest costs in the three months ended January 31, 2004, and 2003,
respectively.

Research and Development and Capitalization of Software Production Costs

In the past, the Company developed proprietary telecommunications products
related to the lodging industry. The Company capitalized software production
costs related to a product upon the establishment of technological feasibility
as defined by accounting principles generally accepted in the U.S.
Amortization is provided on a product-by-product basis based upon the estimated
useful life of the software (generally seven years). All other research and
development costs (including those related to software for which technological
feasibility has not been established) are expensed as incurred.

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Software Development Costs

The Company applies the provisions of SOP 98-1, Accounting for the Cost of
Computer Software Developed or Obtained for Internal Use. Under SOP 98-1
external direct costs of software development, payroll and payroll related
costs for time spent on the project by employees directly associated with the
development, and interest costs incurred during the development, as provided
under the provisions of SFAS No. 34, Capitalization of Interest Costs, should
be capitalized after the preliminary project stage has been completed.
Accordingly, the Company had capitalized $6.8 million and $6.7 million related
to the software development as of January 31, 2004 and October 31, 2003,
respectively.

Goodwill

The Company applies the provisions of SFAS 142, Goodwill and Other Intangible
Assets. Under SFAS 142, goodwill recorded as a part of a business combination
is subject to at least an annual assessment for impairment by applying a
fair-value-based test. As required by the standard, the Company has conducted
impairment tests shortly after the close of its fiscal year on both October 31,
2003 and 2002. The results of each of these appraisals indicated that the fair
value of the Companys reporting units in which goodwill is associated was
higher than their respective carrying values on the balance sheet. Therefore
no impairment loss was recognized. An annual impairment test will be conducted
in future periods shortly after the close of the Companys fiscal year.

Derivative Instruments and Hedging Activities

The Company applies the provisions of SFAS No. 133, Accounting for Derivative
Instruments and Hedging Activities, as amended. SFAS No. 133 requires
companies to recognize all derivative instruments as either assets or
liabilities in the consolidated balance sheets at fair value. In November 2001
the Company entered into interest rate swaps to hedge the variability of cash
flows associated with variable rate interest payments, on amortizing notional
amounts of $10.0 million. At January 31, 2004, the notional amount included
under the interest rate swap was $5.7 million. The pay fixed rates under the
swap agreements are 3.32%. The receive floating rates for the swap
agreements are 1-month LIBOR, resetting monthly. The interest rate swaps
expire in November 2004. Variable rate debt outstanding at January 31, 2004,
net of the swap agreements was $4.9 million. Under the provisions of SFAS No.
133, the Company accounts for the swap agreements as a cash flow hedge with the
effective portion of the hedge recorded as other comprehensive income and the
ineffective portion of the hedge recorded in the consolidated statement of
operations.

Segment Information

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

The reporting segments follow the same accounting policies used for the
Companys consolidated financial statements and described in the summary of
critical accounting policies. Company management evaluates a segments
performance based upon gross margins. Assets are not allocated to the
segments. Sales to customers located outside of the U.S. are immaterial.

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The following is tabulation of business segment information for the three
months ended January 31, 2004 and 2003.

|              |  |            |            |         |  |              |            |         |  |       |            |   |  |   |          |   |  |   |             |  
|------------- |  | ---------- | ---------- | ------- |  | ------------ | ---------- | ------- |  | ----- | ---------- | - |  | - | -------- | - |  | - | ----------- | -
|              |  | Commercial |            | Lodging |  | Installation |            |         |  |       |            |   |  |  
|              |  | System     |            | System  |  | and Service  |            | Other   |  |       |            |  
|              |  | Sales      |            | Sales   |  | Revenues     |            | Revenue |  | Total
|              |  |            |            |         |  |              |            |         |  |      
|2004          |  |            |            |         |  |              |            |         |  |       |            |   |  |   |          |   |  |   |             |  
|Sales         |  | $          | 8,070,809  |         |  | $            | 1,947,548  |         |  | $     | 6,755,110  |   |  | $ | 155,934  |   |  | $ | 16,929,401  |  
|Cost of sales |  |            | (6,590,108 | )       |  |              | (1,412,793 | )       |  |       | (4,629,602 | ) |  |   | (341,541 | ) |  |   | (12,974,044 | )
|Gross profit  |  | $          | 1,480,701  |         |  | $            | 534,755    |         |  | $     | 2,125,508  |   |  | $ | (185,607 | ) |  | $ | 3,955,357   |  
|2003          |  |            |            |         |  |              |            |         |  |       |            |   |  |   |          |   |  |   |             |  
|Sales         |  | $          | 7,742,221  |         |  | $            | 982,888    |         |  | $     | 6,116,505  |   |  | $ | 589,791  |   |  | $ | 15,431,405  |  
|Cost of sales |  |            | (5,834,179 | )       |  |              | (594,033   | )       |  |       | (4,360,407 | ) |  |   | (723,691 | ) |  |   | (11,512,310 | )
|Gross profit  |  | $          | 1,908,042  |         |  | $            | 388,855    |         |  | $     | 1,756,098  |   |  | $ | (133,900 | ) |  | $ | 3,919,095   |  

Stock-Based Compensation Plans

The Company accounts for its stock-based awards granted to officers, directors
and key employees using APB Opinion No. 25, Accounting for Stock Issued to
Employees. Options under these plans are granted at fair market value on the
date of grant and thus no compensation cost has been recorded in the financial
statements. Accordingly, the Company follows fixed plan accounting. XETA
applies the disclosure only provisions of Statement of Financial Accounting
Standards No. 123, Accounting for Stock-Based Compensation (SFAS 123).

In December 2002, the FASB issued SFAS No. 148, Accounting for Stock-Based
Compensation  Transition and Disclosure  an amendment of FASB Statement No.
123 (SFAS 148). This statement provides alternative methods of transition
for a voluntary change to the fair value based method of accounting for
stock-based employee compensation. It also amends the disclosure requirements
of Statement 123 to require prominent disclosures in both annual and interim
financial statements about the method of accounting for stock-based employee
compensation and the effect of the method used on reported results. Presently,
the Company accounts for stock-based employee compensation under the intrinsic
value method, an alternative to the fair value method allowed by SFAS 123.
Under this alternative method, the Company is only required to disclose the
impact of issued stock options, as set forth below, as if the expense had been
recorded in the financial statements.

|                                                                                                                                          |  |                      |         |      |  |   |         | 
|----------------------------------------------------------------------------------------------------------------------------------------- |  | -------------------- | ------- | ---- |  | - | ------- | 
|                                                                                                                                          |  | For the Three Months
|                                                                                                                                          |  | Ended January 31,   
|                                                                                                                                          |  |                     
|                                                                                                                                          |  | 2004                 |         | 2003
|                                                                                                                                          |  |                      |         |     
|Net income as reported                                                                                                                    |  | $                    | 562,072 |      |  | $ | 491,235 | 
|Less: total stock-based employee compensation
expense determined under fair value based
method for all awards, net of related tax
effects |  |                      | 154,469 |      |  |   | 179,187 | 
|                                                                                                                                          |  |                      |         |      |  |   |         | 
|Pro forma net income (loss)                                                                                                               |  | $                    | 407,603 |      |  | $ | 312,048 | 
|                                                                                                                                          |  |                      |         |      |  |   |         | 
|EARNINGS PER SHARE:                                                                                                                       |  |                      |         |      |  |   |         | 
|As reported  Basic                                                                                                                       |  | $                    | 0.06    |      |  | $ | 0.05    | 
|As reported  Diluted                                                                                                                     |  | $                    | 0.06    |      |  | $ | 0.05    | 
|Pro forma  Basic                                                                                                                         |  | $                    | 0.04    |      |  | $ | 0.03    | 
|Pro forma  Diluted                                                                                                                       |  | $                    | 0.04    |      |  | $ | 0.03    | 

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The fair value of the options granted was estimated at the date of grant using
the Black-Scholes pricing model with the following assumptions: risk free
interest rate (4.46% to 5.78%), dividend yield (0.00%), expected volatility
(80.50% to 86.31%), and expected life (6 years).



|2. |  | INVENTORIES:
|-- |  | ------------

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

|                                                  |                        |   |             |           |             |   |           |           | 
|------------------------------------------------- | ---------------------- | - | ----------- | --------- | ----------- | - | --------- | --------- | 
|                                                  |                        |   | January 31, |           | October 31,
|                                                  |                        |   | 2004        |           | 2003       
|                                                  |                        |   |             |           |            
|Finished goods and spare parts                    |                        | $ | 6,977,611   |           |             | $ | 6,430,977 |          
|Raw materials                                     |                        |   | 366,996     |           |             |   | 366,305   |          
|                                                  |                        |   |             |           |             |   |           |          
|                                                  |                        |   | 7,344,607   |           |             |   | 6,797,282 |          
|Less- reserve for excess and obsolete inventories |                        |   | 1,147,680   |           |             |   | 1,182,380 |          
|                                                  |                        |   |             |           |             |   |           |          
|                                                  | Total inventories, net |   | $           | 6,196,927 |             |   | $         | 5,614,902 | 
|                                                  |                        |   |             |           |             |   |           |          



|3. |  | PROPERTY, PLANT AND EQUIPMENT:
|-- |  | ------------------------------

Property, plant and equipment consist of the following:

|                                             |  |           |     |             |  |             |            |  |  |   |            | 
|-------------------------------------------- |  | --------- | --- | ----------- |  | ----------- | ---------- |  |  | - | ---------- | 
|                                             |  | Estimated |     |             |  |             |            |  |  |  
|                                             |  | Useful    |     | January 31, |  | October 31,
|                                             |  | Lives     |     | 2004        |  | 2003       
|                                             |  |           |     |             |  |            
|Building                                     |  |           | 20  |             |  | $           | 2,397,954  |  |  | $ | 2,397,954  | 
|Data processing and computer field equipment |  |           | 3-5 |             |  |             | 4,341,397  |  |  |   | 4,280,916  | 
|Software development costs                   |  |           | N/A |             |  |             | 6,848,604  |  |  |   | 6,687,540  | 
|Land                                         |  |           |    |             |  |             | 611,582    |  |  |   | 611,582    | 
|Office furniture                             |  |           | 5   |             |  |             | 1,113,301  |  |  |   | 1,108,029  | 
|Auto                                         |  |           | 5   |             |  |             | 220,228    |  |  |   | 126,743    | 
|Other                                        |  |           | 3-7 |             |  |             | 511,320    |  |  |   | 511,320    | 
|                                             |  |           |     |             |  |             |            |  |  |   |            | 
|Total property, plant and equipment          |  |           |     |             |  |             | 16,044,386 |  |  |   | 15,724,084 | 
|Less- accumulated depreciation               |  |           |     |             |  |             | 5,466,854  |  |  |   | 5,257,260  | 
|                                             |  |           |     |             |  |             |            |  |  |   |            | 
|Total property, plant and equipment, net     |  |           |     |             |  | $           | 10,577,532 |  |  | $ | 10,466,824 | 
|                                             |  |           |     |             |  |             |            |  |  |   |            | 

Software development costs represent the costs of a new enterprise-wide
software system under development to replace the Companys three existing
software platforms. Implementation is expected in fiscal 2004 and will be
amortized over a weighted average useful life of approximately 7.5 years.

4.     ACCRUED LIABILITIES:

Accrued liabilities consist of the following:

|                       |                           |   |             |           |             |   |           |           | 
|---------------------- | ------------------------- | - | ----------- | --------- | ----------- | - | --------- | --------- | 
|                       |                           |   | January 31, |           | October 31,
|                       |                           |   | 2004        |           | 2003       
|                       |                           |   |             |           |            
|Commissions            |                           | $ | 545,714     |           |             | $ | 371,765   |          
|Vacation               |                           |   | 416,212     |           |             |   | 436,784   |          
|Payroll                |                           |   | 234,417     |           |             |   | 424,243   |          
|Bonuses                |                           |   | 455,848     |           |             |   | 363,794   |          
|Interest               |                           |   | 32,869      |           |             |   | 13,413    |          
|Other                  |                           |   | 525,490     |           |             |   | 259,025   |          
|                       |                           |   |             |           |             |   |           |          
|Total current          |                           |   | 2,210,550   |           |             |   | 1,869,024 |          
|Noncurrent liabilities |                           |   | 144,100     |           |             |   | 144,101   |          
|                       |                           |   |             |           |             |   |           |          
|                       | Total accrued liabilities |   | $           | 2,354,650 |             |   | $         | 2,013,125 | 
|                       |                           |   |             |           |             |   |           |          

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|5. |  | UNEARNED REVENUE:
|-- |  | -----------------

Unearned revenue consists of the following:

|                                             |                        |   |             |           |             |   |           |           | 
|-------------------------------------------- | ---------------------- | - | ----------- | --------- | ----------- | - | --------- | --------- | 
|                                             |                        |   | January 31, |           | October 31,
|                                             |                        |   | 2004        |           | 2003       
|                                             |                        |   |             |           |            
|Customer deposits                            |                        | $ | 952,940     |           |             | $ | 488,137   |          
|Service contracts                            |                        |   | 892,627     |           |             |   | 640,922   |          
|Warranty service                             |                        |   | 369,467     |           |             |   | 344,192   |          
|Systems shipped but not installed            |                        |   | 145,710     |           |             |   | 99,490    |          
|Other                                        |                        |   | 47,582      |           |             |   | 47,582    |          
|                                             |                        |   |             |           |             |   |           |          
|Total current unearned revenue               |                        |   | 2,408,326   |           |             |   | 1,620,323 |          
|Noncurrent unearned service contract revenue |                        |   | 235,614     |           |             |   | 229,910   |          
|                                             |                        |   |             |           |             |   |           |          
|                                             | Total unearned revenue |   | $           | 2,643,940 |             |   | $         | 1,850,233 | 
|                                             |                        |   |             |           |             |   |           |          



|6. |  | INCOME TAXES:
|-- |  | -------------

Income tax expense is based on pretax financial accounting income. Deferred
income taxes are computed using the asset-liability method and are provided on
all temporary differences between the financial basis and the tax basis of the
Companys assets and liabilities.

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

|                          |                                                           |                              |   |             |            |             |   |           |            |  
|------------------------- | --------------------------------------------------------- | ---------------------------- | - | ----------- | ---------- | ----------- | - | --------- | ---------- | -
|                          |                                                           |                              |   | January 31, |            | October 31,
|                          |                                                           |                              |   | 2004        |            | 2003       
|                          |                                                           |                              |   |             |            |            
|Deferred tax assets:      |                                                           |                              |   |             |            |             |   |          
|                          | Currently nondeductible reserves                          |                              | $ | 439,022     |            |             | $ | 453,413   |           
|                          | Accrued liabilities                                       |                              |   | 453,805     |            |             |   | 345,021   |           
|                          | Prepaid service contracts                                 |                              |   | 124,468     |            |             |   | 107,310   |           
|                          | Unamortized cost of service contracts                     |                              |   | 16,398      |            |             |   | 19,338    |           
|                          | Other                                                     |                              |   | 120,292     |            |             |   | 111,605   |           
|                          |                                                           |                              |   |             |            |             |   |          
|                          |                                                           | Total deferred tax asset     |   |             | 1,153,985  |             |   |           | 1,036,687  |  
|                          |                                                           |                              |   |             |            |             |   |          
|Deferred tax liabilities: |                                                           |                              |   |             |            |             |   |          
|                          | Intangible assets and other                               |                              |   | 1,789,773   |            |             |   | 1,620,098 |           
|                          | Tax income to be recognized on sales-type lease contracts |                              |   | 12,438      |            |             |   | 27,000    |           
|                          | Depreciation and sale of assets                           |                              |   | 354,310     |            |             |   | 454,694   |           
|                          | Unamortized capitalized software development costs        |                              |   |             |            |             |   | 22,718    |           
|                          |                                                           |                              |   |             |            |             |   |          
|                          |                                                           | Total deferred tax liability |   |             | 2,156,521  |             |   |           | 2,124,510  |  
|                          |                                                           |                              |   |             |            |             |   |          
|                          |                                                           | Net deferred liability       |   | $           | (1,002,536 | )           |   | $         | (1,087,823 | )
|                          |                                                           |                              |   |             |            |             |   |           |           



|7. |  | CREDIT AGREEMENTS:
|-- |  | ------------------

On October 1, 2003, the Company entered into a new revolving credit and term
loan agreement with a new banking institution, replacing the previous credit
facility and bank syndicate. This new agreement contains three separate notes:
a term loan amortizing over 36 months, a mortgage agreement amortizing over 13
years, and a $7.5 million revolving credit agreement to finance growth in
working capital. Availability

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under the revolving line of credit is secured by trade accounts receivable and
inventories. The Company had approximately $5.7 million available under the
revolving line of credit at January 31, 2004. Advance rates are defined in the
agreement, but are generally at the rate of 80% on qualified trade accounts
receivable and 40% of qualified inventories. The revolving line of credit
matures on September 29, 2004. At January 31, 2004, long-term debt consisted
of the following:

|                                                                                                                                                  |  |             |           |             |  |   |           | 
|------------------------------------------------------------------------------------------------------------------------------------------------- |  | ----------- | --------- | ----------- |  | - | --------- | 
|                                                                                                                                                  |  | January 31, |           | October 31,
|                                                                                                                                                  |  | 2004        |           | 2003       
|                                                                                                                                                  |  |             |           |            
|Term loan, payable in monthly
installments of $86,524, due
September 30, 2006
collateralized by all assets of
the Company.                        |  | $           | 2,769,469 |             |  | $ | 3,029,041 | 
|Real estate term note, payable
in monthly installments of
$14,166, due September 30, 2006,
secured by a first mortgage on
the Companys building. |  |             | 2,167,569 |             |  |   | 2,210,342 | 
|                                                                                                                                                  |  |             |           |             |  |   |           | 
|                                                                                                                                                  |  |             | 4,937,038 |             |  |   | 5,239,383 | 
|Less-current maturities                                                                                                                           |  |             | 1,209,645 |             |  |   | 1,209,645 | 
|                                                                                                                                                  |  |             |           |             |  |   |           | 
|                                                                                                                                                  |  | $           | 3,727,393 |             |  | $ | 4,029,738 | 
|                                                                                                                                                  |  |             |           |             |  |   |           | 

Interest on all outstanding debt under the credit facility accrues at either a)
the London Interbank Offered Rate (which was 1.12% at January 31, 2004) plus
1.25% to 2.75% depending on the Companys funded debt to cash flow ratio, or b)
the banks prime rate (which was 4.00% at January 31, 2004) minus 0% to minus
1.125% also depending on the Companys funded debt to cash flow ratio. At
January 31, 2004, the Company was paying 3.13% on the revolving line of credit
borrowings, 3.12% on the term loan and 2.87% on the mortgage note. The credit
facility contains several financial covenants common in such agreements
including tangible net worth requirements, limitations on the amount of funded
debt to EBITDA, limitations on capital spending, and debt service coverage
requirements. At January 31, 2004, the Company was in compliance with all of
the covenants contained in the agreement.

Based on the borrowing rates currently available to the Company for bank loans
with similar terms and average maturities, the fair value of the long-term debt
approximates the carrying value.



|9. |  | EARNINGS PER SHARE:
|-- |  | -------------------

Basic and diluted earnings per common share were computed by dividing net
income (loss) by the weighted average number of shares of common stock
outstanding during the reporting periods. Options to purchase 240,188 shares of
common stock at an average exercise price of $15.63 and 1,240,081 shares of
common stock at an average exercise price of $7.25 were not included in the
computation of diluted earnings per share for the three months ended January
31, 2004 and 2003, respectively, because inclusion of these options would be
anti-dilutive.



|10. |  | GOODWILL:
|--- |  | ---------

During fiscal years 2000 and 2001, the Company made four acquisitions, all
using the purchase method of accounting. To the extent that the purchase price
of the assets exceeded their fair value, the Company recorded the difference as
goodwill. Prior to the adoption of SFAS No. 142, the Company amortized
goodwill into its operating results over the estimated useful life of 20 years.
Upon adoption of SFAS No. 142, amortization was ended and replaced with
periodic evaluation of the fair value of goodwill compared to its recorded book
value. In addition, the Company is reducing the carrying value of goodwill
each period to amortize the difference between the recorded value of goodwill
on the Companys tax return compared to the value recorded on the Companys
balance sheet, reflecting a difference in the valuation dates used for

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common stock given in one of the acquisitions. During fiscal 2004, the Company
has reduced goodwill by $13,894 to reflect this difference.



|11. |  | CONTINGENCIES:
|--- |  | --------------

On August 1, 2003, the Software & Information Industry Association
(SIIA), an association of software publishers, contacted the Company by
letter and claimed that XETA had violated the Copyright Act, 17 U.S.C. § 501,
et seq.by allegedly using unlicensed software in XETAs business. SIIA made
demand that the Company audit all of its computers and servers to determine
whether it used both licensed and/or allegedly unlicensed software for any of
SIIAs 965 members. This audit was conducted and the Company determined that
some software present on a limited number of Company computers was unlicensed.
Many of these programs were located on personal computers utilized by employees
for both personal and business use, or on computers that were inherited
through the Companys various acquisitions and were most likely loaded prior to
XETAs acquisition of these companies. Nevertheless, XETA has potential
exposure to damages under the law for possessing unlicensed software and has
recorded a loss contingency representing Managements best estimate of the
potential damages based upon available facts of the claim at the present time.
While no assurance can be given, based upon the current status of the claim
Management does not believe that the ultimate damages will exceed the current
loss contingency in an amount that would materially impact the Companys
results of operations. The Company initiated settlement negotiations with SIIA
which later stalled because the nature of XETAs liability and the amount of
damages due SIIA was in dispute. The Company therefore filed a declaratory
judgment in the U.S. District Court for the Northern District of Oklahoma
seeking a judicial determination of liability and damages. This action is
still pending.

Since 1994, we have been monitoring numerous patent infringement lawsuits
filed by Phonometrics, Inc., a Florida company, against certain
telecommunications equipment manufacturers and hotels who use such equipment.
While we were never named as a defendant in any of these cases, several of our
call accounting customers were named defendants and notified us that they will
seek indemnification under the terms of their contracts with us. However,
because there were other equipment vendors implicated along with us in the
cases filed against our customers, we never assumed the outright defense of our
customers in any of these actions. All of the cases filed by Phonometrics
against our customers were originally filed in, or transferred to, the United
States District Court for the Southern District of Florida. In October 1998,
the Florida Court dismissed all of the cases filed against the hotels for
failure to state a claim. After years of appeals by Phonometrics, all of which
were lost on the merits, a final order dismissing the cases with prejudice was
entered in November 2002, and the defendant hotels have been awarded attorney
fees and costs against both Phonometrics and its legal counsel. Phonometrics
continues to dispute the amount of fees awarded in some cases, and this issue
continues to be litigated by Phonometrics.

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

The following discussion contains forward-looking statements, which are subject
to the provisions of the Private Securities Litigation Reform Act of 1995.
These statements include, without limitation, statements concerning:
expectations regarding our financial position including sales, revenues, gross
margins, operating margins and expenses, and earnings for the first quarter;
trends and conditions in the U.S. economy and in the communications technology
industry; and our ability to implement our overall business plan and in
particular, our Nortel Networks product line . These and other forward-looking
statements (generally identified by such words as expects, plans,
believes, anticipates forecasts, predicts, and similar words or
expressions) are not guarantees of performance but rather reflect our current
expectations, assumptions and beliefs based upon information currently
available to us. Investors are cautioned that all forward-looking statements
are subject to certain risks and uncertainties which are difficult to predict
and that could cause actual results to differ materially from those projected.
Many of these risks and uncertainties are described under the heading Outlook
and Risk Factors below. Consequently, all forward-looking statements should
be read in conjunction with the risk factors discussed herein and throughout
this report together with the risk factors identified in the Companys Annual
Report on Form 10-K, which was filed on January 16, 2004.

Overview

Strategy. During the first quarter of fiscal 2004, we continued to pursue our
long-term strategy to be a leading provider of communications solutions serving
national business and hospitality clients in sales, consulting, engineering,
project management, installation, and service support. During the economic
downturn of the past three years, U.S. companies severely curtailed their
capital spending on technology in general and communications systems,
specifically. Notwithstanding the sluggish economy however, the development of
a new generation of communications systems, converged communications systems
that transmit voice traffic effectively over data networks, continued nearly
unabated. Now, most major manufacturers have introduced a robust line of these
systems. We represent three of the major manufacturers in this market: Avaya
Inc. (Avaya), Nortel Networks, and Hitachi.

To pursue this strategy and to differentiate ourselves from our competitors, we
have invested in the necessary technical talent to effectively design,
implement and maintain these sophisticated systems and will continue to do so.
We believe that our long-term success will be tied directly to our ability to
help our customers navigate from the previous generation of stand-alone phone
systems to this new generation of communications systems and then to maintain
those systems and introduce productivity-enhancing or cost-saving applications
as they become available. We will continue to target multi-location customer
applications as our primary customer set because of the breadth of our
abilities and our nationwide sales and service presence.

A primary focus in the first quarter was to continue to launch our entry into
the Nortel Networks product line. We became a Nortel Networks dealer in
mid-2003 and spent the balance of last calendar year assembling a technical and
sales staff to support the product. The results of our efforts to date are
discussed later in this overview.

Operating Summary. In the first quarter of fiscal 2004, our revenues and
earnings were at the highest levels in the past nine fiscal quarters. These
results reflect several large orders processed during the quarter, continued
close controls over operating expenses, and lower borrowing costs, partially
offset by lower gross margins earned on sales of systems both to commercial and
lodging customers. Overall, we are very pleased with these results, but
continue to be cautiously optimistic about near-term results as the economy
continues to produce mixed signals. We believe the large orders, albeit at
lower gross margins, received so far this year are a positive sign; however,
our overall order rates for new systems indicate that technology spending may
still be lagging the overall economic recovery.

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All phases of our services business grew in the first quarter. We experienced
significant gains in service contract and T&M revenues. Also, the increase in
systems sales generated increases in installation and professional services
revenues. Our gross margins earned on services were 31.5% in the first
quarter, the highest in the past nine quarters, reflecting improved utilization
of our technical force.

We continued our entry into the Nortel Networks market during the first
quarter as we secured several major service accounts and built our sales and
technical competencies. This initiative is exceeding our expectations for
services revenue production and were very pleased with the pace at which our
technicians are embracing this new product line. We believe the addition of
the Nortel Networks product line is an important building-block for the
long-term growth and stability of the company. We are continuing to make
investments into this market by hiring additional sales and technical staff and
through continued investments in training.

Financial Position Summary. Our financial position remains strong as we
expanded working capital and continued to reduce our term debt during the
quarter. Our assets grew approximately 8.5% during the quarter reflecting the
rapid growth in sales primarily generated from a few, large orders which were
working their way through the working capital cycle at January 31, 2004. As a
result, our accounts receivable grew significantly compared to the balances at
October 31, 2003. This growth in receivables reflects current amounts due
which we expect to collect in the 2nd quarter as projects close and customers
make final payments. We financed this growth in working capital to a large
degree through borrowings on our revolving line of credit. Net additional
borrowings under the line of credit were approximately $1.0 million during the
quarter. We completed the quarter with approximately $5.7 million in available
capacity under the line of credit.

Expectations. While macro economic indicators seem to be improving and our
first quarter results are improved over a year ago, our order rates for new
equipment continue to be erratic as they have been for over three years now.
As a result, our revenue and earnings levels have also been difficult to
predict. We have maintained a cautious posture, making careful investments in
growth initiatives, such as the Nortel Networks initiative discussed above,
while still closely watching our cost structure and remaining prepared for
economic fluctuations. We expect to continue this posture until we see
broader-based improvement in order rates. This means that we will continue to
focus on sales productivity improvements, gross margin enhancement,
maximization of vendor incentives, and close control over operating expenses,
coupled with targeted investments in growth initiatives.

The following discussion presents additional information regarding our
financial condition and results of operations for the quarter ending January
31, 2004 and should be read in conjunction with our comments above as well as
the Outlook and Risk Factors discussion contained at the end of this section of
the report.

Financial Condition

Our cash flows are derived primarily from earnings. We believe that the most
efficient way to accelerate earnings into positive cash flow is to have good
procedures surrounding sales order management, project management, credit,
billing, and collections. We closely monitor our accounts receivable agings
and daily billings to surface bottlenecks in our billing and collection
procedures as quickly as possible. Because a significant portion of our
revenues are derived from the sale of moderate to complex communications
systems which require lengthy implementation processes, our finance staff works
closely with operations personnel to monitor the status of these projects. By
doing so, we can quickly and accurately process change orders, progress
billings, and final billings to our customers. Our experience indicates that
the efforts we put forth in sales order management results in higher customer
satisfaction through accurate billings, which in turn, produces prompt payment.

From time to time, rapid growth in our revenues creates short-term shortages in
working capital, which we manage through the use of a $7.5 million revolving
line of credit we have with our bank. Borrowings under the line of credit are
based upon predetermined advance rates against accounts receivables and
inventories. At January 31, 2004, our current accounts receivable and
inventory balances were sufficient to support access to the full amount of the
line of credit, although only $1.7 million was borrowed, leaving approximately
$5.7 million available.

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During the first quarter, our operating cash was a negative $501,000, which was
expected given the rapid increase in our revenues in the first quarter. Note
that our revenues from sales of systems grew by 68% in the first quarter
compared to the fourth quarter of last year. Sales of systems tend to strain
our working capital more than increases in services revenues because we have to
purchase inventory up front to support sales of systems. As a result of the
increase in revenues, our accounts receivable grew by approximately $3.6
million in the quarter, which we expect to collect in the second quarter as
implementation of these orders is completed. Earnings and non-cash charges
combined with other changes in working capital balances netted together to
reduce the decline in cash from operations to $501,000.

Our capital investments are typically modest and are primarily to support new
personnel. Currently, however, we are in the final stages of implementing a
new software platform to support all of our operating and financial reporting
activities. The purpose of this implementation is to condense the current
three software platforms down to one and provide a long-term solution that will
support rapid expansion of our customer base and revenues. During the quarter,
our capital spending was $320,000 and was roughly split evenly between
expenditures made to support additional personnel and upgrade existing network
infrastructure and expenditures to continue the implementation of the new
software platform.

In addition to the working capital line of credit discussed above, we have
approximately $4.9 million in term debt at January 31, 2004. This debt
consists of a mortgage on our corporate headquarters building of $2.2 million
and a term note of $2.7 million. Payments on the mortgage note are based on a
13-year amortization schedule and the note is due in full or will be refinanced
by September 30, 2006. The term note is secured by the general assets of the
company. Payments are based on a three year amortization schedule and is also
due on September 30, 2006. Quarterly principal payments on the two notes are
$302,000. The credit agreement, which encompasses both the notes discussed
above and the line of credit, contains certain financial covenants common in
such agreements. These covenants include tangible net worth requirements,
limitations on the amount of funded debt to Earnings Before Interest, Taxes,
Depreciation, and Amortization (EBITDA), limitations on capital spending, and
debt service coverage requirements. At January 31, 2004, we were in compliance
with all the covenants.

The table below presents our contractual obligations at January 31, 2004
as well as payment obligations over the next five years:

|                        |       |       |           |           |  |       |                        |           |       |         |           |           |           |   |        |        |  |   |   |   | 
|----------------------- | ----- | ----- | --------- | --------- |  | ----- | ---------------------- | --------- | ----- | ------- | --------- | --------- | --------- | - | ------ | ------ |  | - | - | - | 
|                        |       |       |           |           |  |       | Payments due by period
|                        |       |       |           |           |  |       |                       
|                        |       |       |           |           |  |       | Less than              |           | 2  3 |         | 4  5     |           | More than
|Contractual Obligations |       | Total |           | 1 year    |  | years |                        | years     |       | 5 years
|                        |       |       |           |           |  |       |                        |           |       |        
|Long-term debt          |       | $     | 4,937,038 |           |  | $     | 1,209,645              |           |       | $       | 3,727,393 |           |           | $ |       |        |  | $ |  |  
|Operating leases        |       | $     | 443,292   |           |  |       | 227,864                |           |       |         | 197,071   |           |           |   | 18,357 |        |  |   |  |  
|                        | Total |       | $         | 5,380,330 |  |       | $                      | 1,437,509 |       |         | $         | 3,924,464 |           |   | $      | 18,357 |  |   | $ |  | 

Results of Operations

Our earnings in the first quarter of fiscal 2004 were $562,000 on revenues of
$16.9 million, both the best results in 9 quarters. These results reflect a
15% increase in earnings and a 10% increase in revenues for the first quarter
compared to the first quarter of last year. To earn these results, we improved
our gross margins earned on installation and service revenues, held our
operating costs in check, and lowered our interest expenses through reductions
in our outstanding debt last year. Partially offsetting these improvements was
a decline in the margins earned on systems sales. The narrative below provides
further explanation of these changes.

Systems Sales. Sales of systems were $10.0 million in the first quarter of
fiscal 2004 compared to $8.7 million in the first quarter of fiscal 2003. Most
of this increase, $965,000, was from sales of systems to lodging customers.
The remaining portion of the increase, $329,000 was from sales of systems to
commercial customers. As discussed in the Overview section above, sales of
systems to commercial customers in the first quarter were dominated by a small
number of large orders. These orders were for

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highly complex, converged systems and reflect the reality of the current
marketplace as a few customers are budgeting and spending capital dollars on
these systems while others continue to be very cautious and are only spending
money for necessary repairs and upgrades. Supporting this view, our order
rates for new systems without these larger orders is essentially unchanged from
the levels experienced in the last half of fiscal 2003. We believe a gradual
recovery is underway. However, we expect that our order rates will remain
erratic, but will slowly trend higher as confidence builds.

Installation and Service Revenues. Installation and service revenues consist
of the following:

|                                       |  |                      |           |      |  |   |           | 
|-------------------------------------- |  | -------------------- | --------- | ---- |  | - | --------- | 
|                                       |  | For the Three Months
|                                       |  | Ended January 31,   
|                                       |  |                     
|                                       |  | 2004                 |           | 2003
|                                       |  |                      |           |     
|Contract & Time and Materials (T&M)    |  | $                    | 4,557,000 |      |  | $ | 4,243,000 | 
|Commercial installations               |  |                      | 772,000   |      |  |   | 756,000   | 
|Lodging installations                  |  |                      | 309,000   |      |  |   | 171,000   | 
|Cabling                                |  |                      | 289,000   |      |  |   | 253,000   | 
|Consulting                             |  |                      | 828,000   |      |  |   | 694,000   | 
|                                       |  |                      |           |      |  |   |           | 
|Total installation and service revenue |  | $                    | 6,755,000 |      |  | $ | 6,117,000 | 
|                                       |  |                      |           |      |  |   |           | 

The increase in contract and T&M revenues in the first quarter was due to two
factors: 1) an increase in maintenance contracts with commercial customers,
primarily related to our Nortel Networks initiative; and 2) an increase in T&M
revenues. The addition of customers under maintenance contracts typically
helps to increase T&M revenues as well as those customers use us for
discretionary spending on their systems as well as repair charges not covered
by the maintenance agreements. As discussed above in the Overview, we are
very pleased with the progress of our entry into the Nortel Networks market and
have been successful in obtaining several significant customer contracts to
maintain Nortel Networks equipment. The ability to develop a stable source of
recurring revenues from maintenance contracts is one of the primary reasons we
added Nortel Networks equipment to our product lines.

Total installation and cabling revenues increased approximately 16% compared to
the first quarter of fiscal 2003. This increase tracks closely with the
increase in sales of systems with most of the increase related to our lodging
customer base. We only derive installation revenues from installation of
systems that we sell, so these revenues are expected to track with systems
sales levels.

Consulting revenues increased approximately 19% in the first quarter compared
to last year. Consulting revenues consists of project management fees earned
on systems implementations, professional services or engineering fees earned on
the design and programming of systems sold, and software and network consulting
fees earned by our consulting group. Both project management fees and
professional services fees are generated by sales of new systems. However,
they do not necessarily track proportionately with systems sales because the
complexity of the services required varies widely from project to project. The
increase in Consulting revenues in the first quarter relates to an increase in
project management fees and is due to the fact the projects implemented in this
quarter were large, multi-location, complex systems which required highly
skilled and full-time project management resources.

Gross Margins.

Our gross margins on total sales and service revenues in the first quarter of
fiscal 2004 were 23.4% compared to 25.4% in the first quarter of fiscal 2003.
The decrease in overall gross margins includes a decline in gross margins
earned on systems, partially offset by an increase in the gross margins earned
on installation and services revenues.

The gross margins earned on sales of systems was 20.1% in the first quarter of
fiscal 2004 compared to 26.3% in the first quarter of last year. This decline
is due primarily to product and customer mix and the loss of an important
vendor incentive program. Our sales of systems to commercial customers were
dominated in the first quarter by large sales to three customers. Due to
competitive factors and the mix of products sold, some portions of these sales
were made at margins lower than our normal targets. Furthermore, the mix of

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products sold did not qualify for certain manufacturer rebate programs further
eroding the gross margins on these sales. Our gross margins on systems sales
to lodging customers was down slightly during the quarter compared to last year
reflecting competitive pressures. Finally, we no longer qualify for one of our
vendors rebate programs related to exclusivity arrangements. This incentive
was lost when we added the Nortel Networks product line.

The gross margins earned on installation and service revenues was 31.5% in the
first quarter of fiscal 2004 compared to 28.7% in the first quarter of last
year. This increase reflects increases in revenues from professional services
and project management fees covering fixed costs. The increases in these
revenues are more fully discussed above under Installation and Service
revenues, but are directly related to the increase in sales of complex systems
to commercial customers. The engineers, technicians, and project managers that
we have on staff are critical to our success in implementing these complex
systems. Although we made adjustments to our employee base early on in the
economic downturn, we have purposely retained these skill-sets for higher
revenue levels. Therefore, as our revenues from professional fees increase,
our service margins improve as utilization increases.

A final component to our gross margins is the margins earned on other revenues
and our corporate cost of goods sold expenses. Other revenues typically
represent sales and cost of goods sold on equipment or services outside our
normal provisioning processes and by their very nature vary significantly in
both sales volume and gross margins earned. Other revenues in the first
quarter of fiscal 2004 declined approximately 74% compared to the same period
last year. This decline represents about 1 percentage point of the total
decline in gross margins in the first quarter. Corporate cost of goods sold
represents our material logistics and purchasing functions that support all of
our revenue streams. These expenses have declined approximately 11% in the
first quarter of fiscal 2004 compared to same quarter last year reflecting the
effects of our tight cost controls.

Operating Expenses. Operating expenses in the first quarter increased less
than 1% or approximately $18,000. This increase consisted of an increase in
selling expenses of $47,000, an increase in amortization expense of $28,000,
and a decrease in general and administrative costs of $56,000. The increase in
selling expenses reflects the addition of several new account executives to
support our entry into the Nortel Networks market and higher commissions
expenses due to increased gross profits. These increases were partially offset
by vendor incentives paid to help offset the costs of new sales initiatives.
The increase in amortization expense reflected one-time write-offs of certain
capitalized software development costs. The decrease in general and
administrative expenses reflects an increase in incentive compensation costs
due to higher profitability which was more than offset by an increase in
one-time vendor incentive payments. Our baseline general and administrative
costs are expected to continue to be relatively flat compared to recent
quarters.

Interest Expense and Other Income. Net interest and other expense was $30,000
in the first quarter of fiscal 2004 compared to net interest and other expense
of $130,000 for the first quarter last year. This decline reflects lower
interest expense directly related to lower average borrowings this quarter
compared to a year ago.

Tax Provision. The Company has recorded a combined federal and state tax
provision of 39% in all periods presented reflecting the effective federal tax
rate plus the estimated composite state income tax rate.

Operating Margins. Net income as a percent of revenues was 3.3% for the three
months ending January 31, 2004 compared to 3.2% for the same period last year.
Provided our revenues continue to expand throughout fiscal 2004, we expect our
operating margins to increase as well. We believe that there is still leverage
remaining in our operating expenses and that for the foreseeable future, we can
restrict the rate of growth in operating expenses to less than that of the
growth revenues.

Outlook and Risk Factors

The following discussion is an update to the Outlook and Risk Factors
discussed in the Companys Annual Report on Form 10-K for the year ended
October 31, 2003. The discussions in the report regarding

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Dependence Upon Avaya, Avayas Business Partner Program, Introduction of
New Products, Potential Problems with the Implementation of New Products,
Variability of Gross Margins, Dealer Agreements, Dependence Upon a Few
Suppliers, Hiring and Retaining Key Personnel, Intense Competition,
Accounting for Goodwill, Upgrading our Technology Infrastructure, Targeted
Operating Margins, Volatility of Our Stock Price, Natural Catastrophes,
and Infringement Claims and Litigation are still considered current and
should be given equal consideration together with the matters discussed below.

Our business is dependent upon capital spending by U.S. companies on
communications and other technology equipment.

Our systems sales and installation revenues are largely tied to capital
spending by our customers. While a general economic recovery in the U.S. seems
to be underway, we continue to see mixed signals regarding capital spending on
the equipment we sell. As a result, our investments in growth initiatives
continue to be very cautious and targeted, which may ultimately limit our rate
of growth.

Our entry into the Nortel product line may not be successful.

As discussed above, we were able to secure several large, prominent maintenance
agreements to service Nortel equipment during the first quarter of the year and
were very pleased with the results of this initiative so far. We are quickly
assembling the technical competencies necessary through hiring of technicians
with experience in Nortel equipment and through training of our existing
personnel. However, our entry into the Nortel market is still in its infancy
and we remain unproven as a sales and service organization in this market.
Therefore it is possible that our entry into this market may be delayed or be
unsuccessful if we have difficulties implementing our sales and services
strategies..

Our operating income is highly dependent upon continuing to receive various
support payments from our major vendors.

Our manufacturers have a wide variety of vendor incentive programs to support
our sales and marketing efforts. These incentives are material to our gross
margins as well as to our overall operating results. The manufacturers
routinely change the rules or procedures surrounding how these incentives are
earned or computed. It is possible that the manufacturers could change or
eliminate incentives such that our gross margins or operating results could be
materially, adversely affected.




ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK

Market risks relating to our operations result primarily from changes in
interest rates. We did not use derivative financial instruments for
speculative or trading purposes during the first quarter of fiscal 2004.

Interest Rate Risk. We are subject to the risk of fluctuation in
interest rates in the normal course of business due to our utilization of
variable debt. Our credit facility bears interest at a floating rate at either
the London Interbank Offered Rate (LIBOR) (1.12% at January 31, 2004) plus
1.25 to 2.75% or the banks prime rate (4.0% at January 31, 2004) less 0.0% to
1.125%. In an effort to manage the risk associated with variable interest
rates, in November 2001 we entered into interest rate swaps to hedge the
variability of cash flows associated with variable rate interest payments, on
amortizing notional amounts of $10.0 million. At January 31, 2004, the
notional amount included under the interest rate swap was $5.7 million. The
pay fixed rates under the swap agreements are 3.32%. The receive
floating rates for the swap agreements are 1-month LIBOR, resetting
monthly. The interest rate swaps expire in November 2004. Variable rate debt
outstanding at January 31, 2004, net of the swap agreements was $4.9 million.
A hypothetical 10% increase in interest rates would not have a material impact
on our financial position or cash flows.

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ITEM 4. CONTROLS AND PROCEDURES.

Evaluation of Disclosure Controls and Procedures.An evaluation was
conducted by our Chief Executive Officer and Chief Financial Officer of the
effectiveness of the Companys disclosure controls and procedures pursuant to
Rules 13a-15 and 15d-15 of the Securities and Exchange Act of 1934. Based on
their evaluation of such controls and procedures as of the end of the fiscal
quarter covered by this report, our Chief Executive Officer and Chief Financial
Officer have concluded that our disclosure controls and procedures are
effective to ensure that information required to be disclosed in reports that
we file or submit under the Exchange Act are recorded, processed, summarized
and reported within the time periods specified in Securities and Exchange
Commission rules and forms.

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




PART II. OTHER INFORMATION




ITEM 1. LEGAL PROCEEDINGS.

We continue to monitor the Phonometrics litigation, as Phonometrics continues
to challenge certain awards of attorneys fees against it. A detailed
description of the Phonometrics cases is contained in our Annual Report on
Form 10-K for the fiscal year ended October 31, 2003 filed with the Commission.

There was no material change during the period covered by this report in the
status of the claim initiated by the Software & Information Industry
Association against the Company. A detailed description of this matter is
contained in our Annual Report on Form 10-K for the fiscal year ended October
31, 2003 filed with the Commission.




ITEM 2. CHANGES IN SECURITIES AND USE OF PROCEEDS.

None.




ITEM 3. DEFAULTS UPON SENIOR SECURITIES.

None.




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

None.




ITEM 5. OTHER INFORMATION.

None.




ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K.



|a) |  | Exhibits (filed herewith):
|-- |  | --------------------------

|                |  |                                                                  
|--------------- |  | -----------------------------------------------------------------
|SEC Exhibit No. |  | Description                                                      
|                |  |                                                                  
|31.1            |  | Rule 13a-14(a)/15d-14(a) Certification of Chief Executive
Officer

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##### Table of Contents



|                |  |                                                                                                                                                                       
|--------------- |  | ----------------------------------------------------------------------------------------------------------------------------------------------------------------------
|SEC Exhibit No. |  | Description                                                                                                                                                           
|                |  |                                                                                                                                                                       
|31.2            |  | Rule 13a-14(a)/15d-14(a) Certification of Chief Financial
Officer                                                                                                     
|                |  |                                                                                                                                                                       
|32.1            |  | Certification of Chief Executive Officer Pursuant to Title
18, United States Code, Section 1350, as adopted pursuant to Section
906 of the Sarbanes-Oxley Act of 2002.
|                |  |                                                                                                                                                                       
|32.2            |  | Certificate of Chief Financial Officer Pursuant to Title 18,
United States Code, Section 1350, as adopted pursuant to Section 906
of the Sarbanes-Oxley Act of 2002.  



|(b) |  | Reports on Form 8-K - During the quarter for which this report is filed,
the Company filed the following reports on Form 8-K:
|--- |  | -----------------------------------------------------------------------------------------------------------------------------



| |                                                                                      
| | -------------------------------------------------------------------------------------
| | Form 8-K filed December 12, 2003 (to furnish earnings release for 2003
fiscal year ).




SIGNATURES

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

|                         |  |                                      |  |                        
|------------------------ |  | ------------------------------------ |  | -----------------------
|                         |  | XETA Technologies, Inc.
(Registrant)
|                         |  |                                      |  |                        
|Dated: February 25, 2004 |  | By:                                  |  | /s/ Jack R. Ingram     
|                         |  |                                      | 
|                         |  |                                      |  | Jack R. Ingram         
|                         |  |                                      |  | Chief Executive Officer
|                         |  |                                      |  |                        
|Dated: February 25, 2004 |  | By:                                  |  | /s/ Robert B. Wagner   
|                         |  |                                      | 
|                         |  |                                      |  | Robert B. Wagner       
|                         |  |                                      |  | Chief Financial Officer

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##### Table of Contents






EXHIBIT INDEX

|                |  |                                                                                                                                                                       
|--------------- |  | ----------------------------------------------------------------------------------------------------------------------------------------------------------------------
|SEC Exhibit No. |  | Description                                                                                                                                                           
|                |  |                                                                                                                                                                       
|31.1            |  | Rule 13a-14(a)/15d-14(a) Certification of Chief Executive Officer                                                                                                     
|                |  |                                                                                                                                                                       
|31.2            |  | Rule 13a-14(a)/15d-14(a) Certification of Chief Financial Officer                                                                                                     
|                |  |                                                                                                                                                                       
|32.1            |  | Certification of Chief Executive Officer Pursuant to Title 18, United
States Code, Section 1350, as adopted pursuant to Section 906 of the
Sarbanes-Oxley Act of 2002.
|                |  |                                                                                                                                                                       
|32.2            |  | Certificate of Chief Financial Officer Pursuant to Title 18, United
States Code, Section 1350, as adopted pursuant to Section 906 of the
Sarbanes-Oxley Act of 2002.  

23