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XETA Technologies Inc. (NASDAQ:XETA)

F4Q08 Earnings Call

December 3, 2008; 05:00 pm ET

Executives

Greg Forrest - Chief Executive Officer

Robert Wagner - Chief Financial Officer

Dave Mossberg - Investor Relations

Analysts

Larry Hutchin - Adam Paul Asset Management

Oz Tangon - Patel Capital Management

Robert Mayor - Private Investor

Bob Meader - Wachovia Securities

Operator

Greetings and welcome to the XETA Technologies 2008 fourth quarter and fiscal year end results. At this time, all participants are in a listen-only mode. A brief question and answer session will follow the formal presentation. (Operator Instructions)

It is now my pleasure to introduce your host Mr. Dave Mossberg, Investor Relations for XETA Technology. Thank you Mr. Mossberg, you may begin.

David Mossberg

Thank you, Melissa. Before we begin, we will be referring to today’s earnings release and slide presentation, both of which can be downloaded from the Investor Relations page of the company’s website at www.xeta.com. We have included a table with the break down of our revenue categories for your reference.

This conference call could contain forward-looking statements about XETA Technologies within the meaning of the Private Securities Litigation Reform Act of 1995. Forward-looking statements are statements that are not historical facts. Such forward-looking statements are based upon the current belief and expectations of XETA’s management team and are subject to risks and uncertainties which could cause actual results to differ from the forward-looking statements.

Such risks are more fully disclosed in XETA’s filings with the Securities and Exchange Commission. The information set forth herein should be considered in light of such risks. XETA Technologies does not assume any obligation to update the information contained in this conference call.

Throughout today’s conference call, we may be referring to both GAAP and non-GAAP financial results, including the term EBITDA which is a non-GAAP term. There is a reconciliation of the EBITDA in the earnings release.

Our speakers today will be Greg Forrest, XETA’s Chief Executive Officer and record Robert Wagner, the company’s CFO. Greg.

Greg Forrest

Thanks, Dave. Good afternoon everyone. Thank you for your interest in XETA Technologies and for joining us on the call today. In what has been a challenging time for enterprise IT spending, we posted a solid financial performance in the fourth quarter and fiscal 2008.

We had a robust top line, 17% growth for the fourth quarter, 20% growth for the year, which are ahead of our stated longer term growth target of 15% per year. We completed a major project with Miami-Dade school district; this represents greater than $10 million in revenue during 2008 and the largest order in the company’s history.

As a result of our success with this customer we were rewarded with a long term service contract and we are well positioned to assist them with additional stem upgrades in the future. We generated over $5 million in operating cash flow during the fourth quarter. We are cycling through accounts receivable and inventory which hit its peak towards the end of the third quarter.

At the end of October we had approximately $2.5 million outstanding on our line of credit, leaving an additional $5 million to finance growth tunes. Our results were in line with our guidance and we grew our bottom line faster than our top line. EBITDA for fiscal 2008 was $5.5 million, which was nearly a 50% growth from 2007.

Now I will turn the call over to Robert Wagner, the company’s CFO for details on the financial results. I will then come back with a progress report on our key growth strategies and discuss our outlook. We will then open the floor for your questions. Robert.

Robert Wagner

All right, thanks Greg and welcome to everyone on the call; thanks for joining us. We finished fiscal 2008 with another strong top line performance. All of our major revenue streams, enjoyed growth over the fourth quarter of last year, a milestone that was achieved each quarter during 2008.

Total revenues in Q4 were $22.4 million, up $3.3 million or 17% over last year. Our systems revenues were $10.3 million, a 22% increase over Q4 of last year. The Miami-Dade schools project was the leading contributor to these revenues, but was less dominating than the three prior quarters as that project completed midway through the quarter.

Our lodging equipment business enjoyed its best quarter in Q4, providing over $3.1 million in revenues and a 74% increase over Q4 of ‘07. We’ve enjoyed strong and steady results in our lodging business through the year as a result of excellent traction in our new buy/sell product offering as well as expanded relationships with long time lodging customers.

We are cautiously optimistic about the near term future of the logging business. Certainly current economic conditions and tight lending practices are pressuring capital budgets in the lodging industry which may create a pause in buying of our products in the near term. Overall however we have been very pleased with the new the buy/sell product line and our ability to continue to gain market share in this mature area of our business.

Our services revenues increased $1.3 million or 13% in the fourth quarter compared to Q4 of last year. As we predicted on our call last quarter, the Miami-Dade schools installation had a significant impact on Q4 services revenues, particularly in implementation and cabling revenues.

Our recurring service revenues, which include contracted maintenance services, as well as T&M max services, increased 5% during the fourth quarter compared to last year. This rate of growth is well below our expectations and reflects sluggish growth in our wholesale managed service offering. As we noted in the news release growth in new programs acquired during the fourth quarter was partially mitigated by attrition experienced by our wholesale partners.

On a positive note, we enjoyed a rebound in our T&M Mac business in Q4. We mentioned in our comments last quarter that we were beginning to see improvements in our Mac T&M business late in the third quarter and we were hopefully recovery was under way. Those hopes were confirmed in Q4 as these revenues surged 35% ahead of Q3 levels and were able to pull even with last year’s Q4 of Mac T&M. revenues.

Now regarding gross margin, our total blended gross margin was 28.1% for Q4, which is an 80 basis points decline over Q4 of last year. As presented in the table of the news release, all of the decline came from the decrease in gross margin earned from service revenues.

Service margins were 30.4% in the fourth quarter of fiscal 2008, which is the low end of our target of 30% to 35% of these revenues, 280 basis points less than Q4 of last year. Service margins have been impacted throughout fiscal 2008 by lower than expected margins on a recurring services revenues.

The rate of growth in recurring services revenues declined sharply beginning in Q1 of this year and this fact coupled with momentum in the growth of the cost structure to support these revenues resulted in lower service margins earlier in the year in this area. As we adjusted the cost structure and as revenues have picked up in last half of the year, these margins have begun to rationalize to our expectations in Q4.

Partially offsetting the lower than expected margins earned on a recurring services business was improved margins and implementation revenues. Significant growth in these revenues fueled by the Miami-Dade schools project helped to offset the substantial fixed cost structure in this area of our business and create an improved margin picture.

Another major component to our gross margin is the margin earned on system sales. Q4 systems gross margin was 26.4%, up 140 basis points over Q4 of last year. Systems gross margin was consistently at/or slightly above our targets for these margins, finishing the year at 26.2%, up 220 basis points compared to fiscal 2007. Operating expenses in Q4 were 23% of revenues, unchanged from a year ago.

As discussed in last quarter’s comments, we made substantial investments in sales personnel to drive additional revenue growth, particularly in the managed services area. Our return on these investments has been impacted by higher than expected attrition experienced by few of our wholesale partners and a slower than expected ramp in bringing new service contracts online.

We continue to believe that increasing our recurring revenues primarily to the wholesale managed services program is our most important strategy for top line growth, improved predictable of financial results and expansion of our profit margins.

Our EBITDA in the fourth quarter was $1.7 billion, a 14% improvement over last year. Year-to-date EBITDA was $5.5 million, a 49% improvement over a year ago. Also for the year, EBITDA was 6.5% of revenues, up from 5.2% in 2007. We believe EBITDA is a useful non-GAAP financial measure for our company, primarily because of the significant non-cash charges in the operating statement and as Dave mentioned there was a reconciliation of net income to EBITDA in the release.

Now turning to the balance sheet and cash flows, in Q4 we earned cash from operations of $5.2 million and for the year cash from operations was $2.4 million. This year-to-date cash flows included net income and non-cash charges of $4.2 million which were partially offset by net working capital increases of $1.8 million. These increases included growth in accounts receivable of $3.7 million and increases in inventories of $1 million. These items were partially offset by growth in accounts payable of $2.6 million.

For those of you who followed the company throughout fiscal 2008 it should be clear from the positive cash flows of over $5 million and a $3.4 million reduction in AR in Q4, that we reached the downhill side of the Miami-Dade schools cash cycle and have begun to enjoy the cash flows generated by this large order.

In Q4 we reduced our DSOs to 82 days, down 10 days from Q3 levels and up only four days compared to the end of ‘07. Now this is still above our aggressive DSO target of below 60 days, so we believe it’s possible to pull another $4 million to $6 million out of AR, by building on the momentum we enjoyed in the fourth quarter.

Our capital expenditures in fiscal 2008 were $1.3 million, with approximately $725,000 being used to support normal replacement and personnel growth and the remaining portion of approximately $575,000 to funds the oracle development project.

In addition to our capital expenditures, we used cash during the fourth quarter to purchase a small base of recurring services revenues in the lodging vertical market. This base of mostly Hitachi customers were located in California and a few other western states, as to our already robust base of lodging customers under maintenance contract to provide an excellent source of recurring revenues and also represent potential sources of future revenues from the sales upgrades and replacement systems.

During fiscal 2008, our total debt decreased $406,000, reflecting a slight decrease in our revolving line of credit and normal principal payments on our mortgage note. As Greg mentioned our revolver balance at October 31 was $2.5 million, down from over $6 million at the end of Q3.

Since the end of Q4 we continue to enjoy good collection from Miami-Dade and other customer enabling to us reduce the revolver balance to $710,000 as of last evening, leaving us approximately $6.8 million in availability currently under our line of credit. Greg.

Greg Forrest

Great, thanks Robert. Okay, lets see here; the fourth quarter, most of fiscal ‘08 was not an easy environment for business expansion. Considering the economic head winds we faced, XETA has done well delivering top line growth and improving profitability. We attribute the growth in sales and earnings to our strong competitive position and the focus on our key strategies.

Our key strategy to focus on Fortune 1000 has led us to the success of securing and on-boarding the Miami-Dade school project, as well as several other large enterprise customers. During the fourth quarter, we recognized significant revenue from equipment sales with a fortune 50 communications provider and a fortune 1000 healthcare company.

We have won a multi-year technology refresh project with a Fortune 500 utility company, which generated significant revenues during the fourth quarter and should represent a seven figure opportunity in each of the next few years. We also received a seven figure purchase order from a large government agency of which two thirds of the order will be recognized over the next several quarters.

During the fourth quarter, our lodging equipment business reported the best quarter we’ve had in more than five years. We had significant equipment sales with existing customers and we continue to gain traction with our Mitel product line which we added late last year.

Lodging equipment sales as Robert mentioned increased 74% year-over-year to $3 million during the fourth quarter. Mitel has a significant installed base in the lodging vertical for smaller properties which represents a new market for us. Our team has done a tremendous job with this new product line and in just under a year we have become one of Mitel’s top producers in the lodging vertical and are looking forward to continued growth in this line business.

During the fourth quarter, our equipment business continued to show strength. We produced a 9% increase in fourth quarter equipment bookings; keep in mind that this includes Miami-Dade bookings in this comparison. If you exclude Miami-Dade, our fourth quarter bookings were much higher and illustrates that trends were still positive for us as we exited the year.

We continue to monitor booking trends very closely as this is a key leading indicator of future equipment results. Although we are starting to see some delays with respect to equipment purchases, which may impact equipment growth, the fourth quarter booking trends have extended into November, as bookings were up slightly over the same period last year.

On the service side of our business, we continue to focus on growing our wholesale services business, adding new wholesale partners and increasing the volume of business we do with each partner. We continue to be successful with this initiative which has been a major contributor to our growth over the past two years.

We use the number of customer sites under management as a metric to track the progress of our wholesale service strategy. This metric includes sites from our wholesale relationships currently generating revenue.

During the fourth quarter our site count was 2200, which is up approximately 5% from a year ago and down 100 sites from the third quarter of ‘08. This is the first quarter since we began the program two years ago that we have not shown a sequential increase in the number of sites under management. The sequential decrease in sites was primarily related to two programs in which our wholesale partners lost business to their competitors.

While the loss of these programs affects our near term growth in sites under management we continue to have success in adding new programs and new wholesale partners. For example, we had a win with a large communications company which added to our site count during the fourth quarter. Over the next year, the number of sites with this customer is expected to grow to approximately 300 locations.

In previous conference calls, we have mentioned a win with a large U.S. government entity. This customer began its implementation schedule with Nortel in the third quarter. As a result, our site count started to build during our fourth quarter. This program is expected to add to our site count incrementally over the next 18 months.

Also our base of wholesale partners continued to grow during 2008. We added master service agreements with HP, IBM and AT&T during the year. It’s also important to note that we continue to deliver high levels of service to our wholesale partners. We finished the fourth quarter with an on- time service delivery rating of above 99% with one of our key wholesale partners.

As we look at 2009 and beyond, there is a large degree of uncertainty in this information technology marketplace. Although we can’t control the economy, we can control how we execute in this uncertain environment. We have a strong conviction for our business model and our ability to execute. We are very well-positioned financially, operationally and strategically to take market share in a recessionary environment.

Now for a couple of highlights on each of these three areas: First financially; as Robert mentioned, we strengthened our balance sheet and have a $7.5 million line of credit to finance growth. We have a great relationship with our senior lender, Bank of Oklahoma. They are a strong bank with a solid asset base and have recently elected not to participate in the tarp program. In addition to our line of credit, we have access to additional funding through Bank of Oklahoma, which will enable us to finance acquisitions.

We are also well-positioned operationally. We are offer our customers a nationwide sales and service footprint; 24/7, 365 in-house contacted service and the highest levels of certification from three of the leading manufacturers of the communications equipment.

In addition, we are a public company with verifiable final financials. All of these are significant differentiator when is customers select vendors, particularly in this victim. We continue to deliver high levels of customer service and have strong customer loyalty. The renewal rates from our direct service customers continue to be in the 95% range. As evidence of our strong execution we won both the Miami-Dade Technology Vendor Appreciation Award and Avaya’s Business Partner of the Year Award this year.

Finally and most importantly, strategically we have multiple avenues of growth for 2009 and beyond. First, is our wholesale service initiative. This has been a strong area of growth for us in the last two years. Although our wholesale service business has slowed somewhat in the past couple of quarters, this initiative remains a key growth strategy for our business and we are optimistic about its growth prospects.

Second, is taking share from local and regional players. There are approximately 1500 Avaya and 1,000 Nortel dealers in the U.S., many of which are having a hard time competing in this environment.

Third is a change in the go-to-market strategy of Avaya. Avaya is embracing a channel centric model and has stated that they plan to push more than 80% to 85% of sales through indirect channel partners like XETA. Currently we estimate that only 55% of the sales are directed through the channel. As I stated previously, we remain Avaya’s Business Partner of the Year for North America, which significantly raises our profile within Avaya as a partner of choice.

Fourth, is strengthening our position in specific industry verticals such as lodging and education. We have a 27 year history in the lodging industry and provide telephony equipment and telephony services for approximately one in and every three hotel rooms and properties with more than 150 rooms. We are cautiously optimistic about the lodging vertical for 2009 and it appears that construction projects currently underway will continue to drive demand for systems for at least the next six to nine months.

In the education vertical, we gained a great deal of experience and recognition with Miami-Dade. We have built a practice to address these types of opportunities and are currently bidding on several federally funded projects throughout the U.S. Some of which are similar in scope to the Miami-Dade school district.

We are focusing on growing our applications business, specifically around unified communications and contact center. In the current environment, customers are continuing to spend on applications that can deliver compelling returns on investments. During 2008, we had a significant U.C. deployed with the Tulsa technology center. Internally we are also piloting Microsoft’s unified communications platform and are looking to expand our Microsoft relationship next year.

Finally, while it is challenge to go deliver organic growth next year, given the uncertainty of the market, we see real opportunity to accelerate growth through targeted acquisitions. We believe this is a buyers market and many of the local and regional players may not have the equity required to sustain themselves through significant fluctuations that may occur.

Moving to the outlook; regarding our outlook for the first quarter, fiscal 2009 and beyond, specific earnings guidance in this environment is challenging. We are now about a third of the way through first quarter and based upon what we see today, we expect first quarter to be flat or slightly down in comparison to the performance we delivered last year.

As we stated in the press release, for 2009 we expect to generate profits equal to or greater than fiscal 2008. Longer term, we are confident in our ability to manage our business through these uncertainties and are focusing on the things that we can control; more specifically, maintaining a strong balance sheet and taking market share. When the economy turns, we will be in a better position to accelerate our growth and deliver strong profitability and returns to our shareholders.

This concludes my comments. Melissa, will you open the floor up for questions.

Question-and-Answer Session

Operator

(Operator Instructions) Your first question comes from [Larry Hutchin - Adam Paul Asset Management].

Larry Hutchin - Adam Paul Asset Management

How are the problems at Nortel impacting XETA?

Greg Forrest

Well, there is no negative impact for us. We look at it as an opportunity to help Nortel. They are going to go through cost reductions and that will impact their workforce. We are a lead partner for them as we deliver services to their customers. So we have had conversation with Nortel about increasing our involvement in their business as they try to find areas of cost containment and cost control. So right now I look at it as an opportunity.

Operator

Your next question comes from [Oz Tangon - Patel Capital Management].

Oz Tangon - Patel Capital Management

Wanted to ask a couple of quick questions: first of all, in your guidance you are talking about a flat growth in terms of top line and are you assuming anything like Miami-Dade in that guidance or is it just taking the Miami-Dade out and then expecting somewhere around $85 million top line growth?

Greg Forrest

That’s a great question and probably should have been specific, but I’ll address that real quick. Now, there’s the flat line for ‘09 relative to ‘08. We expect to perform about the same level, so in those mid 80 range. Now that is considering still filling that whole that’s left with Miami-Dade; so in essence, we are still looking at some internal growth internal growth because again we don’t have a Miami-Dade on deck for ‘09.

Oz Tangon - Patel Capital Management

So if you prefer to take Miami-Dade, then you are looking at somewhere around a 15% type of growth, apples-to-apples basis.

Greg Forrest

That’s a fair assessment. We’re going to be similar to our longer term growth targets net of Miami-Dade year-over-year.

Oz Tangon - Patel Capital Management

Sure and in terms of opportunities like Miami-Dade, the timing is uncertain, because the funding needs to be there, but you got a lot of opportunities that if the funding happens and who knows if it’s this year, next year or whatever, I guess you have a chance of getting similar types of deals over the next couple of years?

Greg Forrest

We do. The federally funded deals, the timeliness are something that we have less control over, but we’ve got a practice now that’s built in targeting these federally funded type opportunities. We’ve got a front office that’s built there with our sales organization; we’ve got a back office that’s built. Robert’s done a very nice job of his organization in building an administrative support that is very tough to do. We know how to collect them and we know how to build some expectations of turn. So we’ve got a lot of asks out there and when they’re funded, we expect to prosper.

Oz Tangon - Patel Capital Management

Greg, you talked about some new relationships or master agreements with HP, IBM, AT&T. Obviously you had very successful relationships with Verizon, Nortel. Can you kind of help us put this in perspective? This HP, IBM, AT&T, are they doing similar type of business as Verizon, Nortel? Can you kind of put them in perspective, so that as you kind of get these relationships going and as these things mature, what’s reasonable over the next several years; can these be as big as your turns relationships?

Greg Forrest

That’s where this SI, the system integrators, the manufacturers, the network provides; that’s where most of the commerce is done in our marketplace. We’ve positioned this as a $6 billion sand box if you will. Most of the business is done with those types of customers. Now you can stack them up; Verizon, I believe Verizon is slightly smaller than AT&T. So in theory; we have a very similar chance to grow our business of equal proportion with the AT&T relationship.

Now if you think about it, the AT&T and Verizon, they manage networks, so they in turn hire us to support their network. Well, HP may hire Nortel to support that customer where HP may handle the desktop work. So there is a pecking order; it just depends on the customer needs and the degree of scope of work in the particular opportunity.

So AT&T is probably similar in opportunity with Verizon. HP, they acquired EDS. They handle very, very significant enterprise customers. We would expect to be able to extend our core competencies to that company. We are still pretty small relative to the work that they do, so I expect there to be a very nice upside with these service agreements and it’s important to know how these go down.

We have master service agreements right with HP and AT&T and IBM. What we want to do is plug programs into these master service agreements and that’s the stage that we are in now; finding programs that they are competing and how we could help them win against their competitors.

Oz Tangon - Patel Capital Management

Sure and is it easy to get these master service agreements.

Greg Forrest

There’s a qualification process you go through. Verizon for example, they went through and they eliminated a large percentage of their master service agreements, because there’s a cost of managing those agreements. So you’ve got to work a certain way to secure these agreements, you just don’t sign up.

Oz Tangon - Patel Capital Management

Sure and currently I would assume these companies, they are only doing significant business. Who are they giving this business to?

Greg Forrest

Well, they maybe managed directly through the network providers. AT&T and Verizon, they’ve got internal competencies in certain footprints; likewise with some of the smaller network providers. A lot of these SI’s also have internal competencies, so they all maybe insourced our outsourced to somebody that we may do business with. We have clearly competitors. So some national providers that have the footprint that we have; there may be some super regionals or they may handle 1,000 locals, that’s very difficult, but there’s other ways of them fulfilling those services.

Oz Tangon - Patel Capital Management

I guess if do you a good job and repeat some of the performance you’ve done with some others; if you do get some business with these guys, that should be good business is what I was trying to get.

Greg Forrest

Yes, that’s the value proposition that we bring to these SI’s and network providers, we can handle everything. We can handle first call; we can handle all the dispatch; we can handle the follow up, where we can be the traffic cop that they don’t have to be.

Oz Tangon - Patel Capital Management

I would assume, I would think that for AT&T, it will be much more cost-effective to use somebody like you than doing it internally and so on; and many of these guys IBM, HP, they may not necessarily have the expertise in some specific areas that you do have the expertise.

Greg Forrest

That’s how we end up with the master service agreements.

Oz Tangon - Patel Capital Management

Sure. All right, and you did mention that your bookings were up 9% in the fourth quarter; is that versus last year same time period?

Greg Forrest

The 9% yes, it is fourth quarter over fourth quarter.

Oz Tangon - Patel Capital Management

And is that up in November?

Greg Forrest

They are up slightly in November and I guess the point I was trying to make is we’ve seen a lot of announcements with competitors or manufacturers that they have seen their business expectancies drop off significantly in September and October and I wanted to make the point that we have not seen that fall off. It’s not Nirvana right; I mean they are up slightly, but they are not dropped off the table.

Oz Tangon - Patel Capital Management

No, that’s great, because you are right. We are seeing people talk about a significant drop off since September, October.

Operator

(Operator Instructions) Your next question comes from Robert Mayor - Private Investor.

Robert Mayor - Private Investor

Yes, I have a couple of questions. One of which is on the acquisition forefront; what size of acquisitions are you anticipating over the next 12 months?

Greg Forrest

Well, we built a screen and so we are going to look at folks that we would consider more core to our business, guys that are miniature versions of us, have revenues from $5 million to maybe $20 million. These are guys that would add to our core competencies region, specific customer base, recurring revenue in nature; so we may do a couple of them.

We are going to be very opportunistic. I mean I can tell you and I’ve said this publicly; our pipeline is up significantly. We would normally in normal business environments look at two to three deals, our pipe now is 15, 20 deep.

Robert Mayor - Private Investor

I have noticed and I know you can’t compare in size, but Black Box has been very aggressive lately and I saw recently they bought NCT which had about $10 million in revenues. Are these companies also coming to you, to try to get the best price that they possibly can and I’m not even sure if NCT would be a good fit.

Greg Forrest

That was a data play for them. There is competition in the deals. There is just more deals now and I believe there will be pretty significant consolidation this next year with locals and regionals as a result of tightening credit. So there will be more deals and I feel that the valuations will be very reasonable for us. You still want to by quality assets, you don’t want to by problems, but I guess I have not competed directly with Black Box on M&A and they are slightly different, but I can certainly see us competing if we get up into a probably $15 million, $20 million revenue target.

Robert Mayor - Private Investor

I’ve been a long time shareholder and obviously the stock, from a shareholder perspective the numbers look good, it’s just the stock price hasn’t done much and I know it’s a bad market and that leads me to the question on that million dollars buy back. Is there any anticipation when that will be started or if it will be started?

Greg Forrest

We’ve started it and I’ll let Robert address that if you don’t mind.

Robert Wagner

Yes, we have started it. We’ve been in the market for two, three weeks now. We have bought a few shares, not very many; there’s a lot of limitations placed on it by SEC regulations. Under those rules, the volumes that we can buy are pretty limited, plus our volumes are not very big right now anyway and there’s limitations of when we can by during the day, as well as what prices we can offer.

The company cannot go in and offer a premium to the market. That’s part of the regulation. So it is pretty limited as to how fast we can move, but we are buying some on a regular basis.

Robert Mayor - Private Investor

And to go back to the acquisitions, is it feasible to see, providing that the quality is there to find companies that can add close to 15%, 20% in addition to the correct revenues that you’re expecting? So if you’re expecting let’s say $80 million, another $16 million in acquisitions and accretive revenue?

Greg Forrest

Yes, percentages of revenues. I guess what I can say is the opportunities are greater than they’ve been. We have an appetite for; we have very good relationships with our senior lender. We’ve had specific conversation with them about helping support this acquisition initiative and I can tell you from my tenure here, we have a greater appetite to grow our business through acquisition than we ever have.

So we may find a deal that comes together that’s $20 million and we may find a deal that comes together that’s $8 million and so it’s hard to kind of quota ourselves for a percentage of our own revenue, but I can just tell you that we are active and I know it doesn’t mean anything until we actually announce something, but I can tell you that we are active and we would expect to produce some results from our new efforts.

Robert Mayor - Private Investor

Okay and just kind of a side note, the numbers all look good and no argument there, but I am kind of surprised that considering the leadership and when I mean the leadership, the Board of Directors, that there’s just not a whole lot of insight or buying and that the insight or buying that you’re seeing is just a token amount. It just seems there’s not a real stake in the top leadership in the direction of this company.

That being said I will say that Greg since you’ve taken over, there’s been a lot of positive changes and just sometimes from a third party perspective it gets a bit aggravating and it doesn’t always seem as shareholder friendly as the company should be.

Now, granted there has been a lot of things that have been taking place that are very shareholder friendly, but I’m just kind of surprised that given what’s taken, you don’t see more stakes by the insiders, by the Board of Directors. I know you probably can’t comment and you can’t tell them what to do with their own money, but it’s just kind of surprising to me that a $1.50, $2 per share strong revenue growth, it just leaves me the impression that XETA is not their top priority.

Greg Forrest

Yes, it would be difficult for me to comment on it.

Robert Mayor - Private Investor

Right I know. I’m just looking, I see a company that’s growing double-digit and here you have maybe a few thousand shares and then you got a bunch of Board of Directors newly on the board there, where is their steak in the company? So I guess from a third party, I know a lot of companies now are saying they will compensate you in stock and you get that stock when you leave the Board of Directors, so they don’t leave things in a shambles.

It just seems to me that maybe that should be maybe brought up as far as putting some of the Board of Directors in line with the financial success of the company and the financial downfall of the company.

Greg Forrest

Well, again I appreciate the comments here. If you look, like Ron Siegenthaler, I mean he’s got 1 million shares plus, so there is some ownership there and what I can comment on is that from an operators perspective we have established equity targets for myself and for Robert and some of our key executives that we do believe in the company. I mean it’s not just a paycheck.

Robert Mayor - Private Investor

Yes, I’m not talking about you and Robert, because what I look at is more operational and operationally I can’t argue. I mean I’d like to see more aggressiveness on the acquisitions, but I guess my concern is it just seems the Board of Directors, there’s a real disconnect there and I just think that needs to be brought up or discussed.

My concern isn’t with management; the operational side, because I mean the numbers speak for themselves. It’s just, it sometimes seems like there’s a disconnect between the operators and the board of directors and that makes me believe that for a number of things over the years and then I don’t see any stake in the company for a lot of the guys that are sitting on the board. If they don’t have confidence in the company, why the heck should I go out there and buy it myself when they know more information than I do?

Greg Forrest

Well, I appreciate the comment.

Robert Mayor - Private Investor

Okay. I appreciate it and I thought you both did a wonderful job as far as operationally over the past year. So thank you for taking my questions.

Operator

Your next question is from [Oz Tangon - Patel Capital Management].

Oz Tangon - Patel Capital Management

I wanted to follow up on that AR; you guys did a pretty good job collecting a lot of money. You did mention there is another $4 million to $6 million that you may get out of AR. Did I get that right and if so can you give us a little more flavor?

Greg Forrest

We have a DSO target of getting below 60 days and based on where we ended the year, I think there’s another four to $6 million to get out of AR; not from any particular customer, just continue to improve those processes.

Oz Tangon - Patel Capital Management

So is that something that you’re targeting in the next six months, a year. What time period are we looking at?

Greg Forrest

It’s definitely an ’09 goal; now to achieve it in the next six months, yes possibly.

Oz Tangon - Patel Capital Management

I mean that’s a pretty significant amount and that would be pretty positive.

Greg Forrest

I’m really pleased with where we stand cash flow wise and working capital wise as we go into ‘09 which may prove to be kind of a difficult year and they say Cash is King in these kind of circumstance, so.

Oz Tangon - Patel Capital Management

Definitely.

Greg Forrest

Well, I’ll step in real quick. One of the things that Robert said and I hope it was heard, is that I think it was as of last night, we were below $1 million; $700,000 in that line of credit. So I mean from where we were a quarter ago and the conversations and the questions that he had to answer, that’s a big deal.

Oz Tangon - Patel Capital Management

And one other question, you guys did talk about Avaya’s intention to push a pretty significant chunk of their revenues through the channel. That sounds like a great opportunity and the fact that you are kind of top of mind with them being selected one of the top and so on and so forth.

Do you see that starting to happen? Is it something that they are doing now? Can you give us some flavor and going from 55% to 80% to 85% of their business through the channel is a very, very significant move and you guys are one of the top vendors; that should be beneficial to you.

Greg Forrest

We’ve had a series of conversations with the new leadership at Avaya and this is not the first time they’ve said this, but why I know it’s different is there is nobody left that I’m aware of that is making significant decisions in that business from the legacy leadership. So the new leaderships from Seagate and I think there’s a Cisco flavor in there. These guys are channel centric guys and that’s what they know.

We’ve had some very good conversations with them. We are continuing to have conversations with them to try to take over some of the business that they are doing and to work jointly, so we can be the lead on these projects.

Miami-Dade is somewhat of an example. Of course that was a little bit earlier, but there are Miami-Dade opportunities out there and we will partner differently with Avaya as they’ve changed they’re methods.

Operator

Your next question comes from Bob Meader - Wachovia Securities.

Bob Meader - Wachovia Securities

Kind of continuing on with what Oz was just saying, with Avaya’s leadership changed a year ago, it seems like they ought to be dumping things in your funnel right now and could you just give us a little more color on how that process works? I mean, do you have to go out and find the business and then beg them to keep it or are they saying, here’s a fortune 1000 customer that needs something and hand the ball off to you?

Greg Forrest

I think that they’ve had a series of leadership changes. Most of the ground level changes that they’ve made are just now starting to take effect. For example, the person that will impact our business most dramatically has probably been in her seat about two, three months. So you go through drinking through a fire hose phase which lasts probably 90 days and we have meetings set with those folks to come in and map that strategy out.

For example, they service business directly now right. So that business can be earned through XETA, by taking over the cost structure of support of that customer and then also the billing function. So there is opportunity that I feel that we can move over. Now again it’s something you’ve got to earn. You can’t just sit there with your hands out, but they have announced that strategy. It hasn’t been a year; it’s been closer to about a quarter. We have meetings set and our fiscal year ended October 31. People still think in terms of calendar years and so January I believe is the meetings that we have set.

Now Avaya has changed their sales incentive program, their incentives drive behavior. They do have quota retirement that is targeted to the channel now where before they weren’t incented to do drive business to the channel. So I can’t tell you one deal that got flipped over to us. I can tell you we’ve got deals on the radar screen and I’ve got a couple that I’m going to ask them to prove that they are changing. So I’m pretty optimistic about it Bob. I’ve talked to them personally and I feel pretty good about it.

Bob Meader - Wachovia Securities

Okay, is your Mitel business dependent on new construction or are you also getting system changeovers to Mitel?

Greg Forrest

It’s full; I don’t know what the mix is. Some of the more significant deals have been new construction. One of the pleasant surprises about our Mitel line is that we had initially modeled this business at pretty small properties and we are starting to see those mid-size and in some cases larger properties, so the average sale is much larger than anticipated, but to answer your questions, it is both; refresh and new.

Bob Meader - Wachovia Securities

Okay and finally could you talk a little bit more; it sounds like you’ve got a couple of set backs on your wholesale partners losing some accounts that you were servicing and previous to that, the roll-out seemed to be delayed on some fairly important contracts. Could you talk about what we can expect other than the government contract; the roll out of some important new business from your wholesale partners and what the pipeline looks like there?

Greg Forrest

We had a couple of projects; a couple our wholesale relationships did not renew with our customers. So they competed and they lost those contracts and what’s a little frustrating in the wholesale market is irregardless of how we service or our level of service that we provided to our wholesale partner; that was not the decision that the end user ultimately made not to renew. So we can do well and still lose that footprint.

We’ve learned from that. Actually we have launched a retail initiative, not to compete with our wholesale customers, but we’ve got competencies to service national customers that may be just below the system integrator level. So that’s one piece of business that we have added or one line that we have added.

Additionally we’ve got again enough business in our pipeline, not only to make up for some of the site counts that we lost, but also to anticipate some growth in that area. Verizon is active, Verizon has announced also some workforce reduction that bodes well for us and then Nortel did as well as I commented with Larry’s question. So we’ve got a pretty solid backlog.

I mentioned before that the bigger the deals, the bigger the service contracts, the harder they are to unwind a current service provider. So the cycle seemed to be a little bit longer, but where I sit now I’m pretty encouraged. I don’t know if I can say that we’ll have those rapid growth like we did in the second quarter of ‘06 because we are just kind of starting it, so the numbers are bigger, but commercially we grew I think just shy of 30% in ‘08 and that’s still pretty good growth in commercial services.

Bob Meader - Wachovia Securities

Okay, just a couple of more things. I know you don’t break out Nortel and there are some problems with breaking out Nortel versus Avaya, but can you give us some clue whether Nortel is actually declining or still growing. It’s a business you started from zero, a couple or three years ago, so it was a very diminimus business and a year ago it was a large part of the future of your firm. How is it Nortel doing?

Greg Forrest

Well, we do a lot of the service work with Nortel. So it’s hard to measure the success of that product line if you just look at equipment. Where that was a lot of the success we had with Avaya. First, Avaya is still a very large percentage of our equipment business, particularly this last year, they are still mid 60s, but there is a tremendous amount of pull through opportunity with the Nortel line of business.

So we didn’t really know about this wholesale opportunity as we entered the Nortel business, but I can tell from you an equipment side last year, it was flat if not off slightly, for just Nortel equipment, so it kind of mirrored what they represent, but it’s the opportunity to do business with Nortel on a service level. So yes, we’d like to grow our Nortel equipment business. It’s an expensive growth model, because you really have to invest in regions.

So this year we are changing our go to market slightly by focusing on dense areas that we have competencies in; southeast, Northeast, southwest, we call it the backyard region, in and around our corporate facilities, northwest; so not tremendous success in equipment last year, but we still have expectations of growth there.

Bob Meader - Wachovia Securities

And finally, if there is a loss at a wholesale partner level, I’m assuming there is not a change in technology to Cisco or something you don’t do. Is there an opportunity for you to try to keep that service business? I mean I don’t know if these contracts are largely done by systems sales and equipment or if they’re restricted service?

Greg Forrest

No, this is the wholesale side. The whole said of our business is probably 90% service. I mean there may be some piece part requirement to these service agreements, but primarily we are delivering services on behalf of our wholesale partners and those services are largely Avaya competency and Nortel competency.

Operator

Thank you. There are no further questions at this time. I would like to turn the floor back over to management for closing comments.

Greg Forrest

Okay. Well, no closing comments here. I appreciate everyone that was on the call and for joining us today.

Robert Wagner

Feel free to give us a call if you have any more questions.

Operator

This concludes today’s teleconference. You may disconnect your lines at this time. Thank you for your participation.

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Source: XETA Technologies Inc F4Q08 (Qtr End 31/10/08) Earnings Call Transcript

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