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FORM 10-Q

OR

Commission File Number 0-16231

XETA Technologies, Inc.

     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.

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XETA TECHNOLOGIES, INC.

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

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XETA TECHNOLOGIES, INC.

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

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XETA TECHNOLOGIES, INC.

[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.

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XETA TECHNOLOGIES, INC.

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.

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.

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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:

3.

PROPERTY, PLANT AND EQUIPMENT:

Property, plant and equipment consist of the following:

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:

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5.

UNEARNED REVENUE:

Unearned revenue consists of the following:

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:

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:

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 2^nd 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: