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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
-------------------------------
FORM 10-K
ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d)
OF THE SECURITIES EXCHANGE ACT OF 1934
For the fiscal year ended Commission File Number:
December 31, 1997 0-10211
INTER-TEL, INCORPORATED
Incorporated in the State of Arizona I.R.S. No. 86-0220994
120 North 44th Street, Suite 200
Phoenix, Arizona 85034-1822
(602) 302-8900
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Securities registered pursuant to Section 12(g) of the Act:
Common Stock
(26,796,272 shares outstanding as of March 13, 1998)
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 preceding 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 if disclosure of delinquent filers pursuant to
Item 405 of Regulation S-K (S 229.405 of this chapter) is not contained herein,
and will not be contained, to the best of registrant's knowledge, in definitive
proxy or information statements incorporated by reference in Part III of this
Form 10-K or any amendment to this Form 10-K - [ ].
The aggregate market value of the voting stock held by non-affiliates
of the registrant, based upon the last reported sales price in NASDAQ National
Market System on March 13, 1998, was approximately $543,688,355. Shares of
Common Stock held by each executive officer and director have been excluded in
that such persons may be deemed to be affiliates.
Materials have been incorporated by reference into this Report from the
following documents: (1) materials from the registrant's Proxy Statement
relating to its 1998 Annual Meeting of Shareholders have been incorporated by
reference into Part III and Part IV and (2) documents from the registrant's Form
S-1 Registration Statements (Nos. 2-70437 and 33-70054), Form S-3 Registration
Statements (Nos. 33-58161, 33-61437, 333-01735, 333-12433 and 333-39221), Form
S-8 Registration Statements (Nos. 2-94805, 33-40353, 33-73620 and 333-41197),
Annual Reports on Form 10-K for the years December 31, 1984, 1988 and 1994, and
current reports on Form 8-K dated July 17, 1987, August 3, 1988 have been
incorporated by reference into Part IV, Item 14. Portions of the Annual Report
to Shareholders for the year ended December 31, 1996 are incorporated by
reference into Part II.
INTER-TEL, INCORPORATED
1997 FORM 10-K ANNUAL REPORT
TABLE OF CONTENTS
PART I
Page
Item 1 Business 3
Item 2 Properties 25
Item 3 Legal Proceedings 26
Item 4 Submission of Matters to a Vote of Security Holders 26
PART II
Item 5 Market for the Registrant's Common Stock
and Related Stockholder Matters 26
Item 6 Selected Financial Data 26
Item 7 Management's Discussion and Analysis of
Financial Condition and Results of Operations 27
Item 7A Quantitative and Qualitative Disclosures About Market Risk 27
Item 8 Financial Statements and Supplementary Data 27
Item 9 Changes in and Disagreements with Accountants
on Accounting and Financial Disclosure 27
PART III
Item 10 Directors and Executive Officers of the Registrant 27
Item 11 Executive Compensation 27
Item 12 Security Ownership of Certain Beneficial Owners and Management 27
Item 13 Certain Relationships and Related Transactions 27
PART IV
Item 14 Exhibits, Financial Statement Schedules and Reports on Form 8-K 28
2
PART I
ITEM 1. BUSINESS
The Company
This Annual Report to Shareholders on Form 10-K ("10-K") contains
forward-looking statements that involve risks and uncertainties. The statements
contained in this 10-K that are not purely historical are forward-looking
statements within the meaning of Section 27A of the Securities Act of 1933, as
amended, and Section 21E of the Securities Exchange Act of 1934, as amended,
including without limitation statements regarding the Company's expectations,
beliefs, intentions or strategies regarding the future. All forward-looking
statements included in this document are based on information available to the
Company on the date hereof, and the Company assumes no obligation to update any
such forward-looking statements. The cautionary statements made in this 10-K
should be read as being applicable to all related forward-looking statements
wherever they appear in this document. The Company's actual results could differ
materially from those anticipated in these forward-looking statements as a
result of certain factors, including those set forth under "Factors That May
Affect Results of Future Operations" below and elsewhere in this document. In
evaluating the Company's business, shareholders and prospective investors should
consider carefully the following factors in addition to the other information
set forth in this document.
Inter-Tel, incorporated in Arizona in 1969, is a single point of
contact, full service provider of digital business telephone systems, call
processing software, voice processing software, call accounting software,
Internet Protocol (IP) telephony software, computer telephone integration
("CTI") applications and long distance calling services. Inter-Tel's products
and services include the AXXESS and Inter-Tel Axxent digital business
communication software platforms, the AXXESSORY Talk voice processing platform,
the Inter-Tel Vocal'Net IP telephony gateway, the Inter-Tel Vocal'Net Service
Provider Software and Centralized Accounting Software and Inter-Tel.net, an IP
telephony packet switched long distance service. The Company also provides
maintenance, leasing and support services for its products. The Company's Common
Stock is quoted on the Nasdaq National Market System under the symbol INTL.
The Company has developed a distribution network of direct sales
offices, dealers and value added resellers (VARs) which sell the Company's
products to small-to-medium-size organizations and to divisions or departments
of larger organizations, including Fortune 500 companies, large service
organizations and governmental agencies. The Company has 30 direct sales offices
in the United States, one in the United Kingdom, one in Japan and a network of
hundreds of dealers and VARs who purchase directly from the Company.
Industry Background
In recent years, advances in telecommunications technologies have
facilitated the development of increasingly sophisticated telephone systems and
applications. Users rely upon a variety of applications, including conference
calling, speaker phones, automated attendant, voice processing and unified
messaging (the integration of voice mail, facsimile and electronic mail), to
improve communications within their organizations and with customers and
vendors. Digital technology has facilitated the integration of computing and
telecommunications technologies, which has made possible a number of new
applications that further enhance productivity. Examples of these applications
include automatic call distribution (which provides for queuing and
prioritization of incoming calls), call accounting (which permits accounting for
telephone usage and toll calls), unified messaging, electronic data interchange
between customers and vendors and the use of automatic number identification
coupled with database look-up (where customer information is retrieved
automatically from a computerized database when the customer calls).
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The emergence of high-performance, low-cost computers and the growth of
the Internet and other digital IP networks have enabled real-time voice
communications to be transmitted on digital packet switched networks rather than
over traditional circuit switched telephone networks. This development of voice
applications for the Internet and other IP networks reflects a broader
convergence of standard voice communications and data networks. Because IP
network telephony converts all transmissions to the same type of packets, both
voice and data can use the same data circuits, thereby increasing efficiency and
maximizing the use of available bandwidth. The lowering of federal regulatory
barriers to competition across traditionally distinct sectors of the
telecommunications industry has opened new markets for and increased competitive
pressures on telecommunications companies. In response to these factors,
telecommunications companies have begun to establish a presence in Internet and
other IP network voice communications services.
Following the breakup of the Bell system in 1984, which removed
restrictions on the ability of the RBOCs to purchase telecommunications
equipment from independent suppliers and to resell such equipment to end users,
the market for telecommunications systems and applications became increasingly
fragmented. The number of independent suppliers and distributors of
telecommunications equipment initially increased, but increased levels of
competition subsequently led to consolidation among suppliers and distributors.
In addition, different telecommunications systems and applications were often
available from only one or a limited number of suppliers, which required
businesses seeking complete systems to work with a number of different
suppliers. A business seeking a telephone system, voice mail and long distance
services would most likely purchase the products and services from three
separate vendors. As business telecommunications requirements have become more
advanced, the integration of different systems has become increasingly
difficult.
Strategy
Inter-Tel's objective is to continue to strengthen its position as a
leading single-source provider of telecommunications equipment, software
applications and network services. The Company's strategy incorporates the
following key elements:
Offer Total Telephony Solution
The Company intends to continue to offer a broad range of products and
services that incorporates advanced technologies and provides customers with a
single source to fulfill their telecommunications needs on a cost-effective
basis. Inter-Tel couples this solution-oriented approach with a high level of
customer service and support and a commitment to quality throughout the
Company's operations. The Company's telephone systems are integrated with the
Company's long distance calling services, voice mail, automated attendant and
other telecommunications applications, support for interactive voice response.
Because of the modular design of the Company's systems and the high level of
software content in its products, customers can readily increase the size and
functionality of their systems as their needs change by adding software and
hardware applications or services or by upgrading to new systems or advanced
versions of existing systems. The Company believes that its customers prefer to
purchase telecommunications equipment and services from a single source because
of the convenience, consistency of service, ease of upgrade, availability of
financing alternatives and confidence in the performance of integrated systems
and services.
Accelerate Adoption of Inter-Tel Vocal'Net Gateway
In September 1997, Inter-Tel commercially released Inter-Tel Vocal'Net,
a gateway for bridging public circuit switched telephone networks and IP packet
switched networks such as the Internet. The Company intends to focus its initial
marketing efforts on existing customers as well
4
as other multi-location companies and international enterprises. Inter-Tel
Vocal'Net can be used to reduce an enterprise's communications costs through
more effective use of its data network and reduced use of traditional long
distance services. In addition, the Company plans to pursue relationships with
ISPs, long distance resellers, cable television companies and other service
providers that choose to establish alternative networks to compete with
traditional long distance services and to provide additional applications to
their customers.
Expand Inter-Tel.net Network
The Company is currently developing and implementing its own private IP
telephony network, Inter-Tel.net, to carry telephone traffic at rates typically
lower than those of standard telephone networks. To date, the Inter-Tel.net
network has established points of presence in the San Francisco Bay Area,
Washington, D.C., Chicago, Reno, New York, Phoenix and Los Angeles. The Company
intends to expand the number of points of presence, both domestically and
internationally, as well as increase capacity in existing cities. Inter-Tel.net
is designed to carry long distance traffic originated from Inter-Tel's customer
base and provide other exchange carriers, individuals, and enterprises a
cost-effective alternative to current offerings of the conventional circuit
switched long distance carriers.
Continue to Develop Advanced Communications Products
The Company commits substantial research and development resources in
order to provide its customers with advanced telecommunications technologies on
a cost-effective basis. The Company has developed an extensive C++ library and
significant telecommunications expertise. In many cases, the Company develops
new technologies as software upgrades or add-ons to existing products. In this
regard, the AXXESS 5.0 platform, which is currently scheduled for release in the
first half of 1998, will provide an extensive enhancement of AXXESS, the
Company's primary product. Ongoing research and development efforts are directed
to the development of new products, applications and services for sale into the
Company's existing customer base and to new customers. Through CTI applications
and advanced network services, Inter-Tel provides technology that is designed to
enable its customers to improve their efficiency and enhance their
competitiveness.
Expand Distribution Channels
The Company continues to expand its distribution channels through a
growing network of direct dealers, expansion of the Company's direct sales
presence, hiring additional direct sales personnel and extension into
international markets. The Company has established sales relationships with
hundreds of direct dealers and continues to expand this network. The Company is
in the process of establishing dealer networks in Japan and other parts of Asia
and is expanding its dealer network in the United Kingdom and Europe. The
Company has expanded its direct sales activity in recent periods through
strategic acquisitions of resellers of telephony products and services in areas
where the Company has existing direct sales offices and other strategic markets,
and considers additional acquisition opportunities on an ongoing basis. The
Company also is expanding its distribution into other channels such as computer
equipment dealers, resellers of data communications equipment and software
resellers.
Products and Services
The Company offers a broad range of products and services designed to
support the needs of businesses and other organizations requiring voice and data
communications systems. The Company's principal products are digital telephone
systems which support installations up to 512 ports, IP telephony products and
services, CTI applications, unified messaging software and voice processing
software. The Company's principal system sales consist of systems supporting 10
to 300 telephones with suggested retail prices of up to $300,000 per system,
depending on
5
configuration. The Company also offers long distance calling services, network
design and implementation services, maintenance, leasing and support services,
and resells other telecommunications products.
Digital Communication Platforms
Inter-Tel offers an extensive line of digital communication systems,
including hardware platforms and C++ software applications. Because these
platforms are based upon open architecture and conform to established computer
and telephone industry standard programming interfaces and protocols (such as
TAPI, TSAPI and TCP/IP), customers can choose from a variety of either server
level or desktop applications.
AXXESS. Inter-Tel's primary product, the AXXESS platform, incorporates
advanced technology for computer and telephone integration providing businesses
with the ability to customize applications to enhance their operations and
increase productivity. The current AXXESS system release supports up to 512
ports and includes such advanced capabilities as primary rate ISDN, integrated
call recording, voice prompts in different languages, and a Windows-based
attendant's console. The AXXESS 5.0 platform, which is currently scheduled for
release in the first half of 1998, is designed to allow, through fully
transparent digital networking, two or more systems to operate as one, and to
increase capacity to 5,000 ports. AXXESS 5.1, currently scheduled for release in
the second half of 1998, is designed to increase capacity to 20,000 ports.
The system incorporates fully-digital processing and transmission to
the desktop and open architecture interfaces which allow the system to be
integrated with and controlled by attached computers such as PCs and
workstations. The system incorporates object-oriented C++ software developed by
the Company, which facilitates upgrades and the incorporation of additional
features and functionality.
AXXESS system telephones incorporate user-friendly, 6-by-16 character
LCD displays with menu keys that permit the user to select from multiple menu
choices or access additional menu screens. AXXESSORY Talk, permits push-button
selection of voice processing commands to appear on the telephone's LCD display,
as well as voice-prompted selections through the telephone keypad. The AXXESS
system is multi-lingual, currently offering English or Japanese voice prompts
and LCD displays and allowing the user to switch from one language to the other.
Spanish is scheduled for controlled product introduction in the second quarter
of 1998. Additional languages can be added in the future.
The open architecture interface permits tight integration with a PC or
workstation system bus, using several industry-standard interfaces to provide
efficient access to voice processing and other applications on the PC or
workstation. Applications include database look-up (which utilizes Caller-ID
information to retrieve customer information automatically from a computerized
database), automated attendant, interactive voice response, automatic call
distribution (which queues and prioritizes incoming calls), and call accounting
(which permits the monitoring of telephone usage and toll cost). The AXXESS
system is managed through a Microsoft Windows-based graphical user interface on
a PC to facilitate installation, system configuration and programming.
The AXXESS system utilizes advanced software to configure and utilize
real-time digital signal processor semiconductor components ("DSPs")
incorporated into the system hardware. The use of DSPs and related software
lowers system costs, permits higher functionality and increases system
flexibility. For example, DSPs can be configured by the system manager for
different combinations of speakerphones, conference capabilities and other
DSP-based facilities. The system's speakerphones incorporate full-duplex
technology, which permits speakerphones to transmit in both directions at the
same time without the necessity to override one speaker's voice to prevent
feedback interference.
6
The AXXESS software is written in a high-level, object-oriented
language which can operate on many commonly used processors. Accordingly, the
software can be readily ported to other hardware platforms. The Company intends
to port the AXXESS software to faster microprocessors which will permit the
AXXESS to grow to a much larger size, in order to enhance the functionality and
performance of these larger systems and to permit a migration path from the
smaller AXXESS system as a customer's system requirements increase.
Inter-Tel Axxent. Small businesses are demanding advanced telephony
applications formerly within reach of only large corporations. The Inter-Tel
Axxent is designed to bring many of the advanced features and functionality of
the AXXESS system to smaller installations on a cost-effective basis while
enabling users to migrate to an AXXESS system as their telecommunications needs
evolve. The Inter-Tel Axxent supports 24 lines and 12 trunks and provides
capabilities such as computer telephone integration, DSP technology, real-time
ACD reporting, and integrated voice processing. Housed in a compact, PC-type
mid-tower chassis, the Inter-Tel Axxent platform also offers the convenience of
a default database so the system is fully operational as soon as it is plugged
in. Basic database programming can also be performed through the digital
telephone terminals.
IP Network Gateway and Inter-Tel.net Network
Gateway products are designed as transition points between two
different network types, such as between the public circuit switched telephone
network and a packet switched IP network such as the Internet. Gateway products
convert regular voice transmissions to or from the compressed data packets that
travel over packetized networks.
In September 1997, the Company released Inter-Tel Vocal'Net, a
stand-alone IP network telephony solution available for use with the AXXESS
system or other traditional telephone systems equipped with T-1/E-1, ISDN or
analog capability. It provides a gateway for bridging the telephone network and
a company's intranet or the Internet. With the Inter-Tel Vocal'Net gateway,
users can conduct real-time, two-way voice communications over the Internet and
realize potential savings compared to standard long distance telephone service.
Designed to meet the needs of most businesses, the Inter-Tel Vocal'Net gateway
is available in multiple port sizes.
Inter-Tel Vocal'Net does not require customized telephone sets or
specialized software or cards in each desktop computer. Further, Inter-Tel
Vocal'Net does not rely on the central processing unit of the computer for the
compression or packetization of information, but instead uses high speed DSPs,
enabling the server to handle additional functions such as unified messaging.
A caller can dial from a standard telephone to the Inter-Tel Vocal'Net
gateway, which connects the call from the circuit switched telephone network,
converts it into the compressed, digitized data packets used by an IP network,
and routes the call via the IP network to another Inter-Tel Vocal'Net gateway.
The second gateway connects with the regular telephone system and dials the
final destination.
When used in a corporate environment, Inter-Tel Vocal'Net can be
attached to a T-1/E-1, ISDN or analog trunk interface on the PBX, and the PBX's
Automatic Route Selection or Least Cost Routing features will be programmed to
automatically route calls for other locations that have Inter-Tel Vocal'Net
Servers through that trunk interface. When phone users wish to place a call,
they simply dial the desired telephone number like any other call. The PBX will
route the call to Inter-Tel Vocal'Net, which converts it into the compressed,
digitized data packets used by an IP network, and routes the call via the IP
network to another Inter-Tel Vocal'Net gateway. The second gateway connects with
the far-end PBX and dials either the extension number of the desired party or
accesses a trunk on the PBX and makes a call into the switched network.
7
Because IP network telephony converts all transmissions to the same
type of packets, both voice and data can use the same data circuits, thereby
increasing efficiency and maximizing the use of bandwidth. Bandwidth utilization
can be maximized to a point that some users may be able to reduce the overall
number of circuits needed.
In its initial commercial release, Inter-Tel Vocal'Net is designed to
work with business telephone systems that operate over T-1/E-1, ISDN and analog
lines, and to handle up to 24 simultaneous calls per server. Inter-Tel Vocal'Net
servers can also be networked to operate seamlessly in configurations consisting
of thousands of ports. The Company is currently developing additional
enhancements, including industry standard compatibility (H.323) for integration
with PC-based software applications and other types of gateways as well as a fax
gateway to provide fax and broadcast fax capabilities across the Internet. Other
planned enhancements to the Inter-Tel Vocal'Net include functionality designed
to allow businesses to create virtual offices, enabling traveling or off-site
employees to connect to the main office from remote locations. Another planned
application is "Touch-To-Talk" telephony-enabled web pages, which will allow
users to press a link on a web page and to automatically connect over an IP
network to talk to customer service agents.
In addition to the Vocal'Net Gateway Server, Inter-Tel has developed
the Inter-Tel Vocal'Net Service Provider and Centralized Accounting System which
provides a centralized pre-paid and post-paid billing system for IP Telephony
service providers. This system provides back-office support necessary to run an
IP Telephony service business. Future planned enhancements to the Service
Provider and Centralized Accounting System include the integration of an H.323
Gatekeeper to allow the system to provide pre-paid and post-paid billing
services for compatible H.323 gateways, routers, or software clients.
Utilizing Inter-Tel Vocal'Net technology, Inter-Tel continues to
develop and expand Inter-Tel.net, a private IP network designed to carry long
distance telephone traffic at rates typically lower than traditional long
distance providers. Inter-Tel.net is currently being used by the Company's
employees for calls between Inter-Tel.net's seven points of presence: the San
Francisco Bay Area, Washington D.C., Chicago, Reno, New York, Phoenix and Los
Angeles. In its initial commercial release, the Inter-Tel Vocal'Net gateway
supports calls placed from telephone to telephone. Later releases are planned to
support communications from telephone to computer, computer to telephone,
computer to computer and a facsimile machine to facsimile machine. See "Factors
That May Affect Future Operating Results--Developing Market for IP Network
Telephony; Uncertain Regulatory Environment," "--Risks Associated with Inter-Tel
Vocal'Net; Dependence upon IP Network Infrastructures; Risk of System Failure;
Security Risks" and "--Development and Maintenance of Inter-Tel.net Network."
Computer-Telephone Integration
Through CTI, the computer and the telephone are linked into one
environment. Inter-Tel's AXXESSORY Connect software for the AXXESS system
enables users to receive phone calls through their desktop PC. Using Caller
I.D., a caller's information can be retrieved from the company's database even
before the call is accepted. On an individual desktop or a company-wide network
basis, Inter-Tel offers a variety of products, such as AXXESSORY ACD, that can
manage automatic call distribution at peak efficiency or route incoming
telephone calls, based on various parameters, to a specific person. It can also
collect, analyze and report real-time call processing information for staff
forecasting and analysis.
Inter-Tel's software applications integrate, through the use of
Novell's TSAPI and Microsoft's TAPI standard interfaces, with other
"off-the-shelf" Windows applications such as personal information managers, call
routing or call management software that can further enhance customer service
while increasing call efficiency and employee productivity. Inter-Tel has formed
relationships
8
with a number of third party software developers to integrate with their
existing applications to create a working environment for database, personal
organizer, or terminal emulation programs.
If these "off-the-shelf" applications do not adequately meet the needs
of a customer, the open design of Inter-Tel's software enables independent
software developers to write custom applications through Inter-Tel's Developer's
Program. Alternatively, Inter-Tel's CTI Solutions Group can provide professional
consulting services or development of individual customer applications, for
either desktop or local area network ("LAN")-based applications.
Unified Messaging and Voice Processing Software
Inter-Tel's unified messaging software, Visual Mail, works in
conjunction with a variety of messaging platforms, including the Microsoft
Exchange messaging application, Lotus Notes, Lotus cc:Mail, Novell's GroupWise
and Internet mail applications such as Qualcomm's Eudora. Visual Mail integrates
all types of messages into a single-user interface on a PC, supports both voice
mail and facsimile mail and provides another means for improving workplace
productivity and retrieving messages from a PC connected to a modem.
Inter-Tel's AXXESSORY Talk, Axxent Talk and IVX500 are voice processing
platforms that work with Inter-Tel's communication platforms. All three
applications use the Multi-Vendor Interface Protocol ("MVIP"), an industry
standard for connecting multi-vendor PC-based boards in voice processing, data
switching and video systems.
Other Services and Products
Networking Technologies Integration. To develop a solid foundation for
state-of-the-art data and telecommunications networking, customers require
strategic network expertise from their networking provider. Inter-Tel designs,
installs and supports the complete integration of a customer's complex data and
telecommunications network, from land-based LANs to geographically dispersed
wide area networks ("WANs").
By forming relationships with major manufacturers of hardware and
software technologies, Inter-Tel provides the routers, ATM, LAN and WAN
switches, file servers, intelligent hubs and any other device required for the
customer's intranet or for usage of the Internet. Pre-sale design support,
project coordination for implementation, and installation support are offered on
the full line of Inter-Tel server-based telephony products and services.
Network and Long Distance Services. The Company, through its Inter-Tel
NetSolutions, Inc. subsidiary, resells a variety of long distance calling
services, including domestic and international calling services, 800 calling
services, dedicated services, voice and video conferencing, customized billing
and a variety of other telecommunication services. The Company believes that
certain of its customers desire the convenience of acquiring long distance
calling services through the same vendor that the customer uses to purchase its
other telephony equipment and services. The Company currently resells long
distance services pursuant to contracts with four of the six largest U.S. long
distance carriers. There can be no assurance that the Company will meet its
minimum use commitments, will be able to negotiate lower rates with carriers in
the event of any decrease in end user rates or will be able to extend its
contracts with long distance carriers on prices favorable to the Company.
Call centers using T-1 access for incoming toll-free traffic, sales
offices using NetSolutions' switched long distance or companies linking multiple
offices throughout the country on a frame relay network are examples of the
applications currently supported by Inter-Tel NetSolutions.
9
Leasing Services. The Company offers its Totalease program through its
Inter-Tel Leasing, Inc. subsidiary. Totalease enables an end user to acquire a
full range of telephony systems, applications, maintenance and support services,
as well as lease financing, from a single vendor. The Totalease contract
provides a total system solution to the customer at a set monthly cost, with
system expansion available at predictable additional fees. The typical Totalease
contract has a term of 60 months, with the customer entitled to renew the
contract at a specified price for up to an additional 36 months.
Inter-Tel also offers a line of low cost lease purchase financing.
Lease terms range from 24 to 84 months with $1.00, fixed and fair market value
purchase options. In addition, Inter-Tel will customize financing packages to
suit customers with special financial needs. By offering this type of financing
to acquire Inter-Tel products and services, the customer is able to lease
directly from the manufacturer and Inter-Tel, or the Inter-Tel dealer, is able
to maintain a close customer relationship.
Other Products. Inter-Tel also distributes other leading
telecommunications products from its Factored Products Division through its
direct sales offices, dealers and VARs. Factored Products represents products
that Inter-Tel has endorsed as leading communications peripherals utilized in
many day-to-day functions. Businesses require telecommunications products to
provide increased productivity, ease of operations and reliability. Many of
these products interface with Inter-Tel telephone systems. Inter-Tel's product
selection consists of videoconferencing, battery backup, headsets, surge
protection, paging equipment, wireless communications and data multiplexers.
Sales and Distribution
The Company has developed a distribution network of direct sales
offices, dealers and VARs which market the Company's products to small to medium
size organizations and divisions or departments of larger organizations. In the
United States, the Company has 30 direct sales offices and a network of hundreds
of dealers who purchase systems directly from the Company. Direct dealers are
typically located in geographic areas in which the Company does not maintain
direct sales offices. The Company also distributes its products through VARs.
These resellers have traditionally sold complex data solutions to customers, and
the Company is seeking to leverage this distribution network to capitalize on
the merging of the computer and telephony industries. The Company maintains a
dealer support office and direct sales office in the United Kingdom and has a
network of dealers in the United Kingdom and Europe. In addition, the Company
maintains a dealer support office and direct sales office in Japan.
The Company believes that its success depends in part upon the strength
of its distribution channels and the ability of the Company to maintain close
access to its end user customers. In recent periods, the Company has sought to
improve its access to end user customers by effecting strategic acquisitions of
resellers of telephony products and services in markets in which the Company has
existing direct sales offices and in other strategic markets. The Company has
expanded its direct sales office personnel from a total of 374 persons at
December 31, 1993 to a total of 822 at December 31, 1997.
The Company's sales through its direct sales offices as a percentage of
total sales have decreased from 66.4% of net sales in 1994 to 56.7% of net sales
in 1997. Sales to distributors, dealers, and VARs have increased from 24.5% of
net sales in 1994 to 28.0% of net sales in 1997. Sales through the Company's
long distance and network services operation have increased from 3.4% of net
sales in 1994 to 8.1% of net sales in 1997.
Direct dealers and VARs typically enter into non-exclusive reseller
contracts for a term of one or more years. The Company generally provides
support and other services to the reseller pursuant to the terms of the
agreement. The agreements often include requirements that the reseller meet or
use its best efforts to meet minimum annual purchase quotas. The Company faces
intense
10
competition from other telephone system and voice processing system
manufacturers for its dealers' attention, as most of the Company's dealers carry
products which compete with the Company's products. There can be no assurance
that any such dealer will not promote the products of the Company's competitors
to the detriment of the Company's products. The loss of any significant dealer
or group of dealers, or any event or condition adversely affecting the Company's
dealer network, could have a material adverse effect on the Company's business,
financial condition and operating results. See "Factors That May Affect Future
Operating Results--Reliance on Dealer Network."
International sales, which to date have been made through the Company's
United Kingdom and Japan subsidiaries, accounted for approximately 2.3%, of net
sales in 1997. In order to sell its products to customers in other countries,
the Company must comply with local telecommunications standards. The Company's
AXXESS system can be readily altered through software modifications, which the
Company believes will facilitate compliance with these local regulations. In
addition, the AXXESS system has been designed to support multi-lingual
functionality, and currently supports English and Japanese. The Company is
presently establishing dealer networks in Japan and other parts of Asia and is
working to expand its dealer network in the United Kingdom and Europe.
International sales are subject to a number of risks, including changes in
foreign government regulations and telecommunications standards, export license
requirements, tariffs and taxes, other trade barriers, fluctuations in currency
exchange rates, difficulty in collecting accounts receivable, difficulty in
staffing and managing foreign operations and political and economic instability.
Fluctuations in currency exchange rates could cause the Company's products to
become relatively more expensive to customers in a particular country, leading
to a reduction in sales or profitability in that country. In addition, the costs
associated with developing international sales may not be offset by increased
sales in the short term, or at all.
Customer Service and Support
The Company believes that customer service and support are critical
components of customer satisfaction and the success of the Company's business.
The Company operates a technical support hotline to provide a range of telephone
support to its distributors, dealers and end user customers through a toll-free
number. The Company also provides on-site customer support and, through remote
diagnostic procedures, has the ability to detect and correct system problems
from its technical support facilities.
Information taken from customer call records allows feedback into
Inter-Tel's Quality First continuous improvement process, thus providing a road
map for continuous product and service enhancements. Each direct sales office is
given a periodic service activity report summarizing the reasons that
technicians are asking for assistance and common issues that give rise to
technical inquiries. This allows them to analyze trends in their service
operations and provide better customer service.
Research and Development
The Company believes that its ability to enhance its current products,
develop and introduce new products on a timely basis, maintain technological
competitiveness and meet customer requirements are essential to the Company's
success. The Company's research and development efforts over the last several
years have been focused primarily on development of and enhancements to the
existing AXXESS and AXXESSORY Talk systems with additional applications,
capacity and features, developing a unified messaging software application,
developing a telecommunications networking package, and developing new products
like the Inter-Tel Vocal'Net Server. Current efforts are related to support the
development and enhancement of IP telephony products like the Inter-Tel
Vocal'Net Gateway Server, the Vocal'Net Service Provider Package, the support of
H.323 on both the gateway and service provider products, development of
additional applications and features
11
of the AXXESS and AXXESSORY Talk communications products. The software-based
architecture of the AXXESS system facilitates maintenance and support, upgrades,
and incorporation of additional features and functionality.
The Company had a total of 97 personnel engaged in research and
development as of December 31, 1997. Research and development expenses were
$7,998,000; $6,581,000 and $5,764,000 for 1997, 1996, and 1995, respectively.
Manufacturing
The Company manufactures substantially all of its systems through third
party subcontractors located in the United States, China and the Philippines.
These subcontractors use both standard and proprietary integrated circuits and
other electronic devices and components to produce telephone switches,
telephones and printed circuit boards to the Company's engineering
specifications and designs. The suppliers also inspect and test the equipment
before delivering them to the Company, which in some cases then performs systems
integration, software loading, final testing and shipment. Varian, a
multinational electronic company, currently manufacturers a significant portion
of the Company's products, including substantially all of the printed circuit
boards used in the AXXESS and Inter-Tel Axxent systems, at Varian's Tempe,
Arizona facility. If Varian or any of the Company's other manufacturers were
unable or unwilling to manufacture the Company's products in the future, the
Company could experience substantial delays in finding alternative sources,
which could have a material adverse effect on the Company's business and
operating results. The Company maintains written agreements with its principal
suppliers. The Company provides a forecast schedule to its suppliers and revises
the forecast on a periodic basis.
Foreign manufacturing facilities are subject to changes in governmental
policies, imposition of tariffs and import restrictions, and other factors
beyond the Company's control. Certain of the microprocessors, integrated
circuits and voice processing interface cards used in the Company's systems are
currently available from a single or limited sources of supply. From time to
time, the Company experiences delays in the supply of components and finished
goods. Delay or lack of supply from existing sources or the inability to develop
alternative sources if and when required in the future could materially and
adversely affect operating results. See "Risk Factors--Dependence on Contract
Manufacturers and Component Suppliers."
Quality
The Company believes that the quality of its systems, customer service
and support, and other aspects of its organization is a critical element of
meeting the needs of its customers. Through its Quality First continuous
improvement process initiated in 1991, Inter-Tel implements quality processes
throughout its business operations. The Company has established formal
procedures to ensure responsiveness to customer requests, to monitor response
times and to measure customer satisfaction. The Company has also established
means by which all end users, including customers of the Company's resellers,
can make product enhancement requests directly to the Company. The Company
supports its dealers and VARs through an extensive training program at the
Company's facility and at dealer sites, a toll-free telephone number for sales
and technical support, and the provision of end user marketing materials. The
Company typically provides a one year warranty on its systems to end users. In
manufacturing, the Company continuously monitors the quality of the products
produced on its behalf by the Company's manufacturing subcontractors, and is
extending the Company's Quality First continuous improvement process to its
suppliers.
12
Competition
The market for the Company's products is highly competitive and in
recent periods has been characterized by pricing pressures and business
consolidations. The Company's competitors include Lucent Technologies, Inc.
("Lucent") and Northern Telecom Limited ("NorTel"), as well as Comdial
Corporation ("Comdial"), EXECUTONE Information Systems, Inc. ("Executone"),
Iwatsu America, Inc. ("Iwatsu"), Mitel Corporation ("Mitel"), NEC Corporation
("NEC"), Nitsuko Corporation ("Nitsuko"), Matsushita Electric Industrial Co.,
Ltd. ("Panasonic"), Siemens Rolm Communications, Inc. ("Siemens"), Toshiba
America, Inc. ("Toshiba") and others. Many of these competitors have
significantly greater financial, marketing and technical resources than the
Company. The Company also competes against the regional Bell operating companies
("RBOCs"), which offer systems produced by one or more of the aforementioned
competitors and also offer Centrex systems in which automatic calling facilities
are provided through equipment located in the telephone company's central
office.
The Telecommunications Act of 1996 (the "Telecommunications Act") and
AT&T Corporation's ("AT&T") announcement to divide itself into three enterprises
has had an impact on competition in the communications industry. The
Telecommunications Act opened the market for telephone and cable television
services, forcing telephone companies to open their networks to competitors and
giving consumers a choice of local phone carriers. Conversely, local phone
companies are now able to offer long distance services. In addition, cable
television companies can offer telephone services and Internet access. These
changes have increased competition in the communications industry and have
created additional competition and opportunities in customer premise equipment,
as these new services and interfaces have become available.
In the market for voice processing applications, including voice mail,
the Company competes against Applied Voice Technology, Inc. ("AVT"), Active
Voice Corporation ("Active Voice"), Centigram Communications Corporation
("Centigram"), Lucent and other competitors, certain of which have significantly
greater resources than the Company. In the market for long distance services,
the Company competes against AT&T, MCI Communication Corporation, Sprint
Corporation, Qwest Communications Corporation and other competitors, many of
which have significantly greater resources than the Company. The Company also
expects to compete with RBOCs, cable television companies, satellite and other
wireless broadband service providers and others for long distance business as
those companies gradually respond to the Telecommunications Act. Key competitive
factors in the sale of telephone systems and related applications include price,
performance, features, reliability, service and support, name recognition and
distribution capability. The Company believes that it competes favorably in its
markets with respect to the price, performance and features of its systems, as
well as the level of service and support that the Company provides to its
customers. Certain of the Company's competitors have significantly greater name
recognition and distribution capabilities than the Company. The Company expects
that competition will continue to be intense in the markets addressed by the
Company, and there can be no assurance that the Company will be able to continue
to compete successfully.
In the market for IP telephony products, the Company competes against
existing IP telephony gateway providers such as Lucent, NetSpeak Corporation,
VocalTec Communications Ltd., Vienna Systems Corporation and others. Several of
these competitors have been active in developing and marketing IP telephony
products for a greater period of time than the Company and have already
established relationships with customers within their market. In addition, the
Company could face significant competition from vendors such as Cisco Systems,
Inc., Bay Networks, Inc., 3Com Corporation, Motorola, Inc. and MICOM
Communications Corp., should such established data vendors choose to enter the
market for IP telephony products. Such companies currently produce products
that, if equipped with voice capabilities, could represent a considerable threat
to the Company within that market. Moreover, should the market for IP telephony
13
products become fully developed or develop at a rapid rate, large companies such
as IBM Corporation ("IBM") and Microsoft Corporation ("Microsoft") could choose
to develop proprietary software designed to facilitate voice communication over
an IP network.
As the Company enters the markets for local telephone service and IP
network access, it will face additional competition from RBOCs and other
providers, which have larger marketing and sales organizations, significantly
greater financial and technical resources and a larger and more established
customer base than the Company. In addition, RBOCs and other providers have
greater name recognition, more established positions in the market and long
standing relationships with customers. Therefore, there can be no assurance that
the Company will compete successfully in these markets.
Intellectual Property Rights
The Company's future success will depend in part upon its proprietary
technology. Although the Company has applied to the U.S. Patent and Trademark
Office for a patent related to certain aspects of the Inter-Tel Vocal'Net
technology, the Company currently has no issued patents and relies principally
on copyright and trade secret law and contractual provisions to protect its
intellectual property. There can be no assurance that any patent, trademark or
copyright owned by the Company will not be invalidated, circumvented or
challenged or that the rights granted thereunder will provide meaningful
protection or any commercial competitive advantage to the Company. Further,
there can be no assurance that others will not develop technologies that are
similar or superior to the Company's technology or that duplicate the Company's
technology. As the Company expands its international operations, effective
intellectual property protection may be unavailable or limited in certain
foreign countries. There can be no assurance that the steps taken by the Company
will prevent misappropriation of its technology. Litigation may be necessary in
the future to enforce the Company's intellectual property rights, to protect the
Company's trade secrets, to determine the validity and scope of the proprietary
rights of others, or to defend against claims of infringement or invalidity.
Such litigation could result in substantial costs and diversion of resources and
could have a material adverse effect on the Company's business and operating
results.
From time to time, the Company is subject to proceedings alleging
infringement by the Company of intellectual property rights of others. If any
such claim is asserted against the Company, the Company may seek to obtain a
license under the third party's intellectual property rights. There can be no
assurance that a license will be available on terms acceptable to the Company or
at all. In the alternative, the Company could resort to litigation to challenge
any such claim. Any such litigation could require the Company to expend
significant sums and could require the Company to pay significant damages,
develop non-infringing technology or acquire licenses to the technology which is
the subject of the asserted infringement, any of which could have a material
adverse effect on the Company's business and operating results. In the event
that the Company is unable or chooses not to license such technology or decides
not to challenge such third party's rights, the Company could encounter
substantial and costly delays in product introductions while attempting to
design around such third party rights, or could find that the development,
manufacture or sale of products requiring such licenses could be foreclosed.
Employees
As of December 31, 1997, the Company had a total of 1,248 employees, of
whom 1,029 were engaged in sales, marketing and customer support, 47 in quality,
manufacturing and related operations, 97 in research and development, and 75 in
finance and administration. The Company's future success will depend upon its
ability to attract, retain and motivate highly qualified employees, who are in
great demand. The Company believes that its employee relations are excellent.
14
Factors That May Affect Results of Future Operations
Rapid Technological Change; Dependence On Recently Introduced Products
The market for the Company's software, products and services is
characterized by rapid technological change and continuing demand for new
products, features and applications. Current competitors or new market entrants
may develop new products or product features that could adversely affect the
competitive position of the Company's products. Accordingly, the timely
introduction of new products and product features, as well as new
telecommunications applications, will be key factors in the Company's future
success.
During the past eighteen months, the Company introduced unified
messaging on its AXXESSORY Talk platform, developed a number of enhancements to
its existing AXXESS and AXXESSORY Talk platforms and introduced Inter-Tel
Vocal'Net. The Company is also currently in the later stages of developing the
AXXESS 5.0 platform, which is a significant software upgrade and enhancement to
its AXXESS and AXXESSORY Talk platforms. The Company's future success will
depend, in large part, upon the timely and successful introduction of the AXXESS
5.0 platform. The Company's future success will also depend upon market
acceptance of the Company's other new products or enhancements, including
Inter-Tel Vocal'Net. There can be no assurance that these introduced products
and enhancements will be successful. In the event that the Company were to fail
to successfully introduce new software, products or services or upgrades to its
existing systems or products on a regular and timely basis, demand for the
Company's existing software, products and services could decline, which could
have a material adverse effect on the Company's business and operating results.
Further, if the markets for IP network products or CTI applications fail to
develop or grow more slowly than the Company anticipates, or if the Company is
unable for any reason to capitalize on either of these emerging market
opportunities, the Company's business, financial condition and results of
operations could be materially adversely affected.
Occasionally, new products contain undetected program errors or "bugs"
when released. Such bugs may result from defects contained in software products
offered by the Company's suppliers or other third parties that are intended to
be compatible with the Company's products, over which the Company has little or
no control. Although the Company seeks to minimize the number of bugs in its
products by its test procedures and quality control, there can be no assurance
that its new products will be error free when introduced. Any significant delay
in the commercial introduction of the Company's products due to bugs, any design
modifications required to correct bugs or any impairment of customer
satisfaction as a result of bugs could have a material adverse effect on the
Company's business and operating results. In addition, new products often take
several months before their manufacturing costs stabilize, which may adversely
affect operating results for a period of time following introduction.
Developing Market for IP Network Telephony; Uncertain Regulatory Environment
The market for IP network voice communications products has only
recently begun to develop, is rapidly evolving and is characterized by an
increasing number of market entrants who have introduced or developed products
and services for Internet or other IP network voice communications. As is
typical in the case of a new and rapidly evolving industry, the demand for and
market acceptance of recently introduced IP network products and services are
subject to a high degree of uncertainty. There can be no assurance that voice
communications over IP networks will become widespread. Further, even if voice
communications over IP networks achieve broad market acceptance, there can be no
assurance that the Company's products, in particular Inter-Tel Vocal'Net, will
achieve market acceptance.
The adoption of voice communications over IP networks generally
requires the acceptance of a new way of exchanging information. In particular,
enterprises that have already invested
15
substantial resources in other means of communicating information may be
reluctant or slow to adopt a new approach to communications. The lack of control
over IP network infrastructure and each user's system configuration may cause
users of IP network voice communications delays in the transmission of speech,
loss of voice packets and inferior sound quality relative to standard telephony
networks. If these factors cause the market for IP network voice communications
to fail to develop or to develop more slowly than the Company anticipates, the
Company's IP network telephony products could fail to achieve market acceptance,
which in turn could have a material adverse effect on the Company's business,
financial condition and results of operations.
The regulatory environment for IP network telephony is subject to
substantial uncertainty. There can be no assurance that the sale and use of IP
network telephony products such as Inter-Tel Vocal'Net will not violate
telecommunications or other regulations in any of the countries in which such
products are or will be marketed and used. In the United States, the Company
believes that there are currently few laws or regulations directly applicable to
voice communications over IP networks or to access to, or commerce on, IP
networks generally. However, changes in the regulatory environment, particularly
in regulations relating to the telecommunications industry, could have a
material adverse effect on the Company's business. The increased commercial
acceptance of voice communications over IP networks could result in intervention
by governmental regulatory agencies in the United States or elsewhere in the
world under existing or newly enacted legislation and in the imposition of fees,
charges or taxes on users and providers of products and services in this area.
There can be no assurance that such intervention or imposition of fees, charges
or taxes would not have a material adverse effect upon the acceptance and
attractiveness of IP network voice communications. Moreover, legislative
proposals from international, federal and state government bodies could impose
additional regulations and obligations upon on-line service providers. The
growing popularity and use of the Internet has increased public focus and could
lead to increased pressure on legislatures to impose such regulations. The
Company cannot predict the likelihood that any future legislation or regulation
will be enacted, nor the financial impact, if any, of such resulting legislation
or regulation. In the future, the Company may also develop and introduce other
products with new or additional telecommunications capabilities or services,
which could be subject to existing federal government regulations or result in
the imposition of new government regulations, either in the United States or
elsewhere.
Risks Associated with Inter-Tel Vocal'Net; Dependence Upon IP Network
Infrastructures; Risk of System Failure; Security Risks
In September 1997, the Company began commercial shipment of Inter-Tel
Vocal'Net, its stand-alone IP telephony gateway product and, to date, revenues
from the sale of this product have not been significant. To achieve market
acceptance, Inter-Tel Vocal'Net will be required to demonstrate its
functionality, scalability and reliability, of which there can be no assurance.
In addition, there can be no assurance that Inter-Tel Vocal'Net will comply with
industry standards or that industry standards will not change and render
Inter-Tel Vocal'Net obsolete. In the event that Inter-Tel Vocal'Net fails to
achieve market acceptance, the Company's business, financial condition and
results of operations could be materially and adversely affected.
The success of Inter-Tel Vocal'Net will also depend upon, among other
things, the continued expansion of the Internet and other IP networks and their
network infrastructures. There can be no assurance that the infrastructure or
complementary products necessary to make the Internet a viable commercial
network will continue to be developed. In addition, there can be no assurance
that IP networks will retain their current volume, distance and
time-of-day-independent pricing structure, or that the costs of access to IP
networks, lack of capacity or poor voice transmission quality of IP networks
will not adversely affect the market for IP network products and services.
Moreover, critical issues concerning the commercial use of the Internet
(including security, reliability, cost, ease of use and access and quality of
service) remain unresolved and may affect the growth of IP network use.
16
There can be no assurance that the Internet will be able to meet additional
demand or its users' changing requirements on a timely basis, at a commercially
reasonable cost, or at all.
The Inter-Tel Vocal'Net gateway can be vulnerable to computer viruses
or similar disruptive problems. Computer viruses or problems caused by third
parties could lead to interruptions, delays or cessation of service. Further,
inappropriate use of the Internet or other IP networks by third parties could
potentially jeopardize the security of confidential information, such as credit
card or bank account information or the content of conversations over the IP
network, which may deter certain persons from ordering and using the Company's
products. Until more comprehensive security technologies are developed, the
security and privacy concerns of existing and potential users may inhibit the
growth of IP networks in general and the market for the Company's IP network
products in particular.
Development and Maintenance of Inter-Tel.net Network
The Company is currently utilizing its Inter-Tel Vocal'Net technology
to develop and expand its own IP network, Inter-Tel.net, to carry telephone
traffic. The Inter-Tel.net network is in its initial stages of deployment and,
accordingly, is subject to a high degree of risk. To date, the Inter-Tel.net
network has established points of presence in the San Francisco Bay Area,
Washington, D.C., Chicago, New York, Phoenix, Reno and Los Angeles. If the
market for IP network products fails to develop or develops more slowly than the
Company anticipates, the Company's Inter-Tel.net network could become
financially burdensome to maintain or obsolete, either of which could materially
and adversely affect the Company's business, financial condition and results of
operations.
The Company is dependent on third-party suppliers of telecommunications
and Internet network transmission services for implementation of Inter-Tel.net
and does not currently have long-term contracts with such suppliers. The
Company's ability to expand Inter-Tel.net is dependent upon its ability to
obtain services from such suppliers. Certain of these third party suppliers are
or may become competitors of the Company, and such suppliers generally are not
subject to restrictions upon their ability to compete with the Company. To the
extent that any of these suppliers raise their rates or change their pricing
structure, the Company may be materially adversely affected. Also, the Company
faces the risk that there will be a disruption in the service provided by these
suppliers, and can give no assurance that there will not be a significant
disruption in such service in the future, thereby causing a disruption in the
services provided by the Company to its customers.
Moreover, although the Company has devoted, and intends to continue to
devote, substantial resources to improve the quality of telephone conversations
using Inter-Tel Vocal'Net and the Inter-Tel.net network, there can be no
assurance that the problems of voice communications over the Inter-Tel.net
network that exist today, including delays in the transmission of speech, loss
of voice packets and sound quality inferior to that of standard telephony
networks, will be eliminated or reduced. In the event that the Company is unable
to improve upon the sound quality and other limitations of voice communications
over the Inter-Tel.net network and to offer such improvements to its customers
on a cost-effective basis, the Inter-Tel.net network could fail to achieve
market acceptance, and the Company's business, financial condition and results
of operations could be materially and adversely affected.
Highly Competitive Industry
The market for the Company's products is highly competitive and in
recent periods has been characterized by pricing pressures and business
consolidations. The Company's competitors include Lucent and NorTel, as well as
Comdial, Executone, Iwatsu, Mitel, NEC, Nitsuko, Panasonic, Siemens, Toshiba and
others. Many of these competitors have significantly greater financial,
marketing and technical resources than the Company. The Company also competes
against the RBOCs, which offer systems produced by one or more of the
aforementioned competitors and also
17
offer Centrex systems in which automatic calling facilities are provided through
equipment located in the telephone company's central office.
The Telecommunications Act and AT&T's announcement to divide itself
into three enterprises has had an impact on competition in the communications
industry. The Telecommunications Act opened the market for telephone and cable
television services, forcing telephone companies to open their networks to
competitors and giving consumers a choice of local phone carriers. Conversely,
local phone companies are now able to offer long distance services. In addition,
cable companies can offer telephone services and Internet access. These changes
have increased competition in the communications industry and have created
additional competition and opportunities in customer premise equipment, as these
new services and interfaces have become available.
In the market for voice processing applications, including voice mail,
the Company competes against AVT, Active Voice, Centigram, Lucent and other
competitors, certain of which have significantly greater resources than the
Company. In the market for long distance services, the Company competes against
AT&T, MCI, Sprint Corporation, Qwest Communications Corporation and other
competitors, many of which have significantly greater resources than the
Company. The Company will also compete with RBOCs, cable television companies,
satellite and other wireless broadband service providers, and others for long
distance business as those companies gradually respond to the Telecommunications
Act. Key competitive factors in the sale of telephone systems and related
applications include price, performance, features, reliability, service and
support, name recognition and distribution capability. The Company believes that
it competes favorably in its markets with respect to the price, performance and
features of its systems, as well as the level of service and support that the
Company provides to its customers. Certain of the Company's competitors have
significantly greater name recognition and distribution capabilities than the
Company, although the Company believes that it has developed a competitive
distribution presence in certain markets, particularly those where the Company
has direct sales offices. The Company expects that competition will continue to
be intense in the markets addressed by the Company, and there can be no
assurance that the Company will be able to continue to compete successfully.
In the market for IP telephony products, the Company competes against
existing IP telephony gateway providers such as Lucent, NetSpeak Corporation,
VocalTec Communications Ltd., Vienna Systems Corporation and others. Several of
these competitors have been active in developing and marketing IP telephony
products for a greater period of time than the Company and have already
established relationships with customers within their market. In addition, the
Company could face significant competition from vendors such as Cisco Systems,
Inc., Bay Networks, Inc., 3Com Corporation, Motorola, Inc. and MICOM
Communications Corp., should such established data vendors choose to enter the
market for IP telephony products. Such companies currently produce products
that, if equipped with voice capabilities, could represent a considerable threat
to the Company within that market. Moreover, should the market for IP telephony
products become fully developed or develop at a rapid rate, large companies such
as IBM and Microsoft could choose to develop proprietary software designed to
facilitate voice communication over an IP network.
As the Company enters the markets for local telephone service and IP
network access, it will face additional competition from RBOCs and other
providers, which have larger marketing and sales organizations, significantly
greater financial and technical resources and a larger and more established
customer base than the Company. In addition, RBOCs and other providers have
greater name recognition, more established positions in the market and long
standing relationships with customers. Therefore, there can be no assurance that
the Company will compete successfully in these markets. Many of the Company's
current and potential competitors have longer operating histories, are
substantially larger, and have greater financial, manufacturing, marketing,
technical and other resources. A number also have greater name recognition and a
larger installed base of products than the Company. Competition in the Company's
markets may result in significant price
18
reductions. As a result of their greater resources, many current and potential
competitors may be better able than the Company to initiate and withstand
significant price competition or downturns in the economy. There can be no
assurance that the Company will be able to continue to compete effectively, and
any failure to do so would have a material adverse effect on the Company's
business, financial condition and operating results.
Management of Growth; Implementation of New Management Information Systems
The growth in the Company's business has placed, and is expected to
continue to place, a significant strain on the Company's personnel, management
and other resources. The Company's ability to manage any future growth
effectively will require it to attract, train, motivate and manage new employees
successfully, to integrate new employees into its overall operations and to
continue to improve its operational, financial and management information
systems.
The Company implemented a new MIS system late in 1995. The MIS system
significantly affected many aspects of the Company's business, including its
accounting, operations, purchasing, sales and marketing functions. Following the
date of implementation, the Company experienced difficulty with the new MIS
software, which increased the Company's costs, had an adverse effect on the
Company's ability to provide products and services to its customers on a timely
basis and caused delays in coordinating accounting and financial results. During
the fourth quarter of 1996, the Company determined that the limitations of the
existing system software would prevent Inter-Tel from establishing an integrated
and centralized dispatch and telemarketing center. As a result, the Company
signed an agreement with a large, established software and database vendor to
replace its existing MIS software and implement, maintain and support alternate
MIS software to be utilized throughout the Company. Accordingly, during the
fourth quarter of 1996, the Company wrote off the software license and
implementation costs relating to the system software being replaced.
The actions to replace the MIS software could result in additional
costs and delays associated with obtaining a fully functional MIS system,
including but not limited to the costs of procuring additional or alternate
hardware and software required but not available in the current system
configuration, and additional personnel. Any such cost or delay could have a
material adverse effect on the Company's business, financial condition and
operating results. In addition, implementation of this system software and the
transition from the current system software to the new information system
software will require substantial financial resources, time and personnel.
The Company has made strategic acquisitions in the past and expects to
continue to do so in the future. Acquisitions require a significant amount of
the Company's management attention and financial and operational resources, all
of which are limited. The integration of acquired entities may also result in
unexpected costs and disruptions and significant fluctuations in, or reduced
predictability of, operating results from period to period. There can be no
assurance that an acquisition will not adversely affect the business
relationships of the Company or the acquired entity with its respective
suppliers or customers. Further, there can be no assurance that the Company will
be able to successfully integrate any acquired operations or achieve any of the
intended benefits of an acquisition. The Company's failure to manage its growth
effectively could have a material adverse effect on its business, financial
condition and operating results.
Dependence Upon Contract Manufacturers and Component Suppliers
The Company currently procures certain components used in its digital
communication platforms, including certain microprocessors, integrated circuits,
power supplies, voice processing interface cards and IP telephony cards from a
single source or limited sources of supply and, accordingly, product
availability could be limited. As the Company deploys its IP telephony products
and the Inter-Tel.net network, the Company expects that it will be required to
increasingly rely upon third party software and hardware suppliers. The Company
currently manufactures its
19
products through a limited number of contract manufacturers located in the
United States, the Philippines and the People's Republic of China. Foreign
manufacturing facilities are subject to changes in governmental policies,
imposition of tariffs and import restrictions and other factors beyond the
Company's control. Varian Associates, Inc. ("Varian") currently manufactures a
significant portion of the Company's products at Varian's Tempe, Arizona
facility, including substantially all of the printed circuit boards used in the
AXXESS and Inter-Tel Axxent digital communication platforms. From time to time,
the Company has experienced delays in the supply of components and finished
goods, and there can be no assurance that the Company will not experience such
delays in the future. The Company's reliance on third party manufacturers
involves a number of additional risks, including reduced control over delivery
schedules, quality assurance and costs. Any delay in delivery or shortage of
supply of components or finished goods from Varian or any other supplier, or the
Company's inability to develop in a timely manner alternative or additional
sources if and when required, could damage the Company's relationships with
current and prospective customers and could materially and adversely affect the
Company's business, financial condition and operating results. The Company has
no long term agreements with its suppliers that require such suppliers to
provide fixed quantities of components or finished goods at set prices. There
can be no assurance that the Company will be able to continue to obtain
components or finished goods in sufficient quantities or quality or on favorable
pricing and delivery terms in the future.
Product Protection and Infringement
The Company's future success will depend in part upon its proprietary
technology. Although the Company has applied to the U.S. Patent and Trademark
Office for a patent related to certain aspects of the Inter-Tel Vocal'Net
technology, the Company currently has no issued patents and relies principally
on copyright and trade secret law and contractual provisions to protect its
intellectual property. There can be no assurance that any patent, trademark or
copyright owned by the Company will not be invalidated, circumvented or
challenged or that the rights granted thereunder will provide meaningful
protection or any commercial competitive advantage to the Company. Further,
there can be no assurance that others will not develop technologies that are
similar or superior to the Company's technology or that duplicate the Company's
technology. As the Company expands its international operations, effective
intellectual property protection may be unavailable or limited in certain
foreign countries. There can be no assurance that the steps taken by the Company
will prevent misappropriation of its technology. Litigation may be necessary in
the future to enforce the Company's intellectual property rights, to protect the
Company's trade secrets, to determine the validity and scope of the proprietary
rights of others, or to defend against claims of infringement or invalidity.
Such litigation could result in substantial costs and diversion of resources and
could have a material adverse effect on the Company's business, financial
condition and operating results.
From time to time, the Company is subject to proceedings alleging
infringement by the Company of intellectual property rights of others. If any
such claim is asserted against the Company, the Company may seek to obtain a
license under the third party's intellectual property rights. There can be no
assurance that a license will be available on terms acceptable to the Company or
at all. In the alternative, the Company could resort to litigation to challenge
any such claim. Any such litigation could require the Company to expend
significant sums, divert management's attention and require the Company to pay
significant damages, develop non-infringing technology or acquire licenses to
the technology which is the subject of the asserted infringement, any of which
could have a material adverse effect on the Company's business, financial
condition and operating results. In the event that the Company is unable or
chooses not to license such technology or decides not to challenge such third
party's rights, the Company could encounter substantial and costly delays in
product introductions while attempting to design around such third party rights,
or could find that the development, manufacture or sale of products requiring
such licenses could be foreclosed.
20
Reliance on Dealer Network
A substantial portion of the Company's net sales are made through its
network of independent dealers. The Company faces intense competition from other
telephone system and voice processing system manufacturers for such dealers'
business, as most of the Company's dealers carry products which compete with the
Company's products. The Company has no exclusive agreements with any of its
dealers. The loss of any significant dealer or group of dealers, or any event or
condition adversely affecting the Company's dealer network, could have a
material adverse effect on the Company's business, financial condition and
operating results.
Dependence on Key Personnel
The Company is dependent on the continued service of, and its ability
to attract and retain, qualified technical, marketing, sales and managerial
personnel. The competition for such personnel is intense, and the loss of any of
such persons, as well as the failure to recruit additional key technical and
sales personnel in a timely manner, would have a material adverse effect on the
Company's business and operating results. There can be no assurance that the
Company will be able to continue to attract and retain the qualified personnel
necessary for the development of its business.
Risks of Providing Long Distance and Network Services
Inter-Tel depends on its supply of telecommunications services and
information from several long distance carriers. Because it does not own
transmission facilities, the Company relies on long distance carriers to provide
network services to the Company's customers and for billing information. Long
distance services are subject to extensive and uncertain governmental regulation
on both the federal and state level. There can be no assurance that the
promulgation of certain regulations will not materially and adversely affect the
Company's business, financial condition and operating results. Contracts with
the long distance carriers from which the Company currently resells services
typically have a one year term in which the Company's prices are relatively
fixed and have minimum use requirements. The market for long distance services
is currently experiencing and is expected to experience in the future
significant price competition, resulting in decreasing end-user rates. There can
be no assurance that the Company will meet minimum use commitments, will be able
to negotiate lower rates with carriers in the event of any decrease in end user
rates or will be able to extend its contracts with long distance carriers at
prices favorable to the Company. The Company's ability to continue to expand its
long distance services depends upon its ability to continue to secure reliable
long distance services from a number of long distance carriers and the
willingness of such carriers to continue to provide telecommunications services
and billing information to the Company on favorable terms.
Potential Fluctuations In Quarterly Results; Limited Backlog
The Company's quarterly operating results depend upon a variety of
factors, including the volume and timing of orders received during the quarter,
the mix of products sold, mix of distribution channels, general economic
conditions, patterns of capital spending by customers, the timing of new product
announcements and releases by the Company and its competitors, pricing
pressures, the cost and effect of acquisitions, and the availability and cost of
products and components from the Company's suppliers. The Company's customers
typically require immediate shipment and installation of platforms and software.
As a result, the Company has historically operated with a relatively small
backlog, and sales and operating results in any quarter are principally
dependent on orders booked and shipped in that quarter. Historically, a
substantial portion of the Company's net sales in a given quarter have been
recorded in the third month of the quarter, with a concentration of such net
sales in the last two weeks of the quarter. Market demand for investment in
capital equipment such as digital communication platforms and associated call
processing and voice processing software applications is largely dependent on
general economic
21
conditions, and can vary significantly as a result of changing conditions in the
economy as a whole. The Company's expense levels are based in part on
expectations of future sales and, if sales levels do not meet expectations,
operating results could be adversely affected. Because sales of digital
communication platforms through the Company's dealers produce lower gross
margins than sales through the Company's direct sales organization, operating
results have varied, and will continue to vary based upon the mix of sales
through direct and indirect channels. Although the Company to date has been able
to resell the rental streams from leases under its Totalease program profitably
and on a substantially current basis, the timing and profitability of lease
resales from quarter to quarter could impact operating results, particularly in
an environment of fluctuating interest rates. Long distance sales, which have
lower gross margins than the Company's core business, have grown in recent
periods at a faster rate than the Company's overall net sales. As a result,
gross margins could be adversely affected in the event that long distance
calling services continue to increase as a percentage of net sales. In addition,
the Company is subject to seasonality in its operating results, as net sales for
the first and third quarters are frequently less than those experienced, in the
fourth and second quarters, respectively. As a result of these and other
factors, the Company has in the past experienced, and could in the future
experience, fluctuations in sales and operating results on a quarterly basis.
See "Management's Discussion and Analysis of Financial Condition and Results of
Operations."
Volatility of Stock Price
The market price for the Company's Common Stock has been highly
volatile. The Company believes that factors such as announcements of
developments relating to the Company's business, fluctuations in the Company's
operating results, shortfalls in revenue or earnings relative to securities
analysts' expectations, announcements of technological innovations or new
products or enhancements by the Company or its competitors, general conditions
in the telecommunications industry or the national or worldwide economy, changes
in legislation or regulation affecting the telecommunications industry, an
outbreak of hostilities, developments in intellectual property rights and
developments in the Company's relationships with its customers and suppliers
could cause the price of the Company's Common Stock to fluctuate, perhaps
substantially. Many of such factors are beyond the Company's control. In
addition, in recent years the stock market in general, and the market for shares
of technology stocks in particular, have experienced extreme price fluctuations,
which have often been unrelated to the operating performance of affected
companies. There can be no assurance that the market price of the Company's
Common Stock will not experience significant fluctuations in the future,
including fluctuations that are unrelated to the Company's performance.
Year 2000 Compliance
Many currently installed computer systems and software products are
coded to accept only two digit entries in the date code field. Beginning in the
year 2000, these date code fields will need to accept four digit entries to
distinguish 21st century dates from 20th century dates. As a result, in less
than two years, computer systems and/or software used by many companies may need
to be upgraded to comply with such "Year 2000" requirements. Significant
uncertainty exists in the software industry concerning the potential effects
associated with such compliance. The Company has established procedures for
evaluating and managing the risks and costs associated with Year 2000 problems
for its internal information systems, as well as its software, and, although the
Company currently offers software designed to be Year 2000 compliant, there can
be no assurance that the Company's software products contain all necessary date
code changes necessary to prevent processing errors potentially arising from
calculations using the Year 2000 date.
The Company has completed an assessment of its internal information
systems and believes the current software being implemented will function
properly with respect to dates in the Year 2000. The total costs of the new
software implementation are being capitalized as the Company has abandoned its
current MIS software in favor of a different system. The software is being
replaced with
22
an integrated solution from a more established vendor and was not in response to
the Year 2000 issue. The Company believes that with conversions to new software,
the Year 2000 will not pose significant operational problems for its computer
systems, based in part on the vendor's assurance that the software is Year 2000
compliant. The software conversion is estimated to be completed in phases in
1998 and 1999, which is prior to any estimated impact on its operating systems.
However, if such conversions are not completed timely, the Year 2000 issue could
have a material impact on the operations of the Company.
The Company believes that the purchasing patterns of customers and
potential customers may be affected by Year 2000 issues in a variety of ways.
Many companies are expending significant resources to correct or patch their
current software systems for Year 2000 compliance. These expenditures may result
in reduced funds available to purchase software products such as those offered
by the Company. Many potential customers may also choose to defer purchasing
Year 2000 compliant products until they believe it is absolutely necessary, thus
resulting in potentially stalled market sales within the industry. Conversely,
Year 2000 issues may cause other companies to accelerate purchases, thereby
causing an increase in short-term demand and a consequent decrease in long-term
demand for software products. Additionally, Year 2000 issues could cause a
significant number of companies, including existing customers of the Company, to
reevaluate their current communications platform, IP network telephony or voice
processing software needs, and as a result consider switching to other systems
or suppliers.
Concentration of Ownership
As of March 13, 1998, Steven G. Mihaylo, the Company's Chairman of the
Board of Directors and Chief Executive Officer beneficially owned approximately
20.0% of the outstanding shares of the Common Stock. As a result, he has the
ability to exercise significant influence over matters requiring shareholder
approval. In addition, the concentration of ownership could have the effect of
delaying or preventing a change in control of the Company.
Any of the foregoing could result in a material adverse effect on the
Company's business, financial condition and operating results.
23
DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT
Name Age Position
- ---- --- --------
Steven G. Mihaylo 54 Chairman of the Board of
Directors and Chief
Executive Officer
Thomas C. Parise 43 President and Chief
Operating Officer
Craig W. Rauchle 42 Executive Vice President
Ross McAlpine 46 Sr. Vice President
Kurt R. Kneip 35 Chief Financial Officer,
Vice President and Secretary
J. Robert Anderson 61 Director
Gary Edens 56 Director
Maurice H. Esperseth 72 Director
C. Roland Haden 57 Director
Norman Stout 40 Director
MR. MIHAYLO, the founder of the Company, has served as Chairman of the
Board of Directors of the Company since September 1983 and as Chief Executive
Officer of the Company since its formation in July 1969. Mr. Mihaylo served as
President of the Company from 1969 to 1983 and from 1984 to December 1994, and
as Chairman of the Board of Directors from July 1969 to October 1982. Mr.
Mihaylo also is a director of MicroAge, Inc. and Microtest, Inc.
MR. PARISE was elected President and Chief Operating Officer of the
Company in December 1994. He served as Senior Vice President of the Company from
1986 to 1994. He is also President of Inter-Tel Integrated Services, Inc., a
wholly owned research and development, manufacturing and distribution subsidiary
of the Company. Mr. Parise joined the Company in 1981 and became Branch General
Manager of the Phoenix Direct Sales Office in 1982. In 1983, he became the
Mountain Regional Vice President, and in January 1985 he was appointed Vice
President of Operations and Sales Support. Mr. Parise also is a director of
Globe Business Resources, Inc.
MR. RAUCHLE was elected Executive Vice President in December 1994. He
had been Senior Vice President of the Company and continues as President of
Inter-Tel Technologies, Inc., a wholly owned sales subsidiary of the Company. In
addition, he currently serves the Company and all subsidiaries in corporate
strategic planning and mergers and acquisitions activities. Mr. Rauchle joined
the Company in 1979 as Branch General Manager of the Denver Direct Sales Office
and in 1983 was appointed the Central Region Vice President and subsequently the
Western Regional Vice President. From 1990 to 1992, Mr. Rauchle served as
President of Inter-Tel Communications, Inc. He is also a director of Prologic
Management Systems, Inc.
MR. MCALPINE was elected Senior Vice President in September 1997. He
also has served as President of Inter-Tel Leasing, Inc., a wholly-owned
subsidiary of the Company, since April 1993, and President of Inter-Tel.net,
Incorporated and Inter-Tel NetSolutions, Inc. since 1997. He also served as Vice
President of Inter-Tel Communications, Inc. from April 1991 to April 1992 and
Treasurer since April 1992. He joined the Company in July 1991 when Inter-Tel
acquired Telecommunications Specialists, Inc. Prior to joining Inter-Tel, Mr.
McAlpine worked 17 years in the leasing and financial services industry. Mr.
McAlpine holds an undergraduate degree in Accounting from Southwest Texas State
University.
MR. KNEIP has served as Vice President and Chief Financial Officer of
the Company since September 1993. He was elected Secretary and Treasurer in
October 1994. In May 1996 he was elected Assistant Treasurer, as John Abbott was
elected Treasurer. He joined the Company in May
24
1992 as Director of Corporate Tax, after seven years with the accounting firm of
Ernst & Young. Mr. Kneip is a Certified Public Accountant, and holds an
undergraduate degree in Commercial Economics from South Dakota State University
and a Masters Degree in Professional Accountancy from the University of South
Dakota.
MR. ANDERSON has been a director of the Company since February 1997.
Mr. Anderson held various positions at Ford Motor Company from 1963 to 1983,
serving from 1978 to 1983 as President of the Ford Motor Land Development
Corporation. He served as Senior Vice President, Chief Financial Officer and a
member of the Board of Directors of The Firestone Tire and Rubber Company from
1983 to 1989, and as Vice Chairman of Bridgestone/Firestone, Inc. from 1989
through 1991. He most recently served as Vice Chairman, Chief Financial Officer
and a member of the Board of Directors of the Grumman Corporation from 1991 to
1994. Mr. Anderson is currently semi-retired, and he is an active leader in
various business, civic and philanthropic organizations.
MR. EDENS has been a director of the Company since October 1994. He was
a broadcasting media executive from 1970 to 1994, serving as Chairman and Chief
Executive Officer of Edens Broadcasting, Inc. from 1984 to 1994, when that
corporation's nine radio stations were sold. He is currently President of The
Hanover Companies, Inc., an investment firm. He is an active leader in various
business, civic and philanthropic organizations.
MR. ESPERSETH has been a director of the Company since October 1986.
Mr. Esperseth joined the Company in January 1983 as Senior Vice
President-Research and Development, after a 32-year career with GTE, and served
as Executive Vice President of Inter-Tel from 1986 to 1988. Mr. Esperseth
retired as an officer of the Company on December 31, 1989.
DR. HADEN has been a director of the Company since 1983. Dr. Haden has
been Vice Chancellor and Dean of Engineering of Texas A&M University since 1993.
Previously, he served as Vice Chancellor of Louisiana State University from 1991
to 1993, Dean of the College of Engineering and Applied Sciences at Arizona
State University from 1989 to 1991, Vice President for Academic Affairs at
Arizona State University from 1987 to 1988, and Dean of the College of
Engineering and Applied Sciences from 1978 to 1987. Dr. Haden holds a doctoral
degree in Electrical Engineering from the University of Texas and has also
served on the faculty of the University of Oklahoma.
MR. STOUT has been a director of the Company since October 1994. Mr.
Stout has been President of Superlite Block, a manufacturer of concrete block,
since February 1993. Since 1996 Mr. Stout has also been President of Oldcastle
Architectural West, the parent company of Superlite Block and four other
concrete products plants. Prior thereto he was employed by Boorhem-Fields, Inc.
of Dallas, Texas, a manufacturer of crushed stone, as Chief Executive Officer
from 1990 to 1993 and as Chief Financial Officer from 1986 to 1990. Previously,
Mr. Stout was a Certified Public Accountant with Coopers & Lybrand.
The Board of Directors has an Audit Committee and a Compensation
Committee. The Audit Committee, consisting of Directors Anderson, Stout and
Esperseth, is charged with reviewing the Company's annual audit and meets with
the Company's independent auditors to review the Company's internal controls and
financial management practices. The Compensation Committee, consisting of
Messrs. Esperseth, Edens and Stout, recommends to the Board of Directors
compensation for the Company's key employees and administers the Company's stock
option plans.
ITEM 2. PROPERTIES
The Company maintains its corporate headquarters in 23,000 square feet of a
building located in Phoenix, Arizona pursuant to a lease that expires in 2000,
and its principal manufacturing operations in an 96,000 square foot building
located in Chandler, Arizona pursuant to a lease that
25
expires in 2008. The Company also leases sales and support offices in a total of
30 locations in the United States and two locations overseas. The Company's
aggregate monthly payments under these leases are currently approximately
$271,000. The Company believes that its facilities will be adequate to meet its
current needs and that additional or alternative space will be available as
necessary in the future on commercially reasonable terms. See "Risk
Factors--Management of Growth; Implementation of New Management Information
Systems."
ITEM 3. LEGAL PROCEEDINGS
The Company is involved from time to time in litigation incidental to its
business. The Company believes that the outcome of current litigation will not
have a material adverse effect upon its business, financial condition or results
of operations and will not disrupt the normal operations of the Company.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
1. On November 12, 1997, the Company called a Special Meeting of
Shareholders for a proposal to approve an amendment to the
Company's Restated Articles of Incorporation to increase the
authorized number of Common Shares to 100,000,000. A quorum
was not present at the meeting.
2. On November 13, 1997, the Company again called a Special
Meeting of Shareholders for a proposal to approve an amendment
to the Company's Restated Articles of Incorporation to
increase the authorized number of Common Shares to
100,000,000. A quorum was not present at the meeting.
3. On November 14, 1997, the Company again called a Special
Meeting of Shareholders for a proposal to approve an amendment
to the Company's Restated Articles of Incorporation to
increase the authorized number of Common Shares to
100,000,000. A quorum was present at the meeting.
The proposal to approve an amendment to the Company's Restated
Articles of Incorporation to increase the authorized number of
Common Shares to 100,000,000 received the following votes:
Votes Percentage
----- ----------
For: 9,899,140 82.71%
Against: 1,751,065 14.63%
Abstain: 318,963 2.66%
PART II
ITEM 5. MARKET FOR THE REGISTRANT'S COMMON STOCK AND
RELATED STOCKHOLDER MATTERS
The information required by this Item is incorporated by reference
to Exhibit 13.0 and Page 38 of the Company's 1997 Annual Report to
Shareholders.
ITEM 6. SELECTED FINANCIAL DATA
The information required by this Item is incorporated by reference
to Exhibit 13.0 and Page 18 of the Company's 1997 Annual Report to
Shareholders.
26
ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL
CONDITION AND RESULTS OF OPERATIONS
The information required by this Item is incorporated by reference
to Exhibit 13.0 and Pages 30 through 37 of the Company's 1997
Annual Report to Shareholders.
ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
Not Applicable.
ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA
The information required by this Item is incorporated by reference
to Exhibit 13.0 and Pages 19 through 29 of the Company's 1997
Annual Report to Shareholders.
ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON
ACCOUNTING AND FINANCIAL DISCLOSURE
Not applicable.
PART III
Certain information required by Part III is omitted from this report in
that the Registrant will file a definitive proxy statement pursuant to
Regulation 14A (the "Proxy Statement") not later than 120 days after the end of
the fiscal year covered by this Report, and the information included therein is
incorporated herein by reference.
ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT
Information with respect to directors and executive officers is
included at the end of Part I, Item 1 on Pages 24 to 25 of this
report under the caption "Directors and Executive Officers of the
Registrant."
ITEM 11. EXECUTIVE COMPENSATION
The information required by this Item is incorporated by reference
to Pages 6 to 8 of the Company's Proxy Statement relating to its
1998 Annual Meeting of Shareholders.
ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND
MANAGEMENT
The information required by this Item is incorporated by reference
to Pages4 and 5 of the Company's Proxy Statement.
ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS
Not applicable.
27
PART IV
ITEM 14. EXHIBITS, FINANCIAL STATEMENT SCHEDULES, AND REPORTS
ON FORM 8-K
(a) The following documents are filed as part of this Report:
1. Financial Statements
The following consolidated financial statements of Inter-Tel,
Incorporated, and subsidiaries, are incorporated by reference to
Exhibit 13.0 and Pages 19 to 29 of the Company's Annual Report:
Report of Ernst & Young LLP, Independent Auditors
Consolidated balance sheets--December 31, 1997 and 1996
Consolidated statements of income--years ended December 31, 1997,
1996 and 1995
Consolidated statements of shareholders' equity--years ended December
31, 1997, 1996 and 1995
Consolidated statements of cash flows--years ended December 31,
1997, 1996 and 1995
Notes to consolidated financial statements
2. Financial Statement Schedules
The following consolidated financial statement schedule of Inter-Tel,
Incorporated, and subsidiaries is filed as part of this Report and
should be read in conjunction with the Consolidated Financial
Statements of Inter-Tel, Incorporated and subsidiaries, and the notes
thereto.
Schedule for the three years ended December 31, 1997:
Page No.
--------
Schedule II--Valuation and Qualifying Accounts 31
Schedules not listed above have been omitted because they are not
applicable or are not required or the information required to be set forth
therein is included in the Consolidated Financial Statements or notes thereto.
3. Exhibits
3.1(10) Articles of Incorporation, as amended.
3.2(16) By-Laws, as amended.
10.15(1) Registrant's form of standard Distributor Agreement.
10.16(1) Registrant's form of standard Service Agreement.
28
10.34(2) 1984 Incentive Stock Option Plan and forms of Stock
Option Agreement.
10.35(3) Agreement between Registrant and Samsung Semiconductor
and Telecommunications Company, Ltd. dated October 17,
1984.
10.37(3) Tax Deferred Savings Plan.
10.51(11) 1990 Directors' Stock Option Plan and form of Stock
Option Agreement.
10.52(15) Inter-Tel, Incorporated Long-Term Incentive Plan and
forms of Stock Option Agreements.
10.53(12) Agreement between Registrant and Maxon Systems, Inc.
dated February 27, 1990.
10.54(12) Agreement between Registrant and Varian Tempe
Electronics Center dated February 26, 1991.
10.55(12) Agreement between Registrant and Jetcrown Industrial
Ltd. dated February 18, 1993.
10.56(13) Employee Stock Ownership Plan.
10.57(14) Loan and Security Agreement dated March 4, 1997 between
Bank One, Arizona, N.A. and Registrant and Modification
Agreement dated July 25, 1997.
10.58 (16) Development, Supply and License Agreement between
Registrant and QUALCOMM dated January 17, 1996.
- ---------------------
(1) Previously filed with Registrant's Registration Statement on Form S-1 (File
No. 2-70437).
(2) Previously filed with Registrant's Registration Statement on Form S-8 (File
No. 2-94805).
(3) Previously filed with Registrant's Annual Report on Form 10-K for the year
ended November 30, 1984 (File No. 0-10211).
(10) Previously filed with Registrant's Annual Report on Form 10-K for the year
ended December 31, 1988 (File No. 0-10211).
(11) Previously filed with Registrant's Registration Statement on Form S-8 (File
No. 33-40353).
(12) Previously filed with Registrant's Registration Statement on Form S-1 (File
No. 33-70054).
(13) Previously filed with Registrant's Registration Statement on Form S-8 (File
No. 33-73620).
(14) Filed herewith.
(15) Previously filed with Registrant's Proxy Statement dated March 23, 1994.
(16) Previously filed with Registrant's Annual Report on Form 10-K for the year
ended December 31, 1995 (File No. 0-10211).
29
(17) Filed herewith, except as noted.
(b) Reports on Form 8-K.
None.
(c) Exhibits.
13.0 Excerpts from Annual Report to Security Holders. (not
attached herewith; a copy of the excerpts of the Company's
Annual Report to Security Holders was filed with the
Securities and Exchange Commission and a complete copy of
the Annual Report is available upon request by writing to
Shareholder Relations, Inter-Tel, Incorporated, 120 N. 44th
Street, Suite 200, Phoenix, Arizona 85034)
23.0 Consent of Ernst & Young LLP, Independent Auditors. (Page
33)
24.1 Power of Attorney. (Page 31)
See Item 14(a) (3) also.
(d) Financial Statement Schedules
The response to this portion of Item 14 is submitted as a separate
section of this report. See Item 8.
SIGNATURES
Pursuant to the requirements of Section 13 or 15(d) of the Securities
Exchange Act of 1934, the Registrant, Inter-Tel, Incorporated, has duly caused
this Report to be signed on its behalf by the undersigned, thereunto duly
authorized.
INTER-TEL, INCORPORATED
DATED: March 23, 1998 BY: /S/ Steven G. Mihaylo
-----------------------
Steven G. Mihaylo
Chairman and Chief Executive Officer
30
SCHEDULE II - VALUATION AND QUALIFYING ACCOUNTS
(in thousands)
- --------------------------------------------------------------------------------------------------------
COL. A COL. B COL. C COL. D COL. E
- --------------------------------------------------------------------------------------------------------
ADDITIONS
- --------------------------------------------------------------------------------------------------------
Charged Charged to
Balance at to Other Charged to Balance
Beginning Costs & Accounts Deductions at End of
DESCRIPTION of Period Expenses Describe Describe Period
- --------------------------------------------------------------------------------------------------------
Year ended December 31, 1997
Deducted from asset accounts:
Allowance for doubtful
accounts $3,096 $2,194 $ 17 $1,585(1) $3,722
----- ----- --- ----- -----
Allowance for lease
accounts $2,706 $1,910 $ -- $ 647(1) $3,969
----- ----- --- ----- -----
Inventory allowance $2,979 $4,021 $ -- $1,260(2) $5,740
----- ----- --- ----- -----
Year ended December 31, 1996
Deducted from asset accounts:
Allowance for doubtful
accounts (4) $1,822 $1,801 $ 87 (3) $ 614(1) $3,096
----- ----- --- ----- -----
Allowance for lease
accounts $1,513 $1,945 $(87)(3) $ 665(1) $2,706
----- ----- --- ----- -----
Inventory allowance (4) $2,499 $ 609 $175 (5) $ 304(2) $2,979
----- ----- --- ----- -----
Year ended December 31, 1995
Deducted from asset accounts:
Allowance for doubtful
accounts (4) $1,181 $ 814 $ 71 (3) $ 244(1) $1,822
----- ----- --- ----- -----
Allowance for lease
accounts $1,198 $ 780 $(71)(3) $ 394(1) $1,513
----- ----- --- ----- -----
Inventory allowance (4) $1,795 $1,109 $ -- $ 405(2) $2,499
----- ----- --- ----- -----
- --------------------------------------------------------------------------------------------------------
(1) Uncollectible accounts written off, net of recoveries.
(2) Inventory written off.
(3) Reclassed between appropriate valuation and qualifying accounts.
(4) Adjusted for pooling of Florida Telephone Systems, Inc.
(5) Acquired in purchase of NTL Corporation (dba ComNet of Ohio).
31