Aaron's Company Annual Report 2010

Plain-text annual report

Ready for the Future. Reflecting on the Past. Annual Report 2010 | Our 55th Year Aaron’s, Inc. serves consumers through the sale and lease ownership and specialty retailing of residential furniture, consumer electronics, home appliances and accessories in over 1,825 Company-operated and franchised stores in the United States and Canada. Aaron’s is the industry leader in serving the moderate- income consumer, and offering affordable payment plans, quality merchandise and superior service. The Company’s strategic focus is on growing the sales and lease ownership business through the addition of new Company- operated stores by both internal expansion and acquisitions, as well as through its successful and expanding franchise program. Financial Highlights to Our Shareholders Reflections The Present 1 2–3 4–5 6–9 Ready for the Future 10–12 Financial Information 14–43 Common Stock Market Prices and Dividends 44 Board of Directors and Officers 45 Corporate and Shareholder Information 46 Financial Highlights (Dollar Amounts in Thousands, Except Per Share) Operating Results Revenues Earnings Before Taxes From Continuing Operations Net Earnings From Continuing Operations Loss From Discontinued Operations, Net of Tax From Continuing Operations: Earnings Per Share Earnings Per Share Assuming Dilution From Discontinued Operations: Loss Per Share Assuming Dilution 190,786 118,376 — 1.46 1.44 — Year Ended December 31, 2010 Year Ended December 31, 2009 Percentage Change $1,876,847 $1,752,787 176,439 112,878 7.1% 8.1 4.9 (277) (100.0) 1.39 1.38 5.0 4.3 (.01) (100.0) Financial Position Total Assets Lease Merchandise, Net Credit Facilities Shareholders’ Equity Book Value Per Share Debt to Capitalization Pretax Profit Margin From Continuing Operations Net Profit Margin From Continuing Operations Return on Average Equity Stores Open at Year-end Aaron’s Sales & Lease Ownership Aaron’s Sales & Lease Ownership Franchised* Aaron’s Office Furniture Total Stores $1,502,072 $1,321,456 13.7% 814,484 41,790 979,417 12.23 4.1% 10.2 6.3 12.7 1,149 664 1 1,814 19.4 (24.1) 10.4 12.1 682,402 55,044 887,260 10.91 5.8% 10.1 6.4 13.7 1,082 597 15 1,694 6.2% 11.2 (93.3) 7.1% * Aaron’s Sales & Lease Ownership franchised stores are not owned or operated by Aaron’s, Inc. Revenues By Year Net Earnings By Year $2,000,000 120000 2000000 $120,000 ) s d n a s u o h t n i $ ( 1,500,000 100000 80000 1,000,000 60000 500,000 40000 20000 1500000 1000000 ) s d n a s u o h t n i $ ( 500000 100,000 80,000 60,000 40,000 20,000 0 2006 0 2007 2008 2009 2010 0 0 2006 2007 2008 2009 2010 1 To OUr Shareholders Our 55th year of operations was exciting, challenging and rewarding. We are proud of the Company’s operating results which we believe reﬂ ect the strength of our business model and the talent of our associates. We celebrated several milestones during 2010 in addition to our 55th anniversary. Highlights include the following. In June, we made the decision to cease all the operations of the Aaron’s Ofﬁ ce Furniture division. The ofﬁ ce furniture business is highly cyclical and the division has not been proﬁ table for a number of years. At the end of the year, there was one store open to liquidate remaining merchandise. The closure of this division resulted in charges to operating expenses during the year of approximately $.07 per diluted share. Aaron’s had more than 1.4 million customers of Company-operated and franchised stores at the end of 2010, a gain of 10% for the year. Customer count on a same store basis for Company-operated stores and franchised stores was up 7.2% and 7.3%, respectively, from last year. Revenues for the year were a record $1.877 billion, an increase of 7% from 2009. In addition, our franchisees reported an 11% increase in revenues to $841.3 million, although those revenues are not revenues of Aaron’s, Inc. Net earnings for the year were also a record — $118.4 million, a 5% increase over the $112.6 million earned in 2009. Fully diluted earnings per share were $1.44 compared to $1.37 in the prior year. We are particularly proud of the consistent same store revenue growth in our system, driven by our increasing number of stores and customers. For the year, same store revenues increased 4% in Company-operated stores and 3% in franchised stores. Many of our stores in states and market areas with unemployment rates exceeding 10% reported strong same store revenue gains in 2010, and our stores over ﬁ ve years old collectively achieved positive same store revenue growth. We believe this organic growth is impressive evidence of the ﬂ exibility, appeal, and economic resiliency of our sales and lease ownership model. Our Woodhaven Furniture Industries division manufactured approximately $79 million, at cost, of furniture and bedding in 2010 to meet the growing demand by Aaron’s stores for furniture products. Woodhaven’s 12 plants were also able to improve production and operating efﬁ ciencies during the year, furthering Aaron’s distinct quality and cost advantage. During 2010, Aaron’s opened 91 new Company- operated stores and 72 new franchised stores. The Aaron’s Sales & Lease Ownership total net store count increased 8% for the year. We expect a comparable percentage increase in new stores in 2011. We also awarded area development agreements to open 120 new franchised stores. At the end of 2010 there were 282 franchised stores awarded that are expected to be opened over the next several years. For most of our corporate history, the Company has required external capital to meet growth targets. Over the past few years, Aaron’s has been generating cash ﬂ ow and we expect to internally fund our growth in 2011 and into the foreseeable future. At year end, the Company had $72 million of cash on hand and no bank debt. During the year, we declared a three-for-two stock split, increased our dividend for the seventh year in a row and used some of our cash ﬂ ow for stock repurchases. The Company reacquired 1,478,805 shares of Common Stock in 2010 and is currently authorized to purchase an additional 4,401,815 shares. At December 31, 2010, the Aaron’s Sales & Lease Ownership division consisted of 1,138 Company- operated stores, 658 franchised stores, 11 Company- operated RIMCO stores and six franchised RIMCO stores. The Company also had one Aaron’s Ofﬁ ce Furniture store. The total number of stores open at the end of 2010 was 1,814. A major event in 2010 was the conversion of the Company’s non-voting Common Stock into voting Class A Common Stock on a one-for-one basis. All shares of the Company’s Common Stock were converted into shares of Class A Common Stock, and the Class A Common Stock was renamed as the 2 Company’s Common Stock, trading on the New York Stock Exchange under the symbol “AAN.” We expect this conversion to improve the trading liquidity and attractiveness of our stock to the investment community. Another signiﬁ cant event was Aaron’s inclusion in the Fortune 1000 for the ﬁ rst time. We are proud of achieving this landmark status and believe it will enhance awareness and interest in the Company. Last September, Earl Dolive retired from the Board of Directors after serving for 33 years. Earl’s dedication, service, and thoughtful counsel over the years have been instrumental to the success of Aaron’s. Earl was appointed Director Emeritus upon his retirement. Several management promotions have been recently made in the Company. John T. Trainor was promoted to Vice President, Chief Information Ofﬁ cer. Within the Aaron’s Sales & Lease Ownership division, Brock M. Roberts was promoted to Vice President, Northeastern Operations, and Marco Scalise to Vice President, Customer Account Management. The theme of this year’s report is reﬂ ecting on the past and preparing for The theme of this year’s report is reﬂ ecting on the past and preparing for the future. There are few companies with a story like that of Aaron’s. We have operated successfully for ﬁ ve and a half decades and feel we have never been stronger or better positioned. We have dozens and dozens of associates who have been part of the Aaron’s team for 10, 20 and 30 years or more. We also have families who have been customers of Aaron’s for many generations. With that kind of loyalty, you know we are doing something right. The Company did more than weather the recent recession — Aaron’s increased earnings and market share and added customers. Aaron’s provides desired and needed basic home furnishings, and our customers’ demand for these products remains strong. In reﬂ ecting on our past, we believe that our corporate culture, values and willingness to adapt have all been critical to our success. As we look forward, those same attributes give us conﬁ dence. Aaron’s is well-positioned to serve our market attributes give us conﬁ dence. Aaron’s is well-positioned to serve our market and our ﬁ nancial strength, business model and competitive advantages should lead to continued proﬁ table growth. As always, we are grateful for the support of our associates, our customers, our business partners and our shareholders. R. Charles Loudermilk, Sr. Chairman Chairman Robert C. Loudermilk, Jr. President and Chief Executive Ofﬁ cer 3 Reflections Charlie Loudermilk: Aaron’s success has been built on responding to opportunity and attending to details and I believe those same characteristics will serve us well in the future. In 55 years of operation, we never squeezed our customers to enhance the bottom line. Fairness is the bottom line. I was in the restaurant business, the ultimate customer service business, with my mother and we were business partners for 15 years. She set the example for me — success is built on hard work, attention to detail and customer service. The Company’s ﬁ rst transaction was the rental of 300 folding chairs for an estate sale in Atlanta. We made $90 on that deal. In the early years, we nearly drowned in an ocean of opportunity. At ﬁ rst, the notion of inventory that could go out into the marketplace and continue to generate revenue long after its initial cost had been recouped seemed too good to be true. And it was. Our business required constant infusions of fresh capital. The most important thing in the rental business is pleasing people though. Over the years, Aaron’s managed to do both — raise capital and please people. 4 People often ask me how I came up with the name “Aaron’s.” The answer is quite simple — I wanted to be ﬁ rst in the phone book. — R. Charles Loudermilk, Sr., Chairman of the Board After about 10 years of operation, more and more people began to ask about renting furniture and our business shifted. Our furniture rental business grew rapidly and soon we found that the traditional furniture manufacturing industry could not meet our needs for large shipments on short notice. So, we began to manufacture our own furniture. For us to serve our customers well, we had to have greater control over our sourcing. Aaron’s now produces nearly $80 million of furniture a year at cost. Of course, with our current buying power, manufacturers of all types of products from big-screen televisions to recliners to computers now work closely with us on product styling, availability and price. The initial public offering in 1982 provided the access to capital to signiﬁ cantly grow the business and, by 1984, Aaron’s was the largest furniture rental company in America with annual revenues of more than $80 million. We grew through acquisitions as well as developing our own store locations. As the rental industry changed, the Company developed the sales and lease ownership model, which is the foundation of our business today. As a boy in working-class Atlanta, what I wanted most was a chance, a level playing ﬁ eld and an honest shot. Give me that and you give me dignity. I’ll take it the rest of the way. Many of Aaron’s 1.4 million customers are not so different from my own childhood family. The easy phrase is that they are “credit-challenged,” but the truth is they want a scrap of dignity, whether it is a computer, a living room suite or maybe a set of well-made beds for their kids. Many of Aaron’s customers have been buffeted by life, by a variety of circumstances, and are trying to move forward. We don’t check their credit or string out their payments. We give them their shot at ownership. I see Aaron’s as “making dreams come true” for families all across this country. I am most proud of the corporate culture at Aaron’s — the basis for our success and the reason for my optimism for the future. We work hard to remind everyone that they are more than employees at Aaron’s. They are truly family. Our associates are Aaron’s greatest asset; they carry our culture into their communities. It is a testimony to our culture that so many of our key executives have been with the Company 10, 20 and even 30-plus years. The depth of our management and the strength of our corporate culture give me great conﬁ dence in the future as I step back from day-to-day management. 5 The Present “Respect the Consumer” Ken Butler: Early in our corporate history, our typical customer was a renter looking for temporary furnishings. At the time, there were dozens of home furnishings retailers across the country catering to the middle class. Most of those home furnishings chains have gone out of business while Aaron’s has grown, has reﬁ ned its business model and has stamped a national presence. That, I believe, is testimony to the strength of the Aaron’s business model. One of the building blocks of our business is “Respect the Consumer.” Over 1.4 million consumers are Aaron’s customers. Many of Aaron’s customers are homeowners, all carefully managing household budgets. Our typical customer has a household income of approximately $40,000 and has credit constraints such as a poor credit score or limited access. Our customers can visit their local Aaron’s store, pick out their merchandise and sit down with the manager to discuss payment terms, 6 the length of the agreement and the monthly payment. We want our customers to own their product, and over 45% of our agreements go to term. We don’t do a credit check on our customers — we just need to know that they have income and can meet their monthly obligations. Many of our customers have credit cards, but leasing through Aaron’s leaves that credit availability untouched. It is increasingly important to our customer to know that if their ﬁ nancial circumstances change, they can terminate a lease with no lingering ﬁ nancial obligation. That ﬂ exibility is very important in today’s economy. We have adapted over time as the consumer’s needs have changed, but fairness is always our guiding principle. Our product line has expanded to meet customer desires; you only have to look at our line-up of electronics to see that. We offer a broad range of televisions — plasma, DLP, LCD and LED. We offer computers and gaming systems as well. We have also adapted our payment terms to meet changing consumer needs. We have lease terms of 12, 18 and 24 months, which makes it possible for our customers to select terms which best ﬁ t monthly budgets. We take pride in our stores. We operate 9,000-square-foot stores with attractive signage and product displays. Think about walking into a supermarket and seeing gaps on shelves. The ﬁ rst thing you will think is “I have missed the good stuff ” and only the second-rate products are left. So, we pay a great deal of attention to our stores; our sales ﬂ oors must look attractive with “no holes on the ﬂ oor.” We operate stores in a variety of locations: urban, suburban and rural. Years ago, our stores drew from roughly a 10-mile radius but we now ﬁ nd many of our suburban and rural stores draw from a much larger market. Our stores have become destinations. Most of the product line is standard, but our managers can tailor their sales ﬂ oors to the local market. When a customer comes into our store, they will ﬁ nd ﬁ rst-rate name- brand merchandise and friendly associates. We are really a specialty retailer — with a large base of loyal customers. Seventy percent of our customers are repeat customers, testimony to our belief that a vibrant, respectful, day-to-day connection between a service business and the consumer is the basis for success. Over the years, Aaron’s has become a national brand, which we consider a competitive advantage. Our NASCAR afﬁ liation has become a critical part of our marketing. Our well-known “Lucky Dog” mascot is featured in our advertising and participates in store openings and special events. We have an Aaron’s car and even sponsor the Aaron’s 499 and 312 races during Aaron’s Dream Weekend at Talladega. With sponsorships of sports teams such as the University of Alabama, University of Texas and Georgia Tech athletic programs, the Atlanta Thrashers One of our marketing themes — “Aaron’s Drives Dreams Home”— says it all. We are in the business of furnishing homes. — William K. Butler, Jr., Chief Operating Officer 7 Company-Operated Sales and Lease Ownership Store Revenues Other 3% Computers 13% Furniture 31% Electronics 37% Appliances 16% 8 Company Revenues From Franchising Company Pretax Profit From Franchising STore Growth ) s d n a s u o h t n i $ ( $60,000 50,000 40,000 30,000 20,000 10,000 0 2006 2007 2008 2009 2010 60000 $50,000 50000 40,000 40000 ) s d n a s u 30000 o h t n i $ 20000 ( 10000 30,000 20,000 10,000 0 0 50000 2,000 40000 1,500 ) s e r o t s 30000 1,000 f o r e b m u N ( 20000 2006 2007 2008 2009 2010 500 10000 0 0 2006 2007 2008 2009 2010 2000 1500 1000 500 0 and Falcons, and arena football, as well as our NASCAR program, our advertising and sponsorships bring the Aaron’s name to over 50 million people each year. We are launching our ﬁ rst national television advertising program in 2011, a signiﬁ cant milestone for our Company. Even though we have over 1,800 stores, we keep our ﬁ nger on the pulse of the business. Our store managers know that “you are what your numbers say you are.” We track agreements and lease payments daily, weekly and monthly. Each store’s manager is responsible for the leases originating in his store. That manager is responsible for those customers — their satisfaction and their service. At corporate, we try to source the best products at the best price, make sure that every fulﬁ llment center has adequate inventory to meet our 24-hour delivery goal, and develop outstanding marketing programs and advertising. At the store level, the manager and associates are the front line of customer relations. They are the key to “driving dreams home.” 9 Ready for the Future “We are the industry leader in serving the moderate-income customer, offering affordable payment plans, quality merchandise and superior service.” — Robert C. Loudermilk, Jr., President, Chief Executive Officer Robin Loudermilk: Aaron’s has been part of my life since childhood, but I have never been more optimistic. I learned the business from the ground up — I worked in stores, drove trucks, managed divisions. I have learned ﬁ rsthand how strong our Company culture is and what a competitive asset that can be. The strength of this culture has allowed us to shift and adapt our business model as conditions warrant. An important part of our culture is the tenure of our management team. A number of our top executives have been with Aaron’s for many, many years. That says a great deal about the character of our culture and the talent and loyalty of our management. For many years, we were a rental company and Aaron Rents was our trade name. Our customer today wants to own home furnishings and we offer a ﬂ exible, cost-effective way to achieve that goal. This was the reason for our name change from Aaron Rents to Aaron’s in 2009. With the tightened consumer credit markets of the past few years and the weaker credit scores of so many American households, Aaron’s is well positioned to be the 10 “We are the industry leader in serving the moderate-income customer, offering affordable payment plans, quality merchandise and superior service.” — Robert C. Loudermilk, Jr., President, Chief Executive Officer provider of choice for high-quality, brand- name products now and for many years to come. I often am asked about the limits of growth. We have over 1,800 stores and the opportunities for expansion are still promising. We expect to have greater than 3,000 stores one day. Our development is not one-dimensional. Aaron’s grows through opening both new Company- operated and franchised stores. We also grow through servicing an increasing number of American households. Aaron’s market share also increases as the number of home furnishings retailers in the country shrinks. We prosper relative to competitors because we offer a unique path to ownership that is not dependent on credit scores and credit limits. Our corporate strategy encompasses both store and market share growth. At the same time, we are exploring other avenues of proﬁ table expansion. We entered the Canadian market through franchise arrangements a number of years ago and are studying other markets. The management team also continuously reviews potential opportunities in the United States and opened three HomeSmart stores as a pilot project several months ago. These stores, all opened in strong and vibrant Aaron’s markets, are positioned to serve those consumers who desire a weekly pay option and leverage the Company’s distribution system and corporate functions. We believe Aaron’s clearly gained market share during the recent recession. The natural question is whether we give back some of these gains when the economy bounces back. I believe that our market share gains will continue for several reasons. First, jobs creation leads to household formation and the need for home furnishings. And, as we do not check credit scores (a consumer needs 11 only a visible source of income to be an Aaron’s customer), an improving economy increases the number of people who meet our criteria. Third, a ﬁ rst-time Aaron’s customer is likely to become a repeat customer. Our commitment to customer satisfaction and the ﬂ exibility of our lease ownership program undergird our customer loyalty. It is also important to note that our corporate balance sheet is strong. As the economy emerges from a recession, Aaron’s is ﬁ nancially stronger than ever. We anticipate that the Company can internally fund planned growth for the next few years. We have steadily increased the cash dividend and repurchased stock. We have a substantial amount of cash on hand with no signiﬁ cant debt. The ﬁ nancial strength of Aaron’s is deﬁ nitely a competitive advantage. Aaron’s has been taking care of customers for more than 55 years. Our business model has evolved, adjusted and is now tested and solid. A greater portion than ever of American households makes for potential customers. We have a highly respected brand name and image, a commitment to customer service and the ﬁ nancial and human resources to pursue market opportunities. We look forward to continued success and growth in the future. Locations Within the United STates and Canada 4 26 4 7 1 27 33 1 25 7 4 8 7 23 2 25 9 12 34 1 4 4 5 10 13 13 1 10 34 1 2 170 1 38 15 18 27 15 24 1 51 3 3 Store Count as of December 31, 2010 Company Stores — 1,146 Franchised Stores — 664 Aaron’s Office Furniture Stores — 1 HomeSmart Stores — 3 Fulfillment Centers — 17 Woodhaven Furniture Industries — 12 12 2 1 8 5 1 1 1313 1 2 20 5 1 23 39 28 19 9 4 13 5 1 3 30 1 21 69 1 23 16 5 7 31 32 18 38 18 1 1 1 92 10 2 32 4 54 1 2 36 1 16 1 2 38 1 47 1 5 1 93 2 7 1 16 102 1 1 13 3 3 4 26 4 7 1 27 33 1 25 7 4 8 7 23 2 25 9 12 34 1 4 2 1 8 5 1 1 13 1 2 20 5 16 5 4 5 10 13 13 1 10 34 1 2 170 1 38 1 23 39 28 19 4 9 5 13 1 3 30 21 1 69 1 23 7 31 32 18 38 18 1 1 1 92 10 2 32 4 54 1 2 36 1 16 1 2 38 1 47 1 5 1 93 2 7 1 16 15 18 27 15 24 1 51 102 1 1 13 Selected Financial Information 14 Management’s Discussion and Analysis of Financial Condition and Results of Operations Consolidated Balance Sheets Consolidated Statements of Earnings Consolidated Statements of Shareholders’ Equity Consolidated Statements of Cash Flows Notes to Consolidated Financial Statements Management Report on Internal Control Over Financial Reporting Report of Independent Registered Public Accounting Firm on Financial Statements Report of Independent Registered Public Accounting Firm on Internal Control Over Financial Reporting Common Stock Market Prices and Dividends 15 24 25 26 27 28 42 42 43 44 13 Selected Financial Information (Dollar Amounts in Thousands, Except Per Share) Operating Results Revenues: Year Ended December 31, 2010 Year Ended December 31, 2009 Year Ended December 31, 2008 Year Ended December 31, 2007 Year Ended December 31, 2006 Lease Revenues and Fees $1,402,053 $1,310,709 $1,178,719 $1,045,804 $ 915,872 Net Earnings $ 118,376 Earnings Per Share From Continuing Operations $ 1.46 $ 112,601 $ 1.39 — (277) 4,420 $ 90,189 $ 1.07 6,850 $ 80,275 $ .90 7,732 $ 78,635 $ .90 Retail Sales Non-Retail Sales Franchise Royalties and Fees Other Costs and Expenses: Retail Cost of Sales Non-Retail Cost of Sales Operating Expenses Depreciation of Lease Merchandise Interest Earnings From Continuing Operations Before Income Taxes Income Taxes Net Earnings From Continuing Operations (Loss) Earnings From Discontinued Operations, Net of Tax Earnings Per Share From Continuing Operations Assuming Dilution Earnings Per Share From Discontinued Operations (Loss) Earnings Per Share From Discontinued Operations Assuming Dilution Dividends Per Share: Common Stock Class A Common Stock Financial Position Lease Merchandise, Net Property, Plant and Equipment, Net Total Assets Debt Shareholders’ Equity At Year End Stores Open: Company-Operated Franchised Lease Agreements in Effect Number of Employees 14 40,556 362,273 59,112 12,853 43,394 327,999 52,941 17,744 43,187 309,326 45,025 16,351 34,591 261,584 38,803 14,157 40,102 224,489 33,626 14,358 1,876,847 1,752,787 1,592,608 1,394,939 1,228,447 23,013 330,918 824,929 504,105 3,096 25,730 299,727 771,634 474,958 4,299 26,379 283,358 705,566 429,907 7,818 21,201 239,755 617,106 391,538 7,587 25,207 207,217 525,980 349,218 8,567 1,686,061 1,576,348 1,453,028 1,277,187 1,116,189 190,786 72,410 118,376 176,439 63,561 112,878 139,580 53,811 85,769 117,752 44,327 73,425 112,258 41,355 70,903 1.44 .00 .00 .049 .049 1.38 .00 (.01) 1.06 .06 .05 .89 .08 .08 .89 .10 .10 .046 .043 .041 .038 .046 .043 .041 .038 $ 814,484 $ 682,402 $ 681,086 $ 558,322 $ 550,205 204,912 1,502,072 41,790 979,417 1,150 664 1,325,000 10,400 215,183 1,321,456 55,044 887,260 1,097 597 1,171,000 10,000 209,452 1,233,270 114,817 761,544 1,053 504 1,017,000 9,600 228,275 1,113,176 185,832 673,380 1,030 484 820,000 9,100 152,032 979,606 129,974 607,015 857 441 734,000 7,900 Management’s Discussion and Analysis of Financial Condition and Results of Operations Overview Aaron’s, Inc. is a leading specialty retailer of consumer electronics, computers, residential furniture, household appliances and acces- sories. Our major operating divisions are the Aaron’s Sales & Lease Ownership Division and the Woodhaven Furniture Industries Division, which manufactures and supplies the majority of the upholstered furniture and bedding leased and sold in our stores. Aaron’s has demonstrated strong revenue growth over the last three years. Total revenues have increased from $1.593 billion in 2008 to $1.877 billion in 2010, representing a compound annual growth rate of 8.5%. Total revenues for the year ended December 31, 2010 increased $124.1 million, or 7.1%, over the prior year. The majority of our growth comes from the opening of new sales and lease ownership stores and increases in same store revenues from previously opened stores. We added a net of 67 company- operated sales and lease ownership stores in 2010. We spend on average approximately $600,000 to $700,000 in the first year of operation of a new store, which includes purchases of lease merchan- dise, investments in leasehold improvements and financing first-year start-up costs. Our new sales and lease ownership stores typically achieve revenues of approximately $1.1 million in their third year of operation. Our comparable stores, open more than three years, normally achieve approximately $1.4 million in unit revenues, which we believe represents a higher unit revenue volume than the typical rent-to-own store. Most of our stores are cash flow positive in the second year of operations following their openings. We also use our franchise program to help us expand our sales and lease ownership concept more quickly and into more areas than we otherwise would by opening only company-operated stores. Our franchisees added a net of 67 stores in 2010. We purchased 12 fran- chised stores during 2010. Franchise royalties and other related fees represent a growing source of high-margin revenue for us, account- ing for $59.1 million of revenues in 2010, up from $45.0 million in 2008, representing a compounded annual growth rate of 14.6%. AARON’S OFFICE FURNITURE CLOSURE. In November 2008, the Company completed the sale of substantially all of the assets and the transfer of certain liabilities of its legacy residential rent-to-rent business, Aaron’s Corporate Furnishings division, to CORT Business Services Corporation. When the Company sold its rent-to-rent business, it decided to keep the then 13 Aaron’s Office Furniture stores, a rent-to-rent concept aimed at the office market. However, after disappointing results in a difficult environment, in June 2010, the Company announced its plans to close all of the then 12 remaining Aaron’s Office Furniture stores and focus solely on the Company’s Sales & Lease Ownership business. Since June 2010, the Company has closed 11 of its Aaron’s Office Furniture stores and has one remaining store open to liquidate merchandise. As a result, the Company recorded $9.0 million in 2010 related to the write- down and cost to dispose of office furniture, estimated future lease liabilities for closed stores, write-off of leaseholds, severance pay, and other costs associated with closing the stores and winding down the division. We do not anticipate incurring significant charges in the future related to winding down of the division. STOCK SPLIT. On March 23, 2010, we announced a 3-for-2 stock split effected in the form of a 50% stock dividend on both Nonvoting Common Stock and Class A Common Stock. New shares were distributed on April 15, 2010 to shareholders of record as of the close of business on April 1, 2010. All share and per share information has been restated for all periods presented to reflect this stock split. SAME STORE REVENUES. We believe the changes in same store revenues are a key performance indicator. The change in same store revenues is calculated by comparing revenues for the year to revenues for the prior year for all stores open for the entire 24-month period, excluding stores that received lease agreements from other acquired, closed or merged stores. Key Components of Income In this management’s discussion and analysis section, we review the Company’s consolidated results, including the five components of our revenues, costs of sales and expenses, of which depreciation of lease merchandise is a significant part. REVENUES. We separate our total revenues into five components: lease revenues and fees, retail sales, non-retail sales, franchise royal- ties and fees, and other revenues. Lease revenues and fees include all revenues derived from lease agreements from our stores, including agreements that result in our customers acquiring ownership at the end of the term. Retail sales represent sales of both new and lease return merchandise from our stores. Non-retail sales mainly represent new merchandise sales to our sales and lease ownership division franchisees. Franchise royalties and fees represent fees from the sale of franchise rights and royalty payments from franchisees, as well as other related income from our franchised stores. Other revenues include, at times, income from gains on asset dispositions and other miscellaneous revenues. COST OF SALES. We separate our cost of sales into two compo- nents: retail and non-retail. Retail cost of sales represents the original or depreciated cost of merchandise sold through our company- operated stores. Non-retail cost of sales primarily represents the cost of merchandise sold to our franchisees. OPERATING EXPENSES. Operating expenses include personnel costs, selling costs, occupancy costs, and delivery, among other expenses. DEPRECIATION OF LEASE MERCHANDISE. Depreciation of lease merchandise reflects the expense associated with depreciating merchandise held for lease and leased to customers by our stores. 15 Management’s Discussion and Analysis of Financial Condition and Results of Operations Critical Accounting Policies REVENUE RECOGNITION. Lease revenues are recognized in the month they are due on the accrual basis of accounting. For internal management reporting purposes, lease revenues from the sales and lease ownership division are recognized as revenue in the month the cash is collected. On a monthly basis, we record an accrual for lease revenues due but not yet received, net of allowances, and a deferral of revenue for lease payments received prior to the month due. Our revenue recognition accounting policy matches the lease revenue with the corresponding costs, mainly depreciation, associated with the lease merchandise. At December 31, 2010 and 2009, we had a revenue deferral representing cash collected in advance of being due or otherwise earned totaling $39.5 million and $37.4 million, respec- tively, and accrued revenue receivable, net of allowance for doubtful accounts, based on historical collection rates of $4.9 million and $5.3 million, respectively. Revenues from the sale of merchandise to franchisees are recognized at the time of receipt of the merchandise by the franchisee and revenues from such sales to other customers are recognized at the time of shipment. LEASE MERCHANDISE. Our sales and lease ownership division depreciates merchandise over the applicable agreement period, gener- ally 12 to 24 months when leased, and 36 months when not leased, to 0% salvage value. Our office furniture stores depreciate merchan- dise over its estimated useful life, which ranges from 24 months to 48 months, net of salvage value, which ranges from 0% to 30%. Sales and lease ownership merchandise is generally depreciated at a faster rate than our office furniture merchandise. Our policies require weekly lease merchandise counts by store managers and write-offs for unsalable, damaged, or missing merchandise inventories. Full physi- cal inventories are generally taken at our fulfillment and manufactur- ing facilities two to four times a year with appropriate provisions made for missing, damaged and unsalable merchandise. In addition, we monitor lease merchandise levels and mix by division, store and fulfillment center, as well as the average age of merchandise on hand. If unsalable lease merchandise cannot be returned to vendors, its car- rying value is adjusted to net realizable value or written off. All lease merchandise is available for lease and sale, excluding merchandise determined to be missing, damaged or unsalable. We record lease merchandise carrying value adjustments on the allowance method, which estimates the merchandise losses incurred but not yet identified by management as of the end of the accounting period. Lease merchandise adjustments totaled $46.5 million, $38.3 million, and $34.5 million for the years ended December 31, 2010, 2009, and 2008, respectively. The current year includes a write-down of $4.7 million related to the closure of the Aaron’s Office Furniture division. LEASES AND CLOSED STORE RESERVES. The majority of our Company-operated stores are operated from leased facilities under operating lease agreements. The majority of these leases are for periods that do not exceed five years. Leasehold improvements related to these leases are generally amortized over periods that do not exceed the lesser of the lease term or five years. While a majority of our leases do not require escalating payments, for the leases which do contain such provisions we record the related lease expense on a straight-line basis over the lease term. We do not generally obtain significant amounts of lease incentives or allowances from landlords. From time to time, we close or consolidate stores. Our primary cost associated with closing or consolidating stores is the future lease payments and related commitments. We record an estimate of the future obligation related to closed or consolidated stores based upon the present value of the future lease payments and related commitments, net of estimated sublease income which we base upon historical experience. For the years ended December 31, 2010 and 2009, our reserve for closed or consolidated stores was $6.4 million and $2.3 million, respectively, and the increase was primarily the result of the closure of the Aaron’s Office Furniture stores. If our estimates related to sublease income are not correct, our actual liability may be more or less than the liability recorded at December 31, 2010. INSURANCE PROGRAMS. Aaron’s maintains insurance contracts to fund workers compensation, vehicle liability, general liability and group health insurance claims. Using actuarial analysis and projec- tions, we estimate the liabilities associated with open and incurred, but not reported workers compensation, vehicle liability and general liability claims. This analysis is based upon an assessment of the likely outcome or historical experience, net of any stop loss or other supplementary coverage. We also calculate the projected outstanding plan liability for our group health insurance program using historical claims runoff data. Our gross liability for workers compensation insurance claims, vehicle liability, general liability and group health insurance was $27.6 million and $22.5 million at December 31, 2010 and 2009, respectively. In addition, we have prefunding bal- ances on deposit with the insurance carriers of $23.8 million and $19.8 million at December 31, 2010 and 2009, respectively. If we resolve insurance claims for amounts that are in excess of our current estimates and within policy stop loss limits, we will be required to pay additional amounts beyond those accrued at December 31, 2010. The assumptions and conditions described above reflect management’s best assumptions and estimates, but these items involve inherent uncertainties as described above, which may or may not be controllable by management. As a result, the accounting for such items could result in different amounts if management used different assumptions or if different conditions occur in future periods. INCOME TAXES. The calculation of our income tax expense requires significant judgment and the use of estimates. We periodi- cally assess tax positions based on current tax developments, includ- ing enacted statutory, judicial and regulatory guidance. In analyzing our overall tax position, consideration is given to the amount and timing of recognizing income tax liabilities and benefits. In applying 16 Management’s Discussion and Analysis of Financial Condition and Results of Operations the tax and accounting guidance to the facts and circumstances, income tax balances are adjusted appropriately through the income tax provision. Reserves for income tax uncertainties are maintained at levels we believe are adequate to absorb probable payments. Actual amounts paid, if any, could differ significantly from these estimates. We use the liability method of accounting for income taxes. Under this method, deferred tax assets and liabilities are recognized for the future tax consequences attributable to differences between the financial statement carrying amounts of existing assets and liabilities and their respective tax bases. Deferred tax assets and liabilities are measured using enacted tax rates expected to apply to taxable income in the years in which those temporary differences are expected to be recovered or settled. Valuation allowances are established, when necessary, to reduce deferred tax assets when we expect the amount of tax benefit to be realized is less than the car- rying value of the deferred tax asset. Results of Operations Year Ended December 31, 2010 Versus Year Ended December 31, 2009 The Aaron’s Corporate Furnishings division is reflected as a discon- tinued operation for all periods presented. The following table shows key selected financial data for the years ended December 31, 2010 and 2009, and the changes in dollars and as a percentage to 2010 from 2009. (In Thousands) Revenues: Lease Revenues and Fees Retail Sales Non-Retail Sales Franchise Royalties and Fees Other Costs and Expenses: Retail Cost of Sales Non-Retail Cost of Sales Operating Expenses Depreciation of Lease Merchandise Interest Earnings From Continuing Operations Before Income Taxes Income Taxes Net Earnings From Continuing Operations Loss From Discontinued Operations, Net of Tax Net Earnings Year Ended December 31, 2010 Year Ended December 31, 2009 Increase/(Decrease) in Dollars to 2010 from 2009 % Increase/ (Decrease) to 2010 from 2009 $1,402,053 40,556 362,273 59,112 12,853 1,876,847 23,013 330,918 824,929 504,105 3,096 1,686,061 190,786 72,410 $1,310,709 43,394 327,999 52,941 17,744 1,752,787 25,730 299,727 771,634 474,958 4,299 1,576,348 176,439 63,561 118,376 112,878 — (277) $ 91,344 (2,838) 34,274 6,171 (4,891) 124,060 (2,717) 31,191 53,295 29,147 (1,203) 109,713 14,347 8,849 5,498 277 $ 118,376 $ 112,601 $ 5,775 7.0% (6.5) 10.4 11.7 (27.6) 7.1 (10.6) 10.4 6.9 6.1 (28.0) 7.0 8.1 13.9 4.9 (100.0) 5.1% 17 Management’s Discussion and Analysis of Financial Condition and Results of Operations Revenues Expenses The 7.1% increase in total revenues, to $1.877 billion in 2010 from $1.753 billion in 2009, was due mainly to a $91.3 million, or 7.0%, increase in lease revenues and fees revenues, plus a $34.3 million, or 10.4%, increase in non-retail sales. The $91.3 million increase in lease revenues and fees revenues was attributable to our sales and lease ownership division, which had a 4.4% increase in same store revenues during the 24-month period ended December 31, 2010 and added a net 112 company-operated stores since the beginning of 2009. The 6.5% decrease in revenues from retail sales, to $40.6 million in 2010 from $43.4 million in the comparable period in 2009, was due to decreased demand and closure of the majority of the Aaron’s Office Furniture stores in 2010. The 10.4% increase in non-retail sales (which mainly represents merchandise sold to our franchisees), to $362.3 million in 2010 from $328.0 million in 2009, was due to the growth of our fran- chise operations and our distribution network. The total number of franchised sales and lease ownership stores at December 31, 2010 was 664, reflecting a net addition of 160 stores since the beginning of 2009. The 11.7% increase in franchise royalties and fees, to $59.1 million in 2010 from $52.9 million in 2009, primarily reflects an increase in royalty income from franchisees, increasing 13.2% to $47.9 million in 2010 compared to $42.3 million in 2009. The increase is due primarily to the growth in the number of franchised stores and same store growth in the revenues of existing franchised stores. Other revenues decreased 27.6% to $12.9 million in 2010 from $17.7 million in 2009. Included in other revenues in 2010 is a $1.9 million gain from the sales of the assets of 11 stores. Included in other revenues in 2009 is a $7.8 million gain on the sales of the assets of 39 stores. Cost of Sales Retail cost of sales decreased 10.6% to $23.0 million in 2010 compared to $25.7 million in 2009, and as a percentage of retail sales, decreased to 56.7% in 2010 from 59.3% in 2009 primarily as a result of decline in the volume of lower margin office furni- ture retail sales associated with the closure of 14 Aaron’s Office Furniture stores. Non-retail cost of sales increased 10.4%, to $330.9 million in 2010, from $299.7 million for the comparable period in 2009, and as a percentage of non-retail sales, decreased slightly to 91.3% in 2010 from 91.4% in 2009. Operating expenses in 2010 increased $53.3 million to $824.9 mil- lion from $771.6 million in 2009, a 6.9% increase. As a percentage of total revenues, operating expenses were 44.0% for both the year ended December 31, 2010, and 2009. We began ceasing the operations of the Aaron’s Office Furniture division in June 2010. We closed 14 Aaron’s Office Furniture stores during 2010 and had one remaining store open to liquidate merchandise. As a result, we recorded $3.3 million in closed store reserves, $4.7 million in lease merchandise write-downs and other miscellaneous expenses in 2010, totaling $9.0 million in operating expenses, related to the closures. In 2009 we recorded a $2.2 million pre-tax charge to operating expenses relating to the write-down of certain lease merchandise and the impairment of long-lived assets associated with Aaron’s Office Furniture stores. Depreciation of lease merchandise increased $29.1 million to $504.1 million in 2010 from $475.0 million during the comparable period in 2009, a 6.1% increase. As a percentage of total lease revenues and fees, depreciation of lease merchandise decreased slightly to 36.0% from 36.2% a year ago. Interest expense decreased to $3.1 million in 2010 compared with $4.3 million in 2009, a 28.0% decrease. The decrease in inter- est expense was due to lower debt levels during 2010. Income tax expense increased $8.8 million to $72.4 million in 2010, compared with $63.6 million in 2009, representing a 13.9% increase. Our effective tax rate increased to 38.0% in 2010 from 36.0% in 2009 primarily related to the favorable impact of a $2.3 million reversal of previously recorded liabilities for uncertain tax positions due to expiration of statute of limitations in 2009. Net Earnings from Continuing Operations Net earnings from continuing operations increased $5.5 million to $118.4 million in 2010 compared with $112.9 million in 2009, representing a 4.9% increase. As a percentage of total revenues, net earnings from continuing operations were 6.3% and 6.4% in 2010 and 2009, respectively. The increase in net earnings from continuing operations was primarily the result of the maturing of new company- operated sales and lease ownership stores added over the past several years, contributing to a 4.4% increase in same store revenues, and an 11.7% increase in franchise royalties and fees. Year Ended December 31, 2009 Versus Year Ended December 31, 2008 The Aaron’s Corporate Furnishings division is reflected as a discon- tinued operation for all periods presented. The following table shows key selected financial data for the years ended December 31, 2009 and 2008, and the changes in dollars and as a percentage to 2009 from 2008. 18 (In Thousands) Revenues: Lease Revenues and Fees Retail Sales Non-Retail Sales Franchise Royalties and Fees Other Costs and Expenses: Retail Cost of Sales Non-Retail Cost of Sales Operating Expenses Depreciation of Lease Merchandise Interest Earnings From Continuing Operations Before Income Taxes Income Taxes Net Earnings From Continuing Operations (Loss) Earnings From Discontinued Operations, Net of Tax Net Earnings Year Ended December 31, 2009 Year Ended December 31, 2008 Increase/(Decrease) in Dollars to 2009 from 2008 % Increase/ (Decrease) to 2009 from 2008 $1,310,709 43,394 327,999 52,941 17,744 1,752,787 25,730 299,727 771,634 474,958 4,299 1,576,348 176,439 63,561 $1,178,719 43,187 309,326 45,025 16,351 1,592,608 26,379 283,358 705,566 429,907 7,818 1,453,028 139,580 53,811 $ 131,990 207 18,673 7,916 1,393 160,179 (649) 16,369 66,068 45,051 (3,519) 123,320 36,859 9,750 112,878 85,769 27,109 11.2% 0.5 6.0 17.6 8.5 10.1 (2.5) 5.8 9.4 10.5 (45.0) 8.5 26.4 18.1 31.6 (277) 4,420 (4,697) $ 112,601 $ 90,189 $ 22,412 (106.3) 24.9% Revenues The 10.1% increase in total revenues, to $1.753 billion in 2009 from $1.593 billion in 2008, was due mainly to a $132.0 million, or 11.2%, increase in lease revenues and fees, plus an $18.7 million, or 6.0%, increase in non-retail sales. The $132.0 million increase in lease revenues and fees revenues was attributable to our sales and lease ownership division, which had an 8.1% increase in same store revenues during the 24-month period ended December 31, 2009 and added a net 68 company-operated stores since the beginning of 2008. The 6.0% increase in non-retail sales (which mainly represents merchandise sold to our franchisees), to $328.0 million in 2009 from $309.3 million in 2008, was due to the growth of our franchise operations and our distribution network. The total number of franchised sales and lease ownership stores at December 31, 2009 was 597, reflecting a net addition of 113 stores since the beginning of 2008. The 17.6% increase in franchise royalties and fees, to $52.9 million in 2009 from $45.0 million in 2008, primarily reflects an increase in royalty income from franchisees, increasing 15.9% to $42.3 million in 2009 compared to $36.5 million in 2008. The increase is due primarily to the growth in the number of franchised stores and same store growth in the revenues of existing stores. Other revenues increased 8.5% to $17.7 million in 2009 from $16.4 million in 2008. Included in other revenues in 2009 is a $7.8 million gain from the sales of the assets of 39 stores. Included in other revenues in 2008 is an $8.5 million gain on the sales of the assets of 41 stores. Cost of Sales Cost of sales from retail sales decreased 2.5% to $25.7 million in 2009 compared to $26.4 million in 2008, with retail cost of sales as a percentage of retail sales decreasing to 59.3% from 61.1% in 2008 as a result of improved pricing and lower product cost. Cost of sales from non-retail sales increased 5.8%, to $299.7 million in 2009 from $283.4 million in 2008, and as a percentage of non-retail sales, was consistent at 91.4% in 2009 and 91.6% in 2008. Expenses Operating expenses in 2009 increased $66.1 million to $771.6 mil- lion from $705.6 million in 2008, a 9.4% increase. As a percentage of total revenues, operating expenses were 44.0% for the year ended December 31, 2009, and 44.3% for the comparable period in 2008. Depreciation of lease merchandise increased $45.1 million to $475.0 million in 2009 from $429.9 million during the comparable period in 2008, a 10.5% increase. As a percentage of total lease revenues and fees, depreciation of lease merchandise decreased to 36.2% from 36.5% a year ago, primarily due to product mix and lower product cost from favorable purchasing trends. 19 Management’s Discussion and Analysis of Financial Condition and Results of Operations Interest expense decreased to $4.3 million in 2009 compared with $7.8 million in 2008, a 45.0% decrease. The decrease in interest expense was due to lower debt levels during 2009. Income tax expense increased $9.8 million to $63.6 million in 2009, compared with $53.8 million in 2008, representing an 18.1% increase. Our effective tax rate decreased to 36.0% in 2009 from 38.6% in 2008 primarily related to the favorable impact of a $2.3 million reversal of previously recorded liabilities for uncertain tax positions due to expiration of statute of limitations. Net Earnings from Continuing Operations Net earnings from continuing operations increased $27.1 million to $112.9 million in 2009 compared with $85.8 million in 2008, representing a 31.6% increase. As a percentage of total revenues, net earnings from continuing operations were 6.4% and 5.4% in 2009 and 2008, respectively. The increase in net earnings from continuing operations was primarily the result of the maturing of new company- operated sales and lease ownership stores added over the past several years, contributing to an 8.1% increase in same store revenues, and a 17.6% increase in franchise royalties and fees. Discontinued Operations Loss from discontinued operations (which represents the loss from the former Aaron’s Corporate Furnishings division), net of tax, was $277,000 in 2009, compared to net earnings of $4.4 million in 2008. Included in the 2008 results is a $1.2 million pre-tax gain on the sale of substantially all of the assets of the Aaron’s Corporate Furnishings division to CORT Business Services Corporation in the fourth quarter of 2008. Balance Sheet CASH AND CASH EQUIVALENTS. The Company’s cash balance decreased to $72.0 million at December 31, 2010 from $109.7 mil- lion at December 31, 2009. The decrease in our cash balance is due to cash flow generated from operations, less cash used by investing and financing activities of $37.7 million. For additional information, refer to the “Liquidity and Capital Resources” section below. LEASE MERCHANDISE, NET. The increase of $132.1 million in lease merchandise, net of accumulated depreciation, to $814.5 million at December 31, 2010 from $682.4 million at December 31, 2009, is primarily the result of continued revenue growth of new and existing company-operated stores, partially offset by lower product costs. PROPERTY, PLANT AND EQUIPMENT, NET. The decrease of $10.3 million in property, plant and equipment, net of accumulated depreciation, to $204.9 million at December 31, 2010 from $215.2 million at December 31, 2009, is primarily the result of sale-lease- back transactions completed since December 31, 2009. In addition, the Company recorded an impairment charge of $3.0 million in 2009 related to various properties and land parcels which have been reclassified as held for sale in all periods presented. GOODWILL, NET. The $8.0 million increase in goodwill, to $202.4 million on December 31, 2010 from $194.4 million on December 31, 2009, is the result of a series of acquisitions of sales and lease ownership businesses. During 2010, the Company acquired a total of 30 stores. The aggregate purchase price for these asset acquisitions totaled $17.9 million, with the principal tangible assets acquired consisting of lease merchandise and certain fixtures and equipment. PREPAID EXPENSES AND OTHER ASSETS. Prepaid expenses and other assets increased $86.9 million to $122.9 million at December 31, 2010 from $36.1 million at December 31, 2009, primarily as a result of an increase in prepaid income taxes. ACCOUNTS PAYABLE AND ACCRUED EXPENSES. The increase of $35.9 million in accounts payable and accrued expenses, to $213.1 million at December 31, 2010 from $177.3 million at December 31, 2009, is primarily the result of fluctuations in the timing of payments and greater purchases of lease merchandise. DEFERRED INCOME TAXES PAYABLE. The increase of $63.8 million in deferred income taxes payable to $227.5 million at December 31, 2010 from $163.7 million at December 31, 2009 is primarily the result of bonus lease merchandise depreciation deductions for tax purposes included in the Small Business Jobs Act of 2010 and the Tax Relief, Unemployment Insurance Reauthorization, and Job Creation Act of 2010. CREDIT FACILITIES. The $13.3 million decrease in the amounts we owe under our credit facilities to $41.8 million on December 31, 2010 from $55.0 million on December 31, 2009, primarily reflects net payments in 2010 on our senior unsecured notes. Liquidity and Capital Resources General Cash flows from continuing operations for the year ended December 31, 2010 and 2009 were $49.3 million and $193.7 million, respectively. The decrease in cash flows from operating activities is primarily related to higher 2010 tax payments and greater purchases of lease merchandise. Purchases of sales and lease ownership stores had a positive impact on operating cash flows in each period presented. The posi- tive impact on operating cash flows from purchasing stores occurs as the result of lease merchandise, other assets and intangibles acquired in these purchases being treated as an investing cash outflow. As such, the operating cash flows attributable to the newly purchased stores usually have an initial positive effect on operating cash flows that may not be indicative of the extent of their contributions in future periods. The amount of lease merchandise purchased in acquisitions and shown under investing activities was $6.5 million in 2010, $9.5 million in 2009 and $28.5 million in 2008. Sales of sales and lease ownership stores are an additional source of investing cash 20 flows in each period presented. Proceeds from such sales were $8.0 million in 2010, $32.0 million in 2009 and $22.7 million in 2008. The amount of lease merchandise sold in these sales and shown under investing activities was $4.5 million in 2010, $16.3 million in 2009 and $11.7 million in 2008. In addition, in 2008 the proceeds from the sale of the Aaron’s Corporate Furnishings division shown under investing activities were $76.4 million. Our cash flows include profits on the sale of lease return mer- chandise. Our primary capital requirements consist of buying lease merchandise for sales and lease ownership stores. As we continue to grow, the need for additional lease merchandise will remain our major capital requirement. Other capital requirements include purchases of property, plant and equipment and expenditures for acquisitions. These capital requirements historically have been financed through: • cash flow from operations; • bank credit; • trade credit with vendors; • proceeds from the sale of lease return merchandise; • private debt offerings; and • stock offerings. At December 31, 2010, there was no outstanding balance under our revolving credit agreement. The credit facilities balance decreased by $13.3 million in 2010 primarily as a result of net payments made on our senior unsecured notes during the period. Our revolving credit facility expires May 23, 2013 and the total available credit on the facility is $140.0 million. We have $24.0 million currently outstanding in aggregate principal amount of 5.03% senior unsecured notes due July 2012, principal repayments of which were made in 2008, 2009 and 2010, and are due in equal $12.0 million annual installments until maturity. Our revolving credit agreement and senior unsecured notes, and our franchisee loan program discussed below, contain certain financial covenants. These covenants include requirements that we maintain ratios of: (1) EBITDA plus lease expense to fixed charges of no less than 2:1; (2) total debt to EBITDA of no greater than 3:1; and (3) total debt to total capitalization of no greater than 0.6:1. “EBITDA” in each case means consolidated net income before interest and tax expense, depreciation (other than lease merchandise depreciation) and amortization expense, and other non-cash charges. The Company is also required to maintain a minimum amount of shareholders’ equity. See the full text of the covenants in our credit and guarantee agreements, which we have filed as exhibits to our Securities and Exchange Commission reports, for the details of these covenants and other terms. If we fail to comply with these covenants, we will be in default under these agreements, and all amounts would become due immediately. We were in compliance with all of these covenants at December 31, 2010 and believe that we will continue to be in com- pliance in the future. We purchase our stock in the market from time to time as authorized by our board of directors. We repurchased 1,478,805 shares of Nonvoting Common Stock and no shares of Class A Common Stock during 2010 and have authority to purchase 4,401,815 additional shares. We repurchased $28.0 million of our stock in 2010. We have a consistent history of paying dividends, having paid dividends for 23 consecutive years. A $.0113 per share dividend on Nonvoting Common Stock and Class A Common Stock was paid in January 2009, April 2009, July 2009, and October 2009. Our board of directors increased the dividend 6.2% for the fourth quarter of 2009 on November 4, 2009 to $.012 per share and was paid in December 2009. A $.012 per-share dividend on Nonvoting Common Stock and Class A Common Stock was paid in April 2010, July 2010 and November 2010. Our board of directors increased the dividend 8.3% for the fourth quarter of 2010 to $.013 per share and the fourth quarter dividend was paid in January 2011. Subject to sufficient operating profits, any future capital needs and other contingencies, we currently expect to continue our policy of paying dividends. If we achieve our expected level of growth in our operations, we anticipate we will supplement our expected cash flows from operations, existing credit facilities, vendor credit and proceeds from the sale of lease return merchandise by expanding our existing credit facilities, by securing additional debt financing, or by seeking other sources of capital to ensure we will be able to fund our capital and liquidity needs for at least the next 24 months. We believe we can secure these additional sources of capital in the ordinary course of business. However, if the credit and capital markets experience disruptions like those that began in the second half of 2008, we may not be able to obtain access to capital at as favorable costs as we have historically been able to, and some forms of capital may not be available at all. Commitments INCOME TAXES. During the 12 months ended December 31, 2010, we made $94.8 million in income tax payments. Within the next 12 months, we anticipate that we will make cash payments for state income taxes of approximately $9.0 million. The Small Business Jobs Act of 2010 was enacted after we paid our third quarter esti- mated federal tax. In December, the Tax Relief, Unemployment Insurance Reauthorization, and Job Creation Act of 2010 was enact- ed. As a result of the bonus depreciation provisions in these acts, we have paid more than our anticipated 2010 federal tax liability. We filed for a refund of overpaid federal tax of approximately $81.0 mil- lion in January 2011 and received that refund in February 2011. The Economic Stimulus Act of 2008, the American Recovery and Reinvestment Act of 2009, and the Small Business Jobs Act of 2010 provided for accelerated depreciation by allowing a bonus 21 Management’s Discussion and Analysis of Financial Condition and Results of Operations first-year depreciation deduction of 50% of the adjusted basis of qualified property, such as our lease merchandise, placed in service during those years. The Tax Relief, Unemployment Insurance Reauthorization, and Job Creation Act of 2010 allowed for deduction of 100% of the adjusted basis of qualified property for assets placed in service after September 8, 2010 and before December 31, 2011. Accordingly, our cash flow benefited from hav- ing a lower cash tax obligation which, in turn, provided additional cash flow from operations. Because of our sales and lease ownership model where Aaron’s remains the owner of merchandise on lease, we benefit more from bonus depreciation, relatively, than traditional furniture, electronics and appliance retailers. In future years, we anticipate having to make increased tax payments on our earnings as a result of expected profitability and the reversal of the accelerated depreciation deductions that were taken in 2010 and prior periods. We estimate that at December 31, 2010, the remaining tax deferral associated with the acts described above is approximately $150.0 mil- lion, of which approximately 76% will reverse in 2011 and most of the remainder will reverse between 2012 and 2013. LEASES. We lease warehouse and retail store space for most of our operations under operating leases expiring at various times through 2028. Most of the leases contain renewal options for additional peri- ods ranging from one to 15 years or provide for options to purchase the related property at predetermined purchase prices that do not represent bargain purchase options. We also lease transportation and computer equipment under operating leases expiring during the next five years. We expect that most leases will be renewed or replaced by other leases in the normal course of business. Approximate future minimum rental payments required under operating leases that have initial or remaining non-cancelable terms in excess of one year as of December 31, 2010 are shown in the below table under “Contractual Obligations and Commitments.” We have 20 capital leases, 19 of which are with a limited liability company (“LLC”) whose managers and owners are 11 officers of the company of which there are eight executive officers, with no individual, owning more than 13.33% of the LLC. Nine of these related party leases relate to properties purchased from us in October and November of 2004 by the LLC for a total purchase price of $6.8 million. The LLC is leasing back these properties to us for a 15-year term, with a five-year renewal at our option, at an aggregate annual lease amount of $716,000. Another 10 of these related party leases relate to properties purchased from us in December 2002 by the LLC for a total purchase price of approximately $5.0 million. The LLC is leasing back these properties to us for a 15-year term at an aggregate annual lease of $556,000. We do not currently plan to enter into any similar related party lease transactions in the future. We finance a portion of our store expansion through sale- leaseback transactions. The properties are generally sold at net book value and the resulting leases qualify and are accounted for as operat- ing leases. We do not have any retained or contingent interests in the stores nor do we provide any guarantees, other than a corporate level guarantee of lease payments, in connection with the sale-leasebacks. The operating leases that resulted from these transactions are included in the table below. FRANCHISE LOAN GUARANTY. We have guaranteed the bor- rowings of certain independent franchisees under a franchise loan program with several banks and we also guarantee franchisee borrow- ings under certain other debt facilities. The guaranty was amended on June 18, 2010 to increase the maximum commitment amount under the facility from $175.0 million to $200.0 million, provide for the ability to extend loans to franchisees that operate stores located in Canada (other than in the Province of Quebec), increase the maximum available amount of swing loans from $20.0 million to $25.0 million, reduce our interest obligations with respect to franchisees that operate stores located in the United States and establish our interest obligations with respect to franchisees that operate stores located in Canada. At December 31, 2010, the portion that we might be obligated to repay in the event franchisees defaulted was $121.0 million. Of this amount, approximately $108.3 million represents franchise borrowings outstanding under the franchisee loan program and approximately $12.7 million represents franchisee borrowings that we guarantee under other debt facilities. However, due to franchisee borrowing limits, we believe any losses associated with any defaults would be mitigated through recovery of lease merchandise and other assets. Since its inception in 1994, we have had no significant losses associated with the franchise loan and guaranty program. We believe the likelihood of any significant amounts being funded in connection with these commitments to be remote. We receive guarantee fees based on such franchisees’ outstanding debt obligations, which it recognizes as the guarantee obligation is satisfied. We have no long-term commitments to purchase merchandise. See Note F to the Consolidated Financial Statements for further information. The following table shows our approximate contractual obligations, including interest, and commitments to make future payments as of December 31, 2010: 22 (In Thousands) Total Amounts Committed Period Less Than 1 Year Credit Facilities, Excluding Capital Leases $ 27,303 $ 12,002 Capital Leases Operating Leases Purchase Obligations 14,487 537,918 47,542 1,337 96,305 31,619 Period 1–3 Years $ 12,000 2,708 151,784 15,728 Period 3–5 Years Period Over 5 Years $ 3,301 $ — 3,287 98,324 195 7,155 191,505 — Total Contractual Cash Obligations $627,250 $141,263 $182,220 $105,107 $198,660 The following table shows the Company’s approximate commercial commitments as of December 31, 2010: (In Thousands) Guaranteed Borrowings of Franchisees Total Amounts Committed $121,014 Period Less Than 1 Year Period 1–3 Years Period 3–5 Years Period Over 5 Years $119,937 $ 1,077 $ — $ — Purchase obligations are primarily related to certain advertis- ing and marketing programs. Purchase orders or contracts for the purchase of lease merchandise and other goods and services are not included in the tables above. We are not able to determine the aggregate amount of such purchase orders that represent contrac- tual obligations, as purchase orders may represent authorizations to purchase rather than binding agreements. Our purchase orders are based on our current distribution needs and are fulfilled by our vendors within short time horizons. We do not have significant agreements for the purchase of lease merchandise or other goods specifying minimum quantities or set prices that exceed our expected requirements for three months. Deferred income tax liabilities as of December 31, 2010 were approximately $227.5 million. This amount is not included in the total contractual obligations table because we believe this presenta- tion would not be meaningful. Deferred income tax liabilities are calculated based on temporary differences between the tax basis of assets and liabilities and their respective book basis, which will result in taxable amounts in future years when the liabilities are settled at their reported financial statement amounts. The results of these calculations do not have a direct connection with the amount of cash taxes to be paid in any future periods. As a result, schedul- ing deferred income tax liabilities as payments due by period could be misleading, because this scheduling would not relate to liquidity needs. Recent Accounting Pronouncements We are not aware of any recent accounting pronouncements that will materially impact the Company’s consolidated financial statements in future periods. Quantitative And Qualitative Disclosures About Market Risk As of December 31, 2010, we had $24.0 million of senior unsecured notes outstanding at a fixed rate of 5.03%. We had no balance outstanding under our revolving credit agreement indexed to the LIBOR (“London Interbank Offer Rate”) or the prime rate, which exposes us to the risk of increased interest costs if interest rates rise. Based on our overall interest rate exposure at December 31, 2010, a hypothetical 1.0% increase or decrease in interest rates would not be material. We do not use any significant market risk sensitive instruments to hedge commodity, foreign currency, or other risks, and hold no market risk sensitive instruments for trading or speculative purposes. 23 Consolidated Balance Sheets (In Thousands, Except Share Data) Assets: Cash and Cash Equivalents Accounts Receivable (net of allowances of $4,544 in 2010 and $4,157 in 2009) Lease Merchandise Less: Accumulated Depreciation Property, Plant and Equipment, Net Goodwill, Net Other Intangibles, Net Prepaid Expenses and Other Assets Assets Held for Sale Total Assets Liabilities & Shareholders’ Equity: Accounts Payable and Accrued Expenses Deferred Income Taxes Payable Customer Deposits and Advance Payments Credit Facilities Total Liabilities Shareholders’ Equity: Common Stock, Par Value $.50 Per Share; Authorized: 225,000,000 and 125,000,000 Shares at December 31, 2010 and 2009, respectively; Shares Issued: 90,752,123 at December 31, 2010 and 2009, respectively Additional Paid-in Capital Retained Earnings Accumulated Other Comprehensive Income (Loss) Less: Treasury Shares at Cost, Common Stock, 10,664,728 and 9,397,997 Shares at December 31, 2010 and 2009, respectively Total Shareholders’ Equity Total Liabilities & Shareholders’ Equity December 31, 2010 December 31, 2009 $ 72,022 $ 109,685 69,662 1,280,457 (465,973) 814,484 204,912 202,379 3,832 122,932 11,849 66,095 1,122,954 (440,552) 682,402 215,183 194,376 5,200 36,082 12,433 $1,502,072 $1,321,456 $ 213,139 $ 177,284 227,513 40,213 41,790 522,655 45,376 201,752 809,084 846 1,057,058 163,670 38,198 55,044 434,196 45,378 196,669 694,689 (101) 936,635 (77,641) 979,417 (49,375) 887,260 $1,502,072 $1,321,456 The accompanying notes are an integral part of the Consolidated Financial Statements. 24 Consolidated Statements of Earnings (In Thousands, Except Per Share) Revenues: Lease Revenues and Fees Retail Sales Non-Retail Sales Franchise Royalties and Fees Other Costs and Expenses: Retail Cost of Sales Non-Retail Cost of Sales Operating Expenses Depreciation of Lease Merchandise Interest Earnings From Continuing Operations Before Income Taxes Income Taxes Net Earnings From Continuing Operations (Loss) Earnings From Discontinued Operations, Net of Tax Net Earnings Earnings Per Share From Continuing Operations Earnings Per Share From Continuing Operations Assuming Dilution Earnings Per Share From Discontinued Operations (Loss) Earnings Per Share From Discontinued Operations Assuming Dilution Year Ended December 31, 2010 Year Ended December 31, 2009 Year Ended December 31, 2008 $1,402,053 $1,310,709 $1,178,719 40,556 362,273 59,112 12,853 43,394 327,999 52,941 17,744 43,187 309,326 45,025 16,351 1,876,847 1,752,787 1,592,608 23,013 330,918 824,929 504,105 3,096 25,730 299,727 771,634 474,958 4,299 26,379 283,358 705,566 429,907 7,818 1,686,061 1,576,348 1,453,028 190,786 72,410 176,439 63,561 139,580 53,811 118,376 112,878 85,769 — (277) 4,420 $ 118,376 $ 112,601 $ 90,189 $ 1.46 $ 1.39 $ 1.07 1.44 .00 .00 1.38 .00 (.01) 1.06 .06 .05 The accompanying notes are an integral part of the Consolidated Financial Statements. 25 Consolidated Statements of Shareholders’ Equity (In Thousands, Except Per Share) Balance, January 1, 2008 Dividends, $.043 Per share Stock-Based Compensation Reissued Shares Repurchased Shares Treasury Stock Shares Amount Common Stock Additional Paid-In Capital Accumulated Other Comprehensive (Loss) Income Foreign Retained Comprehensive Currency Marketable Translation Securities Earnings Income (10,344) $(44,474) $45,378 $173,449 $499,109 $ 6 $(88) 646 (582) 4,598 (7,529) (3,471) 2,523 3,219 Net Earnings From Continuing Operations Net Earnings From Discontinued Operations Foreign Currency Translation Adjustment Comprehensive Income Balance, December 31, 2008 Dividends, $.046 Per share Stock-Based Compensation Exchange of Common Stock for Class A Common Stock Reissued Shares Net Earnings From Continuing Operations Loss From Discontinued Operations Foreign Currency Translation Adjustment Comprehensive Income Balance, December 31, 2009 Dividends, $.049 per share Stock-Based Compensation Reissued Shares Repurchased Shares Stock Recombination Net Earnings Foreign Currency Translation Adjustment, net of Income Taxes of $356 Comprehensive Income Balance, December 31, 2010 85,769 $85,769 4,420 4,420 (1,365) (1,365) — 88,824 (10,280) (47,405) 45,378 179,191 585,827 (1,359) (88) (144) (9,073) 1,026 7,103 (3,739) 3,565 9,073 4,840 112,878 112,878 (277) (277) 1,346 1,346 — 113,947 (9,398) (49,375) 45,378 196,669 694,689 (13) (88) 212 743 (1,479) (29,009) (3,981) 4,759 324 (2) 118,376 118,376 (10,665) $(77,641) $45,376 $201,752 $809,084 $ 578 $(88) 947 591 — $119,323 The accompanying notes are an integral part of the Consolidated Financial Statements. 26 Consolidated Statements of Cash Flows (In Thousands) Continuing Operations Operating Activities: Net Earnings from Continuing Operations Depreciation of Lease Merchandise Other Depreciation and Amortization Additions to Lease Merchandise Book Value of Lease Merchandise Sold or Disposed Change in Deferred Income Taxes Loss on Sale of Property, Plant, and Equipment Gain on Asset Dispositions Change in Income Tax Receivable Change in Accounts Payable and Accrued Expenses Change in Accounts Receivable Excess Tax Benefits from Stock-Based Compensation Change in Other Assets Change in Customer Deposits Stock-Based Compensation Other Changes, Net Cash Provided by Operating Activities Investing Activities: Additions to Property, Plant and Equipment Acquisitions of Businesses and Contracts Proceeds from Dispositions of Businesses and Contracts Proceeds from Sale of Property, Plant, and Equipment Cash Used by Investing Activities Financing Activities: Proceeds from Credit Facilities Repayments on Credit Facilities Dividends Paid Excess Tax Benefits from Stock-Based Compensation Acquisition of Treasury Stock Issuance of Stock Under Stock Option Plans Cash Used by Financing Activities Discontinued Operations: Operating Activities Investing Activities Cash Used by Discontinued Operations (Decrease) Increase in Cash and Cash Equivalents Cash and Cash Equivalents at Beginning of Year Cash and Cash Equivalents at End of Year Cash Paid During the Year: Interest Income Taxes Year Ended December 31, 2010 Year Ended December 31, 2009 Year Ended December 31, 2008 $ 118,376 504,105 45,427 (1,034,474) 400,304 63,843 2,441 (1,917) (82,378) 35,321 (3,567) (321) (4,943) 2,015 4,759 270 49,261 (87,636) (17,891) 8,025 53,399 (44,103) 2,429 (15,683) (2,929) 321 (28,046) 1,087 (42,821) — — — (37,663) 109,685 $ 72,022 $ 112,878 474,958 44,413 (847,094) 363,975 15,032 1,136 (7,826) 28,443 2,014 (6,582) (3,909) 3,356 4,763 3,696 4,441 193,694 (83,140) (25,202) 32,042 37,533 (38,767) 57,383 (117,156) (4,649) 3,909 — 8,172 (52,341) (277) — (277) 102,309 7,376 $ 109,685 $ 85,769 429,907 41,486 (865,881) 330,032 66,345 1,725 (8,490) (28,443) 35,384 (13,219) (1,767) (941) 4,845 1,421 1,078 79,251 (74,924) (80,935) 99,152 54,546 (2,161) 536,469 (607,484) (3,430) 1,767 (7,529) 6,476 (73,731) (3,512) 2,739 (773) 2,586 4,790 $ 7,376 $ 3,203 94,793 $ 4,591 15,286 $ 8,869 29,186 The accompanying notes are an integral part of the Consolidated Financial Statements. 27 Notes to Consolidated Financial Statements e t o AN Summary of Significant Accounting Policies As of December 31, 2010 and 2009, and for the Years Ended December 31, 2010, 2009 and 2008. BASIS OF PRESENTATION — The consolidated financial state- ments include the accounts of Aaron’s, Inc. and its wholly owned subsidiaries (the “Company”). All significant intercompany accounts and transactions have been eliminated. The preparation of the Company’s consolidated financial statements in conformity with United States generally accepted accounting principles requires man- agement to make estimates and assumptions that affect the amounts reported in these financial statements and accompanying notes. Actual results could differ from those estimates. Generally, actual experience has been consistent with management’s prior estimates and assumptions. Management does not believe these estimates or assumptions will change significantly in the future absent unsurfaced or unforeseen events. On December 7, 2010, at a special meeting of the Company’s shareholders, shareholders approved a proposal to amend and restate the Company’s Amended and Restated Articles of Incorporation to: (i) convert each outstanding share of Common Stock, par value $0.50 per share (the “Nonvoting Common Stock”) into one share of Class A Common Stock (the “Class A Common Stock”) and to rename the Class A Common Stock as Common Stock (the “Common Stock”), (ii) eliminate certain obsolete provisions relating to the Company’s prior dual-class common stock structure, and (iii) amend the number of authorized shares to be 225,000,000 total shares of Common Stock (the aggregate of the number of autho- rized shares of Nonvoting Common Stock and Class A Common Stock prior to the approval of the Amended and Restated Articles of Incorporation). Following receipt of shareholder approval at the special meeting, the Amended and Restated Articles of Incorporation were filed with the Secretary of State of the State of Georgia and are now effective. As a result of the reclassification of shares of Nonvoting Common Stock into shares of Class A Common Stock and the other changes described above and effected by the Amended and Restated Articles of Incorporation, shares of the combined class now titled Common Stock have one vote per share on all matters submitted to the Company’s shareholders, including the election of directors. The former Nonvoting Common Stock did not entitle the holders thereof to any vote except as otherwise provided in the Company’s Articles of Incorporation or required by law. In addition, holders of the combined class now titled Common Stock will all vote as a single class of stock on any matters subject to a shareholder vote. Holders of the former Class A Common Stock and the Nonvoting Common Stock were previously entitled to separate class voting rights in certain circumstances as required by law, and those class voting rights were eliminated with the share reclassification. The holders of Common Stock are entitled to receive dividends and other distributions in cash, stock or property of the Company as and when declared by the Board of Directors of the Company out of legally available funds. Prior to the conversion, the Company’s Articles of Incorporation permitted the payment of a cash dividend on the Nonvoting Common Stock without paying any dividend on the Class A Common Stock or the payment of a cash dividend on the Nonvoting Common Stock that was up to 50% higher than any dividend paid on the Class A Common Stock. Cash dividends could not be paid on the Class A Common Stock unless equal or higher dividends were paid on the Nonvoting Common Stock. The conversion had no other impact on the economic equity interests of holders of Common Stock, including with regards to liquidation rights or redemption, regardless of whether holders previously held shares of Nonvoting Common Stock or Class A Common Stock. On March 23, 2010, the Company announced a 3-for-2 stock split effected in the form of a 50% stock dividend on both Nonvoting Common Stock and Class A Common Stock. New shares were distributed on April 15, 2010 to shareholders of record as of the close of business on April 1, 2010. All share and per-share information has been restated for all periods presented to reflect this stock split. During the fourth quarter of 2008, the Company sold substan- tially all of the assets of its Aaron’s Corporate Furnishings division. As a result of the sale, the Company’s financial statements have been prepared reflecting the Aaron’s Corporate Furnishings division as discontinued operations. See Note N for a discussion of the sale of the Aaron’s Corporate Furnishings division. Certain reclassifications have been made to the prior periods to conform to the current period presentation. In all periods presented, Aaron’s Office Furniture was reclassified from the Sales and Lease Ownership Segment to the Other Segment. Refer to Note K for the segment disclosure. Certain assets have been reclassified as held for sale in all periods presented. LINE OF BUSINESS — The Company is engaged in the business of leasing and selling residential furniture, consumer electronics, appliances, computers, and other merchandise throughout the United States and Canada. The Company’s entire production of furniture and bedding is shipped to Aaron’s stores. LEASE MERCHANDISE — The Company’s lease merchandise consists primarily of residential furniture, consumer electronics, appliances, computers, and other merchandise, and is recorded at cost, which includes overhead from production facilities, shipping costs and warehousing costs. The sales and lease ownership division depreciates merchandise over the lease agreement period, generally 12 to 24 months when on lease and 36 months when not on lease, to a 0% salvage value. Our office furniture stores depreciate mer- chandise over its estimated useful life, which ranges from 24 months to 48 months, net of salvage value, which ranges from 0% to 30%. The Company’s policies require weekly lease merchandise counts by 28 store managers, which include write-offs for unsalable, damaged, or missing merchandise inventories. Full physical inventories are gener- ally taken at the fulfillment and manufacturing facilities two to four times a year, and appropriate provisions are made for missing, dam- aged and unsalable merchandise. In addition, the Company monitors lease merchandise levels and mix by division, store, and fulfillment center, as well as the average age of merchandise on hand. If unsal- able lease merchandise cannot be returned to vendors, it is adjusted to its net realizable value or written off. All lease merchandise is available for lease or sale. On a monthly basis, all damaged, lost or unsalable merchandise identified is written off. The Company records lease merchandise adjustments on the allowance method. Lease merchandise write-offs totaled $46.5 million, $38.3 million and $34.5 million during the years ended December 31, 2010, 2009 and 2008, respectively, and are included in operating expenses in the accompanying consolidated statements of earnings. The current year includes a write-down of $4.7 million related to the closure of the Aaron’s Office Furniture division. DISPOSAL ACTIVITIES — The Company began ceasing the opera- tions of the Aaron’s Office Furniture division in June 2010. The Company closed 14 of its Aaron’s Office Furniture stores during 2010 and had one remaining store open to liquidate merchandise. As a result, the Company recorded $3.3 million in closed-store reserves, $4.7 million in lease merchandise write-downs and other miscella- neous expenses in 2010, totaling $9.0 million in operating expenses, related to the closures. The charges were recorded within operating expenses on the consolidated statement of earnings and are included in the Other segment category. CASH AND CASH EQUIVALENTS — The Company classifies as cash highly liquid investments with maturity dates of less than three months when purchased. ACCOUNTS RECEIVABLE — The Company maintains an allow- ance for doubtful accounts. The reserve for returns is calculated based on the historical collection experience associated with lease receivables. The Company’s policy is to write off lease receivables that are 60 days or more past due. The following is a summary of the Company’s allowance for doubtful accounts as of December 31: and repairs are also expensed as incurred; renewals and betterments are capitalized. Depreciation expense, included in operating expenses in the accompanying consolidated statements of earnings, for prop- erty, plant and equipment, was $41.4 million, $40.7 million and $38.4 million during the years ended December 31, 2010, 2009 and 2008, respectively. ASSETS HELD FOR SALE — Certain properties, primarily consist- ing of parcels of land, met the held-for-sale classification criteria at December 31, 2010. After adjustment to fair value, the $11.8 million and $12.4 million carrying value of these properties has been classified as assets held for sale in the consolidated balance sheets as of December 31, 2010 and 2009, respectively. The Company esti- mated the fair values of these properties using the market values for similar properties and these are considered Level 2 assets as defined in FASB ASC Topic 820, “Fair Value Measurements.” GOODWILL AND OTHER INTANGIBLES — Goodwill represents the excess of the purchase price paid over the fair value of the net tangible and identifiable intangible assets acquired in connection with business acquisitions. The Company has elected to perform its annual impairment evaluation as of September 30. Based on the evaluation, there was no impairment as of September 30, 2010. More frequent evaluations are completed if indicators of impairment become evident. Other intangibles represent the value of customer relationships acquired in connection with business acquisitions, acquired franchise development rights and non-compete agree- ments, recorded at fair value as determined by the Company. As of December 31, 2010 and 2009, the net intangibles other than good- will were $3.8 million and $5.2 million, respectively. The customer relationship intangible is amortized on a straight-line basis over a two-year useful life. Acquired franchise development rights are amor- tized over the unexpired life of the franchisee’s 10-year area develop- ment agreement. The non-compete intangible is amortized on a straight-line basis over a three-year useful life. Amortization expense of intangibles, included in operating expenses in the accompanying consolidated statements of earnings, was $3.1 million, $3.8 million and $3.0 million during the years ended December 31, 2010, 2009 and 2008, respectively. The following is a summary of the Company’s goodwill in its sales and lease ownership segment at December 31: (In Thousands) 2010 2009 2008 Beginning Balance Accounts written off Provision Ending Balance $ 4,157 (23,601) 23,988 $ 4,544 $ 4,040 (20,352) 20,469 $ 4,157 $ 4,014 (18,876) 18,902 $ 4,040 (In Thousands) Beginning Balance Additions Disposals Ending Balance 2010 2009 $194,376 9,239 (1,236) $202,379 $185,965 12,947 (4,536) $194,376 PROPERTY, PLANT AND EQUIPMENT — The Company records property, plant and equipment at cost. Depreciation and amortiza- tion are computed on a straight-line basis over the estimated useful lives of the respective assets, which are from eight to 40 years for buildings and improvements and from one to five years for other depreciable property and equipment. Gains and losses related to dispositions and retirements are recognized as incurred. Maintenance IMPAIRMENT — The Company assesses its long-lived assets other than goodwill for impairment whenever facts and circumstances indicate that the carrying amount may not be fully recoverable. When it is determined that the carrying value of the assets are not recoverable, the Company compares the carrying value of the assets to their fair value as estimated using discounted expected future cash flows, market values or replacement values for similar assets. The 29 Notes to Consolidated Financial Statements amount by which the carrying value exceeds the fair value of the asset is recognized as an impairment loss. The Company also recorded an impairment charge of $879,000 and $3.0 million within operating expenses in 2010 and 2009, respectively, both of which related primarily to the impairment of various land outparcels and buildings included in our sales and lease ownership segment that the Company decided not to utilize for future expansion. The assets held for sale are Level 2 assets and the charges were recorded within operating expenses on the consoli- dated statement of earnings and are included in the Other segment category. In 2008, the Company recorded an impairment charge of $838,000 within operating expenses which related primarily to the impairment of leasehold improvements in several RIMCO stores included in our sales and lease ownership segment. The RIMCO leasehold improvements are Level 2 assets. The Company performed an impairment analysis on the Aaron’s Office Furniture long-lived assets in the third quarter of 2009 due to continuing negative performance. As a result, the Company recorded an impairment charge of $1.3 million in 2009 within operating expenses related primarily to the impairment of leasehold improvements in the Aaron’s Office Furniture stores. The Aaron’s Office Furniture long-lived assets are Level 2 assets. In addition, the Company recorded an $865,000 write-down to certain office furniture lease merchandise in 2009 within operating expenses. The impairment charge and inventory write-down are included in the other segment and are Level 2 assets. DERIVATIVE FINANCIAL INSTRUMENTS — The Company utilizes derivative financial instruments to mitigate its exposure to certain market risks associated with its ongoing operations. The pri- mary risk it seeks to manage through the use of derivative financial instruments is commodity price risk, including the risk of increases in the market price of diesel fuel used in the Company’s delivery vehicles. All derivative financial instruments are recorded at fair value on the consolidated balance sheets. The Company does not use derivative financial instruments for trading or speculative purposes. The Company is exposed to counterparty credit risk on all its deriva- tive financial instruments. The counterparties to these contracts are high-credit quality commercial banks, which the Company believes largely minimize the risk of counterparty default. The fair values of the Company’s fuel hedges as of December 31, 2010 and 2009 and the changes in their fair values in 2010 and 2009 were immaterial. FAIR VALUE OF FINANCIAL INSTRUMENTS — The fair values of the Company’s cash and cash equivalents, accounts receivable and accounts payable approximate their carrying amounts due to their short-term nature. DEFERRED INCOME TAXES — Deferred income taxes represent primarily temporary differences between the amounts of assets and liabilities for financial and tax reporting purposes. Such temporary differences arise principally from the use of accelerated depreciation methods on lease merchandise for tax purposes. REVENUE RECOGNITION — Lease revenues are recognized as revenue in the month they are due. Lease payments received prior to 30 the month due are recorded as deferred lease revenue. Until all pay- ments are received under sales and lease ownership agreements, the Company maintains ownership of the lease merchandise. Revenues from the sale of merchandise to franchisees are recognized at the time of receipt of the merchandise by the franchisee, and revenues from such sales to other customers are recognized at the time of shipment, at which time title and risk of ownership are transferred to the customer. Refer to Note I for discussion of recognition of other franchise-related revenues. The Company presents sales net of sales taxes. COST OF SALES — Included in cost of sales is the net book value of merchandise sold, primarily using specific identification. It is not practicable to allocate operating expenses between selling and lease operations. SHIPPING AND HANDLING COSTS — The Company classifies shipping and handling costs as operating expenses in the accompany- ing consolidated statements of earnings, and these costs totaled $60.6 million in 2010, $55.0 million in 2009 and $55.1 million in 2008. ADVERTISING — The Company expenses advertising costs as incurred. Advertising costs are recorded as expenses the first time an advertisement appears. Such costs aggregated to $31.7 million in 2010, $31.0 million in 2009 and $28.5 million in 2008. These advertising expenses are shown net of cooperative advertising considerations received from vendors, substantially all of which rep- resents reimbursement of specific, identifiable and incremental costs incurred in selling those vendors’ products. The amount of coopera- tive advertising consideration netted against advertising expense was $27.2 million in 2010, $23.4 million in 2009 and $24.7 million in 2008. The prepaid advertising asset was $3.2 million and $2.6 mil- lion at December 31, 2010 and 2009, respectively. STOCK-BASED COMPENSATION — The Company has stock- based employee compensation plans, which are more fully described in Note H below. The Company estimates the fair value for the options granted on the grant date using a Black-Scholes option- pricing model and accounts for stock-based compensation under the fair value recognition provisions codified in FASB ASC Topic 718, “Compensation — Stock Compensation” (“ASC 718”). INSURANCE RESERVES — Estimated insurance reserves are accrued primarily for group health and workers compensation benefits provided to the Company’s employees. Estimates for these insurance reserves are made based on actual reported but unpaid claims and actuarial analyses of the projected claims run off for both reported and incurred but not reported claims. COMPREHENSIVE INCOME — For the years ended December 31, 2010, 2009 and 2008, comprehensive income totaled $119.3 mil- lion, $113.9 million and $88.8 million, respectively. FOREIGN CURRENCY TRANSLATION — Assets and liabilities denominated in a foreign currency are translated into U.S. dollars at the current rate of exchange on the last day of the reporting period. Revenues and expenses are generally translated at a daily exchange rate and equity transactions are translated using the actual rate on the day of the transaction. e t o BN Earnings Per Share Earnings per share is computed by dividing net earnings by the weighted average number of shares of Common Stock outstand- ing during the year for the year ended December 31, 2010 and Nonvoting Common Stock and Class A Common Stock outstanding during the year for the years ended December 31, 2009 and 2008, which were approximately 81,194,000 shares in 2010, 81,138,000 shares in 2009, and 80,114,000 shares in 2008. The computation of earnings per share assuming dilution includes the dilutive effect of stock options and awards. Such stock options and awards had the effect of increasing the weighted average shares outstanding assuming dilution by approximately 745,000 in 2010, 663,000 in 2009, and 1,025,000 in 2008. Anti-dilutive stock options excluded from the computation of earnings per share assuming dilution were 314,000, 470,000 and 2.0 million in 2010, 2009 and 2008, respectively. The Company has issued restricted stock awards under its stock incentive plan whereby shares vest upon satisfaction of certain performance and vesting conditions and all performance conditions were met at December 31, 2010. The effect of restricted stock increased weighted average shares outstanding by 163,000 in 2010, 150,000 in 2009 and 146,000 in 2008. Anti-dilutive shares excluded from the computation of earnings per share assuming dilution were 275,000, 45,000 and 61,000 in 2010, 2009 and 2008, respectively. e t o CN Property, Plant and Equipment Following is a summary of the Company’s property, plant, and equipment at December 31: (In Thousands) Land Buildings and Improvements Leasehold Improvements and Signs Fixtures and Equipment Assets Under Capital Leases: with Related Parties with Unrelated Parties Construction in Progress Less: Accumulated Depreciation and Amortization 2010 2009 $ 25,067 $ 34,739 96,571 84,097 90,625 74,216 100,031 109,458 8,501 10,564 9,485 337,322 8,501 10,564 11,900 336,997 (132,410) (121,814) $ 204,912 $ 215,183 Amortization expense on assets recorded under capital leases is included in operating expenses and was $1.9 million, $1.2 million and $1.2 million in 2010, 2009 and 2008, respectively. Capital leases consist of buildings and improvements. e t o DN Credit Facilities Following is a summary of the Company’s credit facilities at December 31: (In Thousands) Senior Unsecured Notes Capital Lease Obligation: with Related Parties with Unrelated Parties Other Debt 2010 2009 $24,000 $36,000 7,279 7,208 3,303 $41,790 7,775 7,959 3,310 $55,044 BANK DEBT — The Company has a revolving credit agreement with several banks providing for unsecured borrowings up to $140.0 million. Amounts borrowed bear interest at the lower of the lender’s prime rate or LIBOR plus 87.5 basis points. The pricing under a working capital line is based upon overnight bank borrowing rates. At December 31, 2010 and 2009, there was a zero balance under the Company’s revolving credit agreement. The Company pays a .20% commitment fee on unused balances. The weighted average interest rate on borrowings under the revolving credit agreement was 0.97% in 2010, 1.23% in 2009 and 3.66% in 2008. The revolving credit agreement expires May 23, 2013. The revolving credit agreement contains financial covenants which, among other things, prohibit the Company from exceeding certain debt to equity levels and require the maintenance of mini- mum fixed charge coverage ratios. If the Company fails to comply with these covenants, the Company will be in default under these agreements, and all amounts could become due immediately. At December 31, 2010, $199.8 million of retained earnings was available for dividend payments and stock repurchases under the debt restrictions, and the Company was in compliance with all covenants. SENIOR UNSECURED NOTES — On July 27, 2005, the Company sold $60.0 million in aggregate principal amount of senior unsecured notes in a private placement to a consortium of insurance companies. The notes bear interest at a rate of 5.03% per year and mature on July 27, 2012. Interest-only payments were due quarterly for the first two years, followed by annual $12.0 million principal repayments plus interest for the five years thereafter. The related note purchase agreement contains financial maintenance covenants, negative cov- enants regarding the Company’s other indebtedness, its guarantees and investments and other customary covenants substantially similar to the covenants in the Company’s, revolving credit facility. At 31 Notes to Consolidated Financial Statements December 31, 2010 there was $24.0 million outstanding under the July 2005 senior unsecured notes. At December 31, 2010, the fair value of fixed-rate long-term debt approximated its carrying value. The fair value of debt is estimated using valuation techniques that consider risk-free borrowing rates and credit risk. CAPITAL LEASES WITH RELATED PARTIES — In October and November 2004, the Company sold 11 properties, including leasehold improvements, to a limited liability company (“LLC”) controlled by a group of Company executives, including the Company’s Chairman. The LLC obtained borrowings collateralized by the land and buildings totaling $6.8 million. The Company occupies the land and buildings collateralizing the borrowings under a 15-year term lease, with a five-year renewal at the Company’s option, at an aggregate annual rental of $716,000. The transaction has been accounted for as a financing in the accompanying consoli- dated financial statements. The rate of interest implicit in the leases is approximately 9.7%. Accordingly, the land and buildings, associ- ated depreciation expense and lease obligations are recorded in the Company’s consolidated financial statements. No gain or loss was recognized in this transaction. In December 2002, the Company sold 10 properties, including leasehold improvements, to the LLC. The LLC obtained borrowings collateralized by the land and buildings totaling $5.0 million. The Company occupies the land and buildings collateralizing the bor- rowings under a 15-year term lease at an aggregate annual rental of approximately $556,000. The transaction has been accounted for as a financing in the accompanying consolidated financial statements. The rate of interest implicit in the leases is approximately 11.1%. Accordingly, the land and buildings, associated depreciation expense and lease obligations are recorded in the Company’s consolidated financial statements. No gain or loss was recognized in this transaction. SALE-LEASEBACKS — The Company finances a portion of store expansion through sale-leaseback transactions. The properties are generally sold at net book value and the resulting leases qualify and are accounted for as operating leases. The Company does not have any retained or contingent interests in the stores nor does the Company provide any guarantees, other than a corporate level guar- antee of lease payments, in connection with the sale-leasebacks. OTHER DEBT — Other debt at December 31, 2010 and 2009 includes $3.3 million of industrial development corporation revenue bonds. The weighted-average borrowing rate on these bonds in 2010 was 0.48%. No principal payments are due on the bonds until maturity in 2015. Future maturities under the Company’s long-term debt and capital lease obligations are as follows: (In Thousands) 2011 2012 2013 2014 2015 Thereafter $13,339 13,285 1,423 1,549 5,039 7,155 $41,790 Income Taxes e t o EN Following is a summary of the Company’s income tax expense for the years ended December 31: (In Thousands) 2010 2009 2008 Current Income Tax Expense (Benefit): $ — Federal 8,932 State 8,932 Deferred Income Tax Expense (Benefit): 64,679 Federal (1,201) State 63,478 $72,410 $40,697 7,832 48,529 $(26,324) 5,062 (21,262) 15,169 (137) 15,032 $63,561 73,375 1,698 75,073 $ 53,811 At December 31, 2010, the Company had a federal net operating loss (“NOL”) carryforward of approximately $18.0 million available to offset future taxable income. The NOL expires in 2030 and its utilization is subject to applicable annual limitations for U.S. federal and U.S. state tax purposes, including Section 382 of the Internal Revenue Code of 1986, as amended. The Company intends to carryforward the NOL to offset future taxable income and does not anticipate that its utilization will be impacted by the applicable limitations. As a result of the bonus depreciation provisions in the 2010 tax acts, the Company has paid more than our anticipated 2010 federal tax liability. The 2010 acts provided an estimated tax deferral of approximately $127.0 million. The Company filed for a refund of overpaid federal tax of approximately $81.0 million in January 2011 and received that refund in February 2011. Significant components of the Company’s deferred income tax liabilities and assets at December 31 are as follows: 32 (In Thousands) 2010 2009 Deferred Tax Liabilities: Lease Merchandise and Property, Plant and Equipment Other, Net Total Deferred Tax Liabilities Deferred Tax Assets: Accrued Liabilities Advance Payments Federal Net Operating Loss Other, Net Total Deferred Tax Assets Less Valuation Allowance Net Deferred Tax Liabilities $248,775 24,777 273,552 $175,293 19,449 194,742 15,859 15,231 6,423 9,386 46,899 (860) $227,513 10,848 14,242 — 6,436 31,526 (454) $163,670 The Company’s effective tax rate differs from the statutory U.S. Federal income tax rate for the years ended December 31 as follows: Statutory Rate Increases in U.S. Federal Taxes Resulting From: State Income Taxes, Net of Federal Income Tax Benefit Other, Net Effective Tax Rate 2010 2009 2008 35.0% 35.0% 35.0% 2.7 0.3 38.0% 2.8 (1.8) 36.0% 3.1 .4 38.5% The Company files a federal consolidated income tax return in the United States and the separate legal entities file in various states and foreign jurisdictions. With few exceptions, the Company is no longer subject to federal, state and local tax examinations by tax authorities for years before 2007. The decrease in the effective rate in 2009 was due to the favorable impact of a $2.3 million reversal of previously recorded liabilities for uncertain tax positions. The following table summarizes the activity related to the Company’s uncertain tax positions: (In Thousands) 2010 2009 2008 Balance at January 1, Additions based on tax positions related to the current year Additions for tax positions of prior years Prior year reductions Statute expirations Settlements Balance at December 31, $1,342 $3,110 $3,482 149 172 119 18 (26) (63) (105) $1,315 523 (46) (2,231) (186) $1,342 559 (349) (176) (525) $3,110 As of December 31, 2010 and 2009, the amount of uncertain tax benefits that, if recognized, would affect the effective tax rate is $1.3 million, for both years, including interest and penalties. During the years ended December 31, 2010, 2009 and 2008, the Company recognized interest and penalties of $35,000, $276,000, and $435,000, respectively. The Company had $332,000 and $349,000 of accrued interest and penalties at December 31, 2010 and 2009, respectively. The Company recognizes potential interest and penalties related to uncertain tax benefits as a component of income tax expense. e t o FN Commitments and Contingencies The Company leases warehouse and retail store space for most of its operations under operating leases expiring at various times through 2028. The Company also leases certain properties under capital leases that are more fully described in Note D. Most of the leases contain renewal options for additional periods ranging from one to 15 years or provide for options to purchase the related property at predetermined purchase prices that do not represent bargain pur- chase options. In addition, certain properties occupied under operat- ing leases contain normal purchase options. Leasehold improvements related to these leases are generally amortized over periods that do not exceed the lesser of the lease term or five years. While a majority of leases do not require escalating payments, for the leases which do contain such provisions the Company records the related lease expense on a straight-line basis over the lease term. The Company also leases transportation and computer equipment under operating leases expiring during the next five years. Management expects that most leases will be renewed or replaced by other leases in the normal course of business. Future minimum lease payments required under operating leases that have initial or remaining non-cancelable terms in excess of one year as of December 31, 2010, are as follows: (In Thousands) 2011 2012 2013 2014 2015 Thereafter $ 96,305 83,334 68,450 55,833 42,490 191,506 $537,918 The Company has guaranteed certain debt obligations of some of the franchisees amounting to $121.0 million and $128.8 million at December 31, 2010 and 2009, respectively. Of this amount, approximately $108.3 million represents franchise borrowings outstanding under the franchise loan program and approximately 33 Notes to Consolidated Financial Statements $12.7 million represents franchise borrowings under other debt facilities at December 31, 2010. The Company receives guarantee fees based on such franchisees’ outstanding debt obligations, which it recognizes as the guarantee obligation is satisfied. The Company has recourse rights to the assets securing the debt obligations, which consist primarily of lease merchandise inventory and fixed assets. As a result, the Company has never incurred any, nor does management expect to incur any, significant losses under these guarantees. The guaranty was amended on June 18, 2010, to increase the maximum commitment amount under the facility from $175.0 million to $200.0 million; provide for the ability to extend loans to franchisees that operate stores located in Canada (other than in the Province of Quebec); increase the maximum available amount of swing loans from $20.0 million to $25.0 million; reduce the Company’s interest obligations with respect to franchisees that operate stores located in the United States and establish the Company’s interest obligations with respect to franchisees that operate stores located in Canada. Rental expense was $96.1 million in 2010, $88.1 million in 2009, and $81.8 million in 2008. As of December 31, 2010, the total amount of sublease income expected to be received was $22.1 million. At December 31, 2010, the Company had non-cancelable commitments primarily related to certain advertising and marketing programs of $47.5 million. Payments under these commitments are scheduled to be $31.5 million in 2011, $13.6 million in 2012, $2.2 million in 2013 and $195,000 in 2014. The Company maintains a 401(k) savings plan for all its full-time employees with at least one year of service and who meet certain eligibility requirements. The plan allows employees to contribute up to 10% of their annual compensation with 50% matching by the Company on the first 4% of compensation. The Company’s expense related to the plan was $841,000 in 2010, $844,000 in 2009, and $775,000 in 2008. The Company is a party to various claims and legal proceedings arising in the ordinary course of business. Management regularly assesses the Company’s insurance deductibles, analyzes litigation information with the Company’s attorneys and evaluates its loss experience. The Company also enters into various contracts in the normal course of business that may subject it to risk of financial loss if counterparties fail to perform their contractual obligations. The Company does not currently believe its exposure to loss under any claims is probable, nor can the Company estimate a range of amounts of loss that are reasonably possible. Notwithstanding the foregoing, the Company is currently a party to the following proceeding: In Kunstmann et al v. Aaron Rents, Inc. originally filed with the United States District Court, Northern District of Alabama (the “court”) on October 28, 2008, plaintiffs alleged that the Company improperly classified store general managers as exempt from the overtime provisions of the Fair Labor Standards Act. Plaintiffs seek to recover unpaid overtime compensation and other damages for all similarly situated general managers nationwide for the period January 25, 2007 to present. After initially denying plaintiffs’ class 34 certification motion in April 2009, the court ruled to conditionally certify a plaintiff class in early 2010. The current class includes 237 individuals, which may decrease as discovery continues. Those individuals who affirmatively opt to join the class may be required to travel at their own expense to Alabama for discovery purposes and/or trial. The court’s class certification ruling is procedural only and does not address the merits of the plaintiffs’ claims. The Company believes it has meritorious defenses to the claim described above, and intends to vigorously defend itself against the litigation. However, this proceeding is still developing, and due to inherent uncertainty in litigation and similar adversarial proceed- ings, there can be no guarantee that the Company will ultimately be successful in this proceeding, or in others to which it is currently a party. Substantial losses from this proceeding could have a material adverse impact upon the Company’s business, financial position or results of operations. In addition, the Company’s requirement to record or disclose potential losses under generally accepted account- ing principles could change in the near term depending upon chang- es in facts and circumstances. The Company believes it has recorded an adequate reserve for contingencies at December 31, 2010. e t o GN Shareholders’ Equity The Company held 10,664,728 shares in its treasury and was authorized to purchase an additional 4,401,815 shares at December 31, 2010. The Company repurchased 1,478,805 shares of its Nonvoting Common Stock on the open market in 2010. The Company did not repurchase any shares of its capital stock in 2009. The Company repurchased 387,545 shares of its Nonvoting Common Stock in 2008. The Company has 1,000,000 shares of preferred stock authorized. The shares are issuable in series with terms for each series fixed by the Board and such issuance is subject to approval by the Board of Directors. As of December 31, 2010, no preferred shares have been issued. e t o HN Stock Options and Restricted Stock The Company’s outstanding stock options are exercisable for its Common Stock. The Company estimates the fair value for the options on the grant date using a Black-Scholes option-pricing model. The expected volatility is based on the historical volatility of the Company’s Common Stock over the most recent period gener- ally commensurate with the expected estimated life of each respective grant. The expected lives of options are based on the Company’s his- torical option exercise experience. Forfeiture assumptions are based on the Company’s historical forfeiture experience. The Company believes that the historical experience method is the best estimate of future exercise and forfeiture patterns currently available. The risk- free interest rates are determined using the implied yield currently available for zero-coupon U.S. government issues with a remaining term equal to the expected life of the options. The expected dividend yields are based on the approved annual dividend rate in effect and current market price of the underlying Common Stock at the time of grant. No assumption for a future dividend rate increase has been included unless there is an approved plan to increase the dividend in the near term. Shares are issued from the Company’s treasury shares upon share option exercises. The results of operations for the year ended December 31, 2010, 2009 and 2008 include $3.2 million, $2.4 million and $1.4 million, respectively, in compensation expense related to unvested grants. At December 31, 2010, there was $5.0 million of total unrecognized compensation expense related to non-vested stock options which is expected to be recognized over a period of 4.2 years. Excess tax benefits of $321,000, $3.9 million and $1.8 million are included in cash provided by financing activities for the year ended December 31, 2010 and 2009, respectively. The Company recognizes compensation cost for awards with graded vesting on a straight-line basis over the requisite service period for each separately vesting portion of the award. Under the Company’s stock option plans, options granted to date become exercisable after a period of two to five years and unexercised options lapse 10 years after the date of the grant. Options are subject to forfeiture upon termination of service. The aggregate number of shares of common stock that may be issued or transferred under the incentive stock awards plan is 14,966,112 at December 31, 2010. The Company granted 347,000 and 1,524,000 stock options during 2010 and 2008, respectively. The Company did not grant any stock options in 2009. The weighted average fair value of options granted was $10.31 in 2010 and $5.75 in 2008. The fair value for these options was estimated at the date of grant using a Black-Scholes option pricing model with the following weighted average assumptions for 2010 and 2008, respectively: risk-free interest rate 3.59% and 3.47%; a dividend yield of .25% and .25%; a volatility factor of the expected market price of the Company’s Common Stock of .41 and .38; weighted average assumptions of forfeiture rate of 3.89% and 11.77%; and weighted average expected life of the option of nine and five years. The aggregate intrinsic value of options exercised was $848,000 million, $13.1 million and $6.4 million in 2010, 2009 and 2008, respectively. The total fair value of options vested was $3.2 million and $1.0 million in 2010 and 2008, respectively. Income tax benefits resulting from stock option exercises credited to additional paid-in capital totaled $1.4 million, $4.8 million, and $3.2 million, in 2010, 2009 and 2008, respectively. The following table summarizes information about stock options outstanding at December 31, 2010: Range of Exercise Prices $ 3.81–10.00 10.01–15.00 15.01–19.92 $ 3.81–19.92 Number Outstanding December 31, 2010 Options Outstanding Weighted Average Remaining Contractual Life (in years) Options Exercisable Weighted Average Exercise price Number Exercisable December 31, 2010 Weighted Average Exercise Price 477,382 2,551,458 345,458 3,374,298 2.60 6.29 8.71 6.01 $ 8.75 13.95 19.61 $13.80 477,382 1,228,458 31,958 1,737,798 $ 8.75 13.79 16.61 $12.46 The table below summarizes option activity for the periods indicated in the Company’s stock option plans: Options (In Thousands) Weighted Average Weighted Average Remaining Contractual Term Aggregate Intrinsic Value (In Thousands) Weighted Average Fair Value Outstanding at January 1, 2010 Granted Exercised Forfeited Outstanding at December 31, 2010 Exercisable at December 31, 2010 3,246 347 (110) (109) 3,374 1,738 $13.09 19.92 11.24 14.92 13.80 $12.46 $23,689 163 (848) (598) 22,245 $13,785 6.01 years 4.09 years $5.77 10.31 4.30 6.56 6.26 $5.87 35 Notes to Consolidated Financial Statements The weighted average fair value of unvested options was Franchise agreement fee revenue was $3.0 million, $3.8 million and $3.2 million and royalty revenue was $47.9 million, $42.3 million and $36.5 million for the years ended December 31, 2010, 2009 and 2008, respectively. Deferred franchise and area develop- ment agreement fees, included in customer deposits and advance payments in the accompanying consolidated balance sheets, were $5.5 and $5.3 million at December 31, 2010 and 2009, respec- tively. Franchised Aaron’s Sales & Lease Ownership store activity is summarized as follows: (Unaudited) 2010 2009 2008 Franchised stores open at January 1, Opened Added through acquisition Purchased from the Company Purchased by the Company Closed, sold or merged Franchised stores open at December 31, 597 62 10 10 (12) (3) 664 504 84 — 37 (19) (9) 597 484 56 12 27 (66) (9) 504 Company-operated Aaron’s Sales & Lease Ownership store activity is summarized as follows: (Unaudited) 2010 2009 2008 Company-operated stores open at January 1, Opened Added through acquisition Closed, sold or merged Company-operated stores open at December 31, 1,082 89 14 (36) 1,037 85 19 (59) 1,014 54 66 (97) 1,149 1,082 1,037 In 2010, the Company acquired the lease contracts, merchan- dise and other related assets of 30 stores, including 12 franchised stores, and merged certain acquired stores into existing stores, resulting in a net gain of 14 stores. In 2009, the Company acquired the lease contracts, merchandise and other related assets of 44 stores, including 19 franchised stores, and merged certain acquired stores into existing stores, resulting in a net gain of 29 stores. In 2008, the Company acquired the lease contracts, merchandise and other related assets of 95 stores, including 66 franchised stores, and merged certain acquired stores into existing stores, resulting in a net gain of 68 stores. $6.66, $6.08 and $6.08 as of December 31, 2010, 2009 and 2008, respectively. The weighted average fair value of options that vested during 2010, 2009 and 2008 was $5.87, $5.35 and $4.36, respec- tively. The Company granted 300,000 restricted stock unit awards in 2010. The Company did not grant any restricted stock awards in 2009 or 2008. Shares of restricted stock or restricted stock units may be granted to employees and directors and typically vest over approximately three-to four-year periods. Restricted stock grants may be subject to one or more objective employment, performance or other forfeiture conditions as established at the time of grant. Any shares of restricted stock that are forfeited may again become available for issuance. Compensation cost for restricted stock is equal to the fair market value of the shares at the date of the award and is amortized to compensation expense over the vesting period. Total compensation expense related to restricted stock was $1.5 million, $1.3 million and $1.5 million in 2010, 2009 and 2008, respectively. The following table summarizes information about restricted stock activity: (In Thousands) Restricted Stock Weighted Average Grant Price Outstanding at January 1, 2010 Granted Vested Forfeited Outstanding at December 31, 2010 293 300 (147) (8) 438 18.84 16.20 18.84 18.84 17.01 e t o IN Franchising of Aaron’s Sales and Lease Ownership Stores The Company franchises Aaron’s Sales & Lease Ownership stores. As of December 31, 2010 and 2009, 946 and 866 franchises had been granted, respectively. Franchisees typically pay a non-refundable initial franchise fee from $15,000 to $50,000, depending upon market size and an ongoing royalty of either 5% or 6% of gross revenues. Franchise fees and area development fees are generated from the sale of rights to develop, own and operate Aaron’s Sales & Lease Ownership stores. These fees are recognized as income when substantially all of the Company’s obligations per location are satis- fied, generally at the date of the store opening. Franchise fees and area development fees are received before the substantial completion of the Company’s obligations and deferred. Substantially all of the amounts reported as non-retail sales and non-retail cost of sales in the accompanying consolidated statements of earnings relate to the sale of lease merchandise to franchisees. 36 Acquisitions and Dispositions The following is a summary of the Company’s intangible assets by category: e t o JN During 2010, the Company acquired the lease contracts, mer- chandise and other related assets of a net of 14 sales and lease ownership stores for an aggregate purchase price of $17.9 million. Consideration transferred consisted primarily of cash. Fair value of acquired tangible assets included $6.5 million for lease merchandise, $333,000 for fixed assets and $34,000 for other assets. The excess cost over the fair value of the assets and liabilities acquired in 2010, representing goodwill, was $9.2 million. The fair value of acquired separately identifiable intangible assets included $748,000 for cus- tomer lists, $541,000 for non-compete intangibles and $496,000 for acquired franchise development rights. During 2009, the Company acquired the lease contracts, merchandise and other related assets of a net of 29 sales and lease ownership stores for an aggregate purchase price of $25.2 million. Consideration transferred consisted primarily of cash. Fair value of acquired tangible assets included $9.5 million for lease merchan- dise, $712,000 for fixed assets and $28,000 for other assets. The excess cost over the fair value of the assets and liabilities acquired in 2010, representing goodwill, was $12.0 million. The fair value of acquired separately identifiable intangible assets included $1.1 mil- lion for customer lists, $695,000 for non-compete intangibles and $477,000 for acquired franchise development rights. During 2008, the Company acquired the lease contracts, merchandise and related assets of a net of 68 sales and lease ownership stores for an aggregate purchase price of $79.8 mil- lion. Consideration transferred consisted primarily of cash. Fair value of acquired tangible assets included $28.5 million for lease merchandise, $2.1 million for fixed assets, and $66,000 for other assets. The excess cost over the fair value of the assets and liabili- ties acquired in 2008, representing goodwill, was $44.1 million. The fair value of acquired separately identifiable intangible assets included $4.3 million for customer lists and $1.9 million for acquired franchise development rights. Acquisitions have been accounted for as purchases, and the results of operations of the acquired businesses are included in the Company’s results of operations from their dates of acquisition. The effect of these acquisitions on the 2010, 2009 and 2008 con- solidated financial statements was not significant. The estimated amortization of customer lists, reacquired franchise development rights and non-compete intangibles in future years approximates $636,000, $432,000, $148,000, $64,000 and $63,000 for 2011, 2012, 2013, 2014 and 2015, respectively. (In Thousands) 2010 2009 2008 Customer Relationship Intangible, Gross Accumulated Amortization on Customer Relationship Intangible Non-Compete Intangible, Gross Accumulated Amortization on Non-Compete Intangible Reacquired Franchise Intangible, Gross Accumulated Amortization on Reacquired Franchise Rights $748 $1,677 $4,250 (205) 496 (469) 477 (699) 1,931 (52) (109) (139) 541 861 (109) (191) — — The Company sells sales and lease ownership stores to fran- chisees and third party operators during the course of the year. The Company sold 11, 37 and 27 of its sales and lease ownership locations in 2010, 2009 and 2008, respectively. The effect of these sales on the consolidated financial statements was not significant. e t o KN Segments Description of Products and Services of Reportable Segments Aaron’s, Inc. has three reportable segments: sales and lease owner- ship, franchise and manufacturing. During 2008, the Company sold its corporate furnishings division. The sales and lease ownership division offers electronics, residential furniture, appliances and computers to consumers primarily on a monthly payment basis with no credit requirements. The Company’s franchise operation sells and supports franchisees of its sales and lease ownership concept. The manufacturing division manufactures upholstered furniture and bedding predominantly for use by Company-operated and franchised stores. The Company has elected to aggregate certain operating segments. Earnings before income taxes for each reportable segment are generally determined in accordance with accounting principles gen- erally accepted in the United States with the following adjustments: • Sales and lease ownership revenues are reported on the cash basis for management reporting purposes. • A predetermined amount of each reportable segment’s revenues is charged to the reportable segment as an allocation of corporate overhead. This allocation was approximately 2% in 2010, 2009 and 2008. 37 Notes to Consolidated Financial Statements • Accruals related to store closures are not recorded on the report- able segments’ financial statements, but are rather maintained and controlled by corporate headquarters. • The capitalization and amortization of manufacturing variances are recorded on the consolidated financial statements as part of Cash to Accrual and Other Adjustments and are not allocated to the seg- ment that holds the related lease merchandise. • Advertising expense in the sales and lease ownership division is estimated at the beginning of each year and then allocated to the division ratably over time for management reporting purposes. For financial reporting purposes, advertising expense is recognized when the related advertising activities occur. The difference between these two methods is reflected as part of the Cash to Accrual and Other Adjustments line below. • Sales and lease ownership lease merchandise write-offs are recorded using the direct write-off method for management reporting purposes and using the allowance method for financial reporting purposes. The difference between these two methods is reflected as part of the Cash to Accrual and Other Adjustments line below. • Interest on borrowings is estimated at the beginning of each year. Interest is then allocated to operating segments based on relative total assets. Revenues in the “Other” category are primarily revenues of the Aaron’s Office Furniture division, from leasing space to unrelated third parties in the corporate headquarters building and revenues from several minor unrelated activities. The pre-tax losses in the “Other” category are the net result of the activity mentioned above, net of the portion of corporate overhead not allocated to the reportable segments for management purposes. Measurement of Segment Proﬁ t or Loss and Segment Assets The Company evaluates performance and allocates resources based on revenue growth and pre-tax profit or loss from operations. The accounting policies of the reportable segments are the same as those described in the summary of significant accounting policies except that the sales and lease ownership division revenues and certain other items are presented on a cash basis. Intersegment sales are completed at internally negotiated amounts. Since the intersegment profit and loss affect inventory valuation, depreciation and cost of goods sold are adjusted when intersegment profit is eliminated in consolidation. Factors Used by Management to Identify the Reportable Segments The Company’s reportable segments are based on the operations of the Company that the chief operating decision maker regularly reviews to analyze performance and allocate resources among busi- ness units of the Company. As discussed in Note N, the Company sold substantially all of the assets of the Aaron’s Corporate Furnishings division during the fourth quarter of 2008. For financial reporting purposes, this division has been classified as a discontinued operation and is not included in our segment information as shown below. 38 (In Thousands) Revenues From External Customers: Sales and Lease Ownership Franchise Other Manufacturing Revenues of Reportable Segments Elimination of Intersegment Revenues Cash to Accrual Adjustments Total Revenues from External Customers from Continuing Operations Earnings Before Income Taxes: Sales and Lease Ownership Franchise Other Manufacturing Earnings Before Income Taxes for Reportable Segments Elimination of Intersegment Profit Cash to Accrual and Other Adjustments Total Earnings from Continuing Operations Before Income Taxes Assets: Sales and Lease Ownership Franchise Other Manufacturing Total Assets from Continuing Operations Depreciation and Amortization: Sales and Lease Ownership Franchise Other Manufacturing Total Depreciation and Amortization from Continuing Operations Interest Expense: Sales and Lease Ownership Franchise Other Manufacturing Total Interest Expense from Continuing Operations Capital Expentitures: Sales and Lease Ownership Franchise Other Manufacturing Total Capital Expenditures from Continuing Operations Revenues From Canadian Operations (included in totals above): Sales and Lease Ownership Assets From Canadian Operations (included in totals above): Sales and Lease Ownership Year Ended December 31, 2010 Year Ended December 31, 2009 Year Ended December 31, 2008 $1,803,778 59,112 16,514 79,115 1,958,519 (80,109) (1,563) $1,876,847 $ 159,417 45,953 (8,165) 3,216 200,403 (3,218) (6,399) $ 190,786 $1,248,785 55,789 189,198 14,723 $1,508,495 $ 539,669 41 6,864 2,958 $ 549,532 $ 2,937 — 144 15 $ 3,096 $ 275 — 679 904 $ 1,858 $1,685,841 52,941 19,320 72,473 1,830,575 (73,184) (4,604) $1,752,787 $ 147,261 39,335 (5,676) 3,329 184,249 (3,341) (4,469) $ 176,439 $1,110,675 51,245 144,024 15,512 $1,321,456 $ 508,218 192 9,073 1,888 $ 519,371 $ 4,030 — 254 15 $ 4,299 $ 275 706 239 $ 1,220 $1,526,405 45,025 25,781 68,720 1,665,931 (69,314) (4,009) $1,592,608 $ 113,513 32,933 (60) 1,350 147,736 (1,332) (6,824) $ 139,580 $1,019,338 39,831 152,934 21,167 $1,233,270 $ 461,182 350 8,016 1,845 $ 471,393 $ 7,621 — 182 15 $ 7,818 $ 275 — 734 239 $ 1,247 $ 4,470 $ 3,781 $ 8,716 $ 15,093 $ 6,469 $ 7,985 39 Notes to Consolidated Financial Statements Information on segments and a reconciliation to earnings before income taxes from continuing operations are as follows: e t o LN Related Party Transactions The Company leases certain properties under capital leases with cer- tain related parties that are more fully described in Note D above. In 2009, the Company sponsored the son of its Chief Operating Officer as a driver for the Robert Richardson Racing team in the NASCAR Nationwide Series at a cost of $1.6 million. The Company also paid $22,000 for team decals, apparel and driver travel to corporate promotional events. The sponsorship agreement expired at the end of the year and was not renewed. Motor sports promotions and sponsorships are an integral part of the Company’s marketing programs. In the second quarter of 2009, the Company entered into an agreement with R. Charles Loudermilk, Sr., Chairman of the Board of Directors of the Company, to exchange 750,000 of Mr. Loudermilk, Sr.’s shares of the Company’s Class A Common Stock for 624,503 shares of its Nonvoting Common Stock having approximately the same fair market value, based on a 30 trading day average. Quarterly Financial Information (Unaudited) e t o MN (In Thousands, Except Per Share) First Quarter Second Quarter Third Quarter Fourth Quarter Year Ended December 31, 2010 Revenues Gross Profit* Earnings Before Taxes From Continuing Operations Net Earnings Earnings Per Share Earnings Per Share Assuming Dilution Year Ended December 31, 2009 Revenues Gross Profit* Earnings Before Taxes From Continuing Operations Net Earnings From Continuing Operations (Loss) Earnings From Discontinued Operations, Net of Tax Earnings Per Share Earnings Per Share Assuming Dilution $495,269 239,827 59,562 36,975 .45 .45 $473,950 226,571 57,236 35,360 (209) .44 .43 $444,999 215,725 39,329 24,435 .30 .30 $417,310 206,191 44,350 27,826 (76) .34 .34 $452,150 217,994 42,085 26,179 .32 .32 $415,259 203,254 34,999 24,655 (19) .30 .30 $484,429 226,822 49,810 30,787 .38 .38 $446,268 207,323 39,854 25,037 27 .31 .31 * Gross profit is the sum of lease revenues and fees, retail sales, and non-retail sales less retail cost of sales, non-retail cost of sales, depreciation of lease merchandise and write-offs of lease merchandise. 40 e t o NN Discontinued Operations e t o ON Deferred Compensation Plan On September 12, 2008, the Company entered into an agreement with CORT Business Services Corporation to sell substantially all of the assets of its Aaron’s Corporate Furnishings division and to trans- fer certain of the Aaron’s Corporate Furnishings division’s liabilities to CORT. The Aaron’s Corporate Furnishings division, which operated at 47 stores, primarily engaged in the business of leasing and selling residential furniture, electronics, appliances, housewares and accessories. The Company consummated the sale of the Aaron’s Corporate Furnishings division in the fourth quarter of 2008. The consideration for the assets consisted of $72 million in cash plus payments for certain accounts receivable of the Aaron’s Corporate Furnishings division, subject to certain adjustments, including for differences in the amount of the Aaron’s Corporate Furnishings division’s inventory at closing and in the monthly rent potential of the division’s merchandise on lease at closing as com- pared to certain benchmark ranges set forth in the purchase agree- ment. The assets transferred include all of the Aaron’s Corporate Furnishings division’s lease contracts with customers and certain other contracts, certain inventory and accounts receivable and store leases or subleases for 27 locations. CORT assumed performance obligations under transferred lease and certain other contracts and customer deposits. The Company retained other liabilities of the Aaron’s Corporate Furnishings division, including its accounts payable and accrued expenses. Included in the 2008 results is a $1.2 million pre-tax gain on the sale of the Aaron’s Corporate Furnishings division in the fourth quarter of 2008. Summarized operating results for the Aaron’s Corporate Furnishings division for the years ended December 31 are as follows: (In Thousands) 2010 2009 2008 Revenues (Loss) Earnings Before Income Taxes (Loss) Earnings From Discontinued Operations, Net of Tax $ — — $ — (447) $83,359 7,162 — (277) 4,420 Effective July 1, 2009, the Company implemented the Aaron’s, Inc. Deferred Compensation Plan (the “Plan”) an unfunded, nonquali- fied deferred compensation plan for a select group of management, highly compensated employees and non-employee directors. On a pre-tax basis, eligible employees can defer receipt of up to 75% of their base compensation and up to 100% of their incentive pay com- pensation, and eligible non-employee directors can defer receipt of up to 100% of both their cash and stock director fees. In addition, the Company may elect to make restoration matching contributions on behalf of eligible employees to compensate for certain limitations on the amount of matching contributions an employee can receive under the Company’s tax-qualified 401(k) plan. Compensation deferred under the Plan is credited to each participant’s deferral account and a deferred compensation liability is recorded in accounts payable and accrued expenses in the con- solidated balance sheets. The deferred compensation plan liability was approximately $3.5 million and $713,000 as of December 31, 2010 and 2009, respectively. Liabilities under the Plan are recorded at amounts due to participants, based on the fair value of partici- pants’ selected investments. The Company has established a Rabbi Trust to fund obligations under the Plan with Company-owned life insurance. The obligations are unsecured general obligations of the Company and the participants have no right, interest or claim in the assets of the Company, except as unsecured general creditors. The cash surrender value of these policies totaled $3.5 million and $772,000 as of December 31, 2010 and 2009, respectively, and is included in prepaid expenses and other assets in the consolidated balance sheets. Deferred compensation expense charged to operations for the Company’s matching contributions totaled $231,000 and $130,000 in 2010 and 2009, respectively. No benefits have been paid as of December 31, 2010. 41 Management Report on Internal Control Over Financial Reporting Management of Aaron’s, Inc. and subsidiaries (the “Company”) is responsible for establishing and maintaining adequate internal control over financial reporting as defined in Rules 13a-15(f) and 15d-15(f) under the Securities Exchange Act of 1934, as amended. Because of its inherent limitations, internal control over financial reporting may not prevent or detect misstatements. Projections of any evaluation of effectiveness to future periods are subject to the risk that controls may become inadequate because of changes in conditions or that the degree of compliance with the policies or procedures may deteriorate. Internal control over financial reporting cannot provide absolute assurance of achieving financial reporting objectives because of its inherent limitations. Internal control over financial reporting is a process that involves human diligence and compliance and is subject to lapses in judgment and breakdowns resulting from human failures. Internal control over financial reporting also can be circumvented by collusion or improper management override. Because of such limitations, there is a risk that material misstatements may not be prevented or detected on a timely basis by internal control over financial reporting. However, these inherent limitations are known features of the financial reporting process. Therefore, it is possible to design into the process safeguards to reduce, though not eliminate, the risk. The Company’s management assessed the effectiveness of the Company’s internal control over financial reporting as of December 31, 2010. In making this assessment, the Company’s management used the criteria set forth by the Committee of Sponsoring Organizations of the Treadway Commission (COSO) in Internal Control-Integrated Framework. Based on its assessment, management believes that, as of December 31, 2010, the Company’s internal control over financial reporting was effective based on those criteria. The Company’s internal control over financial reporting as of December 31, 2010 has been audited by Ernst & Young LLP, an independent registered public accounting firm, as stated in their report dated February 25, 2011, which expresses an unqualified opinion on the effectiveness of the Company’s internal control over financial reporting as of December 31, 2010. Report of Independent Registered Public Accounting Firm on Financial Statements The Board of Directors of Aaron’s, Inc. and subsidiaries We have audited the accompanying consolidated balance sheets of Aaron’s, Inc. and subsidiaries as of December 31, 2010 and 2009, and the related consolidated statements of earnings, shareholders’ equity, and cash flows for each of the three years in the period ended December 31, 2010. These financial statements are the responsibility of the Company’s management. Our responsibility is to express an opinion on these financial statements based on our audits. We conducted our audits in accordance with the standards of the Public Company Accounting Oversight Board (United States). Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements. An audit also includes assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation. We believe that our audits provide a reasonable basis for our opinion. In our opinion, the financial statements referred to above present fairly, in all material respects, the consolidated financial position of Aaron’s, Inc. and subsidiaries at December 31, 2010 and 2009, and the consolidated results of their operations and their cash flows for each of the three years in the period ended December 31, 2010, in conformity with U.S. generally accepted accounting principles. We also have audited, in accordance with the standards of the Public Company Accounting Oversight Board (United States), Aaron’s, Inc. and subsidiaries’ internal control over financial reporting as of December 31, 2010, based on criteria established in Internal Control-Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission and our report dated February 25, 2011 expressed an unqualified opinion thereon. Atlanta, Georgia February 25, 2011 42 Report of Independent Registered Public Accounting Firm on Internal Control Over Financial Reporting The Board of Directors of Aaron’s, Inc. and subsidiaries We have audited Aaron’s, Inc. and subsidiaries’ internal control over financial reporting as of December 31, 2010, based on criteria established in Internal Control — Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission (the COSO criteria). Aaron’s, Inc. and subsidiaries’ management is responsible for maintaining effective internal control over financial reporting, and for its assessment of the effectiveness of internal control over financial reporting included in the accompanying Management Report on Internal Control over Financial Reporting. Our responsibility is to express an opinion on the company’s internal control over financial reporting based on our audit. We conducted our audit in accordance with the standards of the Public Company Accounting Oversight Board (United States). Those standards require that we plan and perform the audit to obtain reasonable assurance about whether effective internal control over financial reporting was maintained in all material respects. Our audit included obtaining an understanding of internal control over financial reporting, assessing the risk that a material weakness exists, testing and evaluating the design and operating effectiveness of internal control based on the assessed risk, and performing such other procedures as we considered necessary in the circumstances. We believe that our audit provides a reasonable basis for our opinion. A company’s internal control over financial reporting is a process designed to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for external purposes in accordance with generally accepted accounting principles. A company’s internal control over financial reporting includes those policies and procedures that (1) pertain to the maintenance of records that, in reasonable detail, accurately and fairly reflect the transactions and dispositions of the assets of the company; (2) provide reasonable assurance that transactions are recorded as necessary to permit preparation of financial statements in accordance with generally accepted accounting principles, and that receipts and expenditures of the company are being made only in accordance with authorizations of management and directors of the company; and (3) provide reasonable assurance regarding prevention or timely detection of unauthorized acquisition, use or disposition of the company’s assets that could have a material effect on the financial statements. Because of its inherent limitations, internal control over financial reporting may not prevent or detect misstatements. Also, projections of any evaluation of effectiveness to future periods are subject to the risk that controls may become inadequate because of changes in conditions, or that the degree of compliance with the policies or procedures may deteriorate. In our opinion, Aaron’s, Inc. and subsidiaries maintained, in all material respects, effective internal control over financial reporting as of December 31, 2010, based on the COSO criteria. We also have audited, in accordance with the standards of the Public Company Accounting Oversight Board (United States), the consolidated balance sheets of Aaron’s, Inc. and subsidiaries as of December 31, 2010 and 2009 and the related consolidated statements of earnings, shareholders’ equity and cash flows for each of the three years in the period ended December 31, 2010 of Aaron’s, Inc. and subsidiaries and our report dated February 25, 2011 expressed an unqualified opinion thereon. Atlanta, Georgia February 25, 2011 43 Common Stock Market Prices and Dividends The Company’s Common Stock is listed on the New York Stock Exchange under the symbol “AAN.” The number of shareholders of record of the Company’s Common Stock at February 24, 2011 was 282. The closing price for the Common Stock at February 23, 2011 was $23.18. The following table shows the range of high and low closing prices per share for the Nonvoting Common Stock and Class A Common Stock (now known as the Common Stock) and the quar- terly cash dividends declared per share for the periods indicated. Subject to our ongoing ability to generate sufficient income, any future capital needs and other contingencies, we expect to continue our policy of paying dividends. Under our revolving credit agree- ment, we may pay cash dividends in any year only if the dividends do not exceed 50% of our consolidated net earnings for the prior fiscal year plus the excess, if any, of the cash dividend limitation applicable to the prior year over the dividend actually paid in the prior year. Common Stock High Low Cash Dividends Per Share COMPARISON OF 5 YEAR CUMULATIVE TOTAL RETURN* Among Aaron's, Inc., the S&P Smallcap 600 Index, the S&P Midcap 400 index and a Peer Group December 31, 2010 Fourth Quarter (December 13, 2010 – December 31, 2010)(1) $20.67 $19.73 $.013 Former Nonvoting Common Stock High Low Cash Dividends Per Share December 31, 2010 First Quarter(2) Second Quarter(2) Third Quarter Fourth Quarter (October 1, 2010 – December 10, 2010)(1) December 31, 2009 First Quarter(2) Second Quarter(2) Third Quarter(2) Fourth Quarter(2) $22.47 24.32 18.62 $18.25 17.05 16.16 $.012 .012 .012 22.53 16.92 NA $18.67 23.47 21.35 19.68 $13.91 17.17 16.55 16.40 $200 $180 $160 $140 $120 $100 $80 $60 $40 $20 $0 12/05 12/06 12/07 12/08 12/09 12/10 Aaron's, Inc. S&P Smallcap 600 S&P Midcap 400 Peer Group $.011 .011 .011 .012 Cash Dividends Per Share The line graph above and the table below compare, for the last five fiscal years of the Company, the yearly percentage change in the cumulative total shareholder returns (assuming reinvestment of dividends) on the Company’s Common Stock with that of the S&P SmallCap 600 Index and a Peer Group. For 2010, the Peer Group consisted of Rent-A-Center, Inc. The stock price perfor- mance shown is not necessarily indicative of future performance. Former Class A Common Stock High Low 12/05 12/06 12/07 12/08 12/09 12/10 100.00 136.38 89.47 114.14 117.37 160.03 Aaron’s, Inc. S&P Smallcap 600 100.00 115.12 114.78 79.11 99.34 125.47 S&P Midcap 400 100.00 110.32 119.12 75.96 104.36 132.16 100.00 156.47 76.99 93.58 93.96 172.03 Peer Group Copyright© 2011 Standard & Poor’s, a division of The McGraw-Hill Companies Inc. All rights reserved. (www.researchdatagroup.com/S&P.htm) December 31, 2010 First Quarter(2) Second Quarter(2) Third Quarter Fourth Quarter (October 1, 2010 – December 10, 2010)(1) December 31, 2009 First Quarter(2) Second Quarter(2) Third Quarter(2) Fourth Quarter(2) $18.10 19.85 18.40 $14.60 13.55 13.00 $.012 .012 .012 21.03 16.81 NA $ 15.60 20.30 16.73 15.77 $ 10.50 14.83 13.38 9.56 $ .011 .011 .011 .012 (1) Effective December 13, 2010 shares of the former Nonvoting Common Stock were converted into shares of Class A Common Stock and the Class A Common Stock was renamed Common Stock. (2) Shares have been adjusted for the effect of the 3-for-2 partial stock split dis- tributed on April 15, 2010 and effective April 16, 2010. 44 Board of Directors R. Charles Loudermilk, Sr. Chairman of the Board, Aaron’s, Inc. Ronald W. Allen (2) Retired Chairman of the Board, President and Chief Executive Officer, Delta Air Lines, Inc. Leo Benatar (1, 3, 4) Principal, Benatar & Associates William K. Butler, Jr. Chief Operating Officer, Aaron’s, Inc. Gilbert L. Danielson Executive Vice President, Chief Financial Officer, Aaron’s, Inc. David L. Kolb (2, 4) Retired Chairman and Chief Executive Officer, Mohawk Industries, Inc. Robert C. Loudermilk, Jr. President, Chief Executive Officer, Aaron’s, Inc. John C. Portman, Jr.(4) Chairman of the Board, Portman Holdings, LLC; Chairman, AMC, Inc.; and Chairman, John Portman & Associates Ray M. Robinson(3) President Emeritus, East Lake Golf Club and Vice Chairman, East Lake Community Foundation John Schuerholz (2, 3) President, The Atlanta Braves Director Emeritus Earl Dolive Vice Chairman of the Board, Emeritus, Genuine Parts Company Officers Corporate R. Charles Loudermilk, Sr.* Chairman of the Board Robert C. Loudermilk, Jr.* President, Chief Executive Officer William K. Butler, Jr.* Chief Operating Officer Gilbert L. Danielson* Executive Vice President, Chief Financial Officer James L. Cates* Senior Group Vice President, Corporate Secretary Elizabeth L. Gibbs* Vice President, General Counsel John T. Trainor* Vice President, Chief Information Officer Michael W. Jarnagin Vice President, Manufacturing James C. Johnson Vice President, Internal Audit Robert P. Sinclair, Jr.* Vice President, Corporate Controller D. Chad Strickland Vice President, Employee Relations Danny Walker, Sr. Vice President, Internal Security Aaron’s Sales & Lease Ownership Division K. Todd Evans* Vice President, Franchising Mitchell S. Paull* Senior Vice President, Merchandising and Logistics Gregory G. Bellof Vice President, Mid-Atlantic Operations (1) Lead Director (2) Member of Audit Committee (3) Member of Compensation Committee (4) Member of Nominating Committee * Executive Officer Michael C. Bennett Vice President, Great Lakes Operations David A. Boggan Vice President, Mississippi Valley Operations David L. Buck Vice President, Southwestern Operations Todd G. Coppedge Vice President, Midwest Operations Paul A. Doize Vice President, Real Estate Joseph N. Fedorchak Vice President, Eastern Operations Scott L. Harvey Vice President, Management Development Kevin J. Hrvatin Vice President, Western Operations Jason M. McFarland Vice President, Mid-American Operations Steven A. Michaels Vice President, Finance Tristan J. Montanero Vice President, Central Operations Brock M. Roberts Vice President, Northeastern Operations Mark A. Rudnick Vice President, Marketing Michael P. Ryan Vice President, Northern Operations Marco A. Scalise Vice President, Customer Account Management Aaron’s Office Furniture Division Ronald M. Benedit Vice President, Operations 45 Corporate and Shareholder Information Corporate Headquarters 309 E. Paces Ferry Rd., N.E. Atlanta, Georgia 30305-2377 (404) 231-0011 www.aarons.com www.aaronsinc.com Subsidiaries Aaron Investment Company 4005 Kennett Pike Greenville, Delaware 19807 (302) 888-2351 Aaron’s Canada, ULC 309 E. Paces Ferry Rd., N.E. Atlanta, Georgia 30305-2377 (404) 231-0011 Annual Shareholders Meeting The annual meeting of the share holders of Aaron’s, Inc. will be held on Tuesday, May 3, 2011, at 10:00 a.m. EDT on the 4th Floor, SunTrust Plaza, 303 Peachtree Street, N.E., Atlanta, Georgia 30303 Transfer Agent and Registrar Computershare Investor Services Canton, Massachusetts General Counsel Kilpatrick Townsend & Stockton LLP Atlanta, Georgia Form 10-K Shareholders may obtain a copy of the Company’s annual report on Form 10-K filed with the Securities and Exchange Commission upon written request, without charge. Such requests should be sent to the attention of Gilbert L. Danielson, Execu- tive Vice President, Chief Financial Officer, Aaron’s, Inc., 309 E. Paces Ferry Rd., N.E., Atlanta, Georgia 30305-2377. Stock Listing Aaron’s, Inc.’s Common Stock is traded on the New York Stock Exchange under the symbol “AAN.” Forward-Looking Statements Certain written and oral statements made by our Company may constitute “forward- looking statements” as defined under the Private Securities Litigation Reform Act of 1995, including statements made in this report and in the Company’s filings with the Securities and Exchange Commission. All statements which address operating performance, events, or developments that we expect or anticipate will occur in the future — including growth in store openings, franchises awarded, and market share, and statements expressing general optimism about future operating results — are forward-looking statements. Forward-looking statements are subject to certain risks and uncertainties that could cause actual results to differ materially. The Company undertakes no obligation to publicly update or revise any forward-looking statements. For a discussion of such risks and uncertainties, see “Risk Factors” in Item 1A of the Company’s Annual Report on Form 10-K filed with the Securities and Exchange Commission. 46 46 309 E. Paces Ferry Rd., N.E. Atlanta, Georgia 30305-2377 (404) 231-0011 www.aarons.com www.aaronsinc.com

Continue reading text version or see original annual report in PDF format above