10-K 1 a10k4q2016.htm 10-K 4Q 2016 Document
UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
 
FORM 10-K
 
(Mark One)
ý
ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
For the fiscal year ended December 31, 2016
OR
¨
TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
For the Transition Period from                  to                 
Commission file Number. 1-13941
 
 AARON’S, INC.
(Exact name of registrant as specified in its charter)
 
GEORGIA
 
58-0687630
(State or other jurisdiction of
incorporation or organization)
 
(I.R.S. Employer
Identification No.)
 
 
400 Galleria Parkway SE, Suite 300
Atlanta, Georgia
 
30339-3194
(Address of principal executive offices)
 
(Zip Code)
Registrant’s telephone number, including area code: (678) 402-3000
Securities registered pursuant to Section 12(b) of the Act:
Title of each class
 
Name of each exchange on which registered
Common Stock, $0.50 Par Value
 
New York Stock Exchange
Securities registered pursuant to Section 12(g) of the Act: NONE
 
Indicate by check mark if the registrant is a well-known seasoned issuer, as defined in Rule 405 of the Securities Act.     Yes  ý    No  ¨
Indicate by check mark if the registrant is not required to file reports pursuant to Section 13 or Section 15(d) of the Act.     Yes  ¨    No  ý
Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days.    Yes  ý    No  ¨
Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Website, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (§ 232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files).    Yes  ý    No  ¨
Indicate by check mark if disclosure of delinquent filers pursuant to Item 405 of Regulation S-K is not contained herein, and will not be contained, to the best of registrant’s knowledge, in definitive proxy or information statements incorporated by reference in Part III of this Form 10-K or any amendment to this Form 10-K.  ¨
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer or a smaller reporting company. See the definitions of "large accelerated filer," "accelerated filer," and "smaller reporting company" in Rule 12b-2 of the Exchange Act.
Large Accelerated Filer
ý
 
Accelerated Filer
 
¨
 
 
 
 
Non-Accelerated Filer
¨
 
Smaller Reporting Company
 
¨
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Act). Yes ¨ No ý
The aggregate market value of the common stock held by non-affiliates of the registrant as of June 30, 2016 was $1,213,981,947 based on the closing price on that date as reported by the New York Stock Exchange. Solely for the purpose of this calculation and for no other purpose, the non-affiliates of the registrant are assumed to be all shareholders of the registrant other than (i) directors of the registrant, (ii) executive officers of the registrant, and (iii) any shareholder that beneficially owns 10% or more of the registrant’s common shares.
As of February 22, 2017, there were 71,509,646 shares of the Company’s common stock outstanding.
DOCUMENTS INCORPORATED BY REFERENCE
Portions of the registrant’s definitive Proxy Statement for the 2017 annual meeting of shareholders, to be filed subsequently with the Securities and Exchange Commission, or SEC, pursuant to Regulation 14A, are incorporated by reference into Part III of this Annual Report on Form 10-K.

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CAUTIONARY NOTE REGARDING FORWARD LOOKING STATEMENTS
Certain oral and written statements made by Aaron’s, Inc. (the "Company") about future events and expectations, including statements in this Annual Report on Form 10-K, are forward-looking statements within the meaning of Section 21E of the Securities Exchange Act of 1934, as amended. For those statements we claim the protection of the safe harbor provisions for forward-looking statements contained in such section. Forward-looking statements are not statements of historical facts but are based on management’s current beliefs, assumptions and expectations regarding our future economic performance, taking into account the information currently available to management.
Generally, the words "anticipate," "believe," "could," "estimate," "expect," "intend," "plan," "project," "would," and similar expressions identify forward-looking statements. All statements which address operating performance, events or developments that we expect or anticipate will occur in the future, including the anticipated impacts and outcomes of our strategic plan, with respect to improving our Aaron’s store profitability; accelerating our omnichannel platform; promoting communication, coordination and integration; converting our pipeline of potential customers for Progressive into Progressive retail partners; optimizing the economic return of our active lease portfolio; strengthening our relationships with Progressive’s and DAMI’s current retail partners; and championing compliance, as well as the expected impacts and outcomes of closing and consolidating certain of our Company-operated Aaron’s stores; initiatives to grow 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 from the Company’s historical experience and the Company’s present expectations or projections. Factors that could cause our actual results to differ materially from any forward-looking statements include: (i) changes in the enforcement of existing laws and regulations and the adoption of new laws and regulations that may unfavorably impact our businesses; (ii) our strategic plan failing to deliver the benefits and outcomes we expect, with respect to improving our Aaron’s Business in particular; (iii) continuation of the economic challenges faced by portions of our traditional lease-to-own customer base; (iv) increased competition from traditional and virtual lease-to-own competitors, as well as from traditional and on-line retailers and other competitors; (v) financial challenges faced by our franchisees; and (vi) other factors discussed in Item 1A. Risk Factors of this Annual Report on Form 10-K. We qualify any forward-looking statements entirely by these cautionary factors.
The above mentioned risk factors are not all-inclusive. Given these uncertainties and that such statements speak only as of the date made, you should not place undue reliance on forward-looking statements. We undertake no obligation to update publicly or revise any forward-looking statements, whether as a result of new information, future events, changes in assumptions or otherwise.


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PART I
ITEM 1. BUSINESS
Unless otherwise indicated or unless the context otherwise requires, all references in this Annual Report on Form 10-K to the "Company," "we," "us," "our" and similar expressions are references to Aaron’s, Inc. and its consolidated subsidiaries.
General Development of Business
Established in 1955 and incorporated in 1962 as a Georgia corporation, Aaron’s, Inc., is a leading omnichannel provider of lease-purchase solutions. Aaron’s engages in the sales and lease ownership and specialty retailing of furniture, consumer electronics, home appliances and accessories through its more than 1,860 Company-operated and franchised stores in 47 states and Canada as well as its e-commerce platform, Aarons.com. Our stores carry well-known brands such as Samsung®, Frigidaire®, Hewlett-Packard®, LG®, Whirlpool®, Simmons®, Philips®, Ashley® and Magnavox®.
On April 14, 2014, the Company acquired a 100% ownership interest in Progressive Finance Holdings, LLC ("Progressive"), a leading virtual lease-to-own company, providing lease-purchase solutions through approximately 22,000 retail locations in 46 states.
On October 15, 2015, Progressive acquired a 100% ownership interest in Dent-A-Med, Inc., d/b/a the HELPcard® (collectively, "DAMI"), which provides a variety of "second-look" credit products that are originated through federally insured banks. Together with Progressive, DAMI allows the Company to provide retail and merchant partners one source for financing and leasing transactions with below-prime customers. The acquisition of DAMI is expected to drive long-term incremental revenue and earnings growth at Progressive, and DAMI will benefit from Progressive's proprietary technology, infrastructure and financial capacity.
On May 13, 2016, the Company sold its 82 Company-operated HomeSmart stores (our weekly pay concept) and ceased operations of that segment.
As of December 31, 2016, we had 1,864 Aaron's stores, comprised of 1,165 Company-operated stores in 28 states, the District of Columbia and Canada, and 699 independently-owned franchised stores in 46 states and Canada.
We own or have rights to various trademarks and trade names used in our business including Aaron’s, Aaron’s Sales & Lease Ownership, Progressive, Dent-A-Med, the HELPcard® and Woodhaven Furniture Industries. We intend to file for additional trade name and trademark protection when appropriate.
Business Environment and Company Outlook
Like many industries, the lease-to-own industry has been transformed by the internet and virtual marketplace. We believe the Progressive and DAMI acquisitions have been strategically transformational for the Company in this respect and will continue to strengthen our business as demonstrated by Progressive’s significant revenue and profit growth in 2016. We also believe the traditional lease-to-own industry has been negatively impacted in recent periods by: (i) the continuing economic challenges facing many traditional lease-to-own customers; (ii) increased competition from a wide range of competitors, including national, regional and local operators of lease-to-own stores; virtual lease-to-own companies; traditional and e-commerce retailers; and, indirectly, from various types of consumer finance companies that enable our customers to shop at traditional or online retailers; and (iii) the challenges faced by many traditional “brick-and-mortar” retailers, with respect to a decrease in the number of consumers visiting those stores, especially younger consumers. In response to these changing market conditions, we are executing a strategic plan that focuses on the following items and that we believe positions us for success over the long-term:
Improve Aaron's store profitability – We remain committed to increasing profits through improved marketing and customer acquisition strategies, improved collections and merchandise loss controls, optimization of product mix, increases in customer retention, inventory reduction, cost efficiency initiatives and closing underperforming Aaron's stores. In addition, our Aaron’s Business is investing in improving its analytical capabilities to optimize pricing, promotion, and product mix, which is expected to enhance margins and drive lease volume.  
Accelerate our omnichannel platform – We believe Aarons.com represents an opportunity to provide more options and shopping convenience in the lease-to-own industry. We are focused on engaging customers in ways that are convenient for them by providing them a seamless, direct-to-door platform through which to shop across our product offering.
Strengthen relationships of Progressive and DAMI's current retail partners – Our Progressive and DAMI businesses have benefited from long-term, mutually beneficial relationships with our existing retailer base. Our ability to maintain these relationships and address the changing needs of these retailers is critical to the long-term growth strategy of our business.

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Focus on converting existing pipeline into Progressive retail partners – Our Progressive business segment is continuously focused on establishing new relationships with retailers and identifying solutions that address their business needs. We believe these new relationships are fundamental to continued revenue growth for Progressive.
Champion compliance – Aaron’s, Inc. is a large and diverse company with thousands of daily transactions that are extensively regulated and subject to the requirements of various federal, state, and local laws and regulations. We continue to believe and set expectations that long-term success requires all associates to behave in an ethical manner and to comply with all laws and regulations governing our company’s behavior.
Operating Segments
As of December 31, 2016, the Company had five operating segments: Sales and Lease Ownership, Progressive, DAMI, Franchise and Manufacturing.
The results of DAMI and Progressive have been included in the Company’s consolidated results and presented as operating segments from their October 15, 2015 and April 14, 2014 acquisition dates, respectively. On May 13, 2016, the Company sold its HomeSmart operating segment, which included 82 stores.
Our Company-operated Aaron's stores and franchise operations are located in the United States and Canada. The operating results of our five reportable segments may be found in (i) Item 7. Management’s Discussion and Analysis of Financial Condition and Results of Operations and (ii) Item 8. Financial Statements and Supplementary Data.
Sales and Lease Ownership
Our Sales and Lease Ownership operation was established in 1987 and employs a monthly and semi-monthly payment model to provide durable household goods to lower to middle income consumers through our Aaron's stores. Its customer base is comprised primarily of customers with limited access to traditional credit sources such as bank financing, installment credit or credit cards. Customers of our Sales and Lease Ownership segment take advantage of our services to acquire consumer goods they might not otherwise be able to without incurring additional debt or long-term obligations.
We have developed a distinctive concept for our stores including specific merchandising, store layout, pricing and agreement terms all designed to appeal to our target consumer market. We believe these features create a store and a sales and lease ownership concept that is distinct from the operations of the lease-to-own industry generally and from consumer electronics and home furnishings retailers who finance merchandise.
The typical store layout is a combination showroom and warehouse generally comprising 6,000 to 10,000 square feet, with an average of approximately 8,000 square feet. In addition to inline space, we also lease and own free standing buildings in certain markets. We typically locate the stores close to retailers who have similar customer demographics.
Each store usually maintains at least two trucks for delivery, service and return of product. We generally offer same or next day delivery for addresses located within approximately ten miles of the store. Our stores provide a broad selection of brand name electronics, computers, appliances, bedding and furniture, including bedding and furniture manufactured by our Woodhaven Furniture Industries division.
Approximately 97% of our store lease agreements have monthly payment terms and the remaining 3% are semi-monthly. By comparison, weekly agreements are the industry standard.
We may re-lease or sell merchandise that customers return to us prior to the expiration of their agreements. We may also offer up-front purchase options at prices we believe are competitive.
Franchise
We franchise our Aaron's stores in markets where we have no immediate plans to enter. Our franchise program adds value to our Company by allowing us to (i) recognize additional revenues from franchise fees and royalties, (ii) strategically grow without incurring direct capital or other expenses, (iii) lower our average costs of purchasing, manufacturing and advertising through economies of scale and (iv) increase customer recognition of our brands.
Franchisees are approved on the basis of the applicant’s business background and financial resources. We enter into agreements with our franchisees to govern the opening and operations of franchised stores. Under our standard agreement, we receive a franchise fee from $15,000 to $50,000 per store depending upon market size. Our standard agreement is for a term of ten years, with one ten-year renewal option. Franchisees are also obligated to remit to us royalty payments of 5% or 6% of the weekly cash revenue collections from their stores. Most franchisees are involved in the day-to-day operations of their stores.
Because of the importance of location to our store strategy, we assist each franchisee in selecting the proper site for each store. We typically will visit the intended market and provide guidance to the franchisee through the site selection process. Once the franchisee selects a site, we provide support in designing the floor plan, including the proper layout of the showroom and warehouse. In addition, we assist the franchisee in the design and decor of the showroom to ensure consistency with our

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requirements. We also lease the exterior signage to the franchisee and provide support with respect to pre-opening advertising, initial inventory and delivery vehicles.
Qualifying franchisees may take part in a financing arrangement we have established with several financial institutions to assist the franchisee in establishing and operating their store(s). Although an inventory financing plan is the primary component of the financing program, we have also arranged, in certain circumstances, for the franchisee to receive a revolving credit line, allowing them to expand operations. We provide guarantees for amounts outstanding under this franchise financing program.
All franchisees are required to complete a comprehensive training program and to operate their franchised sales and lease ownership stores in compliance with our policies, standards and specifications. Additionally, each franchise is required to represent and warrant its compliance with all applicable federal, state and/or local laws, regulations and ordinances with respect to its business operations. Although franchisees are not generally required to purchase their lease merchandise from our fulfillment centers, many do so in order to take advantage of Company-sponsored financing, bulk purchasing discounts and favorable delivery terms.
Our internal audit department conducts annual financial reviews of each franchisee, as well as annual operational audits of each franchised store. In addition, our proprietary management information system links each Company and franchised store to our corporate headquarters.
Manufacturing
Woodhaven Furniture Industries, our manufacturing segment, was established by the Company in 1982, and we believe it makes us the largest lease-to-own company in the United States that manufactures its own furniture. Integrated manufacturing enables us to control critical features such as the quality, cost, delivery, styling, durability and quantity of our furniture products, and we believe this provides an integration advantage over our competitors. Substantially all produced items continue to be leased or sold through Aaron's stores, including franchised stores.
Our Woodhaven Furniture Industries division produces upholstered living-room furniture (including contemporary sofas, chairs and modular sofa and ottoman collections in a variety of natural and synthetic fabrics) and bedding (including standard sizes of mattresses and box springs). The furniture designed and produced by this division incorporates features that we believe result in reduced production costs, enhanced durability and improved shipping processes all relative to furniture we would otherwise purchase from third parties. These features include (i) standardized components, (ii) reduced number of parts and features susceptible to wear or damage, (iii) more resilient foam, (iv) durable fabrics and sturdy frames which translate to longer life and higher residual value and (v) devices that allow sofas to stand on end for easier and more efficient transport. The segment also provides replacement covers for all styles and fabrics of its upholstered furniture, as well as other parts, for use in reconditioning leased furniture that has been returned.
The segment consists of five furniture manufacturing plants and nine bedding manufacturing facilities totaling approximately 838,000 square feet of manufacturing capacity.
Progressive
Established in 1999 and acquired by the Company in 2014, Progressive is a leader in the expanding virtual lease-to-own market. Progressive partners with retailers, primarily in the furniture and bedding, mobile phones, consumer electronics, appliances and jewelry industries, to offer a lease-purchase option for customers to acquire goods they might not otherwise have been able to obtain. We serve customers who are credit challenged and are therefore unlikely to have access to traditional credit-based financing options. We offer a technology-based application and approval process that does not require Progressive employees to be staffed in a store. Once a customer is approved, Progressive purchases the merchandise from the retailer and enters into a lease-to-own agreement with the customer. The contract provides early-buyout options or ownership after a contractual number of payments. Progressive has retail partners in 46 states and operates under state-specific regulations in those states.
DAMI
Founded in 1983 and acquired by the Company in 2015, DAMI primarily serves customers that may not qualify for traditional prime lending who desire to purchase goods and services from participating merchants. DAMI, which operates as a wholly-owned subsidiary of Progressive, offers customized programs, with services that include revolving loans, private label cards and access to a unique processing platform. DAMI’s current network of merchants includes medical markets, beds and fitness equipment. The Company believes the DAMI product offerings are complementary to those of Progressive and is expanding into the markets and merchants that DAMI serves.
We extend or decline credit to an applicant through third party bank partners based upon the customer's credit rating. Our bank partners originate the loan by providing financing to the merchant at the point of sale and acquiring the receivable at a discount from the face value, which represents a pre-negotiated fee between DAMI and the merchant. DAMI then acquires the receivable from the bank.

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Qualifying customers receive a credit card to finance their initial purchase and to use in subsequent purchases at the merchant or other participating merchants for an initial two year period, which we will renew if the cardholder remains in good standing. The customer is required to make periodic minimum payments and pay certain annual and other periodic fees.
Operations
Operating Strategy
Our operating strategy is based on distinguishing our brand from those of our competitors along with maximizing our operational efficiencies. We implement this strategy for our Aaron's store-based operations by (i) emphasizing the uniqueness of our sales and lease ownership concept from those in our industry generally; (ii) offering high levels of customer service; (iii) promoting our vendors' and Aaron’s brand names; (iv) managing merchandise through our manufacturing and distribution capabilities; and (v) utilizing proprietary management information systems.
We believe that the success of our store-based operations is attributable to our distinctive approach to the business that distinguishes us from both our lease-to-own and credit retail competitors. We have pioneered innovative approaches to meeting changing customer needs that we believe differ from many of our competitors. These include (i) offering lease ownership agreements that result in a lower "all-in" price; (ii) maintaining larger and more attractive store showrooms; (iii) offering a wider selection of higher-quality merchandise; (iv) providing an up-front cash and carry purchase option on select merchandise at competitive prices; and (v) establishing an online platform that provides access to our product offering.
Our Progressive and DAMI operating strategies are based on providing excellent service to our merchant partners and our customers, along with continued development of technology-based solutions. This allows us to increase our merchant partners' sales, drive demand for our service, and scale in an efficient manner. Specifically with Progressive, we believe our ability to service a retailer with limited labor costs allows us to maintain a cost of ownership for leased merchandise lower than that of other options available to our customers.
Aaron's Store-Based Operations
As of December 31, 2016, the Company has one President, one Chief Operations Officer and one senior vice president that provide executive leadership of the Sales and Lease Ownership segment. The segment has 11 divisional vice presidents and one Canadian director who are responsible for the overall performance of their respective divisions. Each division is subdivided into geographic groupings of stores overseen by a total of 22 Sales and Lease Ownership senior regional managers and 130 regional managers, including three Canadian regional managers.
At the individual store level, the store manager is primarily responsible for managing and supervising all aspects of store operations, including (i) customer relations and account management, (ii) deliveries and pickups, (iii) warehouse and inventory management, (iv) partial merchandise selection, (v) employment decisions, including hiring, training and terminating store employees and (vi) certain marketing initiatives. Store managers also administer the processing of lease return merchandise including making determinations with respect to inspection, repairs, sales, reconditioning and subsequent leasing.
Our business philosophy emphasizes safeguarding of Company assets, strict cost containment and financial controls. All personnel are expected to monitor expenses to contain costs. We pay all material invoices from Company headquarters in order to enhance financial accountability. We believe that careful monitoring of lease merchandise as well as operational expenses enables us to maintain financial stability and profitability.
We use management information systems to facilitate customer orders, collections, merchandise returns and inventory monitoring. Through the use of proprietary software, each of our stores is network linked directly to corporate headquarters enabling us to monitor single store performance on a daily basis. This network system assists the store manager in (i) tracking merchandise on the showroom floor and warehouse, (ii) minimizing delivery times, (iii) assisting with product purchasing and (iv) matching customer needs with available inventory.
Lease Agreement Approval, Renewal and Collection
One of the factors in the success of our store-based operations is timely cash collections, which are monitored by store managers. Customers are contacted within a few days after their lease payment due dates to encourage them to keep their agreement current. Careful attention to cash collections is particularly important in sales and lease ownership operations, where the customer typically has the option to cancel the agreement at any time and each contractually due payment is generally considered a renewal of the agreement.
We generally perform no formal credit check with third party service providers with respect to our store customers. We do, however, verify employment or other reliable sources of income and personal references supplied by the customer. Generally our agreements for merchandise require payments in advance and the merchandise normally is recovered if a payment is significantly in arrears. We currently do not extend credit to our customers at our stores.

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Our Progressive business uses a proprietary decisioning algorithm to determine which customers would meet our leasing qualifications. The transaction is completed through our online portal or through a point of sale integration with our retail partners. Contractual payments are based on a customer’s pay frequency and are typically originated through automated clearing house payments. If the payment is unsuccessful, collections are managed in-house through our call center, customer service hubs and proprietary lease management system. The call center contacts customers within a few days after the due date to encourage them to keep their agreement current. If the customer chooses to return the merchandise, arrangements are made to receive the merchandise from the customer, either through our retail partners, our Draper, Utah location, our customer service hubs or our Aaron's operated stores.
The provision for lease merchandise write-offs as a percentage of consolidated lease revenues were 4.8%, 5.1% and 4.5% in 2016, 2015 and 2014, respectively. We believe that our collection and recovery policies materially comply with applicable law and we discipline any employee we determine to have deviated from such policies.
Credit Agreement Approval and Collection
DAMI partners with merchants to provide a variety of revolving credit products originated through two third-party federally insured banks to customers that may not qualify for traditional prime lending (called "second-look" financing programs).We believe DAMI provides the following strategic benefits when combined with Progressive's product offerings:
Enhanced product for retail partners - DAMI enhances Progressive's best-in-class point-of-sale product with an integrated solution for below-prime customers. DAMI has a centralized, scalable decisioning model with a long operating history, deployed through its established bank partners, and a sophisticated receivable management system.
Higher consumer credit quality - DAMI primarily serves customers with FICO scores between 600 and 700, which make up approximately a quarter of the U.S. population. These customers generally have greater purchasing power with stronger credit profiles than Progressive's current customers.
Expanded customer base - In addition to complementing Progressive's traditional offering for existing and prospective retail partners, DAMI's strong relationships with merchant partners that provide customer services offer an additional channel for longer-term growth.
DAMI uses an underwriting model that provides standardized credit decisions, including borrowing limit amounts. Credit decisions are primarily based on the customer’s credit rating and ability-to-pay ratio. Customer credit terms are based on the underlying agreement between DAMI and the merchant. Loans receivable are unsecured, and collections on loans receivable are managed in-house through DAMI's call center and proprietary loans receivable management system.
Customer Service
A critical component of the success in our operations is our commitment to developing good relationships with our customers. Building a relationship with the customer that ensures customer satisfaction is critical because customers of store-based operations and Progressive have the option of returning the leased merchandise at any time. Our goal, therefore, is to develop positive associations about the Company and our products, service, and support in the minds of our customers from the moment they enter our showrooms and the showrooms of our retail partners. We demonstrate our commitment to superior customer service by providing customers with access to product through multiple channels, including Aarons.com and Progressive's network of retail partner locations, rapid delivery of leased merchandise (often on same or next day delivery) and investments in technology that improve the customer experience. Our Progressive business offers centralized customer and retailer support through contact centers located in Draper, Utah and Glendale, Arizona.
Aaron’s customers receive multiple complimentary service benefits. These benefits vary according to applicable state law but generally include a same-as-cash option, merchandise repair service, lifetime reinstatement and other discounts and benefits. In order to increase leasing at existing stores, we foster relationships with existing customers to attract recurring business, and many new agreements are attributable to repeat customers. Similarly, we believe our strong focus on customer satisfaction at Progressive and DAMI generates repeat business and long-lasting relationships with our retail and merchant partners.
Our emphasis on customer service requires that we develop skilled, effective employees who value our customers and project a genuine desire to serve their needs. To meet this requirement, we have created and implemented a very comprehensive associate development program. The associate development program focuses on and meets the needs of both new and tenured associates.

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Our associate development program is designed to provide a uniform and unbeatable customer service experience. The primary focus of the associate development program is to equip all associates, regardless of tenure or current skill level with the knowledge and skills needed to build strong relationships with our customers. Our learning and development coaches provide live, interactive instruction via webinars and conduct daily training that streams via in-store video to each new hire and tenured associate. The program is complemented with a robust, dynamic e-learning library. Additionally, Aaron’s has a management development program that offers development for current and future store managers and a highly successful leadership development program for our multi-unit managers. Also, we produce and post weekly video-based communications regarding important Company initiatives on our intranet site.
During 2015, the Company announced the launch of Approve.Me, which is a proprietary platform that integrates with third party retailers' point-of-sale systems and provides a single interface for all Progressive and DAMI customers seeking credit approval or lease options, from prime to second-look financing, or to Progressive's lease offering. The platform combines multiple credit and leasing providers into one application using a single interface. Approve.Me is compatible with most primary or secondary providers and is designed to give retailers a faster and more efficient way to service customers seeking to finance transactions or secure a lease option.
Purchasing and Retail Relationships
For our Aaron's store-based operations, our merchandise product mix is determined by executive leadership in consultation with regional managers, divisional vice presidents and our merchandising department based on an analysis of customer demands. The following table shows the percentage of our Aaron's business revenues attributable to different merchandise categories:
 
Year Ended December 31,
Merchandise Category
2016
 
2015
 
2014
Furniture
42
%
 
42
%
 
39
%
Electronics
26
%
 
25
%
 
26
%
Appliances
24
%
 
24
%
 
24
%
Computers
6
%
 
7
%
 
9
%
Other
2
%
 
2
%
 
2
%
One of our largest suppliers is our own Woodhaven Furniture Industries segment, which supplies the majority of the upholstered furniture and bedding we lease or sell. Integrated manufacturing enables us to control the quality, cost, delivery, styling, durability and quantity of a substantial portion of our furniture and bedding merchandise and provides us with a reliable source of products. We purchase the remaining merchandise directly from manufacturers and local distributors and are generally able to obtain bulk discounts that provide us with cost advantages. To a lesser extent, we also may sell or re-lease certain merchandise returned by our Progressive customers. We have no long-term agreements for the purchase of merchandise.
The following table shows the percentage of Progressive’s revenues attributable to different retail partner categories:
 
Year Ended December 31,
Retail Partner Category
2016
 
2015
 
2014
Furniture
57
%
 
53
%
 
44
%
Mattress
19
%
 
20
%
 
24
%
Automobile electronics and accessories
12
%
 
12
%
 
13
%
Mobile
5
%
 
8
%
 
12
%
Jewelry
4
%
 
4
%
 
4
%
Other
3
%
 
3
%
 
3
%
During 2016, two retail partners each provided greater than 10% of the lease merchandise acquired by Progressive and subsequently leased to customers.

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The following table shows the percentage of DAMI’s revenues attributable to different merchant partner categories:
 
Year Ended December 31,
Merchant Partner Category
2016
 
2015
Medical
48
%
 
53
%
Retail
20
%
 
22
%
Furniture
22
%
 
14
%
Other
10
%
 
11
%
Distribution for Aaron's Store-based Operations
The Aaron's store-based operations utilize our 16 fulfillment centers to control merchandise. These centers average approximately 124,000 square feet, giving us approximately 2.0 million square feet of logistical capacity.
We believe that our network of fulfillment centers provides us with a strategic advantage over our competitors. Our distribution system allows us to deliver merchandise promptly to our stores in order to quickly meet customer demand and effectively manage inventory levels. Most of our continental U.S. stores are within a 250-mile radius of a fulfillment center, facilitating timely shipment of products to the stores and fast delivery of orders to customers.
We realize freight savings from bulk discounts and more efficient distribution of merchandise by using fulfillment centers. We use our own tractor-trailers, local delivery trucks and various contract carriers to make weekly deliveries to individual stores. 
Marketing and Advertising
Our marketing for store-based operations targets both current Aaron’s customers and potential customers. We feature brand name products available through our no-credit-needed lease ownership plans. We reach our customer demographics by utilizing national and local television and radio with a combination of brand/image messaging and product/price promotions. In addition, we have enhanced our broadcast presence with digital marketing and via social environments such as Facebook and Twitter.
We target new and current customers each month distributing over 27 million, four-page circulars to homes in the United States and Canada. The circulars advertise brand name merchandise along with the features, options, and benefits of Aaron’s no-credit-needed lease ownership plans. We also distribute millions of email and direct mail promotions on an annual basis.
Aaron’s, Inc. sponsors events at various levels along with select professional and collegiate sports, such as NFL, MLB, NASCAR and NBA teams. All of the Company's sports partnerships are supported with advertising, promotional, marketing and brand activation initiatives that we believe significantly enhance the Company’s brand awareness and customer loyalty.
Progressive and DAMI execute their marketing strategy in partnership with retailers and other merchants. This is typically accomplished through in-store signage and marketing material, direct marketing activities, and the education of sales associates.
Competition
The lease-to-own industry is highly competitive. Our largest competitor for store-based operations is Rent-A-Center, Inc. ("Rent-A-Center"). Aaron’s and Rent-A-Center, which are the two largest lease-to-own industry participants, account for approximately 4,700 of the 9,200 lease-to-own stores in the United States, Canada and Mexico. Our Aaron's stores compete with other national, regional and local operators of lease-to-own stores, virtual lease-to-own companies, traditional and e-commerce retailers (including many that offer layaway programs) and, indirectly, various types of consumer finance companies that may enable our customers to shop at traditional or on-line retailers, as well as with rental stores that do not offer their customers a purchase option. We also compete with retail stores for customers desiring to purchase merchandise for cash or on credit. Competition is based primarily on product selection and availability, customer service and lease rates, store location and terms.
Although an emerging market, the virtual lease-to-own industry is also competitive. Progressive's largest competitor is Acceptance Now, a division of Rent-A-Center. Other competition is fragmented and includes regional participants.
Working Capital
We are required to maintain significant levels of lease merchandise in order to provide the service demanded by our customers and to ensure timely delivery of our products. Consistent and dependable sources of liquidity are required to maintain such merchandise levels. Failure to maintain appropriate levels of merchandise could materially adversely affect our customer relationships and our business. We believe our cash on hand, operating cash flows, credit availability under our financing agreements and other sources of financing are adequate to meet our normal liquidity requirements.

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Raw Materials
The principal raw materials we use in furniture manufacturing are fabric, foam, fiber, wire-innerspring assemblies, plywood, oriented strand board and hardwood. All of these materials are purchased in the open market from unaffiliated sources. We are not dependent on any single supplier. None of the raw materials we use are in short supply.
Seasonality
Our revenue mix is moderately seasonal for both our Aaron's store-based operations and our Progressive business. The first quarter of each year generally has higher revenues than any other quarter. This is primarily due to realizing the full benefit of business that historically gradually increases in the fourth quarter as a result of the holiday season, as well as the receipt by our customers in the first quarter of federal and state income tax refunds. Our customers will more frequently exercise the early purchase option on their existing lease agreements or purchase merchandise off the showroom floor during the first quarter of the year. We expect these trends to continue in future periods.
Industry Overview
The Lease-to-Own Industry
The lease-to-own industry offers customers an alternative to traditional methods of obtaining home furnishings, electronics, appliances and computers. In a standard industry lease-to-own transaction, the customer has the option to acquire ownership of merchandise over a fixed term, usually 12 to 24 months, normally by making weekly, semi-monthly, or monthly lease payments. Upon making regular periodic lease payments, the customer may cancel the agreement at any time by returning the merchandise to the store. If the customer leases the item through the completion of the full term, he or she then obtains ownership of the item. The customer may also purchase the item at any time by tendering the contractually specified payment.
The lease-to-own model is particularly attractive to customers who are unable to pay the full upfront purchase price for merchandise or who lack the credit to qualify for conventional financing programs. Other individuals who find the lease-to-own model attractive are customers who, despite access to credit, do not wish to incur additional debt, have only a temporary need for the merchandise or desire to field test a particular brand or model before purchasing it.
Aaron’s Sales and Lease Ownership versus Traditional Lease-to-Own
We blend elements of lease-to-own and traditional retailing by providing customers with the option to either lease merchandise with the opportunity to obtain ownership or to purchase merchandise outright. We believe our sales and lease ownership program is a more effective method of retailing our merchandise to lower and middle income customers than a typical lease-to-own business or the traditional method of credit installment sales. 
Our model is distinctive from the conventional lease-to-own model in that we encourage our customers to obtain ownership of their leased merchandise. Based upon our own data and industry data, our customers obtain ownership more often (approximately 45%) than in the lease-to-own businesses in general (approximately 25%).
We believe our sales and lease ownership model offers the following distinguishing characteristics when compared to traditional lease-to-own stores:
Lower total cost - Our agreement terms generally provide a lower cost of ownership to the customer.
Wider merchandise selection - We generally offer a larger selection of higher-quality merchandise.
Larger store layout - Aaron's stores average 8,000 square feet, which is significantly larger than the average size of our largest competitor’s lease-to-own stores.
Fewer payments - Our typical plan offers semi-monthly or monthly payments versus the industry standard of weekly payments.
Flexible payment methods - We offer our customers the opportunity to pay by cash, check, ACH, debit card or credit card. Our Aaron’s stores currently receive approximately 68% of their payment volume (in dollars) from customers by check, debit card or credit card.
We believe our sales and lease ownership model also compares well against traditional retailers in areas such as merchandise selection and the latest product offerings. As technology advances and home furnishings and appliances evolve, we expect to continue offering our customers the latest product at affordable prices.

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Unlike transactions with traditional retailers, in which the customer is committed to purchasing the merchandise, our sales and lease ownership transactions are not credit installment contracts. Therefore, the customer may elect to terminate the transaction after a short, initial lease period. Our stores offer an up-front "cash and carry" purchase option and generally a same-as-cash option on most merchandise at prices that we believe are competitive with traditional retailers. In addition, our Progressive business provides a 90-day buy-out option on lease-purchase solutions offered through traditional retailers.
Government Regulation
Our operations are extensively regulated by and subject to the requirements of various federal, state and local laws and regulations, and are subject to oversight by various government agencies, including the Federal Trade Commission (“FTC”), for example, which may exercise oversight of the advertising and other business practices of our Company-operated and franchised stores. In general, such laws regulate applications for leases, pricing, late charges and other fees, the form of disclosure statements, the substance and sequence of required disclosures, the content of advertising materials and certain collection procedures. Violations of certain provisions of these laws may result in material penalties. We are unable to predict the nature or effect on our operations or earnings of unknown future legislation, regulations and judicial decisions or future interpretations of existing and future legislation or regulations relating to our operations, and there can be no assurance that future laws, decisions or interpretations will not have a material adverse effect on our operations or earnings.
A summary of certain of the laws under which we operate follows. This summary does not purport to be a complete summary of the laws referred to below or of all the laws regulating our operations.
Currently, nearly every state, the District of Columbia, and most provinces in Canada specifically regulate lease-to-own transactions via state or provincial statutes. This includes states in which we currently operate Sales and Lease Ownership stores, as well as states in which our Progressive business has retail partners. Most state lease purchase laws require lease-to-own companies to disclose to their customers the total number of payments, total amount and timing of all payments to acquire ownership of any item, any other charges that may be imposed and miscellaneous other items. The more restrictive state lease purchase laws limit the total amount that a customer may be charged for an item, or regulate the "cost-of-rental" amount that lease-to-own companies may charge on lease-to-own transactions, generally defining "cost-of-rental" as lease fees paid in excess of the "retail" price of the goods. Our long-established policy in all states is to disclose the terms of our lease purchase transactions as a matter of good business ethics and customer service. We believe we are in material compliance with the various state lease purchase laws. At the present time, no federal law specifically regulates the lease-to-own transaction. Federal legislation to regulate the transaction has been proposed from time to time. In addition, certain elements of the business including matters such as collections activity, customer contact and credit reporting may be subject to federal laws and regulation.
There has been increased legislative and regulatory attention in the United States, at both the federal and state levels, on financial services products offered to near-prime and subprime consumers in general, which may result in an increase in legislative regulatory efforts directed at the lease-to-own industry. We cannot predict whether any such legislation or regulations will be enacted and what the impact would be on us, nor can we predict whether any state attorneys general or federal regulatory agencies such as the Consumer Financial Protection Bureau ("CFPB") will direct any initiatives toward our industry.
Our sales and lease ownership franchise program is subject to FTC oversight and various state laws regulating the offer and sale of franchises. Several state laws also regulate substantive aspects of the franchisor-franchisee relationship. The FTC requires us to furnish to prospective franchisees a Franchise Disclosure Document ("FDD") containing prescribed information. A number of states in which we might consider franchising also regulate the sale of franchises and require registration of the franchise disclosure document with state authorities. We believe we are in material compliance with all applicable franchise laws in those states in which we do business and with similar laws in Canada.
DAMI is subject to various federal and state laws that address lending regulations, consumer information, consumer rights, and certain credit card specific requirements, among other things. In addition, DAMI issues credit cards through third party bank partners and therefore is subject to those banks' Federal Deposit Insurance Corporation regulators. Several regulations affecting DAMI have been updated in recent years through The Credit Card Act and The Dodd-Frank Wall Street Reform and Consumer Protection Act (the Dodd-Frank Act). Additional regulations are being developed, as the attention placed on consumer debt transactions has grown significantly. We believe we are in material compliance with all applicable laws and regulations. While we are unable to predict the results of any regulatory initiatives, we do not believe that existing and currently proposed regulations will have a material adverse impact on our operations. Although we are unable to predict the results of any regulatory initiatives, we do not believe that existing and currently proposed regulations will have a material adverse impact on our sales and lease ownership or other operations.

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Supply Chain Diligence and Transparency
Section 1502 of the Dodd-Frank Act was adopted to further the humanitarian goal of ending the violent conflict and human rights abuses in the Democratic Republic of the Congo and adjoining countries ("DRC"). This conflict has been partially financed by the exploitation and trade of tantalum, tin, tungsten and gold, often referred to as conflict minerals, which originate from mines or smelters in the region. Securities and Exchange Commission ("SEC") rules adopted pursuant to the Dodd-Frank Act require reporting companies to disclose annually, among other things, whether any such minerals that are necessary to the functionality or production of products they manufactured during the prior calendar year originated in the DRC and, if so, whether the related revenues were used to support the conflict and/or abuses.
Some of the products manufactured by Woodhaven Furniture Industries, our manufacturing division, may contain tantalum, tin, tungsten and/or gold. Consequently, in compliance with SEC rules, we have adopted a policy on conflict minerals, which can be found on our website at investor.aarons.com. We have also implemented a supply chain due diligence and risk mitigation process with reference to the Organisation for Economic Co-operation and Development, or the OECD, guidance approved by the SEC to assess and report annually whether our products are conflict free.
We expect our suppliers to comply with the OECD guidance and industry standards and to ensure that their supply chains conform to our policy and the OECD guidance. We plan to mitigate identified risks by working with our suppliers and may alter our sources of supply or modify our product design if circumstances require.
Employees
At December 31, 2016, the Company had approximately 11,500 employees. None of our employees are covered by a collective bargaining agreement and we believe that our relations with employees are good.
Available Information
We make available free of charge on our Internet website our Annual Report on Form 10-K, Quarterly Reports on Form 10-Q, Current Reports on Form 8-K and amendments to those reports and the Proxy Statement for our Annual Meeting of Shareholders. Our Internet address is investor.aarons.com.

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ITEM 1A. RISK FACTORS
The Company's business is subject to certain risks and uncertainties. Any of the following risk factors could cause our actual results to differ materially from historical or anticipated results. These risks and uncertainties are not the only ones we face, but represent the risks that we believe are material. However, there may be additional risks that we currently consider not to be material or of which we are not currently aware, and any of these risks could cause our actual results to differ materially from historical or anticipated results.
We are subject to various existing federal and state laws and regulations which may require us to incur significant compliance costs and expenses associated with government investigations, enforcement actions and private litigation, and we may be subject to new or additional federal and state financial services and consumer protection laws and regulations (or changes in interpretations of existing laws and regulations) that could expose us to government investigations, significant compliance costs or burdens or force us to change our business practices in a manner that may be materially adverse to our operations, prospects or financial condition.
Currently, nearly every state, the District of Columbia, and most provinces in Canada specifically regulate lease-to-own transactions. This includes states in which we currently operate Aaron's stores, as well as states in which our Progressive business has retail partners. Furthermore, certain aspects of our business, such as our debt collection, customer contact and credit reporting practices are subject to federal and state laws and regulations. Many of these laws and regulations are evolving, unclear and inconsistent across various jurisdictions, and ensuring compliance with them is difficult and costly. We have incurred and will continue to incur substantial costs to comply with these laws and regulations. In addition to compliance costs, we may incur substantial expenses to respond to government investigations and enforcement actions, proposed fines and penalties, criminal or civil sanctions, and private litigation, arising out of alleged violations of existing laws and/or regulations. In addition, existing laws and regulations have and will continue to, and future laws and regulations may, place limitations and restrictions on how we conduct our businesses. While no federal law currently specifically regulates the lease-to-own industry, federal legislation to regulate the industry has been proposed in the past and may be proposed in the future. For example, federal and regulatory authorities such as the CFPB and the FTC are increasingly focused on the subprime financial marketplace in which the lease-to-own industry operates, and may propose and adopt new legislation (or interpret existing regulations) that could result in significant adverse changes in the regulatory landscape for businesses such as ours. In addition, our manufacturing and distribution facilities are subject to various regulations as set forth by the Environmental Protection Agency ("EPA"), Occupational Safety and Health Administration ("OSHA") and Department of Transportation ("DOT"). Furthermore, with increasing frequency, federal and state regulators are holding businesses like ours to higher standards of training, monitoring and compliance. Failure by us or those businesses to comply with the laws and regulations to which we are or may become subject could result in fines, penalties or limitations on our ability to conduct our business, or federal or state actions, or private litigation, any of which could significantly harm our reputation with consumers and Progressive’s and DAMI’s retail and merchant partners and could materially and adversely affect our business, prospects and financial condition.
The risks in Progressive’s virtual lease-to-own business differ in some potentially significant respects from the risks of Aaron’s store-based lease-to-own business. These risks, whether arising from the offer by third party retailers of Progressive’s lease-purchase solution alongside traditional cash, check or credit payment options or otherwise, may also be materially adverse to our operations, prospects or financial condition. Furthermore, Progressive’s business relies on third party retailers (over whom Progressive cannot exercise the degree of control and oversight that Aaron’s and its franchisees can assert over their own respective employees) for many important business functions, from advertising through assistance with lease transaction applications, including, for example, explaining the nature of the lease-to-own transaction when asked to do so by the customer, and that the transaction is with Progressive and not with the third-party retailer. There is the potential that regulators may target virtual lease-to-own transactions and/or implement new legislation (or interpret existing regulations) that could negatively impact Progressive’s ability to offer virtual lease-to-own programs through third party retail partners. Moreover, many of the laws and regulations that apply to the lease-to-own industry were adopted before e-commerce or virtual lease-to-own businesses existed, and thus, may not be appropriate to address the unique characteristics of those more modern lease-to-own business models. Thus, there is the potential that regulators may attempt to force the application of laws and regulations that may be incongruous and outdated in some respects on Progressive's virtual lease-to-own business in inconsistent and unpredictable ways that could increase the compliance-related costs incurred by Progressive, and negatively impact Progressive's financial and operational performance.
In addition, as we execute on our strategic plans, we may continue to expand into complementary businesses, such as DAMI, that engage in financial, banking or lending services that are subject to a variety of statutes and regulatory requirements in addition to those regulations currently applicable to our legacy operations, which may impose significant costs, limitations or prohibitions on the manner in which we currently conduct our businesses as well as those we may acquire in the future. Any additional laws or regulations may result in changes in the way our operations are regulated, exposing us to increased regulatory oversight, more burdensome regulations and increased litigation risk, each of which could have a material adverse effect on us.

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Any proposed rulemaking or enforcement action by the CFPB, the FTC or any other federal or state regulators or other adverse changes in (or interpretations of) existing laws and regulations, the passage of new adverse legislation or regulations by the federal government or the states applicable to our traditional lease-to-own business, our Progressive virtual lease-to-own business, our Aarons.com e-commerce business and any complementary businesses into which we may expand could materially increase both our compliance costs and the risk that we could be subject to government investigations and subject to sanctions if we are not in compliance. In addition, new burdensome laws or regulations could force us to modify our business model, expose us to increased litigation risk, and might reduce the economic potential of our sales and lease ownership operations.
Progressive’s virtual lease-to-own business differs in some potentially significant respects from the risks of Aaron’s store-based lease-to-own business. The risks could have a material negative effect on Progressive, which could result in a material adverse effect on our entire business.
As discussed above, our Progressive segment offers its lease-to-own solution through the stores of third party retailers. Progressive consequently faces some different risks than are associated with Aaron’s sales and lease ownership concept, which Aaron’s and its franchisees offer through their own stores. These potential risks include, among others, Progressive’s:
reliance on third party retailers (over whom Progressive cannot exercise the degree of control and oversight that Aaron’s and its franchisees can assert over their own respective employees) for many important business functions, from advertising through assistance with lease transaction applications, including, for example, explaining the nature of the lease-to-own transaction when asked to do so by the customer, and that the transaction is with Progressive and not with the third-party retailer;
revenue concentration in the customers of a relatively small number of retailers, as further discussed below;
lack of control over, and more product diversity within, its lease merchandise inventory relative to Aaron’s business, which can complicate matters such as merchandise repair and disposition of merchandise that is returned;
possibly different regulatory risks than apply to Aaron’s business, whether arising from the offer by third party retailers of Progressive’s lease-purchase solution alongside traditional cash, check or credit payment options or otherwise, including the risk that regulators may mistakenly treat virtual lease-to-own transactions as some other type of transaction that would face different and more burdensome and complex regulations;
reliance on automatic bank account drafts for lease payments, which may become disfavored as a payment method for these transactions by regulators;
potential that regulators may target the virtual lease-to-own transaction and/or adopt new regulations or legislation (or existing laws and regulations may be interpreted in a manner) that negatively impact Progressive’s ability to offer virtual lease-to-own programs through third party retail partners;
potential that regulators may attempt to force the application of laws and regulations on Progressive's virtual lease-to-own business in inconsistent and unpredictable ways that could increase the compliance-related costs incurred by Progressive, and negatively impact Progressive's financial and operational performance; and
indemnification obligations to Progressive’s retail partners and their service providers for losses stemming from Progressive’s failure to perform with respect to its products and services.
These risks could have a material negative effect on Progressive, which could result in a material adverse effect on our entire business.
We continue to implement a strategic plan and there is no guarantee that the strategic plan will produce results superior to those achieved under the Company’s prior plan.
Our current strategic plan that includes focusing on improving Aaron's store profitability; accelerating our omnichannel platform; promoting communication, coordination and integration; and championing compliance.
As part of our efforts to improve the profitability of our Aaron's stores, we recently have focused on identifying and closing underperforming stores and consolidating the customers of those stores into existing, higher performing stores, as opposed to opening new stores, which had traditionally been a central tenet of the Company’s strategy. There can be no guarantee that our current strategy, including our recent focus on identifying and closing underperforming stores, will yield the results we currently anticipate (or results that will exceed those that might be obtained under prior or other strategies), if we fail to successfully execute on one or more elements of our current strategy, even if we successfully implement one or more other components. For example, as part of our efforts to reduce costs and improve profitability, we closed 61 underperforming Company-operated Aaron's stores in the fourth quarter of 2016, and plan to close approximately 70 more locations in the second quarter of 2017. We may not be successful in transitioning the customers of the Company-operated Aaron's stores that are closed to other Company-operated stores that remain open, and thus, could experience a reduction in revenue and profits

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associated with such a loss of customers. In addition, the estimated costs and charges associated with these initiatives may vary materially and adversely based upon various factors, including the timing of execution, the outcome of negotiations with landlords and other third parties, or unexpected costs, any of which could result in our not realizing the anticipated benefits from our strategic plan.
We may not fully execute on one or more elements of our current strategy due to any number of reasons, including, for instance, because of the division of management, financial and Company resources among multiple objectives, or other factors beyond or not completely within our control. The successful execution of our current strategy depends on, among other things, our ability to:
improve same store revenues and profitability in stores that may be maturing;
drive recurring cost savings to recapture margin;
identify and close underperforming stores, and transition the customers of those stores to other stores that remain open;
strengthen our franchise network; and
successfully manage and grow our Aarons.com e-commerce platform.
If we cannot address these challenges successfully, or overcome other critical obstacles that may emerge as we continue to pursue our current strategy, we may not be able to achieve our revenue or profitability goals at the rates we currently contemplate, if at all.
Our Aaron's business faces many challenges which could materially and adversely affect our overall results of operations.
Our traditional lease-to-own store-based ("Aaron's") business faces a number of challenges, particularly from the continued expansion of digital retail, which includes a wide array of e-commerce retailers that have established far larger digital operations than our Aarons.com e-commerce platform has been able to achieve to date. Increasing competition from the digital sector, as well as more competitive pricing offered by traditional retailers, may reduce the market share held by our Aaron's business as well as its operating margins, and may materially and adversely affect our overall results of operations. Furthermore, as our Progressive virtual lease-to-own solution continues to partner with traditional retailers, including possibly "big box" retailers, those retailers may increasingly compete with our Aaron's business, including our franchisees. In addition, we believe a portion of our Aaron's business customer base continues to experience significant economic challenges, including stagnant or decreasing incomes in certain areas, such as those where the oil and gas industries have experienced economic headwinds, and those challenges may result in those customers of our Aaron's business curtailing entering into sales and lease ownership agreements for the types of merchandise we offer, or entering into agreements that generate less revenue for us, resulting in lower same store sales, revenue and profits. For example, our Company-operated stores experienced same store revenue declines of 3.4% and 4.1% in fiscal years 2016 and 2015, respectively. Additionally, our franchised stores experienced same store revenue declines of 2.2% and 0.9% in fiscal years 2016 and 2015, respectively. We calculate same store revenue growth by comparing revenues for comparable periods for stores open during the entirety of those periods. A number of factors have historically affected our same store revenues for our Aaron's business, including:
changes in competition, particularly from the digital sector;
general economic conditions;
economic challenges faced by our customer base;
new product introductions;
consumer trends;
changes in our merchandise mix;
timing of promotional events; and
our ability to execute our business strategy effectively.
If our Aaron's business is unable to successfully address these challenges, our overall business and results of operations may be materially and adversely affected as well.

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Continuation or worsening of current economic conditions faced by a portion of our Aaron's business's customer base could result in decreased revenues, same store sales and profitability and increased costs. The geographic concentration of our Aaron's stores, as well as those of Progressive’s retail partners, may magnify the impact of conditions in a particular region, including economic downturns and other occurrences.
Much of our Aaron's business customer base continues to experience prolonged economic uncertainty and, in certain areas, unfavorable economic conditions. We believe that the extended duration of that economic uncertainty and unfavorable economic conditions, may be resulting in our customers curtailing entering into sales and lease ownership agreements for the types of merchandise we offer, or entering into agreements that generate smaller amounts of revenue for us, resulting in decreased same store sales and revenues for our Aaron's business. Any increases in unemployment or underemployment within our customer base may result in increased defaults on lease payments, resulting in increased merchandise return costs and merchandise losses.
The concentration of our Aaron's stores, and/or those of our retail partners at Progressive, in one region or a limited number of markets may expose us to risks of adverse economic developments that are greater than if our store portfolio and retail partners were more geographically diverse. For example, during 2016, 17.9% of our Aaron's business store-based revenues were generated in Texas. Given our concentration of stores in Texas, the downturn and prolonged uncertainty in the oil and gas industry could have a material adverse effect on our overall business.
In addition, our store operations, as well as those of our retail partners at Progressive, are subject to the effects of adverse acts of nature, such as winter storms, hurricanes, hail storms, strong winds, earthquakes and tornadoes, which have in the past caused damage such as flooding and other damage to our stores and those of our retail partners in specific geographic locations. Additionally, we cannot assure you that the amount of our hurricane, windstorm, earthquake, flood, business interruption or other casualty insurance we maintain from time to time would entirely cover damages caused by any such event.
We could lose our access to data sources, which could cause us competitive harm and have a material adverse effect on our business, operating results, and financial condition.
We are heavily dependent on data provided by third party providers. For example, our Progressive business employs a proprietary decisioning algorithm when making lease approval decisions for its customers. This algorithm depends extensively upon continued access to and receipt of data from external sources, such as third party data vendors. In addition, our Aarons.com and DAMI businesses are similarly dependent on customer attribute data provided by external sources. Our data providers could stop providing data, provide untimely, incorrect or incomplete data, or increase the costs for their data for a variety of reasons, including a perception that our systems are insecure as a result of a data security breach, regulatory concerns or for competitive reasons. We could also become subject to increased legislative, regulatory or judicial restrictions or mandates on the collection, disclosure or use of such data, in particular if such data is not collected by our providers in a way that allows us to legally use the data. If we were to lose access to this external data or if our access or use were restricted or were to become less economical or desirable, our Progressive, Aarons.com and DAMI businesses would be negatively impacted, which would adversely affect our operating results and financial condition. We cannot provide assurance that we will be successful in maintaining our relationships with these external data source providers or that we will be able to continue to obtain data from them on acceptable terms or at all. Furthermore, we cannot provide assurance that we will be able to obtain data from alternative sources if our current sources become unavailable.
Our proprietary algorithms and decisioning tools used to approve customers could no longer be indicative of our customer’s ability to pay.
We believe Progressive’s proprietary, centralized underwriting process to be a key to the success of the Progressive business. That and other underwriting processes and tools are also used to approve customers of Aaron's and DAMI. We assume behavior and attributes observed for prior customers, among other factors, are indicative of performance by future customers. Unexpected changes in behavior caused by macroeconomic conditions, changes in consumer preferences, availability of alternative products or other factors, however, could lead to increased incidence and costs related to unpaid leases and/or merchandise losses.
Progressive’s loss of operating revenues from key retail partners could materially and adversely affect our business.
Progressive’s relationship with its largest retail partners will have a significant impact on our operating revenues in future periods. The loss of any such key retailers would have a material adverse effect on our business. In addition, any publicity associated with the loss of any of Progressive’s large retail partners could harm our reputation, making it more difficult to attract and retain consumers and other retail partners, and could lessen Progressive’s negotiating power with its remaining and prospective retail partners.
Many of Progressive’s contracts with its retail partners can be terminated by them on relatively short notice, and all can be terminated in limited circumstances, such as our material breach or insolvency, our failure to meet agreed-upon service levels,

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certain changes in control of Progressive, and its inability or unwillingness to agree to requested pricing changes. There can be no assurance that Progressive will be able to continue its relationships with its largest retail partners on the same or more favorable terms in future periods or that its relationships will continue beyond the terms of our existing contracts with them. Our operating revenues and operating results could suffer if, among other things, any of Progressive’s retail partners renegotiates, terminates or fails to renew, or fails to renew on similar or favorable terms, their agreements with Progressive or otherwise chooses to modify the level of support they provide for Progressive’s lease-purchase option.
If our independent franchisees fail to meet their debt service payments or other obligations under outstanding loans guaranteed by us as part of a franchise loan program, we may be required to pay to satisfy these obligations which could have a material adverse effect on our business and financial condition.
We have guaranteed the borrowings of certain franchisees under a franchise loan program with several banks with a maximum commitment amount of $125.0 million. In the event these franchisees are unable to meet their debt service payments or otherwise experience events of default, we would be unconditionally liable for a portion of the outstanding balance of the franchisees’ debt obligations, which at December 31, 2016 was $56.7 million.
We have had no significant losses associated with the franchise loan and guaranty program since its inception. Although we believe that any losses associated with defaults would be mitigated through recovery of lease merchandise and other assets, we cannot guarantee that there will be no significant losses in the future or that we will be able to adequately mitigate any such losses. In addition to being liable for franchisee loan defaults under this loan and guaranty program, we could suffer a loss of franchisee fees and royalties in the event that any defaulting franchisees become insolvent and/or cease business operations due to financial difficulties, and could suffer write-downs of outstanding receivables those franchisees owe us if they fail to make those payments to us. If we fail to adequately mitigate any such future losses, our business and financial condition could be materially adversely impacted.
Operational and other failures by our franchisees may adversely impact us.
Qualified franchisees who conform to our standards and requirements are important to the overall success of our business. Our franchisees, however, are independent businesses and not employees, and consequently we cannot and do not control them to the same extent as our Company-operated stores. Our franchisees may fail in key areas, or experience significant business or financial difficulties, which could slow our growth, reduce our franchise revenues, damage our reputation, expose us to regulatory enforcement actions or private litigation and/or cause us to incur additional costs. If our franchisees experience business or financial difficulties, we could suffer a loss of franchisee fees and royalties and could suffer write-downs of outstanding receivables those franchisees owe us if they fail to make those payments to us. If we fail to adequately mitigate any such future losses, our business and financial condition could be materially adversely impacted.
Failure to successfully manage and grow our Aarons.com e-commerce platform could materially adversely affect our business and future prospects.
Our Aarons.com e-commerce platform provides customers the ability to review our product offerings and prices and enter into lease agreements as well as make payments on existing leases from the comfort of their homes and on their mobile devices. Our e-commerce platform is a significant component of our strategic plan and we believe will drive future growth of our business. In order to promote our products and services and allow customers to transact online and reach new customers, we must effectively maintain, improve and grow our e-commerce platform. There can be no assurance that we will be able to maintain, improve or grow our e-commerce platform in a profitable manner.
DAMI’s "second-look" credit programs for below-prime consumers differ in significant respects from the risks of Aaron’s store-based lease-to-own business. The risks could have a material negative effect on Progressive, which could result in a material adverse effect on our entire business.
As discussed above, as we execute on our strategic plans, we may continue to expand into complementary businesses that engage in financial, banking or lending services. For example, DAMI, which through its HELPcard® and other private label credit products, offers merchant partners one source for a variety of open-end credit programs for below-prime consumers, is a business that differs in significant respects from our Aaron's business. Consequently, DAMI faces different risks than are associated with Aaron’s sales and lease ownership concept, which Aaron’s and its franchisees offer through their own stores. Because DAMI is operated as a wholly-owned subsidiary of Progressive, the risks DAMI faces could have a material negative effect on Progressive, which could result in a material adverse effect on our entire business. These potential risks include, among others, DAMI’s:
reliance on third party retailers (over whom DAMI cannot exercise the degree of control and oversight that Aaron’s business, including franchisees, can assert over their own respective employees) for many important business functions, from advertising through assistance with finance applications;

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reliance on two bank partners to issue DAMI’s HELPcard® and other credit products. The banks' regulators could at any time limit or otherwise modify the banks' ability to continue their relationships with DAMI and any significant interruption of those relationships would result in DAMI being unable to use exported rates or acquire new receivables without moving to a costly and inefficient state-by-state model, and provide other credit products. It is possible that a regulatory position or action taken with respect to DAMI’s issuing banks might result in the banks' inability or unwillingness to originate future credit products on DAMI’s behalf or in partnership with it, which would adversely affect DAMI’s ability to grow its point-of-sale and direct-to-consumer credit products and other consumer credit offerings and underlying receivables. In addition, DAMI’s agreements with its issuing bank partners have scheduled expiration dates. Although those expiration dates are several months apart, if DAMI is unable to extend or execute new agreements with both of its issuing banks upon the expiration of its current agreements, or if its existing agreements both were terminated or otherwise disrupted, there is a risk that DAMI would not be able to enter into an agreement with an alternative bank provider on terms that DAMI would consider favorable or in a timely manner without disruption of its business; and
different legal and regulatory risks than those applicable to Aaron’s and Progressive's sales and lease ownership businesses, including risks arising from the Truth in Lending Act, state credit laws and the offering of open-end credit, the potential that regulators may target DAMI’s operating model and the interest rates it charges, and the risk of unfavorable court decisions relating to the exporting of interest rates and state usury laws.
These risks could have a material negative effect on Progressive, which could result in a material adverse effect on our entire business.
If we fail to establish and maintain effective internal control over financial reporting and disclosure controls and procedures, particularly with respect to our Progressive and DAMI businesses, we may not be able to accurately report our financial results, or report them in a timely manner.
As a public reporting company subject to the rules and regulations established from time to time by the SEC and the New York Stock Exchange, we are required to, among other things, establish and periodically evaluate procedures with respect to our disclosure controls and procedures. In addition, as a public company, we are required to document and test our internal control over financial reporting pursuant to Section 404 of the Sarbanes-Oxley Act of 2002 so that our management can certify, on an annual basis, that our internal control over financial reporting is effective.
Prior to their acquisition by us, our Progressive and DAMI businesses were private companies and were not required to establish disclosure controls and procedures. In particular, unlike our Aaron's business, these businesses have not historically operated under a fully documented and annually tested system for internal control over financial reporting that is required for public companies by Section 404 of the Sarbanes-Oxley Act.
If we fail to establish and maintain effective internal control over financial reporting and disclosure controls and procedures - particularly in our Progressive and DAMI businesses - we may not be able to accurately report our financial results, or report them in a timely manner, which could cause a decline in our stock price and adversely affect our results of operations and financial condition. In addition, if our senior management is unable to conclude that we have effective internal control over financial reporting, or to certify the effectiveness of such controls, or if our independent registered public accounting firm cannot render an unqualified opinion on the effectiveness of our internal control over financial reporting, when required, or if material weaknesses in our internal controls are identified, we could be subject to increased regulatory scrutiny and a loss of public and investor confidence, which could also have a material adverse effect on our business and our stock price.
If we do not maintain the privacy and security of customer, employee, supplier or Company information, we could damage our reputation, incur substantial additional costs and become subject to litigation and regulatory enforcement actions.
Our business involves the collection, storage and transmission of customers’ personal information, consumer preferences and credit card information, as well as confidential information about our customers, employees, suppliers and Company. We also serve as an information technology provider to our franchisees including storing and processing information related to their customers on our systems. Our information systems are vulnerable to an increasing threat of continually evolving cybersecurity risks. Any significant compromise or breach of our data security, whether external or internal, or misuse of employee or customer data, could significantly damage our reputation, cause the disclosure of confidential customer, associate, supplier or Company information, and result in significant costs, lost revenues or sales, fines, regulatory enforcement actions and lawsuits. For example, we are currently subject to settlements with the FTC as well as the State of California and the Commonwealth of Pennsylvania regarding our business practices and compliance with privacy laws in those states, and data breaches of this nature could result in additional penalties under the terms of those settlements.
Various third parties, including computer hackers, may attempt to penetrate our network security and, if successful, misappropriate confidential customer or employee and/or supplier information. In addition, one of our employees, contractors

19


or other third parties with whom we do business may attempt to circumvent our security measures in order to obtain such information, or inadvertently cause a breach involving such information. While we have implemented systems and processes to protect against unauthorized access to or use of secured data and to prevent data loss, there is no guarantee that these procedures are adequate to safeguard against all data security breaches or misuse of the data. The regulatory environment related to information security, data collection and use, and privacy is increasingly rigorous, with new and constantly changing requirements applicable to our business, and compliance with those requirements could result in additional costs. These costs associated with information security, such as increased investment in technology, the costs of compliance with privacy laws, and costs incurred to prevent or remediate information security breaches, could be substantial and adversely impact our business.
We have experienced security incidents in the past, including an incident in which customer information was compromised, although no security incidents have resulted in a material loss to date.  We have been and are continuously in the process of improving our system security, although there can be no assurance that improvements we have already implemented, or others that we may implement from time to time in the future, will be effective to prevent all security incidents. We maintain network security and private liability insurance intended to help mitigate the financial risk of such incidents, but there can be no guarantee that insurance will be sufficient to cover all losses related to such incidents.
A significant compromise of sensitive employee or customer or supplier information in our possession could result in legal damages and regulatory penalties. In addition, the costs of defending such actions or remediating breaches could be material. Security breaches could also harm our reputation with our customers and retail partners, potentially leading to decreased revenues.
If our information technology systems are impaired, our business could be interrupted, our reputation could be harmed and we may experience lost revenues and increased costs and expenses.
We rely on our information technology systems to process transactions with our customers, including tracking lease payments on merchandise, and to manage other important functions of our business. Failures of our systems, such as "bugs," crashes, internet failures and outages, operator error or catastrophic events, could seriously impair our ability to operate our business, and our business continuity and contingency plans related to such information technology failures may not be adequate to prevent that type of serious impairment. If our information technology systems are impaired, our business (and that of our franchisees) could be interrupted, our reputation could be harmed, we may experience lost revenues or sales and we could experience increased costs and expenses to remediate the problem.
We are subject to laws that regulate franchisor-franchisee relationships. Our ability to enforce our rights against our franchisees may be adversely affected by these laws, which could impair our growth strategy and cause our franchise revenues to decline.
As a franchisor, we are subject to regulation by the FTC, state laws and certain Canadian provincial laws regulating the offer and sale of franchises. Our failure to comply with applicable franchise regulations could cause us to lose franchise fees and ongoing royalty revenues. Moreover, state and provincial laws that regulate substantive aspects of our relationships with franchisees may limit our ability to terminate or otherwise resolve conflicts with our franchisees or enforce contractual duties or rights we believe we have with respect to our franchisees.
We may engage in litigation with our franchisees.
Although we believe we generally enjoy a positive working relationship with the vast majority of our franchisees, the nature of the franchisor-franchisee relationship may give rise to litigation with our franchisees. In the ordinary course of business, we are the subject of complaints or litigation from franchisees, usually related to alleged breaches of contract or wrongful termination under the franchise arrangements. We may also engage in future litigation with franchisees to enforce the terms of our franchise agreements and compliance with our brand standards as determined necessary to protect our brand, the consistency of our products and the customer experience. In addition, we may be subject to claims by our franchisees relating to our FDD, including claims based on financial information contained in our FDD. Engaging in such litigation may be costly, time-consuming and may distract management and materially adversely affect our relationships with franchisees and our ability to attract new franchisees. Any negative outcome of these or any other claims could materially adversely affect our results of operations as well as our ability to expand our franchise system and may damage our reputation and brand. Furthermore, existing and future franchise-related legislation could subject us to additional litigation risk in the event we terminate or fail to renew a franchise relationship.
Changes to the current law with respect to the assignment of liabilities in the franchise business model could adversely impact our profitability.
One of the legal foundations fundamental to the franchise business model has been that, absent special circumstances, a franchisor is generally not responsible for the acts, omissions or liabilities of its franchisees. Recently, established law has been

20


challenged and questioned by the plaintiffs’ bar and certain regulators, and the outcome of these challenges and new regulatory positions remains unknown. If these challenges and/or new positions are successful in altering currently settled law, it could significantly change the way we and other franchisors conduct business and adversely impact our profitability.
For example, a determination that we are a joint employer with our franchisees or that franchisees are part of one unified system with joint and several liability under the National Labor Relations Act, statutes administered by the Equal Employment Opportunity Commission, OSHA, regulations and other areas of labor and employment law could subject us and/or our franchisees to liability for the unfair labor practices, wage-and-hour law violations, employment discrimination law violations, OSHA regulation violations and other employment-related liabilities of one or more franchisees. Furthermore, any such change in law would create an increased likelihood that certain franchised networks would be required to employ unionized labor, which could impact franchisors like us through, among other things, increased labor costs and difficulty in attracting new franchisees. In addition, if these changes were to be expanded outside of the employment context, we could be held liable for other claims against franchisees. Therefore, any such regulatory action or court decisions could impact our ability or desire to grow our franchised base and have a material adverse effect on our results of operations.
From time to time we are subject to legal and regulatory proceedings which seek material damages or seek to place significant restrictions on our business operations. These proceedings may be negatively perceived by the public and materially and adversely affect our business.
We are subject to legal and regulatory proceedings from time to time which may result in material damages or place significant restrictions on our business operations. For example, we are currently subject to settlements with the FTC as well as the State of California and the Commonwealth of Pennsylvania regarding our business practices and compliance with privacy laws in those states. Although we do not presently believe that any of our current legal or regulatory proceedings will ultimately have a material adverse impact on our operations, we cannot assure you that we will not incur material damages or penalties in a lawsuit or other proceeding in the future and/or significant defense costs related to such lawsuits or proceedings. For example, we operate a fleet of approximately 3,000 delivery trucks and, in addition to the significant compliance-related costs associated with operating such a fleet, we may incur significant adverse judgments, damages and penalties related to accidents that those trucks may be involved in from time to time. Significant adverse judgments, penalties, settlement amounts, amounts needed to post a bond pending an appeal or defense costs could materially and adversely affect our liquidity and capital resources. It is also possible that, as a result of a future governmental or other proceeding or settlement, significant restrictions will be placed upon, or significant changes made to, our business practices, operations or methods, including pricing or similar terms. Any such restrictions or changes may adversely affect our profitability or increase our compliance costs.
The transactions offered to consumers by our businesses may be negatively characterized by consumer advocacy groups, the media and certain federal, state and local government officials, and if those negative characterizations become increasingly accepted by consumers and/or Progressive’s or DAMI’s retail partners, demand for our goods and the transactions we offer could decrease and our business could be materially adversely affected.
Certain consumer advocacy groups, media reports and federal and state legislators have asserted that laws and regulations should be broader and more restrictive regarding lease-to-own transactions. The consumer advocacy groups and media reports generally focus on the total cost to a consumer to acquire an item, which is often alleged to be higher than the interest typically charged by banks or similar lending institutions to consumers with better credit histories. This "cost-of-rental" amount, which is generally defined as lease fees paid in excess of the "retail" price of the goods, is from time to time characterized by consumer advocacy groups and media reports as predatory or abusive without discussing benefits associated with our lease-to-own programs or the lack of viable alternatives for our customers’ needs. If the negative characterization of these types of lease-to-own transactions becomes increasingly accepted by consumers or Progressive’s or DAMI’s retail and merchant partners, demand for our products and services could significantly decrease, which could have a material adverse effect on our business, results of operations and financial condition. Additionally, if the negative characterization of these types of transactions is accepted by legislators and regulators, we could become subject to more restrictive laws and regulations, which could have a material adverse effect on our business, results of operations and financial condition. The vast expansion and reach of technology, including social media platforms, has increased the risk that our reputation could be significantly impacted by these negative characterizations in a relatively short amount of time. If we are unable to quickly and effectively respond to such characterizations, we may experience declines in customer loyalty and traffic and our relationships with our retail partners may suffer, which could have a material adverse effect on our business, results of operations and financial condition.
The loss of the services of our key executives, or our inability to attract and retain key technical talent in the areas of IT and analytics, could have a material adverse impact on our operations.
We believe that we have benefited substantially from our current executive leadership and that the unexpected loss of their services in the future could adversely affect our business and operations. We also depend on the continued services of the rest of our management team. The loss of these individuals without adequate replacement could adversely affect our business.

21


Further, we believe that the unexpected loss of certain key technical talent in the areas of information technology and analytics in the future could adversely affect our business and operations. We do not carry key man life insurance on any of our personnel. The inability to attract and retain qualified individuals, or a significant increase in the costs to do so, would materially adversely affect our operations.
Our competitors could impede our ability to attract new customers, or cause current customers to cease doing business with us.
The industries in which we operate are highly competitive and highly fluid, particularly in light of the sweeping new regulatory environment we are witnessing from regulators such as the CFPB and the FTC, among others, as discussed above.
In the sales and lease ownership market, our competitors include national, regional and local operators of lease-to-own stores, virtual lease-to-own companies, traditional and e-commerce retailers (including many retailers who offer layaway programs) and, indirectly, various types of consumer finance companies that may enable our customers to shop at traditional or on-line retailers, as well as rental stores that do not offer their customers a purchase option. Our competitors in the traditional and virtual sales and lease ownership and traditional retail markets may have significantly greater financial and operating resources and greater name recognition in certain markets. Greater financial resources may allow our competitors to grow faster than us, including through acquisitions. This in turn may enable them to enter new markets before we can, which may decrease our opportunities in those markets. Greater name recognition, or better public perception of a competitor’s reputation, may help them divert market share away from us, even in our established markets. Some competitors may be willing to offer competing products on an unprofitable basis in an effort to gain market share, which could compel us to match their pricing strategy or lose business.
Our Progressive business relies heavily on relationships with retail partners. An increase in competition could cause our retail partners to no longer offer the Progressive product in favor of our competitors which could slow growth in the Progressive business and limit profitability.
In addition, as a result of changes to the regulatory framework within which we operate, among other reasons, new competitors may emerge or current and potential competitors may establish financial or strategic relationships among themselves or with third parties. Accordingly, it is possible that new competitors or alliances among competitors could emerge and rapidly acquire significant market share. The occurrence of any of these events could materially adversely impact our business.
We depend on hiring an adequate number of hourly employees to run our business and are subject to government regulations concerning these and our other employees, including wage and hour regulations.
Our workforce is comprised primarily of employees who work on an hourly basis. To grow our operations and meet the needs and expectations of our customers, we must attract, train, and retain a large number of hourly associates, while at the same time controlling labor costs. These positions have historically had high turnover rates, which can lead to increased training, retention and other costs. In certain areas where we operate, there is significant competition for employees, including from retailers and the restaurant industries. The lack of availability of an adequate number of hourly employees, or our inability to attract and retain them, or an increase in wages and benefits to current employees could adversely affect our business, results of operations, cash flows and financial condition. We are subject to applicable rules and regulations relating to our relationship with our employees, including wage and hour regulations, health benefits, unemployment and payroll taxes, overtime and working conditions and immigration status. Accordingly, federal, state or local legislated increases in the minimum wage, as well as increases in additional labor cost components such as employee benefit costs, workers’ compensation insurance rates, compliance costs and fines, would increase our labor costs, which could have a material adverse effect on our business, prospects, results of operations and financial condition.
Our stock price is volatile, and you may not be able to recover your investment if our stock price declines.
The price of our common stock has been volatile and can be expected to be significantly affected by factors such as:
our ability to meet market expectations with respect to the growth and profitability of each of our operating segments;
quarterly variations in our results of operations, which may be impacted by, among other things, changes in same store revenues or when and how many locations we acquire or open;
quarterly variations in our competitors’ results of operations;
changes in earnings estimates or buy/sell recommendations by financial analysts;
state or federal legislative or regulatory proposals, initiatives, actions or changes that are, or are perceived to be, adverse to our operations;
the stock price performance of comparable companies; and
continuing unpredictable global and regional economic conditions.

22


In addition, the stock market as a whole historically has experienced price and volume fluctuations that have affected the market price of many specialty retailers in ways that may have been unrelated to these companies’ operating performance.
We are subject to sales, income and other taxes, which can be difficult and complex to calculate due to the nature of our various businesses. A failure to correctly calculate and pay such taxes could result in substantial tax liabilities and a material adverse effect on our results of operations.
The application of indirect taxes, such as sales tax, is a complex and evolving issue, particularly with respect to the lease-to-own industry generally and our virtual lease-to-own Progressive and Aarons.com businesses more specifically. Many of the fundamental statutes and regulations that impose these taxes were established before the growth of the lease-to-own industry and e-commerce and, therefore, in many cases it is not clear how existing statutes apply to our various businesses. In addition, governments are increasingly looking for ways to increase revenues, which has resulted in discussions about tax reform and other legislative action to increase tax revenues, including through indirect taxes. This also could result in other adverse changes in or interpretations of existing sales, income and other tax regulations. For example, from time to time, some taxing authorities in the United States have notified us that they believe we owe them certain taxes imposed on transactions with our customers, including some state tax authorities suggesting that our Progressive business may owe certain state taxes based on the locations of Progressive's retail partners where Progressive's lease-to-own transactions are originated. Although these notifications have not resulted in material tax liabilities to date, there is a risk that one or more jurisdictions may be successful in the future, which could have a material adverse effect on our results of operations.
We must successfully order and manage our Aaron's business inventory to reflect customer demand and anticipate changing consumer preferences and buying trends or our revenue and profitability will be adversely affected.
The success of our Aaron's business depends upon our ability to successfully manage our inventory and to anticipate and respond to merchandise trends and customer demands in a timely manner. We cannot always accurately predict consumer preferences and they may change over time. We must order certain types of merchandise, such as electronics, well in advance of seasonal increases in customer demand for those products. The extended lead times for many of our purchases may make it difficult for us to respond rapidly to new or changing product trends or changes in prices. If we misjudge either the market for our merchandise, our customers' product preferences or our customers’ leasing habits, our revenue may decline significantly and we may not have sufficient quantities of merchandise to satisfy customer demand or we may be required to mark down excess inventory, either of which would result in lower profit margins. In addition, our level of profitability and success in our Aaron's business depends on our ability to successfully re-lease or sale our inventory of merchandise that we take back from the customers of our Aaron's business, due to their lease agreements expiring, or otherwise.
We may pursue strategic alliances, acquisitions or investments and the failure of an alliance, acquisition or investment to produce the anticipated results or the inability to fully integrate the acquired companies could have an adverse impact on our business.
We may from time to time acquire or invest in complementary companies or businesses, as we have done in recent years. The success of such acquisitions or investments is based on our ability to make accurate assumptions regarding the valuation, operations, growth potential, integration and other factors relating to the respective business. There can be no assurance that our acquisitions or investments will produce the results that we expect at the time we enter into or complete the transaction. Furthermore, acquisitions may result in dilutive issuances of our equity securities, the incurrence of debt, contingent liabilities, amortization expenses or write-offs of goodwill or other intangibles, any of which could harm our financial condition. We also may not be able to successfully integrate operations that we acquire, including their personnel, financial systems, supply chain and other operations, which could adversely affect our business. Acquisitions may also result in the diversion of our capital and our management's attention from other business issues and opportunities.
Product safety and quality control issues, including product recalls, could harm our reputation, divert resources, reduce sales and increase costs.
The products we sell and lease in our Aaron's business and lease through our Progressive business are subject to regulation by the U.S. Consumer Product Safety Commission and similar state regulatory authorities. Such products could be subject to recalls and other actions by these authorities. Product safety or quality concerns may require us to voluntarily remove selected products from our Aaron's stores, or from our customers’ homes. Such recalls and voluntary removal of products can result in, among other things, lost sales, diverted resources, potential harm to our reputation and increased customer service costs, which could have a material adverse effect on our financial condition. In addition, given the terms of our lease agreements with our customers, in the event of such a product quality or safety issue, our customers who have leased the defective merchandise from us could terminate their lease agreements for that merchandise and/or not renew those lease arrangements, which could have a material adverse effect on our financial condition, if we are unable to recover those losses from the vendor who supplied us with the defective merchandise.

23


Employee misconduct or misconduct by third parties acting on our behalf could harm us by subjecting us to monetary loss, significant legal liability, regulatory scrutiny and reputational harm.
Our reputation is critical to maintaining and developing relationships with our existing and potential customers and third parties with whom we do business. There is a risk that our employees or the employees of a third party retailer with whom our Progressive business partners, or of a third party merchant with whom our DAMI segment does business, could engage in misconduct that adversely affects our reputation and business. For example, if an employee or a third party associated with our business were to engage in, or be accused of engaging in, illegal or suspicious activities including fraud or theft of our customers’ information, we could suffer direct losses from the activity and, in addition, we could be subject to regulatory sanctions and suffer serious harm to our reputation, financial condition, customer relationships and ability to attract future customers. Employee or third-party misconduct could prompt regulators to allege or to determine based upon such misconduct that we have not established adequate supervisory systems and procedures to inform employees of applicable rules or to detect violations of such rules. Our Company-operated Aaron's stores have experienced employee fraud from time to time, and it is not always possible to deter employee or third-party misconduct. The precautions that we take to detect and prevent misconduct may not be effective in all cases. Misconduct by our employees or third party contractors, or even unsubstantiated allegations of misconduct, could result in a material adverse effect on our reputation and our business.
ITEM 1B. UNRESOLVED STAFF COMMENTS
None.

24


ITEM 2. PROPERTIES
The Company leases warehouse and retail store space for most of its store-based operations, call center space, and management and information technology space for corporate functions under operating leases expiring at various times through 2033. Most of the leases contain renewal options for additional periods ranging from one to 20 years or provide for options to purchase the related property at predetermined purchase prices that do not represent bargain purchase options. The following table sets forth certain information regarding our furniture manufacturing plants, bedding facilities, fulfillment centers, service centers, warehouses, corporate management and call center facilities as of December 31, 2016:
LOCATION
SEGMENT, PRIMARY USE AND HOW HELD
SQ. FT.
Cairo, Georgia
Manufacturing—Furniture Manufacturing – Owned
300,000

Cairo, Georgia
Manufacturing—Bedding and Furniture Manufacturing – Owned
147,000

Cairo, Georgia
Manufacturing—Furniture Parts Warehouse – Leased
111,000

Coolidge, Georgia
Manufacturing—Furniture Manufacturing – Owned
81,000

Coolidge, Georgia
Manufacturing—Furniture Manufacturing – Owned
48,000

Coolidge, Georgia
Manufacturing—Furniture Manufacturing – Owned
41,000

Coolidge, Georgia
Manufacturing—Administration and Showroom – Owned
10,000

Lewisberry, Pennsylvania
Manufacturing—Bedding Manufacturing – Leased
25,000

Fairburn, Georgia
Manufacturing—Bedding Manufacturing – Leased
57,000

Sugarland, Texas
Manufacturing—Bedding Manufacturing – Owned
23,000

Auburndale, Florida
Manufacturing—Bedding Manufacturing – Leased
20,000

Kansas City, Kansas
Manufacturing—Bedding Manufacturing – Leased
13,000

Phoenix, Arizona
Manufacturing—Bedding Manufacturing – Leased
24,000

Plainfield, Indiana
Manufacturing—Bedding Manufacturing – Leased
40,000

Cheswick, Pennsylvania 1
Manufacturing—Bedding Manufacturing – Leased
19,000

Auburndale, Florida
Sales and Lease Ownership—Fulfillment Center – Leased
131,000

Belcamp, Maryland
Sales and Lease Ownership—Fulfillment Center – Leased
95,000

Obetz, Ohio
Sales and Lease Ownership—Fulfillment Center – Leased
91,000

Dallas, Texas
Sales and Lease Ownership—Fulfillment Center – Leased
133,000

Fairburn, Georgia
Sales and Lease Ownership—Fulfillment Center – Leased
115,000

Sugarland, Texas
Sales and Lease Ownership—Fulfillment Center – Owned
135,000

Huntersville, North Carolina
Sales and Lease Ownership—Fulfillment Center – Leased
206,000

LaVergne, Tennessee
Sales and Lease Ownership—Fulfillment Center – Leased
100,000

Oklahoma City, Oklahoma
Sales and Lease Ownership—Fulfillment Center – Leased
130,000

Phoenix, Arizona
Sales and Lease Ownership—Fulfillment Center – Leased
107,000

Magnolia, Mississippi
Sales and Lease Ownership—Fulfillment Center – Leased
125,000

Plainfield, Indiana
Sales and Lease Ownership—Fulfillment Center – Leased
156,000

Portland, Oregon
Sales and Lease Ownership—Fulfillment Center – Leased
98,000

Westfield, Massachusetts
Sales and Lease Ownership—Fulfillment Center – Leased
131,000

Kansas City, Kansas
Sales and Lease Ownership—Fulfillment Center – Leased
103,000

Cheswick, Pennsylvania
Sales and Lease Ownership—Fulfillment Center – Leased
126,000


25


LOCATION
SEGMENT, PRIMARY USE AND HOW HELD
SQ. FT.
Auburndale, Florida
Sales and Lease Ownership—Service Center – Leased
7,000

Belcamp, Maryland
Sales and Lease Ownership—Service Center – Leased
5,000

Cheswick, Pennsylvania
Sales and Lease Ownership—Service Center – Leased
10,000

Fairburn, Georgia
Sales and Lease Ownership—Service Center – Leased
10,000

Grand Prairie, Texas
Sales and Lease Ownership—Service Center – Leased
7,000

Houston, Texas
Sales and Lease Ownership—Service Center – Leased
20,000

Huntersville, North Carolina
Sales and Lease Ownership—Service Center – Leased
18,000

Kansas City, Kansas
Sales and Lease Ownership—Service Center – Leased
8,000

Obetz, Ohio
Sales and Lease Ownership—Service Center – Leased
7,000

Oklahoma City, Oklahoma
Sales and Lease Ownership—Service Center – Leased
10,000

Phoenix, Arizona
Sales and Lease Ownership—Service Center – Leased
7,000

Plainfield, Indiana
Sales and Lease Ownership—Service Center – Leased
13,000

Citrus Heights, California
Sales and Lease Ownership—Service Center – Leased
8,000

Ridgeland, Mississippi
Sales and Lease Ownership—Service Center – Leased
10,000

South Madison, Tennessee
Sales and Lease Ownership—Service Center – Leased
23,000

Queens, New York
Sales and Lease Ownership—Warehouse – Leased
32,000

Draper, Utah
Progressive—Corporate Management/Call Center – Leased
148,000

Glendale, Arizona
Progressive—Corporate Management/Call Center – Leased
52,000

Springdale, Arkansas
DAMI—Corporate Management/Call Center – Owned
29,000

Tulsa, Oklahoma
DAMI—Call Center – Leased
3,400

1 The Company ceased its bedding manufacturing operations at the Cheswick, PA facility in February 2017.
Our executive and administrative offices previously occupied approximately 69,000 of the 81,000 usable square feet in a 105,000 square-foot office building in Atlanta, Georgia. We sold this building in January 2016, and secured a lease in a different part of Atlanta for approximately 64,000 square feet of a building that we began occupying in 2016 and use for our permanent executive and administrative offices.
We also wholly lease a building in Kennesaw, Georgia with approximately 51,000 square feet. During 2017, we plan to relocate our administrative functions to an alternate leased space with approximately 48,000 square feet.
In addition, we currently lease 67,000 square feet of a second building in Kennesaw, which is used for administrative functions.
We believe that all of our facilities are well maintained and adequate for their current and reasonably foreseeable uses.
ITEM 3. LEGAL PROCEEDINGS
From time to time, we are party to various legal proceedings arising in the ordinary course of business. While any proceeding contains an element of uncertainty, we do not currently believe that any of the outstanding legal proceedings to which we are a party will have a material adverse impact on our business, financial position or results of operations. However, an adverse resolution of a number of these items may have a material adverse impact on our business, financial position or results of operations. For further information, see Note 9 to the consolidated financial statements under the heading "Legal Proceedings," which discussion is incorporated by reference in response to this Item 3.
ITEM 4. MINE SAFETY DISCLOSURES
Not applicable.

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PART II
ITEM 5. MARKET FOR REGISTRANT’S COMMON EQUITY, RELATED STOCKHOLDER MATTERS AND ISSUER PURCHASES OF EQUITY SECURITIES
Market Information, Holders and Dividends
Effective December 13, 2010, all shares of the Company’s common stock began trading as a single class on the New York Stock Exchange under the ticker symbol "AAN." The CUSIP number of the Company's common stock is 002535300.
The number of shareholders of record of the Company’s common stock at February 22, 2017 was 174. The closing price for the common stock at February 22, 2017 was $27.06.
The following table shows the range of high and low sales prices per share for the Company’s common stock and the quarterly cash dividends declared per share for the periods indicated. 
Common Stock
High
 
Low
 
Cash
Dividends
Per Share
Year Ended December 31, 2016
 
 
 
 
 
First Quarter
$
25.25

 
$
20.24

 
$
0.0250

Second Quarter
27.72

 
20.51

 
0.0250

Third Quarter
25.90

 
21.50

 
0.0250

Fourth Quarter
34.22

 
22.37

 
0.0275

Common Stock
High
 
Low
 
Cash
Dividends
Per Share
Year Ended December 31, 2015
 
 
 
 
 
First Quarter
$
33.71

 
$
27.51

 
$
0.0230

Second Quarter
36.98

 
27.40

 
0.0230

Third Quarter
40.06

 
32.36

 
0.0230

Fourth Quarter
40.80

 
21.32

 
0.0250

Subject to our ongoing ability to generate sufficient income, any future capital needs and other contingencies, we expect to continue our policy of paying quarterly dividends. Dividends will be payable only when, and if, declared by the Company's Board of Directors. Under our revolving credit agreement, we may pay cash dividends in any year so long as, after giving pro forma effect to the dividend payment, we maintain compliance with our financial covenants and no event of default has occurred or would result from the payment.
Issuer Purchases of Equity Securities
As of December 31, 2016, 9,123,721 shares of common stock remained available for repurchase from time to time under the purchase authority previously approved by the Company’s Board of Directors. The following table presents our share repurchase activity for the three months ended December 31, 2016:
Period
Total Number of Shares Purchased
 
Average Price Paid Per Share
 
Total Number of Shares Purchased as Part of Publicly Announced Plans
 
Maximum Number of Shares That May Yet Be Purchased Under the Publicly Announced Plans1
October 1 through October 31, 2016

 

 

 
9,123,721

November 1 through November 30, 2016

 

 

 
9,123,721

December 1 through December 31, 2016

 

 

 
9,123,721

Total

 
 
 

 
 
1 Share repurchases are conducted under authorizations made from time to time by the Company’s Board of Directors. The most recent authorization was publicly announced on October 4, 2013 and authorized the repurchase of an additional 10,955,345 shares of common stock over the previously authorized repurchase amount of 4,044,655 shares, increasing the total number of our shares of common stock authorized for repurchase to 15,000,000. These authorizations have no expiration date, and the Company is not obligated to repurchase any shares. Subject to applicable law, repurchases may be made at such times and in such amounts as the Company deems appropriate. Repurchases may be discontinued at any time.

27


Securities Authorized for Issuance Under Equity Compensation Plans
Information concerning the Company’s equity compensation plans is set forth in Item 12 of Part III of this Annual Report on Form 10-K.
Performance Graph
Comparison of 5 Year Cumulative Total Return*
Among Aaron's, Inc., the S&P Midcap 400 Index, and S&P 400 Retailing Index
a10k4q2016_chart-04832.jpg
*$100 invested on 12/31/11 in stock or index, including reinvestment of dividends.
Fiscal year ending December 31.
The line graph above and the table below compare, for the last five 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 Midcap 400 Index and the S&P 400 Retailing Index.
December 31,
2011
2012
2013
2014
2015
2016
Aaron's, Inc.
$
100.00

$
106.23

$
110.72

$
115.47

$
84.84

$
121.68

S&P Midcap 400
100.00

117.88

157.37

172.74

168.98

204.03

S&P 400 Retailing Index
100.00

112.24

136.46

145.32

124.57

130.35




28


ITEM 6. SELECTED FINANCIAL DATA
The following table sets forth certain selected consolidated financial data of Aaron’s, Inc., which have been derived from its Consolidated Financial Statements for each of the five years in the period ended December 31, 2016. Certain reclassifications have been made to the prior periods to conform to the current period presentation. This historical information may not be indicative of the Company’s future performance. The information set forth below should be read in conjunction with Management’s Discussion and Analysis of Financial Condition and Results of Operations and the Consolidated Financial Statements and the notes thereto. 
 
Year Ended December 31,
(Dollar Amounts in Thousands, Except Per Share Data)
2016
 
2015
 
2014
 
2013
 
2012
OPERATING RESULTS
 
 
 
 
 
 
 
 
 
Revenues:
 
 
 
 
 
 
 
 
 
Lease Revenues and Fees
$
2,780,824

 
$
2,684,184

 
$
2,221,574

 
$
1,748,699

 
$
1,676,391

Retail Sales
29,418

 
32,872

 
38,360

 
40,876

 
38,455

Non-Retail Sales
309,446

 
390,137

 
363,355

 
371,292

 
425,915

Franchise Royalties and Fees
58,350

 
63,507

 
65,902

 
68,575

 
66,655

Interest and Fees on Loans Receivable
24,080

 
2,845

 

 

 

Other
5,598

 
6,211

 
5,842

 
5,189

 
5,411

 
3,207,716

 
3,179,756

 
2,695,033

 
2,234,631

 
2,212,827

Costs and Expenses:
 
 
 
 
 
 
 
 
 
Depreciation of Lease Merchandise
1,304,295

 
1,212,644

 
932,634

 
628,089

 
601,552

Retail Cost of Sales
18,580

 
21,040

 
24,541

 
24,318

 
21,608

Non-Retail Cost of Sales
276,608

 
351,777

 
330,057

 
337,581

 
387,362

Operating Expenses
1,351,785

 
1,357,030

 
1,231,801

 
1,022,684

 
952,617

Financial Advisory and Legal Costs

 

 
13,661

 

 

Restructuring Expenses
20,218

 

 
9,140

 

 

Retirement and Vacation Charges

 

 
9,094

 
4,917

 
10,394

Progressive-Related Transaction Costs

 

 
6,638

 

 

Legal and Regulatory (Income) Expense

 

 
(1,200
)
 
28,400

 
(35,500
)
Other Operating (Income) Expense, Net
(6,446
)
 
1,324

 
(1,176
)
 
1,584

 
(2,235
)
 
2,965,040

 
2,943,815

 
2,555,190

 
2,047,573

 
1,935,798

Operating Profit
242,676

 
235,941

 
139,843

 
187,058

 
277,029

Interest Income
2,699

 
2,185

 
2,921

 
2,998

 
3,541

Interest Expense
(23,390
)
 
(23,339
)
 
(19,215
)
 
(5,613
)
 
(6,392
)
Other Non-Operating (Expense) Income, Net
(3,563
)
 
(1,667
)
 
(1,845
)
 
517

 
2,677

Earnings Before Income Taxes
218,422

 
213,120

 
121,704

 
184,960

 
276,855

Income Taxes
79,139

 
77,411

 
43,471

 
64,294

 
103,812

Net Earnings
$
139,283


$
135,709


$
78,233


$
120,666


$
173,043

 
 
 
 
 
 
 
 
 
 
Earnings Per Share
$
1.93

 
$
1.87

 
$
1.08

 
$
1.59

 
$
2.28

Earnings Per Share Assuming Dilution
1.91

 
1.86

 
1.08

 
1.58

 
2.25

Dividends Per Share
0.1025

 
0.0940

 
0.0860

 
0.0720

 
0.0620

FINANCIAL POSITION
 
 
 
 
 
 
 
 
 
Lease Merchandise, Net
$
999,381

 
$
1,138,938

 
$
1,087,032

 
$
869,725

 
$
964,067

Property, Plant and Equipment, Net
211,271

 
225,836

 
219,417

 
231,293

 
230,598

Total Assets
2,615,736

 
2,698,488

 
2,456,844

 
1,827,176

 
1,812,929

Debt
497,829

 
606,746

 
606,082

 
142,704

 
141,528

Shareholders’ Equity
1,481,598

 
1,366,618

 
1,223,521

 
1,139,963

 
1,136,126

AT YEAR END (unaudited)
 
 
 
 
 
 
 
 
 
Stores Open:
 
 
 
 
 
 
 
 
 
Company-operated
1,165

 
1,305

 
1,326

 
1,370

 
1,324

Franchised
699

 
734

 
782

 
781

 
749

Lease Agreements in Effect
2,104,700

 
2,164,200

 
2,111,800

 
1,751,000

 
1,724,000

Progressive Active Doors1
17,963

 
13,248

 
12,307

 

 

Number of Employees
11,500

 
12,700

 
12,400

 
12,600

 
11,900

1 Progressive was acquired on April 14, 2014. Active doors represent retail store locations at which at least one virtual lease-to-own transaction has been completed during the trailing three month period.

29


ITEM 7. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
Business Overview
Aaron’s, Inc. ("we," "our," "us," or the "Company") is a leading omnichannel provider of lease-purchase solutions. As of December 31, 2016, the Company's operating segments are Sales and Lease Ownership, Progressive, DAMI, Franchise, and Woodhaven Furniture Industries.
The Sales and Lease Ownership segment offers furniture, consumer electronics, home appliances and accessories to consumers primarily on a month-to-month lease-to-own basis with no credit needed through the Company's Aaron's stores. We have more than 1,800 Company-operated and franchised Aaron's stores in 47 states and Canada. Progressive is a virtual lease-to-own company that provides lease-purchase solutions through approximately 22,000 retail locations in 46 states. It does so by purchasing merchandise from third-party retailers desired by those retailers’ customers and, in turn, leasing that merchandise to the customers on a lease-to-own basis. Progressive consequently has no stores of its own, but rather offers lease-purchase solutions to the customers of traditional retailers. DAMI, which was acquired by Progressive on October 15, 2015, partners with merchants to provide a variety of revolving credit products originated through two third-party federally insured banks to customers that may not qualify for traditional prime lending (called "second-look" financing programs). The Franchise operation awards franchises and supports franchisees of its Aaron's stores. Woodhaven Furniture Industries manufactures and supplies the majority of the upholstered furniture and bedding leased and sold in Company-operated and franchised Aaron's stores.
Business Environment and Company Outlook
Like many industries, the lease-to-own industry has been transformed by the internet and virtual marketplace. We believe the Progressive and DAMI acquisitions have been strategically transformational for the Company in this respect and will continue to strengthen our business, as demonstrated by Progressive’s significant revenue and profit growth in 2016. We also believe the traditional lease-to-own industry has been negatively impacted in recent periods by: (i) the continuing economic challenges facing many traditional lease-to-own customers; (ii) increased competition from a wide range of competitors, including national, regional and local operators of lease-to-own stores; virtual lease-to-own companies; traditional and e-commerce retailers; and, indirectly, from various types of consumer finance companies that enable our customers to shop at traditional or online retailers; and (iii) the challenges faced by many traditional “brick-and-mortar” retailers, with respect to a decrease in the number of consumers visiting those stores, especially younger consumers. In response to these changing market conditions, we are executing a strategic plan that focuses on the following items and that we believe positions us for success over the long-term:
Improve Aaron's store profitability;
Accelerate our omnichannel platform;
Strengthen relationships of Progressive and DAMI's current retail partners;
Focus on converting existing pipeline into Progressive retail partners; and
Champion compliance.
As part of executing this strategy, we sold the 82 Company-operated HomeSmart stores on May 13, 2016, which will enable us to sharpen our focus on activities that have the highest potential for return. We also took steps to further address the expense structure at our Aaron's business by completing a thorough review of our remaining store base in order to identify opportunities for rationalization. As a result of this evaluation and other cost-reduction initiatives, the Company closed 56 underperforming Aaron's Company-operated stores primarily in the fourth quarter of 2016. The Company plans to close approximately 70 additional stores during the second quarter of 2017. The Company also optimized its home office and field support staff in 2016, which resulted in a reduction in employee headcount in those areas, to more closely align with current business conditions.

30


Highlights
The following summarizes significant highlights from our 2016 fiscal year:
The Company reported record revenues of $3.2 billion in 2016 and its net earnings before income taxes increased to $218.4 million compared to $213.1 million in 2015. The Company's net earnings were $139.3 million versus $135.7 million for 2015 and its diluted earnings per share were $1.91 compared to $1.86 for 2015.
The Company generated cash from operating activities of $465.4 million compared to $166.8 million in 2015 and ended 2016 with $308.6 million in cash and $225.0 million available on our revolving credit facility. In addition, the Company returned nearly $42 million to shareholders in 2016 through share repurchases and cash dividends.
Progressive achieved record revenues of $1.2 billion in 2016, an increase of 17.9% over 2015. Progressive's revenue growth is due to a 35.6% increase in active doors, which contributed to a 13.4% increase in invoice volume. Progressive increased its earnings before income taxes to $104.7 million, compared to $54.5 million in 2015, due to its revenue growth and favorable lease portfolio performance in 2016.
Our Aaron's sales and lease ownership revenues were $1.9 billion in 2016, a decrease of 7.3% compared to 2015. The decline is primarily the result of a 3.4% decrease in same store sales and the net reduction of 58 Company-operated Aaron's stores during 2016, as we began implementing our initiative to identify and close underperforming stores, and consolidating their customer accounts into other stores, to improve profitability and right-size our footprint in many markets. The Company also announced plans to close or merge approximately 70 additional Aaron's stores in the second quarter of 2017. Earnings before income taxes for the Aaron's sales and lease ownership segment decreased to $127.3 million for 2016, compared to $163.0 million for 2015, primarily due to the decrease in revenue and incurring $16.6 million in restructuring charges related to the store closing actions.
Key Metrics
The Company’s franchised and Company-operated store activity (unaudited) is summarized as follows:
 
2016
 
2015
 
2014 1
Company-operated Aaron's Sales and Lease Ownership stores
 
 
 
 
 
Company-operated Aaron's Sales and Lease Ownership stores open at January 1,
1,223

 
1,243

 
1,262

Opened

 
7

 
30

Added through acquisition
16

 
25

 
9

Closed, sold or merged
(74
)
 
(52
)
 
(58
)
Company-operated Aaron's Sales and Lease Ownership stores open at December 31,
1,165

 
1,223

 
1,243

 
 
 
 
 
 
Franchised stores
 
 
 
 
 
Franchised stores open at January 1,
734

 
782

 
781

Opened
1

 
10

 
23

Purchased from the Company

 
16

 
6

Purchased by the Company
(16
)
 
(25
)
 
(9
)
Closed, sold or merged
(20
)
 
(49
)
 
(19
)
Franchised stores open at December 31,
699

 
734

 
782

 
 
 
 
 
 
Company-operated HomeSmart stores 2
 
 
 
 
 
Company-operated HomeSmart stores open at January 1,
82

 
83

 
81

Opened

 

 
3

Closed, sold or merged
(82
)
 
(1
)
 
(1
)
Company-operated HomeSmart stores open at December 31,

 
82

 
83

1 In January 2014, we sold our 27 Company-operated RIMCO stores and the rights to five franchised RIMCO stores.
2 In May 2016, we sold our 82 Company-operated HomeSmart stores.


31


Same Store Revenues. We believe that changes in same store revenues are a key performance indicator of our Aaron's business. For the year ended December 31, 2016, we calculated this amount by comparing revenues for the year ended December 31, 2016 to revenues for the year ended December 31, 2015 for all stores open for the entire 24-month period ended December 31, 2016, excluding stores that received lease agreements from other acquired, closed or merged stores.
During the year ended December 31, 2016, the Company revised the methodology for calculating same store revenues and same store customer counts to reflect a full lifecycle for customer retention after stores are closed. As a result, revenues for stores that have been consolidated/merged are now included in the comparable same store calculation 27 months after their consolidation/merger. Previously, merged stores were included in the same store calculation after 24 months. The change in the same store calculation had an immaterial impact on comparable store revenues and customer counts.
Active Doors. We believe that active doors are a key performance indicator of our Progressive segment. Active doors represent retail store locations at which at least one virtual lease-to-own transaction has been completed during the trailing three month period. The following table presents active doors for the Progressive segment:
Active Doors at December 31 (Unaudited)
2016
 
2015
 
2014
Progressive Active Doors
17,963

 
13,248

 
12,307

Invoice Volume. We also believe that invoice volume is a key performance indicator of our Progressive segment. Invoice volume is defined as the retail price of lease merchandise acquired and leased by Progressive during the period, net of returns. The following table presents invoice volume for the Progressive segment:
For the Year Ended December 31 (Unaudited and In Thousands)
2016
 
2015
 
2014
Progressive Invoice Volume
$
884,812

 
$
780,038

 
$
471,902

Key Components of Earnings Before Income Taxes
In this management’s discussion and analysis section, we review our consolidated results. For the years ended December 31, 2016 and the comparable prior year periods, some of the key revenue, cost and expense items that affected earnings before income taxes were as follows:
Revenues. We separate our total revenues into six components: (i) lease revenues and fees; (ii) retail sales; (iii) non-retail sales; (iv) franchise royalties and fees; (v) interest and fees on loans receivable; and (vi) other. Lease revenues and fees include all revenues derived from lease agreements at Company-operated stores and retail locations serviced by Progressive. Retail sales represent sales of both new and returned lease merchandise from our Company-operated stores. Non-retail sales primarily represent new merchandise sales to our 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. Interest and fees on loans receivable primarily represents merchant fees, finance charges and annual and other fees earned on loans originated since the DAMI acquisition, as well as the accretion of the discount on loans acquired in the acquisition. Other revenues primarily relate to revenues from leasing real estate properties to unrelated third parties, as well as other miscellaneous revenues.
Depreciation of Lease Merchandise. Depreciation of lease merchandise primarily reflects the expense associated with depreciating merchandise held for lease and leased to customers by our Company-operated stores and Progressive.
Retail Cost of Sales. Retail cost of sales represents the depreciated cost of merchandise sold through our Company-operated stores.
Non-Retail Cost of Sales. Non-retail cost of sales primarily represents the cost of merchandise sold to our franchisees.
Operating Expenses. Operating expenses include personnel costs, occupancy costs, provision for lease merchandise write-offs, bad debt expense, shipping and handling, advertising and the provision for loan losses, among other expenses.
Restructuring Expenses. Restructuring expenses represent the cost of optimization efforts and cost reduction initiatives related to the Aaron's business, home office and field support functions. Restructuring charges were comprised principally of closed store contractual lease obligations, the write-off and impairment of store property, plant and equipment, and related workforce reductions.
Other Operating (Income) Expense, Net. Other operating (income) expense, net consists of gains or losses on sales of Company-operated stores and delivery vehicles, fair value adjustments on assets held for sale and gains or losses on other transactions involving property, plant and equipment.

32


Interest Expense. Interest expense consists of interest incurred on fixed and variable rate notes and outstanding borrowings from revolving credit facilities.
Results of Operations
The results of DAMI and Progressive have been included in the Company’s consolidated results and presented as reportable segments from their October 15, 2015 and April 14, 2014 acquisition dates, respectively. During the year ended December 31, 2016, management of the Company changed its internal segment measure of profit and loss for the Sales and Lease Ownership and former HomeSmart segments to be on an accrual basis rather than on a cash basis. The Company retroactively adjusted Revenues of Reportable Segments and Earnings Before Income Taxes for Reportable Segments in all segment-related disclosures in this management’s discussion and analysis section to conform to this change.
The production of our Manufacturing segment, consisting of Woodhaven Furniture Industries LLC, is primarily leased or sold through the Company-operated and franchised stores, and consequently, substantially all of that segment’s revenues and earnings before income taxes are eliminated through the elimination of intersegment revenues and intersegment profit or loss. Our Corporate support function serves to support the five operating segments and the unallocated charges related to the Corporate support function represent the Other category and are incorporated in the following discussion.

33


Results of Operations – Years Ended December 31, 2016, 2015 and 2014
 
 
 
Change
 
Year Ended December 31,
 
2016 vs. 2015
 
2015 vs. 2014
(In Thousands)
2016
 
2015
 
2014
 
$
 
%
 
$
 
%
REVENUES:
 
 
 
 
 
 
 
 
 
 
 
 
 
Lease Revenues
and Fees
$
2,780,824

 
$
2,684,184

 
$
2,221,574

 
$
96,640

 
3.6
 %
 
$
462,610

 
20.8
 %
Retail Sales
29,418

 
32,872

 
38,360

 
(3,454
)
 
(10.5
)
 
(5,488
)
 
(14.3
)
Non-Retail Sales
309,446

 
390,137

 
363,355

 
(80,691
)
 
(20.7
)
 
26,782

 
7.4

Franchise Royalties and Fees
58,350

 
63,507

 
65,902

 
(5,157
)
 
(8.1
)
 
(2,395
)
 
(3.6
)
Interest and Fees on Loans Receivable
24,080

 
2,845

 

 
21,235

 
746.4

 
2,845

 
nmf

Other
5,598

 
6,211

 
5,842

 
(613
)
 
(9.9
)
 
369

 
6.3

 
3,207,716

 
3,179,756

 
2,695,033

 
27,960

 
0.9

 
484,723

 
18.0

COSTS AND EXPENSES:
 
 
 
 
 
 
 
 
 
 
 
 
 
Depreciation of Lease Merchandise
1,304,295

 
1,212,644

 
932,634

 
91,651

 
7.6

 
280,010

 
30.0

Retail Cost of Sales
18,580

 
21,040

 
24,541

 
(2,460
)
 
(11.7
)
 
(3,501
)
 
(14.3
)
Non-Retail Cost of Sales
276,608

 
351,777

 
330,057

 
(75,169
)
 
(21.4
)
 
21,720

 
6.6

Operating Expenses
1,351,785

 
1,357,030

 
1,231,801

 
(5,245
)
 
(0.4
)
 
125,229

 
10.2

Financial Advisory and Legal Costs

 

 
13,661

 

 
nmf

 
(13,661
)
 
nmf

Restructuring Expenses
20,218

 

 
9,140

 
20,218

 
nmf

 
(9,140
)
 
nmf

Retirement and Vacation Charges

 

 
9,094

 

 
nmf

 
(9,094
)
 
nmf

Progressive-Related Transaction Costs

 

 
6,638

 

 
nmf

 
(6,638
)
 
nmf

Legal and Regulatory Income

 

 
(1,200
)
 

 
nmf

 
1,200

 
nmf

Other Operating (Income) Expense, Net
(6,446
)
 
1,324

 
(1,176
)
 
(7,770
)
 
(586.9
)
 
2,500

 
212.6

 
2,965,040

 
2,943,815

 
2,555,190

 
21,225

 
0.7

 
388,625

 
15.2

 
 
 
 
 
 
 
 
 
 
 
 
 
 
OPERATING PROFIT
242,676

 
235,941

 
139,843

 
6,735

 
2.9

 
96,098

 
68.7

Interest Income
2,699

 
2,185

 
2,921

 
514

 
23.5

 
(736
)
 
(25.2
)
Interest Expense
(23,390
)
 
(23,339
)
 
(19,215
)
 
51

 
0.2

 
4,124

 
21.5

Other Non-Operating Expense
(3,563
)
 
(1,667
)
 
(1,845
)
 
1,896

 
113.7

 
(178
)
 
(9.6
)
 
 
 
 
 
 
 
 
 
 
 
 
 
 
EARNINGS BEFORE INCOME TAXES
218,422

 
213,120

 
121,704

 
5,302

 
2.5

 
91,416

 
75.1

 
 
 
 
 
 
 
 
 
 
 
 
 
 
INCOME TAXES
79,139

 
77,411

 
43,471

 
1,728

 
2.2

 
33,940

 
78.1

 
 
 
 
 
 
 
 
 
 
 
 
 
 
NET EARNINGS
$
139,283

 
$
135,709

 
$
78,233

 
$
3,574

 
2.6
 %
 
$
57,476

 
73.5
 %
nmf—Calculation is not meaningful

34


Revenues
Information about our revenues by reportable segment is as follows:
 
 
 
 
Change
 
Year Ended December 31,
 
2016 vs. 2015
 
2015 vs. 2014
(In Thousands)
2016
 
2015
 
2014
 
$
 
%
 
$
 
%
REVENUES:
 
 
 
 
 
 
 
 
 
 
 
 
 
Sales and Lease Ownership1
$
1,852,312

 
$
1,997,270

 
$
2,040,617

 
$
(144,958
)
 
(7.3
)%
 
$
(43,347
)
 
(2.1
)%
Progressive2
1,237,597

 
1,049,681

 
519,342

 
187,916

 
17.9

 
530,339

 
102.1

HomeSmart1,3
25,392

 
63,204

 
64,441

 
(37,812
)
 
(59.8
)
 
(1,237
)
 
(1.9
)
DAMI4
24,080

 
2,845

 

 
21,235

 
746.4

 
2,845

 
nmf

Franchise5
58,350

 
63,507

 
65,902

 
(5,157
)
 
(8.1
)
 
(2,395
)
 
(3.6
)
Manufacturing
90,274

 
106,020

 
104,058

 
(15,746
)
 
(14.9
)
 
1,962

 
1.9

Other
950

 
1,118

 
2,969

 
(168
)
 
(15.0
)
 
(1,851
)
 
(62.3
)
Revenues of Reportable Segments
3,288,955

 
3,283,645

 
2,797,329

 
5,310

 
0.2

 
486,316

 
17.4

Elimination of Intersegment Revenues
(81,239
)
 
(103,889
)
 
(102,296
)
 
22,650

 
21.8

 
(1,593
)
 
(1.6
)
Total Revenues from External Customers
$
3,207,716

 
$
3,179,756

 
$
2,695,033

 
$
27,960

 
0.9
 %
 
$
484,723

 
18.0
 %
nmf—Calculation is not meaningful
1 Segment revenue consists of lease revenues and fees, retail sales and non-retail sales.
2 Segment revenue consists of lease revenues and fees.
3 In May 2016, we sold our 82 Company-operated HomeSmart stores.
4 Segment revenue consists of interest and fees on loans receivable, and excludes the effect of interest expense.
5 Segment revenue consists of franchise royalties and fees.
Year Ended December 31, 2016 Versus Year Ended December 31, 2015
Sales and Lease Ownership. Sales and Lease Ownership segment revenues decreased primarily due to an $87.6 million decrease in non-retail sales and a $54.3 million decrease in lease revenues and fees. Non-retail sales decreased primarily due to an 11% decline in franchised stores during the 24 month period ended December 31, 2016 and a decrease in product sales to our Aaron's franchises. Lease revenues and fees decreased primarily due to a 3.4% decrease in same store revenues and the net reduction of 78 Sales and Lease Ownership Aaron's stores during the 24 month period ended December 31, 2016.
Progressive. Progressive segment revenues increased primarily due to a 35.6% growth in active doors, which contributed to an increase in invoice volume.
DAMI. DAMI segment revenues increased due to DAMI's results being included for a full year compared to a partial year in 2015 from the October 15, 2015 acquisition date.
Franchise. Franchise segment revenues decreased primarily due to the net reduction of 83 franchised stores during the 24 month period ended December 31, 2016.
Year Ended December 31, 2015 Versus Year Ended December 31, 2014
Sales and Lease Ownership. Sales and Lease Ownership segment revenues decreased due to a $65.0 million decrease in lease revenues and fees and a $5.3 million decrease in retail sales, partially offset by a $26.4 million increase in non-retail sales. Lease revenues and fees decreased partly due to the net reduction of 39 Sales and Lease Ownership stores during the 24 month period ended December 31, 2015 and a 4.2% decline in same store revenues. In particular, the revenues of the stores located in Texas, which represent approximately 18.0% of our store-based revenues, were down considerably in 2015 due to the effects of contractions in the oil industry on that market. Non-retail sales increased primarily due to higher demand for product by franchisees.
Progressive. Progressive segment revenues increased partly due to Progressive's results being included for a full year compared to a partial year in 2014 from the April 14, 2014 acquisition date. Revenues also increased in 2015 due to increases in invoice volume at existing active doors as well as a net increase of approximately 941 active doors since the beginning of 2015.

35


Franchise. Franchise segment revenues decreased primarily due to a 0.9% decline in same store revenues of existing franchised stores and the impact of the net reduction of 47 franchised stores during the 24 month period ended December 31, 2015.
Operating Expenses
Information about certain significant components of operating expenses is as follows:
 
 
 
 
 
 
 
Change
 
Year Ended December 31,
 
2016 vs. 2015
 
2015 vs. 2014
(In Thousands)
2016
 
2015
 
2014
 
$
 
%
 
$
 
%
Personnel Costs
$
611,113

 
$
619,557

 
$
594,246

 
$
(8,444
)
 
(1.4
)%
 
$
25,311

 
4.3
 %
Occupancy Costs
208,712

 
208,927

 
206,806

 
(215
)
 
(0.1
)
 
2,121

 
1.0

Provision for Lease Merchandise Write-Offs
134,104

 
136,380

 
99,942

 
(2,276
)
 
(1.7
)
 
36,438

 
36.5

Bad Debt Expense
128,333

 
122,184

 
60,514

 
6,149

 
5.0

 
61,670

 
101.9

Shipping and Handling
69,939

 
77,944

 
81,131

 
(8,005
)
 
(10.3
)
 
(3,187
)
 
(3.9
)
Advertising
40,823

 
39,334

 
50,460

 
1,489

 
3.8

 
(11,126
)
 
(22.0
)
Provision for Loan Losses
11,251

 
937

 

 
10,314

 
nmf

 
937

 
nmf

Other Operating Expenses
147,510

 
151,767

 
138,702

 
(4,257
)
 
(2.8
)
 
13,065

 
9.4

Operating Expenses
$
1,351,785

 
$
1,357,030

 
$
1,231,801

 
$
(5,245
)
 
(0.4
)%
 
$
125,229

 
10.2
 %
nmf—Calculation is not meaningful
Year Ended December 31, 2016 Versus Year Ended December 31, 2015
Operating expenses decreased $5.2 million during 2016 compared to the prior year. As a percentage of total revenues, operating expense decreased to 42.1% in 2016 from 42.7% in 2015.
Personnel costs decreased primarily due to the disposition of the HomeSmart business in which the Company sold all of its 82 HomeSmart stores on May 13, 2016 and a reduction of Corporate support staff. This was partially offset by hiring to support the growth of Progressive and DAMI, the inclusion of a full year of DAMI personnel costs, and additional charges related to the retirement of the Company's former Chief Financial Officer in 2016.
The provision for lease merchandise write-offs decreased slightly during 2016. Progressive's provision for lease merchandise write-offs as a percentage of Progressive's lease revenues improved from 7.0% in 2015 to 5.7% in 2016 due to continued operational improvements and enhancements to the lease decisioning process. The provision for lease merchandise write-offs as a percentage of lease revenues for our Aaron's business increased from 3.8% in 2015 to 4.1% in 2016.
Although bad debt expense increased during 2016 due to higher Progressive revenues, bad debt expense as a percentage of Progressive's revenues decreased to 10.3% in 2016 from 11.6% in 2015 due to continued operational improvements and enhancements to the lease decisioning process.
Shipping and handling expense decreased during 2016 due to lower delivery volumes as a result of the net reduction of 58 Sales & Lease Ownership stores during the year as well as the disposition of the HomeSmart business on May 13, 2016.
The provision for loan losses increased during 2016 due to the inclusion of DAMI's results for a full year compared to a partial year in 2015 from the October 15, 2015 acquisition date.
Other operating expenses during 2015 included $3.7 million of one-time transaction costs incurred by Progressive in connection with the acquisition of DAMI.
Year Ended December 31, 2015 Versus Year Ended December 31, 2014
Operating expenses increased $125.2 million in 2015 compared to 2014. As a percentage of total revenues, operating expense decreased to 42.7% during 2015 from 45.7% during the comparable period in 2014. Operating expenses increased due primarily to the consolidation of Progressive's results from operations from the April 14, 2014 acquisition date.
Personnel costs increased due to incurring a full year of Progressive personnel cost in 2015 and hiring to support the growth of Progressive.
The provision for lease merchandise write-offs increased due to higher Progressive revenues stemming from Progressive's results being included for a full year compared to a partial year in 2014 from the April 14, 2014 acquisition date and a net

36


increase of approximately 941 active doors since the beginning of 2015. Progressive's provision for lease merchandise write-offs as a percentage of Progressive's lease revenues improved from 7.9% in 2014 to 7.0% in 2015 due to the timing of the April 2014 Progressive acquisition; customers often exercise the early purchase option in their lease agreements in the January through April time frame due to their receipt of federal and state income tax refunds, which results in a decrease to the provision during this period. As such, the 2014 results did not include the favorable impact to the provision that occurs in January through April. The provision for lease merchandise write-offs as a percentage of lease revenues for our Aaron's business increased from 3.4% in 2014 to 3.8% in 2015.
Bad debt expense increased due to the increase in Progressive revenues as a percentage of total revenues. Progressive's bad debt expense in 2015 was affected by the impact of a temporary interruption of certain data attributes used to make our approval decisions. We lost access to the attributes in February 2015 and replaced them in April 2015. Leases generated during the period of interruption charged off at higher rates than originally anticipated during the second and third quarters of 2015. Nonetheless, Progressive's bad debt expense as a percentage of Progressive's revenues remained constant at approximately 12% in both years.
Advertising expense decreased $11.1 million in 2015 compared to 2014 due primarily to expense reduction initiatives during 2015 and a net reduction of 39 Sales and Lease Ownership stores during the 24 month period ended December 31, 2015.
Other operating expenses during 2015 includes $3.7 million of one-time transaction costs incurred by Progressive in connection with the acquisition of DAMI.
Other Costs and Expenses
Year Ended December 31, 2016 Versus Year Ended December 31, 2015
Depreciation of lease merchandise. Depreciation of merchandise not on lease as a percentage of consolidated depreciation remained consistent year over year at approximately 5.8%. As a percentage of total lease revenues and fees, depreciation of lease merchandise increased to 46.9% from 45.2% in the prior year, primarily due to a shift in product mix from our Aaron's business to Progressive which is consistent with the increasing proportion of Progressive revenue of total revenue. Progressive generally experiences higher depreciation as a percentage of lease revenues because, among other factors, its merchandise has a shorter average life on lease, a higher rate of early buyouts, and the merchandise is generally purchased at retail prices compared to our Aaron's business, which procures merchandise at wholesale prices.
Retail cost of sales. Retail cost of sales as a percentage of retail sales decreased to 63.2% from 64.0% primarily due to lower inventory purchase cost.
Non-retail cost of sales. Non-retail cost of sales as a percentage of non-retail sales decreased to 89.4% from 90.2% primarily due to lower inventory purchase cost.
Restructuring expenses. In connection with the closure and consolidation of underperforming Company-operated Aaron's stores and the optimization of our home office and field support staff, charges of $16.6 million and $3.5 million were recorded to the Sales and Lease Ownership segment and Other category, respectively, during the year ended December 31, 2016. These charges were principally comprised of $11.6 million related to losses on contractual lease obligations for closed stores, $4.5 million related to the write-off and impairment of store property, plant and equipment and $3.9 million related to workforce reductions. The Company estimates it will incur an additional $13.0 million of restructuring charges in 2017 related to losses on contractual lease obligations for approximately 70 Aaron's stores that the Company expects to close in the second quarter of 2017.
Year Ended December 31, 2015 Versus Year Ended December 31, 2014
Depreciation of lease merchandise. Depreciation of merchandise not on lease as a percentage of consolidated depreciation remained consistent year over year at approximately 5.8%. As a percentage of total lease revenues and fees, depreciation of lease merchandise increased to 45.2% in 2015 from 42.0% in 2014, primarily because of Progressive's continued growth relative to our Aaron's business.
Retail cost of sales. Retail cost of sales as a percentage of retail sales have remained consistent at 64.0% in both periods.
Non-retail cost of sales. Non-retail cost of sales as a percentage of non-retail sales decreased slightly to 90.2% from 90.8%.
Financial advisory and legal costs. Financial advisory and legal costs of $13.7 million were recorded to the Other category in 2014 related to addressing now-resolved strategic matters, including an unsolicited acquisition offer, two proxy contests and certain other shareholder proposals.

37


Restructuring expenses. In connection with the closure of 44 Company-operated stores and restructuring of its home office and field support in 2014, charges of $4.8 million and $4.3 million were recorded to the Sales and Lease Ownership segment and Other category, respectively. These changes principally consist of contractual lease obligations, the write-off and impairment of property, plant and equipment and workforce reductions.
Retirement charges. Retirement charges of $9.1 million were recorded to the Other category in 2014 due to the retirements of both the Company’s former Chief Executive Officer and former Chief Operating Officer in 2014.
Progressive-related transaction costs. Financial advisory and legal costs of $6.6 million were recorded to the Other category in 2014 in connection with the April 14, 2014 acquisition of Progressive.
Legal and regulatory income. Regulatory income of $1.2 million in 2014 was recorded to the Other category as a reduction in previously recognized regulatory expense upon the resolution of the regulatory investigation by the California Attorney General.
Other Operating (Income) Expense, Net
Information about the components of other operating (income) expense, net is as follows:
 
 
 
 
 
 
 
Change
 
Year Ended December 31,
 
2016 vs. 2015
 
2015 vs. 2014
(In Thousands)
2016
 
2015
 
2014
 
$
 
%
 
$
 
%
Net gains on sales of stores
$
(126
)
 
$
(2,139
)
 
$
(1,694
)
 
$
2,013

 
(94.1
)%
 
$
(445
)
 
26.3
 %
Net gains on sales of delivery vehicles
(1,319
)
 
(1,706
)
 
(1,099
)
 
387

 
(22.7
)
 
(607
)
 
55.2

Net (gains) losses and impairment charges on asset dispositions and assets held for sale
(5,001
)
 
5,169

 
1,617

 
(10,170
)
 
(196.7
)
 
3,552

 
219.7

Other Operating (Income) Expense, Net
$
(6,446
)
 
$
1,324

 
$
(1,176
)
 
$
(7,770
)
 
(586.9
)%
 
$
2,500

 
(212.6
)%

In 2016, other operating income, net of $6.4 million included a gain of $11.1 million in the Other category on the January 2016 sale of the Company's former corporate office building, partially offset by a loss and other charges related to the sale of HomeSmart of $5.4 million.
In 2015, other operating expense, net of $1.3 million included a $3.5 million loss related to a lease termination on a Company aircraft in the Other category, impairment charges of $0.8 million on leasehold improvements related to Company-operated stores that were closed during the period and impairment charges of $0.5 million on assets held for sale. In addition, the Company recognized gains of $2.1 million from the sale of 25 Sales and Lease Ownership stores during 2015.
In 2014, other operating income, net of $1.2 million included charges of $0.5 million related to the impairment of various land outparcels and buildings that the Company decided not to utilize for future expansion and $0.8 million related to the loss of sale of the RIMCO net assets. In addition, the Company recognized gains of $1.7 million from the sale of six Sales and Lease Ownership stores during 2014.
Operating Profit
Interest income. Interest income, which primarily relates to the British pound-denominated Perfect Home notes, increased to $2.7 million in 2016 from $2.2 million in 2015 due to an increase in the interest rate of the Perfect Home notes during 2016. Interest income in 2015 decreased to $2.2 million from $2.9 million in 2014 due to lower average investment and cash equivalent balances.
Interest expense. Interest expense increased to $23.4 million in 2016 from $23.3 million in 2015 and $19.2 million in 2014. Interest expense increased in 2015 primarily due to $491.3 million of additional debt financing incurred in connection with the April 14, 2014 Progressive acquisition and due to increased revolving credit borrowings during 2015 to finance the acquisition of DAMI and the assumption of $44.8 million of debt in that acquisition.
Other non-operating expense. Other non-operating expense includes the impact of foreign currency remeasurement, as well as gains resulting from changes in the cash surrender value of Company-owned life insurance related to the Company's deferred compensation plan. Included in other non-operating expense were foreign currency remeasurement losses of $3.7 million, $2.5 million and $2.3 million during 2016, 2015 and 2014, respectively. These losses resulted from the strengthening of the U.S. dollar against the British pound during the period. Gains related to the changes in the cash surrender value of Company-owned life insurance were $0.2 million, $0.8 million and $0.4 million during 2016, 2015 and 2014, respectively.

38


Earnings (Loss) Before Income Taxes
Information about our earnings (loss) before income taxes by reportable segment is as follows: 
 
 
 
Change
 
Year Ended December 31,
 
2016 vs. 2015
 
2015 vs. 2014
(In Thousands)
2016
 
2015
 
2014
 
$
 
%
 
$
 
%
EARNINGS (LOSS) BEFORE INCOME TAXES:
 
 
 
 
 
 
 
 
 
 
 
 
 
Sales and Lease Ownership
$
127,306

 
$
162,996

 
$
145,068

 
$
(35,690
)
 
(21.9
)%
 
$
17,928

 
12.4
 %
Progressive
104,686

 
54,525

 
4,603

 
50,161

 
92.0

 
49,922

 
nmf

HomeSmart
(3,479
)
 
606

 
(2,613
)
 
(4,085
)
 
(674.1
)
 
3,219

 
123.2

DAMI
(9,273
)
 
(1,964
)
 

 
(7,309
)
 
(372.1
)
 
(1,964
)
 
nmf

Franchise
46,766

 
48,576

 
50,504

 
(1,810
)
 
(3.7
)
 
(1,928
)
 
(3.8
)
Manufacturing
(27
)
 
2,520

 
860

 
(2,547
)
 
(101.1
)
 
1,660

 
193.0

Other1
(48,164
)
 
(51,651
)
 
(75,905
)
 
3,487

 
6.8

 
24,254

 
32.0

Earnings Before Income Taxes for Reportable Segments
217,815

 
215,608

 
122,517

 
2,207

 
1.0

 
93,091

 
76.0

Elimination of Intersegment Loss (Profit)
607

 
(2,488
)
 
(813
)
 
3,095

 
124.4

 
(1,675
)
 
(206.0
)
Total
$
218,422

 
$
213,120

 
$
121,704

 
$
5,302

 
2.5
 %
 
$
91,416

 
75.1
 %
nmf—Calculation is not meaningful
1 The Other category includes unallocated corporate costs such as personnel and occupancy costs.
Changes within earnings (loss) before income taxes are discussed above.
Income Tax Expense
Income tax expense increased in 2016 compared to 2015 due primarily to a 2.5% increase in earnings before income taxes in 2016. The effective tax rate remained relatively unchanged at 36.2% in 2016 compared to 36.3% in 2015.
Income tax expense increased in 2015 compared to 2014 due primarily to a 75.1% increase in earnings before income taxes in 2015. The effective tax rate increased to 36.3% in 2015 from 35.7% in 2014 primarily as a result of reduced federal credits.
Overview of Financial Position
The major changes in the consolidated balance sheet from December 31, 2015 to December 31, 2016, include:
Cash and cash equivalents increased $293.6 million to $308.6 million at December 31, 2016. For additional information, refer to the "Liquidity and Capital Resources" section below.
Lease merchandise, net decreased $139.6 million to $1.0 billion at December 31, 2016 primarily due to decreases in lease merchandise purchases at our Aaron's business operations and the HomeSmart disposition during the year ended December 31, 2016.
Income tax receivable decreased $167.3 million to $11.9 million primarily due to the enactment of the Protecting Americans From Tax Hikes Act in December 2015 ("the 2015 Act"), which extended bonus depreciation on eligible inventory held during 2015. Throughout 2015, the Company made payments based on the previously enacted law, resulting in an overpayment when the 2015 Act was signed into law. The Company received a refund of $120 million in 2016 related to the 2015 overpayment.
Accounts payable and accrued expenses decreased $45.9 million to $297.8 million at December 31, 2016 primarily due to decreases in lease merchandise purchases at the end of the fourth quarter of 2016 compared to the end of the fourth quarter of 2015.
Debt decreased $108.9 million to $497.8 million at December 31, 2016 due primarily to the net repayment of $112.5 million in revolving credit borrowings and term loans. Refer to "Liquidity and Capital Resources" for further details regarding the Company's financing arrangements.

39


Liquidity and Capital Resources
General
Our primary capital requirements consist of buying merchandise for our Aaron's business and Progressive's operations. As we continue to grow, the need for additional lease merchandise is expected to remain our major capital requirement. Other capital requirements include (i) purchases of property, plant and equipment; (ii) expenditures for acquisitions; (iii) expenditures related to our corporate operating activities; (iv) personnel expenditures; (v) income tax payments; (vi) funding of loans receivable for DAMI; and (vii) servicing our outstanding debt obligations. The Company has also historically paid quarterly cash dividends and periodically repurchases stock. Our capital requirements have been financed through:
cash flows from operations;
private debt offerings;
bank debt;
trade credit with vendors;
proceeds from the sale of lease return merchandise; and
stock offerings.
As of December 31, 2016, the Company has $308.6 million of cash and $225.0 million of availability under its revolving credit facility.
Cash Flows from (used in) Operating Activities
The Company's cash flows from operating activities were $465.4 million in 2016, compared to $166.8 million in 2015 and cash used in operating activities of $49.0 million in 2014.
The $298.7 million increase in cash flows from operating activities in 2016 as compared to 2015 was primarily due to net tax refunds received in 2016 versus net tax payments in 2015, an increase in our Progressive business invoice volumes and operating margins, and inventory reductions in our Aaron's store merchandise not on lease, partially offset by declines in the operating results of our Aaron's sales and lease ownership business and declines in accounts payable and accrued expenses. The operating results of Progressive and the Aaron's sales and lease ownership business are described in more detail in the "Results of Operations" section above. The Company received a net income tax refund of $54.3 million in 2016 compared to net income tax payments of $91.7 million in 2015, which was the result of the enactment of the Protecting Americans From Tax Hikes Act of 2015 (the "2015 Act") as discussed further in the "Commitments" section below. Lease merchandise inventory declined in 2016 due to inventory reduction initiatives in our Aaron's store business, which also contributed to declines in accounts payable and accrued expenses in 2016 compared to 2015.
The $215.7 million increase in cash flows from operating activities in 2015 compared to 2014 was primarily due to revenue growth, operating margin improvements and income tax refunds. Among other changes, there was a $57.5 million increase in net earnings, a $24.0 million increase in cash flows related to inventory reduction initiatives, and $91.7 million in income tax payments made in 2015 compared to $187.7 million in 2014. The revenue growth and operating margin improvements were related primarily to Progressive, which continues to grow and expand invoice volume and active doors, and has lower operating expenses as a percentage of total revenues than the Company's traditional lease-to-own business because it does not have store operations. The operating margin improvements also related to price increases, inventory reduction, and cost reduction initiatives at the Aaron’s Sales and Lease Ownership segment. The change in the income tax receivable occurred primarily because of the enactment of the Tax Increase Prevention Act of 2014 and the 2015 Act, which have resulted in income tax refunds, as discussed further in the "Commitments" section below. These acts were signed in December 2014 and December 2015, respectively and retroactively extended accelerated depreciation. The Company made payments throughout each of those years based on enacted tax laws resulting in overpayments at the end of those years.
Cash Flows used in Investing Activities
The Company's investing activities used cash of $20.1 million, $108.9 million and $635.5 million during the years ended December 31, 2016, 2015, and 2014, respectively.
During the year ended December 31, 2016, cash outflows on purchases of property, plant and equipment were $57.5 million, a 5.1% decrease from 2015. This was offset by proceeds from the sale of businesses and contracts of $35.9 million, which includes net cash proceeds of $35.0 million in connection with the sale of the 82 Company-operated HomeSmart stores in May 2016 as well as proceeds from the sale of property, plant and equipment of $19.4 million, which includes proceeds of $13.6 million from the January 2016 sale of the Company's former corporate office building.

40


During the year ended December 31, 2015, cash outflows on purchases of property, plant and equipment were $60.6 million and cash outflows on the acquisition of business and contracts were $73.3 million, which includes $50.7 million to acquire a 100% ownership interest in DAMI.
During the year ended December 31, 2014, cash outflows on purchases of property, plant and equipment were $47.6 million and cash outflows on the acquisition of business and contracts were $700.5 million, which relates to our acquisition of Progressive.
Purchases of sales and lease ownership stores initially have a positive impact on operating cash flows because the lease merchandise, other assets and intangibles acquired are recognized as investing cash outflows in the period of acquisition. However, the initial positive impact may not be indicative of the extent to which these stores will contribute positively to operating cash flows in future periods. The amount of lease merchandise purchased in store acquisitions and shown under investing activities was $4.8 million and $8.5 million in 2016 and 2015, respectively. The amount of lease merchandise purchased in acquisitions and shown under investing activities was $144.0 million in 2014, substantially all of which was the direct result of the April 14, 2014 Progressive acquisition.
The amount of lease merchandise included in the sale of Company-operated stores and shown under investing activities was $1.2 million in 2016, $8.8 million in 2015 and $3.1 million&#