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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
 ________________________________
 FORM 10-Q
________________________________
QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
FOR THE QUARTERLY PERIOD ENDED September 30, 2019
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
 
30339-3182
(Address of principal executive offices)
 
(Zip Code)
(678) 402-3000
(Registrant’s telephone number, including area code)
Securities registered pursuant to Section 12(b) of the Act:
Title of each class
 Trading Symbol
Name of each exchange on which registered
Common Stock, $0.50 Par Value
AAN 
New York Stock Exchange

Not Applicable
(Former name, former address and former fiscal year, if changed since last report)
 ___________________________________

Indicate by check mark whether registrant (l) has filed all reports required to be filed by Section 13 or 15 (d) of the Securities Exchange Act of l934 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     No  
Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, 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     No 
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 definition of "large accelerated filer," "accelerated filer" and "smaller reporting company" in Rule 12b-2 of the Exchange Act. (Check one):
Large Accelerated Filer
 
 
 
Accelerated Filer
 
 
 
 
 
 
 
 
 
Non-Accelerated Filer
 
(Do not check if a smaller reporting company)
 
Smaller Reporting Company
 
 
 
 
 
 
 
 
 
Emerging Growth Company
 
 
 
 
 
 
 
 
 
 
 
 
 
 
If an emerging growth company, indicate by check mark if the registrant has elected not to use the extended transition period for complying with any new or revised financial accounting standards provided pursuant to Section 7(a)(2)(B) of the Securities Act
 
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). Yes  No 
Indicate the number of shares outstanding of each of the issuer’s classes of common stock, as of the latest practicable date.
Title of Each Class
 
Shares Outstanding as of
October 28, 2019
Common Stock, $0.50 Par Value
 
67,151,778


1


AARON’S, INC.
INDEX
 
 
 
 
3
 
 
3
 
 
4
 
 
5
 
 
6
 
 
7
 
 
31
 
 
47
 
 
48
 
 
 
 
 
49
 
 
49
 
 
49
 
 
Item 3. Defaults Upon Senior Securities
49
 
 
Item 4. Mine Safety Disclosures
49
 
 
Item 5. Other Information
49
 
 
50
 
 
51

2


PART I – FINANCIAL INFORMATION
ITEM 1.
FINANCIAL STATEMENTS
AARON’S, INC. AND SUBSIDIARIES
CONDENSED CONSOLIDATED BALANCE SHEETS
 
 
(Unaudited)
 
 
 
September 30,
2019
 
December 31,
2018
 
(In Thousands, Except Share Data)
ASSETS:
 
 
 
Cash and Cash Equivalents
$
150,261

 
$
15,278

Accounts Receivable (net of allowances of $74,752 in 2019 and $62,704 in 2018)
93,090

 
98,159

Lease Merchandise (net of accumulated depreciation and allowances of $890,932 in 2019 and $816,928 in 2018)
1,281,872

 
1,318,470

Loans Receivable (net of allowances and unamortized fees of $19,970 in 2019 and $19,941 in 2018)
72,130

 
76,153

Property, Plant and Equipment at Cost (net of accumulated depreciation of $311,155 in 2019 and $284,287 in 2018)
230,347

 
229,492

Operating Lease Right-of-Use Assets
330,508

 

Goodwill
735,782

 
733,170

Other Intangibles (net of accumulated amortization of $147,389 in 2019 and $130,116 in 2018)
198,216

 
228,600

Income Tax Receivable
15,931

 
29,148

Prepaid Expenses and Other Assets
111,483

 
98,222

Total Assets
$
3,219,620

 
$
2,826,692

LIABILITIES & SHAREHOLDERS’ EQUITY:
 
 
 
Accounts Payable and Accrued Expenses
$
254,234

 
$
293,153

Deferred Income Taxes Payable
297,110

 
267,500

Customer Deposits and Advance Payments
79,071

 
80,579

Operating Lease Liabilities
374,443

 

Debt
347,107

 
424,752

Total Liabilities
1,351,965

 
1,065,984

Commitments and Contingencies (Note 6)


 


SHAREHOLDERS' EQUITY:
 
 
 
Common Stock, Par Value $0.50 Per Share: Authorized: 225,000,000 Shares at September 30, 2019 and December 31, 2018; Shares Issued: 90,752,123 at September 30, 2019 and December 31, 2018
45,376

 
45,376

Additional Paid-in Capital
283,454

 
278,922

Retained Earnings
2,139,353

 
2,005,344

Accumulated Other Comprehensive Loss
(348
)
 
(1,087
)
 
2,467,835

 
2,328,555

Less: Treasury Shares at Cost
 
 
 
Common Stock: 23,602,055 Shares at September 30, 2019 and 23,567,979 at December 31, 2018
(600,180
)
 
(567,847
)
Total Shareholders’ Equity
1,867,655

 
1,760,708

Total Liabilities & Shareholders’ Equity
$
3,219,620

 
$
2,826,692

The accompanying notes are an integral part of the Condensed Consolidated Financial Statements.

3


AARON’S, INC. AND SUBSIDIARIES
CONDENSED CONSOLIDATED STATEMENTS OF EARNINGS
(Unaudited)
 
 
Three Months Ended
September 30,
 
Nine Months Ended
September 30,
 
2019
 
2018
 
2019
 
2018
 
(In Thousands, Except Per Share Data)
REVENUES:
 
 
 
 
 
 
 
Lease Revenues and Fees
$
906,776

 
$
880,871

 
$
2,758,498

 
$
2,596,876

Retail Sales
8,854

 
7,620

 
30,561

 
22,728

Non-Retail Sales
31,085

 
44,368

 
102,190

 
151,259

Franchise Royalties and Fees
8,087

 
10,153

 
25,899

 
35,140

Interest and Fees on Loans Receivable
8,687

 
9,508

 
25,943

 
28,258

Other
319

 
551

 
961

 
1,478

 
963,808

 
953,071

 
2,944,052

 
2,835,739

COSTS AND EXPENSES:
 
 
 
 
 
 
 
Depreciation of Lease Merchandise
489,199

 
434,593

 
1,464,887

 
1,290,015

Retail Cost of Sales
5,742

 
4,877

 
20,025

 
14,695

Non-Retail Cost of Sales
24,913

 
35,214

 
83,057

 
130,302

Operating Expenses
383,264

 
420,602

 
1,154,056

 
1,199,171

Restructuring Expenses, Net
5,516

 
537

 
37,535

 
561

Other Operating Income, Net
(329
)
 
(38
)
 
(4,712
)
 
(286
)
 
908,305

 
895,785

 
2,754,848

 
2,634,458

OPERATING PROFIT
55,503

 
57,286

 
189,204

 
201,281

Interest Income
360

 
18

 
1,405

 
374

Interest Expense
(3,991
)
 
(3,735
)
 
(13,247
)
 
(11,868
)
Impairment of Investment

 

 

 
(20,098
)
Other Non-Operating (Expense) Income, Net
(207
)
 
(154
)
 
1,430

 
458

EARNINGS BEFORE INCOME TAXES
51,665

 
53,415

 
178,792

 
170,147

INCOME TAXES
11,864

 
9,695

 
40,263

 
35,680

NET EARNINGS
$
39,801

 
$
43,720

 
$
138,529

 
$
134,467

EARNINGS PER SHARE
 
 
 
 
 
 
 
Basic
$
0.59

 
$
0.64

 
$
2.05

 
$
1.93

Assuming Dilution
$
0.58

 
$
0.62

 
$
2.02

 
$
1.89

CASH DIVIDENDS DECLARED PER SHARE:
 
 
 
 
 
 
 
Common Stock
$
0.0350

 
$
0.0300

 
$
0.1050

 
$
0.0900

WEIGHTED AVERAGE SHARES OUTSTANDING:
 
 
 
 
 
 
 
Basic
67,400

 
68,819

 
67,461

 
69,521

Assuming Dilution
68,652

 
70,139

 
68,739

 
70,996

The accompanying notes are an integral part of the Condensed Consolidated Financial Statements.

4


AARON’S, INC. AND SUBSIDIARIES
CONDENSED CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME
(Unaudited)
 
 
Three Months Ended
September 30,
 
Nine Months Ended
September 30,
(In Thousands)
2019
 
2018
 
2019
 
2018
Net Earnings
$
39,801

 
$
43,720

 
$
138,529

 
$
134,467

Other Comprehensive (Loss) Income:
 
 
 
 
 
 
 
Foreign Currency Translation Adjustment
(303
)
 
297

 
739

 
(715
)
Total Other Comprehensive (Loss) Income
(303
)
 
297

 
739

 
(715
)
Comprehensive Income
$
39,498

 
$
44,017

 
$
139,268

 
$
133,752

The accompanying notes are an integral part of the Condensed Consolidated Financial Statements.


5


AARON’S, INC. AND SUBSIDIARIES
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
(Unaudited)
 
Nine Months Ended
September 30,
 
2019
 
2018
 
(In Thousands)
OPERATING ACTIVITIES:



Net Earnings
$
138,529


$
134,467

Adjustments to Reconcile Net Earnings to Cash Provided by Operating Activities:



Depreciation of Lease Merchandise
1,464,887


1,290,015

Other Depreciation and Amortization
79,419


68,730

Accounts Receivable Provision
228,608


188,763

Provision for Credit Losses on Loans Receivable
15,291


16,011

Stock-Based Compensation
20,261


21,793

Deferred Income Taxes
28,747


30,166

Impairment of Assets
29,031


20,098

Non-Cash Lease Expense
86,367

 

Other Changes, Net
3,423


(1,625
)
Changes in Operating Assets and Liabilities, Net of Effects of Acquisitions and Dispositions:





Additions to Lease Merchandise
(1,723,385
)

(1,583,184
)
Book Value of Lease Merchandise Sold or Disposed
298,904


289,859

Accounts Receivable
(225,372
)

(181,512
)
Prepaid Expenses and Other Assets
(19,642
)

(6,685
)
Income Tax Receivable
13,217


70,299

Operating Lease Liabilities
(91,333
)
 

Accounts Payable and Accrued Expenses
5,762


7,998

Customer Deposits and Advance Payments
(1,954
)

(2,198
)
Cash Provided by Operating Activities
350,760


362,995

INVESTING ACTIVITIES:





Investments in Loans Receivable
(49,311
)

(49,311
)
Proceeds from Loans Receivable
40,423


44,016

Proceeds from Investments


666

Outflows on Purchases of Property, Plant and Equipment
(67,049
)

(52,927
)
Proceeds from Property, Plant and Equipment
2,805


5,488

Outflows on Acquisitions of Businesses and Customer Agreements, Net of Cash Acquired
(12,873
)

(141,079
)
Proceeds from Dispositions of Businesses and Customer Agreements, Net of Cash Disposed
2,813


802

Cash Used in Investing Activities
(83,192
)

(192,345
)
FINANCING ACTIVITIES:





(Repayments) Borrowings on Revolving Facility, Net
(16,000
)

25,000

Repayments on Debt
(62,317
)

(96,857
)
Dividends Paid
(7,086
)

(4,186
)
Acquisition of Treasury Stock
(39,422
)

(100,004
)
Issuance of Stock Under Stock Option Plans
5,115


6,684

Shares Withheld for Tax Payments
(12,977
)

(17,282
)
Debt Issuance Costs


(55
)
Cash Used in Financing Activities
(132,687
)

(186,700
)
EFFECT OF EXCHANGE RATE CHANGES ON CASH AND CASH EQUIVALENTS
102


(1
)
Increase (Decrease) in Cash and Cash Equivalents
134,983


(16,051
)
Cash and Cash Equivalents at Beginning of Period
15,278


51,037

Cash and Cash Equivalents at End of Period
$
150,261


$
34,986

The accompanying notes are an integral part of the Condensed Consolidated Financial Statements.

6


AARON'S, INC AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)


NOTE 1.
BASIS AND SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
Description of Business
Aaron's, Inc. (the "Company") is a leading omnichannel provider of lease-purchase solutions. As of September 30, 2019, the Company's operating and reportable segments are Progressive Leasing, Aaron's Business and Dent-A-Med, Inc. ("DAMI").
Progressive Leasing is a virtual lease-to-own company that provides month-to-month lease-purchase solutions in 46 states and the District of Columbia. It does so by purchasing merchandise from third-party retailers desired by those retailers' customers and, in turn, leasing that merchandise to the customers through a lease-to-own transaction. Progressive Leasing consequently has no stores of its own, but rather offers lease-purchase solutions to the customers of traditional and e-commerce retailers.
The following table presents invoice volume for Progressive Leasing:
For the Three Months Ended September 30 (Unaudited and In Thousands)
2019
 
2018
Progressive Leasing Invoice Volume1
$
420,902

 
$
355,005

1 Invoice volume is defined as the retail price of lease merchandise acquired and then leased to customers during the period, net of returns.
The Aaron's Business segment offers furniture, consumer electronics, home appliances and accessories to consumers primarily with a month-to-month, lease-to-own agreement with no credit needed through the Company's Aaron's-branded stores in the United States and Canada and its e-commerce platform. This operating segment also supports franchisees of its Aaron's-branded stores. In addition, the Aaron's Business segment includes the operations of Woodhaven Furniture Industries ("Woodhaven"), which manufactures and supplies the majority of the upholstered furniture and bedding leased and sold in Company-operated and franchised stores.
The Company acquired the store operations of six franchisees during the nine months ended September 30, 2019 and eight franchisees during the nine months ended September 30, 2018. Refer to Note 2 to these condensed consolidated financial statements.
The following table presents store count by ownership type for the Aaron's Business operations:
Stores as of September 30 (Unaudited)
2019
 
2018
Company-operated Aaron's Branded Stores
1,163

 
1,267

Franchised Stores
341

 
432

Systemwide Stores
1,504

 
1,699


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).
Basis of Presentation
The preparation of the Company's condensed consolidated financial statements in conformity with accounting principles generally accepted in the United States ("U.S. GAAP") for interim financial information requires management to make estimates and assumptions that affect the amounts reported in these financial statements and accompanying notes. Actual results could differ from those estimates. Generally, actual experience has been consistent with management's prior estimates and assumptions. Management does not believe these estimates or assumptions will change significantly in the future absent unidentified and unforeseen events.
The accompanying unaudited condensed consolidated financial statements do not include all information required by U.S. GAAP for complete financial statements. In the opinion of management, all adjustments considered necessary for a fair presentation have been included in the accompanying unaudited condensed consolidated financial statements. These financial statements should be read in conjunction with the financial statements and notes thereto included in the Company's Annual Report on Form 10-K for the year ended December 31, 2018 (the "2018 Annual Report") filed with the U.S. Securities and Exchange Commission on February 14, 2019. The results of operations for the three and nine months ended September 30, 2019 are not necessarily indicative of operating results for the full year.

7


AARON'S, INC AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)

Principles of Consolidation
The condensed consolidated financial statements include the accounts of Aaron's, Inc. and its subsidiaries, each of which is wholly owned. Intercompany balances and transactions between consolidated entities have been eliminated.
Accounting Policies and Estimates
See Note 1 to the consolidated financial statements in the 2018 Annual Report.
Earnings Per Share
Earnings per share is computed by dividing net earnings by the weighted average number of shares of common stock outstanding during the period. The computation of earnings per share assuming dilution includes the dilutive effect of stock options, restricted stock units ("RSUs"), restricted stock awards ("RSAs") and performance share units ("PSUs") and awards issuable under the Company's employee stock purchase plan ("ESPP") (collectively, "share-based awards") as determined under the treasury stock method. The following table shows the calculation of dilutive share-based awards:
 
Three Months Ended
September 30,
 
Nine Months Ended
September 30,
(Shares In Thousands)
2019
 
2018
 
2019
 
2018
Weighted Average Shares Outstanding
67,400

 
68,819

 
67,461

 
69,521

Dilutive Effect of Share-Based Awards
1,252

 
1,320

 
1,278

 
1,475

Weighted Average Shares Outstanding Assuming Dilution
68,652

 
70,139

 
68,739

 
70,996


Approximately 400,000 and 455,000 weighted-average share-based awards were excluded from the computation of earnings per share assuming dilution during the three and nine months ended September 30, 2019, respectively, as the awards would have been anti-dilutive for the periods presented.
Approximately 356,000 and 345,000 weighted-average share-based awards were excluded from the computation of earnings per share assuming dilution during the three and nine months ended September 30, 2018, respectively, as the awards would have been anti-dilutive for the periods presented.
Revenue Recognition
Lease Revenues and Fees
The Company provides merchandise, consisting primarily of furniture, consumer electronics, home appliances, jewelry and accessories, to its customers for lease under certain terms agreed to by the customer. The Company's Progressive Leasing segment offers customers of traditional and e-commerce retailers a virtual lease-purchase solution through leases with month-to-month terms that can be renewed up to 12 months. The Company's Aaron's-branded stores and its e-commerce platform offer leases with month-to-month terms that can be renewed up to 12, 18 or 24 months. The Company does not require deposits upon inception of customer agreements. The customer has the right to acquire ownership either through a purchase option or through payment of all required lease payments. The agreements are cancelable at any time by either party without penalty.
Progressive lease revenues are earned prior to the lease payment due date and are recorded net of related sales taxes as earned. Payment due dates terms include weekly, bi-weekly, and monthly. Revenue recorded prior to the payment due date results in unbilled accounts receivable in the accompanying condensed consolidated balance sheets. Beginning January 1, 2019, Progressive lease revenues are recorded net of a provision for returns and uncollectible renewal payments.
Aaron's Business lease revenues are recognized as revenue net of related sales taxes in the month they are earned. Lease payments received prior to the month earned are recorded as deferred lease revenue, and this amount is included in customer deposits and advance payments in the accompanying condensed consolidated balance sheets. Aaron's Business lease revenues are recorded net of a provision for returns and uncollectible renewal payments.
All of the Company's customer agreements are considered operating leases. The Company maintains ownership of the lease merchandise until all payment obligations are satisfied under sales and lease ownership agreements. Initial direct costs related to Progressive Leasing's lease purchase agreements are capitalized as incurred and amortized as operating expense over the estimated lease term. The capitalized costs have been classified within prepaid expenses and other assets in the accompanying condensed consolidated balance sheets. Initial direct costs related to Aaron's Business customer agreements are expensed as incurred and have been classified as operating expenses in the Company's condensed consolidated statements of earnings. The

8


AARON'S, INC AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)

statement of earnings effects of expensing the initial direct costs of the Aaron's Business as incurred are not materially different from amortizing initial direct costs over the lease term.
Retail and Non-Retail Sales
Revenues from the retail sale of merchandise to customers are recognized at the point of sale. Generally, the transfer of control occurs near or at the point of sale for retail sales. Revenues for the non-retail sale of merchandise to franchisees are recognized when control transfers to the franchisee, which is upon delivery of the merchandise.
Substantially all of the amounts reported as non-retail sales and non-retail cost of sales in the accompanying condensed consolidated statements of earnings relate to the sale of lease merchandise to franchisees. The Company classifies the sale of merchandise to other customers as retail sales in the condensed consolidated statements of earnings.
Franchise Royalties and Fees
The Company has no current plans to franchise additional Aaron's stores. Current franchisees pay an ongoing royalty of 6% of the weekly cash revenue collections, which is recognized as the fees become due. The Company received a non-refundable initial franchise fee from current franchisees from $15,000 to $50,000 per store depending upon market size. Franchise fees and area development fees were generated from the sale of rights to develop, own and operate sales and lease ownership stores and pre-opening services provided by Aaron's to assist in the start-up operations of the stores. The Company considers the rights to the intellectual property and the pre-opening services to be a single performance obligation, resulting in the recognition of revenue ratably over time from the store opening date throughout the remainder of the franchise agreement term. The Company believes that this period of time is most representative of the time period in which the franchisee realizes the benefits of having the right to access the Company's intellectual property.
The Company guarantees certain debt obligations of some of the franchisees and receives guarantee fees based on the outstanding debt obligations of such franchisees. Refer to Note 6 of these condensed consolidated financial statements for additional discussion of the Company's franchise-related guarantee obligation. The Company also charges fees for advertising efforts that benefit the franchisees. Such fees are recognized at the time the advertising takes place and are presented as franchise royalties and fees in the Company's condensed consolidated statements of earnings.
Interest and Fees on Loans Receivable
DAMI extends or declines credit to an applicant through its bank partners based upon the applicant's credit rating and other factors. Qualifying applicants 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 24-month period, which DAMI may renew if the cardholder remains in good standing.
DAMI acquires the loan receivable from merchants through its third-party bank partners at a discount from the face value of the loan. The discount is comprised of a merchant fee discount and a promotional fee discount, if applicable.
The merchant fee discount represents a pre-negotiated, nonrefundable discount that generally ranges from 3% to 25% of the loan face value. The discount is designed to cover the risk of loss related to the portfolio of cardholder charges and DAMI's direct origination costs. The merchant fee discount and origination costs are presented net on the condensed consolidated balance sheet in loans receivable. Cardholders generally have an initial 24-month period that the card is active. The merchant fee discount, net of the origination costs, is amortized on a net basis and is recorded as interest and fee revenue on loans receivable in the condensed consolidated statements of earnings on a straight-line basis over the initial 24-month period.
The discount from the face value of the loan on the acquisition of the loan receivable from the merchant through the third-party bank partners may also include a promotional fee discount, which generally ranges from 1% to 8%. The promotional fee discount is intended to compensate the holder of the loan receivable (i.e. DAMI) for deferred or reduced interest rates that are offered to the cardholder for a specified period on the outstanding loan balance (generally for six, 12 or 18 months). The promotional fee discount is amortized as interest and fee revenue on loans receivable in the condensed consolidated statements of earnings on a straight-line basis over the promotional interest period (i.e., over six, 12 or 18 months, depending on the promotion). The unamortized promotional fee discount is netted on the condensed consolidated balance sheet in loans receivable.

9


AARON'S, INC AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)

The customer is typically required to make periodic minimum payments of at least 3.5% of the outstanding loan balance, which includes outstanding interest. Fixed and variable interest rates, typically 25% to 35.99%, are compounded daily for cards that do not qualify for deferred or reduced interest promotional periods. Interest income, which is recognized based upon the amount of the loans outstanding, is recognized as interest and fees on loans receivable in the billing period in which they are assessed if collectability is reasonably assured. For credit cards that provide deferred interest, if the balance is not paid off during the promotional period or if the cardholder defaults, interest is billed to the customers at standard rates and the cumulative amount owed is charged to the cardholder account in the month that the promotional period expires. For credit cards that provide reduced interest, if the balance is not paid off during the promotional period, interest is billed to the cardholder at standard rates in the month that the promotional period expires or when the cardholder defaults.
The Company recognizes interest revenue during the promotional period based on its historical experience related to cardholders that fail to pay off balances during the promotional period.
Annual fees are charged to cardholders at the commencement of the loan and on each subsequent anniversary date. Annual fees are deferred and recognized into revenue on a straight-line basis over a one-year period. Under the provisions of the credit card agreements, the Company also may assess fees for service calls or for missed or late payments, which are recognized as revenue in the billing period in which they are assessed if collectability is reasonably assured. Annual fees and other fees discussed are recognized as interest and fee revenue on loans receivable in the condensed consolidated statements of earnings.
Accounts Receivable
Accounts receivable consist primarily of receivables due from customers of Progressive Leasing and Company-operated stores, corporate receivables incurred during the normal course of business (primarily for vendor consideration and real estate leasing activities) and franchisee obligations.
Accounts receivable, net of allowances, consist of the following: 
(In Thousands)
September 30, 2019

December 31, 2018
Customers
$
67,359

 
$
60,879

Corporate
12,600

 
18,171

Franchisee
13,131

 
19,109

Accounts Receivable
$
93,090

 
$
98,159


The Company maintains an accounts receivable allowance, which primarily relates to its Progressive Leasing operations and the Aaron's Business operations. The Company’s policy for its Progressive Leasing segment is to record an allowance for returns and uncollectible renewal payments based on historical collection experience. During 2019, the Company adopted ASU 2016-02, Leases ("ASC 842") which resulted in the Progressive Leasing provision for returns and uncollectible renewal payments being recorded as a reduction of lease revenue and fees within the condensed consolidated statements of earnings beginning January 1, 2019. The provision for returns and uncollectible renewal payments for periods prior to 2019 are reported herein as bad debt expense within operating expenses in the condensed consolidated statements of earnings. The Progressive Leasing segment writes off lease receivables that are 120 days or more contractually past due.
For the Aaron's Business operations, contractually required lease payments are accrued when due. The Aaron's Business policy is to record a provision for returns and uncollectible contractually due renewal payments based on historical collection experience, which is recognized as a reduction of lease revenues and fees within the condensed consolidated statements of earnings. Aaron's Business writes off lease receivables that are 60 days or more past due on pre-determined dates twice monthly.
DAMI's allowance for uncollectible merchant accounts receivable, which primarily relates to cardholder returns and refunds, is recorded as bad debt expense within operating expenses in the condensed consolidated statements of earnings.

10


AARON'S, INC AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)

The following table shows the amounts recognized for bad debt expense and provision for returns and uncollected payments:
 
Nine Months Ended September 30,
(In Thousands)
2019
 
2018
Bad Debt Expense1
$
1,272

 
$
160,886

Provision for Returns and Uncollectible Renewal Payments2
227,336

 
27,877

Accounts Receivable Provision
$
228,608

 
$
188,763


1 Bad debt expense is recorded within operating expenses in the condensed consolidated financial statements.
2 In accordance with the adoption of ASC 842, Progressive Leasing provision for returns and uncollectible renewal payments are recorded as a reduction to lease revenues and fees within the condensed consolidated financial statements beginning January 1, 2019. Prior to January 1, 2019, Progressive Leasing provision for returns and uncollectible renewal payments were recorded as bad debt expense within operating expenses in the condensed consolidated financial statements.
Lease Merchandise
The Company's lease merchandise consists primarily of furniture, consumer electronics, home appliances, jewelry, and accessories and is recorded at the lower of cost or net realizable value. The cost of merchandise manufactured by our Woodhaven operations is recorded at cost and includes overhead from production facilities, shipping costs and warehousing costs. The Company's Progressive Leasing segment, at which substantially all merchandise is on lease, depreciates merchandise generally over 12 months. The Company's Aaron's Business segment begins depreciating merchandise at the earlier of 12 months and one day or when the item is leased. Aaron's Business depreciates merchandise to a 0% salvage value over the lease agreement period when on lease, generally 12 to 24 months, and generally 36 months when not on lease. Depreciation is accelerated upon early payout.
The following is a summary of lease merchandise, net of accumulated depreciation and allowances:
(In Thousands)
September 30, 2019
 
December 31, 2018
Merchandise on Lease
$
1,034,855

 
$
1,053,684

Merchandise Not on Lease
247,017

 
264,786

Lease Merchandise, net of Accumulated Depreciation and Allowances
$
1,281,872

 
$
1,318,470


The Company's policies require weekly lease merchandise counts at its store-based operations, which include write-offs for unsalable, damaged, or missing merchandise inventories. In addition to monthly cycle counting, full physical inventories are generally taken at the fulfillment and manufacturing facilities annually and appropriate provisions are made for missing, damaged and unsalable merchandise. In addition, the Company monitors lease merchandise levels and mix by division, store, and fulfillment center, as well as the average age of merchandise on hand. If obsolete lease merchandise cannot be returned to vendors, its carrying amount is adjusted to its net realizable value or written off.
Generally, all lease merchandise is available for lease or sale. On a monthly basis, all damaged, lost or unsalable merchandise identified is written off. The Company records a provision for write-offs on the allowance method, which estimates the merchandise losses incurred but not yet identified by management as of the end of the accounting period based on historical write-off experience. The provision for write-offs is included in operating expenses in the accompanying condensed consolidated statements of earnings.
The following table shows the components of the allowance for lease merchandise write-offs:
 
Nine Months Ended September 30,
(In Thousands)
2019
 
2018
Beginning Balance
$
46,694

 
$
35,629

Merchandise Written off, net of Recoveries
(168,770
)
 
(130,946
)
Provision for Write-offs
186,922

 
146,091

Ending Balance
$
64,846

 
$
50,774



11


AARON'S, INC AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)

Loans Receivable, Net
Gross loans receivable represents the principal balances of credit card charges at DAMI's participating merchants that remain due from cardholders, plus unpaid interest and fees due from cardholders. The allowances and unamortized fees represents an allowance for uncollectible amounts; merchant fee discounts, net of capitalized origination costs; promotional fee discounts; and deferred annual card fees.
Loans acquired in the October 15, 2015 DAMI acquisition (the "Acquired Loans") were recorded at their estimated fair value at the acquisition date. The projected net cash flows from expected payments of principal, interest, fees and servicing costs and anticipated charge-offs were included in the determination of fair value; therefore, an allowance for loan losses and an amount for unamortized fees were not recognized for the Acquired Loans. The difference, or discount, between the expected cash flows to be received and the fair value of the Acquired Loans is accreted to interest and fees on loans receivable based on the effective interest method. At each period end, the Company evaluates the appropriateness of the accretable discount on the Acquired Loans based on actual and revised projected future cash receipts.
Losses on loans receivable are recognized when they are incurred, which requires the Company to make its best estimate of probable losses inherent in the portfolio. The Company evaluates loans receivable collectively for impairment. The method for calculating the best estimate of probable losses takes into account the Company's historical experience, adjusted for current conditions and the Company's judgment concerning the probable effects of relevant observable data, trends and market factors. Economic conditions and loan performance trends are closely monitored to manage and evaluate exposure to credit risk. Trends in delinquency ratios are an indicator of credit risk within the loans receivable portfolio, including the migration of loans between delinquency categories over time. Charge-off rates represent another indicator of the potential for future credit losses. The risk in the loans receivable portfolio is correlated with broad economic trends, such as unemployment rates, gross domestic product growth and gas prices, which can have a material effect on credit performance. To the extent that actual results differ from estimates of uncollectible loans receivable, the Company's results of operations and liquidity could be materially affected.
The Company calculates the allowance for loan losses based on actual delinquency balances and historical average loss experience on loans receivable by aging category for the prior eight quarters. The allowance for loan losses is maintained at a level considered adequate to cover probable losses of principal, interest and fees on active loans in the loans receivable portfolio. The adequacy of the allowance is evaluated at each period end.
Delinquent loans receivable includes those that are 30 days or more past due based on their contractual billing dates. The Company places loans receivable on nonaccrual status when they are greater than 90 days past due or upon notification of cardholder bankruptcy, death or fraud. The Company discontinues accruing interest and fees and amortizing merchant fee discounts and promotional fee discounts for loans receivable in nonaccrual status. Loans receivable are removed from nonaccrual status when cardholder payments resume, the loan becomes 90 days or less past due and collection of the remaining amounts outstanding is deemed probable. Payments received on nonaccrual loans are allocated according to the same payment hierarchy methodology applied to loans that are accruing interest. Loans receivable are charged off no later than the end of the following month after the billing cycle in which the loans receivable become 120 days past due.
DAMI extends or declines credit to an applicant through its bank partners based upon the applicant's credit rating and other factors. Below is a summary of the credit quality of the Company's loan portfolio as of September 30, 2019 and December 31, 2018 by Fair Isaac and Company (FICO) score as determined at the time of loan origination:
FICO Score Category
September 30, 2019
 
December 31, 2018
600 or Less
5.6
%
 
3.7
%
Between 600 and 700
79.9
%
 
77.9
%
700 or Greater
14.5
%
 
18.4
%


12


AARON'S, INC AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)

Prepaid Expenses and Other Assets
Prepaid expenses and other assets consist of the following:
(In Thousands)
September 30, 2019
 
December 31, 2018
Prepaid Expenses
$
37,658

 
$
30,763

Prepaid Insurance
26,535

 
27,948

Assets Held for Sale
10,017

 
6,589

Deferred Tax Asset
8,761

 
8,761

Other Assets
28,512

 
24,161

Prepaid Expenses and Other Assets
$
111,483

 
$
98,222


Assets Held for Sale
Certain properties, consisting of parcels of land and commercial buildings, met the held for sale classification criteria as of September 30, 2019 and December 31, 2018. Assets held for sale are recorded at the lower of their carrying value or fair value less estimated cost to sell and are classified within prepaid expenses and other assets in the condensed consolidated balance sheets. Depreciation is suspended on assets upon classification to held for sale.
The carrying amount of the properties held for sale as of September 30, 2019 and December 31, 2018 is $10.0 million and $6.6 million, respectively. The Company estimated the fair values of real estate properties using the market values for similar properties. These properties are considered Level 2 assets as defined below.
Accounts Payable and Accrued Expenses
Accounts payable and accrued expenses consist of the following:
(In Thousands)
September 30, 2019
 
December 31, 2018
Accounts Payable
$
72,190

 
$
88,369

Accrued Insurance Costs
41,872

 
40,423

Accrued Salaries and Benefits
49,052

 
40,790

Accrued Real Estate and Sales Taxes
32,337

 
30,332

Deferred Rent1

 
27,270

Other Accrued Expenses and Liabilities1
58,783

 
65,969

Accounts Payable and Accrued Expenses
$
254,234

 
$
293,153


1
Amounts as of September 30, 2019 were impacted by the January 1, 2019 adoption of ASC 842. Upon transition to ASC 842, the remaining balances of the Company's deferred rent, lease incentives, and closed store reserve were reclassified as a reduction to the operating lease right-of-use asset in the accompanying condensed consolidated balance sheet.
Debt
At September 30, 2019, the Company was in compliance with all covenants related to its outstanding debt. See Note 7 to the consolidated financial statements in the 2018 Annual Report for further information regarding the Company's indebtedness.

13


AARON'S, INC AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)

Stockholders' Equity
Changes in stockholders' equity for the nine months ended September 30, 2019 and 2018 are as follows:
 
Treasury Stock
 
Common Stock
 
Additional
Paid-in Capital
 
Retained Earnings
 
Accumulated Other Comprehensive Loss
Total Shareholders’ Equity
(In Thousands, Except Per Share)
Shares
 
Amount
 
 
 
 
Balance, December 31, 2018
(23,568
)
 
$
(567,847
)
 
$
45,376

 
$
278,922

 
$
2,005,344

 
$
(1,087
)
$
1,760,708

Opening Balance Sheet Adjustment - ASC 842, net of taxes

 

 

 

 
2,592

 

2,592

Cash Dividends, $0.035 per share

 

 

 

 
(2,363
)
 

(2,363
)
Stock-Based Compensation

 

 

 
7,050

 

 

7,050

Reissued Shares
493

 
4,264

 

 
(15,245
)
 

 

(10,981
)
Net Earnings

 

 

 

 
56,078

 

56,078

Foreign Currency Translation Adjustment

 

 

 

 

 
424

424

Balance, March 31, 2019
(23,075
)
 
(563,583
)
 
45,376

 
270,727

 
2,061,651

 
(663
)
1,813,508

Cash Dividends, $0.035 per share

 

 

 

 
(2,386
)
 

(2,386
)
Stock-Based Compensation

 

 

 
6,522

 

 

6,522

Reissued Shares
113

 
2,776

 

 
284

 

 

3,060

Repurchased Shares
(243
)
 
(14,414
)
 

 

 

 

(14,414
)
Net Earnings

 

 

 

 
42,650

 

42,650

Foreign Currency Translation Adjustment

 

 

 

 

 
618

618

Balance, June 30, 2019
(23,205
)
 
(575,221
)
 
45,376

 
277,533

 
2,101,915

 
(45
)
1,849,558

Cash Dividends, $0.035 per share

 

 

 

 
(2,363
)
 

(2,363
)
Stock-Based Compensation

 

 

 
5,911

 

 

5,911

Reissued Shares
2

 
49

 

 
10

 

 

59

Repurchased Shares
(399
)
 
(25,008
)
 

 

 

 

(25,008
)
Net Earnings

 

 

 

 
39,801

 

39,801

Foreign Currency Translation Adjustment

 

 

 

 

 
(303
)
(303
)
Balance, September 30, 2019
(23,602
)
 
$
(600,180
)
 
$
45,376

 
$
283,454

 
$
2,139,353

 
$
(348
)
$
1,867,655


14


AARON'S, INC AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)

 
Treasury Stock
 
Common Stock
 
Additional
Paid-in Capital
 
Retained Earnings
 
Accumulated Other Comprehensive Income (Loss)
Total Shareholders’ Equity
(In Thousands, Except Per Share)
Shares
 
Amount
 
 
 
 
Balance, December 31, 2017
(20,733
)
 
$
(407,713
)
 
$
45,376

 
$
270,043

 
$
1,819,524

 
$
774

$
1,728,004

Opening Balance Sheet Adjustment - ASC 606, net of taxes

 

 

 

 
(1,729
)
 

(1,729
)
Cash Dividends, $0.03 per share

 

 

 

 
(2,146
)
 

(2,146
)
Stock-Based Compensation

 

 

 
7,862

 

 

7,862

Reissued Shares
545

 
3,441

 

 
(12,602
)
 

 

(9,161
)
Repurchased Shares
(391
)
 
(18,407
)
 

 

 

 

(18,407
)
Net Earnings

 

 

 

 
52,246

 

52,246

Foreign Currency Translation Adjustment

 

 

 

 

 
(477
)
(477
)
Balance, March 31, 2018
(20,579
)
 
(422,679
)
 
45,376

 
265,303

 
1,867,895

 
297

1,756,192

Cash Dividends, $0.03 per share

 

 

 

 
(2,087
)
 

(2,087
)
Stock-Based Compensation

 

 

 
6,380

 

 

6,380

Reissued Shares
220

 
1,795

 

 
(5,408
)
 

 

(3,613
)
Repurchased Shares
(1,234
)
 
(50,025
)
 

 

 

 

(50,025
)
Net Earnings

 

 

 

 
38,501

 

38,501

Foreign Currency Translation Adjustment

 

 

 

 

 
(535
)
(535
)
Balance, June 30, 2018
(21,593
)
 
(470,909
)
 
45,376

 
266,275

 
1,904,309

 
(238
)
1,744,813

Cash Dividends, $0.03 per share

 

 

 

 
(2,068
)
 

(2,068
)
Stock-Based Compensation

 

 

 
6,140

 

 

6,140

Reissued Shares
104

 
2,322

 

 
(146
)
 

 

2,176

Repurchased Shares
(676
)
 
(31,572
)
 

 

 

 

(31,572
)
Net Earnings

 

 

 

 
43,720

 

43,720

Foreign Currency Translation Adjustment

 

 

 

 

 
297

297

Balance, September 30, 2018
(22,165
)
 
$
(500,159
)
 
$
45,376

 
$
272,269

 
$
1,945,961

 
$
59

$
1,763,506


Fair Value Measurement
Fair value is defined as the price that would be received to sell an asset or paid to transfer a liability in an orderly transaction between market participants at the measurement date. To increase the comparability of fair value measures, the following hierarchy prioritizes the inputs to valuation methodologies used to measure fair value:
Level 1—Valuations based on quoted prices for identical assets and liabilities in active markets.
Level 2—Valuations based on observable inputs other than quoted prices included in Level 1, such as quoted prices for similar assets and liabilities in active markets, quoted prices for identical or similar assets and liabilities in markets that are not active, or other inputs that are observable or can be corroborated by observable market data.
Level 3—Valuations based on unobservable inputs reflecting the Company's own assumptions, consistent with reasonably available assumptions made by other market participants. These valuations require significant judgment.
The Company measures assets held for sale at fair value on a nonrecurring basis and records impairment charges when they are deemed to be impaired. The Company maintains certain financial assets and liabilities, and fixed-rate long-term debt, that are not measured at fair value but for which fair value is disclosed.
The fair values of the Company's other current financial assets and liabilities, including cash and cash equivalents, accounts receivable and accounts payable, approximate their carrying values due to their short-term nature. The fair value for the loans receivable, net of allowances, and the revolving credit borrowings also approximate their carrying amounts.

15


AARON'S, INC AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)

Related Party Transactions
Aaron Ventures I, LLC, which we refer to as "Aaron Ventures," was formed in December 2002 for the purpose of acquiring properties from the Company and leasing them back to the Company and is controlled by certain of the Company’s current and former executives. Aaron Ventures purchased a combined total of 21 properties from the Company in 2002 and 2004, and leased the properties back to the Company. As of September 30, 2019, the Company had one remaining operating lease with Aaron Ventures with an expiration date in 2023. The rate of interest implicit in the lease is approximately 9.7%. The building's right-of-use asset and lease obligation are recorded in the Company's condensed consolidated financial statements. The rental payments related to this operating lease are not significant.
Supplemental Disclosure of Noncash Investing Transactions
During the three months ended September 30, 2018, the Company entered into transactions to acquire and sell certain customer agreements and related lease merchandise with third parties which are accounted for as asset acquisitions and asset disposals. The fair value of the non-cash consideration exchanged in these transactions was $0.6 million.
In addition, the purchase price for the acquisition of certain franchisees made during the nine months ended September 30, 2019 and 2018 included the non-cash settlement of pre-existing accounts receivable the franchisees owed the Company of $0.9 million and $0.4 million, respectively. This non-cash consideration has been excluded from the line "Outflows on Acquisitions of Businesses and Customer Agreements, Net of Cash Acquired" in the investing activities section of the condensed consolidated statements of cash flows for the respective periods.
Hurricane Impact
During the third and fourth quarters of 2017, Hurricanes Harvey and Irma impacted the Company in the form of: (i) property damages (primarily in-store and on-lease merchandise, store leasehold improvements and furniture and fixtures) and employee assistance payments; (ii) increased customer-related accounts receivable allowances and lease merchandise allowances primarily in the impacted areas; (iii) lost lease revenue due to store closures of Aaron's Business and Progressive Leasing retail partners; and (iv) lost lease revenue due to the postponing of customer payments in the impacted areas.
During the nine months ended September 30, 2019, the Company received cash payments of $7.0 million related to the settled property damage and business interruption claims resulting from Hurricanes Harvey and Irma. Settled property damage claims received in cash that were in excess of the respective insurance receivable balances, as well as business interruption proceeds, resulted in gains of $4.5 million which were recorded during the first and second quarters of 2019. These gains were recorded within other operating income, net in the condensed consolidated statements of earnings.


16


AARON'S, INC AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)

Recent Accounting Pronouncements
Adopted
Leases. In February 2016, the FASB issued ASU 2016-02, Leases ("ASC 842"), which requires lessees to recognize assets and liabilities for most leases and changes certain aspects of lessor accounting, among other things. ASU 2016-02 is effective for annual and interim periods beginning after December 15, 2018. Companies must use a modified retrospective approach to adopt ASC 842; however, the Company adopted an optional transition method in which entities are permitted to not apply the requirements of ASC 842 in the comparative periods presented within the financial statements in the year of adoption, with recognition of a cumulative-effect adjustment to the opening balance of retained earnings in the period of adoption. The application of this optional transition method resulted in a cumulative-effect adjustment of $2.6 million representing an increase to the Company’s January 1, 2019 retained earnings balance, net of tax, due primarily to the recognition of deferred gains recorded under previous sale and operating leaseback transactions for which the ASC 842 transition guidance requires companies to recognize any deferred gains not resulting from off-market terms as a cumulative adjustment to retained earnings upon adoption of ASC 842.
As a lessor, a majority of the Company’s revenue generating activities are within the scope of ASC 842. The new standard did not materially impact the timing of revenue recognition. Effective January 1, 2019, ASC 842 resulted in the Company classifying the Progressive Leasing provision for returns and uncollectible renewal payments as a reduction of lease revenue and fees within the condensed consolidated statements of earnings. For periods reported herein prior to January 1, 2019, the Progressive Leasing provision for returns and uncollectible renewal payments was recorded as bad debt expense within operating expenses in the condensed consolidated statements of earnings. The Aaron’s Business provision for returns and uncollectible renewal payments has historically been, and continues to be recorded as, a reduction to lease revenue and fees. The Company has customer lease agreements with lease and non-lease components that fall within the scope of ASU 2014-09, Revenue from Contracts with Customers ("ASC 606"). The Company has elected to aggregate these components into a single component for all classes of underlying assets as the lease and non-lease components generally have the same timing and pattern of transfer.
The new standard also impacts the Company as a lessee by requiring substantially all of its operating leases to be recognized on the balance sheet as operating lease right-of-use assets and operating lease liabilities. See Note 5 to these condensed consolidated financial statements for further details regarding the Company’s leasing activities as a lessee. The Company elected to adopt a package of practical expedients offered by the FASB which removes the requirement to reassess whether expired or existing contracts contain leases and removes the requirement to reassess the lease classification for any existing leases prior to the adoption date of January 1, 2019. Additionally, the Company has elected the practical expedient to include both lease and non-lease components as a single component and account for it as a lease.
Cloud Computing Arrangements. In August 2018, the FASB issued ASU 2018-15, Customer's Accounting for Implementation Costs Incurred in a Cloud Computing Arrangement That Is a Service Contract. The intent of the standard is to reduce diversity in practice in accounting for the costs of implementing cloud computing arrangements that are service contracts. Under the new standard, entities will be required to apply the accounting guidance as prescribed by ASC 350-40, Internal Use Software, in determining which implementation costs should be capitalized as assets or expensed as incurred. The internal-use software guidance requires the capitalization of certain costs incurred during the application development stage of an internal-use software project, while requiring companies to expense all costs incurred during preliminary project and post-implementation project stages. As a result, certain implementation costs which were previously expensed by the Company are now eligible for capitalization under ASU 2018-15. The standard may be applied either prospectively to all implementation costs incurred after the adoption date or retrospectively. ASU 2018-15 is effective for annual and interim periods beginning after December 15, 2019, with early adoption permitted. The Company elected to early adopt ASU 2018-15 on a prospective basis effective January 1, 2019, and the impact to the condensed consolidated financial statements was not significant. Costs eligible for capitalization will be capitalized within prepaid expenses and other assets and expensed through operating expenses in the condensed consolidated balance sheets and statements of earnings, respectively.

17


AARON'S, INC AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)

Pending Adoption
Financial Instruments - Credit Losses. In June 2016, the FASB issued ASU 2016-13, Measurement of Credit Losses on Financial Instruments ("CECL"). The main objective of the update is to provide financial statement users with more decision-useful information about the expected credit losses on financial instruments and other commitments to extend credit held by companies at each reporting date. For trade and other receivables, held to maturity debt securities and other instruments, companies will be required to use a new forward-looking "expected losses" model that generally will result in the recognition of allowances for losses earlier than under current accounting guidance. The standard will be adopted on a modified retrospective basis with a cumulative-effect adjustment to retained earnings as of the beginning of the first reporting period in which the guidance is effective. ASU 2016-13 is effective for the Company in the first quarter of 2020.
The Company's operating lease activities within Aaron's Business and Progressive Leasing will not be impacted by ASU 2016-13, as operating lease receivables are not in the scope of the CECL standard. The Company will be impacted by ASU 2016-13 within its DAMI segment by requiring earlier recognition of estimated credit losses in the consolidated statements of earnings. DAMI acquires loan receivables from merchants through its third-party bank partners at a discount from the face value of the loan, referred to as the "merchant fee discount." The merchant fee discount represents a pre-negotiated, nonrefundable discount that generally ranges from 3% to 25% of the loan face value, which is primarily intended to cover the risk of credit loss related to the portfolio of loans originated. Although the CECL standard will require the estimated credit losses to be recognized at the time of loan origination, the related merchant fee discount will continue to be amortized as interest and fee revenue on a straight-line basis over the initial 24-month period that the card is active. Therefore, on a loan-by-loan basis, the Company expects higher losses to be recognized upon loan origination for the estimated credit losses, generally followed by higher net earnings as the related merchant fee discount is amortized to interest income, and as interest income is accrued and earned on the outstanding loan. Although the CECL standard will result in earlier recognition of credit losses in the statements of earnings, no changes are expected related to the loan cash flows.
The Company has evaluated the guidance in ASU 2016-13 related to purchased financial assets with credit deterioration ("PCD Method") and currently expects that its loans receivable would not qualify for the PCD Method as, generally, a more-than-insignificant deterioration in credit quality since origination does not occur. The Company is finalizing the implementation of a software solution to support the new accounting requirements and is finalizing its evaluation of other various potential impacts of CECL.
NOTE 2. ACQUISITIONS
Franchisee Acquisitions - 2018
During 2018, the Company acquired 152 Aaron's-branded franchised stores operated by franchisees for an aggregate purchase price of $190.2 million, exclusive of the settlement of pre-existing receivables and post-closing working capital settlements.
The acquired operations generated revenues of $43.9 million and $138.7 million during the three and nine months ended September 30, 2019, respectively, and $26.8 million and $32.0 million during the comparable prior year periods. The acquired operations generated earnings before income taxes of $0.4 million and $1.6 million during the three and nine months ended September 30, 2019, respectively, and losses before income taxes of $0.2 million during the respective comparable prior year periods. The revenues and earnings before income taxes described above are included in our condensed consolidated statements of earnings for the respective periods.
The results of the acquired operations were negatively impacted by acquisition-related transaction and transition costs, amortization expense of the various intangible assets recorded from the acquisitions, and restructuring charges incurred under the 2019 restructuring program associated with the closure of a number of acquired stores. The revenues and earnings before income taxes of the acquired operations discussed above have not been adjusted for estimated non-retail sales and franchise royalties and fees and related expenses that the Company could have generated as revenue and expenses to the Company from the franchisees during the three and nine months ended September 30, 2019 and 2018 had the transaction not been completed.

18


AARON'S, INC AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)

Acquisition Accounting
The 2018 acquisitions are benefiting the Company's omnichannel platform through added scale, strengthening its presence in certain geographic markets, and enhancing operational control, including compliance, and enabling the Company to execute its business transformation initiatives on a broader scale. The following table presents summaries of the preliminary and final fair value of the assets acquired and liabilities assumed in the franchisee acquisitions as of the respective acquisition dates:
(In Thousands)
Amounts Recognized as of Acquisition Dates (as of June 30, 2019)1
Acquisition Accounting Adjustments2
Final Amounts Recognized as of Acquisition Dates
Purchase Price
$
190,167

$

$
190,167

Add: Settlement of Pre-existing Relationship
5,405


5,405

Less: Working Capital Adjustments
155


155

Aggregate Consideration Transferred
195,727


195,727

Estimated Fair Value of Identifiable Assets Acquired and Liabilities Assumed
 
 
 
Cash and Cash Equivalents
50


50

Lease Merchandise
59,616


59,616

Property, Plant and Equipment
5,568


5,568

Operating Lease Right-of-Use Assets3

4,338

4,338

Other Intangibles4
24,498

(1,176
)
23,322

Prepaid Expenses and Other Assets
1,206

35

1,241

Total Identifiable Assets Acquired
90,938

3,197

94,135

Accounts Payable and Accrued Expenses
(977
)

(977
)
Customer Deposits and Advance Payments
(5,156
)

(5,156
)
Total Liabilities Assumed
(6,133
)

(6,133
)
Goodwill5
110,922

(3,197
)
107,725

Net Assets Acquired
$
84,805

$
3,197

$
88,002

1 As previously reported in Note 2 to the condensed consolidated financial statements as of June 30, 2019.
2 During the third quarter, the Company finalized its valuation of assumed favorable and unfavorable real estate operating leases based on comparable market terms of similar leases at the acquisition dates, which also impacted the valuation of the Company's customer lease contract and customer relationship intangible assets. The adjustment also resulted in the recognition of immaterial adjustments to operating expenses within the condensed consolidated statements of earnings, as well as restructuring expenses (reversals), net during the three months ended September 30, 2019 to recognize expense that would have been recognized in prior periods had the favorable lease asset been recorded as of the acquisition date.
3 As of the respective acquisition dates, the Company had not yet adopted ASC 842. As such, there were no operating lease right-of-use assets or operating lease liabilities recognized within the condensed consolidated financial statements at the time of acquisition. The Company recognized operating lease right-of-use assets and operating lease liabilities for the acquired stores as part of the transition to ASC 842 on January 1, 2019. As discussed above, the Company finalized its valuation of assumed favorable and unfavorable real estate operating leases, which was recorded within operating lease right-of-use assets in our condensed consolidated balance sheet.
4 Identifiable intangible assets are further disaggregated in the table set forth below.
5 The total goodwill recognized in conjunction with the franchisee acquisitions, all of which is expected to be deductible for tax purposes, has been assigned to the Aaron’s Business reporting unit. The purchase price exceeded the fair value of the net assets acquired, which resulted in the recognition of goodwill, primarily due to synergies created from the expected future benefits to the Company’s omnichannel platform, implementation of the Company’s operational capabilities, expected inventory supply chain synergies between the Aaron’s Business and Progressive Leasing, and control of the Company’s brand name in new geographic markets. Goodwill also includes certain other intangible assets that do not qualify for separate recognition, such as an assembled workforce.

19


AARON'S, INC AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)

The intangible assets attributable to the franchisee acquisitions are comprised of the following:
 
Fair Value
(In Thousands)
 
Weighted Average Life
(In Years)
Non-compete Agreements
$
1,872

 
3.0
Customer Lease Contracts
7,457

 
1.0
Customer Relationships
9,330

 
3.0
Reacquired Franchise Rights
4,663

 
3.9
Total Acquired Intangible Assets1
$
23,322

 
 
1 Acquired definite-lived intangible assets have a total weighted average life of 2.5 years.
The Company incurred $1.6 million of acquisition-related costs in connection with the franchisee acquisitions, substantially all of which were incurred during 2018. These costs were included in operating expenses in the condensed consolidated statements of earnings.
Other Acquisitions
In addition to the acquisitions discussed above, the Company acquired the store operations of six franchisees during the nine months ended September 30, 2019 and five franchisees during the nine months ended September 30, 2018.
Net cash outflows related to the acquisitions of other Aaron's franchisees, other rent-to-own store businesses, and customer contracts aggregated to $12.9 million and $14.1 million during the nine months ended September 30, 2019 and 2018, respectively. The effect of these acquisitions on the condensed consolidated financial statements for the three and nine months ended September 30, 2019 and 2018 was not significant.
NOTE 3. FAIR VALUE MEASUREMENT
Financial Assets and Liabilities Measured at Fair Value on a Recurring Basis
The following table summarizes financial liabilities measured at fair value on a recurring basis:
(In Thousands)
September 30, 2019
 
December 31, 2018
 
Level 1
 
Level 2
 
Level 3
 
Level 1
 
Level 2
 
Level 3
Deferred Compensation Liability
$

 
$
(10,708
)
 
$

 
$

 
$
(10,389
)
 
$


The Company maintains the Aaron’s, Inc. Deferred Compensation Plan, which is an unfunded, nonqualified deferred compensation plan for a select group of management, highly compensated employees and non-employee directors. The liability is recorded in accounts payable and accrued expenses in the condensed consolidated balance sheets. The liability representing benefits accrued for plan participants is valued at the quoted market prices of the participants’ investment elections, which consist of equity and debt "mirror" funds. As such, the Company has classified the deferred compensation liability as a Level 2 liability.
Non-Financial Assets and Liabilities Measured at Fair Value on a Nonrecurring Basis
The following table summarizes non-financial assets measured at fair value on a nonrecurring basis:
(In Thousands)
September 30, 2019
 
December 31, 2018
 
Level 1
 
Level 2
 
Level 3
 
Level 1
 
Level 2
 
Level 3
Assets Held for Sale
$

 
$
10,017

 
$

 
$

 
$
6,589

 
$


Assets classified as held for sale are recorded at the lower of carrying value or fair value less estimated costs to sell, and any adjustment is recorded in other operating income, net or restructuring expenses, net (if the asset is a part of the Company's restructuring program as described in Note 8) in the condensed consolidated statements of earnings. The highest and best use of the assets held for sale is as real estate land parcels for development or real estate properties for use or lease; however, the Company has chosen not to develop or use these properties.

20


AARON'S, INC AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)

Certain Financial Assets and Liabilities Not Measured at Fair Value
The following table summarizes the fair value of liabilities that are not measured at fair value in the condensed consolidated balance sheets, but for which the fair value is disclosed: 
(In Thousands)
September 30, 2019
 
December 31, 2018
 
Level 1
 
Level 2
 
Level 3
 
Level 1
 
Level 2
 
Level 3
Fixed-Rate Long-Term Debt1

 
(124,239
)
 

 

 
(183,765
)
 


1 The fair value of fixed-rate long-term debt is estimated using the present value of underlying cash flows discounted at a current market yield for similar instruments. The carrying amount of fixed-rate long-term debt was $120.0 million and $180.0 million at September 30, 2019 and December 31, 2018, respectively.
NOTE 4. LOANS RECEIVABLE
The following is a summary of the Company’s loans receivable, net:
(In Thousands)
September 30, 2019
 
December 31, 2018
Credit Card Loans1
$
91,279

 
$
90,406

Acquired Loans2
821

 
5,688

Loans Receivable, Gross
92,100

 
96,094

 
 
 
 
Allowance for Loan Losses
(14,054
)
 
(12,970
)
Unamortized Fees
(5,916
)
 
(6,971
)
Loans Receivable, Net of Allowances and Unamortized Fees
$
72,130

 
$
76,153


1 "Credit Card Loans" are loans originated after the 2015 acquisition of DAMI.
2 "Acquired Loans" are credit card loans the Company purchased in the 2015 acquisition of DAMI.
Included in the table below is an aging of the loans receivable, gross balance:
(Dollar Amounts in Thousands)
 
 
 
Aging Category1
September 30, 2019
 
December 31, 2018
30-59 days past due
6.6
%
 
6.9
%
60-89 days past due
3.6
%
 
3.4
%
90 or more days past due
5.0
%
 
4.3
%
Past due loans receivable
15.2
%
 
14.6
%
Current loans receivable
84.8
%
 
85.4
%
Balance of Credit Card Loans on Nonaccrual Status
$
2,330

 
$
2,110

Balance of Loans Receivable 90 or More Days Past Due and Still Accruing Interest and Fees
$

 
$


1 This aging is based on the contractual amounts outstanding for each loan as of period end, and does not reflect the fair value adjustments for the Acquired Loans.

21


AARON'S, INC AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)

The tables below present the components of the allowance for loan losses for the three and nine months ended September 30, 2019 and 2018:
 
Three Months Ended September 30,
(In Thousands)
2019
 
2018
Beginning Balance
$
12,783

 
$
11,586

Provision for Loan Losses
6,068

 
6,471

Charge-offs
(5,423
)
 
(5,294
)
Recoveries
626

 
375

Ending Balance
$
14,054

 
$
13,138

 
Nine Months Ended September 30,
(In Thousands)
2019
 
2018
Beginning Balance
$
12,970

 
$
11,454

Provision for Loan Losses
15,291

 
16,011

Charge-offs
(16,065
)
 
(15,504
)
Recoveries
1,858

 
1,177

Ending Balance
$
14,054

 
$
13,138



NOTE 5. LEASES
Lessor Information
Refer to Note 1 to these condensed consolidated financial statements for further information about the Company's revenue generating activities as a lessor. All of the Company's customer agreements are considered operating leases, and the Company currently does not have any sales-type or direct financing leases.
Lessee Information
As a lessee, the Company leases retail store and warehouse space for most of its Aaron's Business store-based operations, call center space and hubs for its Progressive Leasing segment, and management and information technology space for corporate functions under operating leases expiring at various times through 2033. To the extent that a leased retail store or warehouse space is vacated prior to the termination of the lease, the Company may sublease these spaces to third parties while maintaining its primary obligation as the lessee in the head lease. The Company leases transportation vehicles under operating and finance leases, most of which generally expire during the next three years. The transportation leases generally include a residual value that is guaranteed to the lessor, which ensures that the vehicles will be returned to the lessor in reasonable working condition. The Company also leases various IT equipment such as printers and computers under operating leases, most of which generally expire during the next three years. For all of its leases in which the Company is a lessee, the Company has elected to include both the lease and non-lease components as a single component and account for it as a lease.
Finance lease costs are comprised of the amortization of right-of-use assets and the interest accretion on discounted lease liabilities, which are recorded within operating expenses and interest expense, respectively, in the Company’s condensed consolidated statements of earnings. Operating lease costs are recorded on a straight-line basis within operating expenses. For stores that are related to the Company's restructuring programs as described in Note 8, operating lease costs recorded subsequent to any necessary operating lease right-of-use asset impairment charges are recognized in a pattern that is generally accelerated within restructuring expenses, net in the Company’s condensed consolidated statements of earnings. The Company’s total lease expense is comprised of the following:

22


AARON'S, INC AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)

 
Three Months Ended
 
Nine Months Ended
(In Thousands)
September 30, 2019
 
September 30, 2019
Finance Lease Cost:

 
 
  Amortization of Right-of-Use Assets
$
396

 
$
1,302

  Interest on Lease Liabilities
83

 
296

Total Finance Lease Cost:
479

 
1,598

 
 
 
 
Operating Lease Cost:

 
 
  Operating Lease Cost Classified within Operating Expenses1   
27,647

 
84,789

  Operating Lease Cost Classified within Restructuring Expenses, Net
881

 
2,521

  Sublease Receipts
(628
)
 
(2,399
)
Total Operating Lease Cost:
27,900

 
84,911

 
 
 
 
Total Lease Cost
$
28,379

 
$
86,509

1 Includes short-term and variable lease costs, which are not significant.
Additional information regarding the Company’s leasing activities as a lessee is as follows:
 
Nine Months Ended
(In Thousands)
September 30, 2019
Cash Paid for Amounts Included in Measurement of Lease Liabilities:

  Operating Cash Flows for Finance Leases
$
345

  Operating Cash Flows for Operating Leases
91,333

  Financing Cash Flows for Finance Leases
1,971

Total Cash Paid for Amounts Included in Measurement of Lease Liabilities
93,649

Right-of-Use Assets Obtained in Exchange for New Finance Lease Liabilities

Right-of-Use Assets Obtained in Exchange for New Operating Lease Liabilities, Net of Exercised Early Lease Termination Options
$
27,185


Supplemental balance sheet information related to leases is as follows:
(In Thousands)
 
Balance Sheet Classification
 
September 30, 2019
Assets
 
 
 
 
Operating Lease Assets
 
Operating Lease Right-of-Use Assets
 
$
330,508

Finance Lease Assets
 
Property, Plant and Equipment, Net
 
1,018

Total Lease Assets
 
 
 
$
331,526

 
 
 
 
 
Liabilities
 
 
 
 
Operating Lease Liabilities
 
Operating Lease Liabilities
 
$
374,443

Finance Lease Liabilities
 
Debt
 
3,192

Total Lease Liabilities
 
 
 
$
377,635


Most of the Company’s real estate 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 Company currently does not have any real estate leases in which it considers the renewal options to be reasonably certain of exercise, as the Company's historical experience indicates that renewal options are not reasonably certain to be exercised. Additionally, the Company's leases contain contractual renewal rental rates that are considered to be in line with market rental rates, and there are not significant economic penalties or business disruptions incurred by not exercising any renewal options.

23


AARON'S, INC AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)

The Company uses its incremental borrowing rate as the discount rate for its leases, as the implicit rate in the lease is not readily determinable. Below is a summary of the weighted-average discount rate and weighted-average remaining lease term for the Company’s finance and operating leases:
 
Weighted Average Discount Rate1
 
Weighted Average Remaining Lease Term (in years)
Finance Leases
5.8
%
 
1.3
Operating Leases
3.6
%
 
5.0
1 Upon adoption of ASC 842, discount rates for existing operating leases were established as of January 1, 2019.
Under the short-term lease exception provided within ASC 842, the Company does not record a lease liability or right-of-use asset for any leases that have a lease term of 12 months or less at commencement, including renewal options that the Company is reasonably certain to exercise, and do not include purchase options. Below is a summary of undiscounted finance and operating lease liabilities that have initial terms in excess of one year as of September 30, 2019. The table also includes a reconciliation of the future undiscounted cash flows to the present value of the finance and operating lease liabilities included in the condensed consolidated balance sheet.
(In Thousands)
Operating Leases
 
Finance Leases
 
Total
2019
$
27,105

 
$
561

 
$
27,666

2020
108,113

 
2,001

 
110,114

2021
85,651

 
841

 
86,492

2022
65,160

 
83

 
65,243

2023
44,363

 

 
44,363

Thereafter
78,980

 

 
78,980

Total Undiscounted Cash Flows
409,372

 
3,486

 
412,858

Less: Interest
34,929

 
294

 
35,223

Present Value of Lease Liabilities
$
374,443

 
$
3,192

 
$
377,635


NOTE 6. COMMITMENTS AND CONTINGENCIES
Guarantees
The Company has guaranteed certain debt obligations of some of the franchisees under a franchisee loan program with several banks. In the event these franchisees are unable to meet their debt service payments or otherwise experience an event of default, the Company would be unconditionally liable for the outstanding balance of the franchisees’ debt obligations under the franchisee loan program, which would be due in full within 90 days of the event of default. At September 30, 2019, the maximum amount that the Company would be obligated to repay in the event franchisees defaulted was $29.8 million. The Company has recourse rights to franchisee assets securing the debt obligations, which consist primarily of lease merchandise and fixed assets. Since the inception of the franchisee loan program in 1994, the Company's losses associated with the program have been immaterial. The Company believes the likelihood of any future amounts to be funded by the Company in connection with these guarantees to be immaterial. The carrying amount of the franchisee-related borrowings guarantee, which is included in accounts payable and accrued expenses in the condensed consolidated balance sheets, is $0.3 million as of September 30, 2019 and December 31, 2018. The maximum facility commitment amount under the franchisee loan program was $55.0 million at September 30, 2019, including a Canadian subfacility commitment amount for loans to franchisees that operate stores in Canada (other than the province of Quebec) of CAD $25.0 million. On October 11, 2019, the Company amended its franchise loan facility to (i) reduce the total commitment amount from $55.0 million to $40.0 million; and (ii) extend the maturity date to October 22, 2020.
The Company is subject to financial covenants under the franchisee loan program that are consistent with the Revolving Credit and Term Loan Agreement, which are more fully described in Note 7 to the consolidated financial statements in the 2018 Annual Report. The Company is in compliance with all covenants at September 30, 2019 and believes it will continue to be in compliance in the future.

24


AARON'S, INC AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)

Legal and Regulatory Proceedings
From time to time, the Company is party to various legal and regulatory proceedings arising in the ordinary course of business.
Some of the proceedings to which the Company is currently a party are described below. The Company believes it has meritorious defenses to all of the claims described below, and intends to vigorously defend against the claims. However, these proceedings are still developing and due to the inherent uncertainty in litigation, regulatory and similar adversarial proceedings, there can be no guarantee that the Company will ultimately be successful in these proceedings, or in others to which it is currently a party. Substantial losses from these proceedings or the costs of defending them could have a material adverse impact upon the Company's business, financial position and results of operations.
The Company establishes an accrued liability for legal and regulatory proceedings when it determines that a loss is both probable and the amount of the loss can be reasonably estimated. The Company continually monitors its litigation and regulatory exposure and reviews the adequacy of its legal and regulatory reserves on a quarterly basis. The amount of any loss ultimately incurred in relation to matters for which an accrual has been established may be higher or lower than the amounts accrued for such matters.
At September 30, 2019 and December 31, 2018, the Company had accrued $5.7 million and $1.4 million, respectively, for pending legal and regulatory matters for which it believes losses are probable and is the Company's best estimate of its exposure to loss. Of the amount accrued as of September 30, 2019, the Company expects to recover $4.8 million via payments received from insurance proceeds. The Company records these liabilities in accounts payable and accrued expenses in the condensed consolidated balance sheets. The corresponding expected insurance recovery is recorded within prepaid expenses and other assets in the condensed consolidated balance sheet. The Company estimated that the aggregate range of reasonably possible loss in excess of accrued liabilities for such probable loss contingencies is between $0 and $1.0 million as of September 30, 2019.
At September 30, 2019, the Company estimated that the aggregate range of loss for all material pending legal and regulatory proceedings for which a loss is reasonably possible, but less likely than probable (i.e., excluding the contingencies described in the preceding paragraph), is between $0 and $1.0 million. Those matters for which a reasonable estimate is not possible are not included within estimated ranges and, therefore, the estimated ranges do not represent the Company's maximum loss exposure. The Company’s estimates for legal and regulatory accruals, aggregate probable loss amounts and reasonably possible loss amounts are all subject to the uncertainties and variables described above.
Privacy and Related Matters
In Crystal and Brian Byrd v. Aaron's, Inc., Aspen Way Enterprises, Inc., John Does (1-100) Aaron's Franchisees and Designerware, LLC, filed on May 16, 2011, in the United States District Court, Western District of Pennsylvania, plaintiffs allege the Company and its independently owned and operated franchisee Aspen Way Enterprises ("Aspen Way") knowingly violated plaintiffs' privacy in violation of the Electronic Communications Privacy Act ("ECPA") and the Computer Fraud Abuse Act and sought certification of a putative nationwide class. Plaintiffs based these claims on Aspen Way's use of a software program called "PC Rental Agent." Plaintiffs filed an amended complaint, asserting claims under the ECPA, common law invasion of privacy, seeking an injunction, and naming additional independently owned and operated Company franchisees as defendants. Plaintiffs sought monetary damages as well as injunctive relief.
After a protracted period of litigation, in August 2019, the Company reached a global settlement of the Byrd case, and of the Winslow and Price cases described below. The Company anticipates that the trial courts will dismiss the Company as a defendant in each of these cases in the near future.
In Michael Winslow and Fonda Winslow v. Sultan Financial Corporation, Aaron's, Inc., John Does (1-10), Aaron's Franchisees and Designerware, LLC, filed on March 5, 2013 in the Los Angeles Superior Court, plaintiffs assert claims against the Company and its independently owned and operated franchisee, Sultan Financial Corporation (as well as certain John Doe franchisees), for unauthorized wiretapping, eavesdropping, electronic stalking, and violation of California's Comprehensive Computer Data Access and Fraud Act and its Unfair Competition Law. Each of these claims arises out of the alleged use of PC Rental Agent software. The plaintiffs sought injunctive relief and damages as well as certification of a putative California class. In August 2019, the Company reached a global settlement of this case, along with the Byrd and Price cases.
In Lomi Price v. Aaron's, Inc. and NW Freedom Corporation, filed on February 27, 2013, in the State Court of Fulton County, Georgia, an individual plaintiff asserts claims against the Company and its independently owned and operated franchisee, NW Freedom Corporation, for invasion of privacy/intrusion on seclusion, computer invasion of privacy and infliction of emotional distress. Each of these claims arises out of the alleged use of PC Rental Agent software. The plaintiff sought compensatory and punitive damages. This case has been stayed pending resolution of the Byrd litigation. In August 2019, the Company reached a global settlement of this case, along with the Byrd and Winslow cases.

25


AARON'S, INC AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)

Regulatory Inquiries
In July 2018, the Company received civil investigative demands ("CIDs") from the Federal Trade Commission (the "FTC") regarding disclosures related to lease-to-own and other financial products offered by the Company through the Aaron’s Business and Progressive Leasing and whether such disclosures violate the Federal Trade Commission Act (the "FTC Act"). The Company submitted a significant amount of documentation from both the Aaron’s Business and Progressive Leasing in October 2018 and continued to work with the staff of the FTC during the course of its inquiry.
In October 2019, the staff of the FTC informed us that it had recommended to the FTC that it commence an enforcement action against Progressive Leasing for alleged violations of the FTC Act and the Restore Online Shoppers’ Confidence Act ("ROSCA") with respect to Progressive Leasing’s marketing and sales of its lease-to-own products. Notwithstanding this recommendation, the staff of the FTC continues to engage with us on terms for a possible settlement with the FTC, including with respect to the scope of possible monetary relief as well as various changes in the manner in which Progressive Leasing markets its lease-to-own products.
We believe that we conduct our Progressive Leasing business in compliance with the FTC Act and ROSCA and are prepared to vigorously defend our position. There can be no assurance, however, that we will reach a settlement with the FTC in connection with this matter or, if we fail to reach a settlement, that the FTC will not commence an enforcement action against Progressive Leasing.
The Company has incurred and, continues to incur, substantial legal and other fees related to this inquiry. Any settlement of this matter, or defense against any enforcement action, could involve substantial costs to the Company, including legal fees, fines, penalties, and remediation expenses, as well as changes in the manner in which Progressive Leasing markets its lease-to-own products, which could have a material adverse impact on our results of operations, cash flows or financial position. While the Company believes it is probable that it will incur a loss from this matter, in view of the complexity and ongoing nature of the matter, we are unable to estimate the reasonably possible loss or range of loss that we may incur to settle this matter or defend against any enforcement action potentially brought by the FTC.
In April 2019, the Aaron’s Business, along with other rent-to-own companies, received an unrelated CID from the FTC focused on certain transactions involving the contingent purchase and sale of customer lease agreements, and whether such transactions violated the FTC Act. Although we believe such transactions were in compliance with the FTC Act, in August 2019, the Company reached a proposed consent agreement with FTC staff that prohibits such contingent purchases and sales in the future. The Company is awaiting final approval of the consent agreement by the FTC.
Other Contingencies
The Company is a party to various claims and legal proceedings arising in the ordinary course of business. Management regularly assesses the Company’s insurance deductibles, monitors the Company's litigation and regulatory exposure with the Company's attorneys and evaluates its loss experience. The Company also enters into various contracts in the normal course of business that may subject it to risk of financial loss if counterparties fail to perform their contractual obligations.
Off-Balance Sheet Risk
The Company, through its DAMI business, had unfunded lending commitments totaling $262.3 million and $316.4 million as of September 30, 2019 and December 31, 2018, respectively. These unfunded commitments arise in the ordinary course of business from credit card agreements with individual cardholders that give them the ability to borrow, against unused amounts, up to the maximum credit limit assigned to their account. While these unfunded amounts represent the total available unused lines of credit, the Company does not anticipate that all cardholders will utilize their entire available line at any given point in time. Commitments to extend unsecured credit are agreements to lend to a cardholder so long as there is no violation of any condition established in the contract. Commitments generally have fixed expiration dates or other termination clauses. Since many of the commitments are expected to expire without being drawn upon, the total commitment amounts do not necessarily represent future cash requirements. The reserve for losses on unfunded loan commitments is calculated by the Company based on historical usage patterns of cardholders after the initial charge and was approximately $0.5 million as of September 30, 2019 and December 31, 2018. The reserve for losses on unfunded loan commitments is included in accounts payable and accrued expenses in the condensed consolidated balance sheets.
See Note 9 to the consolidated financial statements in the 2018 Annual Report for further information.
NOTE 7. SEGMENTS
As of September 30, 2019, the Company has three operating and reportable segments: Progressive Leasing, Aaron's Business and DAMI.
Progressive Leasing is a leading virtual lease-to-own company that provides lease-purchase solutions on a variety of products, including furniture and bedding, automobile electronics and accessories, mobile phones and accessories, jewelry, consumer electronics and appliances.
The Aaron's Business offers furniture, consumer electronics, home appliances and accessories to consumers primarily with a month-to-month, lease-to-own agreement with no credit needed through the Company's Aaron's-branded stores in the United States and Canada and e-commerce platform. This operating segment also supports franchisees of its Aaron's stores. In addition, the Aaron's Business segment includes the operations of Woodhaven, which manufactures and supplies the majority of the upholstered furniture and bedding leased and sold in Company-operated and franchised stores.
DAMI offers a variety of second-look financing programs originated through two third-party federally insured banks to customers of participating merchants and, together with Progressive Leasing, allows the Company to provide retail partners with below-prime customers one source for financing and leasing transactions.
Disaggregated Revenue
The following table presents revenue by source and by segment for the three months ended September 30, 2019:
 
Three Months Ended September 30, 2019
(In Thousands)
Progressive Leasing
Aaron's Business
DAMI
Total
Lease Revenues and Fees1
$
528,850

$
377,926

$

$
906,776

Retail Sales2

8,854


8,854

Non-Retail Sales2

31,085


31,085

Franchise Royalties and Fees2

8,087


8,087

Interest and Fees on Loans Receivable3


8,687

8,687

Other

319


319

Total
$
528,850

$
426,271

$
8,687

$
963,808

1 Substantially all lease revenues and fees are within the scope of ASC 842, Leases. The Company had $7.0 million of other revenue within the scope of ASC 606, Revenue from Contracts with Customers.
2 
Revenue within the scope of ASC 606, Revenue from Contracts with Customers. Of the Franchise Royalties and Fees, $6.3 million is related to franchise royalty income that is recognized as the franchisee collects cash revenue from its customers. The remaining revenue is primarily related to fees collected for pre-opening services, which are being deferred and recognized as revenue over the agreement term, and advertising fees charged to franchisees. Retail sales are recognized as revenue at the point of sale. Non-retail sales are recognized as revenue upon delivery of the merchandise.
3 Revenue within the scope of ASC 310, Credit Card Interest & Fees.

26


AARON'S, INC AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)

The following table presents revenue by source and by segment for the three months ended September 30, 2018:
 
Three Months Ended September 30, 2018
(In Thousands)
Progressive Leasing
Aaron's Business
DAMI
Total
Lease Revenues and Fees1
$
504,407

$
376,464

$

$
880,871

Retail Sales2

7,620


7,620

Non-Retail Sales2

44,368


44,368

Franchise Royalties and Fees2

10,153


10,153

Interest and Fees on Loans Receivable3


9,508

9,508

Other

551


551

Total
$
504,407

$
439,156

$
9,508

$
953,071

1 Substantially all lease revenues and fees are within the scope of ASC 840, Leases. The Company had $5.6 million of other revenue within the scope of ASC 606, Revenue from Contracts with Customers.
2 Revenue within the scope of ASC 606, Revenue from Contracts with Customers. Of the Franchise Royalties and Fees, $7.4 million is related to franchise royalty income that is recognized as the franchisee collects cash revenue from its customers. The remaining revenue is primarily related to fees collected for pre-opening services, which are being deferred and recognized as revenue over the agreement term, and advertising fees charged to franchisees. Retail sales are recognized as revenue at the point of sale. Non-retail sales are recognized as revenue upon delivery of the merchandise.
3 Revenue within the scope of ASC 310, Credit Card Interest & Fees.
The following table presents revenue by source and by segment for the nine months ended September 30, 2019:
 
Nine Months Ended September 30, 2019
(In Thousands)
Progressive Leasing
Aaron's Business
DAMI
Total
Lease Revenues and Fees1
$
1,568,584

$
1,189,914

$

$
2,758,498

Retail Sales2

30,561


30,561

Non-Retail Sales2

102,190


102,190

Franchise Royalties and Fees2

25,899


25,899

Interest and Fees on Loans Receivable3