Aarons 2005 Annual Report Download - page 22

20
Management’s Discussion and Analysis of Financial Condition and Results of Operations
Revenues
The 23.4% increase in total revenues in 2004 from 2003
is primarily attributable to continued growth in our sales
and lease ownership division, from both the opening and
acquisition of new Company-operated stores and improvement
in same store revenues. Revenues for our sales and lease
ownership division increased $174.6 million to $831.1 million
in 2004 compared with $656.5 million in 2003, a 26.6%
increase. This increase was attributable to an 11.6% increase
in same store revenues and the addition of 204 Company-
operated stores since the beginning of 2003.
The 25.4% increase in rentals and fees revenues was
attributable to a $139.8 million increase from our sales and
lease ownership division related to the growth in same store
revenues and the increase in the number of stores described
above. Rental revenues in our corporate furnishings division
increased $.7 million to $76.0 million in 2004 from $75.3
million in 2003.
Revenues from retail sales fell 18.2% due to a decline of
$11.6 million in our sales and lease ownership division which
reflects a decreased focus on retail sales in certain stores and
the impact of the introduction of an alternative shorter-term
lease, which we believe replaced many retail sales.
The 33.6% increase in non-retail sales in 2004 reflects
the significant growth of our franchise operations. This
franchisee-related revenue growth is the result of the net addi-
tion of 125 franchised stores since the beginning of 2003 and
improving operating revenues at maturing franchised stores.
The 29.8% increase in franchise royalties and fees primarily
reflects an increase in royalty income from franchisees, increas-
ing $3.8 million to $17.8 million in 2004 compared to $14.0
million in 2003, with increased franchise and franchising fee
revenues comprising the majority of the remainder.
The 120.9% increase in other revenues is attributable to
recognition of a $5.5 million gain on the sale of our holdings
of Rainbow Rentals, Inc. common stock in connection with
that company’smerger with Rent-A-Center,Inc.
Cost of Sales
The 22.7% decrease in retail cost of sales is primarily a
result of a decrease in retail sales in our sales and lease owner-
ship division, for the same reasons discussed under retail sales
revenue above. Retail cost of sales as a percentage of retail
sales decreased to 70.0% in 2004 from 74.0% in 2003 due to
the 2004 discontinuation of certain low-margin retail sales.
Cost of sales from non-retail sales increased 33.6%, primarily
due to the growth of our franchise operations as described
above, corresponding to the similar increase in non-retail sales.
As a percentage of non-retail sales, non-retail cost of sales
remained steady at 92.8% in both 2004 and 2003.
Expenses
The 20.2% increase in 2004 operating expenses was due
primarily to the growth of our sales and lease ownership
division described above. As a percentage of total revenues,
operating expenses improved to 43.8% for 2004 from 45.0%
for 2003, with the decrease driven by the maturing of new
Company-operated sales and lease ownership stores added
over the past several years and an 11.6% increase in same
store revenues.
As explained in our discussion of critical accounting
policies above, effective September 30, 2004, we began record-
ing rental merchandise carrying value adjustments on the
allowance method rather than the direct write-off method.
In connection with the change of methods, we recorded a
catch-up adjustment of $2.5 million to establish a rental
merchandise allowance reserve. We expect rental merchandise
adjustments in the future under this new method to be materi-
ally consistent with adjustments under the former method. In
addition, as discussed above, the revision of certain estimates
related to our accrual for group health self-insurance resulted
in a reduction in expenses of $1.4 million in 2004, partially
offsetting the merchandise allowance reserve expense.
The 29.5% increase in depreciation of rental merchandise
was driven by the growth of our sales and lease ownership
division described above. As a percentage of total rentals and
fees, depreciation of rental merchandise increased slightly to
36.5% in 2004 from 35.3% in 2003. The increase as a per-
centage of rentals and fees reflects increased depreciation
expense as a result of a larger number of short-termleases
in 2004 as described above under retail sales.
The decrease in interest expense as a percentage of total
revenues is primarily due to the growth of our sales and lease
ownership division related to increased same-store revenues
and storecount described above.
The 48.9% increase in income tax expense between years
is primarily attributable to a comparable increase in pre-tax
income, in addition to a slightly higher effective tax rate of
37.7% in 2004 compared to 37.0% in 2003 arising from
higher state income taxes.
Net Earnings
The 44.4% increase in net earnings was primarily due to
the maturing of Company-operated sales and lease ownership
stores opened and acquired over the past several years, an
11.6% increase in same store revenues, a 29.8% increase in
franchise fees, royalty income, and other related franchise
income, and the recognition of a $3.4 million after-tax gain
on the sale of Rainbow Rentals, Inc. common stock. As a
percentage of total revenues, net earnings improved to 5.6%
in 2004 from 4.8% in 2003.
Balance Sheet
CASH. The Company’scash balance increased to $7.0
million at December 31, 2005 from $5.9 million at December
31, 2004. The increase between periods is the result of normal
fluctuations in the Company’s cash balances that are the result
of timing differences between when our stores deposit cash
and when that cash is available for application against the
Company’soutstanding revolving credit facility.For additional
information, refer to the Liquidity and Capital Resources
section below.
RENTAL MERCHANDISE. The increase of $125.4 million in
rental merchandise, net of accumulated depreciation, to $550.9
million from $425.6 million at December 31, 2005 and 2004,
respectively, is primarily the result of a net increase of 132
Company-operated sales and lease ownership stores and two
fulfillment centers since December 31, 2004.