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Aaron's, Inc. (NYSE:AAN)

Q2 2012 Earnings Call

July 24, 2012 05:00 pm ET

Executives

Lee Wilder - IR

Gil Danielson - EVP & CFO

Charlie Loudermilk - Chairman

Ron Allen - President & CEO

Ken Butler - COO

Analysts

TJ McConville - Raymond James

Matt McCall - BB&T Capital Markets

Laura Champine - Canaccord Genuity

David Magee - SunTrust Robinson Humphrey

Dillard Watt - Stifel Nicolaus

Chuck Ruff - Insight Investments

Sasha Kostadinov- Shaker Investments

Operator

Good afternoon and welcome to the Aaron's, Inc. second quarter earnings conference call. Just to let you know, all lines will be muted during the presentation portion of the call, with an opportunity for questions-and-answers at the end.

At this time, I would like to introduce your host, Mr. Gil Danielson. Thank you and have a good conference. You may proceed, Mr. Danielson.

Gil Danielson

Thank you everybody for joining us today. As usual, I am going to turn it over to Lee Wilder, who does the Investor Relations work for Aaron’s and she will read our standard Safe Harbor statement and then we’ll begin the conference call. So, Lee?

Lee Wilder

Good afternoon. My name is Lee Wilder and I assist in Investor Relations for Aaron’s. The company’s earnings release issued today and the related Form 8-K are available on our website www.aaronsinc.com, in the Investor Relations section and this webcast will be archived for replay there as well.

With us today are Charlie Loudermilk, Chairman; Ron Allen, CEO; Ken Butler, COO and Gil Danielson, CFO.

Before we discuss the results, I would like to read the company’s Safe Harbor statement. Except for the historical information, the matters discussed today are forward-looking statements of the company. As such they will involve a number of risks and uncertainties including factors such as changes in general economic condition, competition, pricing, customer demand, litigation and other issues that could cause actual results to differ materially from such statements, including the risks and uncertainties discussed under Risk Factors in the company’s 2011 Annual Report on Form 10-K, including without limitation the company’s projected revenues, earnings and store openings as well as store acquisitions and disposition activity for future periods.

Ron, Ken and Charlie will have a few comments and then Gil will add further information. Ron?

Ron Allen

Thank you Lee and thank all of you for joining us today. We’re quite to please to report another outstanding quarter. The Aaron’s management team is executing as planned. Our business continues to grow as expected and demand remains strong for the basic home furnishings we offer.

Our customers although they’re struggling for a long period of time now with these difficult economic times desire and need our products to continue their daily lives. The customer experience with Aaron’s is build on a very close relationship with their store associates and customer’s benefit from the superior service, the flexible payment plans, no credit checks and the overall attention we give them in helping fulfill their needs.

This has been the key to our success for so many years and as we said before, we believe high consumer credit is actually a positive for our business. However, higher employment levels are more than negative. These market conditions probably will not change anytime soon, but we see no reason at this time that Aaron’s should not continue to perform well in the upcoming quarters.

Now our HomeSmart stores are getting revenues and customers and results of the stores continue to be encouraging. There is still effort needed to perfect the model and our plans are unchanged for store openings; with just a few more stores expected to be open before the end of this year. We anticipate having enough experience with HomeSmart probably about the fourth quarter for this year to make more specific plans for its future development.

Recently, we have been employing additional resources to improve our recruiting, our training, our social resource functions to enhance our planning process and we started several new store selection and development initiatives and we’re continuing to improve our information technology to enable our associates to better serve our customers.

We are investing in these resources to strengthen and ensure the foundation is in place to meet our future growth objectives. And finally, I have been spending a significant amount of time recently, visiting operating management and associates in many regions and stores across the country.

Just last week, Gil and I spend two days with Michael Ryan our VP of Northern Operation and his team. I still have a lot of stores to visit and associates of me, but I can tell you, I have been extremely impressed with our management team and our associates throughout the organization. Aaron’s is truly a very special company with great people, a superior business model, a long history of outstanding financial performance and returns to our shareholders and I look forward to continue to report the company’s future progress.

Thank you again for your support and interest in Aaron’s and now Ken will talk about some of the results of the quarter and at the conclusion of Gil’s comments, we will be happy to answer any questions that you may have. Ken?

Ken Butler

Yeah, good evening everyone and as Ron mentioned, business remains strong, evidenced by another quarter of strong customer growth. For the three month period, we added another 44,655 customers to our portfolio representing a 14.2% increase over last year’s customer count.

All of this resulted in a robust 6.1% increase in same store sales in company source and a 7% increase in same store sales in the franchise community. Believe me we don’t take this success for granted, because I am proud of our fellow associates and franchisees who serve our customers each and every day. They continue to meet and beat every challenge and new initiative that we place before them.

In addition to our strong customer growth, we had a very active quarter in adding new stores with 18 new company operated stores and 11 new franchise stores. We also acquired 12 franchise stores. This countdown is now getting very close to celebrating our 2000th store; five of those stores opened for the quarter are our HomeSmart brand, one being our first franchise store.

We have three or four more company stores set to open this year and are slowing the growth balance our management can catch up with our aggressive growth thus far as well as refining the model. We will remain very optimistic about the future for HomeSmart as customer growth and traffic is brisk and most importantly with 78 stores opened we see no cannibalization to the nearest Aaron’s location.

Our business fundamentals are sound and our program widely accepted by our target customer base. We are very excited about the new store operating system currently being developed by our IT team which will be advanced improvement from our current system. Our IT development team has been working literally around the clock to launch our new store operating system. They will be designed for more stores and to handle more customers. We should have a couple of 100 stores on the new system by year’s end and the balance of the stores in the first half of 2013.

Recently, our regional managers were given a sampling of the system and literally gave the IT team rating reviews. In conclusion, we remain focused on delivering excellent results in the future and I am going to turn the call over to Charlie for a few comments.

Charlie Loudermilk

Well, thank you Ken excellent. Number one, I want to thank all members on the team; 11,000 people that built this company and running the company extremely well, I think the numbers you can see back there.

First, I am looking forward to rolling out the HomeSmart. It’s a tremendous opportunity there, but we need to be very cautious on how we are going to do it, but I am very, very enthused over doing this. The numbers look more like we can do this, like make a real impact on the company, having this we could grow over.

Here again, I want to thank everyone; I know a lot of you listen to this call and first I want to thank you for all the work you have done, not only them in the last quarter or two, but over all the years that we have been building this company. Gil?

Gil Danielson

Well, thank you Charlie. I am going to review the financial highlights for the quarter. It was another great quarter for us, as you have read in our press release and I have a lot of strong revenue growth. The company revenues for the quarter increased 12% and revenues for this much were up 11%. The company revenues for the quarter were $539.5 million and $1.126 billion for the six month period.

Our franchisees continue to build their revenues and have also another good quarter. The revenues were up 9% for the quarter and also 9% for the years and for this month they did $502 million in revenue.

Those are revenues of the franchises. They are their storefront revenues. They are not revenues of Aaron’s Inc. Same store revenue growth in the second quarter for the company store was 6.1% and 4.3% for stores that were over two years old. For stores over five years old, the same store revenue growth was 3.3%.

Franchise stores again have positive same store revenue growth or same store revenue growth were quite strong in the first quarter and also in the second quarter, same store revenue growth for the franchise were up 7% for the quarter compared to the same quarter last year.

I get good company operated customer growth and franchise growth as we noted in the press release and a 14.2% increase in total customers at the end of June compared to the same period a year ago. The customer count on same store basis for our company operated stores was up 8.8% in the quarter compared to the second quarter last year.

As I mentioned, the same store revenues for the franchise stores was up 7% for the quarter. Net earnings for the quarter were $36.2 million versus $10.8 million in the same quarter last year and net earnings for the six months were $107.5 million this year versus $55.2 million last year.

Our diluted earnings per share were $0.47 this quarter compared to $0.13 for the quarter last year and for the six months the diluted earnings per share were $1.40 versus $0.58 for 2011.

As we talked about numerous times over the last year or so, we did have the accrued lawsuit expense that we recorded in the second quarter of 2011 a year ago and with a charge of $36.5 million, we subsequently settled that lawsuit and reversed although $1 million of that accrual in the first quarter of this year and that effect was $35.5 million of income in the first quarter or $0.29 per diluted shares.

If you exclude all the lawsuit related charges in reversals, net earnings for the second quarter would have been $36.2 million in this year compared to $33.3 million last year and diluted earnings per shares would have been $0.47 in the second quarter compared to a $0.41 last year which would be a 15% increase in diluted earnings per share this quarter compared to last quarter.

For the six months period, earnings again and net earnings without all the, with the crude litigation expense, charge and the subsequent reversal net earnings for the quarter would have been $85.5 million compared to $77.7 million last year and diluted earnings per shares would have been $1.11 versus $0.96 last year, a 15% increase.

As noted in our earnings release, we have reconciliation for those numbers in the back of the earnings release. The revenue of HomeSmart division continues to grow, revenues in the quarter were $13.7 million compared to, it was just starting out last year to $657,000 last year in the same quarter last year.

For six months the revenues of HomeSmart division were $26.2 million compared to just a little bit less than a $1 million last year. Again, we started the HomeSmart store, all the HomeSmart store system is about a year and a half old but it's just started ramping up back in 2011 and it's ramped up at its best in revenues and also in earnings and so, has had a lot of revenues for us this year.

Franchise revenues were up 6% for the second quarter compared to the same quarter last year and for this month’s franchise revenues were up 7% compared to the prior year. At the end of June, the company had 1,176 company operated Aaron Sales & Lease ownership stores, 706 Aaron Sales & Lease ownership franchise stores, 78 HomeSmart stores, one franchised HomeSmart Store, 17 company operated Rimco stores and six franchise stores, we also had one office furniture store remaining. So our total store count at the end of June was 1,185 stores.

We continue to award area development agreement to companies, individual, who wanted to franchises and during the quarter we awarded area development agreements to open up additional IT and additional franchise stores.

Our backlog, our pipeline of stores, franchise stores that have been reserved and deposits may to open in the future was 220 stores at the end of June.

Our guidance for the third quarter of 2012 this is revenues of approximately $530 million and in earnings per share in the range of $0.40 to $0.44. On a non-GAAP basis which excludes the lawsuit charges, bank credits. Our guidance for non-GAAP guidance for 2012 it was diluted earnings per share in a range of $1.98 to $2.06. And EPS guidance in the third quarter and fiscal year lets not assume any significant repurchases of company stock.

And again our new store guidance is the same and the earnings guidance and revenue guidance has not really changed since last quarter. We continue to expect new store growth in the range of 5% to 7% this year and look for our most product and equal [means] between company operated and franchise stores and including the handful of HomeSmart stores right now at the end of June we had 78 HomeSmart stores, it looks like there is three or four more stores that could probably open undoubtedly will open before the end of the year which just a little bit more than 80 stores by the end of 2012.

Our manufacturing plants continue to do well; they did increase production in 6% for the quarter and basically just reduction of the increased demand by our inner stores for furniture and [living] products. Those are the highlights for the quarter. We will certainly take any questions people may have.

Question-and-Answer Session

Operator

(Operator Instructions) The first question comes from the line of Brad Thomas with KeyBanc Capital Markets, Inc. Please proceed. Mr. Thomas has dropped out of the queue. The next question comes from the line of Bud Bugatch with Raymond James. Please proceed.

TJ McConville - Raymond James

Good afternoon Ron, Good afternoon Ken, Charlie, Gil it’s actually TJ McConville filling in for Bud. Congratulations on another strong quarter here and thanks for taking my questions. First question is on the customer count, Ken or Ron I mean we are accelerating again and you mentioned that the media campaign that was ramping last quarter is there anything else to point to here with that really strong gain this quarter.

Ken Butler

Well I think we have been working on this and as we mentioned in may thoughts we think our traffic in our stores is probably been as good as it has been for long, long time so you know our challenges how we are executing do a better job on the sales floor we are really working and focused on that this year particularly, just changing a few things we have been doing in the past. So hopefully, we are seeing some results and you are seeing some results and I still think the opportunities here we can do a lot better.

Ron Allen

Ken, you have been around the system quite a bit this year already (inaudible) associates know you really goes along they just do the business.

Ken Butler

Right just walking intact I mean there is no secret start business and we take care of customers, our philosophy is business will take care of itself and that is our focus point.

TJ McConville - Raymond James

Yeah and it certainly appears to be working guys, but briefly to my next point were by my math now you have surpassed the 850 customers per company on store level and when do you start getting concerned about that number Ken, with serving that many customers or do you ever get concerned about it?

Ken Butler

No not at all in fact 850 to me seem still small but we got stores that this year it will have 3000 customers. So it is pretty exciting you get about seven years ago we had in a majors meeting I think it was 50 year long and a 1000 store strong and we only had may be six stores that achieved $2 million in revenue and this year we are tracking to get being north of 200 stores in the over of that $2 million mark so that is a pretty neat milestone but hopefully culturally we are changing we have the target everybody is going after. We will have store issue and it gets $5 million in revenue.

Ron Allen

Also Ken, focused on the new point of sale system and we have developed an information technology that should be a real boost to our associates in serving more customers, serving more efficiently and really making the transactions much faster for the customer.

Ken Butler

Yeah it's funny, the bigger we get, the worse the system (inaudible). So it wasn’t designed for 3000 customers, so I think it's going to take a lot of strip off the stores when we get the converters on.

TJ McConville - Raymond James

Funny how those systems work that way. The next question I had was on HomeSmart. So up to $13.7 million, can you give us how close you were to profitability in the segment in the quarter, are we nearing that point?

Ron Allen

We were getting a little closer than we were in the first quarter, but we did lose during the quarter about $1 million. If you look it, I think we lost about $1.5 million in the quarter and in fact that compares to $1.1 million we lost a year ago in the same quarter when we were just starting up the division. Probably about a little bit poor results than we anticipated. We are certainly anticipating losing some money from HomeSmart, a little bit larger than we anticipated, but a lot of new stores in the system, a lot of stores ramping up.

And we are very encouraged and we will still lose some money in the third quarter. But I mean, if everything goes well, the plan will start making money in the fourth quarter for HomeSmart. And as we said and then we have to really wave another four or five months of experience at HomeSmart. We have to make some decisions on where we go from here, what far is the growth plans to get more financial results on our bill.

TJ McConville - Raymond James

Last one from me guys. On the franchise HomeSmart store, forgive me if you've told us this before, but is there, are there any differences in the geographic protections that you are offering the franchisees. One, is there a pipeline of franchisees; and two, are there any differences in the geographic protections as in how close can they get to let's say an Aaron's franchise?

Ron Allen

Yeah it's really hadn’t been completely defined, but we see and we’re getting a lot of energy from our existing franchisees that are chopping at the bits, but HomeSmart, in our own backyard. So we don’t want to franchise A, a franchisee from Aaron's to have competitive franchisee from HomeSmart. So we feel like a lot of our really good operators will and they are franchising HomeSmart and they will do the same thing we’re currently doing in our current markets competing Aaron’s against the HomeSmart model.

Gil Danielson

That one franchise store is part of our evaluation program as well. That's the only one we plan to open as a franchise this year.

Ron Allen

It’s actually one of our most successful franchisees in the system. But he certainly knows the business and how to run the stores and so. He is kind our franchise, that's really help us evaluate.

Gil Danielson

Really, if you go back to the years, our franchisees have given us so much input that we felt like it will be good to have a franchisee into the HomeSmart system to then look at the, what we developed so far and the track we put in on, so that’s another reason and part of the test.

Charlie Loudermilk

When we put this and how we act is part of what we got to understand in the next six months. We cannot deteriorate our franchise operation. We have a very strong franchise group. I don’t know if any company has a better franchise operation that we have and we got to protect that very, very carefully and that's one of the reasons, that we're going to wait six months at least to figure out how we can do this and not yet franchise operated (inaudible) each other.

So franchises are a whole different business when I (inaudible) one of the franchisee, a different franchise, kind of said so you’re manufacturing, you’re renting, you’re selling. So when you get in front and in franchising, you're getting in to a whole different business and I agree with them, that I think we’ve handled it extremely well. We’re very open minded, we’re very open and we have no secrets and this, we’re very open to what we are thinking.

So I am very happy that we franchise. That’s a question I get asked quite a bit, are you happy with franchises. And the reason, and we had to franchise is this market is so large. (Inaudible) that in anyway, that any of those will live long enough to take care of all the market. So we had to get some other people involved. It wasn’t really a financial move. It was all getting, we had to capitalize, it is the matter the ability to take care of the market.

Ron Allen

Well, if anybody wants to be a franchisee, talk to (inaudible), certainly talk to.

Operator

The next question comes from the line of Matt McCall with BB&T Capital Markets. Please proceed.

Matt McCall - BB&T Capital Markets

So just looking at your guidance and trying to backend to some of the implied leverage. Gill, it’s probably for you. The incremental margins sub-10% this quarter, sounds like maybe you were addressing some of that with the catch up comment about HomeSmart. That might have been you Ron or Ken, I can’t remember, but maybe that’s part of the drag on your margin. So first part of question, is HomeSmart the biggest part of the drag on the margins and are you implying a bit of a pickup in incremental profitability in the back half?

Gil Danielson

Well our margins. I mean our margins could have been a little better this quarter and in the first quarter. We have a few initiatives here in the home office that we are doing that cost us a little money. But not at the store level, the store levels are doing very well and the revenue profitability, but we are incurring some more operating spends this year just to kind of some of the things we should have been doing in the previous year as you're kind of catching up in that regard.

So that hurt the margins a little bit in the quarter. I mean that will continue during the rest of the year, but again I think we can improve margins moving forward the rest of the year, but it’s not going to be dramatic. But I do believe revenue growth will be strong, our same-store revenues are up 6%. I will believe that they will continue to be in mid-single digit during the rest of the year and that certainly will drive the business and we say customer growth is strong.

Matt McCall - BB&T Capital Markets

Gil, in the past you have given us some idea that new store drag, can you talk about that on the Aaron’s and the HomeSmart front?

Gil Danielson

Yeah roughly for the Aaron stores, the sale of stores, the new store drag for the second quarter is about $0.02 in the second quarter and for the first six months, it was $0.06 and then you put that new – the new store drive for HomeSmart was about $0.01 both quarters and a couple of cents for the quarter, and maybe that's rounded to a $0.01 for the year. So you know historically our new store drag has been $0.03 to $0.04 each quarter and it's still pretty much in that range if you include the HomeSmart stores in this and that will continue.

I think the positive is, we do believe HomeSmart's loss will diminish, but it is not a big number in the scheme of it. You have to remember though last year in HomeSmart I think we lost $0.07 in the start up in HomeSmart last year. We'll certainly do better than that. We may lose some money overall for HomeSmart for the year, but it won’t be $0.07.

Matt McCall - BB&T Capital Markets

Okay and then finally I guess this maybe for you Ron. Can you talk about the brand investment that you are making on HomeSmart, I guess anybody could chime in and just how, sounds like you are catching your breath a little bit here, but talk to me about the planned brand investment as we move through the back half of this year in HomeSmart.

Ron Allen

Well, when you say brand investment, let me be sure honestly exactly what you mean, is it the marketing and effort in that regard?

Matt McCall - BB&T Capital Markets

Yeah, just tell the world what HomeSmart is. I mean how much, maybe this is repeating myself at the new store drag question, I am just trying to understand how much of it is trying to build the brand outside what you've already got with Aaron’s?

Ken Butler

Yeah, hey Matt this is Ken. We are not spending anything different with HomeSmart than we are doing with Aaron’s. So it's, even though you might think we ought to go big with it, we've worked on a store-by-store operating basis. It’s the same exact budget that Aaron’s has used. In fact really the first half of the year has been a little bit under budget thus far. So it won't mean anything different than anything Aaron’s has done over the last 20 years.

Charlie Loudermilk

And much of the effort of our team heading up HomeSmart; we have an excellent team doing that has been really improving the efficiency and the operation of some of the stores we acquired from the Crusader line, Ken……

Ken Butler

We went for a conversion and spent a few dollars on advertising, but that was no different than a new store.

Charlie Loudermilk

The organic stores have been performing a little bit better overall than the acquisitions, but they are getting those acquired stores into good shape now. So again, we are overall encouraged by the results today.

Matt McCall - BB&T Capital Markets

Okay, thank you guys.

Charlie Loudermilk

Gil, let me ask you, what is our current bank balance, let people know that we do have money to spend when we decide and we are right to spend?

Gil Danielson

Yeah I mean as we have been running cash balances for the last couple of years, our bank balance at the end of June was $110 million. On top of that, we also had I think it was $185 million or so of money just in relatively short term investments for cash.

We did generate some cash flow for the six months, but our cash balance went down a little bit, but we have started to pay federal income taxes as we said we would, and I think we paid just under $70 million in federal income taxes this year, whereas last year we weren't paying any, so that has taken our net cash flow from operations down a little bit.

We have purchased some stock in the last quarter, as we noted in the earnings release, just a little bit under 400,000 shares for a cost of $9.5 million; I think at average stock price of about $26 a share when we bought it.

So looking forward, I think we will, even though we are paying taxes now, I think we certainly can generate some cash this year and I think we will still continue to look to buyback the company stock from time to time as deemed appropriate and obviously use the rest of the money we have to continue to build the business, the stores that we are opening, our new store opening plans remains the same.

We are opening up approximately a net basis 75 new company stores which includes a handful of HomeSmart stores and a net of 50 franchise stores and those store plans are -- that guidance is unchanged and it is on track for the rest of the year.

So that's kind of it from the -- we've certainly got a strong balance sheet as we've had now for a number of years. We do have excess cash; we certainly have the financial resources to execute our plan to build the business to buy some stock back from time to time and to execute as we've done.

Operator

The next question we have comes from the line of Laura Champine with Canaccord Genuity. Please proceed.

Laura Champine - Canaccord Genuity

My questions are again about HomeSmart; can you talk a little bit more about the nuts and bolts of building that business, meaning does it operate with a separate group of district managers and eventually regional managers? Can they use the same cross stocks as Aaron’s or do you need to invest in distribution, perhaps technology; is there a higher level of advertising spend as a percentage of sales as you build that brand, if you could give us a sense of what's required to really grow it?

Ken Butler

Okay Laura, you may have to repeat some of those questions, but I’ll take a stab at a little bit of it. The origination of the HomeSmart brand came out of our operating VPs, each opened three or four stores a piece, assigned a regional manager to that. Since then we've appointed a VP of Operations, Marco Scalise to oversee the interim operation and they’re completely run as a separate company from Aaron’s. So they’re not really privy to what's going on necessarily inside the Aaron’s camp and neither is Aaron’s to the HomeSmart.

Our Marketing VP is Mark Rudnick; he was a 10 year veteran of marketing for Aaron’s and he’s excited about the new challenge and the bottomline is we’re having more spin on a per store basis in Aaron’s store which we’re pretty tied on our ad spend.

For merchandising and products go, we run out of the same fulfillment centers. Some of those fulfillment centers when they deliver to HomeSmart stores, they might deliver to an Aaron’s store right down the road on the next stop and they deliver on a wide truck and not a (inaudible) from Aaron’s.

We don’t hide the fact that it’s a different company, but we don’t promote the fact that it’s a different company, because lastly we see it as a different operating division under separate management and under separate business plan, so the things do have worked very well, and at the end of the day, if you look at the ramp-up cycle of HomeSmart compared to an Aaron’s it’s very, very, very similar.

Laura Champine - Canaccord Genuity

And the only follow up I would have on that Ken, if a district manager for HomeSmart has three or four stores reporting to him, what's the average for an Aaron’s district manager and how quickly can they scale up to more of an Aaron’s level?

Ken Butler

Well, they’re more at Aaron’s level now because when we first started, they just opened three or four. We only opened them; maybe Gil, you probably have a number of close to 30 organic stores, and so the rest of them have been purchased and with that we purchased people with it. So the systems are having to grow up pretty quick; but we do have areas we know we can expand in and if we hit the button and expand more, we’ve got a pretty good basis that we can just back fill the markets we are already in and have in a lot of stores opened.

Operator

The next question comes from the line of David Magee with SunTrust Robinson Humphrey. Please proceed.

David Magee - SunTrust Robinson Humphrey

Just getting back to the customer growth again, can you tell me what the marketing costs were as a percent of sales and what were the prospects of that line item over next couple of quarters?

Gil Danielson

It’s not up from what it has been in the past; I have to be clear on I will have to get back to…

Ron Allen

It’s actually less, it might be a little worst, but it’s not a substantial investment in marketing that is really the business; I mean I think the market is (inaudible) and we talked about that before, but it’s not like we are spending more on marketing for the business.

David Magee - SunTrust Robinson Humphrey

And then secondly, are you seeing any impact from the RAC acceptance as that business seems to grow pretty well?

Ron Allen

What is that called? I got answer there; I don’t think that’s a competitive model, our model, you might argumentatively say that it is, but it’s not really, I mean if we did it, we certainly don’t see any evidence of it.

David Magee - SunTrust Robinson Humphrey

So you’ve not seen in the stores that would be close to where those kiosks are located, you don’t seen much of an impact there?

Ron Allen

No.

David Magee - SunTrust Robinson Humphrey

Okay. It looked like to me that the growth profitability on your core business improved year-to-year which is a uptick from always on the first quarter; is that something that you are seeing and that might continue going forward?

Ron Allen

The business has been good, I mean as long as revenues are going up, lots of good things can happen and I think certainly leveraging off that skill, it’s certainly a real positive and could continue in the future for sure, I mean that’s what we’re counting on.

David Magee - SunTrust Robinson Humphrey

Is that was causing depreciation a bit less as percentage of sales?

Ken Butler

No, the depreciation would jump around a little bit a lot of that due to the product mix and you know I think we do excellent job on our buying our products many from our vendors around the world. It's an interesting market out there in buying products as you all know from the supplier standpoint from the rate standpoint and from the logistics standpoint and the constant challenge, but I think we do very well that are big and we are obviously one of the few retailers in the country that are growing the same store revenues in the way we are growing and opening stores. So we are very important to our vendors I think we are do get the best available pricing in most cases that we can.

David Magee - SunTrust Robinson Humphrey

And we can (inaudible) that down, is it more in the CE side or is it more on the frontier side that you are seeing?

Ken Butler

If you look at all our product category, it's the only one maybe plant with computers and I know that to see we are in television business is extremely flat but we have been able to still have some pretty neat product innovations and back we opened a 92 inch big LED TV in the store a big --- with Mitsubishi just landing right now and we get some significant price drops on the 82 and the 73 inch. So they are big and our customer gets big and I know they get the 10:80 technology to go with it. So it's a big deal for us and we think the bigger the better TV the better its going to be.

Ron Allen

Also the refrigeration products embedding them with strong cash --- recently, so it's a mixed bag across the product line you know one thing as we have said before we are fortunate we are in the furniture, appliance and electronics and computers and it is not one product category, so it seems like one is doing well I mean if something else is not doing as well but its kind of whole balances out in the end.

Charlie Loudermilk

I know it's my job over the years to look at other companies and how they perform and then, and I think I can say that we've never had a down quarter in 50 years. So I don't know if any other companies that can make that statement and I don't see if we don't have any (inaudible). Our job if market is there, you know as far as my job is to look at the market, the market is certainly there and from my point of view it's just a matter of execution, getting better and better manager, store managers and directions out of his home office.

So I am very proud of the fact that we've been able to change over the years basically Ken and I have developed this Rent-to-Own concept and people thought it wouldn't work, but we've made it work and its doing extremely well and I'm very happy we've done that, our competitors, we've many, many competitors and we will continue to --- because our program is very, very strong and we have a team to run it as it should be run and we work as a team and we get along well. I have tried other things over the years and it [hasn’t] worked but our program right now is working extremely well, we have great people and I see a real bright future for the company.

Operator

The next question comes from the line of Dillard Watt with Stifel Nicolaus. Please proceed.

Dillard Watt - Stifel Nicolaus

I want to start out if we can on the subject of early payouts; I know you commented on in the first quarter that you had a competitor today, saying that they were still seeing early payouts through April. So questions there will be one, is that something that you had seen as well in terms of early payouts moving into April and you can better excited some comments about, you know they felt that in general the average tax refund was higher this year than was last year. I was curious if you were seeing the same thing and just kind of your pivotal thoughts on all things, early payouts.

Ron Allen

Same store basis, our early payouts were up just a little over 11% in quarter this year versus a year ago quarter and I figure that there were up first quarter. They were strong in the first quarter too.

Ken Butler

Well Dillard, one of the key things with the payout and we welcome payouts, that makes the customer want and they got what they wanted. We have make their dream come true but it’s our ability and for that customer to have a good experience and to renew the deal. So that’s why this customer gain so cripple and what we do, they payout and then we release something else and we create a new annuity and if you look at our customer growth in the first quarter as well as this quarter, I think we’re highly successful in converting those payouts to new business and opportunities.

Ron Allen

Ken, what's really impressed me being out in our stores to see the relationships that our managers and associates have with our customers and the customer wanting to renew for another product. It really works.

Dillard Watt - Stifel Nicolaus

Would you have any way of maybe putting in any type of number on that, you know, past three quarters, two-thirds, in terms of people that go ahead and renew with a new lease?

Ken Butler

Well, it’s little difficult because if you go look at each customer has 1.5 agreements with us. So if we can go ahead and get them into the second agreement before they payout the first, that’s a successful too and after they leave it, if we bring them back to it, which we do a lot of marketing efforts to bring back that customer and make them special offers, so you really can’t pinpoint the payout how they come back and they do come back and a lot of them, we emphasize them to go ahead and get the extra agreement before they payout and we have lots of ways to do that. So it’s very difficult to pinpoint. We once said that we think 80% of our customers stay with us and our business philosophy is that three customers in a way that we want customers to like.

Charlie Loudermilk

The report I see every week, Monday is a number of customer giving. If we’re gaining customers, even though payouts are increasing, that means this company is very healthy. When we first look at this --- to own our competitors said that just won't work. As dated 12 months they will payout and we can’t replace them. Well it's just the opposite and that’s the reason why our program is working as well as it has because we are replacing --- and that’s the key really for the health of the company and Ken, we replace all our payouts and I like early payouts, that's money. I like that.

Ken Butler

I can’t tell you how many customers that they feel like they come in and they are just using our 120 day Same as Cash program, they do it and they come back to us and they do it again and again, so I am okay with that if that’s the way they want may choose to do it. They don’t really mentally think they are releasing the product.

Dillard Watt - Stifel Nicolaus

I appreciate the color there. And then I guess really the only thing that one of the very, very few things you can even look at with slightly negative light and today's really strong results was may be just expecting with the revenue number that got a little bit more leverage from SG&A I think it was down, it was up actually a little bit as a percent of sales I know you mentioned the IT investments and the various resource investments is that there or what may be prevented some more leverage than…

Ken Butler

It’s pretty much in the home office area, some of the projects we talked about. That’s where we are a little short but we will work on improving that, believe me that has our full attention.

Dillard Watt - Stifel Nicolaus

Okay and that should be up sort of the back half of the year rolling off at the beginning of next year?

Ken Butler

Yeah, I would say that’s probably from a fair assessment.

Ron Allen

Particularly in the IT, I know we really suited up to get this project done.

Operator

The next question comes from the line of Brad Thomas with KeyBanc. Please proceed.

Unidentified Analyst

Hey guys this is actually [Jason] standing in for Brad this evening. I wanted to touch on first there have been some struggles in the consumer electronics industry I know in the past you guys have been able to manage that deflation by kind of altering the length of the terms, some things like that. Is there kind of a tipping plant where you guys feel that you may be getting close to a point where that may not be as reasonable anymore or is there a point when that deflation kind of becomes a concern for you?

Ken Butler

Well Jason, this is Kenny and I think there comes a point that some products become cash sale product and if you go to the Wal-Mart stores, then there are a lot of items that are underneath the $100. They become kind of a non-leasable item that gosh we go back 15 to 20 years and we released some portable TVs that cost $300. So the world has changed a lot. VCRs that cost as $500 to $600 and you can buy a Blu-ray player now for $70 to $80 at retail, but we view those items as great add-on items when we do tonnes of packaging. So the more we can create value for the customer and wrap packages together, I think it makes our proposition very attractive and so it is okay that prices come down at anytime and the more they come down, the more values we can offer to customers.

Ron Allen

Jason we did make a little bit improvement in our average monthly customer payment. At the end of June, it was a $131, it's up maybe $0.25 from the quarter a year ago.

Ken Butler

You mean the whole quarter we raised $0.25, we have been working hard for you.

Ron Allen

But a year ago it was $134. I mean it's down substantially, down $3 from a year ago but the good news, pennies are pennies but they add up. I guess the good news it kind of stabilizes your last three quarters or so. And we work hard though, the work on that, but if we can kind of stabilize that there and continue the customer gains that we have been having been in and makes it easier to feel real confident about the revenue growth in the future.

Unidentified Analyst

And then kind of to go along with that, I mean with gas prices coming down a little bit, have you seen any change, any consumer behavior, maybe an extra add on or maybe a slightly higher ticket item.

Ron Allen

No, not at all. (inaudible). Yeah, we've only touched, but for the price I can tell on our line item P&L is the gas prices have upped a little bit, so.

Unidentified Analyst

Alright and then any noticeable trends in any of the segments that we should be aware of that are pretty much consistent?

Ron Allen

They are pretty consistent, really nothing remarkable to speak of.

Operator

Next question comes from the line of Chuck Ruff with Insight Investments. Please proceed.

Chuck Ruff - Insight Investments

Hi, you mentioned the taxes and cash flow et cetera. Can you update us on what you expect your cash taxes to be this year and next, that you gave us some numbers in the fourth quarter column, I want to know if those are still accurate?

Gil Danielson

I think this year, again we paid almost $70 million. I think we will pay about a $140 million in cash taxes this year. And you know, these are estimates. It depends on how the things happening and how we do, but they’re probably around $209 million in 2013 and in 2014 it will drop down again to about $140 million. And that all is based on meeting our financial goals and that there is no change in any legislation from the federal government.

Chuck Ruff - Insight Investments

Yeah big assumption there, right?

Gil Danielson

We don’t know.

Chuck Ruff - Insight Investments

And you said you paid 70 so far in the first half?

Gil Danielson

Yeah, the federal tax is about 66 million, just under 70.

Operator

The next question comes from the line of Sasha Kostadinov with Shaker Investments. Please proceed.

Sasha Kostadinov- Shaker Investments

Can you quantify the amount of your IT spend in the quarter and perhaps how much you're planning on for the remainder of this year?

Gil Danielson

I don’t have the number right in front of me. A lot of the IT, the new systems we are developing are capitalized expenditures. So it's not (inaudible) hits in the P&L be. Once we get the projects done and we’ll amortize the cost over the useful life of the system.

We have a great effort going on, we've a lot of people working on it for sure and the cash outflows is pretty significant, but from a P&L standpoint, it means (inaudible) a little bit, but it is not a huge number.

Sasha Kostadinov- Shaker Investments

Then I guess I am just trying to understand your excellent obviously top line number, but I would have expected little more flowthrough to the bottom line and may be you could?

Gil Danielson

Yeah we have a few projects. Now we've had as we mentioned before, we have a few – we've had a lawsuit last year, a couple of lawsuits last year that made a lot of publicity. One was the lawsuit in one of our franchises regarding the computer and that has spurned a lot of interest from everybody around the country. Of course the federal government is very interested in kind of dragged out to other AGs and things like that. So the areas of privacy like many companies are facing now is certainly a big emphasis and we will have to spend some money there, tightening up our procedures there to make sure that we are in compliance and we have a firm foundation to build the company in the future. So that's a lot of it and it's the legal and privacy work that we have had to do here in last six months or so.

Sasha Kostadinov- Shaker Investments

And can you quantify those particular expenses?

Gil Danielson

I would think home office has been in the last couple, I now imagine much than as before is probably those initiatives that we are doing and others you know in the home office area probably causes a couple of cents each quarter, first quarter and second quarter.

Sasha Kostadinov- Shaker Investments

Okay and you anticipate that going on in the remainder of the year.

Gil Danielson

I think it might go down a little bit, but I mean there will be some cost there of that sort of magnitude, you know we kind of got a bump here to kind of get up to speed and then I anticipate in 2013 in the following year it will not be some movement there.

Ron Allen

It certainly should be tapering in ’13 and ’14.

Charlie Loudermilk

Let me make a statement I think quickly. I know a number of you have known Robin, my son over the years and let me tell you he is doing extremely well. He is getting larger and larger in the River State business and he is big time (inaudible) and his son has finished college and he is working with his father. So everything is becoming along very well with the family and I know most of you have a family and also and his health and his happiness and I am very proud of that. You know I appreciate you all are working with him over the years and Gil has spent a lot of time on the road telling everyone what we are doing to this company and I think it's paid off very well.

Both of them are very straight and honest people and I think that’s one of the reason our stock is doing as well as it has and the company is doing as well as it has. So I just wanted to say the company is doing well and we will continue to do well as far as I can see right now.

Ron Allen

Charlie I may add to that. Maybe the initiatives that we’re talking about today were instituted by Robin, you know last year we were in the process of implementing many things that he really initiated, including some of the focus in human resources and training and development of our personnel.

Charlie Loudermilk

But we’re a little different in a way. We've always operated the company as a team and we’re very open minded. All of our doors are open. We don’t have to have any kind of secrets or -- this is a team that has been for 60 years and hope we continue and we’ll see -- we’re a very, a really fine team. You know sitting here Ken and all the others that we don’t operate as a hierarchy and we operate. Everybody has their own say and we’re operating on. We have meetings of all of our people, of our top management people and have a open, open discussions about what we should do and what we shouldn’t do, and we've made one meeting. We all agreed to open what 350 stores in 18 months and we grossly overestimated. But all of us made this decision, so we can’t blame anyone else about that decision.

We thought we could do it. We didn’t do it and we paid a price with real estate to our competitor. I think we've pretty well worked that out and we have taken our head on the mistakes we made on that.

Sasha Kostadinov- Shaker Investments

But you learnt from your mistakes?

Charlie Loudermilk

Yeah and we don’t have the mistakes. We are not secretive about it. We make a mistake, we have made it, but we learn from them. We don’t blame each other. Anything else?

Operator

There are currently no further questions coming from the phone lines.

Ron Allen

Okay. Well thank you all for joining us today. We appreciate very much.

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