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UNITED STATES
SECURITIES AND EXCHANGE COMMISSIONWASHINGTON, D.C. 20549

FORM 10-K

ý

ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934For the fiscal year ended December 31, 2009ORo

TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934For the transition period
from                                to


Commission file number: 1-12181-01

Protection One, Inc.(Exact name of registrant as specified in its charter)

Delaware(State or Other Jurisdiction of
Incorporation or Organization)

93-1063818(I.R.S. Employer Identification No.)1035 N. 3rd Street, Suite 101,
Lawrence, KS(Address of Principal Executive Offices)

66044(Zip Code)


785-856-5500(Registrant's Telephone Number, Including Area Code)

N/A(Former name, former address and former fiscal year, if changed since last report)

Securities
registered pursuant to Section 12(b) of the Act:

Title of each class

Name of each exchange on which registeredCommon Stock, par value $.01 per share, of Protection One, Inc.

The Nasdaq Global Market


Securities
registered pursuant to Section 12(g) of the Act:

None

Indicate
by check mark if the registrant is a well-known seasoned issuer, as defined in Rule 405 of the Securities Act.

Yes
o    No ý

Indicate by check mark if the registrant is not required to file reports pursuant to Section 13 or Section 15(d) of the Exchange Act.

Yes
o    No ý

Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act
of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the
past 90 days.

Yes
ý    No o

Indicate by check mark whether each 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
o    No o

Indicate by check mark if disclosure of delinquent filers pursuant to Item 405 of Regulation S-K is not contained herein, and will not
be contained, to the best of registrant's knowledge, in definitive proxy or information statements incorporated by reference in Part III of this Form 10-K or any amendment to
this Form 10-K. ý

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 definitions of "large accelerated filer," "accelerated filer," and "smaller reporting company" in Rule 12b-2 of the Exchange Act.

Large accelerated filer o

Accelerated filer o

Non-accelerated filer o (Do not check if a smaller
reporting company)

Smaller reporting company ý


Indicate
by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).

Yes
o    No ý

As of June 30, 2009, the aggregate market value of the registrant's common stock held by non-affiliates of the registrant was $31,226,063 based
on the closing sale price as reported on the NASDAQ Global Market.

The
number of outstanding shares of the registrant's common stock, $0.01 par value per share, as of March 5, 2010 was 25,333,371.

DOCUMENTS INCORPORATED BY REFERENCE

Document

Parts Into Which IncorporatedInformation Statement for the Annual Meeting of Stockholders to be held on or before July 25, 2010 (Information Statement)

Part I, II, III and IV




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TABLE OF CONTENTS



PagePART IItem 1.

Business

5Item 1A.

Risk Factors

13Item 1B.

Unresolved Staff Comments

20Item 2.

Properties

20Item 3.

Legal Proceedings

20PART IIItem 5.

Market for Registrant's Common Equity and Related Stockholder Matters and Issuer Purchases of Equity Securities

21Item 6.

Selected Financial Data

23Item 7.

Management's Discussion and Analysis of Financial Condition and Results of Operations

25Item 7A.

Quantitative and Qualitative Disclosures About Market Risk

51Item 8.

Financial Statements and Supplementary Data

52Item 9.

Changes in and Disagreements with Accountants on Accounting and Financial Disclosure

94Item 9A.

Controls and Procedures

94Item 9B.

Other Information

96PART IIIItem 10.

Directors, Executive Officers and Corporate Governance

97Item 11.

Executive Compensation

97Item 12.

Security Ownership of Certain Beneficial Owners and Management and Related Stockholder Matters

97Item 13.

Certain Relationships and Related Transactions, and Director Independence

97Item 14.

Principal Accounting Fees and Services

97PART IVItem 15.

Exhibits, Financial Statement Schedules

98


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PART I

FORWARD-LOOKING STATEMENTS

This Annual Report on Form 10-K and the materials incorporated by reference herein include "forward-looking
statements" intended to qualify for the safe harbor from liability established by the Private Securities Litigation Reform Act of 1995. Statements that are not historical fact are forward-looking
statements. These forward-looking statements generally can be identified by, among other things, the use of forward-looking language such as the words "estimate," "project," "intend," "believe,"
"expect," "anticipate," "may," "will," "would," "should," "could," "seeks," "plans," "intends," or other words of similar import or their negatives. Such statements include those made on matters such
as our earnings and financial condition, our process to explore strategic alternatives, litigation, accounting matters, our business, our efforts to consolidate and reduce costs, our customer account
acquisition strategy and attrition, our liquidity and sources of funding and our capital expenditures. All forward-looking statements are subject to certain risks and uncertainties that could cause
actual results to differ materially from those in the forward-looking statements. The forward-looking statements included herein are made only as of the date of this report and we undertake no
obligation to publicly update such forward-looking statements to reflect subsequent events or circumstances, except as required by federal securities laws. Certain factors that could cause actual
results to differ include:



New
factors emerge from time to time, and it is not possible for us to predict all of such factors or the impact of each such factor on our business or the extent to which any factor, or combination
of factors, may cause actual results to differ materially from those contained in any forward-looking statements.

See
also Item 1A, "Risk Factors" for a discussion of these and other risks and uncertainties that could cause actual results to differ materially from those contained in our
forward-looking statements.

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INTRODUCTION

Unless the context otherwise indicates, all references in this report to the "Company," "Protection One," "we," "us" or "our" or
similar words are to Protection One, Inc. and its wholly owned subsidiaries. Protection One, Inc. is a Delaware corporation organized in September 1991.

Stockholders
and other security holders or buyers of our securities or our other creditors should not assume that material events subsequent to the date of this
Form 10-K have not occurred.

On
January 20, 2010, we announced the commencement of a process to explore and evaluate strategic alternatives, including a possible sale of the Company. There can be no assurance
that this review of strategic alternatives will result in us pursuing any transaction, or that any transaction pursued will be completed.

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ITEM 1.    BUSINESS.

Overview

We are a leading national provider of electronic security alarm monitoring services, providing installation, maintenance and electronic
monitoring of alarm systems to single-family residential, commercial, multifamily and wholesale customers. We monitor signals from burglary, fire, medical and environmental alarm systems and manage
information from access control and closed-circuit-television ("CCTV") systems. Most of our monitoring services revenue and a large portion of the maintenance services we provide our customers are
governed by multi-year contracts with automatic renewal provisions that provide us with recurring monthly revenue ("RMR"). As of December 31, 2009 we monitored approximately
1.4 million sites.
Based on information provided by a leading industry publication, we are the third largest provider of electronic security monitoring services in the United States based on RMR.

We
conduct our business through the following operating segments:



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Our
RMR and our monitored sites composition at December 31, 2009, 2008 and 2007 were as follows:

Percentage of Total2009

2008

2007Segment

RMR

Sites

RMR

Sites

RMR

SitesRetail


80.2
%

37.8
%

76.8
%

31.8
%

77.3
%

34.5
%Wholesale


12.1


47.3


15.0


54.9


13.5


49.6Multifamily


7.7


14.9


8.2


13.3


9.2


15.9Total


100.0
%

100.0
%

100.0
%

100.0
%

100.0
%

100.0
%


The
table below identifies our consolidated revenue by segment for the periods presented (dollars in thousands):

Year ended December 31,2009

2008

2007Segment

Revenue

Percent

Revenue

Percent

Revenue

PercentRetail

$
289,315


78.6
%
$
291,795


78.4
%
$
277,490


79.8
%Wholesale


50,188


13.6


49,477


13.3


37,978


10.9Multifamily


28,549


7.8


30,749


8.3


32,403


9.3Total

$
368,052


100.0
%
$
372,021


100.0
%
$
347,871


100.0
%


Financial
information for the past three years for each of our business segments is presented in Item 7, "Management's Discussion and Analysis of Financial Condition and Results
of OperationsResults of Operations" and in Note 16 of the Notes to Consolidated Financial Statements, included in Part II of this Annual Report on
Form 10-K, and is incorporated herein by reference.

Sources of Revenue

Revenue is primarily generated from providing monitoring and maintenance services in our Retail, Wholesale and Multifamily segments.
For the year ended December 31, 2009, revenue generated from monitoring and related services accounted for approximately 90% of our total revenue.

Monitoring
revenue is generated based on our contracts with residential and commercial Retail, Wholesale and Multifamily customers. The initial contract term is typically three years for
residential customers, five years for commercial customers and five to ten years, with an average of eight years, for Multifamily customers, with automatic renewal provisions where permitted. Our
Wholesale customer contracts are generally month-to-month agreements. We generate incremental contractual recurring revenue from the majority of our residential and commercial
customers by providing additional services, such as maintenance.

For
the year ended December 31, 2009, installation and other revenue, derived principally from the sale of electronic security systems, contributed approximately 10% of our total
revenue. Electronic security systems typically are sold at a loss in connection with generating new contracts for recurring monitoring services.

Industry and Competition

According to an industry publication and industry analysts, the market for electronic security system sales, leasing, installation,
monitoring and service totaled an estimated $44.7 billion in 2009 with the monitoring and service market accounting for an estimated $16.3 billion. While total revenue for

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the
industry was slightly lower in 2009 compared to 2008, monitoring and service revenue increased approximately 3%.

The
industry is comprised of small and mid-sized regional participants, the vast majority of which generate annual revenue of less than $500,000. The top five companies,
based on RMR, comprise approximately 36% of the industry's RMR. We believe our primary competitors with national scope include the following:



Competition
in the security alarm industry is based primarily on brand awareness and company reputation, price, quality and reliability of services and systems, product solutions offered
and the
ability to identify and solicit prospective customers as they move into homes and businesses or experience major life events such as marriage or the birth of a child. We believe that we compete
effectively with other national, regional and local security alarm companies in both the residential and commercial markets.

Centralized Monitoring, Customer Service and Enhanced Services



Intrusion and fire alarm systems include many different types of devices installed at customer premises designed to detect or react to
various occurrences or conditions, such as intrusion, environmental issues like a water leakage or the presence of fire or smoke. These devices are connected to a computerized control panel that
communicates through wire line and/or wireless communication channels to one of our monitoring facilities. In most systems, control panels can identify the nature of the alarm and the areas within the
building where the sensor was activated and can transmit that information to one of our central monitoring stations.

Access
control systems provide physical security for a customer facility. They do this by limiting access to areas through locks and door mechanisms that are controlled by a computer or
web service. Customers may establish schedules when doors are unlocked or they may define access to individuals via uniquely identified cards. The cards are electronically validated at each door
through an electronic card reader. By limiting, enabling or disabling each user's card through the central controller, access control systems replace the need to manage keys.

Video
solutions provide customers with the ability to monitor remote locations via cameras. Video may be viewed live over a network, recorded on site or sent electronically upon a
specified event. Video solutions may be coupled with alarm systems to provide verification of alarm conditions.

Web
control and notification provides our customers an array of tools to manage their alarm, video or access control systems, including options for electronic notification.



Our existing Retail monitoring customer contracts generally have initial terms ranging from three to five years in duration, and, in
most states, provide for automatic renewals unless we or the customer elect to cancel the contract at the end of its term. New single-family residential customers typically have an initial contract
term of three years, and most new commercial customers typically have an initial contract term of five years. The majority of our Retail customers sign alarm monitoring contracts

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that
include a bundled monthly charge for monitoring and extended service protection, which covers the costs of normal repairs of the security system. Customers may elect to sign an alarm monitoring
contract providing for a reduced monthly charge that excludes extended service protection. A significant percentage of new residential and commercial customers also elect to include cellular backup
technology for line security in their service bundle. Multifamily contracts have initial terms that range from five to ten years with an average of eight years. Our Wholesale customer contracts are
generally month-to-month contracts.



We provide monitoring services to our customer base from several monitoring facilities. The table below provides additional detail
about our monitoring facilities:

Location

Approximate Number of
Customer Sites Monitored

Primary MarketsIrving, TX


298,000

Retail and MultifamilyLongwood, FL


237,000

WholesaleWichita, KS


456,000

RetailCypress, CA


203,000

WholesaleManasquan, NJ


237,000

Wholesale


Our
monitoring facilities operate 24 hours per day, seven days a week, including all holidays. Each monitoring facility incorporates the use of communications and computer systems
that route incoming alarm signals and telephone calls to operators. Each operator within a monitoring facility monitors a computer screen that presents information concerning the nature of the alarm
signal, the customer whose alarm has been activated and the premises at which such alarm is located. Other non-emergency administrative signals are generated by low battery status, arming
and disarming of the alarm monitoring system and test signals, with such signals processed automatically by computer. Depending upon the type of service for which the customer has contracted,
monitoring facility personnel respond to alarms by relaying information to local fire or police departments, notifying the customer, or taking other appropriate action, such as dispatching alarm
response personnel to the customer premises where this service is available. In advanced video solutions, operators may be presented with a video clip associated with the alarm condition, further
enhancing the response capabilities. Customers may also contract for remote video monitoring whereby operators will be prompted on a specified schedule to view live video of customer locations and
respond upon abnormal conditions.

All
of our monitoring facilities are listed by Underwriters Laboratories, Inc. ("UL") as protective signaling services stations. UL specifications for monitoring
facilities include building integrity, back-up computer and power systems, staffing and standard operating procedures. In
many jurisdictions, applicable law requires the security and life safety alarms for certain buildings be monitored by UL listed facilities. In addition, such listing is required by certain commercial
customers' insurance companies as a condition to insurance coverage.



Our Retail backup facility in Wichita, Kansas is a fully operable resource with the ability to backup all mission critical operations
normally performed at our primary Retail monitoring centers. The facility is equipped with diverse voice and data telecommunication paths, backup power that includes standby uninterruptible power
supplies, access control, video surveillance and data vaults. In addition, we have deployed hot redundancy for our entire complement of equipment essential in the remote monitoring

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of
the Retail security systems we offer. Furthermore, we have replicated the computer systems that are used to maintain our mission critical applications.



Each of our primary Wholesale monitoring facilities operates independently from our Retail and Multifamily facilities. Through our
Wholesale monitoring facilities, we provide wholesale monitoring services to independent alarm companies. Under the typical arrangement, alarm companies subcontract monitoring services to us,
primarily because they cannot cost-effectively provide their own monitoring service. We may also provide billing and other services. These independent alarm companies retain ownership of
the monitoring contracts and are responsible for every other aspect of the relationship with customers, including field repair service. We have recently created one integrated network among our
Wholesale monitoring centers that we believe will enable us to deliver a higher level of customer care while improving our efficiency. Our Wholesale monitoring centers are supported by redundant
application databases in each location.



Customer care personnel answer non-emergency telephone calls typically regarding services, billing and alarm activation
issues. Customer care functions for our Retail customers are handled primarily by representatives in our monitoring facilities.

Customer
care personnel assist customers in understanding and resolving minor service and operating issues related to security systems and also schedule technician appointments. We also
operate a dedicated telesales center to address questions that Retail customers or potential customers have about our services.

We
currently maintain approximately 60 field locations in the United States from which we provide some or all of the following services in our Retail and Multifamily segments: security
system installation, field repair, alarm response and sales services. Our nationwide network of branches operates in some of the largest cities in the United States and plays a critical role in
enhancing customer satisfaction, reducing customer loss and building brand awareness. Repair services generate revenue primarily through billable field service calls and recurring payments under our
extended service protection program. By focusing growth in targeted areas, we hope to increase the density of our customer base, to permit more effective scheduling and routing of field service
technicians and create economies of scale.



We offer alarm monitoring and administrative services to dealers, such as billing and collection, as well as new and emerging products
and services. We also provide dealers with access to technical sophistication and back office services that they may not otherwise have (or be able to profitably operate), while allowing them to
maintain visible contact with their local customers, the end-users of the alarm.

We
provide financing to security alarm dealers in the form of loans or alarm monitoring contract purchases. We structure the payment terms and pricing of both our alarm monitoring
contract purchases and loans to provide us with an acceptable internal rate of return. When providing financing to dealers, we obtain a security interest in the underlying alarm monitoring contracts.
We generally require that dealers use us to monitor all of their alarm monitoring contracts, not just those that have been acquired or financed. This monitoring requirement enables us to control the
quality of the monitoring services and reduce the risk of loan default.

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As a means of increasing revenue and enhancing customer satisfaction, we offer Retail and Wholesale customers an array of enhanced
security services discussed below. These services position us as a full service provider and give our sales representatives more features to sell in their solicitation of new customers.



Sales and Marketing

Our Retail, Wholesale and Multifamily segments market our services to these customer segments through limited, but separate internal
sales and installation branch networks. Our current customer acquisition strategy for our Retail segment relies primarily on internally generated sales, utilizing personnel in our existing branch
infrastructure. The internal sales program for our Retail segment generated $1.8 million of new Retail RMR in 2009 and $2.3 million of new Retail RMR in each of 2008 and 2007. We operate
a dedicated telesales center from which we respond to questions that customers or potential customers have about our services and provide quality control follow-up calls to customers for
whom we recently provided installation or maintenance services. In late 2009 we created an internal sales group to sell systems and services over the phone. We plan to continue to analyze
opportunities for alliance partnerships which benefit our Retail segment.

Our
integrated marketing program focuses on awareness for the Protection One® brand name nationally and generation of new lead sources and opportunities. We reach out to
targeted customers, both residential and commercial, through a variety of mediums in a planned and sequenced manner. These channels include, but are not limited to, on-line programs and
placements, third-party purchases and outbound calling and traditional mass communications, such as radio, print and direct mail.

Leads
resulting from these activities are directed to our internal sales representatives and branch-based Retail sales professionals for closing sales of monitoring systems and services.
The sales force also generates revenue from selling equipment upgrades and add-ons to existing customers and by competing for those customers who are terminating their relationships with
our competitors.

Our
Wholesale segment employs a salaried and commissioned sales force that is geographically distributed throughout the United States and is responsible for identifying sales
opportunities. This

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sales
force is supported by an internal sales and marketing team that tracks prospects and coordinates selling efforts. We also employ financial product specialists who assist the sales force in
identifying and proposing financing alternatives and billing services and account managers who provide ongoing operational support to our Wholesale customers.

Our
Multifamily segment sales force has reduced its focus on developing new multi-dwelling unit customers and plans to maintain a lower level of investment in sales expense and in new
customer systems until economic conditions become more favorable. In 2009 and 2008, Multifamily made other related operating cost reductions to keep costs in line with revenue. Multifamily remains
focused on serving the needs of its existing customer base.

We
continually evaluate our customer creation and marketing strategy, including evaluating each respective channel for economic returns, volume and other factors and may shift our
strategy or focus, including the elimination of a particular channel.

Attrition

See Item 7, "Management's Discussion and Analysis of Financial Condition and Results of OperationsAttrition," which
is incorporated herein by reference, for more information regarding attrition calculations, the impact of attrition on our operating results and customer attrition by business segment.

Intellectual Property

We own trademarks related to the name and logo for Protection One, Network Multifamily Security, King Central and Criticom Monitoring
Services, as well as a variety of trade and service marks related to individual services we provide. While we believe our trademarks, service marks and proprietary information are important to our
business, we do not believe our inability to use any one of them, other than the trademarks we own in our name and logo, would have a material adverse effect on our business as a whole.

Regulatory Matters

A number of local governmental authorities have adopted or are considering various measures aimed at reducing the number of false
alarms. See Item 1A, "Risk Factors," for additional information. Such measures include:



Our
operations are subject to a variety of other laws, regulations, and licensing requirements of federal, state and local authorities. In certain jurisdictions, we are required to
obtain licenses or permits, to comply with standards governing employee selection and training, and to meet certain standards in the conduct of our business.

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The alarm industry is also subject to requirements imposed by various insurance, approval, listing and standards organizations. Depending upon the type of
customer served, the type of security service provided, and the requirements of applicable local governmental jurisdiction, adherence to the requirements and standards of such organizations is
mandatory in some instances and voluntary in others.

Our
advertising and sales practices are regulated in the United States by both the Federal Trade Commission and state consumer protection laws. In addition, certain administrative
requirements and laws of the jurisdictions in which we operate also regulate such practices. Such laws and regulations include restrictions on the manner in which we promote the sale of our security
alarm systems and the obligation to provide purchasers of our alarm systems with rescission rights.

Our
alarm monitoring business utilizes wire line and wireless telephone lines, radio frequencies, and broadband data circuits to transmit alarm signals. The cost of telephone lines and
the type of equipment which may be used in telephone line transmissions are currently regulated by both federal and state governments. The Federal Communications Commission and state public utilities
commissions regulate the operation and utilization of radio frequencies.

Risk Management

The nature of the services we provide potentially exposes us to greater risks of liability for employee acts or omissions, or system
failure, than may be inherent in other businesses. Substantially all of our alarm monitoring agreements and other agreements, pursuant to which we sell our products and services, contain provisions
limiting liability to customers in an attempt to reduce this risk.

We
carry insurance of various types, including general liability and professional liability insurance in amounts management considers adequate and customary for our industry and
business. Our loss experience, and the loss experiences of other security service companies, may affect the availability and cost of such insurance. Some of our insurance policies, and the laws of
some states, may limit or prohibit insurance coverage for punitive or certain other types of damages, or liability arising from gross negligence.

Employees

At December 31, 2009 we had approximately 2,600 full and part time employees. Our workforce is not unionized. We generally
consider our relationship with our employees to be good.

Code of Ethics

We have adopted a code of ethics that applies to all employees, including executive officers and senior financial and accounting
employees. It is our policy to comply strictly with the letter and spirit of all laws affecting our business and the conduct of our officers, directors and employees in business matters. We make
available the code of ethics, free of charge, on our website atwww.protectionone.comand by responding to requests addressed to our investor relations
department. The investor relations department can be contacted by mail at Protection One, Inc., Attn: Investor Relations, 1035 N. 3rd Street, Suite 101, Lawrence, KS 66044 or by
calling (785) 856-9368.

Access to Company Information

We electronically file our annual report on Form 10-K, quarterly reports on Form 10-Q and current
reports on Form 8-K with the Securities and Exchange Commission ("SEC"). The SEC maintains a website (www.sec.gov) that contains
reports, proxy and information statements and other information regarding issuers that file electronically.

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We
make available, free of charge, through our website atwww.protectionone.com, and by responding to requests addressed to our investor
relations department, our annual report on Form 10-K, quarterly reports on Form 10-Q and current reports on Form 8-K. These reports are
available as soon as reasonably practicable after such material is electronically filed with or furnished to the SEC. We also make available through our website other important information and news
about Protection One and provide users with an opportunity to register to receive automatic, electronic delivery of Protection One news alerts. The information contained on our website is not part of
this document.

ITEM 1A.    RISK FACTORS

You should read the following risk factors in conjunction with discussions of factors discussed elsewhere in this and other of our
filings with the SEC. These cautionary statements are intended to highlight certain factors that may affect our financial condition and results of operations and are not meant to be an exhaustive
discussion of risks that apply to public companies with broad operations, such as us.

We have a substantial amount of indebtedness, which could have a material adverse effect on our financial condition and our ability to obtain financing in the future or to
react to changes in our business.

We have, and will continue to have, a substantial amount of indebtedness, which requires significant principal and interest payments.
As of December 31, 2009, the face value of our total indebtedness, including capital leases, was approximately $447.3 million, and our cash interest expense for the year ended
December 31, 2009 was $47.0 million. Our level of indebtedness could limit our ability to operate our business and impair our competitive position. For example, it
could:



One
or a combination of these factors could adversely affect our financial condition. Subject to restrictions in the agreements governing our indebtedness, we may incur additional
indebtedness which could increase the risks associated with our already substantial amount of indebtedness.

Restrictive covenants restrict our ability to operate our business and to pursue our business strategies, and our failure to comply with these covenants could result in an
acceleration of our indebtedness.

The credit agreement governing our senior credit facility (as amended, the "Senior Credit Agreement") and the credit agreement
governing our unsecured term loan facility ("Unsecured Term Loan Agreement") contain covenants that restrict our ability to finance future operations or capital needs, to respond to changing business
and economic conditions or to engage in other transactions or business activities that may be important to our growth strategy or otherwise important to us. See Item 7, "Management's Discussion
and Analysis of Financial Condition and Results of OperationsLiquidity and Capital ResourcesDebt Obligations," for more information on our indebtedness. Our

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Senior
Credit Agreement and the Unsecured Term Loan Agreement restrict, among other things, our ability to:



In
addition, our Senior Credit Agreement requires us to meet certain financial ratios and to repay outstanding borrowings with portions of the proceeds we receive from certain sales of
property or assets and specified future debt and equity offerings. Our financial results may be affected by unforeseen adverse events, and we may not be able to meet the financial ratio requirements.

Any
breach of the covenants in our Senior Credit Agreement or Unsecured Term Loan Agreement could cause a default under such instruments. If there were an event of default under any of
our debt instruments that was not cured or waived, the holders of the defaulted debt could cause all amounts outstanding with respect to the debt instrument to be due and payable immediately. Our
assets and cash flow would not be sufficient to fully repay borrowings under our outstanding debt instruments if accelerated upon an event of default. If, as or when required, we are unable to repay,
refinance or restructure our indebtedness under, or amend the covenants contained in our Senior Credit Agreement, the lenders under our senior credit facility could institute foreclosure proceedings
against the assets securing borrowings under our senior credit facility.

We have a history of losses.

We recorded net income of $17.5 million for the year ended December 31, 2009, and net losses of $50.5 million and
$32.2 million for the years ended December 31, 2008 and 2007, respectively. The net income in 2009 is primarily the result of our settlement agreement with Westar. See Item 7,
"Management's Discussion and Analysis of Financial Condition and Results of
Operations-Significant Activities." Our results of operations reflect the following, among other factors:



We
will continue to incur substantial interest expenses. As long as we continue to add to our existing customer base, we will incur substantial amortization of customer accounts.

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Our Board of Directors has announced its intention to explore and evaluate strategic alternatives, which could include a sale of the Company.

On January 20, 2010, our Board of Directors announced commencement of a process to explore and evaluate strategic alternatives,
including a possible sale of the Company. There can be no assurance that this review of strategic alternatives will result in pursuit of any
transaction, or that any transaction pursued by the Company will be completed. We may be unable to retain the services of some of our key employees and may experience difficulty in obtaining new
customers and maintaining relationships with suppliers and other service providers due to the uncertainty of the process and changes that may occur as a result of the process. The market price of our
stock may be volatile as we explore strategic alternatives, and volatility may persist or be increased if and when a decision to pursue a specific transaction is announced or we announce that we are
no longer exploring strategic alternatives.

The price of our common stock may continue to fluctuate or decline over time.

The price at which our common stock trades may fluctuate substantially or decline due to:



Entities affiliated with Quadrangle Group and Monarch Alternative Capital are our principal stockholders and together can exercise a controlling influence over us, which may
adversely affect the trading price of our common stock.

Quadrangle Capital Partners LP, Quadrangle Capital Partners-A LP and Quadrangle Select Partners LP
(collectively "Quadrangle") and Monarch Debt Recovery Master Fund Ltd and Monarch Opportunities Master Fund Ltd (collectively "Monarch" and together with Quadrangle the "Principal
Stockholders"), collectively own approximately 70% of our outstanding common stock. Pursuant to a stockholders agreement, subject to the Principal Stockholders, acting together, maintaining a certain
threshold of ownership in us, the Principal Stockholders will be able to control the election of a majority of our directors and accordingly exercise a controlling influence over our business and
affairs, including any determinations with respect to mergers or other business combinations involving us, appointment of our officers, our acquisition or disposition of material assets and our
incurrence of indebtedness. Similarly, the Principal Stockholders, acting together, will continue to have the power to determine matters submitted to a vote of our stockholders without the consent of
other stockholders and to take other actions that are in the interests of the Principal Stockholders. There can be no assurance that the interests of the Principal Stockholders will coincide with our
interests or the interests of our other stockholders.

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We rely on technology that may become obsolete, which could require significant capital expenditures.

Our monitoring services depend upon the technology (hardware and software) of security alarm systems. In order to maintain our customer
base that currently uses security alarm components that are or could become obsolete, we may be required to upgrade or implement new technologies that could require significant capital expenditures.
In the future, we may not be able to successfully implement new technologies or adapt existing technologies to changing market demands. If we are unable to adapt in response to changing technologies,
market conditions or customer requirements in a timely manner, such inability could adversely affect our business.

Shifts in our current and future customers' selection of telecommunications services could increase customer attrition and could adversely impact our earnings and cash flow.

Certain elements of our operating model rely on our customers' selection and continued use of traditional, land-line
telecommunications services, which we use to communicate with our monitoring operations. In order to continue to service existing customers who cancel their land-line telecommunications
services and to service new customers who do
not subscribe to land-line telecommunications services, some customers must upgrade to alternative and often more expensive wireless or internet based technologies. Higher costs may reduce
the market for new customers of alarm monitoring services, and the trend away from traditional land lines to alternatives may mean more existing customers will cancel service with us. Our Multifamily
segment, in particular, has experienced customer cancellations which we believe are due in part to low penetration of land-line based phone services in rental units. Continued shifts in
customers' preferences regarding telecommunications services could continue to have an adverse impact on our earnings, cash flow and customer attrition.

We depend on our relationships with alarm system manufacturers and suppliers and our hosted services suppliers. If we are not able to maintain or renew these alliances or
our manufacturers and suppliers fail to provide us with innovative product offerings or hosted services, our ability to create new customers and service our existing account base could be negatively
affected.

We currently have agreements with certain electronic security system manufacturers and suppliers of hardware for products that we
install in customer locations as part of new systems or as replacement parts for existing systems. We may not be able to maintain or renew our existing product sourcing arrangements on terms and
conditions acceptable to us, or at all, if one or more of our suppliers discontinue offering a technology we have relied on or if one or more of our suppliers exits the electronic security system
market. If we are unable to maintain or renew our existing relationships, we may incur additional costs creating new supplier arrangements and in servicing existing customers.

We
are also dependent on our electronic security system manufacturers for continued technological innovation. If the electronic security system product families we have invested in fail
to keep pace with other manufacturers' and suppliers' technologies, we may incur additional training and inventory costs and our ability to attract new customers and service our existing customers
could be adversely affected.

We
depend on third party suppliers to provide our e-Secure and cellular backup services. If those services become unavailable or if the price for those services fluctuates
significantly, we may lose existing customers and have difficulty attracting new customers.

We face continuing competition and pricing pressure from other companies in our industry and, if we are unable to compete effectively with these companies, our sales and
profitability could be adversely affected.

We compete with a number of major domestic security monitoring services companies, as well as a large number of smaller, regional
competitors. We believe that this competition is a factor in our attrition, limits our ability to raise prices, and, in some cases, requires that we lower prices. Some of our competitors, either alone
or in conjunction with their respective parent corporate groups, are larger

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than
we are and have greater financial resources, sales, marketing or operational capabilities or brand recognition than we do. In addition, opportunities to take market share using innovative
products, services and sales approaches may attract new entrants to the field. We may not be able to compete successfully with the offerings and sales tactics of other companies, which could result in
the loss of customers and, as a result, decreased revenue and operating results.

We may not be able to realize any or all of the anticipated benefits from prior or future acquisitions of portfolio alarm monitoring contracts.

Acquisitions of end-user alarm monitoring contracts involve a number of risks, including the possibility that the acquiring
company will not be able to realize the recurring monthly revenue stream it contemplated at the time of acquisition because of higher than expected attrition rates or fraud. Although we generally
complete an extensive due diligence process prior to acquiring alarm monitoring contracts and obtain representations and warranties from sellers, we may not detect fraud, if any, on the part of any
seller, including the possibility that any seller misrepresented the historical attrition rates of the sold contracts or sold or pledged the contracts to a third party. If the sale of alarm monitoring
contracts involves fraud or the representations and warranties are otherwise inaccurate, it may not be possible to recover from the seller damages in an amount sufficient to fully compensate us for
any resulting losses. In such event, we may incur significant costs in litigating ownership or breach of acquisition contract terms.

Our customer acquisition and creation strategies and the competitive market for the acquisition and creation of customer accounts may affect our future profitability.

Our account acquisition strategy has evolved to emphasize our internal sales force, supported by traditional marketing practices and by
forming marketing alliances. In
addition, we seek to augment our internal efforts with acquisitions when suitable market conditions exist. The success or failure of our current strategy could impact our customer base.

If
we are successful executing a customer acquisition strategy emphasizing internal sales, selling costs will increase our expenses and uses of cash. Failure to replace customers lost
through attrition or increased use of cash to replace those customers could have a material adverse effect on our business, financial condition, results of operations and ability to service debt
obligations. Increased competition from other alarm monitoring companies could require us to reduce our prices for installations, decrease the monitoring fees we charge our customers and take other
measures that could reduce our margins. These decreases and other measures could have a material adverse effect on us.

We
compete with several companies that have account acquisition and loan programs for independent dealers and some of those competitors are larger than we are and have more capital than
we do. Increased competition from other alarm monitoring companies could require us to pay more for account acquisitions and take other measures that could reduce returns from investing in
acquisitions of customer accounts. These measures could have a material adverse effect on us.

Loss of customer accounts could materially adversely affect our operations.

We experience the loss of accounts as a result of, among other factors:



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We
may experience the loss of newly acquired or created accounts to the extent we do not integrate or adequately service those accounts. Customer loss may not become evident for some
time after an acquisition is consummated because some acquired accounts are prepaid on an annual, semiannual or quarterly basis. Retail RMR and attrition rates could be impacted by higher attrition
rates from the retail portfolio acquired from IASG. We also expect Multifamily account and RMR losses to exceed additions until the efforts we are making to further reduce our rate of attrition become
more successful than they have been to date. Wholesale attrition could increase if our largest Wholesale customers, who have the scale to monitor their own accounts in a cost effective manner, chose
to do so for cost or
other reasons. Loss of a large Wholesale dealer could result in a significant reduction in RMR. Net losses of customer accounts could materially and adversely affect our business, financial condition
and results of operations.

Increased adoption of "false alarm" ordinances by local governments may adversely affect our business.

An increasing number of local governmental authorities have adopted, or are considering the adoption of, laws, regulations or policies
aimed at reducing the perceived costs to municipalities of responding to false alarm signals. Such measures could include:



Enactment
of these measures could adversely affect our future business and operations. For example, concern over false alarms in communities adopting these ordinances could cause a
decrease in the timeliness of police response to alarm activations. As a result, the propensity of consumers to purchase or maintain alarm monitoring services could decrease and our costs to service
affected accounts could increase.

Increased adoption of statutes and governmental policies purporting to void automatic renewal provisions in our customer contracts, or purporting to characterize certain of
our charges as unlawful, may adversely affect our business.

Our customer contracts typically contain provisions automatically renewing the term of the contract at the end of the initial term,
unless cancellation notice is delivered in accordance with the terms of the contract. If the customer cancels prior to the end of the contract term, other than in accordance with the contract, we may
charge the customer the amounts that would have been paid over the remaining term of the contract, or charge an early cancellation fee.

Several
states have adopted, or are considering the adoption of, consumer protection policies or legal precedents which purport to void the automatic renewal provisions of our customer
contracts, or otherwise restrict the charges we can impose upon contract cancellation. Such initiatives could compel

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us
to increase the length of the initial term of our contracts, increase our charges during the initial term, or both, and consequently lead to less demand for our services and increase our attrition.
Adverse judicial determinations regarding these matters could cause us to incur legal exposure to customers against whom such charges have been imposed, and the risk that certain of our customers may
seek to recover such charges through litigation. In addition, the costs of defending such litigation and enforcement actions could have an adverse effect on us.

Due to a concentration of accounts in California, Florida and Texas, we are susceptible to environmental incidents that may negatively impact our results of operations.

Almost 44% of our RMR at December 31, 2009 was derived from customers located in California, Florida and Texas. A major
earthquake, hurricane or other environmental disaster in an area of high account concentration could disrupt our ability to serve those customers or render those customers uninterested in continuing
to retain us to provide alarm monitoring services.

We are susceptible to downturns in the housing market which may negatively impact our results of operations.

We believe demand for alarm monitoring services in our Retail segment is affected by the turnover in the single family housing market.
Downturns in the rate of sale of existing single family homes would reduce opportunities to make sales of new security systems and services and reduce opportunities to take over existing security
systems that had previously been monitored by our competitors. These reduced opportunities to add RMR could negatively affect our results of operations.

Declines in rents, occupancy rates and new construction of multifamily dwellings may affect our sales in this marketplace.

We believe demand for alarm monitoring services in the Multifamily segment is tied to the general health of the multifamily housing
industry. This industry is dependent upon prevailing rent levels and occupancy rates as well as the demand for construction of new properties. Given the generally cyclical nature of the real estate
market, we believe that, in the event of a decline in the market factors described above, it is likely that demand for our alarm monitoring services to multifamily dwellings would also decline, which
could negatively impact our results of operations.

We could face liability for our failure to respond adequately to alarm activations.

The nature of the services we provide potentially exposes us to greater risks of liability for employee acts or omissions or system
failures than may be inherent in other businesses. In an attempt to reduce this risk, our alarm monitoring agreements and other agreements pursuant to which we sell our products and services contain
provisions limiting our liability to customers and third parties. In the event of litigation with respect to such matters, however, these limitations may not be enforced. In addition, judgments
against us and the costs of such litigation could have an adverse effect on us.

In the event that adequate insurance is not available or our insurance is not deemed to cover a claim, we could face liability.

We carry insurance of various types, including general liability and professional liability insurance, in amounts management considers
adequate and customary for the
industry. Some of our insurance policies, and the laws of some states, may limit or prohibit insurance coverage for punitive or certain other types of damages, or liability arising from gross
negligence. If we incur increased losses related to employee acts or omissions, or system failure, or if we are unable to obtain adequate insurance coverage at reasonable rates, or if we are unable to
receive reimbursements from insurance carriers, our financial condition and results of operations could be materially and adversely affected.

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Future government regulations or other standards could have an adverse effect on our operations.

Our operations are subject to a variety of laws, regulations and licensing requirements of federal, state and local authorities. In
certain jurisdictions, we are required to obtain licenses or permits to comply with standards governing employee selection and training and to meet certain standards in the conduct of our business.
The loss of such licenses, or the imposition of conditions to the granting or retention of such licenses, could have an adverse effect on us. In the event that these laws, regulations and/or licensing
requirements change, we may be required to modify our operations or to utilize resources to maintain compliance with such rules and regulations. In addition, new regulations may be enacted that could
have an adverse effect on us.

The loss of our Underwriter Laboratories listing could negatively impact our competitive position.

All of our alarm monitoring centers are Underwriters Laboratories ("UL") listed. To obtain and maintain a UL listing, an alarm
monitoring center must be located in a building meeting UL's structural requirements, have back-up and uninterruptible power supplies,
have secure telephone lines and maintain redundant computer systems. UL conducts periodic reviews of alarm monitoring centers to ensure compliance with their regulations. Non-compliance
could result in a suspension of our UL listing. The loss of our UL listing could negatively impact our competitive position.

We are dependent upon our experienced senior management, who would be difficult to replace.

The success of our business is largely dependent upon the active participation of our executive officers, who have extensive experience
in the industry. The loss of service of one or more of such officers or the inability to attract or retain qualified personnel for any reason may have an adverse effect on our business.

ITEM 1B.    UNRESOLVED STAFF COMMENTS.

None.

ITEM 2.    PROPERTIES.

We maintain our executive offices at 1035 N. 3rd Street, Suite 101, Lawrence, Kansas 66044. We operate
primarily from the following facilities, although we also lease office space for our approximately 60 field locations.

Location

Approximate
Size (sq. ft.)

Lease/Own

Principal PurposeIrving, TX


53,750

Lease

Retail and Multifamily monitoring facility/administrative functionsLongwood, FL


20,000

Lease

Wholesale monitoring facility/administrative functionsLawrence, KS


21,000

Lease

Financial/administrative headquartersCypress, CA


17,000

Lease

Wholesale monitoring facilityManasquan, NJ


7,200

Own

Wholesale monitoring facilityWichita, KS


50,000

Own

Retail monitoring facility/administrative functionsWichita, KS


122,000

Own

Backup Retail monitoring center/administrative functions


ITEM 3.    LEGAL PROCEEDINGS.

Information on our legal proceedings is set forth in Item 8, Note 13 of the Notes to the Consolidated Financial
Statements, included in Part II of this Annual Report on Form 10-K, which are incorporated herein by reference.

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PART II

ITEM 5.    MARKET FOR REGISTRANT'S COMMON EQUITY AND RELATED STOCKHOLDER MATTERS AND ISSUER PURCHASES OF EQUITY SECURITIES.

Market Price Information

Our common stock has been listed on the NASDAQ Global Market under the symbol "PONE" since April 2, 2007. The table below sets
forth for each of the calendar quarters indicated the high and low sales prices per share of our common stock, as reported by the NASDAQ Global Market.

High

Low2009:First Quarter

$
5.17

$
0.83Second Quarter


4.99


1.95Third Quarter


4.84


3.04Fourth Quarter


7.00


4.362008:First Quarter

$
13.00

$
8.52Second Quarter


11.50


6.84Third Quarter


10.12


6.43Fourth Quarter


9.47


4.13


Dividend Information

We are prohibited from paying cash dividends to our stockholders under covenants contained in our Senior Credit Agreement. We did not
declare or pay any dividends for the years ended December 31, 2009 or 2008. Any future determination to pay dividends will be at the discretion of our board of directors, subject to compliance
with covenants in current and future agreements governing our indebtedness, and will depend upon our results of operations, financial condition, capital requirements and other factors that our board
of directors deems relevant. We currently intend to retain all available funds and any future earnings to fund the development and growth of our business and to repay indebtedness, and therefore we do
not anticipate paying any cash dividends in the foreseeable future.

Number of Stockholders

As of March 5, 2010, there were approximately 436 stockholders of record who held shares of our common stock.

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Performance Graph

The following chart compares the cumulative total stockholder returns on the Common Stock since December 31, 2004 to
(1) the cumulative total returns over the same period of the Russell MicroCap index and (2) the S&P 400 Specialized Consumer Services index. The chart assumes the value of the
investment in the Common Stock and each index was $100 at December 31, 2004 and that all dividends were reinvested.

COMPARISON OF 5 YEAR CUMULATIVE TOTAL RETURN*
Among Protection One, Inc., The Russell MicroCap Index
And S&P 400 Specialized Consumer Services

GRAPHIC

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ITEM 6.    SELECTED FINANCIAL DATA.

The selected consolidated financial data set forth below should be read in conjunction with Item 7, "Management's Discussion and
Analysis of Financial Condition and Results of Operations" and the audited consolidated financial statements and notes to the financial statements of Protection One, Inc., which can be found in
Item 8.

As
a result of the Principal Stockholders obtaining over 95% of our common stock on February 8, 2005, we "pushed down" the Principal Stockholders' basis to a proportionate amount
of our underlying assets and liabilities acquired based on the estimated fair market values of the assets and liabilities. The primary changes to the balance sheet reflect (1) the reduction of
deferred customer acquisition costs and revenue, which were subsumed into the estimated fair market value adjustment for customer accounts; (2) adjustments to the carrying values of debt to
estimated fair market value (or the Principal Stockholders' basis in the case of the credit facility); (3) adjustments to historical goodwill to reflect goodwill arising from the push down
accounting adjustments; (4) the recording of a value for our trade names; and (5) an increase to the equity section from these adjustments. The primary changes to the income statement
include (1) the reduction in installation and other revenue due to a lower level of
amortization from the reduced amortizable base of deferred customer acquisition revenue; (2) the reduction in installation and other costs of revenue and selling expenses due to a lower level
of amortization from the reduced amortizable base of deferred customer acquisition costs; (3) an increase in interest expense due to amortization of debt discounts arising from differences in
fair values and carrying values of our debt instruments; and (4) the reduction in amortization related to the reduction in the amortizable base of customer accounts. Due to the impact of the
changes resulting from the push down accounting, the statement of operations data and cash flow data presentations for 2005 results are separated into two periods: (1) the period prior to the
February 8, 2005 consummation of the exchange transaction and (2) the period beginning after that date utilizing the new basis of accounting. The results are further separated by a heavy
black line to indicate the effective date of the new basis of accounting.

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The
condensed financial data set forth below includes the financial results for IASG subsequent to the Merger. See Note 9 of the Notes to Consolidated Financial Statements,
included in Part II of this Annual Report on Form 10-K, for additional information related to the Merger. All amounts are in thousands, except per share data, unless
otherwise noted.

SELECTED CONSOLIDATED FINANCIAL DATAYear Ended
December 31,
2009

Year Ended
December 31,
2008

Year Ended
December 31,
2007

Year Ended
December 31,
2006

February 9
through
December 31,
2005



January 1
through
February 8,
2005Statements of operations dataRevenue

$
368,052

$
372,021

$
347,871

$
270,552

$
234,481



$
28,543Cost of revenue (exclusive of amortization and depreciation shown below)


150,268


159,730


140,705


101,387


81,059




10,714Selling, general and administrative expenses


127,403


136,813


125,398


103,916


86,014




12,093Merger-related costs








4,344










Change in control, restructuring, recapitalization and corporate consolidation costs











4,472


2,339




5,939Amortization and depreciation expense


50,096


64,275


62,064


41,667


43,742




6,638Impairment of trade name





925













Operating income (loss)


40,285


10,278


15,360


19,110


21,327




(6,841
)Interest expense, net


45,311


47,745


46,977


35,900


30,634




4,544(Gain) loss on retirement of debt


(1,956
)

12,788








6,657




Gain on settlement agreement


(22,867
)















Other income





(54
)

(90
)

(52
)

(688
)



(15
)Income (loss) before income taxes


19,797


(50,201
)

(31,527
)

(16,738
)

(15,276
)



(11,370
)Income tax expense


2,290


341


713


667


312




35Net income (loss)

$
17,507

$
(50,542
)
$
(32,240
)
$
(17,405
)
$
(15,588
)


$
(11,405
)Basic and diluted net income (loss) per share of common stock(a)

$
0.69

$
(2.00
)
$
(1.37
)
$
(0.95
)
$
(0.86
)


$
(5.80
)Weighted average number of shares of common stock outstanding(a)


25,324,440


25,310,364


23,525,652


18,233,221


18,198,571




1,965,654Consolidated balance sheet dataWorking capital (deficit)

$
(18,406
)
$
(1,777
)
$
5,555

$
(4,990
)
$
(5,067
)Customer accounts, net


203,453


237,718


282,396


200,371


232,875Goodwill


43,853


41,604


41,604


12,160


12,160Total assets


571,895


639,054


672,717


443,953


436,302Long term debt, including capital leases, net of current portion


436,550


523,927


521,180


391,991


321,293Total stockholders' equity (deficiency in assets)


(59,063
)

(80,250
)

(22,517
)

(79,943
)

8,067Cash flow dataCash flows provided by operations

$
105,397

$
59,654

$
57,664

$
49,527

$
40,413



$
3,710Cash flows used in investing activities


(31,792
)

(48,357
)

(34,670
)

(36,687
)

(24,151
)



(2,473
)Cash flows used in financing activities


(86,420
)

(13,413
)

(6,595
)

(8,133
)

(50,134
)






(a)On
May 12, 2006, a cash dividend of $3.86 per share was paid to all holders of record of common stock on May 8, 2006. Loss per share and
weighted average number of shares presented give retroactive effect to the one-share-for-fifty shares reverse stock split on February 8, 2005.


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ITEM 7.    MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS.

Overview

We are a leading national provider of electronic security alarm monitoring services, providing installation, maintenance and electronic
monitoring of alarm systems to single-family residential, commercial, multifamily and wholesale customers. We monitor signals from burglary, fire, medical and environmental alarm systems and manage
information from access control and CCTV systems.

Our
business consists of three primary segments: Retail, Wholesale and Multifamily which market our services to these customer segments through limited, but separate internal sales and
installation branch networks. Our Retail segment provides monitoring and maintenance services for electronic security systems directly to residential and business customers. We also sell and install
electronic security systems for homes and businesses through our Retail segment in order to meet their security needs. In late 2009, we created an internal sales group to sell systems and services
over the phone. Our Wholesale segment contracts with independent security alarm dealers nationwide to provide alarm system monitoring services to their residential and business customers. We also
provide business support services as well as financing assistance for these independent dealers by providing loans secured by alarm contracts and by purchasing alarm contracts. Our Multifamily segment
provides monitoring and maintenance services for electronic security systems to tenants of multifamily residences, including apartments, condominiums and other multifamily dwellings, under
long-term contracts with building owners and managers.

As
you read this section, please refer to our Consolidated Financial Statements and accompanying notes in Item 8 of this Annual Report.

Sources of Revenue

For both Retail and Multifamily segments, revenue is primarily generated from providing monitoring services. Monitoring revenue is
generated based on our contracts with our customers. Our Retail customer contracts typically have three-year initial terms for residential customers and five-year initial terms
for commercial customers. Our Multifamily customer contracts have initial terms that fall within a range of five to ten years and average eight years at inception. Our contracts generally also provide
for automatic renewal provisions where permitted. Many of our residential and commercial contracts require us to provide additional services, such as maintenance services, generating incremental
revenue for us. Wholesale revenue includes monitoring services as well as business support services with contracts generally on a month-to-month basis. Installation and other
revenue consists primarily of sales of burglar alarms, closed circuit television systems, fire alarms and card access control systems to commercial customers as well as amortization of previously
deferred revenue.

Costs of Revenue; Expenses

Monitoring and related services costs generally relate to the cost of providing monitoring service and include the costs of monitoring,
billing, customer service and field operations. Installation and other costs of revenue consist primarily of equipment and labor charges to install alarm systems, closed circuit television systems,
fire alarms and card access control systems sold to our customers as well as amortization of previously deferred costs.

Selling
expenses include employee compensation, benefits and recruiting for our internal sales force, spending on marketing and selling programs, advertising, customer signage, marketing
materials, trade show expense and amortization of previously deferred selling costs. General and administrative expenses include employee compensation and benefits, lease expenses on office space and
office equipment, costs of debt collection efforts, professional service fees and other miscellaneous expenses.

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Amortization
of intangibles and depreciation includes amortization of customer accounts, dealer relationships and non-competition agreements as well as depreciation on property and
equipment.

Business Strategy

Our overall goal is to improve returns on invested capital while increasing our market share in select segments for Retail and
Wholesale electronic security systems and services in the largest cities and metropolitan areas in the United States. Specific goals include:



We
plan to achieve these objectives by building upon our core strengths, including our multiple monitoring centers and national branch platform, our brand recognition, our internal sales force model
and our highly skilled and experienced management team and workforce.

Significant Activities



On November 17, 2009, we amended our senior credit agreement (as amended, the "Senior Credit Agreement") which
(i) increased our term loan borrowings by $75 million (the "New Term Loans") to an aggregate of $364.5 million, (ii) divided all of our term loans into a tranche equal to
$86.5 million (the "Non-Extending Term Loans") and a tranche equal to $278.0 million (the "New and Extending Term Loans") and (iii) replaced our $25 million
revolving credit facility with a $15 million revolving credit facility.

The
proceeds from the New Term Loans under the Senior Credit Agreement, together with excess cash, were deposited with the trustee under the indenture governing Protection One Alarm
Monitoring, Inc.'s ("POAMI") 12% Senior Secured Notes due 2011 (the "Senior Secured Notes") in order to redeem the Senior Secured Notes in full. The Senior Secured Notes were called for
redemption effective December 17, 2009 and the obligations of POAMI, Protection One and other guarantors under the indenture were satisfied and discharged. We wrote-off
$4.7 million, net, of unamortized premium and debt issue costs in connection with the redemption. In addition, payments of $4.7 million were made for termination fees and
make-whole payments.

The
New and Extending Term Loans are scheduled to mature on March 31, 2014, provided, however, that the New and Extending Term Loans will mature on December 14, 2012 if
prior to December 14, 2012 the maturity date for our Unsecured Term Loan Agreement is not extended to at least 91 days after March 31, 2014 or the borrowings under the Unsecured
Term Loan Agreement are

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not
refinanced with permitted refinancing indebtedness having a maturity date at least 91 days after March 31, 2014. The New and Extending Term Loans bear interest at a margin of 4.25%
over the Eurodollar Base Rate (as defined in the Senior Credit Agreement and subject to a 2% floor) for Eurodollar borrowings and 3.25% over the Base Rate (as defined in the Senior Credit Agreement
and subject to a 3% floor) for Base Rate borrowings. The Non-Extending Term Loans are scheduled to mature on March 31, 2012 and bear interest at a margin of 2.25% over the
Eurodollar Base Rate for Eurodollar borrowings and 1.25% over the Base Rate for Base Rate Borrowings.

The
revolving credit facility is scheduled to mature on March 31, 2013, provided, however, that the revolving credit facility will mature on December 14, 2012 if prior to
December 14, 2012 the maturity date of the Unsecured Term Loan Agreement is not extended to at least 91 days after March 31, 2014 or the borrowings under the Unsecured Term Loan
Agreement are not refinanced with permitted refinancing indebtedness having a maturity date at least 91 days after March 31, 2014. Borrowings under the revolving credit facility will
bear interest at a margin of 4.25% over the Eurodollar Base Rate for Eurodollar borrowings and 3.25% over the Base Rate for Base Rate borrowings. The revolving credit facility includes an unused
commitment fee equal to 1.0%. We may request letters of credit to be issued under the revolving credit facility of up to $7.5 million, with any outstanding letters of credit reducing the total
amount available for borrowing under the revolving credit facility.

We
made $30.0 million in principal prepayments on the Non-Extending Term Loans in December 2009 which can be applied to offset any required Excess Cash Flow payment as
defined in the Senior Credit Agreement. As a result, we will not be required to make additional principal prepayments in the first quarter of 2010.



On December 30, 2009, we entered into a Final Settlement Agreement with Westar Energy, Inc. and its wholly-owned
subsidiary, Westar Industries, Inc. (together, "Westar"), our former owner, to settle all claims between Westar and us related to certain agreements entered into in connection with Westar's
sale of us to POI Acquisition I, Inc. in February 2004. Pursuant to the Final Settlement Agreement, we received $22.75 million from Westar on December 31, 2009.



On October 2, 2009, we entered into an agreement with Apx Alarm Security Solutions, Inc. ("APX") under which APX assumed
operating control of our monitoring center located in South St. Paul, Minnesota, effective November 1, 2009 (the "APX Agreement"). As a result of this arrangement, APX will now provide
the monitoring services to their customer base that we previously provided through our South St. Paul, Minnesota facility (the "Facility"). We agreed to, among other things, (i) license
to APX certain intellectual property used in the operation of the Facility, (ii) assign ownership to APX of the fixed assets at the Facility and (iii) provide support services to APX,
including emergency technical services and disaster recovery planning and recovery services, through December 31, 2010, all in exchange for a monthly service fee. In addition, APX agreed to
assume the lease for the Facility and to offer employment under similar terms to certain personnel working at the Facility. We will cease providing any services to APX after December 31, 2010.
APX accounted for approximately 377,000 of our Wholesale monitored sites and $1.1 million of Wholesale RMR at November 1, 2009. APX contributed $11.0 million of Wholesale segment
monitoring revenue in 2009. Although we expect a decline in Wholesale monitoring revenue as a result of this arrangement, we do not expect that our quarterly operating income and net cash flows will
decrease materially through December 31, 2010 because the revenue from the monthly service fee under the arrangement is expected to be at significantly higher margins since the Facility costs
(including Facility personnel costs) will no longer be included in our results of operations.

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Table of Contents

Performance Metrics



We measure all of the recurring monthly revenue we are entitled to receive under contracts with customers in effect at the end of the
period. Our computation of RMR may not be comparable to other similarly titled measures of other companies, in part because our proportion of Retail, Wholesale, and Multifamily RMR may vary
significantly from the mix at other companies. RMR should not be viewed by investors as an alternative to actual monthly revenue, as
determined in accordance with generally accepted accounting principles and is a non-GAAP measure. We had approximately $25.1 million of RMR as of December 31, 2009 and
$26.7 million of RMR as of December 31, 2008 and 2007. A significant portion of the decrease in RMR as of December 31, 2009 is a result of our agreement with APX which resulted in
a reduction of Wholesale RMR of $1.1 million as well as lower Retail investment in customer acquisition activities. See "Significant Activities, APX Agreement" above, for additional information
related to the agreement.

Even
though our proportions of Retail, Wholesale and Multifamily RMR may differ significantly from other companies' mix, and even though contributions from each type of RMR varies, we
believe the presentation of RMR is useful to investors because the measure is used by investors and lenders to value companies such as ours with recurring revenue streams. Management monitors RMR,
among other things, to evaluate our ongoing performance. In order to enhance investors' understanding of the components of our RMR, we include roll-forwards for each segment below. The
table below reconciles our RMR to revenue reflected on our consolidated statements of operations (in thousands).

2009

2008

2007RMR at December 31

$
25,057

$
26,746

$
26,706Amounts excluded from RMR:Amortization of deferred revenue


1,694


1,211


1,036Other revenue(a)


3,533


3,303


2,974Revenue (GAAP basis):December


30,284


31,260


30,716January  November


337,768


340,761


317,155Total period revenue

$
368,052

$
372,021

$
347,871


(a)Revenue
that is not pursuant to monthly contractual billings.


Our
RMR includes amounts billable to customers with past due balances that we believe are collectible. We seek to preserve the revenue stream associated with each customer contract,
primarily to maximize our return on the investment we made to generate each contract. As a result, we actively work to collect amounts owed to us and to retain the customers at the same time. In some
instances, we may allow up to six months to collect past due amounts, while evaluating the ongoing customer relationship. When we categorize accounts as at-risk because accounts receivable
balances exceed certain guidelines or because notice of intent to cancel or move has been provided by the customer, we include the account in attrition calculations. After we have made every
reasonable effort to collect past due balances, we will disconnect the customer and include the loss in attrition calculations.

Our
RMR calculation is not considered an alternative to revenue calculated under accounting principles generally accepted in the United States of America ("GAAP") and is not a substitute
indication of our operating performance under GAAP. We believe, however, that the supplemental presentation of RMR is useful to investors because the measure is used by investors and lenders to value
companies such as ours with recurring revenue streams.

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Table of Contents

The
following table provides a roll-forward of RMR by segment and in total for the years indicated (in thousands).

Year Ended December 31,2009

2008

2007Retail

Whole-
sale

Multi-
family

Total

Retail

Whole-
sale

Multi-
family

Total

Retail

Whole-
sale

Multi-
family

TotalBeginning RMR balance

$
20,543

$
3,998

$
2,205

$
26,746

$
20,628

$
3,615

$
2,463

$
26,706

$
16,429

$
963

$
2,596

$
19,988RMR additions from direct sales


1,775





101


1,876


2,316





98


2,414


2,331





86


2,417RMR additions from Merger


























4,133


2,549





6,682RMR additions from account purchases


38








38


44








44


32








32Net change in Wholesale RMR





145





145





383





383





103





103RMR losses(a)


(2,713
)




(396
)

(3,109
)

(2,823
)




(428
)

(3,251
)

(2,583
)




(269
)

(2,852
)Price increases and other(b)


464


(1,112
)

9


(639
)

378





72


450


286





50


336Ending RMR balance

$
20,107

$
3,031

$
1,919

$
25,057

$
20,543

$
3,998

$
2,205

$
26,746

$
20,628

$
3,615

$
2,463

$
26,706


(a)RMR
losses include price decreases(b)Price
increases and other for our Wholesale segment in 2009 reflects the RMR impact of the APX Agreement. See "Significant Activities, APX Agreement" above,
for additional information related to the agreement.


The table below reconciles our RMR by segment to revenue reflected in our segment results of operations (in thousands).

Year Ended December 31,2009

2008

2007Retail

Whole-
sale

Multi-
family

Retail

Whole-
sale

Multi-
family

Retail

Whole-
sale

Multi-
familyRMR at December 31

$
20,107

$
3,031

$
1,919

$
20,543

$
3,998

$
2,205

$
20,628

$
3,615

$
2,463Amounts excluded from RMR:Amortization of deferred revenue


1,683





11


1,197





14


1,025





12Other revenue(a)


2,960


390


183


2,829


263


211


2,400


425


148Revenue (GAAP basis):December


24,750


3,421


2,113


24,569


4,261


2,430


24,053


4,040


2,623January  November


264,565


46,767


26,436


267,226


45,216


28,319


253,437


33,938


29,780Total period revenue

$
289,315

$
50,188

$
28,549

$
291,795

$
49,477

$
30,749

$
277,490

$
37,978

$
32,403


(a)Revenue
that is not pursuant to monthly contractual billings.




In each of the last three years, monitoring and related service revenue comprised approximately 90% of our total revenue. The table
below identifies the monitoring and related services gross margin

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Table of Contents

and
gross margin percentage for the presented periods, which is exclusive of amortization and depreciation (dollar amounts in thousands).

Year Ended December 31,2009

2008Retail

Whole-
sale

Multi-
family

Total

Retail

Whole-
sale

Multi-
family

TotalMonitoring and related services revenue

$
251,585

$
49,021

$
27,395

$
328,001

$
255,104

$
48,660

$
30,361

$
334,125Cost of monitoring and related services (exclusive of depreciation)


67,709


26,169


7,105


100,983


75,154


28,108


7,718


110,980Gross margin

$
183,876

$
22,852

$
20,290

$
227,018

$
179,950

$
20,552

$
22,643

$
223,145Gross margin %


73.1
%

46.6
%

74.1
%

69.2
%

70.5
%

42.2
%

74.6
%

66.8
%




Year Ended December 31, 2007Retail

Whole-
sale

Multi-
family

TotalMonitoring and related services revenue

$
243,963

$
37,432

$
31,935

$
313,330Cost of monitoring and related services (exclusive of depreciation)


72,526


19,599


7,710


99,835Gross margin

$
171,437

$
17,833

$
24,225

$
213,495Gross margin %


70.3
%

47.6
%

75.9
%

68.1
%


Our total monitoring and related services gross margin percentage increased from the prior periods primarily due to our efforts to reduce costs.
Retail gross margin improved in 2009 due to the centralization of customer care and field technical support functions as well as a decrease in fuel costs. Retail gross margin percentage was consistent
between 2008 and 2007. Wholesale gross margin increased in 2009 due to labor efficiencies achieved through the integration of our billing and monitoring systems. Multifamily gross margin has declined
as our cost saving initiatives have not kept pace with the decline in revenue.

The
Wholesale gross margin percentage is typically lower than Retail and Multifamily gross margin percentages due to the reduced number of services we provide to dealers compared to the
number of services we provide to our Retail and Multifamily customers. Acquisition costs per monitored wholesale site are also significantly lower.



Our customer base reflected a net decrease in 2009, primarily due to a decrease in monitored sites in our Wholesale segment as a result
of the APX Agreement. See "Significant Activities-APX Agreement," above, for additional information. Our Retail and Multifamily segments also experienced a decrease in monitored sites
because we were unable to replace our cancelled customers with new customers from our sales efforts. Our customer base reflected a net increase in monitored sites during 2008 primarily due to growth
in our Wholesale operations. The increase in 2007 is primarily the result of the Merger, through which a significant amount of Retail and Wholesale customers were acquired. Net losses of customer
accounts materially and adversely affect our business, financial condition and results of operations.

Attrition
has a direct impact on our results of operations as it affects our revenue, amortization expense and cash flow. We monitor attrition each quarter based on a quarterly
annualized and trailing twelve-month basis. This method utilizes each segment's average RMR base for the applicable period in measuring attrition. Therefore, in periods of RMR growth, the computation
of RMR attrition may result in a number less than would be expected in periods when RMR remains stable. In periods of

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RMR
decline, the computation of RMR attrition may result in a number greater than would be expected in periods when RMR remains stable. We believe the presentation of RMR attrition is useful to
investors because the measure is used by investors and lenders to value companies such as ours with recurring revenue streams. In addition, we believe RMR attrition information is more useful than
customer account attrition because it reflects the economic impact of customer losses and price decreases.

In
the table below, we define attrition as a ratio, the numerator of which is the gross amount of lost RMR, which includes price decreases, for a given period, net of the adjustments
described below, and the denominator of which is the average amount of RMR for a given period. In some instances, we use estimates to derive attrition data. In the calculations directly below, we do
not reduce the gross RMR lost during a period by RMR added from "new owner" accounts, which are accounts where a new customer moves into a location installed with our security system and vacated by a
prior customer, or from "relocation" accounts, which are accounts where an existing customer moves and transfers service to their new location.

As
defined above, RMR attrition by business segment is summarized at December 31, 2009, 2008 and 2007. Our Retail gross attrition improved slightly in 2009 compared to 2008 due to
a smaller net loss of customers in 2009. Our Multifamily segment attrition was slightly higher in 2009 compared to 2008 because of an increase in RMR at-risk and customers terminating
services for financial reasons.

Recurring Monthly Revenue AttritionDecember 31, 2009

December 31, 2008

December 31, 2007Annualized
Fourth
Quarter

Trailing
Twelve
Month

Annualized
Fourth
Quarter

Trailing
Twelve
Month

Annualized
Fourth
Quarter

Trailing
Twelve
MonthRetail


12.8
%

13.3
%

13.9
%

13.7
%

13.3
%

13.2
%Multifamily


21.9
%

19.2
%

21.3
%

18.3
%

9.0
%

10.6
%


In
the table below, in order to enhance the comparability of our Retail segment attrition results with those of other industry participants, many of which report attrition net of new
owner and relocation accounts and exclude price decreases, we define the denominator the same as above but define the numerator as the gross amount of lost RMR, excluding price decreases, for a given
period reduced by RMR added from new owners and relocation accounts.

Recurring Monthly Revenue AttritionDecember 31, 2009

December 31, 2008

December 31, 2007Annualized
Fourth
Quarter

Trailing
Twelve
Month

Annualized
Fourth
Quarter

Trailing
Twelve
Month

Annualized
Fourth
Quarter

Trailing
Twelve
MonthRetail


9.7
%

10.3
%

10.9
%

10.5
%

9.9
%

9.5
%


Our
actual attrition experience shows that the relationship period with any individual customer can vary significantly. Customers discontinue service with us for a variety of reasons,
including relocation, service issues and cost. A portion of the customer base can be expected to discontinue service every year. Any significant change in the pattern of our historical attrition
experience would have a material effect on our results of operations. To a much greater extent than Retail, Wholesale attrition can be affected by the decisions of its largest dealers.

We
evaluate the Wholesale segment based on the net change in RMR because added RMR typically does not require an up-front investment by us. Wholesale RMR fluctuates as our
customers, the independent dealers, add and lose their customers for whom we are providing monitoring and other services. As noted above in "Significant ActivitiesAPX Agreement" we
entered into a new services agreement with our largest customer resulting in a decrease of $1.1 million of RMR in our Wholesale

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segment.
Exclusive of that decrease, the net change in Wholesale RMR was an increase of $145,000, a 3.6% increase in RMR for the year. The net change in RMR for 2008 was $383,000, a 10.6% increase in
RMR for the year. The net change in 2007, exclusive of the increase related to the RMR acquired in the IASG merger was $103,000, a 3.6% increase in RMR for the year, adjusted for the added RMR from
the IASG merger.

Adjusted EBITDA

We manage our business segments based on earnings before interest, income taxes, depreciation, amortization (including amortization of
deferred customer acquisition costs and revenue) and other items shown in the tables below, referred to as Adjusted EBITDA and is a non-GAAP measure. Adjusted EBITDA is used by management
and reviewed by the Board of Directors in evaluating segment performance and determining how to allocate resources across segments for investments in customer acquisition activities, capital
expenditures and spending in general. We believe it is also utilized by the investor community that follows the security monitoring industry. Adjusted EBITDA is useful because it allows investors and
management to evaluate and compare operating results from period to period in a meaningful and consistent manner in addition to standard GAAP financial measures. Specifically, Adjusted EBITDA allows
management to evaluate segment results of operations, including operating performance of monitoring and service activities, effects of investments in creating new customer relationships, and sales and
installation of security systems, without the effects of non-cash amortization and depreciation. Adjusted EBITDA by segment for the years ended December 31, 2009, 2008 and 2007 was
as follows (in thousands):

For the year ended December 31,2009

2008

2007Retail

$
95,611

$
87,186

$
82,232Wholesale


13,199


9,575


10,375Multifamily


14,022


12,552


14,805


Retail
Adjusted EBITDA increased $8.4 million in 2009 compared to 2008. Retail Adjusted EBITDA increased due to lower overall net costs incurred in customer acquisition
activities. In addition, reductions in Retail monitoring and service costs more than offset the decline in the related revenue. Wholesale Adjusted EBITDA increased $3.6 million in 2009 compared
to 2008 primarily because of improvements in operating margin resulting from the integration of our Wholesale monitoring centers. Multifamily Adjusted EBITDA increased $1.5 million in 2009
compared to 2008. The increase is the result of a decrease in general and administrative expenses, primarily the cost of corporate administrative support services, such as Human Resources and
Information Technology, allocated to the Multifamily segment.

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Table of Contents

The
following tables provide a reconciliation of loss before income taxes to Adjusted EBITDA by segment (in thousands):

For the year ended December 31, 2009Retail

Wholesale

MultifamilyIncome before income taxes

$
3,876

$
8,384

$
7,537Plus:Interest expense, net


44,792





519Amortization and depreciation expense


41,943


4,713


3,440Amortization of deferred costs in excess of amortization of deferred revenue


28,006





2,508Stock based compensation expense


496





Other costs(a)


1,321


102


18Less:Gain on retirement of debt


(1,956
)Gain on settlement agreement


(22,867
)




Adjusted EBITDA

$
95,611

$
13,199

$
14,022




For the year ended December 31, 2008Retail

Wholesale

Multifamily(Loss) Income before income taxes

$
(55,768
)
$
2,212

$
3,355Plus:Interest expense, net


47,386


3


356Amortization and depreciation expense


51,474


7,216


5,585Amortization of deferred costs in excess of amortization of deferred revenue


28,556





2,176Stock based compensation expense


1,448





Other costs(a)


1,356


144


155Loss on retirement of debt


12,788





Loss on impairment of trade name








925Less:Other income


(54
)




Adjusted EBITDA

$
87,186

$
9,575

$
12,552




For the year ended December 31, 2007Retail

Wholesale

Multifamily(Loss) Income before income taxes

$
(39,135
)
$
1,482

$
6,126Plus:Interest expense, net


43,920


2,619


438Amortization and depreciation expense


49,501


6,274


6,289Amortization of deferred costs in excess of amortization of deferred revenue


22,223





1,952Stock based compensation expense


1,469





Other costs, including Merger related expenses(a)


4,344





Less:Other income


(90
)




Adjusted EBITDA

$
82,232

$
10,375

$
14,805


(a)Other
costs include non-recurring costs and other items permitted to be excluded from the calculation of Consolidated EBITDA under the Senior
Credit Agreement.


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Table of Contents

Critical Accounting Policies

Our discussion and analysis of results of operations and financial condition are based upon our consolidated financial statements,
which have been prepared in accordance with GAAP. The preparation of these consolidated financial statements requires us to make estimates and judgments that affect the reported amounts of assets,
liabilities, revenue and expenses, and related disclosure of contingent assets and liabilities. We evaluate our estimates on an on-going basis, including those related to customer
accounts, goodwill, intangible assets, income taxes, bad debts, inventories, investments, contingencies and litigation. We base our estimates on historical experience and on various other assumptions
that we believe to be reasonable under the circumstances, the results of which form the basis for making judgments about the carrying values of assets and liabilities that are not readily apparent
from other sources. Actual results may differ from these estimates under different assumptions or conditions.



Revenue is recognized when security services are provided. System installation revenue, sales revenue on equipment upgrades and direct
and incremental costs of installations and sales are deferred for residential customers with monitoring service contracts. For commercial customers and our national account customers, revenue
recognition is dependent upon each specific customer contract. In instances when we pass title to a system, we recognize the associated revenue and costs related to the sale of the equipment in the
period that title passes regardless of whether the sale is accompanied by a service agreement. In cases where we retain title to the system, we defer and amortize revenue and direct costs.

Deferred
system and upgrade installation revenue are recognized over the estimated life of the customer utilizing an accelerated method for our Retail customers. We amortize deferred
revenue from customer acquisitions related to our Retail customers over a fifteen-year period on an accelerated basis. The associated deferred customer acquisition costs are amortized,
annually and in total, over a fifteen-year period on an accelerated basis in amounts that are equal to the amount of revenue amortized, annually and in total, over the
fifteen-year period. The deferred customer acquisition costs in excess of the deferred customer acquisition revenue are amortized over the initial term of the contract on a
straight-line basis.

We
amortize deferred customer acquisition costs and revenue related to our Retail customers using an accelerated basis because we believe this method best approximates the results that
would be obtained if we accounted for these deferred costs and revenue on a specific contract basis utilizing a straight-line amortization method with write-off upon customer
termination. We do not track deferred customer acquisition costs and revenue on a contract by contract basis in our Retail segment, and as a result, we are not able to write-off the
remaining balance of a specific contract when the customer relationship terminates. Deferred customer acquisition costs and revenue are accounted for using pools, with separate pools based on the
month and year of acquisition.

We
periodically perform a lifing study with the assistance of a third-party appraisal firm to estimate the average expected life and attrition pattern of our customers. The lifing study
is based on historical customer terminations. The results of our lifing studies indicate that our customer pools can expect a declining revenue stream. We evaluate the differing rates of declining
revenue streams for each customer pool and select an amortization rate that closely matches the respective decline curves. Such analysis is used to establish the amortization rates of our customer
account pools in order to reflect the pattern of future benefit. Given that the amortization lives and methods are developed using historical attrition patterns and consider actual customer
termination experience, we believe such amortization lives and methods approximate the results of amortizing on a specific contract basis with write-off upon termination.

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Table of Contents

For
our Multifamily segment, we track the deferred revenues on a contract by contract basis which are recognized over the estimated life of the customer over a fifteen-year
period on an accelerated basis. The deferred customer acquisition costs in excess of the deferred customer acquisition revenues are amortized over the initial term of the contract. We write off the
unamortized portion of the Multifamily deferred customer acquisition revenues and costs when the customer relationship terminates.

The
table below reflects the impact of our accounting policy on the respective line items of the Statement of Operations for the years ended December 31, 2009, 2008 and 2007. The
"Total amount incurred" line represents the current amount of billings that were made and the current costs that were incurred for the period. We then subtract the deferral amount and add back the
amortization of previous deferral amounts to determine the amount we report on the Statement of Operations (in thousands).

For the Year Ended December 31,2009

2008

2007Revenue
other

Cost of
revenue
other

Selling
expense

Revenue
other

Cost of
revenue
other

Selling
expense

Revenue
other

Cost of
revenue
other

Selling
expenseRetail segment:Total amount incurred

$
42,211

$
48,256

$
42,398

$
52,040

$
63,572

$
52,986

$
52,648

$
58,778

$
47,921Amount deferred


(19,707
)

(28,527
)

(11,217
)

(28,747
)

(41,727
)

(18,047
)

(29,790
)

(37,317
)

(19,209
)Amount amortized


15,226


26,226


17,006


13,398


24,335


17,619


10,669


16,906


15,986Amount included in Statement of Operations

$
37,730

$
45,955

$
48,187

$
36,691

$
46,180

$
52,558

$
33,527

$
38,367

$
44,698Wholesale segment:Total amount incurred(a)

$
1,167

$


$
1,776

$
817

$


$
2,253

$
546

$


$
1,430Multifamily segment:Total amount incurred

$
1,012

$
2,872

$
857

$
325

$
4,077

$
1,703

$
308

$
3,473

$
1,749Amount deferred


(50
)

(1,976
)

(292
)

(90
)

(3,631
)

(472
)

(20
)

(2,957
)

(470
)Amount amortized


192


2,434


266


153


2,124


205


180


1,987


145Amount included in Statement of Operations

$
1,154

$
3,330

$
831

$
388

$
2,570

$
1,436

$
468

$
2,503

$
1,424Total Company:Total amount incurred

$
44,390

$
51,128

$
45,031

$
53,182

$
67,649

$
56,942

$
53,502

$
62,251

$
51,100Amount deferred


(19,757
)

(30,503
)

(11,509
)

(28,837
)

(45,358
)

(18,519
)

(29,810
)

(40,274
)

(19,679
)Amount amortized


15,418


28,660


17,272


13,551


26,459


17,824


10,849


18,893


16,131Amount reported in Statement of Operations

$
40,051

$
49,285

$
50,794

$
37,896

$
48,750

$
56,247

$
34,541

$
40,870

$
47,552


---

In addition to the amounts reflected in the table above relating to our costs incurred to create new accounts, our Retail segment also capitalized
purchases of rental equipment in the amount of $2.3 million, $5.3 million and $4.4 million for the years ended December 31, 2009, 2008 and 2007, respectively. We purchased
customer accounts valued at $1.0 million, $1.2 million and $1.0 million in the years ended December 31, 2009, 2008 and 2007, respectively. We acquired $130.3 million
in customer accounts in 2007 in connection with the Merger. The decrease in Retail costs incurred in 2009 is due to fewer opportunities to invest in customer acquisition activities. The increase in
Retail costs incurred during 2008 relates to an increase in the sale of commercial lease products, which have higher upfront costs, as well as an increase in fuel costs.

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Goodwill is recorded in the Retail, Wholesale and Multifamily operating segments, which are also our reporting units for purposes of
evaluating our recorded goodwill for impairment. Goodwill was $43.9 million and $41.6 million as of December 31, 2009 and 2008, respectively. We completed our annual impairment
testing during the third quarter of 2009 and determined that goodwill was not impaired. The fair value of all reporting units is substantially in excess of the respective reporting unit's carrying
value.

Goodwill
originated with the adoption of push down accounting and the related adjustments during 2005, which was associated with the acquisition of the Company by a new controlling
shareholder group. Additional goodwill was recorded in connection with the Merger during 2007. We determined the fair value of each reporting unit acquired in the Merger and then allocated goodwill to
each reporting unit based on the amount of excess fair value determined after assigning values to the individual assets acquired and liabilities assumed related to each reporting unit.

We
evaluate goodwill for impairment annually as of the beginning of the third quarter and any time an event occurs or circumstances change that would more likely than not reduce the fair
value of a reporting unit below its carrying value in accordance with Accounting Standards of Codification ("ASC") 350, Intangibles-Goodwill and Other.

The
goodwill impairment test involves a two-step process. The first step is a comparison of each reporting unit's fair value to its carrying value. If the carrying value of a
reporting unit exceeds its fair value, goodwill is considered potentially impaired and we must complete the second step of the goodwill impairment test. The amount of impairment is determined by
comparing the implied fair value of reporting unit goodwill to the carrying value of the goodwill in the same manner as if the reporting unit was being acquired in a business combination.
Specifically, we would allocate the fair value to all of the assets and liabilities of the reporting unit, including internally developed intangible assets with a zero carrying value, in a
hypothetical analysis that would calculate the implied fair value of goodwill. If the implied fair value of goodwill is less than the recorded goodwill, we would recognize an impairment charge for the
difference.

Fair
value of the reporting units is determined using a combined income and market approach. The income approach uses a reporting unit's projection of estimated cash flows discounted
using a weighted-average cost of capital analysis that reflects current market conditions. The market approach may involve use of the guideline transaction method, the guideline company method, or
both. The guideline transaction method makes use of available transaction price data of companies engaged in the same or a similar line of business as the respective reporting unit. The guideline
company method uses market multiples of publicly traded companies with operating characteristics similar to the respective reporting unit. We consider value indications from both the income approach
and market approach in estimating the fair value of each reporting unit. We also perform a sensitivity analysis on our estimated fair value using the income and market approach.

The
income approach was given significant weight for all three reporting units because management considers this method a reasonable indicator of fair value. The market transaction
method was also given significant weight for all three reporting units because transactions in the industry are commonly valued as a multiple of RMR. Based on management's experience along with a
review of recent industry transactions, management concluded the weighting of the market transaction method was appropriate. The market guideline company method was given a small weight for Retail
because, although the guideline companies are generally comparable, they are not similar enough to warrant a significant weight in estimating fair value. The market guideline company method was given
no weight for the Wholesale and Multifamily reporting units because management determined that there were no sufficiently comparable companies or there was a lack of market data for businesses engaged
in these specialized monitored security operations.

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The
weighting for each of the methods used in connection with our annual goodwill impairment testing for 2009 is detailed in the table below:

Income Approach

MarketGuideline

MarketTransactionRetail


60
%

10
%

30
%Wholesale


50
%

0
%

50
%Multifamily


50
%

0
%

50
%


Management
judgment is a significant factor in determining whether an indicator of impairment has occurred. Management relies on estimates in determining the fair value of each reporting
unit, which include the following critical quantitative factors:



Our
principal indefinite-lived intangible assets are trade names, which had a book value of $27.7 million as of December 31, 2009 and 2008. Trade name values were based on
the identifiable revenue associated with each segment. Fair value is determined based on the income approach using the relief from royalty method, which requires assumptions related to projected
revenues and assumptions regarding the royalty rate and discount rate. We completed our annual impairment testing during the third quarter of 2009 and determined that our trade names were not
impaired. Fair value of the trade name in the Multifamily segment was approximately 9% in excess of carrying value. The carrying value of this trade name was $1.9 million as of
December 31, 2009. A change in the discount rate, projected Multifamily revenue or royalty rate could result in future impairment. Due to the decline in Multifamily total revenue, we have been
closely monitoring this trade name balance for potential impairment.

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Long-lived assets include property and equipment, customer accounts, dealer relationships, deferred customer acquisition
costs and other amortizable intangible assets. We review long-lived assets for impairment in accordance with the guidance in ASC 360, Property, Plant, and Equipment. Recoverability of
long-lived assets is measured by a comparison of the carrying value to the future undiscounted cash flows expected to be generated by the assets. If we determine an impairment exists, the
amount of impairment recognized is the amount by which the carrying value exceeds fair value. Projections of
future cash flows are subject to change as a result of actual results differing from expectation as well as higher than expected levels of customer attrition. Though we are not expecting actual
results to vary significantly from our projections, long-lived assets are reviewed for impairment when events or changes in circumstances indicate the carrying value may not be
recoverable.



The choice of an amortization life and method is based on our estimates and judgments about the amounts and timing of expected future
revenue from customer accounts and average customer account life. Amortization methods and amortization periods were determined because, in our opinion, they would adequately match amortization cost
with anticipated revenue. We evaluate the appropriateness of the amortization life and method of each of our customer account pools based on the actual historical attrition experience of each pool
and, when deemed necessary, perform a lifing study on our customer accounts to assist us in determining appropriate lives of our customer accounts. These analyses are needed in light of the inherent
declining revenue curve over the life of a pool of customer accounts. We have identified two distinct pools of customer accounts in our Retail segment and one customer pool in each of our Wholesale
and Multifamily segments, as shown in the table below, each of which has distinct attributes that affect differing attrition characteristics. We believe it is appropriate to segregate the acquired
IASG customer accounts into a separate pool as the historical attrition since the Merger has been significantly higher than the attrition for existing customers. The result of lifing studies indicated
to us that we can expect attrition to be greatest in the initial years of asset life and that a declining balance (accelerated) method therefore best matches the future amortization cost with the
estimated revenue stream from these customer pools. We switch from the declining balance method to the straight-line method in the year the straight-line method results in
greater amortization expense. Our amortization rates consider the average estimated remaining and historical projected attrition rates. We completed a lifing study during the fourth quarter of 2008,
which resulted in changes in estimated useful life and amortization methods, as shown in the tables below.

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Our
amortization rates consider the average estimated remaining and historical projected attrition rates. The amortization method for each customer pool is as follows:

Pool

MethodPrior to October 1, 2008:Customer Accounts:Retail-Protection One

Ten-year 135% declining balanceRetail-IASG

Nine-year 150% declining balanceMultifamily

Nine-year straight-lineDealer Relationships:Wholesale

Fifteen-year 150% declining balanceOctober 1, 2008 and after:Customer Accounts:Retail-Protection One

Fifteen-year double declining balanceRetail-IASG

Nine-year 150% declining balanceMultifamily

Fifteen-year 180% declining balanceDealer Relationships:Wholesale

Twenty-year 140% declining balance


We
conduct comprehensive reviews of our attrition experience on an ongoing basis and adjust the estimated lives of our customer accounts and dealer relationships as needed.



We account for our acquisitions of security monitoring businesses using the acquisition method. The acquisition method requires that we
estimate the fair value of the individual assets and liabilities acquired. The estimation of the fair value of the assets and liabilities acquired and consideration given involves a number of
judgments and estimates.



As part of the process of preparing our consolidated financial statements, we are required to estimate our income taxes in each of the
jurisdictions in which we operate. Significant management judgment is required in determining our provision for income taxes and our deferred tax assets and liabilities. This process involves us
estimating our actual current tax exposure
together with assessing temporary differences resulting from differing treatment of items, such as depreciation and amortization, for tax and accounting purposes. These differences result in deferred
tax assets and liabilities, which are included within our consolidated balance sheet. We must then assess the likelihood that our deferred tax assets will be recovered. To the extent we believe that
recovery is not likely, we must establish a valuation allowance. We believe that recovery of most of our deferred tax assets is not likely. Accordingly, a valuation allowance for virtually all of our
deferred tax assets has been established. We currently do not expect to be in a position to record tax benefits for losses incurred in the future.



See Item 8, Note 2 of the Notes to Consolidated Financial Statements, included in Part II of this Annual Report on
Form 10-K, for new accounting standards, including the expected dates of adoption and estimated effects on our Consolidated Financial Statements, which information is incorporated
herein by reference.

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Results of Operations



Revenuedecreased $3.9 million, or 1.1%, to $368.1 million in 2009 from
$372.0 million in 2008. Monitoring and related services revenue decreased $6.1 million, or 1.8%, to $328.0 million in 2009 compared to $334.1 million in 2008, primarily as
a result of our inability to replace lost customers with new ones, due to general economic conditions. Installation and other revenue increased to $40.1 million in 2009 from
$37.9 million in 2008 due to an increase in amortization of previously deferred customer acquisition revenue.

Revenue
increased $24.1 million, or 6.9%, to $372.0 million in 2008 from $347.9 million in 2007. Monitoring and related services revenue increased
$20.8 million, or 6.6%, to $334.1 million in 2008 compared to $313.3 million in 2007, primarily as a result of the Merger. Installation and other revenue increased to
$37.9 million in 2008 from $34.5 million in 2007 due to an increase in amortization of previously deferred customer acquisition revenue.

Cost of revenuedecreased $9.5 million, or 5.9%, to $150.3 million in 2009 from $159.7 million in 2008. Cost of
monitoring and related services revenue decreased approximately $10.0 million, or 9.0%, to $101.0 million in 2009 compared to $111.0 million in 2008, primarily due to our efforts
to reduce costs. Monitoring and related services margin as a percentage of related revenue was 69.2% and 66.8% in 2009 and 2008, respectively. Our monitoring and related services gross margin
percentage increased in 2009 due to a decrease in costs for the reasons described above.

Cost
of revenue increased $19.0 million, or 13.5%, to $159.7 million in 2008 compared to $140.7 million in 2007, primarily as a result of the Merger. Cost of
monitoring and related services revenue increased $11.2 million, or 11.2%, to $111.0 million in 2008 compared to $99.8 million in 2007, primarily due to our increased customer
base and increases in Retail and Wholesale monitoring and service costs. Installation and other cost of revenue increased to $48.8 million in 2008 from $40.9 million in 2007 due to an
increase in amortization of previously deferred customer acquisition costs.

Net incomeof $17.5 million, or earnings per diluted share of common stock of $0.69, was recorded in 2009 compared to a net loss of
$50.5 million, or loss per diluted share of common stock of $2.00 in 2008. A $22.9 million gain due to the Westar settlement agreement was the primary reason for net income in 2009 as
well as lower amortization and depreciation, selling and general and administrative expenses. A $12.8 million loss on the early retirement of our Senior Subordinated Notes, interest expense, as
identified above, and depreciation and amortization expense of $64.3 million contributed to the net loss for the year ended December 31, 2008. For the year ended December 31,
2007, we incurred a consolidated net loss of $32.2 million or loss per diluted share of common stock of $1.37. Interest expense and Merger-related costs of $4.3 million as well as
amortization and depreciation expense of $62.1 million contributed to the net loss for the year ended December 31, 2007.

Interest
expense decreased $3.1 million, or 6.5%, to $45.4 million in 2009 compared to $48.5 million in 2008 primarily due to a decrease in interest rates for our
variable rate senior credit facility and a decrease in amortization of debt discounts related to the redemption of our Senior Subordinated Notes in 2008, partially offset by an increase in interest
expense related to payments made under our rate swap agreements. Interest expense in 2008 decreased 1.9% compared to 2007 due to a decrease in amortization of debt discounts related to the redemption
of our Senior Subordinated Notes, partially offset by an increase in interest expense due to our $110.3 million Unsecured Term Loan. Interest expense was reduced by approximately
$30 thousand due to amortization of debt premium, debt discounts and debt issue costs for the year ended December 31, 2009, and includes $1.5 million and $6.9 million of
amortization of debt issue costs, debt discounts and debt premium for the years ended December 31, 2008 and 2007, respectively.

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We present the table below to show how the operating results for the Retail segment have changed over the periods presented. Next to
each period's results of operations, we provide the relevant percentage of total revenue so that you can make comparisons about the relative change in revenue and expenses (dollar amounts in
thousands).

For the year ended December 31,2009

2008

2007RevenueMonitoring and related services

$
251,585


87.0
%
$
255,104


87.4
%
$
243,963


87.9
%Installation and other


37,730


13.0


36,691


12.6


33,527


12.1Total Revenue


289,315


100.0


291,795


100.0


277,490


100.0Cost of revenue (exclusive of amortization and depreciation shown below)Monitoring and related services


67,709


23.4


75,154


25.8


72,526


26.2Installation and other


45,955


15.9


46,180


15.8


38,367


13.8Total cost of revenue (exclusive of amortization and depreciation shown below)


113,664


39.3


121,334


41.6


110,893


40.0Operating ExpensesSelling expenses


48,187


16.7


52,558


18.0


44,698


16.1General and administrative expenses


61,676


21.3


62,077


21.3


63,359


22.8Merger-related costs














4,344


1.6Amortization of intangibles and depreciation expense


41,943


14.5


51,474


17.6


49,501


17.8Total operating expenses


151,806


52.5


166,109


56.9


161,902


58.3Operating income

$
23,845


8.2
%
$
4,352


1.5
%
$
4,695


1.7
%


The
change in our Retail segment customer base is shown below for the periods indicated.

2009

2008

2007Beginning Balance, January 1,


574,001


602,519


506,688Customer additions, excluding additions from Merger


37,939


50,843


56,788Customer additions from Merger








115,175Customer losses


(72,021
)

(79,662
)

(74,696
)Other adjustments


1,049


301


(1,436
)Ending Balance, December 31,


540,968


574,001


602,519


For
a roll-forward of Retail segment RMR, see the segment table in "Performance MetricsRecurring Monthly Revenue," above.



Revenuedecreased $2.5 million, or 0.8%, to $289.3 million in 2009
compared to $291.8 million in 2008. Monitoring and related services revenue decreased due to attrition of customers and lower service call volume. Installation revenue increased
$1.0 million primarily due to an increase in amortization of previously deferred customer acquisition revenue partially offset by a decrease of $0.7 million in security system equipment
sales to commercial customers. Amortization of previously deferred customer acquisition revenue increased $1.8 million in 2009 to $15.2 million compared to

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$13.4 million
in 2008. Revenue consists primarily of (1) contractual revenue derived from providing monitoring and maintenance service, (2) revenue from our installations of new
alarm systems, consisting primarily of sales of burglar alarm, CCTV, fire alarm and card access control systems to commercial customers, and (3) amortization of previously deferred revenue.

Cost of revenuedecreased $7.6 million, or 6.3%, to $113.7 million in 2009 compared to $121.3 million in 2008,
primarily due to a decrease in the cost of monitoring and related services revenue. This decrease is primarily due to a reduction in labor costs related to centralization of our customer care
functions as well as the stabilization of fuel costs. Installation cost of revenue decreased slightly, less than one half of one percent. A decrease in the cost of security system outright equipment
sales to commercial customers was offset by a similar increase in amortization of previously deferred customer acquisition costs. These costs include the costs of monitoring, billing, customer
service, field operations, and equipment and labor charges to install alarm systems, CCTV, fire alarms and card access control systems sold to our commercial customers, as well as amortization of
previously deferred customer acquisition costs.

Operating expensesdecreased $14.3 million, or 8.6%, to $151.8 million in 2009 compared to $166.1 million in 2008,
primarily due to a decrease in costs associated with our marketing programs, a reduction in sales headcount and a decrease in amortization of intangibles and depreciation. Amortization of intangibles
and depreciation decreased $9.5 million, or 18.5%, to $41.9 million in 2009 compared to $51.4 million in 2008, primarily due to a decrease in amortization of customer accounts
resulting from changes in estimates based on our lifing study in 2008.



On April 2, 2007, we acquired IASG, which resulted in the acquisition of sizeable Retail and Wholesale operations. The financial
results of IASG have been consolidated from the date of the Merger.

Revenueincreased $14.3 million, or 5.2%, to $291.8 million in 2008 compared to $277.5 million in 2007. Monitoring
and related services revenue increased due to an increase in the customer base related to the Merger, an increase in service revenues and modest price increases, which was offset by attrition of
customers acquired in the Merger. Installation revenue increased due to an increase in amortization of previously deferred customer acquisition revenue. Amortization of previously deferred customer
acquisition revenue increased $2.7 million in 2008 to $13.4 million compared to $10.7 million in 2007.

Cost of revenueincreased $10.4 million, or 9.4%, to $121.3 million in 2008 compared to $110.9 million in 2007.
Increases in fuel costs and higher costs to service the increased customer base are the primary reasons for increases in our monitoring and related services cost of revenue. Installation cost of
revenue increased due to amortization of previously deferred customer acquisition costs which increased $7.4 million in 2008 to $24.3 million compared to $16.9 million in 2007.

Operating expensesincreased $4.2 million, or 2.6%, to $166.1 million in 2008 compared to $161.9 million in 2007,
primarily due to an increase in spending on our marketing and selling programs, partially offset by a decrease in Merger-related costs. During 2008, we implemented an integrated marketing program to
increase awareness for the Protection One® brand name nationally and to generate new lead sources and opportunities. We reached out to targeted customers, both residential and commercial,
through a variety of mediums in a planned and sequenced manner. Amortization of intangibles and depreciation increased in 2008 primarily due to a partial year of amortization in 2007 related to the
acquisition of additional customers in the Merger. General and administrative expense as a percentage of revenue decreased to 21.3% in 2008 from 22.8% in 2007 as a result of increased scale arising
from the Merger.

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We present the table below to show how the operating results of the Wholesale segment have changed over the periods presented. Next to
each period's results of operations, we provide the relevant percentage of total revenue so that you can make comparisons about the relative change in revenue and expenses (dollar amounts in
thousands).

For the year ended December 31,2009

2008

2007RevenueMonitoring and related services

$
49,021


97.7
%
$
48,660


98.3
%
$
37,432


98.6
%Installation and other


1,167


2.3


817


1.7


546


1.4Total Revenue


50,188


100.0


49,477


100.0


37,978


100.0Cost of revenue (exclusive of amortization and depreciation shown below)Monitoring and related services


26,169


52.1


28,108


56.8


19,599


51.6Operating ExpensesSelling expenses


1,776


3.5


2,253


4.6


1,430


3.8General and administrative expenses


9,146


18.3


9,685


19.5


6,574


17.3Amortization of intangibles and depreciation expense


4,713


9.4


7,216


14.6


6,274


16.5Total operating expenses


15,635


31.2


19,154


38.7


14,278


37.6Operating income

$
8,384


16.7
%
$
2,215


4.5
%
$
4,101


10.8
%


The
change in our Wholesale segment monitored site base is shown below for the periods indicated.

2009

2008

2007Beginning Balance, January 1,


991,014


865,163


194,185Monitored site additions, excluding additions from Merger


272,729


349,053


209,957Monitored site additions from Merger








597,478Monitored site losses


(209,510
)

(224,007
)

(136,107
)Other adjustments(a)


(376,947
)

805


(350
)Ending Balance, December 31,


677,286


991,014


865,163


(a)Other
adjustments in 2009 include the impact of the APX Agreement. See "Significant Activities, APX Agreement" above, for additional
information related to the agreement.


For
a roll-forward of Wholesale segment RMR, see the segment table in "Performance Metrics-Recurring Monthly Revenue," above.



Revenueincreased $0.7 million, or 1.4%, to $50.2 million in 2009
compared to $49.5 million in 2008 due to the addition of monitored sites from our largest wholesale dealer. Installation and other revenue in 2009 includes $0.5 million related to
services provided under the APX Agreement. See "Significant Activities-APX Agreement," above, for additional information related to the agreement. This revenue consists
primarily of contractual revenue derived from providing monitoring and maintenance service, as well as interest and fee income generated from our dealer loan program.

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Table of Contents

Cost of revenuedecreased $1.9 million, or 6.9%, to $26.2 million in 2009 compared to $28.1 million in 2008 due to a
more efficient operating structure from consolidating our monitoring centers onto a common monitoring and billing platform as well as the impact of the APX Agreement. These costs generally relate to
the cost of providing monitoring service, including the costs of monitoring and dealer care.

Operating expensesdecreased $3.6 million, or 18.4%, to $15.6 million in 2009 compared to $19.2 million in 2008
primarily due to a decrease of $2.5 million in amortization of intangibles and depreciation expense resulting from changes in estimates based on our lifing study in 2008 and certain intangible
assets being fully amortized. Selling expense decreased $0.5 million in 2009 compared to 2008 due to a decrease in internal marketing and sales compensation expense.



Revenueincreased $11.5 million, or 30.3%, to $49.5 million in 2008
compared to $38.0 million in 2007 due to the addition of monitored sites acquired in the Merger and from our largest wholesale dealer. Wholesale average RMR was $3.8 million in 2008
compared to $3.6 million in 2007.

Cost of revenueincreased $8.5 million, or 43.4%, to $28.1 million in 2008 compared to $19.6 million in 2007 because
(1) we improved service levels in the acquired monitoring centers by increasing staffing; (2) revenue growth came from monitored sites with lower than average RMR and higher costs to
service, including two-way voice verification and line security; and (3) we increased staffing levels in 2008 in connection with the integration of our Wholesale monitoring centers.

Operating expensesincreased $4.9 million, or 34.2%, to $19.2 million in 2008 compared to $14.3 million in 2007 due
to an expansion of our sales force and an increase in internal marketing and selling efforts, including advertising and trade show participation, to support the increased size of the Wholesale
operations; and an increase in Wholesale's share of corporate shared services, such as human resources and legal costs, which is based on each segment's contribution to total revenue. Amortization of
intangibles and depreciation expense increased in 2008 due to a partial year of amortization in 2007 related to dealer relationships acquired in the Merger.



The following table provides information for comparison of the Multifamily operating results for the periods presented. Next to each
period's results of operations, we provide the relevant percentage

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of
total revenue so that comparisons about the relative change in revenue and expenses can be made (dollar amounts in thousands).

For the year ended December 31,2009

2008

2007RevenueMonitoring and related services

$
27,395


96.0
%
$
30,361


98.7
%
$
31,935


98.6
%Installation and other


1,154


4.0


388


1.3


468


1.4Total Revenue


28,549


100.0


30,749


100.0


32,403


100.0Cost of revenue (exclusive of amortization and depreciation shown below)Monitoring and related services


7,105


24.9


7,718


25.1


7,710


23.8Installation and other


3,330


11.7


2,570


8.4


2,503


7.7Total cost of revenue (exclusive of amortization and depreciation shown below)


10,435


36.6


10,288


33.5


10,213


31.5Operating ExpensesSelling expenses


831


2.9


1,436


4.7


1,424


4.4General and administrative expenses


5,787


20.3


8,804


28.6


7,913


24.4Amortization of intangibles and depreciation expense


3,440


12.0


5,585


18.2


6,289


19.4Impairment of trade name








925


3.0





Total operating expenses


10,058


35.2


16,750


54.5


15,626


48.2Operating income

$
8,056


28.2
%
$
3,711


12.0
%
$
6,564


20.3
%


The
change in our Multifamily segment monitored site base is shown below for the periods indicated.

2009

2008

2007Beginning Balance, January 1,


240,648


277,743


293,139Monitored site additions


9,655


9,058


8,277Monitored site losses


(37,278
)

(46,153
)

(24,141
)Other








468Ending Balance, December 31,


213,025


240,648


277,743


For
a roll-forward of Multifamily segment RMR, see the segment table in "Performance MetricsRecurring Monthly Revenue," above.



Revenuedecreased $2.2 million, or 7.2%, to $28.5 million in 2009
compared to $30.7 million in 2008 as a result of the decline in the monitored site base. Installation and other revenue increased $0.8 million in 2009 due to an increase in security
system equipment sales. Revenue consists primarily of contractual revenue derived from providing monitoring and maintenance service, the sale of access control systems and amortization of previously
deferred customer acquisition revenue.

Cost of revenuein 2009 increased $0.1 million, or 1.4%, to $10.4 million in 2009 compared to $10.3 million in 2008.
Cost of monitoring and service decreased $0.6 million in 2009 due to a decline in the related revenue. Installation costs increased in 2009 as a result of increased sales of security systems.
Cost of revenue includes monitoring, billing, customer service and field operations related to

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providing
our monitoring services, as well as the cost to install security and access control systems and amortization of previously deferred costs.

Operating expensesdecreased $6.6 million, or 39.9%, to $10.1 million in 2009 compared to $16.7 million in 2008. This
decrease is primarily due to a decrease in the cost of corporate administrative services allocated to the Multifamily segment, a lower sales force head count and a decrease in amortization of customer
accounts resulting from changes in estimates based on our lifing study in 2008.



Revenuedecreased $1.7 million, or 5.1%, to $30.7 million in 2008
compared to $32.4 million in 2007 as a result of the decline in the monitored site base and from declines in installation activity and the sale of access control systems.

Cost of revenuein 2008 was consistent with 2007 but increased as a percentage of revenue to 33.5% in 2008 compared to 31.5% in 2007
because cost savings initiatives did not keep pace with the decline in revenue.

Operating expensesincreased $1.1 million, or 7.2%, to $16.7 million in 2008 compared to $15.6 million in 2007. This
increase is primarily attributable to the trade name impairment, as well as an increase in bad debt expense on uncollectible accounts. Amortization of intangibles and depreciation expense decreased in
2008 as a result of the change in amortization method and estimated useful life for Multifamily customer accounts.

Liquidity and Capital Resources

As of December 31, 2009, we had cash and cash equivalents of $26.1 million. The face value of our long-term
debt and capital leases was $447.3 million as of December 31, 2009. In December 2009, we made $30.0 million in principal prepayments on the Non-Extending Term Loans
which can be applied to offset any required Excess Cash Flow payment as defined in the Senior Credit Agreement. As a result, we will not be required to make additional principal prepayments in the
first quarter of 2010.

We
expect to generate cash flow in excess of that required for operations, interest payments and principal payments required under all of our debt obligations during the twelve months
following the date of the financial statements included in this report.



Our cash and cash equivalents are deposited in a mutual fund invested exclusively in U.S. Treasury securities. Although the mutual fund
is permitted seven days to satisfy withdrawal requests, the financial institution has never exercised the provision. We believe, based on information available to management at this time, that there
is minimal risk regarding liquidity of our approximately $26.1 million cash and cash equivalents as of December 31, 2009.

We
have assessed our credit exposure to various other factors including (1) our ability to draw funds under our revolving credit facility; (2) counterparty default risk
associated with our interest rate cap and swaps; (3) our need to enter the capital markets; and (4) exposure related to our existing insurance policies. We believe we have sufficient
liquidity for our currently foreseeable operational needs. With respect to our interest rate swaps and cap, we believe that counterparty default is not probable. We also believe there should be
sufficient time for the capital markets to stabilize before we have a need for additional financing. Lastly, we have assessed exposure on our existing insurance policies and believe the insurers are
financially solvent and well-capitalized.

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We
also considered our supply chain risk. Two vendors are the principal providers of our security-related products and services for our Retail and Multifamily segments. We believe we can
obtain alternative supply in the event such products and services are not available from our existing Retail supplier. We also believe we have sufficient product on hand for our Multifamily segment to
continue to provide ongoing services in the short-term in the event we are unable to obtain products from our primary supplier to this segment.

We
entered into three interest rate swaps in the second quarter of 2008 to fix the interest rate on $250 million of the variable rate debt under the Company's then existing credit
facility. The interest rate swaps mature from September 2010 to November 2010. The interest rate swaps were de-designated as cash flow hedges in conjunction with the debt refinancing that
occurred in the fourth quarter of 2009.



On November 17, 2009, we amended our senior credit agreement which (i) increased term loan borrowings by
$75 million under the New Term Loans to an aggregate of $364.5 million, (ii) divided all of our term loans into Non-Extending Term Loans equal to $86.5 million
and New and Extending Term Loans equal to $278.0 million and (iii) replaced our $25 million revolving credit facility with a $15 million revolving credit facility. We
intend to use any borrowings under the revolving credit facility, from time to time, for working capital and general corporate purposes.

The
New and Extending Term Loans are scheduled to mature on March 31, 2014, provided, however, that the New and Extending Term Loans will mature on December 14, 2012 if
prior to December 14, 2012 the maturity date for our Unsecured Term Loan Agreement is not extended to at least 91 days after March 31, 2014 or the borrowings under the Unsecured
Term Loan Agreement are not refinanced with permitted refinancing indebtedness having a maturity date at least 91 days after March 31, 2014. The New and Extending Term Loans bear
interest at a margin of 4.25% over the Eurodollar Base Rate (as defined in the Senior Credit Agreement and subject to a 2% floor) for Eurodollar borrowings and 3.25% over the Base Rate (as defined in
the Senior Credit Agreement and subject to a 3% floor) for Base Rate borrowings. The Non-Extending Term Loans are scheduled to mature on March 31, 2012 and bear interest at a margin
of 2.25% over the Eurodollar Base Rate for Eurodollar borrowings and 1.25% over the Base Rate for Base Rate Borrowings. Prior to the amendment of the senior credit facility in November of 2009, our
borrowings under the senior credit agreement bore interest at a margin of 2.25% over the Eurodollar Base Rate for Eurodollar borrowings and 1.25%
over the Base Rate for Base Rate Borrowings. The interest rate at December 31, 2009, was 6.25% and 2.48% for the New and Extending Term Loans and the Non-Extending Tern Loans,
respectively, not including the impact of interest rate swaps. The weighted average annual interest rate before fees on our senior credit agreement at December 31, 2008, including the impact of
interest rate swaps, was 5.1%.

The
revolving credit facility is scheduled to mature on March 31, 2013, provided, however, that the revolving credit facility will mature on December 14, 2012 if prior to
December 14, 2012 the maturity date of our Unsecured Term Loan Agreement is not extended to at least 91 days after March 31, 2014 or the borrowings under the Unsecured Term Loan
Agreement are not refinanced with permitted refinancing indebtedness having a maturity date at least 91 days after March 31, 2014. Borrowings under the revolving credit facility will
bear interest at a margin of 4.25% over the Eurodollar Base Rate for Eurodollar borrowings and 3.25% over the Base Rate for Base Rate borrowings. The revolving credit facility includes an unused
commitment fee equal to 1.0%. We may request letters of credit to be issued under the revolving credit facility of up to $7.5 million, with any outstanding letters of credit reducing the total
amount available for borrowing under the revolving credit facility. Approximately $11.0 million remained available for borrowing under our revolving credit facility as of

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March 5,
2010 after reducing total availability by approximately $4.0 million for an outstanding letter of credit.

On
March 14, 2008, we borrowed approximately $110.3 million under an unsecured term loan facility to allow us to redeem all of the Senior Subordinated Notes. The Unsecured
Term Loan bears interest at the prime rate plus 11.5% per annum and matures in 2013.

The
senior credit facility is secured by substantially all of our assets, requires quarterly principal payments of $0.8 million and requires potential annual prepayments based on
a calculation of "Excess Cash Flow," as defined in the Senior Credit Agreement and due in the first quarter of the subsequent year. We made $30.0 million in principal prepayments on the
Non-Extending Term Loans in December 2009 which can be applied to offset any required Excess Cash Flow prepayment. As a result, we will not be required to make additional principal
prepayments in the first quarter of 2010. We were not required and did not make a prepayment in the first quarter of 2009.

The
Senior Credit Agreement and Unsecured Term Loan Agreement contain certain covenants and restrictions, including with respect to our ability to incur debt and pay dividends, based on
earnings before interest, taxes, depreciation and amortization, or EBITDA. While the definition of EBITDA varies slightly among the Senior Credit Agreement and Unsecured Term Loan Agreement, EBITDA is
generally derived by adding to income (loss) before income taxes, the sum of interest expense, depreciation and amortization expense, including amortization of deferred customer acquisition costs less
amortization of deferred customer acquisition revenue.

The
following table presents the financial ratios required by our Senior Credit Agreement and Unsecured Term Loan Agreement through December 31, 2010 and our actual ratios as of
December 31, 2009.

Debt Instrument

Financial Covenants

Ratio Requirements

Actual Ratio as of
December 31, 2009Senior Credit Agreement

Consolidated Leverage Ratio (consolidated total debt on last day of period/consolidated EBITDA for most recent four fiscal quarters)

Q4 2009 through Q3 2010: Less than 5.5:1.0
Q4 2010; less than 5.25:1.0

3.11:1.0Consolidated Interest Coverage Ratio (consolidated EBITDA for most recent four fiscal quarters/consolidated interest expense for
most recent four fiscal quarters)

Q4 2009 through Q3 2010: Greater than 2.0:1.0
Q4 2010; Greater than 2.05:1.0

3.21:1.0Unsecured Term Loan Agreement

Consolidated Fixed Charge Coverage Ratio (consolidated EBITDA for most recent four fiscal quarters/consolidated interest expense
for most recent four fiscal quarters)

Greater than 2.25:1.0

2.98:1.0


At December 31, 2009, we were in compliance with the financial covenants and other maintenance tests for all our debt obligations. The
Consolidated Leverage Ratio and Consolidated Interest Coverage Ratio contained in our Senior Credit Agreement are maintenance tests and the Consolidated Fixed

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Charge
Coverage Ratio contained in our Unsecured Term Loan Agreement is a debt incurrence test. We cannot be deemed to be in default solely due to failure to meet debt incurrence tests. However,
failure to meet debt incurrence tests could result in restriction on our ability to incur additional ratio indebtedness. We believe that should we fail to meet the minimum Consolidated Fixed Charge
Coverage Ratios in our Unsecured Term Loan Agreement, our ability to borrow additional funds under other permitted indebtedness provisions in our Unsecured Term Loan Agreement and Senior Credit
Agreement would provide us with sufficient liquidity for our currently foreseeable operational needs. We are prohibited from paying cash dividends to our stockholders under covenants contained in our
Senior Credit Agreement.



Our operating activities provided net cash flows of $105.4 million, $59.7 million and $57.7 million for the years
ended December 31, 2009, 2008 and 2007, respectively. Working capital was a deficit of $18.4 million and $1.8 million as of December 31, 2009 and 2008, respectively. The
decline in working capital in 2009 is primarily the result of a decrease in our cash balance used to pay long term debt and the amendment of the senior credit facility. We also received
$22.75 million under the Final Settlement Agreement with Westar in 2009. Cash interest payments were $47.0 million for each of the years ended December 31, 2009 and 2008 and
$47.1 million for the year ended December 31, 2007. We made Merger-related payments, primarily severance, of $4.3 million in 2007.



We used a net $31.8 million for our investing activities for the year ended December 31, 2009. We invested a net
$25.6 million in cash to install and acquire new accounts, including rental equipment, and $6.8 million to acquire fixed assets, received $0.5 million from the sale of accounts
and other assets and reduced restricted cash by $0.1 million in 2009. We used a net $48.4 million for our investing activities for the year ended December 31, 2008. We invested a
net $41.6 million in cash to install and acquire new accounts, including rental equipment, and $7.7 million to acquire fixed assets in 2008. For the year ended December 31, 2008,
we decreased restricted cash by $0.6 million and received $0.3 million in proceeds from the sale of accounts and other assets. We used a net $34.7 million for our investing
activities for the year ended December 31, 2007. We invested a net $35.5 million in cash to install and acquire new accounts, including rental equipment, and $8.1 million to
acquire fixed assets in 2007. For the year ended December 31, 2007, we decreased restricted cash by $0.2 million, received $5.8 million from the sale of accounts and other assets,
which is primarily due to proceeds of $5.4 million related to the assets and liabilities of the IASG business that were transferred prior to the Merger, and acquired a net $2.9 million
from the Merger.



Financing activities used a net $86.4 million in the year ended December 31, 2009. We used $354.9 million to
retire debt, which include $30.0 million in principal prepayments on our senior credit facility. We used $3.9 million for debt issuance costs and received $272.4 million in
proceeds from additional borrowings under our senior credit facility. Financing activities used $13.4 million in the year ended December 31, 2008. We paid $121.7 million for the
redemption of our Senior Subordinated Notes and the repayment of borrowings under our senior credit facility and capital leases. We also paid $2.0 million for debt issuance costs related to the
$110.3 million proceeds received under the Unsecured Term Loan. Financing activities used $6.6 million in the year ended December 31, 2007. We used $4.8 million to retire
senior credit facility and capital lease debt and $1.8 million for debt and stock issuance costs.

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As discussed above, we made capital expenditures of approximately $32.4 million in 2009. Of such amount, we invested
approximately $23.3 million in net customer acquisition costs, $2.3 million in rental equipment and $6.8 million for fixed assets. Assuming we have available funds, capital
expenditures for 2010 are expected to be approximately $43 million of which approximately $6 million would be used for fixed asset purchases, with the balance to be used for customer
acquisition costs and rental equipment. These estimates are prepared for planning purposes and are revised from time to time. Actual expenditures for these and other items not presently anticipated
may vary materially from these estimates during the course of the years presented.

Off Balance Sheet Arrangements

We had no off-balance sheet arrangements at December 31, 2009, other than as discussed below.

Material Commitments

We had the following future, material, long-term commitments as of December 31, 2009 (in thousands):

Payment Due by PeriodAt December 31, 2009:

Total

Less than
1 year

1-3 years

3-5 years

More than
5 yearsContractual ObligationsLong-Term Debt Obligations(a)(c)

$
444,004

$
3,345

$
330,319

$
110,340

$
Interest Obligations on Long-Term Debt and Capital Lease Obligations(b)(c)


118,004


41,466


68,400


8,138


Operating Leases Obligations


19,481


6,319


10,021


3,091


50Capital Leases Obligations


3,285


1,942


1,342


1


Purchase Obligations(d)


3,690


3,620


70





Total

$
588,464

$
56,692

$
410,152

$
121,570

$
50


(a)In
addition to the amounts disclosed in the table above, the senior credit facility requires potential annual prepayments based on a calculation of "Excess
Cash Flow," due in the first quarter of each subsequent fiscal year. We made $30.0 million in principal prepayments on the Non-Extending Term Loans in December 2009 which can be
applied to offset any required Excess Cash Flow prepayment. As a result, we will not be required to make additional principal prepayments in the first quarter of 2010.(b)The
interest rate used to calculate the interest obligation on the variable rate senior credit facility and the Unsecured Term Loan is the interest rate at
December 31, 2009.(c)Assumes
(i) payment of Unsecured Term Loan at contractual maturity date of March 14, 2013; and (ii) senior credit facility subject to
early maturity date of December 14, 2012. Interest obligation on long-term debt and capital leases would increase by $20.9 million in the 3-5 year period
if the senior credit facility is outstanding until its scheduled maturity.(d)Contract
tariff for telecommunication services.


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The
table below shows our total commercial commitments and the expected expiration per period (in thousands):

Amount of Commitment Expiration Per PeriodAt December 31, 2009:

Total

2010

2011-2012

2013-2014

ThereafterOther Commercial CommitmentsStandby letters of credit

$
4,000

$
4,000

$


$


$
Total commercial commitments

$
4,000

$
4,000

$


$


$



Credit Ratings

As of March 5, 2010, our public debt was rated as follows:

Senior credit
facility

OutlookS & P

BB

NegativeMoody's

Ba3

Stable


On
January 22, 2010, Standard and Poor's Ratings Services placed its rating of us on CreditWatch with negative implications following our announcement to explore strategic alternatives
to enhance shareholder value.

ITEM 7A.    QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK

Our senior credit facility is a variable rate debt instrument, and as of March 5, 2010, we had borrowings of
$333.7 million outstanding. As of December 31, 2009 and 2008 we had outstanding borrowings of $333.7 million and $291.8 million, respectively, under our senior credit
facility. In addition, our Unsecured Term Loan is a variable rate debt instrument with borrowings of $110.3 million outstanding as of December 31, 2009, December 31, 2008 and
March 5, 2010. The New and Extending Term Loans of the senior credit facility have a floor of 2.0% for the applicable index rate. We have three interest rate swap agreements to fix the interest
rate of $250 million of our variable rate debt under the senior credit facility, which fix the interest rate at a one month LIBOR rate of 3.15% to 3.19%. The interest rate swaps were
de-designated as cash flow hedges in conjunction with the debt refinancing that occurred in the fourth quarter of 2009.

As
of March 5, 2010, LIBOR was 0.23% and the prime rate was 3.25%. The table below reflects the impact on pre-tax income of changes in the rates at March 5,
2010 in LIBOR and the prime rate on our debt and the impact on pre-tax income of changes in LIBOR on the interest rate swaps (in thousands):

(Decrease) Increase in index rate


(2.00
)%

(1.00
)%

0.00
%

1.00
%

2.00
%

3.00
%

4.00
%Increase (Decrease) in pre-tax income:Debt

$
2,336

$
1,233

$
0

$
(1,667
)
$
(3,972
)
$
(8,412
)
$
(12,853
)Interest rate swaps


(534
)

(534
)

0


2,162


4,323


6,485


8,647Net increase (decrease) in pre-tax income:

$
1,802

$
699

$
0

$
495

$
351

$
(1,927
)
$
(4,206
)


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ITEM 8.    FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA.

REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM

To
the Board of Directors and Stockholders of
Protection One, Inc.
Lawrence, Kansas

We
have audited the accompanying consolidated balance sheets of Protection One, Inc. and subsidiaries (the "Company") as of December 31, 2009 and 2008, and the related
consolidated statements of operations and comprehensive income (loss), stockholders' equity (deficiency in assets) and cash flows for each of the three years in the period ended December 31,
2009. Our audits also included the financial statement schedule listed in the Index at Item 15(a)2. These financial statements and financial statement schedule are the responsibility of the
Company's management. Our responsibility is to express an opinion on these financial statements and financial statement schedule based on our audits.

We
conducted our audits in accordance with the standards of the Public Company Accounting Oversight Board (United States). Those standards require that we plan and perform the audit to
obtain reasonable assurance about whether the financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in
the financial statements. An audit also includes assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement
presentation. We believe that our audits provide a reasonable basis for our opinion.

In
our opinion, such consolidated financial statements present fairly, in all material respects, the financial position of Protection One, Inc. and subsidiaries as of
December 31, 2009 and 2008, and the results of their operations and their cash flows for each of the three years in the period ended December 31, 2009, in conformity with accounting
principles generally accepted in the United States of America. Also, in our opinion, such financial statement schedule, when considered in relation to the basic consolidated financial statements taken
as a whole, presents fairly, in all material respects, the information set forth therein.

We
have also audited, in accordance with the standards of the Public Company Accounting Oversight Board (United States), the Company's internal control over financial reporting as of
December 31, 2009, based on the criteria established inInternal ControlIntegrated Frameworkissued by the Committee of Sponsoring
Organizations of the Treadway Commission and our report dated March 23, 2010 expressed an unqualified opinion on the Company's internal control over financial reporting.

/s/ DELOITTE AND TOUCHE LLP

Kansas
City, Missouri
March 23, 2010

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PROTECTION ONE, INC. AND SUBSIDIARIES        CONSOLIDATED BALANCE SHEETS        (Dollar amounts in thousands, except for per share amounts)

December 31,2009

2008ASSETSCurrent assets:Cash and cash equivalents

$
26,068

$
38,883Accounts receivable (net of allowance of $7,147 and $6,199 at December 31, 2009 and 2008, respectively)


32,719


39,281Notes receivable


674


1,143Inventories, net


5,067


4,973Prepaid expenses


4,073


4,646Other


2,273


3,022Total current assets


70,874


91,948Restricted cash


2,180


2,245Property and equipment, net


32,068


36,168Customer accounts, net


203,453


237,718Dealer relationships, net


34,965


37,597Goodwill


43,853


41,604Trade name


27,687


27,687Notes receivable (net of current portion)


2,275


3,049Deferred customer acquisition costs


146,024


150,848Other


8,516


10,190Total Assets

$
571,895

$
639,054LIABILITIES AND STOCKHOLDERS' EQUITY (DEFICIENCY IN ASSETS)Current liabilities:Current portion of long-term debt and capital leases

$
5,358

$
5,361Accounts payable


5,009


3,315Accrued liabilities


34,633


39,022Deferred revenue


44,280


46,027Total current liabilities


89,280


93,725Long-term debt and capital leases, net of current portion


436,550


523,927Deferred customer acquisition revenue


98,323


95,028Deferred tax liability


4,879


1,166Other liabilities


1,926


5,458Total Liabilities


630,958


719,304Commitments and contingencies (see Note 13)Stockholders' equity:Preferred stock, $.10 par value, 5,000,000 shares authorized





Common stock, $.01 par value, 150,000,000 shares authorized, 25,333,371 and 25,316,529 shares issued and outstanding at December 31, 2009 and 2008,
respectively


253


253Additional paid-in capital


181,296


180,800Accumulated other comprehensive loss


(5,985
)

(9,169
)Deficit


(234,627
)

(252,134
)Total stockholders' equity (deficiency in assets)


(59,063
)

(80,250
)Total Liabilities and Stockholders' Equity (Deficiency in Assets)

$
571,895

$
639,054


The accompanying notes are an integral part of these consolidated financial statements.

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PROTECTION ONE, INC. AND SUBSIDIARIES        CONSOLIDATED STATEMENTS OF OPERATIONS AND COMPREHENSIVE INCOME (LOSS)        (Dollar amounts in thousands, except for
per share amounts)

Year Ended December 31,2009

2008

2007Revenue:Monitoring and related services

$
328,001

$
334,125

$
313,330Installation and other


40,051


37,896


34,541Total revenue


368,052


372,021


347,871Cost of revenue (exclusive of amortization and depreciation shown below):Monitoring and related services


100,983


110,980


99,835Installation and other


49,285


48,750


40,870Total cost of revenue (exclusive of amortization and depreciation shown below)


150,268


159,730


140,705Operating expenses:Selling


50,794


56,247


47,552General and administrative


76,609


80,566


77,846Merger-related costs








4,344Amortization and depreciation


50,096


64,275


62,064Impairment of trade name





925


Total operating expenses


177,499


202,013


191,806Operating income


40,285


10,278


15,360Other expense (income):Interest expense


45,386


48,539


49,486Interest income


(75
)

(794
)

(2,509
)(Gain) loss on retirement of debt


(1,956
)

12,788


Gain on settlement agreement


(22,867
)




Other





(54
)

(90
)Total other expenses


20,488


60,479


46,887Income (loss) before income taxes


19,797


(50,201
)

(31,527
)Income tax expense


2,290


341


713Net income (loss)

$
17,507

$
(50,542
)
$
(32,240
)Other comprehensive income, net of tax:Net change in fair value of derivatives


3,184


(8,639
)

(212
)Comprehensive income (loss)

$
20,691

$
(59,181
)
$
(32,452
)Basic and diluted per share information:Net income (loss) per common share

$
0.69

$
(2.00
)
$
(1.37
)Weighted average common shares outstanding (in thousands)


25,324


25,310


23,525


The accompanying notes are an integral part of these consolidated financial statements.

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PROTECTION ONE, INC. AND SUBSIDIARIES        CONSOLIDATED STATEMENTS OF CASH FLOWS        (Dollar amounts in thousands)

Year Ended December 31,2009

2008

2007Cash flows from operating activities:Net income (loss)

$
17,507

$
(50,542
)
$
(32,240
)Adjustments to reconcile net income (loss) to net cash provided by operating activities:Gain on sale of assets


(150
)

(185
)

(224
)(Gain) loss on retirement of debt


(1,956
)

12,788


Loss on impairment of trade name





925


Amortization and depreciation


50,096


64,275


62,064Amortization of debt costs, discounts and premium


(33
)

1,538


6,878Amortization of deferred customer acquisition costs in excess of amortization of deferred revenue


30,514


30,732


24,175Stock based compensation


496


1,448


1,469Deferred income taxes


1,564


(53
)

(8
)Provision for doubtful accounts


5,723


4,644


3,455Other


979


25


(90
)Changes in assets and liabilities, net of effects of acquisitions and dispositions:Accounts receivable


965


(6,199
)

(8,307
)Notes receivable, net


1,242


1,559


2,817Other assets


2,854


2,093


1,268Accounts payable


1,694


(734
)

(1,019
)Deferred revenue


(2,039
)

(1,698
)

5,204Other liabilities


(4,059
)

(962
)

(7,778
)Net cash provided by operating activities


105,397


59,654


57,664Cash flows from investing activities:Deferred customer acquisition costs


(42,012
)

(63,877
)

(59,953
)Deferred customer acquisition revenue


19,757


28,837


29,810Purchase of rental equipment


(2,286
)

(5,329
)

(4,440
)Purchase of property and equipment


(6,794
)

(7,690
)

(8,064
)Purchases of new accounts


(1,048
)

(1,250
)

(952
)Reduction of restricted cash


72


575


257Proceeds from disposition of assets and other


519


377


5,751Net cash acquired in merger with IASG








2,921Net cash used in investing activities


(31,792
)

(48,357
)

(34,670
)Cash flows from financing activities:Payments on long-term debt and capital leases


(354,951
)

(121,733
)

(4,790
)Proceeds from borrowings


272,440


110,340


Debt and stock issue costs


(3,909
)

(2,020
)

(1,805
)Net cash used in financing activities


(86,420
)

(13,413
)

(6,595
)Net (decrease) increase in cash and cash equivalents


(12,815
)

(2,116
)

16,399Cash and cash equivalents:Beginning of period


38,883


40,999


24,600End of period

$
26,068

$
38,883

$
40,999Cash paid for interest

$
47,012

$
46,986

$
47,087Cash paid for taxes

$
658

$
763

$
590Non-cash investing and financing activity:Vehicle additions under capital leases

$
389

$
2,121

$
3,843


The accompanying notes are an integral part of these consolidated financial statements.

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PROTECTION ONE, INC. AND SUBSIDIARIES        CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY (DEFICIENCY IN ASSETS)        (Dollar amounts in thousands, except
for share amounts)

Total
Stockholders'
Equity
(Deficiency
in Assets)Common Stock





Accumulated
Other
Comprehensive
LossAdditional
Paid-In
CapitalShares

Amount

DeficitDecember 31, 2006


18,239,953

$
182

$
89,545

$
(169,352
)
$
(318
)
$
(79,943
)Equity issued in Merger


7,066,960


71


88,479








88,550Stock compensation expense








1,469








1,469Stock issue costs








(141
)







(141
)Net change in fair value of derivatives














(212
)

(212
)Net loss











(32,240
)




(32,240
)December 31, 2007


25,306,913

$
253

$
179,352

$
(201,592
)
$
(530
)
$
(22,517
)Vesting of restricted stock units


9,616














Stock compensation expense








1,448








1,448Net change in fair value of derivatives














(8,639
)

(8,639
)Net loss











(50,542
)




(50,542
)December 31, 2008


25,316,529

$
253

$
180,800

$
(252,134
)
$
(9,169
)
$
(80,250
)Vesting of restricted stock units


16,842














Stock compensation expense








496








496Net change in fair value of derivatives














3,184


3,184Net income











17,507





17,507December 31, 2009


25,333,371

$
253

$
181,296

$
(234,627
)
$
(5,985
)
$
(59,063
)


The
accompanying notes are an integral part of these consolidated financial statements.

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PROTECTION ONE, INC. AND SUBSIDIARIES        NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

1.     The Company:

Protection One, Inc. (the "Company") is principally engaged in the business of providing security alarm monitoring services, including sales, installation
and related servicing of security alarm systems for residential and business customers. The Company also provides monitoring and support services to independent security alarm dealers on a wholesale
basis. Affiliates of Quadrangle Group LLC and Monarch Alternative Capital LP (collectively, the "Principal Stockholders") own approximately 70% of the Company's common stock.

On
November 17, 2009, the Company amended its senior credit agreement (as amended, the "Senior Credit Agreement") which (i) increased term loan borrowings by
$75 million (the "New Term Loans") to an aggregate of $364.5 million, (ii) divided all term loans into a tranche equal to $86.5 million (the "Non-Extending Term
Loans") and a tranche equal to $278.0 million (the "New and Extending Term Loans") and (iii) replaced its $25 million revolving credit facility with a $15 million revolving
credit facility. The proceeds from the New Term Loans under the Senior Credit Agreement, together with excess cash, were deposited with the trustee under the indenture governing Protection One Alarm
Monitoring, Inc's ("POAMI") 12% Senior Secured Notes due 2011 (the "Senior Secured Notes") in order to redeem the Senior Secured Notes in full. The Senior Secured Notes were called for redemption
effective December 17, 2009 and the obligations of POAMI, Protection One and other guarantors under the indenture were satisfied and discharged.

On
December 30, 2009, the Company entered into a Final Settlement Agreement with Westar Energy, Inc. and its wholly owned subsidiary, Westar Industries, Inc.
(together, "Westar"), its former owner, to settle all claims between Westar and the Company related to certain agreements entered into in connection with Westar's sale of the Company to POI
Acquisition I, Inc. in February 2004. Pursuant to the Final Settlement Agreement, the Company received $22.75 million from Westar on December 31, 2009.

The
Company prepares its financial statements in conformity with accounting principles generally accepted in the United States of America ("GAAP"), which require management to make
estimates and assumptions that affect the reported amounts of assets and liabilities and disclosures of contingent assets and liabilities at the date of the financial statements and the reported
amounts of revenue and expenses during the reporting period. Actual results could differ from those estimates. The accompanying consolidated financial statements include the accounts of Protection
One's wholly owned subsidiaries. Inter-company balances have been eliminated in consolidation.

2.     Summary of Significant Accounting Policies:

(a)   Revenue Recognition

Revenue is recognized when security services are provided. System installation revenue, sales revenue on equipment upgrades and direct and incremental costs of
installations and sales are deferred for residential Retail customers with monitoring service contracts. For commercial Retail customers and national account customers, revenue recognition is
dependent upon each specific customer contract. In instances when the Company passes title to a system, the Company recognizes the associated revenue and costs related to the sale of the equipment in
the period that title passes regardless of whether the
sale is accompanied by a service agreement. In cases where the Company retains title to the system, the Company defers and amortizes revenue and direct costs.

The
Company defers certain system sales and installation revenue and expenses, primarily equipment, direct labor and direct and incremental sales commissions incurred. Deferred system
and upgrade installation revenue are recognized over the estimated life of the customer utilizing an

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accelerated
method for our Retail and Multifamily customers. The Company amortizes deferred revenue from customer acquisitions related to its Retail customers over a fifteen-year period on
an accelerated basis. The associated deferred customer acquisition costs are amortized, annually and in total, over a fifteen-year period on an accelerated basis in amounts that are equal
to the amount of revenue amortized, annually and in total, over the fifteen-year period. The deferred customer acquisition costs in excess of the deferred customer acquisition revenues are
amortized over the initial term of the contract on a straight-line basis.

The
Company amortizes deferred customer acquisition costs and revenue related to its Retail customers using an accelerated basis because it believes this method best approximates the
results that would be obtained if the Company accounted for these deferred costs and revenue on a specific contract basis utilizing a straight-line amortization method with
write-off upon customer termination. The Company does not track deferred customer acquisition costs and revenue on a contract by contract basis in its Retail segment, and as a result, is
not able to write-off the remaining balance of a specific contract when the customer relationship terminates. Deferred customer acquisition costs and revenue are accounted for using pools,
with separate pools based on the month and year of acquisition.

The
Company periodically performs a lifing study with the assistance of a third-party appraisal firm to estimate the average expected life and attrition pattern of its customers. The
lifing study is based on historical customer terminations. The results of the lifing studies indicate that the Company's customer pools can expect a declining revenue stream. The Company evaluates the
differing rates of declining revenue streams for each customer pool and selects an amortization rate that closely matches the respective decline curves. Such analysis is used to establish the
amortization rates of the Company's customer account pools in order to reflect the pattern of future benefit.

Given
that the amortization lives and methods are developed using historical attrition patterns and consider actual customer termination experience, the Company believes such
amortization lives and methods approximate the results of amortizing on a specific contract basis with write-off upon termination.

For
its Multifamily segment, the Company tracks the deferred revenues on a contract by contract basis and amortizes deferred customer acquisition revenue and an equal amount of
associated deferred customer acquisition costs over a fifteen-year period on an accelerated basis. The deferred customer acquisition costs in excess of the deferred customer acquisition
revenues are amortized over the initial term of the contract. The Company writes off the unamortized portion of the Multifamily deferred customer acquisition revenues and costs when the customer
relationship terminates.

The
Company follows Accounting Standards Codification ("ASC") 840, Leases, for its arrangements whereby security equipment that does not require monitoring is leased to customers,
typically over a five year initial lease term. This equipment typically consists of closed circuit television equipment and card access control equipment. The Company records these arrangements as
operating leases and records revenue on a straight line basis over the life of the lease.

Deferred
revenue also results from customers who are billed for monitoring and extended service protection in advance of the period in which such services are provided, on a monthly,
quarterly or annual basis. Revenue from monitoring activities are recognized in the period such services are provided.

(b)   Inventories

Inventories, primarily comprised of alarm systems and parts, are stated at the lower of average cost or market. Inventory is shown net of an obsolescence reserve
of $0.7 million and $0.6 million at December 31, 2009 and 2008, respectively. This reserve is determined based primarily upon current usage of the individual parts included in
inventory.

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(c)   Property and Equipment

Property and equipment are stated at cost and are depreciated using the straight-line method over estimated useful lives. Gains or losses from
retirements and dispositions of property and equipment are recognized in operations in the period realized. Repair and maintenance costs are expensed as incurred. The Company performs impairment tests
for long-lived assets when the Company determines that indicators of impairment are present.

Estimated
useful lives of property and equipment are as follows:

Furniture and fixtures

4-7 yearsData processing and telecommunication equipment and software

1-5 yearsRental equipment

generally 7 yearsLeasehold improvements

lesser of lease term or useful life; generally 5-10 yearsVehicles

2-5 yearsBuildings

19-40 years


(d)   Income Taxes

The Company recognizes a liability or asset for the deferred tax consequences of temporary differences between the tax basis of assets and liabilities and their
reported amounts in the financial statements. These temporary differences will result in taxable or deductible amounts in future years when reported amounts of the assets or liabilities are recovered
or settled. The deferred tax assets are periodically reviewed for recoverability and a valuation allowance is recorded to reduce the deferred tax assets to an amount that is more likely than not
realizable.

(e)   Comprehensive Income (Loss)

Comprehensive income (loss) comprises net income (loss) and other comprehensive income (loss). Other comprehensive income (loss) includes the unrealized gains and
losses associated with cash flow hedging instruments.

(f)    Customer Accounts and Dealer Relationships

Additions to customer accounts and dealer relationships are stated at cost and are amortized over the estimated customer and dealer life, respectively. Internal
costs incurred in support of acquiring customer accounts and dealer relationships are expensed as incurred.

The
choice of an amortization life and method is based on estimates and judgments about the amounts and timing of expected future revenue from customer accounts and average customer
account life. Amortization methods and amortization periods were determined because, in management's opinion, they would adequately match amortization cost with anticipated revenue. The Company
evaluates the appropriateness of the amortization life and method of each of the customer account pools based on the actual historical attrition experience of each pool and, when deemed necessary,
performs a lifing study on its customer accounts to assist in determining appropriate lives of customer accounts. These analyses are needed in light of the inherent declining revenue curve over the
life of a pool of customer accounts. The Company has identified two distinct pools of customer accounts in the Retail segment and one customer pool in each of the Wholesale and Multifamily segments,
as shown in the table below, each of which has distinct attributes that affect differing attrition characteristics. The Company believes it is appropriate to segregate the acquired Integrated Alarm
Services Group, Inc. ("IASG") customer accounts into a separate pool as the historical attrition since the merger with IASG on April 2, 2007 (the "Merger") has been significantly higher
than the attrition for existing customers.

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The
results of lifing studies indicated that the Company can expect attrition to be greatest in the initial years of asset life and that a declining balance (accelerated) method therefore best matches
the future amortization cost with the estimated revenue stream from these customer pools. The Company switches from the declining balance method to the straight-line method in the year the
straight-line method results in greater amortization expense. The amortization rates consider the average estimated remaining and historical projected attrition rates. The Company
completed a lifing study during the fourth quarter of 2008, the results of which are discussed in the following paragraphs.

Effective
as of the beginning of the fourth quarter of 2008, the Company changed the estimated useful life used to account for Retail customer accounts from an accelerated method with a
useful life of ten years to a more accelerated method with a useful life of fifteen years. The change in estimated useful life for Retail customer accounts results from management's ongoing analysis
of all pertinent factors, including actual historical customer attrition data, demand and competition. In accordance with ASC 250, Accounting Changes and Error Corrections, the change in estimated
useful life is accounted for
prospectively. The change is based on information obtained by continued observation of the pattern of expected benefits derived from these assets. The effects of the change in estimated useful life
described above decreased depreciation and amortization expense by $6.7 million and $1.0 million for the years ended December 31, 2009 and 2008, respectively. Basic and diluted
income per share was increased by $0.26 for the year ended December 31, 2009 as a result of the change. Basic and diluted loss per share was decreased by $0.04 for the year ended
December 31, 2008 as a result of the change.

Effective
as of the beginning of the fourth quarter of 2008, the Company also changed the method and estimated useful life used to account for Multifamily customer accounts from the
straight-line method with a useful life of nine years to an accelerated method with a useful life of fifteen years. In accordance with ASC 250, the change in method and estimated useful
life represents a change in accounting estimates effected by a change in accounting principle and is accounted for prospectively. The change is based on information obtained by continued observation
of the pattern of expected benefits derived from these assets and is preferable, as it results in amortization that is more reflective of the pattern of expected benefits to be derived from these
assets. The effects of the change in estimated useful life described above decreased depreciation and amortization expense by $2.6 million and $0.5 million for the years ended
December 31, 2009 and 2008, respectively. Basic and diluted income per share was increased by $0.10 for the year ended December 31, 2009 as a result of the change. Basic and diluted loss
per share was decreased by $0.02 for the year ended December 31, 2008 as a result of the change.

Effective
as of the beginning of the fourth quarter of 2008, the Company also changed the estimated useful life used to account for Wholesale dealer relationships from an accelerated
method with a useful life of fifteen years to a more accelerated method with a useful life of twenty years. In accordance with ASC 250, the change in estimated useful life is accounted for
prospectively. The effects of the change described above decreased depreciation and amortization expense by $1.3 million and $0.4 million for the years ended December 31, 2009 and
2008, respectively. Basic and diluted income per share was increased by $0.05 for the year ended December 31, 2009 and basic and diluted loss per share was decreased by $0.01 for the year ended
December 31, 2008 as a result of the change.

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The
amortization rates consider the average estimated remaining life and historical and projected attrition rates. The amortization method for each pool is as follows:

Pool

MethodPrior to October 1, 2008Customer Accounts:Retail-Protection One

Ten-year 135% declining balanceRetail-IASG

Nine-year 150% declining balanceMultifamily

Nine-year straight-lineDealer Relationships:Wholesale

Fifteen year 150% declining balanceOctober 1, 2008 and afterCustomer Accounts:Retail-Protection One

Fifteen-year double declining balanceRetail-IASG

Nine-year 150% declining balanceMultifamily

Fifteen-year 180% declining balanceDealer Relationships:Wholesale

Twenty-year 140% declining balance


The
Company is required to perform impairment tests for long-lived assets when the Company determines that indicators of impairment are present. Declines in market value of
its business or the value of its customer accounts that may have incurred may also require additional impairment charges. No impairment charges were recorded for customer accounts or dealer
relationships in the periods presented herein.

(g)   Goodwill and Other Indefinite-Lived Intangible Assets

Goodwill is recorded in the Retail, Wholesale and Multifamily operating segments, which are also the Company's reporting units for purposes of evaluating its
recorded goodwill for impairment. Goodwill was $43.9 million and $41.6 million as of December 31, 2009 and 2008, respectively. The principal indefinite-lived intangible assets are
trade names, which had a book value of $27.7 million as of December 31, 2009 and 2008. The Company performs its annual impairment testing during the third quarter of each year and also
monitors for events or circumstances that may indicate potential impairment of goodwill and indefinite-lived intangible assets each reporting period.

Goodwill
originated with the adoption of push down accounting and the related adjustments during 2005, which was associated with the acquisition of the Company by a new controlling
shareholder
group. Additional goodwill was recorded in connection with the Merger during 2007. The Company determined the fair value of each reporting unit acquired in the Merger and then allocated goodwill to
each reporting unit based on the amount of excess fair value determined after assigning values to the individual assets acquired and liabilities assumed related to each reporting unit.

The
Company evaluates goodwill for impairment annually as of the beginning of the third quarter and any time an event occurs or circumstances change that would more likely than not
reduce the fair value of a reporting unit below its carrying value in accordance with ASC 350, IntangiblesGoodwill and Other.

The
goodwill impairment test involves a two-step process. The first step is a comparison of each reporting unit's fair value to its carrying value. If the carrying value of a
reporting unit exceeds its fair value, goodwill is considered potentially impaired and the Company must complete the second step of the goodwill impairment test. The amount of impairment is determined
by comparing the implied fair value of reporting unit goodwill to the carrying value of the goodwill in the same manner as if the

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reporting
unit was being acquired in a business combination. Specifically, the Company would allocate the fair value to all of the assets and liabilities of the reporting unit, including internally
developed intangible assets with a zero carrying value, in a hypothetical analysis that would calculate the implied fair value of goodwill. If the implied fair value of goodwill is less than the
recorded goodwill, the Company would recognize an impairment charge for the difference.

Fair
value of the reporting units is determined using a combined income and market approach. The income approach uses a reporting unit's projection of estimated cash flows discounted
using a weighted-average cost of capital analysis that reflects current market conditions. The market approach may involve use of the guideline transaction method, the guideline company method, or
both. The guideline transaction method makes use of available transaction price data of companies engaged in the same or a similar line of business as the respective reporting unit. The guideline
company method uses market multiples of publicly traded companies with operating characteristics similar to the respective reporting unit. The Company considers value indications from both the income
approach and market approach in estimating the fair value of each reporting unit. The Company also performs a sensitivity analysis on the estimated fair value using the income and market approach.

The
income approach was given significant weight for all three reporting units because the Company's management considers this method a reasonable indicator of fair value. The market
transaction method was also given significant weight for all three reporting units because transactions in the industry are commonly valued as a multiple of Recurring Monthly Revenue ("RMR"). Based on
management's experience along with a review of recent industry transactions, management concluded the weighting of the market transaction method was appropriate. The market guideline company method
was given a small weight for Retail because, although the guideline companies are generally comparable, they are not similar enough to warrant a significant weight in estimating fair value. The market
guideline
company method was given no weight for the Wholesale and Multifamily reporting units because management determined that there were no sufficiently comparable companies or there was a lack of market
data for businesses engaged in these specialized monitored security operations.

Management
judgment is a significant factor in determining whether an indicator of impairment has occurred. Management relies on estimates in determining the fair value of each reporting
unit, which include the following critical quantitative factors:



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(h)   Impairment of Long-Lived Assets

Long-lived assets include property and equipment, customer accounts, dealer relationships, deferred customer acquisition costs and other amortizable
intangible assets. The Company reviews long-lived assets for impairment in accordance with the guidance in ASC 360, Property, Plant, and Equipment. Recoverability of long-lived
assets is measured by a comparison of the carrying value to the future undiscounted cash flows expected to be generated by the assets. If management determines an impairment exists, the amount of
impairment recognized is the amount by which the carrying value exceeds fair value. Projections of future cash flows are subject to change as a result of actual results differing from expectation as
well as higher than expected levels of customer attrition. Though the Company is not expecting actual results to vary significantly from projections, long-lived assets are reviewed for
impairment when events or changes in circumstances indicate the carrying value may not be recoverable.

(i)    Cash and Cash Equivalents

All highly liquid investments purchased with a remaining maturity of three months or less at the date acquired are cash equivalents. These investments, typically
consisting of money market funds and 30-day, 60-day or 90-day commercial paper or certificates of deposit, are stated at cost, which approximates market. At
December 31, 2009 and 2008, all investments were in treasury only money market funds.

(j)    Restricted Cash

Restricted cash on the accompanying balance sheet represents a trust account established as collateral for the benefit of the former insurer of the Company's
workers' compensation claims and collateral for the Company's surety bonding and credit card requirements. The workers' compensation collateral is required to support reserves established on claims
filed during the period covered by the former insurer. The Company receives interest income earned by the trust. The surety bond collateral is required by the Company's casualty and surety insurance
carrier and is deposited in an interest bearing money market account. The credit card collateral is required by the issuer of the credit cards used by company employees and is in the form of an
interest bearing certificate of deposit.

(k)   Accounts Receivable

Gross receivables, which consist primarily of trade accounts receivable, of $39.8 million at December 31, 2009 and $45.5 million at
December 31, 2008 have been reduced by allowances for doubtful accounts of $7.1 million and $6.2 million, respectively.

The
Company's policy for Retail is to establish a reserve for a percentage of a customer's total receivable balance when any portion of that receivable balance is greater than
30 days past due. This percentage, which is based on the Company's historical collections experience, is increased as any portion of the receivable ages until it is fully reserved and written
off when it is 120 days past due, or when the account is disconnected and turned over to a collection agency. Additionally, once the customer's balance is greater than 120 days past due,
all other receivable balances associated with that customer, irrespective of how many days past due, are deemed to be 120 days past due and fully

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reserved.
In certain instances, based upon the discretion of management, credit can be extended and the account may remain active. The Company's policy for Wholesale's reserve also includes a specific
identification approach in assessing the collectability of balances with large dealer accounts. The Company's policy for Multifamily's reserve is based on the specific identification approach.

(l)    Notes Receivable

Notes
receivable on the balance sheet represent loans to dealers collateralized by the dealers' portfolios of customer monitoring contracts, which are carried at the lower of the
principal amount outstanding or the net realizable value. Management periodically evaluates the loan portfolio to assess the collectability of dealer notes and adequacy of the allowance for loan
losses, including past loan loss experience, known and inherent risks in the portfolio, adverse situations that may affect the borrower's ability to repay, the estimated value of any underlying
collateral and current economic conditions. Loans are generally considered non-performing if they are 120 days in arrears of contractual terms. The Company had no
non-performing loans at December 31, 2009 and had $0.1 million in non-performing loans at December 31, 2008. Interest income is not accrued on
non-performing loans. The Company had outstanding notes receivable of $2.9 million and $4.2 million at December 31, 2009 and 2008, respectively. The
short-term portion of notes receivable is calculated in accordance with the terms of the agreements. As part of the Merger, the Company assumed obligations to provide open lines of credit
to dealers, subject to the terms of the agreements with the dealers. At December 31, 2009 and 2008, the amount available to dealers under these lines of credit was $0.2 million and
$0.5 million, respectively. Interest income from dealer loans is recorded in installation and other revenue.

For
most of the dealers in their loan program, the Company bills the dealers' customers and collects funds from those customers. Cash collected in excess of fees and loan payments is
then remitted to the dealer.

(m)  Advertising Costs

Printed materials are expensed as incurred. Broadcast advertising costs are expensed upon the first broadcast of the respective advertisement. Total advertising
expense was $3.1 million, $4.7 million and $3.5 million for the years ended December 31, 2009, 2008 and 2007, respectively.

(n)   Derivative Financial Instruments

The Company utilizes derivatives to manage interest rate risk associated with its variable rate borrowings. All derivatives are recognized on the balance sheet at
their fair value. Changes in the fair value of a derivative that is highly effective and that is designated and qualifies as a cash flow hedge, to the extent that the hedge is effective, are recorded
in other comprehensive income (loss), until earnings are affected by the variability of cash flows of the hedged transaction (i.e., until periodic settlements of a variable-rate
asset or liability are recorded in earnings). Changes in the fair value of a derivative that is considered an economic derivative are recorded to interest expense. For cash flow hedges, any hedge
ineffectiveness (the amount by which the changes in fair value of the derivative exceeds the variability in cash flows of the forecasted transaction) is recorded in current-period earnings as other
income or expense.

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The Company documents all relationships between hedging instruments and hedged items, as well as its risk-management objectives and strategies for
undertaking various hedge transactions. This process includes linking all derivatives that are designated as cash flow hedges to specific forecasted transactions (e.g., interest payments). On a
quarterly basis the Company assesses counterparty credit risk, whether the derivatives that are used in hedging transactions have been highly effective in offsetting changes in the cash flows of
hedged items, and whether those derivatives may be expected to remain highly effective in future periods. The Company uses the dollar offset method to perform the analysis and measure any
ineffectiveness. The Company discontinues hedge accounting prospectively when (1) it determines that the derivative is no longer effective in offsetting changes in the cash flows of the hedged
item; (2) the derivative expires or is sold, terminated or exercised; (3) it is no longer probable that the forecasted transaction will occur; or (4) management determines that
designating the derivative as a hedging instrument is no longer appropriate or desired.

When
the Company discontinues hedge accounting, the existing gain or loss on the derivative on the date of de-designation remains in accumulated other comprehensive income
(loss) and is reclassified into earnings as the forecasted transaction affects earnings (interest payments). However, if it is probable that a forecasted transaction will not occur by the end of the
originally specified time period or within an additional two-month period of time thereafter, the gains and losses that were accumulated in other comprehensive income (loss) will be
recognized immediately in earnings. In all situations in which hedge accounting is discontinued and the derivative remains outstanding, the Company will carry the derivative at its fair value on the
balance sheet, recognizing changes in the fair value in current-period earnings.

(o)   Concentrations of Credit Risk

Financial instruments which potentially subject the Company to concentrations of credit risk consist principally of trade receivables from a large number of
customers, including both residential and commercial Retail customers as well as Wholesale dealers, dispersed across a wide geographic base. The Company extends credit to its customers in the normal
course of business, performs periodic credit evaluations and maintains allowances for the potential credit losses. The Company has customers and dealers located throughout the United States with
almost 44% of its recurring monthly revenue derived from customers located in California, Florida and Texas. A major earthquake, hurricane or other environmental disaster in an area of high account
concentration could disrupt the Company's ability to serve those customers or render those customers uninterested in continuing alarm monitoring services. The Company's top 10 wholesale dealers, based
on RMR, accounted for 28.7% of wholesale monitored sites and 13.0% of Wholesale RMR as of December 31, 2009. No single Retail customer comprises more than 1% of total consolidated revenue

(p)   Stock Based Compensation

The Company accounts for stock based compensation using the provisions of ASC 718, CompensationStock , which require the measurement and
recognition of compensation expense for all share-based payment awards to employees and directors based on estimated fair values. The Company values its stock options using the Black-Scholes model to
determine fair value.

(q)   Earnings (Loss) Per Share

Earnings (loss) per share are presented in accordance ASC 260, Earnings Per Share. Weighted average shares outstanding were as follows:

December 31,2009

2008

2007Weighted average shares outstanding


25,324,440


25,310,364


23,525,652


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For
the year ended December 31, 2009, the Company had no outstanding stock options or other awards that represented dilutive potential common shares. For the years ended
December 31, 2008 and 2007, the Company had outstanding stock options that represented 0.3 million and 0.8 million dilutive potential common shares, respectively. These securities
were not included in the computation of diluted earnings per share for the years ending December 31, 2008 and 2007 since to do so would have been anti-dilutive for those periods.
The Company has concluded that the impact of the two class method on its basic earnings per share is not material.

(r)   Fair Value Measurements

The Company applies ASC 820, Fair Value Measurements and Disclosures, to determine fair value whenever other accounting pronouncements require or permit
assets or liabilities to be measured at fair value. ASC 820 establishes a fair value hierarchy that prioritizes the information used to develop assumptions used to determine the exit price.
ASC 820 also establishes valuation techniques that are used to measure fair value. To increase consistency and comparability in fair value measurements and related disclosures, the fair value
hierarchy prioritizes the inputs to valuation techniques used to measure fair value into three broad levels:



ASC 820
establishes a hierarchy which requires an entity to maximize the use of quoted market prices and minimize the use of unobservable inputs. An asset or liability's level is
based on the lowest level of input that is significant to the fair value measurement.

The
following table sets forth the Company's financial assets and liabilities that were measured at fair value on a recurring basis by level within the fair value hierarchy at
December 31, for the years identified (in thousands):

Fair Value MeasurementsLevel 1

Level 2

Level 3

TotalAssets:Money Market Fund2009

$
25,492

$


$


$
25,4922008

$
40,616

$


$


$
40,616Liabilities:Derivatives2009

$


$
(5,719
)
$


$
(5,719
)2008

$


$
(8,867
)
$


$
(8,867
)


Marketable
securities are included within cash and cash equivalents in the consolidated balance sheets, which generally consist of money market funds with original maturities less than
90 days and were measured using a level 1 fair value measurement with carrying value equal to fair value. Derivatives consist of interest rate swap agreements and are valued using
observable benchmark rates at commonly quoted intervals for the life of the instruments.

(s)   New Accounting Standards

In November 2009, the Financial Accounting Standards Board (the "FASB") issued Accounting Standards Update ("ASU") 2009-13 and
ASU 2009-14 on revenue arrangements with multiple deliverables and software revenue recognition. ASU 2009-13 addresses the unit of accounting for arrangements
involving multiple deliverables. The guidance revises the determination of when the

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individual
deliverables included in a multiple-element arrangement may be treated as separate units of accounting. The guidance also revises the manner in which the transaction consideration is
allocated across the separately identified deliverables. ASU 2009-14 addresses revenue arrangements that contain both hardware elements and software elements.
ASU 2009-13 and ASU 2009-14 are effective for fiscal years beginning on or after June 15, 2010. The Company is currently evaluating the impact, if any,
adoption of ASU 2009-13 and ASU 2009-14 will have on its consolidated financial statements.

In
August 2009, the FASB issued ASU 2009-05 to provide guidance on measuring the fair value of liabilities. The Company adopted ASU 2009-05 during
the third quarter of 2009 and adoption did not have a material impact on its consolidated financial statements.

In
June 2009, the FASB issued guidance related to the FASB Accounting Standards Codification (the "Codification"), as the single source of authoritative accounting and reporting
standards in the United States applicable for all non-governmental entities, with the exception of the SEC and its staff. The Codification, which changes the referencing of financial
standards, is effective for interim or annual financial periods ending after September 15, 2009. All references made to US GAAP will use the new Codification numbering system prescribed
by the FASB. The Codification is not intended to change or alter existing US GAAP. The Company adopted the Codification during the third quarter of 2009 and adoption did not have any impact on
its consolidated financial statements.

In
June 2008, the FASB issued guidance relating to participating securities, codified as ASC 260-10-45-60, Determining Whether Instruments
Granted in Share-Based Payment Transactions are Participating Securities.
ASC 260-10-45-60 requires that all outstanding unvested share-based payment awards that contain rights to non-forfeitable dividends participate
in undistributed earnings with common shareholders. The Company adopted the provisions of ASC 260-10-45-60 as of January 1, 2009 and adoption did not
have a material impact on its consolidated financial statements.

In
March 2008, the FASB issued guidance relating to derivative disclosures, codified as ASC 815-10-50, Disclosures about Derivative Instruments and Hedging
Activities. ASC 815-10-50 requires enhanced disclosures about how and why an entity uses derivative instruments, how derivative instruments and related hedged items are
accounted for, and how derivative instruments and related hedged items affect an entity's financial position, results of operations and cash flows. The Company adopted the provisions of
ASC 815-10-50 as of January 1, 2009 and adoption did not have a material impact on its consolidated financial statements.

During
February 2008, the FASB issued guidance relating to nonrecurring fair value measurements in ASC 820, which delays the effective date for all nonrecurring fair value
measurements of nonfinancial assets and liabilities until fiscal years beginning after November 15, 2008. Based on this guidance, the Company adopted the additional provisions of ASC 820
as they relate to long-lived assets, including goodwill and intangibles, effective January 1, 2009. The adoption of these provisions did not have a material impact on its
consolidated financial statements.

In
December 2007, the FASB issued guidance relating to non-controlling interests in ASC 810, Non-controlling Interests in Consolidated Financial
Statements. ASC 810 establishes accounting and reporting standards that require non-controlling interests in a subsidiary to be reported as a component of equity, changes in a
parent's ownership interest while the parent retains its controlling interest to be accounted for as equity transactions, and any retained non-controlling equity investment upon the
deconsolidation of a subsidiary to be initially measured at fair value. ASC 810 also establishes reporting requirements that clearly identify and distinguish between the interests of the parent
and the interests of the non-controlling owners. The Company adopted the additional provisions of ASC 810 as of January 1, 2009 and adoption did not have a material impact on
its consolidated financial statements.

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3.     Property and Equipment:

The following reflects the Company's carrying value in property and equipment as of the following dates (in thousands):

December 31,2009

2008Furniture, fixtures and equipment

$
7,463

$
7,061Data processing and telecommunication


43,889


39,002Leasehold improvements


8,123


7,544Vehicles


6,122


6,427Vehicles under capital leases


9,529


9,572Buildings and other


6,403


6,320Rental equipment


14,233


13,31895,762


89,244Less accumulated depreciation


(63,694
)

(53,076
)Property and equipment, net

$
32,068

$
36,168


Depreciation
expense was $12.5 million, $12.6 million and $11.0 million for the years ended December 31, 2009, 2008 and 2007, respectively.

The
amount of fixed asset additions included in accounts payable as of December 31, 2009 and 2008 was $0.3 million and $0.7 million, respectively.

Fixed Assets under Operating Leases

Rental equipment is comprised of commercial security equipment that does not require monitoring services by the Company and is leased
to customers, typically over a 5-year initial lease term. Accumulated depreciation of approximately $4.4 million and $2.6 million was recorded on these assets as of
December 31, 2009 and 2008, respectively. Deferred revenue of $5.8 million was recorded at December 31, 2009 and will be amortized to income over the remaining lease term. The
following is a schedule by year of minimum future rental receipts on non-cancelable operating leases as of December 31, 2009 and does not include payments received at the inception
of the lease (in thousands):

2010

$
1,2192011


9392012


6922013


3902014


109Total minimum future rentals

$
3,349


4.     Goodwill and Intangible Assets:

The Company completed its annual impairment testing during the third quarter of 2009 and determined that goodwill was not impaired. The Company also monitors for
events or circumstances that may indicate potential impairment of goodwill and intangible assets each reporting period. There were no such events or circumstances identified during 2009.

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A
roll-forward of the Company's goodwill and unamortizable intangible assets is presented by segment and in total in the following table (in thousands):

Retail

Wholesale

Multifamily

Total
CompanyGoodwillJanuary 1, 2008

$
19,676

$
17,198

$
4,730

$
41,604Additions











Impairment











December 31, 2008


19,676


17,198


4,730


41,604Additions(a)





1,120


1,129


2,249Impairment











December 31, 2009

$
19,676

$
18,318

$
5,859

$
43,853Trade NameJanuary 1, 2008

$
22,987

$
2,800

$
2,825

$
28,612Additions











Impairment








(925
)

(925
)December 31, 2008


22,987


2,800


1,900


27,687Additions











Impairment











December 31, 2009

$
22,987

$
2,800

$
1,900

$
27,687


(a)Represents
an out-of-period adjustment impacting the carrying value of goodwill. See Note 11, "Income Taxes," for additional
information related to this adjustment.


The
Company's amortizable intangible assets are presented in the following table (in thousands):

Year Ended December 31,2009

2008Customer AccountsGross carrying amount

$
439,440

$
439,033Less: accumulated amortization


(235,987
)

(201,315
)Carrying amount, end of period


203,453


237,718Dealer RelationshipsGross carrying amount

$
47,116

$
47,116Less: accumulated amortization


(12,151
)

(9,519
)Carrying amount, end of period


34,965


37,597Other IntangiblesGross carrying amount

$
26

$
4,000Less: accumulated amortization


(7
)

(3,791
)Carrying amount, end of period

$
19

$
209


Amortization
expense was $37.6 million, $51.7 million and $51.1 million for the years ended December 31, 2009, 2008 and 2007, respectively. The table below
reflects the estimated aggregate

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intangible
amortization expense for each of the five succeeding fiscal years on the existing customer account and dealer relationship base as of December 31, 2009 (in thousands):

2010

2011

2012

2013

2014Estimated amortization expense

$
32,203

$
29,209

$
27,818

$
27,543

$
27,543


5.     Accrued Liabilities:

The following reflects the components of accrued liabilities as of the dates indicated (in thousands):

December 31,2009

2008Accrued interest

$
4,912

$
6,879Accrued vacation pay


4,594


4,821Accrued salaries, bonuses and employee benefits


10,282


11,199Derivative liability


5,719


5,562Other accrued liabilities


9,126


10,561Total accrued liabilities

$
34,633

$
39,022


6.     Debt and Capital Leases:

Long-term debt and capital leases are as follows (in thousands):

December 31,2009

2008New and Extending Term Loans under the Senior Credit Agreement, maturing March 31, 2014, variable at LIBOR + 4.25%

$
277,305

$
Non-Extending Term Loans under the Senior Credit Agreement, maturing March 31, 2012, variable at LIBOR + 2.25%


56,359


291,750Unamortized discount on the New and Extending Term Loans under the Senior Credit Agreement


(5,381
)

Senior Secured Notes, maturing November 2011, fixed 12.0%, face value





115,345Unamortized premium on Senior Secured Notes





6,713Unsecured Term Loan, maturing March 14, 2013, variable at Prime + 11. 5%


110,340


110,340Capital leases


3,285


5,140441,908


529,288Less current portion (including $2,013 and $2,361 in capital leases at December 31, 2009 and 2008, respectively)


(5,358
)

(5,361
)Total long-term debt and capital leases

$
436,550

$
523,927


Senior Credit Agreement

On November 17, 2009, the Company amended its senior credit agreement which (i) increased term loan borrowings by
$75 million under the New Term Loans to an aggregate of $364.5 million, (ii) divided all of its term loans into Non-Extending Term Loans equal to $86.5 million
and New and Extending Term Loans equal to $278.0 million and (iii) replaced its $25 million revolving credit facility with a $15 million revolving credit facility.

The
modification to the extending term loans of $203.0 million was considered a significant modification in accordance with
ASC 470-50-40-10 and extinguishment accounting was therefore

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applied
to $203 million of the original term loans. The present value of the cash flows of the modified term loans was determined to be more than 10% greater than the present value of the cash
flows of the original term loans primarily due to the increased interest rate on the modified debt which includes an increased interest rate margin of 2.0% and 2.0% LIBOR floor. The interest rate on
these term loans prior to the modification was 2.48% while the interest rate after the amendment was 6.25%.

The
New and Extending Term Loans were recorded as new debt at fair value which was determined to be at 98% of par. The fair value determination was based on the 2% discount on the
issuance of the $75 million of New Term Loans which have the same terms and conditions as the $203.0 million of extending term loans. Consequently, a debt discount of $5.6 million
was recorded on the $278.0 million of New and Extending Term Loans. The $203.0 million of original term loans were deemed to have been retired at the fair value of the modified term
loans resulting in an extinguishment gain of $4.1 million which was partially offset by $0.6 million of fees paid directly to the lenders related to the amendment and $1.5 million
of debt issue costs associated with the original debt for a net extinguishment gain of $2.0 million. The Company capitalized $3.9 million of debt issue costs associated with the
amendment to the Senior Credit Agreement in 2009.

Under
the Senior Credit Agreement, the New and Extending Term Loans are scheduled to mature on March 31, 2014, provided, however, that the New and Extending Term Loans will mature
on December 14, 2012 if prior to December 14, 2012, the maturity date of the unsecured term loan facility maturing March 14, 2013 ("Unsecured Term Loan") is not extended to at
least 91 days after March 31, 2014 or the borrowings under the Unsecured Term Loan Agreement are not refinanced with permitted refinancing indebtedness having a maturity date at least
91 days after March 31, 2014. The New and
Extending Term Loans bear interest at a margin of 4.25% over the Eurodollar Base Rate (as defined in the Senior Credit Agreement and subject to a 2% floor) for Eurodollar borrowings and 3.25% over the
Base Rate (as defined in the Senior Credit Agreement and subject to a 3% floor) for Base Rate borrowings. The Non-Extending Term Loans are still scheduled to mature on March 31,
2012 and bear interest at a margin of 2.25% over the Eurodollar Base Rate for Eurodollar borrowings and 1.25% over the Base Rate for Base Rate Borrowings.

The
interest rate at December 31, 2009, was 6.25% and 2.48% for the New and Extending Term Loans and the Non-Extending Term Loans, respectively. Borrowings under the
Senior Credit Agreement are secured by substantially all assets of the Company and require quarterly principal payments of $0.8 million and potential annual prepayments based on a calculation
of "Excess Cash Flow," as defined in the Senior Credit Agreement due in the first quarter of each subsequent fiscal year. The Company made $30.0 million in principal prepayments on the
Non-Extending Term Loans in December 2009 which can be applied toward the required Excess Cash Flow prepayment, resulting in no additional required prepayment in the first quarter of 2010.

Senior Secured Notes

The proceeds from the new term loans under the Senior Credit Agreement, together with excess cash, were deposited with the trustee
under the indenture governing the Senior Secured Notes in order to redeem the Senior Secured Notes in full. The Senior Secured Notes were called for redemption effective December 17, 2009 and
the obligations of POAMI, Protection One and other guarantors under the Indenture were satisfied and discharged as of November 17, 2009. The Company wrote-off a net of
$4.7 million, primarily unamortized premium, in connection with the redemption. In addition, payments of $4.7 million were made for termination fees and make-whole payments.

Unsecured Term Loan

On March 14, 2008, POAMI borrowed approximately $110.3 million under the Unsecured Term Loan to allow it to redeem all of
the Senior Subordinated Notes. Using the proceeds from the

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Unsecured
Term Loan and available cash on hand, POAMI redeemed all of the Senior Subordinated Notes. The senior credit facility would have been subject to an early maturity date of June 30,
2008 had the Senior Subordinated Notes not been refinanced. A loss of $12.8 million was recorded in connection
with the retirement of the Senior Subordinated Notes, which was comprised of the non-cash write-off of $7.0 million in unamortized discount and $5.8 million in
make-whole payments and termination fees.

The
Unsecured Term Loan bears interest at the prime rate plus 11.5% per annum and matures in 2013. Interest is payable semi-annually in arrears on March 14 and
September 14 of each year. The annual interest rate was 14.75% at December 31, 2009. The Unsecured Term Loan lenders include, among others, entities affiliated with the Principal
Stockholders and Arlon Group. Affiliates of the Principal Stockholders collectively owned approximately 70% of the Company's common stock as of December 31, 2009, and one of the Company's
former directors is affiliated with Arlon Group. The Company recorded $6.7 million and $5.9 million of related party interest expense for the years ended December 31, 2009 and
2008, respectively.

Capital Leases

The Company acquired vehicles under capital lease arrangements. Accumulated depreciation on these assets at December 31, 2009
and 2008 was approximately $6.2 million and $4.4 million, respectively. The following is a schedule of future minimum lease payments under capital leases together with the present value
of net minimum lease payments as of December 31, 2009 (in thousands):

2010

$
2,2722011


1,2282012


3432013


2Total minimum lease payments


3,845Less: Estimated executory costs


(272
)Net minimum lease payments


3,573Less: Amount representing interest


(288
)Present value of net minimum lease payments(a)

$
3,285


(a)Reflected
in the condensed consolidated balance sheet as current and non-current obligations under debt and capital leases of $2,013 and $1,272,
respectively.


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Debt Maturities

Excluding capital lease agreements and any discounts described above, debt maturities over the succeeding five years and thereafter are
as follows (in thousands):

2010

$
3,3452011


3,3452012(a)


326,9742013(a)


110,3402014(a)


Thereafter


Total

$
444,004


(a)Assumes
(i) payment of Unsecured Term Loan at contractual maturity date of March 14, 2013; and (ii) senior credit facility subject to
early maturity date of December 14, 2012.


Debt Covenants

The agreement governing the Unsecured Term Loan (the "Unsecured Term Loan Agreement") and the Senior Credit Agreement contain certain
covenants and restrictions, including with respect to the Company's ability to incur debt and pay dividends, based on earnings before interest, taxes, depreciation and amortization, or EBITDA. While
the definition of EBITDA varies slightly among the Unsecured Term Loan Agreement and Senior Credit Agreement, EBITDA is generally derived by adding to income (loss) before income taxes, the sum of
interest expense, depreciation and amortization expense, including amortization of deferred customer acquisition costs less amortization of deferred customer acquisition revenue.

The
following table presents the financial ratios required by the Company's Senior Credit Agreement and Unsecured Term Loan Agreement through December 31, 2010.

Debt Instrument

Financial Covenants

Ratio RequirementsSenior Credit Agreement

Consolidated Leverage Ratio (consolidated total debt on last day of period/consolidated EBITDA for most recent four fiscal quarters)

Q4 2009 through Q3 2010: Less than 5.5:1.0
  
Q4 2010; Less than 5.25:1.0Consolidated Interest Coverage Ratio (consolidated EBITDA for most recent four fiscal quarters/consolidated interest expense for most recent four fiscal quarters)

Q4 2009 through Q3 2010: Greater than 2.0:1.0
  
Q4 2010; Greater than 2.05:1.0Unsecured Term Loan Agreement

Consolidated Fixed Charge Coverage Ratio (consolidated EBITDA for most recent four fiscal quarters/consolidated interest expense for most recent four fiscal quarters)

Greater than 2.25:1.0


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At December 31, 2009, the Company was in compliance with the financial covenants and other maintenance tests for all its debt obligations. The Consolidated
Leverage Ratio and Consolidated Interest Coverage Ratio contained in the Senior Credit Agreement are maintenance tests and the Consolidated Fixed Charge Coverage Ratio contained in the Unsecured Term
Loan Agreement is a debt incurrence test. The Company cannot be deemed to be in default solely due to failure to meet debt incurrence tests. However, failure to meet such debt incurrence test could
result in restriction on the Company's ability to incur additional ratio indebtedness. The Company believes that should it fail to meet the minimum Consolidated Fixed Charge Coverage Ratio in its
Unsecured Term Loan Agreement, its ability to borrow additional funds under other permitted indebtedness provisions of the Unsecured Term Loan Agreement and Senior Credit Agreement would provide
sufficient liquidity for currently foreseeable operational needs. The Company is prohibited from paying cash dividends to its stockholders under covenants contained in the Senior Credit Agreement.

7.     Share-Based Employee Compensation:

The Company accounts for stock based compensation using the provisions of ASC 718 which require the measurement and recognition of compensation expense for all
share-based payment awards to employees and directors based on estimated fair values.

The
Company had the following stock option plans under which shares were available for grant at December 31, 2009: the 2008 Long-Term Incentive Plan (the "2008 LTIP")
and the 2004 Stock Option Plan (the "2004 Plan").



The 2008 LTIP, approved by the Company's stockholders on June 4, 2008, is an equity compensation plan that satisfies certain
requirements of the Marketplace Rules of The Nasdaq Stock Market and certain requirements of the Internal Revenue Code of 1986, as amended, and regulations there under, referred to collectively as the
Code, relating to deductibility of certain performance-based executive compensation. The 2008 LTIP provides for the granting of incentive and nonqualified stock options, stock appreciation rights,
restricted shares and restricted share units, performance awards and other equity-based awards to directors, officers and key employees. Under the 2008 LTIP, 1.5 million shares are reserved for
issuance, subject to such adjustment as may be necessary to reflect changes in the number or kinds of shares of common stock or other securities of Protection One.

No
options have been granted under the plan as of December 31, 2009. A total of 65,000 and 31,900 restricted stock units were issued to directors on June 24, 2009 and
June 4, 2008, respectively.



The 2004 Plan was approved by the Protection One stockholders and became effective on February 8, 2005. Under the 2004 Plan,
certain executive officers and selected management employees were granted options in 2005, which are subject to vesting, exercise and delivery restriction described below, to purchase an aggregate of
1,782,947 shares of common stock. A total of 1,996,184 shares are reserved for issuance under the 2004 Plan subject to such adjustment as may be necessary to reflect changes in the number or kinds of
shares of common stock or other securities of the Company. To the extent an option expires or is canceled, forfeited, settled in cash or otherwise terminated or concluded without a delivery of shares
to which the option related, the undelivered shares will again be available for options. The options initially granted under the 2004 Plan will vest ratably each month during the 48 months
after the date of grant, subject to accelerated vesting, in the case of certain senior executive officers, under certain circumstances following a qualified sale. Under the option agreements
applicable to the options granted, any shares of stock purchased through the exercise of options generally will be issued and delivered to the option holder, and any net payment that may be due to
such holder in

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accordance
with the 2004 Plan, will be paid to such holder upon the earlier of: (1) specified dates following the occurrence of certain permissible distribution events, as defined in the
Company's Stock Appreciation Rights Plan (the "SAR Plan") and (2) February 8, 2011, provided that if an option holder's right to receive stock is converted pursuant to the 2004 Plan into
a right to receive cash, the amount of cash payable will be credited with interest at 6% per annum, compounded annually, from the date such conversion is effective until the applicable payment date.
See "Stock Appreciation Rights Plan" below for additional information related to the SAR Plan.

On
July 25, 2006 an additional 42,500 options were granted under the 2004 Plan with an exercise price of $14.02 per share. On May 7, 2007, an additional 100,000 options
were granted under the 2004 Stock Option Plan with an exercise price of $14.50 per share.



Share-based compensation related to stock options granted to employees of approximately $0.5 million, or $0.02 per share (basic
and fully diluted), $1.4 million, or $0.06 per share (basic and fully diluted), and $1.5 million, or $0.06 per share (basic and fully diluted), for the years ended December 31,
2009, 2008 and 2007, respectively, was recorded in general and administrative expense. No tax benefit was recorded since the Company does not have taxable income and is currently reserving for its
federal tax assets. There were no amounts capitalized relating to share-based employee compensation for the any of the years ended December 31, 2009, 2008 and 2007.

The
amount of expense to be recognized over the remaining service period of the modified 2005 options, the 2006 options, and the 2007 options as of December 31, 2009 is expected
to be approximately $0.1 million through July 2010.

The
table below summarizes stock options and warrants for the Company's common stock outstanding as of December 31, 2009. All non-vested options at December 31,
2009 are expected to vest in the future.

Description

Exercise
Price/Range of
Exercise Prices

Number of
Shares of
Common
Stock

Weighted-
Average
Remaining
Contractual
Life in years

Weighted
Average
Exercise
Price

Aggregate
Intrinsic
Value(Dollars in
Thousands)Exercisable2000 Options


65.625 - 71.875


2,089



$
71.522001 Options


60.30 - 67.50


24,550




65.002001 Warrants


65.825


5,000




65.832002 Options


103.50 - 137.50


6,400




116.592005 Options


6.52


1,548,829




6.522006 Options


14.02


16,230




14.02IASG converted Options


19.83 - 31.90


617,839




29.782,220,937

1.8 years


14.12

$
0Not exercisable2006 Options


14.02


2,770

2.6 years


14.02Outstanding





2,223,707

1.8 years

$
14.12

$
0


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Table of Contents

A
summary of the Company's non-vested stock options activity for the years ended December 31, 2009, 2008 and 2007 follows:

Shares

Weighted-
Average
Grant-Date
Fair Value

Total
Grant-Date
Fair Value(Dollars in Thousands)Non-vested at January 1, 2007


882,438

$
2.81

$
2,479Granted


100,000


9.88


988Vestedmodified 2005 options(a)


(389,701
)

2.51


(978
)Vested2006 options


(10,627
)

9.52


(101
)Vested2007 options


(14,583
)

9.88


(144
)Forfeited








Non-vested at December 31, 2007


567,527


3.96


2,244Granted








Vestedmodified 2005 options(a)


(388,875
)

2.51


(976
)Vested2006 options


(7,833
)

9.52


(75
)Vested2007 options


(25,000
)

9.88


(247
)Forfeited


(9,385
)

8.59


(81
)Non-vested at December 31, 2008


136,434


6.36


865Granted








Vestedmodified 2005 options(a)


(64,539
)

2.51


(162
)Vested2006 options


(5,375
)

9.52


(51
)Vested2007 options


(8,333
)

9.88


(82
)Forfeited


(55,417
)

9.86


(543
)Non-vested at December 31, 2009


2,770

$
9.52

$
27


(a)The
weighted-average grant-date fair value of options granted during the first quarter of 2005 was $5.39 per option. The terms of the options
granted in 2005 under the 2004 Plan included anti-dilution provisions and were modified accordingly because of the distribution made in May 2006. A compensatory make-whole
payment of $4.5 million or $2.89 per option was also made and resulted in a reduction of the fair value of the original award by the amount of cash received resulting in an adjusted
grant-date fair value of $2.51.


The
Company estimated fair value of the options on the date of grant using the Black-Scholes option-pricing model with the assumptions included in the table below. The Company uses
historical data, among other factors, to estimate the expected stock price volatility, the expected option life and the expected forfeiture rate. The risk-free rate is based on the U.S.
Treasury yield curve in effect at the time of grant for the estimated life of the option. The following assumptions were used to estimate the fair value of options granted:

May 7, 2007Expected stock price volatility


73.9
%Risk free interest rate


4.52
%Expected option life


6 yearsExpected dividend yield





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Table of Contents

The
following table summarizes the Company's activities with respect to its stock option plans for the years presented:

Warrants
And Options

Weighted Average
Exercise Price

Weighted Average
Grant Date
Fair Value(Dollars in Thousands)Outstanding at January 1, 2007


1,655,875

$
10.41Granted


100,000


14.50

$
988IASG options converted


713,104


29.77

$
2,900Forfeited


(31,314
)

27.95Outstanding at December 31, 2007


2,437,665


16.19Forfeited


(20,958
)

118.02Outstanding at December 31, 2008


2,416,707


15.02Forfeited


(193,000
)

19.40Outstanding at December 31, 2009


2,223,707

$
14.12




Annual grants of RSUs are awarded to the Company's independent board members under the Company's 2008 LTIP approved by shareholders in
June 2008. An award of 65,000 RSUs was granted on June 24, 2009 with a per unit fair value of $4.00. An award of 31,900 RSUs was granted on June 4, 2008 with a per unit fair value of
$8.15. An award of 40,570 RSUs was granted on August 23, 2007 with a per unit fair value of $12.94. The RSUs vest ratably over a 4-year period, provided, however, that any and all
unvested RSUs shall be immediately forfeited in the event the board member ceases to serve on the Company's board. A total of 16,840, 8,864 and 750 RSUs vested during the years ended
December 31, 2009, 2008 and 2007, respectively, and 105,402 RSUs remained unvested as of December 31, 2009.



On February 8, 2005, pursuant to the SAR Plan, the Company's senior management team received an aggregate of 1,996,183 Stock
Appreciation Rights, or SARs. The SARs vest and become payable upon the earlier of (1) a qualified sale as defined in the SAR Plan, which generally means the Principal Stockholders' sale of at
least 60% of their equity interest in the Company, provided that if the qualified sale is not a permissible distribution event (as defined in the SAR Plan) the payment will be made, with interest, in
connection with a subsequent permissible distribution event, and (2) February 8, 2011. The exercise price of the SARs was $4.50 on the grant date and increases by 9% per annum, which is
referred to as the fixed return, compounded annually, beginning on February 8, 2006. If the Principal Stockholders sell less than 60% of their equity interest in the Company, the exercise price
applicable to an equivalent percentage of management's SARs would be based on the fixed return through the date of such sale. Each SAR that vests and becomes payable in connection with a qualified
sale will generally entitle the holder of a SAR to receive the difference between the exercise price and the lesser of (1) the value of the consideration paid for one share of stock in such
qualified sale, or the fair market value of one share of stock if the qualified sale is not a sale to a third party and (2) $7.50, provided that if a SAR holder's right to receive stock is
converted pursuant to the SAR Plan into a right to receive cash from a grantor trust that the Company may
establish, the amount of cash payable will be credited with interest at 6% per annum, compounded annually, from the date such conversion is effective until the applicable payment date.

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The
SAR Plan provides that the exercise price of the SARs shall be equitably adjusted or modified as necessary to preserve the intended economic benefit of the original grant in the
event there is, among other things, a recapitalization, and the SAR Plan provides that the exercise price of the SARs may be adjusted or modified upon the occurrence of any event that makes adjustment
or modification appropriate and equitable to prevent inappropriate penalties or windfalls with respect to the terms of the SAR Plan and the holders of the SARs. On May 12, 2006, after
determining that the $70.5 million cash dividend declared on April 27, 2006 would adversely impact the SARs granted in 2005, the Company's board of directors agreed to amend the SARs
agreements by effectively fixing the exercise price on 439,160 outstanding SARs (the modified SARs) at $5.02. Therefore, if there is not a qualified sale prior to February 8, 2011, the holders
of these modified SARs will be entitled to receive the difference between $7.50 and $5.02 per SAR, or $2.48, from the Company for a total cash outlay of approximately $1.1 million on
February 8, 2011.

In
November 2006, the Company's board of directors approved the reallocation of SARs forfeited by a former executive officer to the other SAR Plan participants, Messrs. Ginsburg,
Nevin and Pefanis. As proposed by the Company's Chief Executive Officer and approved by its board of directors, the SARs were reallocated to the applicable named executive officers in proportion to
the number of SARs that they held immediately before the reallocation. Except for a reallocation upon any forfeiture by a former executive officer, the SAR Plan does not allow for any grant of
additional SARs.

As
of December 31, 2009 and 2008, respectively, the Company had established a liability of approximately $0.8 million and $0.6 million to reflect the portion of the
modified SARs that have been earned since the date of the modification with the associated expense reflected in general and administrative expense. Assuming there is no qualified sale prior to
February 8, 2011, the Company expects to record approximately $0.3 million in expense through 2011, the majority of which will be in 2010, related to these SARs. As of
December 31, 2009 and 2008, no value has been ascribed to the SARs that have not been modified and no value will be allocated to those SARs unless and until it becomes probable that a qualified
sale will occur.



In connection with the Merger, options to acquire shares of IASG common stock were converted into options to acquire a number of shares
of Protection One, Inc. common stock equal to the number of shares of IASG common stock that were issuable upon exercise of the options multiplied by 0.29, rounded down to the nearest whole
share, at an exercise price per share equal to the exercise price per share under the options before the completion of the Merger divided by 0.29, rounded up to the nearest whole cent.

The
fair value of the converted options, net of the fair value of unvested options, represents additional purchase consideration. Substantially all outstanding options issued to IASG
employees vested prior to the Merger. A total of 713,104 options for the Company's common stock were issued in exchange for 2,459,001 outstanding IASG options. The fair value of these options was
calculated as of December 20, 2006, the announcement date of the Merger, using the Black-Scholes option pricing model. The Company's historical data, among other factors, were used to estimate
the expected price volatility and the expected option life. The risk-free rate is based on the U.S. Treasury yield curve in effect at the time of grant for the estimated life of the
option. The table below reflects the assumption

78

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used
for each of the exchanged option awards (dollars in thousands, except per share amounts, ratios, number of options and percentages):

Expiration Date

# of
Options(a)

Exercise
Price/Option

Award
Value/Option

Expected
Life (yrs)

Expected
Volatility

Risk-free
Rate

Total Fair
ValueJuly 23, 2013


591,594

$
31.90

$
4.22


3.28


81.4
%

4.55
%
$
2,497July 24, 2013


13,920

$
31.90

$
4.22


3.28


81.4
%

4.55
%

58June 15, 2014


33,785

$
19.83

$
5.67


3.73


77.2
%

4.53
%

191April 4, 2015


7,250

$
16.76

$
6.31


4.13


74.9
%

4.52
%

46May 2, 2014


725

$
12.93

$
6.80


3.67


77.2
%

4.53
%

5Dec. 31, 2010


580

$
19.31

$
2.10


2.00


53.3
%

4.69
%

1April 23, 2009


43,500

$
18.10

$
1.30


1.16


52.4
%

4.85
%

57April 23, 2009


21,750

$
14.66

$
2.07


1.16


52.4
%

4.85
%

45Totals


713,104
















$
2,900


(a)There
are 617,839 stock options exercisable as of December 31, 2009, none of which have an exercise price below the market price at that date.


In
accordance with ASC 718, an additional fair value measurement of both the IASG vested options immediately prior to their conversion into options to acquire the Company's common stock
and the options to acquire the Company's common stock which replaced the IASG options held by employees was made as of the closing date of the Merger. The fair value of the Company's common stock
options exceeded the fair value of the IASG options held by employees by approximately $0.2 million and such excess was reflected as compensation expense in the Statement of Operations in 2007.

8.     Derivatives:

The Company holds one interest rate cap and three interest rate swaps to manage interest rate exposure on its variable rate borrowings. The derivatives are
accounted for as economic hedges of the Company's debt subsequent to their de-designation which is further discussed below. Prior to de-designation, the derivatives were
considered cash flow hedges and changes resulting from fair market value adjustments were reflected in accumulated other comprehensive loss in the condensed consolidated balance sheet and as a
component of unrealized other comprehensive income in the condensed consolidated statement of operations and comprehensive income (loss). Subsequent to de-designation, the derivatives are
considered economic hedges and changes in fair value are recorded as interest expense.

The
interest rate cap was entered into during the second quarter of 2005 as required by the Company's then existing credit agreement. The objective was to manage interest rate exposure
caused by fluctuation in the LIBOR interest rate. The cap provides protection on $75 million of the Company's long term debt over a five-year period ending May 24, 2010 if
LIBOR exceeds 6%. In the second quarter of 2008, in connection with the interest rate swaps entered into and described below, the interest rate cap was de-designated as a cash flow hedge.
The cap had no fair value at December 31, 2009 or 2008.

The
Company entered into three interest rate swaps in the second quarter of 2008 to fix the interest rate on $250 million of the variable rate debt under the Company's then
existing credit facility. The interest rate swaps mature from September 2010 to November 2010. The interest rate swaps were de-designated as cash flow hedges in conjunction with the debt
refinancing that occurred in the fourth quarter of 2009. See Note 6, "Debt and Capital Leases," for additional discussion of the debt refinancing.

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The
fair value of the interest rate swaps are reflected in accrued liabilities and other liabilities based on the timing of discounted expected future cash flows. At December 31,
2009, the Company recorded $5.7 million as a current liability in accrued liabilities. At December 31, 2008 the Company recorded $5.6 million as a current liability in accrued
liabilities and $3.3 million as a long term liability in other liabilities. The table below is a summary of the Company's derivative positions as of December 31, 2009 and 2008 (in
thousands):

Derivative Type

Notional

December 31, 2009
Fair Value

December 31, 2008
Fair ValueInterest Rate Swaps

$
250,000

$
(5,719
)
$
(8,867
)Interest Rate Cap


75,000


0


0Total

$
325,000

$
(5,719
)
$
(8,867
)


Below
is a summary of the amounts charged to interest expense and accumulated other comprehensive income for the periods indicated (in thousands). No ineffectiveness was recorded for any
of the periods presented.

Loss Reclassified from
Accumulated Other
Comprehensive Income
(Loss) to Interest
Expense

Loss Recognized in
Accumulated Other
Comprehensive Income
(Loss)Year Ended December 31,

Year Ended December 31,Derivatives in ASC 815
Cash Flow Hedge
Relationships2009

2008

2009

2008Interest Rate Swaps(b)

$
(5,890
)
$
(940
)
$
(4,174
)
$
(9,804
)Interest Rate Cap(a)





(134
)




(28
)Total

$
(5,890
)
$
(1,074
)
$
(4,174
)
$
(9,832
)


(a)Interest
rate caps were de-designated as cash flow hedges in the second quarter of 2008.(b)Interest
rate swaps were de-designated as cash flow hedges in the fourth quarter of 2009.


Amount of Loss on Derivatives Recognized in
Interest ExpenseYear Ended December 31,Derivatives Not Designated as
Hedging Instruments under
ASC 8152009

2008Interest Rate Swaps(b)

$
(1,097
)
$
Interest Rate Cap(a)


(211
)

(93
)Total

$
(1,308
)
$
(93
)


(a)Interest
rate caps were de-designated as cash flow hedges in the second quarter of 2008.(b)Interest
rate swaps were de-designated as cash flow hedges in the fourth quarter of 2009.


The
Company estimates the remaining $5.7 million of the net unrealized loss existing at December 31, 2009 will be reclassified to earnings within the next twelve months.

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9.     IASG Acquisition:

The Company acquired all of the outstanding common stock of IASG in connection with the Merger. Holders of IASG common stock received 0.29 shares of Protection
One, Inc. common stock for each share of IASG common stock held. Cash was paid in lieu of fractional shares. The Company issued 7,066,960 shares of its common stock and 713,104 stock options in
exchange for the outstanding IASG common stock and IASG stock options, respectively. The consideration associated with the common stock and stock options was based on $12.125 per share, the average
closing price of the Company's common stock for the two trading days immediately prior and subsequent to December 20, 2006, the announcement date of the Merger. Upon consummation of the Merger,
the Principal Stockholders' ownership percentage decreased to 70.0% and former IASG stockholders were issued 27.9% of the Company's common stock. IASG financial results subsequent to April 2,
2007 are consolidated with the Company's financial results.

The
Merger was accounted for using the purchase method of accounting under ASC 805, Business Combinations. Under the purchase method of accounting, the Company was considered the
acquirer of IASG for accounting purposes and the total purchase price was allocated to the assets acquired and liabilities assumed from IASG based on their fair values as of April 2, 2007.
Under the purchase method of accounting, the net consideration was approximately $96.7 million, comprised of the Company's common stock of $85.7 million, the assumption of IASG stock
options that were converted into the Company's stock options with a value of $2.9 million, and approximately $8.1 million in transaction costs, including investment banker fees,
consulting fees and professional fees.



The results of operations of IASG from April 2, 2007 through December 31, 2007 are included in the Company's condensed
consolidated statement of operations for the year ended December 31, 2007. The financial information in the table below summarizes the combined results of operations of the Company and IASG, on
a pro forma basis, as though the companies had been combined as of the beginning of the period presented. These results have been prepared by adjusting the historical results of the Company to include
the historical results of IASG and the impact of the purchase price allocation. The pro forma combined results of operations for the year ended December 31, 2007 exclude Merger-related costs of
$3.9 million, which primarily consist of investment banker fees and debt redemption costs incurred by IASG prior to completion of the Merger.

The
following pro forma combined results of operations have been provided for illustrative purposes only and do not purport to be indicative of the actual results that would have been
achieved by the combined companies for the period presented or that will be achieved by the combined company in the future (in thousands, except per share information).

Year ended
December 31, 2007(unaudited)Pro forma:Revenue

$
371,178Net loss

$
(34,317
)Basic and diluted earnings per share

$
(1.12
)


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10.   Leases:

The Company leases office facilities and equipment for lease terms maturing through 2015. Future minimum lease payments under non-cancelable operating
leases are as follows (in thousands):

Year ended December 31,2010

$
6,3192011


5,7322012


4,2892013


2,2852014


807Thereafter


50$
19,482


Total
rent expense was $6.6 million for each of the years ended December 31, 2009 and 2008 and was $7.1 million for the year ended December 31, 2007.

11.   Income Taxes:

Components of income tax (expense) benefit are as follows (in thousands):

Year Ended December 31,2009

2008

2007FederalCurrent

$


$


$
Deferred


(3,255
)




StateCurrent


(635
)

(322
)

(721
)Deferred


1,600


(19
)

8Total

$
(2,290
)
$
(341
)
$
(713
)


The
difference between the income tax expense or benefit at the federal statutory rate and income tax expense in the accompanying statements of operations is as follows:

Year ended December 31,2009

2008

2007Federal statutory tax rate


35
%

35
%

35
%State income tax benefit, net of federal expense


15


3


4State tax credits








10Other





(3
)

(2
)Valuation allowance


(38
)

(36
)

(49
)12
%

(1
)%

(2
)%


Management
believes the Company's net federal deferred tax assets, including those related to net operating losses, are not likely realizable and therefore its federal deferred tax
assets are fully reserved. The Company had no federal deferred tax assets recorded as of December 31, 2009 or 2008. The Company had $2.9 million and $0.1 million of state deferred
tax assets recorded as of December 31, 2009 and 2008, respectively, which relate primarily to benefits expected to be received for state tax credits. In assessing whether deferred taxes are
realizable, management considers whether it is more likely than not that some portion or all deferred tax assets will be realized. The ultimate realization of

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deferred
tax assets is dependent upon the generation of future taxable income during the periods in which those temporary differences become deductible. Management considers the projected future
taxable income and tax planning strategies in making this assessment.

The
Company has indefinite-lived intangible assets consisting of trade names and goodwill which are not amortized for financial reporting purposes. These indefinite-lived intangible
assets are tax deductible, and therefore, are amortized over fifteen years for tax purposes. The tax-deductibility of these indefinite-lived intangible assets results in a deferred tax
liability which only reverses at the time of impairment of the related asset or ultimate sale of the underlying intangible asset. Due to the uncertain timing of this reversal, the difference cannot be
considered as a source of future taxable income and cannot be used to offset the Company's deferred tax assets. As a result, the Company does not net such deferred tax liabilities against the
Company's deferred tax assets, which related primarily to net operating loss carryforwards, when determining its valuation allowance. The Company also has a state deferred tax liability of
approximately $1.3 million and $1.2 million at December 31, 2009 and 2008, respectively, related to states that impose a tax on a separate company basis.

Deferred
income tax assets and (liabilities) were composed of the following (in thousands):

December 31,2009

2008Deferred taxes, current:Accrued liabilities

$
4,899

$
4,362Accounts receivable, due to allowance


2,742


2,249Other


(302
)

(435
)Valuation allowance


(7,339
)

(6,176
)$


$
Deferred taxes, noncurrent:Net operating loss carry-forwards

$
56,653

$
63,385State tax credits


3,196


3,273Property & equipment


8,205


12,460Deferred customer acquisition costs (net of revenue)


(17,377
)

(20,410
)Customer accounts


17,394


15,719Dealer relationships


(7,476
)

(7,917
)Goodwill


(2,004
)

3,420Other intangibles


(3,262
)

(2,524
)Debt


274


4,094Other


4,644


5,644Valuation allowance


(65,126
)

(78,211
)$
(4,879
)
$
(1,067
)


Income
tax expense recorded in the fourth quarter of 2009 includes a $1.1 million out-of-period adjustment to correct an error in the calculation of the
deferred tax valuation allowance. The correction relates to the inappropriate (1) netting of deferred tax liabilities acquired in 2005 and 2007 and generated thereafter from the tax
amortization of indefinite-lived intangible assets against deferred tax assets; and (2) valuation of a state of Texas franchise tax credit during 2007. The correction resulted in an increase of
$2.2 million and $3.3 million to Goodwill and Deferred Tax Liability, respectively. The Company has evaluated this out-of-period correction from both qualitative
and quantitative perspectives and has concluded that it is immaterial to the previously issued annual and quarterly financial statements.

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At December 31, 2009, the Company had approximately $157 million of net operating loss carry-forwards which begin to expire in 2020. Total state net
operating losses of approximately the same amount have various expiration dates.

As
a result of ownership changes related to the Merger and previous IASG acquisitions, approximately $53 million of these net operating losses are subject to Internal Revenue Code
("IRC") Section 382 limitations, which limit the Company's ability to utilize these net operating losses on an annual basis. As a result of IRC Section 382 limitations, approximately
$10 million of the net operating loss cannot be utilized. Approximately $13 million of these net operating losses are currently available and approximately $30 million of the
carry-forwards, subject to certain limitations, will become available in future years.

As
a result of certain realization requirements of ASC 718, the table of deferred tax assets and liabilities shown above does not include certain deferred tax assets at
December 31, 2009 and 2008 that arose directly from tax deductions related to equity compensation in excess of compensation recognized for financial reporting. Equity will be increased by
approximately $0.6 million if and when such deferred tax assets are ultimately realized.

A
reconciliation of the beginning and ending balances of the total amount of gross unrecognized tax benefit is as follows (in thousands):

2009

2008

2007Gross unrecognized tax benefit at January 1,

$
63

$


$
Increases in tax positions for prior years


59


15


Decreases in tax positions for prior years


(15
)




Increases in tax positions for current years


42


48


Gross unrecognized tax benefit at December 31,

$
149

$
63

$



The
balance of unrecognized tax benefits that, if recognized, would favorably impact the effective tax rate at December 31, 2009 and 2008, are tax benefits of $149 thousand
and $63 thousand, respectively.

The
Company recognizes interest and penalties related to unrecognized tax benefits as deferred income tax expense. Related to the unrecognized tax benefit noted above, the Company
accrued penalties of $5 thousand and no interest during the year ended December 31, 2009 and, in total, as of December 31, 2009, has recorded a liability of $11 thousand
and $3 thousand for penalties and interest, respectively. During the year ended December 31, 2008, the Company accrued $6 thousand and $3 thousand for penalties and
interest, respectively, and, in total, as of December 31, 2008, had recorded a liability of $6 thousand and $3 thousand for penalties and interest, respectively. The Company had
no liability related to unrecognized tax benefits at December 31, 2007.

With
limited exception, the company is subject to U.S. federal, state and local tax audits by taxing authorities for years subsequent to 2005. These years contain matters that could be
the subject of differing interpretations of applicable tax laws and regulations as it relates to the amount and/or timing of income, deductions and tax credits. Although the outcome of tax audits is
always uncertain, the Company believes that adequate amounts of tax and interest have been provided for any adjustments that are expected to result for these years. The Company does not currently
expect the resolution of these matters to result in significant changes during the next twelve months.

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12.   Related Party Transactions:

Principal Stockholders Management Agreements

On April 18, 2005, the Company entered into management agreements with each of Quadrangle Advisors LLC ("QA") and
Quadrangle Debt Recovery Advisors LLC ("QDRA," and together with QA, the "Advisors"). The Principal Stockholders management agreements were terminated as of April 2, 2007 in connection
with the completion of the Merger.

The
Company paid the Advisors aggregate management fees of $2.7 million in 2007 pursuant to the terms of the management agreements. This amount includes $375,000 paid in
connection with the termination of the management agreements, representing the second quarterly installments of the 2007
annual fees due to the Advisors under the management agreements, and approximately $1.9 million for services rendered in connection with the Merger, or 1% of the aggregate value of the Merger.
The $1.9 million fee was capitalized as a direct cost of the Merger.

Board of Directors and Amended Bylaws

If and for so long as POI Acquisition, L.L.C. owns at least 40% of the outstanding shares of the Company's common stock, it shall have
the right to elect to increase the size of the board by two directors, which it shall be entitled to designate.

The
stockholders agreement also includes voting agreements, certain restrictions on the transfer of the Company's common stock, drag-along rights in favor of POI Acquisition,
L.L.C. and tag-along rights in favor of Monarch, all upon customary terms and subject to certain customary exceptions (including exceptions for certain transfers among affiliates). In
addition, the stockholders agreement provides the Principal Stockholders with the right to participate on a proportional basis in any future equity issuance by the Company, except for issuances
pursuant to registered public offerings, business combination transactions or officer, employee, director or consultant arrangements.

Registration Rights Agreement

As a condition to the consummation of the debt-for-equity exchange with the Principal Stockholders in 2005, the
Company entered into a registration rights agreement with POI Acquisition, L.L.C. and Monarch. The registration rights agreement provides, among other things, that the Company will register, upon
notice, shares of its common stock owned by such parties. Under the registration rights agreement, POI Acquisition, L.L.C. is permitted up to four demand registrations and Monarch is permitted up to
two demand registrations, subject to certain conditions described in the agreement. POI Acquisition, L.L.C. and Monarch also received piggyback registration rights whereby they shall have the
opportunity to register their securities pursuant to any registration statement the Company may file in the future, subject to certain conditions. The Company is also obligated to pay certain of their
expenses pursuant to the registration of their securities under the registration rights agreement.

13.   Commitments and Contingencies:

In addition to the matters described below, the Company is a defendant in a number of pending legal proceedings incidental to the normal course of its business
and operations. The Company does not expect the outcome of these proceedings, either individually or in the aggregate, to have a material adverse effect on the Company's financial condition, results
of operations or liquidity.

An
estimate of the probable loss, if any, or the range of loss cannot be made for the following cases, and therefore, the Company has not accrued loss contingencies related to the
following matters.

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Scardino Litigation

On April 17, 2006, the Company was named a defendant in a litigation proceeding brought by Frank and Anne Scardino arising out
of a June 2005 fire at their home in Villanova, Pennsylvania. (Frank and Anne Scardino v. Eagle Systems, Inc., Eagle Monitoring, Inc. and Protection One
Alarm Monitoring, Inc. d/b/a Dynawatch, Delaware County, Pennsylvania Court of Common Pleas, Cause No. 06-4485). The original complaint asserted six
counts for negligence, gross negligence, breach of contract, breach of implied warranty of merchantability, breach of implied warranty of fitness for a particular purpose and violation of the Unfair
Trade Practices and Consumer Protection Law ("UTPCPL"). The UTPCPL claim carried the risk of treble damages, attorneys' fees and costs. Plaintiffs initially claimed direct and consequential damages in
excess of $3 million. Plaintiffs have since claimed damages close to $5 million. The Company's preliminary objections to the negligence and gross negligence claims were granted by the
court in September 2007, and these claims were accordingly dismissed.

The
Company notified its liability insurance carriers of the claim and answered the remaining counts. On January 28, 2009, the plaintiffs, in response to the Company's motion for
summary judgment, voluntarily withdrew three of the four remaining claims, including the UTPCPL claim, thereby leaving only one count for breach of a written alarm agreement. However, plaintiffs were
later granted leave to assert three additional claims for breach of oral contracts in an amended complaint, which was filed on or about June 25, 2009. The amended complaint improperly included
claims against the Company which were previously dismissed. The plaintiffs served a second amended complaint on August 6, 2009, which did not assert the improperly included claims.

On
October 14, 2009, the Company filed preliminary objections to the three new claims for breach of oral contracts, contending that the three new claims in the second amended
complaint were insufficient as a matter of law and contractually time barred. The preliminary objections were not sustained by the
Court, but the Company intends to bring a separate motion asserting that the new claims are statutorily time-barred.

The
Company answered the second amended complaint and filed counterclaims for breach of contract and for contractual indemnification for the uninsured portion of plaintiffs' loss.
Plaintiffs filed preliminary objections to the Company's counterclaims.

At
a settlement conference held on March 1, 2010, the parties tentatively reached an agreement to settle the matter, however such settlement terms have not yet been agreed to in
writing and there can be no assurance that a settlement will be reached.

By the Carat, Inc. Litigation

On April 30, 2007, IASG and certain of its subsidiaries, Criticom International Corporation and Monital Signal Corporation
(collectively, the "Company"), were served in a lawsuit brought by By the Carat, Inc. and John P. Humbert, Jr. and his wife, Valery Humbert, its owners, in connection with a December
2004 armed robbery of their jewelry business. (By the Carat, Inc., John P. Humbert, Jr. and Valery Humbert v. Knightwatch Security Systems, Criticom
International Corporation, Monital Signal Corporation, Integrated Alarm Services Group, Inc., et al, Superior Court of New Jersey, Monmouth County Law Division, Docket
No.: MON-L-5830-06.) The complaint sought unspecified damages for alleged bodily injury and property losses based on various causes of action, including
breach of contract, breach of the covenant of good faith and fair dealing, consumer fraud, intentional and negligent infliction of emotional distress, breach of warranty and gross negligence.

On
June 26, 2009, the Court dismissed plaintiffs' complaint without prejudice, due to the plaintiffs' failure to comply with discovery orders. Since the dismissal, plaintiffs have
replaced their original counsel with new attorneys. The new attorneys assisted the plaintiffs in complying with the outstanding

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discovery
and the complaint was reinstated. Fact and expert discovery have been progressing and are nearly complete. In January 2010, the parties attempted to resolve the dispute through mediation.
The mediation was not successful, but the parties may revisit mediation in the future. Among other things, the Company will request that partial summary judgment be granted as to the plaintiffs'
property damage claims based on a contractual limitation of the liability. The Company anticipates filing its motion for summary judgment in early 2010. A trial date has not been set.

Paradox Litigation

On March 13, 2008, plaintiffs Paradox Security Systems, LTD., Samuel Hershkovitz and Pinhas Shpater filed a Second
Amended Complaint in Civil Action No. 2:06-cv-462 in the Eastern District of Texas, Marshall Division, and added the Company as a defendant. The complaint alleges that
the Company infringes U.S. Patent No. 5,751,803 and U.S. Reissue Patent No. 39,406 (collectively, the "Patents-in-Suit"), by its sale and use of certain control
panels made by Digital Security Controls, LTD. ("DSC"). The Company answered the complaint by denying infringement, alleging invalidity and unenforceability of the
Patents-in-Suit, and asserting other defenses and related declaratory judgment counterclaims.

At
the April 2009 trial, the Court determined that the plaintiffs had not presented sufficient evidence to support plaintiffs' allegations against the Company and the other defendants,
and granted the defendants' motions for judgment of non-infringement as a matter of law.

On
September 14, 2009, final judgment was entered by the court, and on September 23, 2009, plaintiffs filed a notice of appeal to the Federal Circuit Court. On
December 21, 2009, plaintiffs filed their opening appellate brief, wherein they asserted that the trial court erred in entering judgments as a matter of law in favor of the defendants. The
Company's reply brief, and the reply briefs of the other defendants, was filed in February 2010. Oral arguments are expected to be conducted in late spring 2010, and a final decision by the Federal
Circuit Court is expected in late 2010.

Consumer Complaints

The Company occasionally receives notices of consumer complaints filed with various state agencies. The Company has developed a dispute
resolution process for addressing these administrative complaints. The ultimate outcome of such matters cannot presently be determined; however, in the opinion of management, the resolution of such
matters will not have a material adverse effect on the Company's consolidated financial position, results of operations or liquidity.

Funding Commitment

Notes receivable were $2.9 million and $4.2 million at December 31, 2009 and 2008, respectively, and represent
loans to dealers collateralized by the dealers' portfolios of customer monitoring contracts. The Company has obligations to provide open lines of credit to dealers, subject to the terms of the
agreements with the dealers. At December 31, 2009 and 2008, the amount available to dealers under these lines of credit was $0.2 million and $0.5 million, respectively.

14.   Employee Benefit Plans:

The Company maintains a tax-qualified, defined contribution plan that meets the requirements of Section 401(k) of the Internal Revenue Code.

Protection One 401(k) Plan.The Company makes contributions to the Protection One 401(k) Plan, that are allocated among participants
based upon the
respective contributions made by the participants through salary reductions during the applicable plan year. The Company's matching contribution is made in cash. For the years ended
December 31, 2009, 2008 and 2007, the Company

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made
matching cash contributions to the plan of $2.2 million, $2.5 million and $1.9 million, respectively. The funds of the plan are deposited with a trustee and at each
participant's option in one or more investment funds. The plan was amended and restated effective January 1, 2007.

Management Employment Agreements and Key Employee Retention Plan.In July and August 2004, the Company's senior executives entered into
employment
agreements with the Company. These employment agreements provide for, among other things, minimum annual base salaries, bonus awards, payable in cash or otherwise, and participation in all of the
Company's employee benefit plans and programs in effect for the benefit of senior executives, including stock option, 401(k) and insurance plans, and reimbursement for all reasonable expenses incurred
in connection with the conduct of the business of the Company, provided the executive officers properly account for any such expenses in accordance with Company policies. The employment agreements
also contain provisions providing for compensation to the senior executives under certain circumstances after a change in control of the Company and in certain other circumstances. On
February 22, 2010 these employment agreements were amended and restated for each of the Company's senior executives.

15.   Fair Market Value of Financial Instruments:

For certain of the Company's financial instruments, including cash and cash equivalents, accounts receivable, accounts payable and other accrued liabilities, the
carrying amounts approximate fair market value due to their short maturities. The book value of notes receivable approximates fair market value.

The
fair value of the Company's debt instruments are estimated based on quoted market prices except for the Unsecured Term Loan at December 31, 2009, which had no available quote
and was estimated by the Company based on the terms of the loan and comparison to fair value of its other debt. At December 31, the fair value and carrying amount of the Company's debt for the
years indicated were as follows (in thousands):

Fair Value

Carrying Value2009

2008

2009

2008New and Extending Term Loans under the Senior Credit Agreement

$
273,145

$


$
271,924

$
Non-Extending Term Loans under the Senior Credit Agreement(a)


52,977


195,473


56,359


291,750Senior Secured Notes (12.0%)





92,391





122,058Unsecured Term Loan


124,684


94,349


110,340


110,340$
450,806

$
382,213

$
438,623

$
524,148


(a)The
2008 amounts reflect the senior credit facility term loans as of December 31, 2008 which included $203.0 million of term loans that were
later amended and extended as part of the refinancing in November 2009.


The
estimated fair values may not be representative of actual values of the financial instruments that could have been realized at year-end or may be realized in the future.

16.   Segment Reporting:

The Company organizes its operations into three business segments: Retail, Wholesale and Multifamily. The Company's operating segments are defined as components
for which separate financial information is available that is evaluated regularly by the chief operating decision maker. The operating segments are managed separately because each operating segment
represents a strategic

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business
unit that serves different markets. All of the Company's reportable segments operate in the United States of America.

The
Company's Retail segment provides security alarm monitoring services, which include sales, installation and related servicing of security alarm systems for residential and business
customers. The Company's Wholesale segment provides monitoring, financing and business support services to independent security alarm dealers. The Company's Multifamily segment provides security alarm
services to apartments, condominiums and other multi-family dwellings.

The
accounting policies of the operating segments are the same as those described in Note 2, "Summary of Significant Accounting Policies." The Company manages its business
segments based on earnings before interest, income taxes, depreciation, amortization (including amortization of deferred customer acquisition costs and revenue) and other items, referred to as
Adjusted EBITDA.

Reportable
segments (in thousands):

For the year ended December 31, 2009Retail

Wholesale

Multifamily

Adjustments(a)

ConsolidatedRevenue

$
289,315

$
50,188

$
28,549

$


$
368,052Adjusted EBITDA(b)


95,611


13,199


14,022





122,832Amortization and depreciation expense


41,943


4,713


3,440





50,096Amortization of deferred costs in excess of amortization of deferred revenue


28,006





2,508





30,514Segment assets


460,376


70,933


46,607


(6,021
)

571,895Expenditures for property, exclusive of rental equipment


5,784


1,399








7,183Investment in new accounts and rental equipment, net


23,371





2,218





25,589




For the year ended December 31, 2008Retail

Wholesale

Multifamily

Adjustments(a)

ConsolidatedRevenue

$
291,795

$
49,477

$
30,749

$


$
372,021Adjusted EBITDA(b)


87,186


9,575


12,552





109,313Amortization and depreciation expense


51,474


7,216


5,585





64,275Amortization of deferred costs in excess of amortization of deferred revenue


28,556





2,176





30,732Segment assets


532,522


74,798


50,221


(18,487
)

639,054Expenditures for property, exclusive of rental equipment


8,002


1,569


240





9,811Investment in new accounts and rental equipment, net


37,605





4,014





41,619


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For the year ended December 31, 2007Retail

Wholesale

Multifamily

Adjustments(a)

ConsolidatedRevenue

$
277,490

$
37,978

$
32,403

$


$
347,871Adjusted EBITDA(b)


82,232


10,375


14,805





107,412Amortization and depreciation expense


49,501


6,274


6,289





62,064Amortization of deferred costs in excess of amortization of deferred revenue


22,223





1,952





24,175Merger-related costs


4,344











4,344Segment assets


558,717


81,300


54,705


(22,005
)

672,717Expenditures for property, exclusive of rental equipment


7,743


3,782


383





11,908Investment in new accounts and rental equipment, net


32,128





3,407





35,535


(a)Adjustment
to eliminate intersegment accounts receivable.(b)Adjusted
EBITDA is used by the Company's management and reviewed by the Board of Directors in evaluating segment performance and determining how to allocate
resources across segments for investments in customer acquisition activities, capital expenditures and spending in general. The Company believes it is also utilized by the investor community which
follows the security monitoring industry. Adjusted EBITDA is useful because it allows investors and management to evaluate and compare operating results from period to period in a meaningful and
consistent manner in addition to standard GAAP financial measures. Specifically, Adjusted EBITDA allows the chief operating decision maker to evaluate segment results of operations, including
operating performance of monitoring and service activities, effects of investments in creating new customer relationships, and sales and installation of security systems, without the effects of
non-cash amortization and depreciation. This information should not be considered as an alternative to any measure of performance as promulgated under GAAP, such as income (loss) before
income taxes or cash flow from operations. Items excluded from Adjusted EBITDA are significant components in understanding and assessing the consolidated financial performance of the Company. The
Company's calculation of Adjusted EBITDA may be different from the calculation used by other


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companies
and comparability may be limited. The table below reconciles Adjusted EBITDA to consolidated income (loss) before income taxes (in thousands).


Consolidated
Year Ended December 31,2009

2008

2007Income (loss) before income taxes

$
19,797

$
(50,201
)
$
(31,527
)Plus:Interest expense, net


45,311


47,745


46,977Amortization and depreciation expense


50,096


64,275


62,064Amortization of deferred costs in excess of amortization of deferred revenue


30,514


30,732


24,175Amortization of stock based compensation costs


496


1,448


1,469Other costs, including merger related, recapitalization and consolidation costs


1,441


1,655


4,344Loss on retirement of debt





12,788


Loss on impairment of trade name





925


Less:Gain on retirement of debt


(1,956
)




Gain on settlement agreement


(22,867
)




Other income





(54
)

(90
)Adjusted EBITDA

$
122,832

$
109,313

$
107,412




17.   Subsequent Events:

On January 20, 2010, the Company's Board of Directors announced commencement of a process to explore and evaluate strategic alternatives, including a
possible sale of the Company, in order to maximize shareholder value.

On
February 22, 2010, the Company entered into amended and restated employment agreements with the Company's three most senior executive officers (collectively, the "Senior
Executives").

On
February 22, 2010 the Company granted equity awards to the Senior Executives, consisting of (i) an aggregate of 439,160 stock appreciation rights ("SARs") under the
Company's 2010 Stock Appreciation Rights Plan (the "2010 SAR Plan"), which was adopted by the Company on February 22, 2010; (ii) an aggregate of 439,160 stock options under the 2008
LTIP; and (iii) restricted share awards for an aggregate of 100,000 shares of restricted stock under the 2008 LTIP (collectively, the "equity awards"). The exercise price for each stock option
is $9.50, the closing price of the Company's common stock on the date of grant. The payout for each SAR is equal to the difference between (x) $7.50, and (y) the lesser of:
(i) $9.50, the closing price of the Company's common stock on the date of grant, and (ii) the value of a share of Company common stock on the date of exercise. The equity awards vest in
one-half increments on each of the second and third anniversary of the grant date so long as the Executive is employed with the Company. Vesting of the equity awards will accelerate upon a
change of control of the Company if (x) the Executive is employed with the Company at the time of the change of control or (y) the change of control occurs within two years of the date
of grant and within 90 days of the Executive's termination that is a qualifying termination (as defined in each Senior Executive's amended and restated employment agreement). Both the stock
options and the restricted shares are subject to all the terms and conditions of the 2008 LTIP as well as the individual award agreements. The SARs are subject to all of the terms and conditions of
the 2010 SAR Plan as well as the individual grant agreements.

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18.   Unaudited Quarterly Financial Information:

The following is a summary of the unaudited quarterly financial information for 2009 and 2008, respectively (in thousands, except per share amounts):

Quarter Ended2009

March 31

June 30

September 30

December 31Revenue

$
93,002

$
92,146

$
92,560

$
90,344Net (loss) income

$
(2,801
)
$
(2,535
)
$
(122
)
$
22,965
(a)Basic and diluted (loss) income per share

$
(0.11
)
$
(0.10
)
$
(0.00
)
$
0.90Weighted average number of shares of common stock outstanding


25,317


25,319


25,329


25,333


(a)Fourth
quarter results include a $22.9 million gain from the Westar settlement agreement.


Quarter Ended2008

March 31

June 30

September 30

December 31Revenue

$
91,577

$
92,401

$
94,056

$
93,987Net loss

$
(23,078
)
$
(9,090
)
$
(11,144
)
$
(7,230
)Basic and diluted loss per share

$
(0.91
)
$
(0.36
)
$
(0.44
)
$
(0.29
)Weighted average number of shares of common stock outstanding


25,307


25,307


25,311


25,317


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PROTECTION ONE, INC. AND SUBSIDIARIES        SCHEDULE IIVALUATION AND QUALIFYING ACCOUNTS        (In thousands)

Description

Balance at
Beginning
of period

Charged to
costs and
expenses

Deductions(a)

Balance at
End of PeriodYear ended December 31, 2007Allowances deducted from assets for doubtful accounts

$
7,258

$
3,455

$
(4,853
)
$
5,860Year ended December 31, 2008Allowances deducted from assets for doubtful accounts

$
5,860

$
4,644

$
(4,305
)
$
6,199Year ended December 31, 2009Allowances deducted from assets for doubtful accounts

$
6,199

$
5,723

$
(4,775
)
$
7,147


(a)Results
from write-offs.


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ITEM 9.    CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND FINANCIAL DISCLOSURE.

There have been no changes in or disagreements with our accountants on any matter of accounting principles or practices, financial
statement disclosure, or auditing scope of procedure during the two most recent fiscal years.

ITEM 9A.    CONTROLS AND PROCEDURES

Disclosure Controls and Procedures.As of December 31, 2009, the end of the period covered by this report, the Company's
management, under the
supervision and with the participation of our chief executive officer and our chief financial officer, concluded that, based on the evaluation described below performed for the Company, including both
Protection One, Inc. and its subsidiary Protection One Alarm Monitoring, Inc., pursuant to paragraph (b) of Rule 13a-15 or Rule 15d-15 under
the Securities Exchange Act of 1934 (the "Exchange Act"), its disclosure controls and procedures are effective (a) to ensure that information required to be disclosed by the Company in reports
that it files or submits under the Exchange Act is recorded, processed, summarized and reported and (b) include, without limitation, controls and procedures designed to ensure that information
required to be disclosed by us in reports filed or submitted under the Exchange Act is accumulated and communicated to management, including our chief executive officer and chief financial officer, as
appropriate to allow timely decisions regarding required disclosure within the time periods specified in Securities and Exchange Commission rules and forms. Our management, including our chief
executive officer and chief financial officer, recognize that any set of controls and procedures, no matter how well designed and operated, can provide only reasonable assurance of achieving
management's control objectives.

Management's Report on Internal Control over Financial Reporting.The Company's management is responsible for establishing and
maintaining adequate
internal control over financial reporting, as such term is defined in Rule 13a-15(f) of the Exchange Act. Under the supervision and with the participation of the Company's
management, including our chief executive officer and our chief financial officer, the Company conducted an evaluation of the effectiveness of its internal control over financial reporting based upon
the framework in Internal ControlIntegrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission (the "COSO Framework") for Protection One, Inc.
and its subsidiaries.

Based
on the evaluation under the COSO Framework, the Company's management concluded that the Company's internal control over financial reporting is effective as of December 31,
2009. The Company's independent registered public accounting firm has audited the consolidated financial statements included in this Annual Report on Form 10-K and, as part of their
audit, has issued their attestation report on the effectiveness of the Company's internal controls over financial reporting herein as of December 31, 2009. The attestation report is included
herein.

Changes in Internal Control over Financial Reporting.There were no changes in the Company's internal control over financial
reporting that have
materially affected, or are reasonably likely to materially affect, its internal control over financial reporting during the fourth fiscal quarter of 2009.

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REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM

To
the Board of Directors and Stockholders of
Protection One, Inc.
Lawrence, Kansas

We
have audited the internal control over financial reporting of Protection One, Inc. and subsidiaries (the "Company") as of December 31, 2009, based on criteria
established inInternal ControlIntegrated Frameworkissued by the Committee of Sponsoring Organizations of the Treadway Commission. The
Company's management is responsible for maintaining effective internal control over financial reporting and for its assessment of the effectiveness of internal control over financial reporting,
included in the accompanying Management's Report on Internal Control over Financial Reporting. Our responsibility is to express an opinion on the Company's internal control over financial reporting
based on our audit.

We
conducted our audit in accordance with the standards of the Public Company Accounting Oversight Board (United States). Those standards require that we plan and perform the audit to
obtain reasonable assurance about whether effective internal control over financial reporting was maintained in all material respects. Our audit included obtaining an understanding of internal control
over financial reporting, assessing the risk that a material weakness exists, testing and evaluating the design and operating effectiveness of internal control based on the assessed risk, and
performing such other procedures as we considered necessary in the circumstances. We believe that our audit provides a reasonable basis for our opinion.

A
company's internal control over financial reporting is a process designed by, or under the supervision of, the company's principal executive and principal financial officers, or
persons performing similar functions, and effected by the company's board of directors, management, and other personnel to provide reasonable assurance regarding the reliability of financial reporting
and the preparation of financial statements for external purposes in accordance with generally accepted accounting principles. A company's internal control over financial reporting includes those
policies and procedures that (1) pertain to the maintenance of records that, in reasonable detail, accurately and fairly reflect the transactions and dispositions of the assets of the company;
(2) provide reasonable assurance that transactions are recorded as necessary to permit preparation of financial statements in accordance with generally accepted accounting principles, and that
receipts and expenditures of the company are being made only in accordance with authorizations of management and directors of the company; and (3) provide reasonable assurance regarding
prevention or timely detection of unauthorized acquisition, use, or disposition of the company's assets that could have a material effect on the financial statements.

Because
of the inherent limitations of internal control over financial reporting, including the possibility of collusion or improper management override of controls, material
misstatements due to error or fraud may not be prevented or detected on a timely basis. Also, projections of any evaluation of the effectiveness of the internal control over financial reporting to
future periods are subject to the risk that the controls may become inadequate because of changes in conditions, or that the degree of compliance with the policies or procedures may deteriorate.

In
our opinion, the Company maintained, in all material respects, effective internal control over financial reporting as of December 31, 2009, based on the criteria established in Internal ControlIntegrated
Frameworkissued by the Committee of Sponsoring Organizations of the Treadway Commission.

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We
have also audited, in accordance with the standards of the Public Company Accounting Oversight Board (United States), the consolidated financial statements and financial statement
schedule as of and for the year ended December 31, 2009 of the Company and our report dated March 23, 2010, expressed an unqualified opinion on those financial statements and financial
statement schedule.

/s/ DELOITTE & TOUCHE LLP

Kansas
City, Missouri
March 23, 2010

ITEM 9B.    OTHER INFORMATION.

There were no items required to be disclosed in a report on Form 8-K during the fourth quarter that were not
reported.

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PART III

ITEM 10.    DIRECTORS, EXECUTIVE OFFICERS AND CORPORATE GOVERNANCE.

Information relating to our directors, nominees for directors and executive officers is set forth under the heading "Election of
Directors" and "Information About the Board of Directors," information relating to our executive officers is set forth under the headings "Executive Officers" and "Executive Compensation and Related
Information," and information relating to compliance with Section 16(a) of the Exchange Act and our code of ethics is set forth under the heading "Additional Information," each in the Proxy
Statement or Information Statement relating to the Annual Meeting of Stockholders to be held in 2010, which will be filed with the Securities and Exchange Commission no later than April 30,
2010, and which is incorporated herein by reference.

ITEM 11.    EXECUTIVE COMPENSATION.

Information relating to our executive officers and executive compensation is set forth under the heading "Executive Compensation and
Related Information" in the Proxy Statement or Information Statement relating to the Annual Meeting of Stockholders to be held in 2010, which will be filed with the Securities and Exchange Commission
no later than April 30, 2010, and which is incorporated herein by reference.

ITEM 12.    SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT AND RELATED STOCKHOLDER MATTERS.

Information relating to the security ownership of certain beneficial owners and management is set forth under the heading "Security
Ownership of Certain Beneficial Owners" and information relating to securities authorized for issuance under equity compensations plans is set forth under the heading "Executive Compensation and
Related Information" in the Proxy Statement or Information Statement relating to the Annual Meeting of Stockholders to be held in 2010, which will be filed with the Securities and Exchange Commission
no later than April 30, 2010, and which is incorporated herein by reference.

ITEM 13.    CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS, AND DIRECTOR INDEPENDENCE.

Information relating to certain relationships and related transactions concerning directors and executive officers is set forth under
the heading "Certain Relationships and Related Transactions" and information related to director independence is set forth under the heading "Information About the Board of Directors" in the Proxy
Statement or Information Statement relating to the Annual Meeting of Stockholders to be held in 2010, which will be filed with the Securities and Exchange Commission no later than April 30,
2010, and which is incorporated herein by reference.

ITEM 14.    PRINCIPAL ACCOUNTING FEES AND SERVICES.

Information relating to our principal accounting fees and services is set forth under the heading "Relationship with Independent
Registered Public Accounting Firm" in the Proxy Statement or Information Statement relating to the Annual Meeting of Stockholders to be held in 2010, which will be filed with the Securities and
Exchange Commission no later than April 30, 2010, and which is incorporated herein by reference.

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PART IV

ITEM 15.    EXHIBITS, FINANCIAL STATEMENT SCHEDULES.

(a)   1.
The following financial statements are included in Item 8, "Financial Statements and Supplementary Data."

Consolidated
Balance Sheets

Consolidated
Statements of Operations and Comprehensive Income (Loss)

Consolidated
Statements of Cash Flows

Consolidated
Statements of Stockholders' Equity (Deficiency in Assets)

2.  The
following financial statement schedule is included in Item 8, "Financial Statements and Supplementary Data."

Schedule IIValuation
and Qualifying Accounts.

All
other schedules for which provision is made in the applicable accounting regulations of the Commission are not required under the related instructions or are inapplicable and,
therefore, have been omitted.

3.  The
following documents are filed or furnished as a part of this report:

Exhibit No.

Exhibit Description2.1

Agreement and Plan of Merger, dated as of December 20, 2006, by and among the Company, IASG and Tara Acquisition Corp. (incorporated by reference to Exhibit 2.1 of the Current Report on Form 8-K dated
December 21, 2006).3.1

Amended and Restated Certificate of Incorporation of the Company, effective as of February 8, 2005 (incorporated by reference to Exhibit 3.1 to the Annual Report on Form 10-K filed by the Company and
POAMI for the year ended December 31, 2004, as amended (the "Fiscal 2004 Form 10-K, as amended")).3.2

By-laws of the Company, as amended and restated March 17, 2005 (incorporated by reference to Exhibit 3.1 of the Current Report on Form 8-K dated March 17, 2005).10.1

1997 Long-Term Incentive Plan of the Company, as amended (incorporated by reference to Exhibit 10.3 to the Fiscal 2004 Form 10-K, as amended).*10.2

Integrated Alarm Services Group, Inc. 2003 Stock Option Plan.*+10.3

Integrated Alarm Services Group, Inc. 2004 Stock Incentive Plan.*+10.4

2004 Stock Option Plan (incorporated by reference to Exhibit 10.3 of the Current Report on Form 8-K filed by the Company and POAMI dated February 8, 2005).*10.5

Form of Option Agreement for Named Executive Officers under 2004 Stock Option Plan (incorporated by reference to Exhibit 10.4 of the Current Report on Form 8-K dated February 8, 2005).*10.6

Form of Option Agreement for Non-Named Executive Officers under 2004 Stock Option Plan (incorporated by reference to Exhibit 10.5 of the Current Report on Form 8-K dated February 8, 2005).*10.7

Stock Appreciation Rights Plan (incorporated by reference to Exhibit 10.6 of the Current Report on Form 8-K dated February 8, 2005).*


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Exhibit No.

Exhibit Description10.8

Form of Grant Agreement under Stock Appreciation Rights Plan (incorporated by reference to Exhibit 10.7 of the Current Report on Form 8-K dated February 8, 2005).*10.9

Protection One, Inc. 2008 Long-Term Incentive Plan (incorporated by reference to Appendix A to the Company's Schedule 14C Definitive Information Statement, filed with the Securities and Exchange
Commission on April 29, 2008).*10.10

Form of Restricted Share Unit Agreement (incorporated by reference to Exhibit I to Appendix A to the Company's Schedule 14C Definitive Information Statement, filed with the Securities and Exchange
Commission on April 29, 2008).*10.11

2009 Short-Term Incentive Plan of the Company (incorporated by reference to Exhibit 10.1 of the Current Report on Form 8-K dated June 3, 2009).*10.12

Protection One, Inc. 2010 Stock Appreciation Rights Plan (incorporated by reference to Exhibit 10.6 of the Current Report on Form 8-K dated February 22, 2010).*10.13

Form of Stock Option Agreement (incorporated by reference to Exhibit 10.4 of the Current Report on Form 8-K dated February 22, 2010).*10.14

Form of Restricted Shares Award Agreement (incorporated by reference to Exhibit 10.5 of the Current Report on Form 8-K dated February 22, 2010).*10.15

Amended and Restated Employment Agreement by and between Protection One, Inc. and Protection One Alarm Monitoring, Inc. and Richard Ginsburg dated as of February 22, 2010 (incorporated by reference to
Exhibit 10.1 of the Current Report on Form 8-K dated February 22, 2010).*10.16

Amended and Restated Employment Agreement by and between Protection One, Inc. and Protection One Alarm Monitoring, Inc. and Darius G. Nevin dated as of February 22, 2010 (incorporated by reference to
Exhibit 10.2 of the Current Report on Form 8-K dated February 22, 2010).*10.17

Amended and Restated Employment Agreement by and between Protection One, Inc. and Protection One Alarm Monitoring, Inc. and Peter J. Pefanis dated as of February 22, 2010 (incorporated by reference to
Exhibit 10.3 of the Current Report on Form 8-K dated February 22, 2010).*10.18

Employment Agreement dated July 23, 2004 between Protection One, Inc., Protection One Alarm Monitoring, Inc and J. Eric Griffin (incorporated by reference to Exhibit 10.58 to the Fiscal 2004
Form 10-K, as amended).*10.19

First Amendment to Employment Agreement dated February 8, 2005 between Protection One, Inc., Protection One Alarm Monitoring, Inc and J. Eric Griffin (incorporated by reference to Exhibit 10.59 to the
Fiscal 2004 Form 10-K, as amended).*10.20

Second Amendment to Employment Agreement, dated December 3, 2008, between and among Protection One, Inc., Protection One Alarm Monitoring, Inc. and J. Eric Griffin.*+10.21

Employment Agreement, dated July 23, 2004, between Protection One, Inc., Protection One Alarm Monitoring, Inc., Security Monitoring Services, Inc. (d/b/a CMS), and Anthony Wilson (incorporated by
reference to Exhibit 10.1 to the Quarterly Report on Form 10-Q filed by the Company and POAMI for the quarter ended March 31, 2009).*


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Exhibit No.

Exhibit Description10.22

First Amendment to Employment Agreement, dated February 8, 2005, between Protection One, Inc., Protection One Alarm Monitoring, Inc., Security Monitoring Services, Inc. (d/b/a CMS), and Anthony Wilson
(incorporated by reference to Exhibit 10.2 to the Quarterly Report on Form 10-Q filed by the Company and POAMI for the quarter ended March 31, 2009).*10.23

Second Amendment to Employment Agreement, dated December 3, 2008, between Protection One, Inc., Protection One Alarm Monitoring, Inc., Security Monitoring Services, Inc. (d/b/a CMS), and Anthony
Wilson (incorporated by reference to Exhibit 10.3 to the Quarterly Report on Form 10-Q filed by the Company and POAMI for the quarter ended March 31, 2009).*10.24

Employment Agreement dated July 23, 2004 between Protection One, Inc., Protection One Alarm Monitoring, Inc and Joseph Sanchez (incorporated by reference to Exhibit 10.12 to the Fiscal 2006
Form 10-K).*10.25

First Amendment to Employment Agreement dated February 8, 2005 between Protection One, Inc., Protection One Alarm Monitoring, Inc and Joseph Sanchez (incorporated by reference to Exhibit 10.13 to the
Fiscal 2006 Form 10-K).*10.26

Second Amendment to Employment Agreement, dated December 3, 2008, between and among Protection One, Inc., Protection One Alarm Monitoring, Inc. and Joseph Sanchez.*+10.27

Registration Rights Agreement, dated as of February 8, 2005, by and between the Company and Quadrangle (incorporated by reference to Exhibit 10.2 of the Current Report on Form 8-K dated February 8,
2005).10.28

Management Stockholder's Agreement, dated as of February 8, 2005 (incorporated by reference to Exhibit 10.8 of the Current Report on Form 8-K dated February 8, 2005).*10.29

Reorganization Agreement, dated as of December 18, 2006, by and among Protection One, Inc., POI Acquisition I, Inc. and the other affiliates of Quadrangle Group LLC named therein (incorporated by
reference to Exhibit 10.4 of the Current Report on Form 8-K dated December 21, 2006).10.30

Amended and Restated Stockholders Agreement dated April 2, 2007, among Quadrangle Master Funding Ltd., POI Acquisition, LLC and the Company (incorporated by reference to Exhibit 10.1 of the Current
Report on Form 8-K dated April 2, 2007).10.31

Credit Agreement dated March 14, 2008, among the Company and other parties named therein (incorporated by reference to Exhibit 10.1 of the Current Report on Form 8-K dated March 14,
2008).10.32

Second Amended and Restated Credit Agreement dated November 17, 2009, by and among Protection One Alarm Monitoring, Inc., Protection One, Inc., the lenders party thereto and J.P. Morgan
Securities Inc., as sole lead arranger and sole book manager, Bank of America N.A., as documentation agent and JPMorgan Chase Bank, N.A., as administrative agent (incorporated by reference to Exhibit 10.1 of the Current Report on
Form 8-K dated November 17, 2009).21.1

Subsidiaries of the Company.+23.1

Consent of Deloitte & Touche LLP, Independent Registered Public Accounting Firm +


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Exhibit No.

Exhibit Description31.1

Certification pursuant to Section 302 of the Sarbanes-Oxley Act of 2002 for Protection One, Inc. +31.2

Certification pursuant to Section 302 of the Sarbanes-Oxley Act of 2002 for Protection One, Inc. +32.1

Certification of Principal Executive Officer pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002 for Protection One, Inc. +32.2

Certification of Principal Financial Officer pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002 for Protection One, Inc. +


*Each
Exhibit marked with an asterisk constitutes a management contract or compensatory plan or arrangement required to be filed or incorporated by reference
as an Exhibit to this report pursuant to Item 15(c) of Form 10-K.+Filed
or furnished herewith.


(b)   The
exhibits required by Item 601 of Regulation S-K are filed or furnished herewith.

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SIGNATURES

Pursuant to the requirements of Section 13 and 15(d) of the Securities Exchange Act of 1934, the Registrants have duly caused
this report to be signed on their behalf by the undersigned, thereunto duly authorized.

PROTECTION ONE, INC.Date: March 23, 2010

By:

/s/ DARIUS G. NEVIN Darius G. Nevin, Executive Vice President and
Chief Financial Officer


Pursuant
to the requirements of the Securities Exchange Act of 1934, this report has been signed below by the following persons on behalf of the registrant and in the capacities and on
the dates indicated.

Signature

Title

Date/s/ RICHARD GINSBURG Richard Ginsburg

President, Chief Executive Officer and Director (Principal Executive Officer)

March 23, 2010/s/ DARIUS G. NEVIN Darius G. Nevin

Executive Vice President and Chief Financial Officer (Principal Financial Officer)

March 23, 2010/s/ SARAH STRAHM Sarah Strahm

Chief Accounting Officer (Principal Accounting Officer)

March 23, 2010/s/ PETER R. EZERSKY Peter R. Ezersky

Director

March 23, 2010/s/ ALEX HOCHERMAN Alex Hocherman

Director

March 23, 2010/s/ RAYMOND C. KUBACKI Raymond C. Kubacki

Director

March 23, 2010/s/ ROBERT J. MCGUIRE Robert J. McGuire

Director

March 23, 2010/s/ THOMAS J. RUSSO Thomas J. Russo

Director

March 23, 2010/s/ EDWARD SIPPEL Edward Sippel

Director

March 23, 2010/s/ MICHAEL WEINSTOCK Michael Weinstock

Director

March 23, 2010/s/ ARLENE M. YOCUM Arlene M. Yocum

Director

March 23, 2010


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