ITEM 1. BUSINESS.
GENERAL
We believe that we are the largest commercial U.S. radio broadcasting company providing programming to audiences interested in Christian and family-themed content, as measured by number of radio stations and audience coverage. Our core business is the ownership and operation of radio stations in large metropolitan markets. Upon completion of all announced transactions, we will own and/or operate a national portfolio of 95 radio stations in 37 markets, including 59 stations in 22 of the top 25 markets, which consists of 27 FM stations and 68 AM stations. We are one of only three commercial radio broadcasters with radio stations in all of the top 10 markets. We are the seventh largest operator measured by number of stations overall and the third largest operator measured by number of stations in the top 25 markets. We also program the Family Talk™ Christian-themed talk format station on XM Radio, Channel 170, and beginning November 30, 2010, on SIRIUS, Channel 161.
Our radio business focuses on the clustering of strategic formats, mainly Christian Teaching and Talk, Contemporary Christian Music and conservative News Talk. During the last twelve months, we changed the format of three of our existing radio stations from News Talk or Spanish language Christian Teaching and Talk to our Business format. We own and operate Salem Radio Network® (“SRN”), a national radio network that syndicates music, news and talk to approximately 2,000 affiliated radio stations, in addition to our owned and operated stations. We also own and operate Salem Media Representatives® (“SMR”), a national radio advertising sales firm with offices in 12 U.S. cities, and SRN News Network (“SNN”), Salem Music Network (“SMN”), Reach Satellite Network (“RSN”), Salem Media Representatives (“SMR”) and Vista Media Representatives (“VMR”). Like SRN, SNN, SMN and RSN are radio networks that produce and distribute talk, news and music programming to numerous radio stations in the U.S., including some of our own stations. SMR and VMR sell commercial air time to national advertisers for Salem’s radio stations and networks, as well as for independent radio station affiliates.
In addition to our radio broadcast business, we also own and operate a non-broadcast media division. This division consists of Salem Web Network (“SWN”), a provider of online Christian content and streaming, Salem Publishing™, a publisher of Christian magazines and Xulon Press™, a provider of print-on-demand publishing services targeting the Christian audience. SWN’s content, both in text and audio, can be accessed through our national portals that include OnePlace.com, Crosswalk.com, Christianity.com and Townhall.com®. SWN’s content can also be accessed through our local radio station websites, which provide content of interest to local listeners.
Business Strategy
Our principal business strategy is to improve our national radio platform and to invest in and build non-broadcast businesses as the breadth of the media marketplace also expands to deliver compelling content to audiences interested in Christian and family-themed programming and conservative news talk. Our national presence in broadcasting, Internet and publishing gives advertisers a platform that is a powerful way to broadly reach Christian audiences.
We program 39 of our stations with our Christian Teaching and Talk format, which is talk programming with Christian and family themes. A key programming strategy on our Christian Teaching and Talk radio stations is to sell blocks of time to a variety of religious and charitable organizations that create compelling radio programs. Typically, more than 90% of our block programming partners annually renew their respective relationships with us. Based on these renewal rates, we believe that block programming provides a steady and consistent stream of revenue and cash flow. Our top ten programmers have averaged nearly 25 years on-air and have remained relatively constant. Total programming revenue has comprised 35% to 41% of total net broadcast revenue from 2006 through 2010. We also program 24 News Talk stations, 11 Contemporary Christian Music stations, 11 Business format stations, and five Spanish-language Christian Teaching and Talk stations. SRN supports our strategy by allowing us to reach listeners in markets where we do not own or operate stations. Additionally, we operate numerous Internet websites and publish periodicals and books that target similar audiences in order to provide cross-platform synergies.
We are fundamentally committed to broadcasting, Internet and publishing formats and programming emphasizing Christian, conservative news talk and family themes. As part of this business philosophy, we may choose not to switch to other formats or pursue potentially more profitable business opportunities in response to changing audience preferences.
We strive to build clusters of radio stations in each of our markets with each format targeting different demographic segments of the audience interested in Christian and family-themed programming. Several potential benefits result from operating multiple radio stations in the same market. First, this clustering and programming strategy allows us to achieve greater penetration into each segment
of our target market, and collectively our stations afford our clients a larger percentage of advertising time in that market. We then are able to offer advertisers multiple audiences and to bundle the radio stations for advertising sales purposes when advantageous. Second, we realize cost and operating efficiencies by consolidating sales, technical and administrative support and promotional functions where possible. Finally, the purchase of additional radio stations in an existing market allows us to leverage our market expertise to better serve our advertisers and our listeners through traditional and emerging media.
Both our chief executive officer and our chairman are career radio broadcasters who have owned and operated radio stations for more than 40 years.
Programming Strategy
Through the strength of our Christian Teaching and Talk format, the influence of our News Talk format, the continued popularity of our Contemporary Christian Music format, and the introduction of our Business format and Spanish Christian Teaching and Talk formats, we believe we remain well-positioned to improve upon our leadership position in Christian and family-themed radio.
Christian Teaching and Talk. Christian Teaching and Talk is our foundational format. Through this format, a listener can hear Bible teachings and sermons, as well as gain answers to questions relating to daily life, from raising children to religious legal rights in education and the workplace. This format serves as both a learning resource and as a personal support for our listeners nationwide. In response to the daily programming of our block programming partners, listeners contact these programs to ask questions, get more materials on a subject and receive study guides based on what they have learned on the radio.
Block Programming. Our national station platform and focused programming strategy provides us with the ability to consistently offer block programmers on our Christian Teaching and Talk stations. Historically, more than 90 percent of our block programming partners annually renew their respective relationships with us. Based on our historical renewal rates, we believe that our block programming business provides a steady and consistent stream of revenue and cash flow.
News Talk. Our research has shown that our News Talk format is highly complementary to our core format of Christian Teaching and Talk. As programmed by Salem, both of these formats express conservative views and family values. Our News Talk format also provides us with the opportunity to leverage syndicated talk programming produced by our network, SRN. Our nationally syndicated programs are distributed through approximately 2,000 affiliates.
Contemporary Christian Music- The FISH®. Through our Contemporary Christian Music (“CCM”) format, branded The FISH® in most markets, we are able to bring listeners the words of inspirational recording artists, set to upbeat contemporary music. Our music format is branded “Safe for the Whole Family®”, with sounds that everyone enjoys and lyrics that parents appreciate. The CCM genre continues to be popular and was the sixth largest genre in terms of sales based on data available for 2009. We believe this listener base has been underserved in terms of radio coverage, especially in the larger markets.
Business. During 2009 and 2010, we increased the number of stations that we operate in our business format from two to eleven. The business format features financial experts, business talk, and nationally recognized Bloomberg programming. The business format operates similar to our Christian Teaching & Talk format as it features long-form block programming.
Spanish Christian Teaching and Talk. We operate a Spanish Christian Teaching and Talk format on a small number of stations. This format is similar to our core Christian Teaching and Talk format in that it broadcasts biblically based programming. However, almost all of the block programming is local rather than national.
SiriusXM Satellite Radio. Our satellite radio stations, XM 170 and SIRIUS 161, are the exclusive Christian Teaching and Talk channels on SIRIUSXM, reaching the entire nation 24 hours a day, seven days a week.
Non-broadcast Media
Salem Web Network™ Our online strategy centers on creating the premiere Internet platform serving the audience interested in Christian and conservative content. SWN’s content, including text, audio, and video can be accessed through our national portals that include Biblestudytools.com, OnePlace.com, Crosswalk.com, Christianity.com, Townhall.com®, Hotair.com, and GodTube.com and through our radio station websites, which provide content of interest to our local radio station listeners. During 2010, we acquired HotAir.com, GodTube.com and Samaritan Fundraising. These acquisitions enhance our web leadership as a provider and distributor of Christian and conservative content and services for our target audience.
Salem Publishing™. Our distribution of Christian and conservative content also extends into print through Salem Publishing, a magazine publisher serving the Christian and conservative audience and Xulon Press™, a provider of print-on-demand publishing services targeted to the Christian audience. Salem Publishing™ produces and distributes the following magazines and their respective Internet sites: Homecoming® The Magazine, YouthWorker Journal™, The Singing News, FaithTalk Magazine, Preaching, and Townhall Magazine™.
Audience Growth
We grow our audience by providing high quality, compelling content on our radio stations and in syndication that is tested and fine-tuned to appeal to our listeners in each of our strategic formats. We work to maximize audience share and then convert these audience share ratings to advertising revenue. We rely on a combination of research, marketing, targeted promotions and live events that create visibility and brand awareness for our stations in their local markets.
Technical Improvements
A focus for us has been identifying ways to improve a radio station’s broadcast signal so that it can reach as many listeners as possible, both during the day and at night. We have completed numerous enhancements to increase the coverage of our signals, including several in the top 25 markets. For example, during 2008, we completed a power upgrade in the New York metropolitan market whereby we increased the signal of WNYM-AM from 5,000 watts to 50,000 watts. Also during 2008, we relocated towers for WFIA-AM in Louisville, Kentucky and KRLA-AM in Los Angeles, California, thereby increasing the population covered by our signals.
Radio Advertising Sales
We have assembled an effective, highly-trained sales staff responsible for converting audience share into revenue. We operate with a focused, sales-oriented culture that rewards selling efforts through a commission and bonus compensation structure. We hire sales professionals for each of our stations or station clusters, and we provide these professionals with the resources necessary to compete effectively in the markets in which we operate. We utilize various sales strategies to sell and market our stations as stand-alones or in combination with other stations within a given market and across markets, where appropriate.
Marketing Platform to National Advertisers
We have created a national platform of radio stations that reaches more than 6.7 million listeners weekly. National companies find advertising on multiple radio stations to be an efficient and cost-effective way to reach this target audience. Through SMR and VMR, we bundle and sell this national platform of radio stations to national advertisers, thereby enhancing our revenue-generating opportunities, expanding our base of advertisers, creating greater demand for our advertising time inventory and making our sales effort more efficient.
Significant Community Involvement
We believe our active involvement and significant relationships in the Christian community provide a competitive advantage in targeting Christian audiences. Our proactive involvement in the Christian community in each of our markets significantly improves the marketability of our radio broadcast time to advertisers who are targeting such communities. We believe that a radio station’s image should reflect the lifestyle and viewpoints of the target demographic group it serves. We regularly partner with organizations that serve the Christian and family-themed audience and sponsor and support events important to this group. These events include listener rallies, pastor appreciation events and concerts including our Celebrate Freedom® Music Festival and our Fishfest®. Events such as these connect us with our listeners and enable us to create enhanced awareness and name recognition in our markets. Involvement leads to increased effectiveness in developing and improving our programming formats, leading to greater listenership and higher ratings over the long-term.
Corporate Structure
The management of our operations is decentralized. Our operations vice presidents, some of whom are also station general managers, oversee several markets on a regional basis. Our operations vice presidents are experienced radio broadcasters with expertise in sales, programming, marketing and production. We anticipate relying on this strategy of decentralization and encourage
operations vice presidents to apply innovative techniques to the operations they oversee which, if successful, can be implemented at our other stations. Additionally, we have executive leadership and oversight from our corporate headquarters.
Our corporate headquarters personnel oversee the placement and rate negotiation for all national block programs. Centralized oversight of this component of our revenue is necessary because our key block program customers purchase time in many of our markets. Corporate headquarters personnel also are responsible for centralized accounting and finance functions, information technology, human resources, legal, engineering, real estate, strategic direction and other support functions designed to provide resources to local management.
Recent Events
On December 1, 2010, we redeemed $12.5 million of the 95/8% Senior Secured Second Lien Notes (“95/8% Notes”) for $12.9 million, or at a price equal to 103% of the face value. This transaction resulted in a $0.8 million pre-tax loss on the early retirement of debt, including $0.1 million of unamortized discount and $0.3 million of bond issues costs associated with the 95/8% Notes.
On November 1, 2010, we amended our senior credit facility, which is a revolver (“Revolver”) to allow us to use borrowings under the Revolver, subject to the “Available Amount” as defined by the terms of the credit agreement relating to the Revolver (“Credit Agreement”), to redeem applicable portions of the 95/8% Notes. The calculation of the “Available Amount” also pertains to the payment of dividends when the leverage ratio is above 5.0 to 1. Additionally, we increased the total capacity of the Revolver from $30.0 million to $40.0 million.
On September 28, 2010, we received approximately $1.0 million as compensation for loss of our property rights under an Eminent Domain Petition from the Dallas Independent School District. We reduced the proceeds by the net book value of our property, which was not directly associated with the operations of radio station, KSKY-AM, Dallas, Texas, resulting in a pre-tax gain of $0.3 million. The property rights were related to our back-up transmitter site. We do not expect the loss of these property rights to negatively impact our operations.
On September 1, 2010, we acquired Samaritan Fundraising, a web-based fundraising products company, for $0.6 million in cash plus $0.2 million contingent consideration payable in the future based on achieving certain revenue and profit goals as specified in the Asset Purchase Agreement. The accompanying Consolidated Balance Sheets and Statements of Operations reflect the operating results and net assets of this entity as of the acquisition date. The acquisition resulted in goodwill of $0.3 million representing the excess value of the business as a result of the integrated business model and services already established that provide future economic benefit to us.
On August 3, 2010, we completed the acquisition of WWRC-AM in Washington D.C. for $3.1 million. We began operating the station under a local marketing agreement (“LMA”) effective May 15, 2010. The accompanying Consolidated Statements of Operations reflect the operating results of this entity as of the LMA date. The accompanying Consolidated Balance Sheets reflect the net assets of this entity as of the closing date.
On June 1, 2010, we redeemed $17.5 million of the 95/8% Notes for $18.0 million, or at a price equal to 103% of the face value. This transaction resulted in a $1.1 million pre-tax loss on the early retirement of debt, including $0.1 million of unamortized discount and $0.4 million of bond issues costs associated with the 95/8% Notes.
On June 8, 2010, we completed the acquisition of tangle.com and GodTube.com, Christian content and community websites, for $2.5 million. We ceased using the tangle.com name shortly after completing the acquisition having identified all acquired content under the GodTube.com brand. The accompanying Consolidated Balance Sheets and Statements of Operations reflect the operating results and net assets of these entities as of the acquisition date. The acquisition resulted in goodwill of $0.3 million representing the excess value of the business as a result of the integrated business model and services already established that provide future economic benefit to us.
On February 12, 2010, we completed the acquisition of HotAir.com, a website blog featuring news, analysis and commentary, for $2.0 million. The accompanying Consolidated Balance Sheets and Statements of Operations reflect the operating results and net assets of this entity as of the acquisition date. The acquisition resulted in goodwill of $0.2 million representing the excess value of the business as a result of the integrated business model and services already established that provide future economic benefit to us.
On December 30, 2009, the buyer of our radio station WRFD-AM, Columbus, Ohio, notified us that they would not meet the terms of the asset purchase agreement (“APA”)entered into on July 31, 2008. Based on our plans to sell this radio station and exit the
Columbus market, we had accounted for this entity as a discontinued operation. The Consolidated Balance Sheets and Statements of Operations had been reclassified for all periods presented to reflect the operating results and net assets of this market as a discontinued operation as of the date of this asset purchase agreement through December 2009. Because of the buyer terminating the agreement, we have reclassified the accompanying Consolidated Balance Sheets and Statements of Operations to reflect the operating results and net assets of this entity for all periods presented in continuing operations. In January 2010, we collected a termination fee from the buyer of $0.2 million pursuant to the termination of the asset purchase agreement.
CORPORATE INFORMATION
We maintain a website at www.salem.cc. Our annual reports on Form 10-K, quarterly reports on Form 10-Q, current reports on Form 8-K, and any amendments to those reports are available free of charge through our website as soon as reasonably practicable after those reports are electronically filed with or furnished to the Securities and Exchange Commission (“SEC”).
Salem Communications Corporation was formed in 1986 as a California corporation and was reincorporated in Delaware in 1999. Salem Communications Holding Corporation (“Salem Holding”) was formed as a wholly-owned subsidiary of Salem Communications Corporation in May 2000. In May 2000, Salem Communications Corporation formed an additional wholly-owned subsidiary, Salem Communications Acquisition Corporation (“AcquisitionCo”), which has since acquired nine radio stations through its wholly-owned subsidiary, SCA License Corporation. In August 2000, Salem Communications Corporation assigned substantially all of its assets and liabilities (other than stock of Salem Holding and AcquisitionCo) to Salem Holding.
In June 2001, Salem Holding effected a dividend to Salem Communications Corporation of Salem Holding’s publishing and Internet businesses. This transaction was effected as a dividend of the capital stock and membership interests, respectively, of Salem Holding’s wholly-owned subsidiaries CCM Communications, Inc. (“CCM”) and OnePlace, LLC (“OnePlace”). As a result, CCM and OnePlace became direct subsidiaries of Salem Communications Corporation. Subsequently, the membership interests of OnePlace were contributed to SCA License Corporation, and OnePlace became an indirect subsidiary of Salem
DEVELOPMENT OF THE BUSINESS
During the year ended December 31, 2010, we completed the following business acquisitions and asset purchases:
RADIO STATIONS
Upon the close of all announced transactions, we will own and/or operate a national portfolio of 95 radio stations in 37 markets, consisting of 27 FM stations and 68 AM stations. The following table sets forth information about each of Salem’s stations, in order of market size:
(1)
Actual city of license may differ from metropolitan market served.
(2)
“MSA” means metropolitan statistical area per the Fall 2009 Radio Market Survey Schedule and Population Rankings published by Arbitron, excluding the Commonwealth of Puerto Rico.
(3)
This market includes the Nassau-Suffolk, NY Metro market, which independently has a MSA rank of 17.
(4)
This market includes the San Jose, CA market, which independently has a MSA rank of 33.
(5)
KNTS-AM is an expanded band AM station paired with KLFE-AM. The licenses for these stations include a condition requiring that one or the other be surrendered by July 15, 2009. However, the Federal Communications Commission (“FCC”) is currently permitting these paired expanded band stations to continue to operate beyond the specified surrender date, pursuant to a special temporary authority (STA) granted by the FCC and a request for extension of that STA.
(6)
KBJD-AM is an expanded band AM station paired with KRKS-AM, which licenses have not been renewed by the FCC. The original license for KBJD-AM includes a condition requiring that one or the other paired license be surrendered by February 20, 2006. However, the FCC is currently permitting these paired expanded band stations to continue to operate beyond their license expirations date pursuant to the pending license renewal applications for those stations, and to continue to operate beyond the specified surrender date pursuant to an STA granted by the FCC and a request for extension of that STA.
(7)
WTBN-AM is simulcast with WTWD-AM, Tampa, FL.
(8)
WFFH-FM is simulcast with WFFI-FM, Nashville, TN.
PROGRAM REVENUE. For the year ended December 31, 2010, we derived 22.1% and 18.2% of our net broadcast revenue, or $38.7 million and $31.8 million, respectively, from the sale of national and local block program time. We derive national program revenue from a programming customer base consisting primarily of geographically diverse, well-established non-profit religious and educational organizations that purchase time on stations in a large number of markets in the United States. National program producers typically purchase 13, 26 or 52-minute blocks of time on a Monday through Friday basis and may offer supplemental programming for weekend release. We obtain local program revenue from community organizations and churches that typically purchase for weekend releases and from local speakers who purchase daily releases. We believe our management has been successful in identifying and assisting quality local programs expand into national syndication.
ADVERTISING REVENUE. For the year ended December 31, 2010, we derived 35.2% of our net broadcast revenue, or $61.5 million, from the sale of local spot advertising and 8.1% of our net broadcast revenue, or $14.2 million, from the sale of national spot advertising.
SALEM RADIO NETWORK® AND SALEM MEDIA REPRESENTATIVES ™
We own and operate SRN as part of our overall business strategy to develop a national network of affiliated radio stations anchored by our owned and operated radio stations in major markets. SRN, headquartered in Dallas, Texas, develops, produces and syndicates a broad range of programming specifically targeted to Christian and family-themed talk and music stations as well as general market News Talk stations. Currently, we have rights to several full-time satellite channels to deliver SRN programs to affiliates via satellite.
SRN has approximately 2,000 affiliate stations, in addition to our owned and operated stations, which broadcast one or more of the offered programming options. These programming options feature talk shows, news and music. The principal source of network revenue is from the sale of advertising time.
We own and operate SMR, a sales representation company specializing in placing national advertising on religious format radio stations. SRN and our radio stations each have relationships with SMR for the sale of available SRN spot advertising. SMR also contracts with individual radio stations to sell airtime to national advertisers desiring to include selected company stations in national buys covering multiple markets. In 2005, we established VMR, a sales representation company specializing in placing national advertising on non-religious radio stations.
We recognize our advertising and commission revenue from radio stations as the spots air. SRN’s net revenue, including commission revenue for SMR and VMR, for the year ended December 31, 2010 was $15.7 million, or 9.0% of net broadcast revenue.
NON-BROADCAST MEDIA
Salem Web Network™. We recognize our Internet related revenues based on the delivery of online impressions or based on the length of time of the advertisement placement. Revenues from the sales of products and services are recognized when the products are shipped or when the services are rendered. Total Internet revenue, including SWN, for the year ended December 31, 2010 was $20.2 million, or 9.7% of total revenue.
Salem Publishing™. We recognize advertising revenue from our magazines as the publications are issued. Subscription revenues are recognized over the life of the subscription. Revenues from book sales on Xulon Press™ are recognized when shipment occurs. For the year ended December 31, 2010, our publishing businesses generated revenues of $11.8 million, or 5.7% of total revenue.
COMPETITION
Our radio stations are in a highly competitive business. Our radio stations compete for audiences and advertising revenues within their respective markets directly with other radio stations, as well as with other media, such as broadcast and cable television, newspapers and magazines, national and local digital services, outdoor advertising and direct mail. Audience ratings and market shares are subject to change, and any change in a particular market could have a material adverse effect on the revenue of our stations located in that market. While we already compete in some of our markets with other stations with similar programming formats, if another existing or new radio station in a market were to convert its programming format to a format similar to one of our stations or if an existing competitor were to strengthen its operations, our stations could suffer a reduction in ratings and/or advertising revenue and could incur increased promotional and other expenses. We cannot be assured that any of our stations will be able to maintain or increase their current audience ratings and advertising revenues.
Christian and Family Themed Radio. The segment of this industry that focuses on Christian and family themes, is also a highly competitive business. The financial success of each of our radio stations that focuses on Christian Teaching and Talk is dependent, to a significant degree, upon its ability to generate revenue from the sale of block program time to national and local religious and educational organizations. We compete for this program revenue with a number of different commercial and non-commercial radio station licensees. While no commercial group owner in the United States specializing in Christian and family- themed programming approaches Salem in size of potential listening audience and presence in major markets, other religious radio stations exist and enjoy varying degrees of prominence and success in all markets.
We also compete for revenue in the advertising market with other commercial religious format and general format radio station licensees. We compete in the advertising market with non-broadcast media as well, including broadcast television, cable television, newspapers, magazines, direct mail, Internet and billboard advertising, some of which may be controlled by horizontally-integrated
companies. Several factors can materially impact competitive advantage, including audience ratings, program content, management talent and expertise, sales talent and experience, audience characteristics, signal strength, and the number and characteristics of other radio stations in the same market.
Competition also comes from new media technologies and services. These include delivery of audio programming by cable television and satellite systems, digital audio radio services, mobile telephony including smart phone applications for iPhone, Blackberry and Android, personal communications services and the service of low powered, limited coverage FM radio stations authorized by the FCC. The quality of programming delivered by digital audio broadcasting would be equivalent to compact disc. The delivery of live and stored audio programming through the Internet has also created new competition. In addition, satellite delivered digital audio radio, which deliver multiple audio programming formats to local and national audiences, has created competition. We have attempted to address these existing and potential competitive threats through a more active strategy to acquire and integrate new electronic communications formats including Internet acquisitions made by SWN and our exclusive arrangement to provide Christian and family-themed talk on SiriusXM, a satellite digital audio radio service.
NETWORK. Salem Radio Network® competes with other commercial radio networks that offer news and talk programming to religious and general format stations and other noncommercial networks that offer Christian music formats. SRN also competes with other radio networks for the services of talk show personalities.
NON-BROADCAST MEDIA. Our magazines compete for readers and advertisers with other publications that follow the Christian music industry and publications that address themes of interest to church leadership and the Christian audience. Xulon Press™ competes for authors with other on-demand publishers and other Christian book publishers. Our Internet business competes for visitors and advertisers with other companies that deliver on-line audio programming and Christian and conservative Internet content as well as providers of general market Internet sites.
FEDERAL REGULATION OF RADIO BROADCASTING
Introduction. The ownership, operation and sale of broadcast stations, including those licensed to Salem, are subject to the jurisdiction of the FCC, which acts under authority derived from The Communications Act of 1934, as amended, and the rules and regulations promulgated thereunder (the “Communications Act”). Among other things, the FCC assigns frequency bands for broadcasting; determines whether to approve certain changes in ownership or control of station licenses; regulates transmission facilities, including power employed, antenna and tower heights, and location of transmission facilities; adopts and implements regulations and policies that directly or indirectly affect the ownership, operation and employment practices of stations; and has the power to impose penalties for violations of its rules under the Communications Act.
The following is a brief summary of certain provisions of the Communications Act and of specific FCC regulations and policies. Failure to observe these or other rules and policies can result in the imposition of various sanctions, including monetary forfeitures, the grant of “short” (less than the maximum) license renewal terms or, for particularly egregious violations, the denial of a license renewal application, the revocation of a license or the denial of FCC consent to acquire additional broadcast properties. For further information concerning the nature and extent of federal regulation of broadcast stations you should refer to the Communications Act, FCC rules and the public notices and rulings of the FCC.
License Grant and Renewal. Radio broadcast licenses are granted for maximum terms of eight years. Licenses must be renewed through an application to the FCC. Under the Communications Act, the FCC will renew a broadcast license if it finds that the station has served the public interest, convenience and necessity, that there have been no serious violations by the licensee of the Communications Act or the rules and regulations of the FCC, and that there have been no other violations by the licensee of the Communications Act or the rules and regulations of the FCC that, when taken together, would constitute a pattern of abuse.
Petitions to deny license renewals can be filed by certain interested parties, including members of the public in a station’s market. Such petitions may raise various issues before the FCC. The FCC is required to hold hearings on renewal applications if the FCC is unable to determine that renewal of a license would serve the public interest, convenience and necessity, or if a petition to deny raises a “substantial and material question of fact” as to whether the grant of the renewal application would be prima facie inconsistent with the public interest, convenience and necessity. Also, during certain periods when a renewal application is pending, the transferability of the applicant’s license is restricted. License renewal applications filed in December 2004 are currently pending for two of our stations, KBJD-AM and KRKS-AM due to those stations’ operation as “expanded band” AM stations. Except for these two stations, we are not currently aware of any facts that would prevent the timely renewal of our licenses to operate our radio stations, although there can be no assurance that our licenses will be renewed.
Ownership Matters. The Communications Act prohibits the assignment of a broadcast license or the transfer of control of a broadcast license without the prior approval of the FCC. In determining whether to assign, transfer, grant or renew a broadcast license, the FCC considers a number of factors pertaining to the licensee, including compliance with various rules limiting common ownership of media properties, the “character” of the licensee and those persons holding “attributable” interests therein, and compliance with the Communications Act’s limitation on alien ownership, as well as compliance with other FCC policies, including equal employment opportunity requirements.
Under the Communications Act, a broadcast license may not be granted to or held by a corporation that has more than one-fifth of its capital stock owned or voted by aliens or their representatives, by foreign governments or their representatives, or by non-U.S. corporations. Under the Communications Act, a broadcast license also may not be granted to or held by any corporation that is controlled, directly or indirectly, by any other corporation more than one-fourth of whose capital stock is owned or voted by aliens or their representatives, by foreign governments or their representatives, or by non-U.S. corporations. These restrictions apply in modified form to other forms of business organizations, including partnerships. We therefore may be restricted from having more than one-fourth of our stock owned or voted by aliens, foreign governments or non-U.S. corporations.
Multiple Ownership: The Communications Act and FCC rules also generally restrict the common ownership, operation or control of radio broadcast stations serving the same local market, of a radio broadcast station and a television broadcast station serving the same local market, and of a radio broadcast station and a daily newspaper serving the same local market. The FCC also restricts the number of television stations an entity may own both in local markets and nationwide.
Our current ownership of radio broadcast stations complies with the FCC’s multiple ownership rules; however, these rules may limit the number of additional stations that we may acquire in the future in certain of our markets and could limit the potential buyers of any stations we may attempt to sell. The FCC is also required by the Communications Act to review its broadcast ownership rules every four years. The 2010 quadrennial review is ongoing and expected to be completed in 2011. As part of this proceeding, the FCC may adopt changes to its ownership rules. Previous attempts by the FCC to modify its ownership rules in 2003 and in 2008 also have resulted in court challenges, which remain pending. Any changes to the ownership rules could impact our existing ownership as well as our ability to acquire additional stations or sell existing stations.
Attribution: Because of these multiple and cross-ownership rules, a purchaser of voting stock of the company that acquires an “attributable” interest in the company may violate the FCC’s rule if it also has an attributable interest in other television or radio stations, or in daily newspapers, depending on the number and location of those radio or television stations or daily newspapers. Such a purchaser also may be restricted in the other companies in which it may invest, to the extent that these investments give rise to an attributable interest. If an attributable stockholder of the company violates any of these ownership rules, the company may be unable to obtain from the FCC one or more authorizations needed to conduct its radio station business and may be unable to obtain FCC consents for certain future acquisitions.
The FCC generally applies its television/radio/newspaper cross-ownership rules and its broadcast multiple ownership rules by considering the “attributable,” or cognizable, interests held by a person or entity. A person or entity can have an interest in a radio station, television station or daily newspaper by being an officer, director, partner, member, or stockholder of a company that owns that station or newspaper. Whether that interest is cognizable under the FCC’s ownership rules is determined by the FCC’s attribution rules. If an interest is attributable, the FCC treats the person or entity who holds that interest as an “owner” of the radio station, television station or daily newspaper in question, and therefore subject to the FCC’s ownership rules.
Any officers and directors of a broadcast licensee, cable system owner, or daily newspaper owner are deemed to hold attributable interests in that entity. Generally, the officers and directors of any parent company that holds an attributable interest are themselves also deemed to hold the same attributable interests as that company. In certain situations where a parent company is involved in businesses other than broadcasting, cable system operation, or newspaper publishing, and an individual officer or director has duties and responsibilities wholly unrelated to the company’s broadcast, cable, or newspaper activities, that officer or director may avoid attribution, but will need to submit a statement to the FCC documenting their lack of involvement in the relevant businesses.
Generally, debt interests held in a broadcast licensee, cable system owner, daily newspaper publisher, or parent company are not deemed to be attributable. Debt holders will be subject to attribution, however, where the aggregate value of the equity and debt held in the broadcast, cable, or newspaper company exceeds 33% of that company’s total asset value and the debt holder also holds another attributable interest in the relevant market or the debt holder supplies over 15% of the programming, on a weekly basis, for the station in which the interest is held.
Programming and Operation. The Communications Act requires broadcasters to serve the “public interest.” The FCC has gradually relaxed or eliminated many of the more formalized procedures it had developed in the past to promote the broadcast of certain types of programming responsive to the needs of a station’s community of license. Although in recent years proposals have been put forth by the FCC to reinstitute certain formal procedures, none of these proposals have yet been adopted for radio stations. Licensees continue to be required, however, to present programming that is responsive to community problems, needs and interests and to maintain certain records demonstrating such responsiveness. Complaints from listeners concerning a station’s programming will be considered by the FCC when it evaluates the licensee’s renewal application, but such complaints may be filed and considered at any time.
Stations also must pay annual regulatory fees and fees associated with the filing of most applications. Stations also must follow various FCC rules that regulate, among other things, political advertising, advertising for certain products or services (e.g. tobacco advertising), the broadcast of obscene or indecent programming, closed captioning, emergency programming, sponsorship identification and technical operations (including limits on radio frequency radiation) and equal employment opportunity requirements. The broadcast of contests and lotteries is regulated by FCC rules.
Failure to observe these or other rules and policies can result in the imposition of various sanctions, including monetary forfeitures, the grant of “short” (less than the maximum) renewal terms or, for particularly egregious violations, the denial of a license renewal application or the revocation of a license.
Proposed Changes. As noted above, the FCC 2010 quadrennial review of broadcast ownership rules is ongoing and expected to be completed in 2011. The FCC commenced this proceeding in November 2009 by holding a series of public workshops, but has not yet announced any proposed changes to its rules. We can make no determination as to what effect, if any, this proposed rulemaking will have on Salem. The Congress and the FCC from time to time have under consideration, and may in the future consider and adopt, new laws, regulations and policies regarding a wide variety of matters that could, directly or indirectly, affect the operation, ownership and profitability of the company’s radio stations, result in the loss of audience share and revenue for the company’s radio stations, and affect the ability of the company to acquire additional radio stations or finance such acquisitions. Such matters under consideration include, or may come to include:
• proposals to require broadcast licensees to broadcast specific types and amounts of local programming;
• proposals restricting the location of broadcast studios;
• technical and frequency allocation matters, including potential reallocation of broadcast spectrum to other uses;
• changes in multiple ownership and cross-ownership rules;
• changes to broadcast technical requirements; and
• proposals to require broadcasters to pay copyright royalties for over-the-air performance of sound recordings.
The foregoing summary of certain provisions of the Communications Act and of specific FCC rules and policies does not purport to be comprehensive. For further information concerning the nature and extent of federal regulation of radio broadcast stations you should refer to the Communications Act, the FCC’s rules and the public notices and rulings of the FCC.
Federal Antitrust Considerations. The Federal Trade Commission (“FTC”) and the Department of Justice (“DOJ”), which evaluate transactions to determine whether those transactions should be challenged under the federal antitrust laws, are also active in their review of radio station acquisitions, particularly where an operator proposes to acquire additional stations in its existing markets.
For an acquisition meeting certain size thresholds, the Hart-Scott-Rodino Improvements Act (“HSR Act”) and the rules promulgated thereunder require the parties to file Notification and Report Forms with the FTC and the DOJ and to observe specified waiting period requirements before consummating the acquisition. At any time before or after the consummation of a proposed acquisition, the FTC or the DOJ could take such action under the antitrust laws as it deems necessary or desirable in the public interest, including seeking to enjoin the acquisition or seeking divestiture of the business acquired or other assets of the company. Acquisitions that are not required to be reported under the HSR Act may be investigated by the FTC or the DOJ under the antitrust laws before or after consummation. In addition, private parties may under certain circumstances bring legal action to challenge an acquisition under the antitrust laws. The DOJ also has stated publicly that it believes that LMAs and other similar agreements customarily entered into in connection with radio station transfers prior to the expiration of the waiting period under the HSR Act could violate the HSR Act.
Although we do not believe that our acquisition strategy as a whole will be adversely affected in any material respect by antitrust review, we cannot be sure that this will be the case.
SEGMENTS
We have one reportable operating segment-radio broadcasting. The remaining non-reportable segments consist of our Internet businesses (SWN, Townhall.com®, and Salem Consumer Products) and our publishing businesses (Salem Publishing and Xulon Press™) which do not meet the reportable segment quantitative thresholds and accordingly are aggregated under the non-broadcast segment. The radio-broadcasting segment also operates various radio networks. We present our segment operating results in Note 16.
EMPLOYEES
On February 25, 2011, Salem employed 1,104 full-time and 361 part-time employees. None of Salem’s employees are covered by collective bargaining agreements, and we consider our relations with our employees to be good.
INTERNET ADDRESS AND INTERNET ACCESS TO SEC REPORTS
Our Internet address is www.salem.cc. You may obtain through our Internet website, free of charge, copies of our annual reports filed on Form 10-K, quarterly reports on Form 10-Q, current reports on Form 8-K, and any amendments to those reports filed or furnished pursuant to Section 13(a) or 15(d) of the Securities Exchange Act of 1934. These reports are available as soon as reasonably practical after we electronically file them or furnish them to the SEC. Our website and the information contained therein or connected thereto shall not be deemed to be incorporated into this Form 10-K.
ITEM 1A.
ITEM 1A. RISK FACTORS
CERTAIN FACTORS AFFECTING SALEM
We may choose not to pursue potentially more profitable business opportunities outside of our Christian, conservative news talk and family-themed formats, or not to broadcast programming that violates our programming standards, either of which may have a material adverse effect on our business.
We are fundamentally committed to broadcasting, Internet and publishing formats and programming emphasizing Christian, conservative news talk and family themes. We may choose not to switch to other formats or pursue potentially more profitable business opportunities due to this commitment. We do not intend to pursue business opportunities or broadcast programming that would conflict with our core commitment to Christian and family themes formats or that would violate our programming standards, even if such opportunities or programming would be more profitable. Our decision not to pursue other formats or broadcast programming inconsistent with our programming standards might result in lower operating revenues and profits than we might otherwise achieve.
We may be adversely affected by deteriorating economic conditions including the economic climate failing to improve.
The risks associated with our businesses become more acute in periods of a slowing economy or recession, which may be accompanied by a decrease in advertising. A decline in the level of business activity of our advertisers could have an adverse effect on our revenues and profit margins. During economic slowdowns in the United States, many advertisers have reduced their advertising expenditures. The impact of slowdowns on our business is difficult to predict, but they may result in reductions in purchases of advertising.
Beginning in July 2007, our advertising revenue was negatively impacted by declining advertising from our customers, particularly in the financial services and auto industries. We believe this was primarily the result of the struggling United States economy and corresponding reductions in discretionary advertising spending by our customers. Declines in advertising revenue have affected both our broadcasting segment and non-broadcasting segment. In response to these economic challenges, we initiated several cost reduction strategies including (1) reducing headcount by approximately 15%, (2) temporarily suspending the company match on 401(k) contributions as of July 2008, (3) temporarily suspending the management bonus program, (4) limiting capital expenditures, (5) reducing the base salary for all employees by 5% as of February 1, 2009 with certain members of executive management reduced by 10%, (6) requiring all employees to use accrued vacation balances by March 31, 2009, (7) offering incentives to employees to use accrued vacation balances as of December 31, 2009, and (8) consolidating programming on most of our Contemporary Christian Music stations. During 2010, advertising revenues showed signs of improvement in both our broadcast and non-broadcast segments.
Should a double-dip recession occur, or if the economic climate does not continue to improve, our exposure to several risks increases, including but not limited to:
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Increasing pressure to sell advertising and block programming time at discounted rates;
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Increases in the length of time to collect receivables and higher risks that the accounts become uncollectible as our customers face tight credit markets;
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Ministries are experiencing lower levels of donations that could negatively impact their ability to purchase and pay for block programming time;
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We may not be able to find suitable replacements for ministries that can no longer purchase and pay for block programming;
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Limitations on our ability to obtain additional financing to fund working capital, capital expenditures, acquisitions and other corporate requirements;
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Limitations on our ability to pursue projects that could have been beneficial; and
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Impairment losses on the value of our indefinite-lived intangible assets including FCC broadcast licenses, goodwill, and mastheads and impairment losses on other long-lived assets.
We must respond to the rapid changes in technology, services and standards of our industry in order to remain competitive.
The radio broadcast industry is subject to rapid technological change, evolving industry standards and the emergence of competition from new media technologies and services. We cannot assure you that we will have the resources to acquire new technologies or to introduce new services that could compete with these new technologies. Various new media technologies and services are being developed or introduced, including:
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Satellite-delivered digital audio radio service, which has resulted in the introduction of new subscriber-based satellite radio services with numerous niche formats;
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Audio programming by cable systems, direct-broadcast satellite systems, personal communications systems, content available over the Internet and other digital audio broadcast formats;
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In-band on-channel digital radio, which provides multi-channel, multi-format digital radio services in the same bandwidth currently occupied by traditional AM and FM radio services;
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Low-power FM radio, which could result in additional FM radio broadcast outlets including additional low-power FM radio signals authorized in December 2010 under the Local Community Radio Act;
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Mobile telephony;
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High Definition radio;
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Internet radio; and
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Personal digital audio devices (e.g., iPods, mp3 players, audio via WiFi, mobile phones, WiMAX) or other emerging next-generation networks and technologies.
We currently program one channel on XM Satellite Radio and one channel on SIRIUS Satellite Radio. We also offer pod-casts and downloads of portions of our programming; however, we cannot assure you that this arrangement will continue, will be successful or enable us to adapt effectively to these new media technologies. We cannot predict the effect, if any, that competition arising from new technologies or regulatory change may have on the radio broadcast industry or on our financial condition and results
of operations.
The accounting treatment of goodwill and indefinite-lived intangible assets could cause future losses due to asset impairment.
Under FASB ASC Topic 350 “Intangibles-Goodwill and Other,” indefinite-lived intangibles, including broadcast licenses, goodwill and mastheads are not amortized but instead are tested for impairment at least annually, or more frequently if events or circumstances indicate that there may be an impairment. Impairment is measured as the excess of the carrying value of the indefinite-lived intangible asset over its fair value. Intangible assets that have finite useful lives continue to be amortized over their useful lives and are measured for impairment if events or circumstances indicate that they may be impaired. Impairment losses are recorded as operating expenses.
In prior years, we incurred significant impairment losses with regard to our broadcast indefinite-lived intangible assets. These losses were attributable to the following variables as the primary drivers used in our assumptions that lead to our impairment of broadcast licenses and goodwill balances (1) an increase in the weighted average cost of capital from 8.0% as of the testing period
ended December 31, 2007 to 9.5% for the testing period ended December 31, 2009, (2) a decline in the estimated terminal or exit values assigned to the licenses as a result of industry wide declines in radio station transaction multiples, (3) a decrease in projected future cash flows from a range of 2.0% to 3.5% for the testing period ended December 31, 2007 to a range of 1.0% to 2.5% for the testing period ended December 31, 2009, and (4) a significant decline in projected revenues from up to a 12.6% increase projected at the end of 2007 for the 2009 year to a 3.0% decline at the end of 2009 for 2010, followed by up to a 2.5% projected increase in 2011 as compared to 2010.
In prior years, we have also incurred significant impairment losses with regard to our non-broadcast indefinite-lived intangible assets. These losses were incurred as a result of our interim impairment testing for the period ended June 30, 2009. There were no impairment losses for the annual testing periods ending December 31, 2009 or 2010. The losses recognized for the period ended June 30, 2009 were attributable to the following variables as the primary drivers used in our assumptions that lead to our impairment of mastheads and goodwill balances: (1) an increase in the weighted average cost of capital from 8.0% as of the testing period ended December 31, 2007 to 9.0% for the interim testing period ended June 30, 2009, (2) a decline in the estimated terminal or exit values assigned to the assets as a result of industry wide declines in the total number of magazines sold, (3) a decrease in projected future cash flows from 2.9% for the testing period ended December 31, 2007 to 2.0% for the interim testing period ended June 30, 2009, and (4) a significant decline in projected profit margins from a range of 3.0% to 10.0% as of the December 31, 2007 testing period to a range of 0.5% to 6.0% as of the June 30, 2009 interim testing period.
The valuation of intangible assets is subjective and based on estimates rather than precise calculations. If actual future results are not consistent with the assumptions and estimates used, we may be exposed to impairment charges in the future, the amount of which may be material. The fair value measurements for our indefinite-lived intangible assets use significant unobservable inputs which reflect our own assumptions about the estimates that market participants would use in measuring fair value including assumptions about risk.
Given the current economic environment and uncertainties surrounding the potential negative impact on our business, there can be no assurance that our estimates and assumptions regarding the duration of the economic downturn, or the period and strength of recovery, made for the purpose of our indefinite-lived intangible fair value estimates will prove to be accurate.
If actual future results are not consistent with the assumptions and estimates used, we may be exposed to impairment charges in the future, the amount of which may be material. Discount rate assumptions are based on an assessment of the risk inherent in the future cash flows of the respective market clusters and reporting units.
The impairment charges recognized to date are non-cash in nature and did not result in a violation of our then existing credit facilities or Revolver. However, the potential of future impairment charges can be viewed as a negative factor with regard to forecasted future performance and cash flows. We believe that we have adequately considered the economic downturn in our valuation models and do not believe that the impairments in and of themselves are a liquidity risk.
We may be unable to integrate the operations and management of acquired stations or businesses, which could have a material adverse effect on our business and operating results.
During 2009 and 2010, we spent $3.7 million and $8.6 million, respectively, on the acquisition of radio stations and non-broadcast businesses. We expect to make additional acquisitions of radio stations and related non-broadcast businesses in the future. There can be no assurance that we will be able to successfully integrate the operations or management of acquired radio stations and businesses and realize anticipated revenue synergies, or the operations or management of stations and businesses that might be acquired in the future. Continued acquisitions of radio stations will require us to manage a larger and likely more geographically diverse radio station and non-broadcast portfolio than historically has been the case. Our inability to integrate and manage newly acquired radio stations or non-broadcast businesses successfully could have a material adverse effect on our business and operating results.
If we are unable to implement our cluster strategy, we may not realize anticipated operating efficiencies.
As part of our operating strategy, we attempt to realize efficiencies in operating costs and cross-selling of advertising by clustering the operations of two or more radio stations in a single market. However, there can be no assurance that this operating strategy will be successful. Furthermore, we cannot assure you that the clustering of radio stations in one market will not result in downward pressure on advertising rates at one or more of the existing or new radio stations within the cluster. There can be no assurance that any of our stations will be able to maintain or increase its current listening audiences and operating revenue in circumstances where we implement our clustering strategy.
Additionally, FCC rules and policies allow a broadcaster to own a number of radio stations in a given market and permit, within limits, joint arrangements with other stations in a market relating to programming, advertising sales and station operations. We believe
that radio stations that elect to take advantage of these clustering opportunities may have lower operating costs and may be able to offer advertisers more attractive rates and services. The future development of our business in new markets, as well as the maintenance of our business growth in those markets in which we do not currently have radio station clusters, may be negatively impacted by competitors who are taking or may take advantage of these clustering opportunities by operating multiple radio stations within markets.
The restrictions on ownership of multiple stations in each market may prevent us from implementing our cluster strategy.
As part of our growth strategy, we seek to acquire additional radio stations in markets in which we already have existing stations. However, our ability to acquire, operate and integrate any such future acquisitions as part of a cluster is limited by antitrust laws, the Communications Act, FCC regulations and other applicable laws and regulations. Changes to any of these laws or regulations may affect our ability to acquire additional stations in radio markets where we already own one or more radio stations. In 1996, Congress passed legislation that requires the FCC to periodically conduct reviews of its regulations, including ones that govern the maximum number of radio stations an entity may own or have joint arrangements with relating to programming, advertising sales and station operations (the “Ownership Limits”). The FCC has adopted radio multiple ownership rules that depend upon the total number of radio stations located in the market in determining the applicable Ownership Limits. In 2003, the FCC modified its definition of the term “market” and its method of determining the number of radio stations located in a “market.” Specifically, in larger markets the FCC replaced its “signal contour method” of defining a market and determining the number of radio stations located in the market with the use of “geographic markets” delineated by Arbitron, which is a commercial ratings service, as reported in the BIA database. For smaller radio markets for which Arbitron has not delineated a geographic market, the “signal contour method” continues to be the method of defining the market and determining the number of radio stations in the market. The methods the FCC uses to define markets affect the number of radio stations an entity may own or have joint arrangements with relating to programming, advertising sales and station operations in areas adjacent to a delineated Arbitron market. In 2010, the FCC opened a new phase of rulemaking concerning its broadcast ownership rules. The FCC sought public comments on the existing rules, including arguments and factual data on their impact on competition, localism, and diversity and held public meetings around the country on the issue of media ownership rules. The FCC 2010 quadrennial review of broadcast ownership rules is ongoing and expected to be completed in 2011.
We cannot predict the impact of possible modifications to the FCC’s local radio multiple ownership rules on our business operations. Likewise, we cannot predict whether there will be a change in the antitrust laws, Communications Act or other laws governing the ownership or operation of radio stations, or whether the FCC, DOJ or FTC will modify their regulations and policies governing or affecting the acquisition of additional radio stations in a market. In addition, we cannot predict whether a private party will challenge acquisitions we propose in the future. These events could adversely affect our ability to implement our cluster acquisition strategy.
Government regulation of the broadcasting industry by the FTC, DOJ and FCC may limit our ability to acquire or dispose of radio stations and enter into certain agreements.
The Communications Act and FCC rules and policies require prior FCC approval for transfers of control of, and assignments of, FCC broadcast licenses. The FTC and the DOJ evaluate transactions to determine whether those transactions should be challenged under federal antitrust laws. As we have gained a presence in a greater number of markets and percentage of the top 50 markets, our future proposed transactions may be subject to more frequent and aggressive review by the FTC or the DOJ due to market concentration concerns. This increased level of review may be accentuated in instances where we propose to engage in a transaction with parties who themselves have multiple stations in the relevant market. The FCC might not approve a proposed radio station acquisition or disposition when the DOJ has expressed market concentration concerns with respect to the buy or sell side of a given transaction, even if the proposed transaction would otherwise comply with the FCC’s numerical limits on in-market ownership. We cannot be sure that the DOJ or the FTC will not seek to prohibit or require the restructuring of our future acquisitions or dispositions on these or other bases.
Were a complaint to be filed against us or other FCC licensees involved in a transaction with us, or an objection to the transaction itself, the FCC could delay the grant of, or refuse to grant, its consent to an assignment or transfer of control of licenses and effectively prohibit a proposed acquisition or disposition.
As noted in the immediately preceding risk factor, the FCC’s local radio multiple ownership rules limit the maximum number of stations we may own or operate in a market. This may limit our ability to make future radio station acquisitions in certain markets. Additionally, this may limit our ability, in certain markets, to enter into agreements whereby we provide programming to or sell advertising on radio stations that we do not own. It could also limit our ability to sell stations to other entities that already own stations in some markets.
We may be adversely affected by statutes dealing with indecency.
The Broadcast Decency Enforcement Act of 2005 enhances the FCC’s enforcement of its rules concerning the broadcast of obscene, indecent, or profane material became law. This legislation increased the FCC’s authority in this area to impose substantially higher monetary forfeiture penalties, up to $325,000 per violation and a total of $3,000,000 for any one incident. While we do not anticipate these increased penalties to impact us as significantly as some of our competitors given the nature of our programming, we could face increased costs in the form of fines as a result of this legislation.
If we fail to maintain our broadcast licenses with the FCC, we would be prevented from operating affected radio stations.
We operate each of our radio stations pursuant to one or more FCC broadcast licenses, generally of eight years’ duration. As each license expires, we apply for renewal of the license. However, we cannot be sure that any of our licenses will be renewed, and renewal is subject to challenge by third parties or to denial by the FCC. In evaluating a broadcast license renewal application, the FCC must grant the renewal if: (1) the station has served the public interest, convenience and necessity; (2) there have been no serious violations of the Communications Act or the FCC’s rules; and (3) there have been no other violations which, taken together, constitute a pattern of abuse. If, however, the station fails to meet these standards, the FCC may deny the application, after notice and an opportunity for a hearing, or grant the application on terms and conditions that are appropriate, including renewal for less than the maximum term otherwise allowed. The failure to renew any of our licenses would prevent us from operating the affected station and generating revenue from it. If the FCC decides to include conditions or qualifications in any of our licenses, we may be limited in the manner in which we may operate the affected station.
Our syndicated programming is dependent upon maintenance of our transponder equipment, which is located at various customer sites.
Delivery of our national programs is dependent upon transmitter equipment that is located at various customer locations. The quality and durability of this equipment, as well as our ability to protect the equipment from damage, destruction or theft, directly impacts our ability to transmit programming. Losses to the equipment and any business interruption may not be fully insurable.
Our advertising revenues in certain markets are ratings sensitive and subject to decline based on agency projections.
Arbitron has developed technology to collect data for its ratings service. The Portable People Meter TM (PPMTM ) is a small, pager-sized device that does not require active manipulation by the end user and is capable of automatically measuring radio, television, Internet, satellite radio and satellite television signals that are encoded for the service by the broadcaster. The PPM offers a number of advantages over the traditional diary ratings collection system including ease of use, more reliable ratings data and shorter time periods between when advertising runs and when audience listening or viewing habits can be reported. This service is already in a number of our markets and is scheduled to be introduced in more markets in the future. In markets where we subscribe to Arbitron that have switched to PPM, our ratings have been less consistent. It is not clear what long-term impact, if any, the introduction of the PPM will have on our revenues for stations that subscribe to Arbitron.
Capital requirements necessary to implement acquisitions could pose risks.
We face competition from other companies for acquisition opportunities. If the prices sought by sellers of these companies were to rise, we may find fewer acceptable acquisition opportunities. In addition, the purchase price of possible acquisitions could require additional debt or equity financing on our part. Since the terms and availability of this financing depend to a large degree upon general economic conditions and third parties over which we have no control, we can give no assurance that we will obtain the needed financing or that we will obtain such financing on attractive terms. In addition, our ability to obtain financing depends on a number of other factors, many of which are also beyond our control, such as interest rates and national and local business conditions. If the cost of obtaining needed financing is too high or the terms of such financing are otherwise unacceptable in relation to the acquisition opportunity we are presented with, we may decide to forego that opportunity. Additional indebtedness could increase our leverage and make us more vulnerable to economic downturns and may limit our ability to withstand competitive pressures.
If we are unable to execute our acquisition strategy successfully, our business may not continue to grow.
We intend to continue to selectively acquire radio stations and complementary non-broadcast media businesses. With respect to the acquisition of radio stations, our acquisition strategy has been, and will continue to focus primarily on, the acquisition of stations in the top 50 markets. However, we may not be able to identify and consummate future acquisitions successfully, and stations that we do acquire may not increase our station operating income or yield other anticipated benefits. Acquisitions in markets in which we
already own stations may not increase our station operating income due to saturation of audience demand. Acquisitions in smaller markets may have less potential to increase operating revenues. With respect to our acquisition strategy of non-broadcast media businesses, we may not be able to identify and consummate the acquisition of future non-broadcast media businesses successfully. Additionally, we may not be able to effectively integrate the operation of newly acquired businesses with our existing businesses that could result in reduced operating income from our non-broadcast media businesses. Our failure to execute our acquisition strategy successfully in the future could limit our ability to continue to grow in terms of number of stations or profitability.
Our business is dependent upon the performance of key employees, on-air talent and program hosts.
Our business is dependent upon the performance and continued efforts of certain key individuals, including Edward G. Atsinger III, our Chief Executive Officer, and Stuart W. Epperson, our Chairman of the Board. The loss of the services of such key individuals could have a material adverse effect upon us. We enter into employment agreements with such key individuals. Mr. Epperson has radio interests unrelated to Salem’s operations that will continue to impose demands on his time. Mr. Atsinger has an interest in an aviation business unrelated to Salem’s operations that will continue to impose demands on his time.
We also employ or independently contract with several on-air personalities and hosts of syndicated radio programs with significant loyal audiences on both a national level and in their respective markets. Several of our on-air personalities have a presence that extends beyond our radio platforms into other strategic non-broadcast areas. Although we have entered into long-term agreements with some of our executive officers, key on-air talent and program hosts to protect our interests in those relationships, we can give no assurance that all or any of these key employees will remain with us or will retain their audiences. Competition for these individuals is intense and many of our key employees are at-will employees who are under no legal obligation to remain with us. Our competitors may choose to extend offers to any of these individuals on terms that we may be unwilling to meet. In addition, any or all of our key employees may decide to leave for a variety of personal or other reasons beyond our control. Furthermore, the popularity and audience loyalty of our key on-air talent and program hosts is highly sensitive to rapidly changing public tastes. A loss of such popularity or audience loyalty is beyond our control and could limit our ability to generate revenues.
If we are not able to obtain financing or generate sufficient cash flows from operations, we may be unable to fund future acquisitions.
We may require significant financing to fund our acquisition strategy. This financing may not be available to us. The availability of funds under our senior credit facility at any time is dependent upon, among other factors, our ability to satisfy financial covenants. Our future operating performance will be subject to financial, economic, business, competitive, regulatory and other factors, many of which are beyond our control. Accordingly, we cannot assure you that our future cash flows or borrowing capacity will be sufficient to allow us to complete future acquisitions or implement our business plan, which could have a material negative impact on our business and results of operations.
If we cannot attract the anticipated listener, programmer and advertiser base for our newly acquired radio stations, we may not recoup associated operating costs or achieve profitability for these radio stations.
We frequently acquire selected assets of radio stations that previously broadcast in formats other than our primary formats. We continue to program some of these stations in non-primary formats and we re-program others to one of our primary formats. During, and for a period after, the conversion of a radio station’s format, the radio station typically generates operating losses. The magnitude and duration of these losses depends on a number of factors, including the promotional and marketing costs associated with attracting listeners and advertisers to our radio station’s new format and the success of these efforts. There is no guarantee that the operation of these newly acquired stations or our operations in new formats will attract a sufficient listener and advertiser base. If we are not successful in attracting the listener and advertiser base we anticipate, we may not recoup associated operating costs or achieve profitability for these radio stations.
If we do not maintain or increase our block programming revenues, our business and operating results may be adversely affected.
The financial success of each of our radio stations that feature Christian Teaching and Talk programming is dependent, to a significant degree, upon our ability to generate revenue from the sale of block programming time to national and local religious and educational organizations. Block programming accounted for 40.3% of our net broadcast revenue for the year ended December 31, 2010, and 40.8% of our net broadcast operating revenue for the same period of the prior year. We compete for this program revenue with a number of commercial and non-commercial radio stations. Due to the significant competition for this block programming, we may not be able to maintain or increase our current block programming revenue.
If we are unable to maintain or grow our advertising revenues, our business and operating results may be adversely affected.
Depending on their format, our radio stations are to varying degrees dependent upon advertising for their revenues. In the advertising market, we compete for revenue with other commercial religious format and general format radio stations, as well as with other media, including broadcast and cable television, newspapers, magazines, direct mail, Internet and billboard advertising. Due to this significant competition, we may not be able to maintain or increase our current advertising revenue.
A sustained economic downturn in key Salem markets could negatively impact our ability to generate revenues.
We derive a substantial part of our total revenues from the sale of advertising on our radio stations. For the years ended December 31, 2008, 2009 and 2010, 46.2%, 43.1% and 43.4% of our total revenues, respectively, were generated from the sale of advertising. We are particularly dependent on revenue from stations in the Los Angeles and Dallas markets, which generated 16.9% and 17.2%, respectively, of our total net advertising revenues for the year ended December 31, 2009, 15.8 %, and 18.8 %, respectively, of our total net advertising revenues for the year ended December 31, 2010. Because substantial portions of our revenues are derived from local advertisers in these key markets, our ability to generate revenues in those markets could be adversely affected by local or regional economic downturns.
Environmental, health, safety and land use laws and regulations may limit or restrict some of our operations.
We must comply with various federal, state and local environmental, health, safety and land use laws and regulations that have a tendency to affect broadcast facilities differently than other uses. We and our properties are subject to such laws and regulations relating to the use, storage, disposal, emission and release of hazardous and non-hazardous substances and employee health and safety, as well as zoning restrictions that may affect, among other things, the ability for us to improve or relocate our radio broadcasting facilities. Historically, we have not incurred significant expenditures to comply with these laws. However, existing laws, and those that may be applied in the future, or a finding of a violation of or liability, could require us to make significant expenditures and otherwise limit or restrict some of our operations.
Acts of war and terrorism may reduce our revenue and have other negative effects on our business.
In response to the September 11, 2001 terrorist attacks on New York City and Washington, D.C., we increased our news and community service programming, which consequently decreased the amount of broadcast time available for commercial advertising and block programming. Future acts of war and terrorism against the United States, and the country’s response thereto, including the current military actions in Iraq and Afghanistan, may also cause a general slowdown in the U.S. advertising market, which could cause our revenues to decline due to advertising and/or programming cancellations, delays or defaults in payment, and other factors. In addition, these events may have other negative effects on our business, the nature and duration of which we cannot predict. If future acts of war or terrorism occur or the current weak economic conditions continue or worsen, our financial condition and results of operations may be materially and adversely affected.
We are controlled by a few controlling stockholders.
As of December 31, 2010, Edward G. Atsinger III, Stuart W. Epperson, Nancy A. Epperson and Edward C. Atsinger controlled approximately 87.2% in aggregate of the voting power of our capital stock. These four stockholders thus have the ability to control fundamental corporate transactions requiring stockholder approval, including but not limited to, the election of all of our directors, approval of merger transactions involving Salem and the sale of all or substantially all of Salem’s assets. The interests of any of these controlling stockholders may differ from the interests of other stockholders in a material manner.
Our broadcasts often rely on content owned by third parties; obtaining such content could be costly and require us to enter into disadvantageous license or royalty arrangements.
We rely heavily upon content and software owned by third parties in order to provide programming for our broadcasts. The cost of obtaining all necessary licenses and permission to use this third-party content and software continues to increase. Although we attempt to avoid infringing known proprietary rights of third parties in our broadcasting efforts, we expect that we may be subject to legal proceedings and claims for alleged infringement from time to time in the ordinary course of business. Any claims relating to the infringement of third-party proprietary rights, even if not meritorious, could result in costly litigation, divert management’s attention and resources, or require us to enter into royalty or license agreements that are not advantageous to us. In addition, parties making claims may be able to obtain an injunction, which could prevent us from broadcasting all or certain portions of individual radio broadcasts containing content owned by third parties. We also rely on software that we license from third parties, including software
that is integrated with internally developed software and used to perform key broadcasting and accounting functions. We could lose the right to use this software or it could be made available to us only on commercially unreasonable terms. Although we believe that alternative software is available from other third-party suppliers or internal developments, the loss of or inability to maintain any of these software licenses or the inability of the third parties to enhance in a timely and cost-effective manner their products in response to changing customer needs, industry standards or technological developments could result in limitations or delays in broadcasting or accounting for programming by us until equivalent software could be developed internally or identified, licensed and integrated, which would harm our business.
Proposed legislation requires radio broadcasters to pay higher royalties to record labels and recording artists.
We must maintain music programming royalty arrangements with, and pay license fees to, Broadcast Music, Inc. (“BMI”), American Society Composers, Authors and Publishers (“ASCAP”), and SESAC. These organizations negotiate with copyright users, collect royalties and distribute them to songwriters and music publishers. Currently, we pay royalties to song composers and publishers through BMI, ASCAP and SESAC.
On December 18, 2007, legislation was introduced to Congress that would require terrestrial radio broadcasters to pay a royalty to record labels and performing artists for use of their recorded songs. The proposed legislation would add an additional layer of royalties to be paid directly to the record labels and artists. It is currently unknown what proposed legislation, if any, will become law, and what significance this royalty would have on our results from operations, cash flows or financial position.
We may be unable to increase or maintain our Internet advertising revenues, which could have a material adverse effect on our business and operating results.
We generate advertising revenue from the sale of display advertisements on our Internet sites. Our ability to increase or maintain this advertising revenue is largely dependent upon the number of users actively visiting our Internet sites. We also must increase user engagement with our advertisers in order to increase our advertising revenues. In addition, Internet advertising techniques are evolving, and if our technology and advertisement serving techniques do not evolve to meet the needs of advertisers, our advertising revenue could decline. Changes in our business model, advertising inventory or initiatives could also cause a decrease in our advertising revenue.
In addition, Internet advertisements are reportedly becoming a means to distribute viruses over the Internet. If this practice becomes more prevalent, it could result in consumers becoming less inclined to click through online advertisements, which could adversely affect the demand for Internet advertising. We do not have long-term agreements with most of our advertisers. Any termination, change or decrease in our advertising relationships could have a material adverse affect on our revenues and profitability. If we do not maintain or increase our advertising revenues, our business, results of operations and financial condition would be materially adversely affected.
If we are unable to protect our domain names, our reputation and brands could be adversely affected.
We currently hold various domain name registrations relating to our brands, including Christianity.com, OnePlace.com, Crosswalk.com and GodTube.com. The registration and maintenance of domain names generally are regulated by governmental agencies and their designees. Governing bodies may establish additional top-level domains, appoint additional domain name registrars or modify the requirements for holding domain names. As a result, we may be unable to register or maintain relevant domain names. We may be unable, without significant cost or at all, to prevent third parties from registering domain names that are similar to, infringe upon or otherwise decrease the value of, our trademarks and other proprietary rights. Failure to protect our domain names could adversely affect our reputation and brands, and make it more difficult for users to find our websites and our services.
We have substantial debt and have the ability to incur additional debt. The principal and interest payment obligations of such debt may restrict our future operations and impair our ability to meet our obligations under such debt.
At December 31, 2010, we and our subsidiary guarantors have approximately $305 million aggregate principal amount of outstanding indebtedness, of which $270.0 million is outstanding on the 95/8 Notes, of which approximately $35 million effectively ranks senior to the outstanding notes to the extent of the assets securing such debt. In addition, the terms of the Revolver and the indenture governing the 95/8 Notes permit us to incur additional indebtedness, including up to approximately $40 million that would be available under our Revolver, subject to our ability to meet certain borrowing conditions.
Our substantial debt may have important consequences. For instance, it could:
•
make it more difficult for us to satisfy our financial obligations, including those relating to the 95/8 Notes;
•
require us to dedicate a substantial portion of any cash flow from operations to the payment of interest and principal due under our debt, which will reduce funds available for other business purposes, including capital expenditures and acquisitions;
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place us at a competitive disadvantage compared with some of our competitors that may have less debt and better access to capital resources; and
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limit our ability to obtain additional financing required to fund working capital and capital expenditures and for other general corporate purposes.
Our ability to satisfy our obligations and to reduce our total debt depends on our future operating performance and on economic, financial, competitive and other factors, many of which are beyond our control. Our business may not generate sufficient cash flow, and future financings may not be available to provide sufficient net proceeds, to meet these obligations or to successfully execute our business strategy.
The agreements governing our various debt obligations impose restrictions on our business and adversely affect our ability to undertake certain corporate actions.
The agreements governing our various debt obligations, including the indenture governing the 95/8 Notes and the agreements governing our Revolver, include covenants imposing significant restrictions on our business. These restrictions may affect our ability to operate our business and may limit our ability to take advantage of potential business opportunities as they arise. These covenants place restrictions on our ability to, among other things:
•
incur additional debt;
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declare or pay dividends, redeem stock or make other distributions to stockholders;
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make investments;
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create liens or use assets as security in other transactions;
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merge or consolidate, or sell, transfer, lease or dispose of substantially all of our assets;
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engage in transactions with affiliates; and
•
sell or transfer assets.
Our Revolver also requires us to comply with a number of financial ratios and covenants and restricts our ability to make certain capital expenditures.
Our ability to comply with these agreements may be affected by events beyond our control, including prevailing economic, financial and industry conditions. These covenants could have an adverse effect on our business by limiting our ability to take advantage of financing, merger and acquisition or other corporate opportunities. The breach of any of these covenants or restrictions could result in a default under the indenture governing the 95/8 Notes or the Revolver. An event of default under any of our debt agreements could permit some of our lenders, including the lenders under the Revolver, to declare all amounts borrowed from them to be immediately due and payable, together with accrued and unpaid interest, which could, in turn, trigger defaults under other debt obligations and the commitments of the lenders to make further extensions of credit under our Revolver could be terminated. If we were unable to repay debt to our lenders, or are otherwise in default under any provision governing our outstanding secured debt obligations, our secured lenders could proceed against us and the subsidiary guarantors and against the collateral securing that debt. In addition, acceleration of our other indebtedness may cause us to be unable to make interest payments on the 95/8 Notes and repay the principal amount of or repurchase the 95/8 Notes or may cause the subsidiary guarantors to be unable to make payments under the guarantees.
To service our indebtedness, we will require a significant amount of cash. However, our ability to generate cash depends on many factors beyond our control.
Our ability to make payments on, and to refinance, our indebtedness, and to fund capital expenditures, will depend on our ability to generate cash in the future, which, in turn, is subject to general economic, financial, competitive, regulatory and other factors, many of which are beyond our control.
Our business may not generate sufficient cash flow from operations and we may not have available to us future borrowings in an amount sufficient to enable us to pay our indebtedness, including the 95/8 Notes, or to fund our other liquidity needs. In these
circumstances, we may need to refinance all or a portion of our indebtedness on or before maturity. We may not be able to refinance any of our indebtedness, including our revolver and the 95/8% Notes, on commercially reasonable terms, or at all. Without this financing, we could be forced to sell assets or secure additional financing to make up for any shortfall in our payment obligations under unfavorable circumstances. However, we may not be able to secure additional financing on terms favorable to us or at all and, in addition, the terms of our revolver and the indenture governing the 95/8% Notes limit our ability to sell assets and also restrict the use of proceeds from such a sale. In addition, we may not be able to sell assets quickly enough or for sufficient amounts to enable us to meet our obligations.
ITEM 1B.
ITEM 1B. UNRESOLVED STAFF COMMENTS
Not Applicable.
ITEM 2.
ITEM 2. PROPERTIES.
No one physical property is material to our overall operations. We believe that our properties are in good condition and suitable for our operations; however, we continually evaluate opportunities to upgrade our properties. We believe we will be able to renew existing leases when applicable or obtain comparable facilities, as necessary.
Corporate
Our corporate headquarters are located in Camarillo, California where we own an approximately 40,000 square foot office building.
Radio Broadcasting
The types of properties required to support our radio stations include offices, studios, transmitter, antenna and tower sites. A station’s studios are generally located in an office in a downtown or business district. Transmitter, antenna and tower sites are located in areas that provide maximum market coverage. We either own or lease our radio transmitting properties under agreements that generally range from five to twenty-five years. We believe we will be able to renew any such lease that expires or obtain comparable facilities, as necessary. Our SRN and SMR offices and Dallas radio stations are located in an office building in the Dallas, Texas metropolitan area, where we own an approximately 34,000 square foot office building. Our network operations are supported by various offices and studios from which its programming originates or is relayed from a remote point of origination. Our network leases satellite transponders used for delivery of its programming. We also own office buildings in Honolulu, Hawaii; Tampa, Florida; Miami, Florida; and Orlando, Florida.
We lease certain property from our principal stockholders or trusts and partnerships created for the benefit of the principal stockholders and their families. These leases are described in Note 12 of our consolidated financial statements. All such leases have cost of living adjustments. Based upon our management’s assessment and analysis of local market conditions for comparable properties, we believe such leases have terms that are as favorable as, or more favorable, to the company than those that would have been available from unaffiliated parties.
Non-Broadcast
Salem Publishing and Salem Web Network operate from leased office facilities in Nashville, Tennessee; Orlando, Florida; Richmond, Virginia; and Tarzana, California. The lease agreements range from one to ten years remaining on the lease term. We believe we will be able to renew any such lease that expires or obtain comparable facilities, as necessary.
ITEM 3.
ITEM 3. LEGAL PROCEEDINGS.
We and our subsidiaries, incident to our business activities, are parties to a number of legal proceedings, lawsuits, arbitration and other claims. Such matters are subject to many uncertainties and outcomes that are not predictable with assurance. We maintain insurance that may provide coverage for such matters. Consequently, we are unable to ascertain the ultimate aggregate amount of monetary liability or the financial impact with respect to these matters. We believe, at this time, that the final resolution of these matters, individually and in the aggregate, will not have a material adverse effect upon our annual consolidated financial position, results of operations or cash flows.
On July 10, 2010, Asia Vision, Inc. and Rehan Siddiqi amended a complaint they had previously filed against third parties in the 152nd Judicial District Court of Harris County, Houston, Texas, naming Salem Communications Corporation, South Texas Broadcasting, Inc. and one of Salem’s officers as defendants. In their complaint, Asia Vision claims that the Salem defendants interfered with Asia Vision’s contractual right to purchase radio station KTEK-AM from Business Radio Licensee, LLC. In their complaint, Asia Vision and Rehan Siddiqi make a claim for injunctive relief and monetary damages. On July 21, 2010, Salem Communications and South Texas Broadcasting were served with the complaint but the Salem officer has not been served. Salem has retained counsel, has tendered defense of the matter to several insurance companies, and will vigorously defend this action.
On March 7, 2011, Salem entered into a tentative settlement of the matter, which still requires court approval. If approved, the settlement will result in no liability to the Salem defendants.
ITEM 4.
ITEM 4. REMOVED AND RESERVED.
PART II
ITEM 5.
ITEM 5. MARKET FOR REGISTRANT’S COMMON EQUITY; RELATED STOCKHOLDER MATTERS AND ISSUER PURCHASES OF EQUITY SECURITIES.
The company’s Class A common stock trades on the NASDAQ Global Market® (“NASDAQ-NGM”) under the symbol SALM. On March 7, 2011, the company had approximately 70 stockholders of record (not including the number of persons or entities holding stock in nominee or street name through various brokerage firms) and 18,703,232 outstanding shares of its Class A common stock and two stockholders of record and 5,553,696 outstanding shares of its Class B common stock. The following table sets forth for the fiscal quarters indicated the range of high and low sales price information per share of the Class A common stock of the company as reported on the NASDAQ-NGM.
There is no established public trading market for the company’s Class B common stock.
DIVIDEND POLICY
After careful review and consideration of its earnings, financial position, capital requirements, its Revolver and the indenture governing the 95/8% Notes, the company approved a special dividend of approximately $0.20 per share on its Class A and Class B Common stock. On December 13, 2010, the company paid the $0.20 per share special cash distribution, or approximately $4.8 million to shareholders of record as of the close of business on December 6, 2010. No dividends were paid during the years ended December 31, 2009 or December 31, 2008.
The company’s sole source of cash available for making any future dividend payments will be dividends paid to the company or payments made to the company by its subsidiaries. The ability of subsidiaries of the company to make such payments may be restricted by applicable state laws or terms of agreements to which they are or may become a party; the company’s Revolver and the terms of the indenture governing the 95/8% Notes restrict the payment of dividends on its common stock unless certain specified conditions are satisfied.
UNREGISTERED SALES OF EQUITY SECURITIES AND USE OF PROCEEDS
None.
ITEM 6.
ITEM 6. SELECTED FINANCIAL DATA (CONTINUED).
(1)
We define station operating income as net broadcast revenue less broadcast operating expenses.
(2)
Station operating income margin is station operating income as a percentage of net broadcast revenue.
Station operating income (“SOI”) is not a measure of performance calculated in accordance with generally accepted accounting principles (“GAAP”). Therefore, SOI should be viewed as a supplement to and not a substitute for results of operations presented on the basis of GAAP. Management believes that station operating income is useful, when considered in conjunction with operating income, the most directly comparable GAAP financial measure, because it is generally recognized by the radio broadcasting industry as a tool in measuring performance and in applying valuation methodologies for companies in the media, entertainment and communications industries. This measure is used by investors and by analysts who report on the industry to provide comparisons between broadcast groups. Additionally, we use station operating income as one of our key measures of operating efficiency and contribution to profitability. Station operating income does not purport to represent cash provided by operating activities. Our statement of cash flows presents our cash flow activity and our income statement presents our historical performance prepared in accordance with GAAP. Our station operating income is not necessarily comparable to similarly titled measures employed by other companies.
RECONCILIATION OF STATION OPERATING INCOME TO OPERATING INCOME
ITEM 7.
ITEM 7. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS.
GENERAL
The following discussion and analysis of our financial condition and results of operations should be read in conjunction with the consolidated financial statements and related notes included elsewhere in this report. Our consolidated financial statements are not directly comparable from period to period because of our acquisition and disposition of selected assets of radio stations and our acquisitions of non-broadcast businesses. See Note 3 to our consolidated financial statements under Item 8 for additional information.
OVERVIEW
As a radio broadcasting company with a national radio network, we derive our broadcast revenue primarily from the sale of broadcast time and radio advertising on a national and local basis.
Historically, our principal sources of broadcast revenue have been:
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the sale of block program time, both to national and local program producers;
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the sale of advertising time on our radio stations, both to national and local advertisers; and
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the sale of advertising time on our national radio network.
The rates we are able to charge for broadcast time and advertising time are dependent upon several factors, including:
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audience share;
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how well our stations perform for our clients;
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the size of the market;,
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the general economic conditions in each market; and
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supply and demand on both a local and national level.
Our principal sources of non-broadcast revenue include:
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the sale of internet advertising;
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the support and promotion to stream third-party content on our websites;
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sales of software and support services
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fees from authors for book publishing;
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subscription fees for our magazines;
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the sale of print magazine advertising; and
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product sales and royalties for on-air host materials
The following table shows the dollar amount and percentage of net broadcast revenue for each broadcast revenue source.
Our broadcast revenues are impacted by the program rates our radio stations charge, the level of broadcast airtime sold and by the advertising rates our radio stations and networks charge. The rates for block programming time are based upon our stations’ ability to attract audiences that will support the program producers through contributions and purchases of their products. Advertising rates are based upon the demand for advertising time, which in turn is based on our stations and networks’ ability to produce results for their advertisers. We do not subscribe to traditional audience measuring services for most of our radio stations. Instead, we have marketed ourselves to advertisers based upon the responsiveness of our audiences. In selected markets, we do subscribe to Arbitron, which develops quarterly reports to measure a radio station’s audience share in the demographic groups targeted by advertisers. Each of our radio stations and our networks has a pre-determined level of time that they make available for block programming and/or advertising, which may vary at different times of the day.
Arbitron has developed technology to collect data for its ratings service. The PPM is a small pager size device that does not require active manipulation by the end user and is capable of automatically measuring radio, television, Internet, satellite radio and satellite television signals that are encoded for the service by the broadcaster. The PPM offers a number of advantages over the traditional diary ratings collection system including ease of use, more reliable ratings data and shorter time periods between when advertising runs and when audience listening or viewing habits can be reported. This service is already in a number of our markets and is scheduled to be introduced in more markets in the future. It is not clear what long-term impact, if any, the introduction of the PPM will have on our revenues for stations that subscribe to Arbitron.
As is typical in the radio broadcasting industry, our second and fourth quarter advertising revenue generally exceeds our first and third quarter advertising revenue. This seasonal fluctuation in advertising revenue corresponds with quarterly fluctuations in the retail advertising industry. Quarterly revenue from the sale of block programming time does not tend to vary significantly, however, because program rates are generally set annually and are recognized on a per program basis. We currently program 39 of our stations with our Christian Teaching and Talk format, which is talk programming with Christian and family themes. We also program 24 News Talk stations, 11 Contemporary Christian Music stations, 11 Business format stations, and five Spanish-language Christian Teaching and Talk stations. During 2009 and 2010, we increased the number of stations that we operate in our business format from two to eleven. The business format features financial experts, business talk, and nationally recognized Bloomberg programming. The business format operates similar to our Christian Teaching & Talk format as it features long-form block programming.
Our cash flow has historically been affected by a transitional period experienced by radio stations when, due to the nature of the radio station, our plans for the market and other circumstances, we find it beneficial to change its format. This transitional period is when we develop a radio station’s listener and customer base. During this period, a station may generate negative or insignificant cash flow.
In the broadcasting industry, radio stations often utilize trade or barter agreements to exchange advertising time for goods or services in lieu of cash. In order to preserve the sale of our advertising time for cash, we generally enter into trade agreements only if the goods or services bartered to us will be used in our business. We have minimized our use of trade agreements and have generally sold most of our advertising time for cash. In 2010, we sold 97% of our broadcast revenue for cash. In addition, it is our general policy not to preempt advertising paid for in cash with advertising paid for in trade.
The primary operating expenses incurred in the ownership and operation of our radio stations include: (i) employee salaries, commissions and related employee benefits and taxes, (ii) facility expenses such as rent and utilities, (iii) marketing and promotional expenses and (iv) music license fees. In addition to these expenses, our network incurs programming costs and lease expenses for satellite communication facilities. We also incur and expect to continue to incur significant depreciation, amortization and interest expense as a result of completed and future acquisitions and existing and future borrowings.
Salem Web Network™ and Townhall.com®, our Internet businesses, earn revenues from the sales of streaming services, sales of advertising and, to a lesser extent, sales of software and software support contracts. Salem Publishing™, our publishing business, earns its revenue by selling advertising in and subscriptions to its publications and by selling books. Xulon Press™ generally earns its revenue from the publishing of books. The revenues of these businesses are reported as “non-broadcast” on our Consolidated Statement of Operations.
The primary operating expense incurred in the operation of our non-broadcast entities include: (i) employee salaries, commissions and related employee benefits and taxes, (ii) facility expenses such as rent and utilities, (iii) marketing and promotional expenses and (iv) printing and production costs. The expenses directly associated with these businesses are reported as “non-broadcast” on our Consolidated Statement of Operations.
KNOWN TRENDS AND UNCERTAINTIES
Beginning in July 2007, our advertising revenue was negatively impacted by declining advertising from our customers, particularly in the financial services and auto industries. We believe this decline was primarily the result of the struggling United States economy and corresponding reductions in discretionary advertising spending by our customers. Declines in advertising revenue have affected both our broadcasting segment and non-broadcasting segment. In response to these economic challenges, we initiated several cost reduction strategies including (1) reducing headcount by approximately 15%, (2) temporarily suspending the company match on 401(k) contributions as of July 2008, (3) temporarily suspending the management bonus program, (4) limiting capital expenditures, (5) reducing the base salary for all employees by 5% as of February 1, 2009 with certain members of executive management reduced by 10%, (6) requiring all employees to use accrued vacation balances by March 31, 2009, (7) offering incentives to employees to use accrued vacation balances as of December 31, 2009, and (8) consolidating programming on most of our Contemporary Christian Music stations. During 2010, advertising revenue showed signs of improvement in both our broadcast and non-broadcast segments. If a double-dip recession were to occur, or if the economic climate does not continue to improve, our exposure to several risks increases, including but not limited to:
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Increasing pressure to sell advertising and block programming time at discounted rates;
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Increases in the length of time to collect receivables and higher risks that the accounts become uncollectible as our customers face tight credit markets;
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Ministries are experiencing lower levels of donations that could negatively impact their ability to purchase and pay for block programming time;
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We may not be able to find suitable replacements for ministries that can no longer purchase and pay for block programming;
•
Limitations on our ability to obtain additional financing to fund working capital, capital expenditures, acquisitions and other corporate requirements;
•
Limitations on our ability to purse projects that could have been beneficial; and
•
Impairment losses on the value of our indefinite-lived intangible assets including FCC broadcast licenses, goodwill, and mastheads and impairment losses on other long-lived assets.
SAME STATION DEFINITION
In the discussion of our results of operations below, we compare our results between periods on an as-reported basis (that is, the results of operations of all radio stations and network formats owned or operated at any time during either period) and on a “same-station” basis. With regard to fiscal quarters, we include in our same-station comparisons the results of operations of radio stations or radio station clusters and networks that we own or operate in the same format during the quarter, as well as the corresponding quarter of the prior year. Same-station results for a full year are based on the sum of the same station-results for the four quarters of that year.
RESULTS OF OPERATIONS
The Statements of Operations Data for all periods presented were reclassified to reflect the operating results of WRRD-AM, Milwaukee, Wisconsin and WFZH-FM, Milwaukee, Wisconsin as discontinued operations. In 2007, we had a plan in place to sell these radio stations and completed the sale of entities during the year ended December 31, 2008.
The Statements of Operations Data for all periods presented were reclassified to reflect the operating results of CCM Magazine as a discontinued operation as of the March 2008 publication.
The amounts presented below were reclassified to reflect the operating results of WRFD-AM, Columbus, Ohio in continuing operations from discontinued operations. We had entered into an asset purchase agreement on July 31, 2008, to sell this radio station and exit the Columbus market. At that time, the Consolidated Balance Sheets and Statements of Operations for all periods presented were reclassified to reflect the operating results and net assets of this market as a discontinued operation as of the date of the asset purchase agreement through December 2009. The sale was expected to close in the fourth quarter of 2009. On December 30, 2009, the buyer of the radio station advised us that they would not be able to meet the terms of the asset purchase agreement. Because of the buyer terminating the agreement, we have reclassified the accompanying Consolidated Balance Sheets and Statements of Operations for all periods presented to reflect the operating results and net assets of this market in continuing operations. In January 2010, we collected a $0.2 million termination fee from the buyer pursuant to the asset purchase agreement.
The following table sets forth certain Statements of Operations Data for the periods indicated and shows annual changes:
The following table presents selected financial data for the periods indicated as a percentage of total revenue:
Year ended December 31, 2010 compared to year ended December 31, 2009
NET BROADCAST REVENUE. Net broadcast revenue increased $2.8 million, or 1.7%, to $174.9 million for the year ended December 31, 2010, from $172.1 million for the same period of the prior year. On a same station basis, net broadcast revenue increased $2.5 million, or 1.5%, to $173.8 million for the year ended December 31, 2010, from $171.3 million for the same period of the prior year. The increase includes a $0.5 million increase in local program revenue, a $1.6 million increase in national spot revenue, a $0.4 million increase in network revenue, and a $1.1 million increase in event revenue, offset by a $0.1 million decrease in national program revenue, a $0.1 million decrease in local spot revenue, and a $0.6 million decrease in infomercial revenue primarily on our Christian Teaching and Talk and News Talk formats. Included in this increase in revenue is a $2.6 million increase in non-recurring political advertisements. Revenue from advertising as a percentage of our net broadcast revenue increased to 43.3% for the year ended December 31, 2010 compared to 43.1% for the same period of the prior year. Revenue from block program time as a percentage of our net broadcast revenue decreased to 40.3% for the year ended December 31, 2010, from 40.8% for the same period of the prior year. The revenue increases are the result of an increase in sales volume and number of minutes sold with little to no change in rates charged to our customers.
NON-BROADCAST REVENUE. Non-broadcast revenue increased $4.8 million, or 17.8%, to $32.0 million for the year ended December 31, 2010, from $27.2 million for the same period of the prior year. The increase is comprised of a $4.0 million increase in banner advertising revenue generated from our Internet businesses, and a $0.3 million increase in website hosting revenues from Salem Consumer Products, and a $0.5 million increase in publishing revenues associated with magazines and books. The increase in revenue includes the impact of recent acquisitions that generate revenues across all web-based platforms. The increases resulted from higher sales volume with minimal impact from rates charged to our customers.
BROADCAST OPERATING EXPENSES. Broadcast operating expenses increased $2.3 million, or 2.1%, to $110.4 million for the year ended December 31, 2010, from $108.1 million for the same period of the prior year. On a same station basis, broadcast operating expense increased $2.0 million, or 1.9%, to $109.2 million for the year ended December 31, 2010, compared to $107.2 million for the same period of the prior year. The increase includes $4.9 million of higher personnel-related costs, a $1.1 million increase in advertising expenses, a $0.2 million increase in commissions, and a $0.1 million increase in facility related expenses,
partially offset by a $2.8 million decrease in bad debt expense, a $0.2 million decrease in music license fees, a $0.2 million decrease in professional services and a $0.4 million decrease in production and programming expenses.
NON-BROADCAST OPERATING EXPENSES. Non-broadcast operating expenses increased $4.8 million, or 20.6%, to $28.4 million for the year ended December 31, 2010, compared to $23.6 million for the same period of the prior year. The increase is comprised of a $2.0 million increase in personnel-related costs including commissions based on higher levels of collected revenues, a $1.7 million increase in advertising expenses promoting our Internet businesses and publishing businesses, a $0.5 million increase in streaming, hosting and software expenses related to our Internet businesses, a $0.2 million increase in royalties generated from our Internet businesses, and a $0.2 million increase in royalties generated from our Salem Consumer Products business.
CORPORATE EXPENSES. Corporate expenses increased $2.6 million, or 18.6%, to $16.6 million for the year ended December 31, 2010, compared to $14.0 million for the same period of the prior year. The increase includes $0.8 million of accrued management bonuses, a $0.7 million increase in non-cash stock-based compensation expense associated with new option grants, a $0.5 million increase in repairs and maintenance costs and a $0.4 million increase in facility related costs.
DEPRECIATION. Depreciation expense decreased $0.8 million, or 6.5%, to $12.6 million for the year ended December 31, 2010, compared to $13.4 million for the same period of the prior year. The decrease reflects the overall impact of reduced capital expenditures and reduced station acquisitions during 2009 and 2010 as compared to prior years.
AMORTIZATION. Amortization expense increased $0.4 million, or 24.1%, to $2.1 million for the year ended December 31, 2010, compared to $1.7 million for the same period of the prior year. The increase is due to certain intangibles associated with our recent acquisitions of HotAir.com, GodTube.com and Samaritan Fundraising.
COST OF DENIED TOWER SITE, ABANDONED PROJECTS AND TERMINATED TRANSACTIONS. Costs associated with a tower relocation project for radio station KDOW-AM, San Francisco, California, that was rejected by the City of Hayward, of $0.9 million were recognized during the year ended December 31, 2009 along with costs of $0.2 million associated with capital projects that will not be pursued.
IMPAIRMENT OF INDEFINITE-LIVED INTANGIBLE ASSETS. In accordance with FASB ASC Topic 350 “Intangibles - Goodwill and Other,” we review the recorded values of our indefinite-lived intangible assets including broadcast licenses, goodwill, and mastheads on an annual basis or more frequently if conditions indicate that we may have an impairment. There were no impairment charges for the annual testing period ending December 31, 2010. During the year ending December 31, 2009, we recorded impairment charges of $26.8 million associated with the FCC Licenses and goodwill in the Dallas, Atlanta, Detroit, Portland and Cleveland markets and impairment charges of $1.2 million associated with the value of goodwill and Mastheads in our non-broadcast segment. These impairment charges resulted from weakening valuations based on lower revenues and lower growth expectations. These trends were not specific to any of our individual markets, but rather were affecting valuations in the industry as a whole. For the year ended December 31, 2010 and 2009, the markets for which impairment charges were recorded during 2009 accounted 23.6% and 25.7% of total net revenues, respectively.
LOSS ON DISPOSAL OF ASSETS. The net loss on disposal of assets of $0.3 million for the year ended December 31, 2010, is comprised of a $0.2 million pre-tax loss on the sale of WAMD-AM, Aberdeen, Maryland, a $0.2 million pre-tax loss from the sale of Chicago real estate associated with the relocation of our Radio Division President and $0.2 million of losses from various fixed asset and equipment disposals offset by a $0.3 million pre-tax gain from the eminent domain seizure of property by the Dallas County School District. The loss on disposal of assets of $1.7 million for the same period of the prior year reflects the sale of radio station KPXI-FM, Tyler-Longview, Texas for $0.4 million resulting in a pre-tax loss of $1.6 million and $0.1 million of various fixed asset and equipment disposals.
GAIN ON BARGAIN PURCHASE. In accordance with FASB ASC Topic 805 “Business Combinations,” effective as of January 1, 2009, any excess of fair value of the acquired net assets over the acquisition consideration shall be recognized as a gain on a bargain purchase. Prior to recording a gain, the acquiring entity must reassess whether all acquired assets and assumed liabilities have been identified and recognized and perform re-measurements to verify that the consideration paid, assets acquired, and liabilities assumed have been properly valued. During 2009, we underwent such a reassessment, and recorded a gain on the bargain purchase WZAB-AM in Miami, Florida, of $1.6 million. We believe that the gain on bargain purchase resulted from various factors that may have influenced the acquisition price of WZAB-AM, including, without limitation, significant declines in broadcast revenues throughout the industry. We have completed the one-year measurement period and have not obtained information about facts and circumstances that existed as of the acquisition date that would have affected the amounts recognized for assets acquired and liabilities assumed.
OTHER INCOME (EXPENSE). Interest income of $0.2 million and $0.3 million for the year ended December 31, 2010 and 2009 was interest earned on excess cash. Interest expense increased $10.2 million, or 50.9%, to $30.3 million for the year ended December 31, 2010, compared to $20.1 million for the same period of the prior year due to the issuance of the 95/8% Notes in December 2009 as compared to the prior capital structure. Change in fair value of interest rate swaps of $0.8 million for the year ended December 31, 2009, represents the change in the fair market value of our swaps that were terminated in December 2009. Other expense, net of $16,000 for the year ended December 31, 2010 includes the $0.2 million termination fee from the cancellation of our sale agreement for WRFD-AM, Columbus, Ohio offset by a $0.2 million loss on a second lien real estate note with an employee not associated with our operating activities. Other expense, net, of $0.1 million for the year ended December 31, 2009 includes bank commitment fees associated with our credit facility offset with royalty income from real estate properties.
PROVISION FOR (BENEFIT FROM) INCOME TAXES. In accordance with FASB ASC Topic 740 “Income Taxes,” our provision for income taxes was $2.7 million for the year ended December 31, 2010 compared to a tax benefit of $4.2 million for the same period of the prior year. Provision for income taxes as a percentage of income before income taxes (that is, the effective tax rate) was 58.0% for the year ended December 31, 2010 compared to 33.8% for the same period of the prior year. The effective tax rate for each period differs from the federal statutory income rate of 35.0% due to the effect of state income taxes, certain expenses that are not deductible for tax purposes, and changes in the valuation allowance from the utilization of certain state net operating loss carryforwards.
INCOME (LOSS) FROM DISCONTINUED OPERATIONS, NET OF TAX. The loss from discontinued operations of $0.1 million, net of taxes, for the year ended December 31, 2009 relates to facility charges incurred on the Milwaukee property offset by a gain from recording fixed assets that had been abandoned and written-off at the Milwaukee facility and later placed back into service in other markets.
NET INCOME (LOSS). We recognized net income of $1.9 million for the year ended December 31, 2010 compared to a net loss of $8.3 million for the same period of the prior year. The increase of $10.2 million includes a $29.0 million increase in our net operating income and a $0.8 million benefit compared to the prior year change in fair value of the interest rate swaps offset by a $10.2 million increase in interest expense, $0.7 million in losses on the early redemption of $30.0 million of the 95/8% Notes, a $6.9 million increase in our tax provision and the prior year impact of the $1.6 million gain on bargain purchase of WZAB-AM, Miami, Florida.
Year ended December 31, 2009 compared to year ended December 31, 2008
NET BROADCAST REVENUE. Net broadcast revenue decreased $22.0 million, or 11.4%, to $172.1 million for the year ended December 31, 2009, from $194.1 million for the same period of the prior year. On a same station basis, net broadcast revenue declined $22.3 million, or 11.7%, to $167.4 million for the year ended December 31, 2009, from $189.7 million for the same period of the prior year. The decline in net broadcast revenue is comprised of a $14.6 million decrease in local advertising revenues across all station formats, a $3.9 million decrease in national program revenue primarily on our Christian Teaching and Talk and News Talk stations, a $1.5 million decrease in infomercial revenue primarily on our Christian Teaching and Talk and News Talk formats, a $0.8 million decrease in local program revenue across all station formats, a $0.3 million decrease in network revenue, and a $0.5 million decrease in event revenue primarily associated with our Celebrate Freedom festivals. Revenue from advertising as a percentage of our net broadcast revenue decreased to 43.1% for the year ended December 31, 2009, from 46.2% for the same period of the prior year. The decline in revenue reflects a reduction in the number of advertisers and minutes sold combined with lower average rates per minute at the local level. Revenue from block program time as a percentage of our net broadcast revenue increased to 40.8% for the year ended December 31, 2009, from 38.6% for the same period of the prior year. Block programming revenue has continued to increase as a percentage of our total broadcast revenue, particularly on our Christian Teaching and Talk stations.
NON-BROADCAST REVENUE. Non-broadcast revenue decreased $1.2 million, or 4.3%, to $27.2 million for the year ended December 31, 2009, from $28.4 million for the same period of the prior year. The decrease is comprised of a $1.0 million decrease in publishing revenue associated with magazines and books on Salem Publishing and a $0.2 million decrease in advertising revenues associated with our internet businesses on our web network. The declines were primarily due to a reduced number of advertisers.
BROADCAST OPERATING EXPENSES. Broadcast operating expenses decreased $16.8 million, or 13.4%, to $108.1 million for the year ended December 31, 2009, from $124.9 million for the same period of the prior year. On a same station basis, broadcast operating expense decreased $17.0 million, or 14.1%, to $104.1 million for the year ended December 31, 2009, compared to $121.1 million for the same period of the prior year. The decline in broadcast operating expenses reflects an overall cost reduction initiative that includes a $12.8 million decrease in personnel-related costs due to reductions in work force and salary reductions, a $2.5 million decrease in advertising expenses, a $0.3 million decrease in LMA fees, a $0.4 million decrease in production and programming expenses, a $0.5 million decrease in facility-related costs and a $0.3 million reduction in professional service fees.
NON-BROADCAST OPERATING EXPENSES. Non-broadcast operating expenses decreased $2.3 million, or 8.9%, to $23.6 million for the year ended December 31, 2009, compared to $25.9 million for the same period of the prior year. The decrease includes a $1.6 million decline in personnel and circulation expenses associated with print magazines and books on Salem Publishing and a $0.9 million reduction in advertising, promotion and streaming expenses on Salem Web Network, partially offset by an increase of $0.2 million in operating expenses on Salem Consumer Products as a result of expanding product lines that are offered.
CORPORATE EXPENSES. Corporate expenses decreased $6.0 million, or 30.1%, to $14.0 million for the year ended December 31, 2009, compared to $20.0 million for the same period of the prior year. The decrease reflects the impact of an overall cost reduction initiative that includes a reduction in work force and salary reductions resulting in a $4.3 million reduction in personnel-related costs and a $2.5 million decline in non-cash stock-based compensation expense when comparing this period against the prior year accelerated vesting of unvested options voluntarily surrendered by members of senior management. This was partially offset by an increase of $0.2 million in facility related costs and a $0.4 million executive bonus accrual.
DEPRECIATION. Depreciation expense increased $0.1 million, or 0.8%, to $13.4 million for the year ended December 31, 2009, compared to $13.3 million for the same period of the prior year. The increase reflects the impact of recent capital expenditures associated with computer software, data processing and office equipment that have shorter estimated useful lives than towers and broadcast assets.
AMORTIZATION. Amortization expense decreased $1.1 million, or 40.1%, to $1.7 million for the year ended December 31, 2009, compared to $2.8 million for the same period of the prior year. The decrease is due to higher amortization recognized in early 2008 on intangibles such as advertising agreements and other business contracts that were acquired in 2007 with an estimated useful life of one year.
COST OF DENIED TOWER SITE, ABANDONED PROJECTS AND TERMINATED TRANSACTIONS. Costs associated with a tower relocation project for radio station KDOW-AM, San Francisco, California, that was rejected by the City of Hayward, of $0.9 million were recognized during the year ended December 31, 2009 along with costs of $0.2 million associated with capital projects that will not be pursued. Terminated transaction costs and abandoned license upgrades of $1.3 million for the same period of the prior year consist of capital projects that were abandoned during the year and fees associated with the termination of our agreement to purchase KTRO-AM in Portland, Oregon.
IMPAIRMENT OF INDEFINITE-LIVED INTANGIBLE ASSETS. In accordance with FASB ASC Topic 350 “Intangibles - Goodwill and Other,” we review the recorded values of our indefinite-lived intangible assets including broadcast licenses, goodwill, and mastheads on an annual basis or more frequently if conditions indicate that we may have an impairment. During the year ended December 31, 2009, we recorded an impairment charge of $26.8 million associated with the value of broadcast licenses and goodwill in the Dallas, Atlanta, Detroit, Portland and Cleveland market clusters, an impairment charge of $1.2 million associated with the value of goodwill and mastheads in the non-broadcast segment. For the same period of the prior year, we recorded a $73.0 million impairment charge associated with the value of broadcast licenses and goodwill in the Boston, Detroit, Cleveland, Louisville, Tampa, Miami, Orlando, Sacramento, Omaha, and Nashville market clusters. The impairment charges resulted from weakening valuations due to lower revenues and lower growth expectations. These trends were not specific to any of our individual markets, but rather were affecting valuations in the industry as a whole. The markets and entities for which impairment charges were recorded during the year ended December 31, 2009 accounted for 27.5% of total revenues for the period compared to 27.9% for the same period of the prior year.
(GAIN) LOSS ON DISPOSAL OF ASSETS. The loss on disposal of assets of $1.7 million for the year ended December 31, 2009, reflects the sale of radio station KPXI-FM, Tyler-Longview, Texas for $0.4 million resulting in a pre-tax loss of $1.6 million and $0.1 million in various other fixed asset and equipment disposals. Gain on disposal of assets of $6.9 million for the same period of the prior year includes the sale of radio station WRVI-FM, Louisville, Kentucky for $3.0 million resulting in a pre-tax gain of $1.1 million, the sale of radio station KTEK-AM, Houston, Texas for $7.8 million resulting in a pre-tax gain of $6.1 million, partially offset by $0.3 million in various other fixed asset and equipment disposals.
GAIN ON BARGAIN PURCHASE. In accordance with FASB ASC Topic 805 “Business Combinations,” effective as of January 1, 2009, any excess of fair value of the acquired net assets over the acquisition consideration shall be recognized as a gain on a bargain purchase. Prior to recording a gain, the acquiring entity must reassess whether all acquired assets and assumed liabilities have been identified and recognized and perform re-measurements to verify that the consideration paid, assets acquired, and liabilities assumed have been properly valued. During 2009, we underwent such a reassessment, and recorded a gain on the bargain purchase WZAB-AM in Miami, Florida, of $1.6 million. We believe that the gain on bargain purchase resulted from various factors that may have influenced the acquisition price of WZAB-AM, including, without limitation, significant declines in broadcast revenues throughout
the industry. We have completed the one-year measurement period and have not obtained information about facts and circumstances that existed as of the acquisition date that would have affected the amounts recognized for assets acquired and liabilities assumed.
OTHER INCOME (EXPENSE). Interest income represents interest earned on excess cash. Interest income increased to $0.3 million for the year ended December 31, 2009, compared to $0.2 million for the same period of the prior year. Interest expense decreased $2.3 million or 10.3% to $20.1 million for the year ended December 31, 2009, compared to $22.4 million for the same period of the prior year due to a lower net outstanding debt balance and lower interest rates during the year. Interest expense for the year ended December 31, 2009, also includes a $3.1 million charge associated with the termination of interest rate swaps. Change in fair value of interest rate swaps of $0.8 million represents the change in the fair market value of the terminated swaps. Other expense, net, of $0.1 million for the year ended December 31, 2009 relates to bank commitment fees associated with our then outstanding credit facilities. Other income, net, of $0.1 million for the same period of the prior year consists of non-recurring reimbursements received, including $0.2 million associated with the terminated sale of KKMO-AM in Seattle, Washington, partially offset with bank commitment fees associated with our credit facilities outstanding at the time.
PROVISION FOR (BENEFIT FROM) INCOME TAXES. In accordance with FASB ASC Topic 740 “Income Taxes,” our benefit from income taxes was $4.2 million for the year ended December 31, 2009 compared to $19.2 million for the same period of the prior year. Provision for income taxes as a percentage of income before income taxes (that is, the effective tax rate) was 33.8% for the year ended December 31, 2009 compared to 35.5% for the same period of the prior year. The effective tax rate for each period differs from the federal statutory income rate of 35.0% due to the effect of state income taxes, certain expenses that are not deductible for tax purposes, and changes in the valuation allowance from the utilization of certain state net operating loss carry-forwards.
INCOME (LOSS) FROM DISCONTINUED OPERATIONS, NET OF TAX. The loss from discontinued operations of $0.1 million, net of taxes, for the year ended December 31, 2009 relates to facility charges incurred on the Milwaukee property offset by a gain from recording fixed assets that had been abandoned and written-off at the Milwaukee facility and later placed back into service in other markets. The income from discontinued operations of $1.8 million, net of taxes, for the same period of the prior year includes the gain of $1.3 million on the sale of WRRD-AM, Milwaukee, Wisconsin, a $0.8 million gain on the sale of WFZH-FM, Milwaukee, Wisconsin, and the operating results of CCM Magazine.
NET INCOME (LOSS). We recognized a net loss of $8.3 million for the year ended December 31, 2009 compared to a net loss of $33.1 million for the same period of the prior year. The decrease in losses of $24.8 million reflects a reduction in operating losses of $39.4 million, a $2.1 million decrease in other expenses, net , a $15.0 million decrease in tax benefits, and a $1.8 million increase in losses from discontinued operations impacted by the 2008 sale of Milwaukee stations at a gain. The reduction in operating losses of $39.4 million is comprised of a $62.7 million reduction in operating expenses that includes a $45.0 million decrease in impairment losses and the $8.6 million unfavorable impact of gains on asset sales offset by a $23.2 million decrease in operating revenues. The decreases in other expenses, net of $2.1 million includes a $2.3 million decrease in interest expense, the $4.0 million favorable impact from changes in the fair value of our interest rate swaps partially offset by a $1.1 million loss on debt retirement compared to income of $4.7 million in the prior year.
NON-GAAP FINANCIAL MEASURES
The performance of a radio broadcasting company is customarily measured by the ability of its stations to generate station operating income. We define station operating income (“SOI”) as net broadcast revenue less broadcast operating expenses. Accordingly, changes in net broadcast revenue and broadcast operating expenses, as explained above, have a direct impact on changes in SOI.
SOI is not a measure of performance calculated in accordance with GAAP. SOI should be viewed as a supplement to and not a substitute for our results of operations presented on the basis of GAAP. Management believes that SOI is a useful non-GAAP financial measure to investors, when considered in conjunction with operating income, the most directly comparable GAAP financial measure, because it is generally recognized by the radio broadcasting industry as a tool in measuring performance and in applying valuation methodologies for companies in the media, entertainment and communications industries. This measure is used by investors and analysts who report on the industry to provide comparisons between broadcasting groups. Additionally, our management uses SOI as one of the key measures of operating efficiency, profitability and our internal review associated with our impairment analysis of indefinite-lived intangible assets. SOI does not purport to represent cash provided by operating activities. Our statement of cash flows presents our cash flow activity and our income statement presents our historical performance prepared in accordance with GAAP. SOI as defined by and used by our company is not necessarily comparable to similarly titled measures employed by other companies.
Year ended December 31, 2010 compared to year ended December 31, 2009
STATION OPERATING INCOME. SOI increased $0.6 million, or 0.9%, to $64.5 million for the year ended December 31, 2010 compared to $63.9 million for the same period of the prior year as a result of the changes in net broadcast revenue and broadcast operating expense explained above. As a percentage of net broadcast revenue, SOI decreased to 36.9% for the year ended December 31, 2010 from 37.1% for the same period of the prior year. On a same station basis, SOI increased $0.5 million, or 0.8%, to $64.6 million for the year ended December 31, 2010 from $64.1 million for the same period of the prior year. As a percentage of same station net broadcast revenue, same station SOI decreased to 37.2% for the year ended December 31, 2010, compared to 37.4% for the same period of the prior year.
The following table provides a reconciliation of SOI (a non-GAAP financial measure) to operating income (as presented in our financial statements) for the year ended December 31, 2010 and 2009:
Year ended December 31, 2009 compared to year ended December 31, 2008
STATION OPERATING INCOME. SOI decreased $5.3 million, or 7.7%, to $63.9 million for the year ended December 31, 2009 compared to $69.2 million for the same period of the prior year as a result of the changes in net broadcast revenue and broadcast operating expense explained above. As a percentage of net broadcast revenue, SOI increased to 37.1% for the year ended December 31, 2009 from 35.7% for the same period of the prior year. On a same station basis, SOI declined $5.3 million, or 7.7%, to $63.3 million for the year ended December 31, 2009 from $68.6 million for the same period of the prior year. As a percentage of same station net broadcast revenue, same station SOI increased to 37.8% for the year ended December 31, 2009, compared to 36.2% for the same period of the prior year.
The following table provides a reconciliation of SOI (a non-GAAP financial measure) to operating income (as presented in our financial statements) for the year ended December 31, 2009 and 2008:
CRITICAL ACCOUNTING POLICIES, JUDGMENTS AND ESTIMATES
The discussion and analysis of our financial condition and results of operations are based upon our consolidated financial statements, which have been prepared in accordance with GAAP. The preparation of these financial statements requires management to make estimates and judgments that affect the reported amounts of assets, liabilities, revenues and expenses, and related disclosure of contingent assets and liabilities. On an ongoing basis, we evaluate our estimates, including those related to acquisitions and upgrades of radio station and network assets, revenue recognition, allowance for doubtful accounts, goodwill and other non-intangible assets, uncertain tax positions, valuation allowance (deferred taxes), long-term debt and debt covenant compliance, and stock-based compensation. We base our estimates on historical experience and on various other assumptions that are believed 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.
We believe the following accounting policies and the related judgments and estimates are critical accounting policies that affect the preparation of our consolidated financial statements.
Accounting for acquisitions and upgrades of radio station and network assets
A majority of our radio station acquisitions have consisted primarily of the FCC licenses to broadcast in a particular market. We often do not acquire the existing format, or we change the format upon acquisition when we find it beneficial. As a result, a substantial portion of the purchase price for the assets of a radio station is allocated to the broadcast license. It is our policy generally to retain third-party appraisers to value radio stations, networks or non-broadcast properties. The allocations assigned to acquired broadcast licenses and other assets are subjective by their nature and require our careful consideration and judgment. We believe the allocations represent appropriate estimates of the fair value of the assets acquired. As part of the valuation and appraisal process, the third-party appraisers prepare reports that assign values to the various asset categories in our financial statements. Our management reviews these reports and determines the reasonableness of the assigned values used to record the acquisition of the radio station, network or non-broadcast properties at the close of the transaction.
We undertake projects from time to time to upgrade our radio station technical facilities and/or FCC broadcast licenses. Our policy is to capitalize costs incurred up to the point where the project is complete, at which time we transfer the costs to the appropriate fixed asset and/or intangible asset categories. When the completion of a project is contingent upon FCC or other regulatory approval, we assess the probable future benefit of the asset at the time that it is recorded and monitor it through the FCC or other regulatory approval process. In the event the required approval is not considered probable or the project is abandoned, we write-off the capitalized costs of the project.
Revenue recognition
Revenues are recognized when pervasive evidence of an arrangement exists, delivery has occurred or the service has been rendered, the price to the customer is fixed or determinable and collection of the arrangement fee is reasonably assured.
Revenues from radio programs and commercial advertising are recognized when the program or advertisement is broadcast. Revenue is reported net of agency commissions, which are calculated based on a stated percentage applied to gross billing. Our customers principally include not-for-profit charitable organizations and commercial advertisers. Revenue from the sale of products and services from our non-broadcast businesses are recognized when the products are shipped and the services are rendered. Revenues from the sale of advertising in our magazines are recognized upon publication. Revenue from the sale of subscriptions to our publications are recognized over the life of the subscription. Revenue from book sales are recorded when shipment occurs.
Advertising by the radio stations exchanged for goods and services is recorded as the advertising is broadcast and is valued at the estimated value of goods or services received or to be received. The value of the goods and services received in such barter transactions is charged to expense when used. Barter advertising revenue included in broadcast revenue for the years ended December 31, 2008, 2009 and 2010 was approximately $4.9 million, $5.0 million and $4.6 million, respectively, and barter expenses were approximately the same as barter revenue for each period. We record broadcast advertising provided in exchange for goods and services as broadcast revenue and the goods or services received in exchange for such advertising as broadcast operating expenses.
Multiple-Deliverables
We may enter bundled advertising agreements that include spot advertisements on our radio stations, Internet banner placements, print magazine advertisements and booth space at specific events or some combination thereof. The multiple deliverables contained in each agreement are accounted for separately over their respective delivery period provided that they are separate units of accounting. The selling price used for each deliverable is based on vendor specific objective evidence if available or estimated selling price if vendor specific objective evidence is not available. Objective evidence of fair value includes the price charged for each element when it is sold separately. The estimated selling price is the price that we would transact if the deliverable were sold regularly on a standalone basis. Arrangement consideration is allocated at the inception of each arrangement to all deliverables using the relative selling price method. The relative selling price method allocates any discount in the arrangement proportionally to each deliverable on the basis of each deliverable’s selling price. The adoption of ASU No, 2009-13 did not change the units of accounting, how we allocate consideration to various units of accounting, or the timing of revenue recognition.
Allowance for doubtful accounts
We maintain allowances for doubtful accounts for estimated losses resulting from the inability of our customers to make required payments. An analysis is performed by applying various percentages based on the age of the receivable and other subjective and historical analysis. A considerable amount of judgment is required in assessing the likelihood of ultimate realization of these receivables including the current creditworthiness of each customer. If the financial condition of our customers were to deteriorate, resulting in an impairment of their ability to make payments, additional allowances may be required.
Accounting for discontinued operations
We regularly review underperforming stations, particularly those in non-strategic formats, to determine if a sale might be a better way to monetize the station assets. When a station or group of stations is considered for sale, we review the transaction to determine if or when the entity qualifies as a discontinued operation in accordance with the criteria of FASB ASC Topic 205-20 “Discontinued Operations.” This pronouncement specifies that the operations and cash flow of the entity disposed of (to be sold) have or will be eliminated from the ongoing operations as a result of the disposal and that we will not have significant continuing involvement in the operations after the disposal transaction. We define a cluster as a group of radio stations operating in the same geographic market, sharing the same building and equipment and being managed by a single general manager. General managers are compensated based on the results of their cluster as a whole, not the results of any individual radio stations. Therefore, we have determined that an entity qualifies for a discontinued operation when management, having the authority to approve the action, commits to a plan to sell the asset (disposal group), the sale is probable, and the sale will result in the exit of a particular geographic market.
We entered a plan to sell all radio stations in the Milwaukee market during 2007. We sold radio station WRRD-AM in Milwaukee, Wisconsin for $3.8 million on March 28, 2008 and sold radio station WFZH-FM in Milwaukee, Wisconsin for $8.1 million on May 30, 2008. We entered into an LMA with the buyer of WFZH-FM effective as of February 15, 2008, under which the buyer began programming the station and paying a majority of operational costs of the station. The accompanying Consolidated Statements of Operations reflect the operating results of the Milwaukee stations as a discontinued operation for the year ended December 31, 2008.
We ceased publishing the CCM Magazine as of March 2008. The operating results for CCM Magazine were reported as a discontinued operation as of this date. The accompanying Consolidated Statements of Operations reflect the operating results of this entity as a discontinued operation for the year ended December 31, 2008.
On July 31, 2008, we entered into an asset purchase agreement to sell radio station WRFD-AM in Columbus, Ohio for $4.0 million. As a result of the sale, we were to exit the Columbus, Ohio market. The Consolidated Balance Sheets and Statements of Operations for all periods presented were reclassified as of the date of the asset purchase agreement to reflect the operating results and net assets of this market as a discontinued operation through December 2009. The sale was expected to close in the fourth quarter of 2009. On December 30, 2009, the buyer of the radio station advised us that they would not be able to meet the terms of the asset purchase agreement. Because of the buyer terminating the agreement, we have reclassified the accompanying Consolidated Statements of Operations for all periods presented to reflect the operating results and net assets of this market in continuing operations. In January 2010, we collected a $0.2 million termination fee from the buyer pursuant to the asset purchase agreement.
The following table sets forth the components of income (loss) from discontinued operations as reclassified, net of tax, for the years ended December 31, 2008 and 2009:
Goodwill and indefinite-lived intangible assets
Approximately 69% of our total assets as of December 31, 2010, consist of indefinite-lived intangible assets, such as broadcast licenses, goodwill and mastheads, the value of which depends significantly upon the operating results of our businesses. In the case of our radio stations, we would not be able to operate the properties without the related FCC license for each property. Broadcast licenses are renewed with the FCC every eight years for a nominal cost that is expensed as incurred. We continually monitor our stations’ compliance with the various regulatory requirements. Historically, all of our broadcast licenses have been renewed at the end of their respective periods, and we expect that all broadcast licenses will continue to be renewed in the future. Accordingly, we consider our broadcast licenses to be indefinite-lived intangible assets in accordance with Financial Accounting Standards Board Accounting Standards Codification (“FASB ASC”) Topic 350, “Intangibles - Goodwill and Other.” We do not amortize goodwill or other indefinite-lived intangible assets, but rather test for impairment at least annually or more frequently if events or circumstances indicate that an asset may be impaired. The unit of accounting used to test broadcast licenses is the cluster level, which we defines as a group of radio stations operating in the same geographic market, sharing the same building and equipment and managed by a single general manager. The cluster level is the lowest level for which discrete financial information is available and the level reviewed by management to analyze operating results. Goodwill and mastheads, primarily attributable to our non-broadcast operating segment, are tested at the business unit level, which we define by publication or website. Broadcast licenses account for approximately 95% of our indefinite-lived intangible assets. Goodwill and magazine mastheads account for the remaining 5%.
We complete our annual impairment tests in the fourth quarter of each year. Based on deteriorating macro-economic factors, including declining radio industry revenues throughout 2009 and a weakening in prevailing radio station transaction multiples, we tested our goodwill and other indefinite-lived intangible assets for impairment in the second, third and fourth quarters of 2009. During 2010, we did not have indications of impairment at interim dates. We performed annually testing for this period that did not result in impairment charges.
The valuation of intangible assets is subjective and based on estimates rather than precise calculations. If actual future results are not consistent with the assumptions and estimates used, we may be exposed to impairment charges in the future, the amount of which may be material. The fair value measurements for our indefinite-lived intangible assets use significant unobservable inputs that reflect our own assumptions about the estimates that market participants would use in measuring fair value including assumptions about risk. The unobservable inputs are defined in FASB ASC Topic 820 “Fair Value Measurements and Disclosures” as Level 3 inputs discussed in detail in Note 8 to our Consolidated Financial Statements.
When performing our impairment testing for broadcast licenses we review the financial performance of the market clusters against established internal benchmarks. For testing periods as of December 31, 2008 and prior, the first step of our impairment testing process compared the fair value as determined from valuations obtained in prior periods from an independent third-party to the carrying value to determine the degree by which the amounts differed. We had discounted the prior period appraised fair values by 25% to 70%, adjusting our discount percentages higher each period beginning with our 2008 interim testing based on reduced revenues and overall market conditions, including declines in market values associated with radio station sales. If the discounted prior period fair value exceeded the carrying value of the broadcast licenses, the assets were deemed not to be impaired. For our impairment reviews completed during 2009 and 2010, we did not discount the prior period appraised fair value of any broadcast market cluster as in most markets the carrying value has been reduced to equal the fair value. Due to the number of recent appraisals, we compared actual operating revenues as of the period end to the projected revenues used in the most recent appraisals. Markets with actual operating results that exceeded the projections, which were not subject to changes in other assumptions such as the weighted average cost of capital, were deemed not to be impaired.
The second step of our impairment testing process compares the carrying value of the broadcast licenses for each market cluster including goodwill to the station operating income (“SOI”) for each market cluster including goodwill as of the period end. If the carrying value of the broadcast licenses was less than six times the annualized SOI, the broadcast licenses were deemed not to be impaired. As radio stations are typically sold on the basis of a multiple of projected operating income usually up to a multiple of eight, we believe that a benchmark of six appears conservative even in today’s market. We evaluate the SOI multiples used in our testing based on market data available as of each testing date.
For market clusters that do not meet the first or second test benchmarks, Bond & Pecaro, an independent third-party appraisal and valuation firm, is engaged to perform an appraisal of the indefinite-lived intangible asset(s). Bond & Pecaro utilizes an income approach to value broadcast licenses. The income approach measures the expected economic benefits that the broadcast licenses provides and discounts these future benefits using a discounted cash flow analysis. The discounted cash flow analysis assumes that the broadcast licenses are held by hypothetical start-up stations and the values yielded by the discounted cash flow analysis represent the portion of the stations value attributable solely to the broadcast license. The discounted cash flow model incorporates variables such as projected revenues, operating profit margins, and a discount rate. The variables used reflect historical company growth trends, industry projections, and the anticipated performance of the business. The discounted cash flow projection period was determined to be ten years; which is typically the time radio station operators and investors expect to recover their investments as widely used by industry analysts in their forecasts.
The key assumptions used in the Bond & Pecaro analysis to estimate the fair value of each major category of assets in our broadcast segment for each testing period were as follows:
We also test goodwill balances within the broadcast segment for impairment on an annual basis and between annual tests when there are indications of impairment. The first step of our goodwill impairment test, used to identify potential impairment, compares the most recent appraised fair value of the market cluster for markets with actual operating results that exceeded the estimates used in the appraisal model to the carrying value of the market cluster, including goodwill. If the appraised fair value exceeded the carrying value, goodwill is deemed not to be impaired. For market clusters that were not appraised, we determined the implied fair value of the market cluster as a multiple of SOI as noted in our second test of the FCC license value. If the implied fair value exceeded the carrying value of the market cluster, goodwill is deemed not to be impaired. Market clusters that do not meet these two tests are subject to appraisal.
The second test of the goodwill impairment test, used to measure the impairment loss, compares either the appraised value or the implied fair value of the market cluster including goodwill to the carrying value of the market cluster including goodwill. If the carrying value exceeded these amounts, a loss is recognized in an amount equal to the excess.
The results of our impairment testing for our broadcast segment for each testing period were as follows:
There was no goodwill impairment for the testing period ended December 31, 2010. As a result of our review and valuation for the testing period ended December 31, 2009, we recognized a pre-tax impairment charge of $0.2 million associated with the value of broadcast licenses in the Detroit market. In addition, we recognized (1) pre-tax impairment charges during our September 30, 2009, interim review and valuation of $14.1 million associated with the value of broadcast licenses in the Cleveland, Atlanta, Detroit and Portland markets; and (2) pre-tax impairment charges recognized during our June 30, 2009 interim review and valuation of $12.1 million associated with the value of broadcast licenses in the Dallas and Portland markets and $0.4 million associated with the value of goodwill in the Dallas market. For the annual review and valuation for the period ended December 31, 2008, we recognized impairment charges of $73.0 million associated with the value of broadcast licenses and goodwill in the Boston, Detroit, Cleveland, Louisville, Tampa, Miami, Orlando, Sacramento, Omaha, and Nashville market clusters.
The broadcast impairments recognized during 2009 were driven in part by declining revenues at the industry and market levels, declining radio stations transaction multiples and a higher cost of capital. The impairments were indicative of a trend in the broadcast industry and were not unique to the company.
When performing impairment testing for our non-broadcast indefinite-lived intangible assets, we review the financial performance of the reporting unit against established internal benchmarks. For testing periods as of December 31, 2008 and prior, the first step of our impairment testing compared the fair value as determined from an independent third-party to the carrying value to determine the degree by which the amounts differed. We had discounted the prior period appraised fair values by 25% to 70%, adjusting our discount percentages higher each period beginning with our 2008 testing based on reduced revenues and overall market conditions. If the discounted fair value exceeded the carrying value of the indefinite-lived intangible assets, the assets were deemed not to be impaired. For our impairment reviews completed during 2009 and 2010, we did not discount the prior period appraised fair value of any reporting unit as the carrying value of the unit had already been reduced to equal the fair value. Due to the number of recent appraisals, we compared actual operating revenues as of the period end to the projected revenues used in the most recent appraisals. Reporting units with actual operating results that exceeded the projections, which were not subject to changes in other assumptions such as the weighted average cost of capital, were deemed not to be impaired.
The second step of our impairment testing process compared the carrying value of the indefinite-lived intangible assets, specifically mastheads and goodwill, for each reporting unit as of the testing date to the enterprise value. Enterprise value is defined as six times the net operating income for each reporting unit as of the trailing 12 months plus the net book value of the property, plant and equipment of the operating unit. For the annual testing periods ended December 31, 2010 and 2009, we used the actual net operating income for each reporting unit for the last twelve months. As media entities are typically sold on the basis of a multiple of projected operating income, usually in excess of eight, we believe that a benchmark of six appears conservative even in today’s market. We evaluate the multiples used in our testing based on market data available as of each testing date. If the carrying value of the intangibles is less than the enterprise value, the intangible assets are deemed not to be impaired.
For reporting units that do not meet the internal benchmarks, Bond & Pecaro, an independent third-party appraisal and valuation firm, is engaged to perform an appraisal of the indefinite-lived asset(s). Bond & Pecaro utilizes an income approach to estimate the fair value of the businesses. The income approach measures the expected economic benefits these assets bring to the holder. The fair value of the business may be expressed by discounting these future benefits. The discounted cash flow model incorporated variables such as projected revenues, operating cash flow margins, and a discount rate. The variables used reflect historical company growth trends, industry projections, and the anticipated performance of the business. The discounted cash flow projection period was determined to be ten years; which is typically the time media and technology property investors expect to recover their investments as widely used by industry analysts in their forecasts.
The key assumptions used in the Bond & Pecaro analysis to estimate the fair value of each major category of assets in our non-broadcast segment for each testing period was as follows:
We also test goodwill balances within the non-broadcast segment for impairment on an annual basis and between annual dates when there are indications of impairment. The first step of the goodwill impairment test is used to identify potential impairment; by comparing the most recent appraised fair value of the reporting unit to the carrying value of the reporting unit including goodwill. If the appraised fair value exceeds the carrying value, goodwill is deemed not to be impaired. For reporting units that were not appraised, we use the implied fair value of the reporting unit, or enterprise value, as noted in our second test of the internal review. If the implied fair value exceeds the carrying value, goodwill is deemed not to be impaired. If these criteria are not met, a second test is applied.
The second test of the goodwill impairment test, used to measure the amount of any impairment loss, compares either the appraised fair value or the implied fair value of the reporting unit including goodwill to the carrying value of the reporting unit including goodwill. If the carrying value exceeds these amounts, a loss is recognized in an amount equal to the excess. There were no impairments recognized for the annual testing period ended December 31, 2010. For the interim testing period ended June 30, 2009, we recognized an impairment charge of $1.2 million associated with the value of goodwill and mastheads in our non-broadcast segment. For the interim testing period ended September 30, 2009 and the annual testing period ended December 31, 2009, there were no impairments recognized.
The results of our impairment testing process for our non-broadcast segment for each testing period were as follows:
The economic downturn that began during 2007 negatively affected our ability to generate revenues. The discount rate assumptions used in our impairment tests are based on an assessment of the risk inherent in the future cash flows of the respective market clusters and reporting units. Cash flows and operating income for each of our reporting units is contingent upon the ability of the entity to generate revenues. Our radio stations are to varying degrees dependent upon advertising for their revenues. Our non-broadcast operating entities are also dependent upon advertising revenue. Included in our broadcast valuation estimates are a 2.5% to a 3.1% increase in revenues for 2011 as compared to 2010 followed by up to a 1.6% increase in 2012 as compared to 2011. Included in our non-broadcast valuation estimates are projected profit margins of up to 2.0% projected for 2011, increasing to 3.3% in 2012. Failure to achieve the anticipated growth rates and/or declines in excess of those amounts may result in future impairment losses, the amount of which may be material.
Income taxes and uncertain tax positions
We account for income taxes in accordance with FASB ASC Topic 740 “Income Taxes.” Upon the adoption of the provisions on January 1, 2007, we had $3.0 million in liabilities related to uncertain tax positions, including $0.9 million recognized under FASB ASC Topic 450 “Contingencies” and carried forward from prior years and $2.1 million recognized upon adoption of the tax provision changes as a reduction to retained earnings. Included in the $2.1 million accrual was $0.1 million related interest, net of federal income tax benefits. During 2009, we recognized a net increase of $0.1 million in liabilities and at December 31, 2009, had $3.8 million in liabilities for unrecognized tax benefits. Included in this liability amount were $0.1 million accrued for the related interest, net of federal income tax benefits, and $0.1 million for the related penalty recorded in income tax expense on our Consolidated Statements of Operations. During 2010, we recognized a net decrease of $0.1 million in liabilities and at December 31, 2010, had $3.7 million in liabilities for unrecognized tax benefits. Included in this liability amount were $0.1 million accrued for the related interest, net of federal income tax benefits, and $0.05 million for the related penalty recorded in income tax expense on our Consolidated Statements of Operations.
A summary of the changes in the gross amount of unrecognized tax benefits for the year ended December 31, 2010, is as follows (dollars in thousands):
Valuation allowance (deferred taxes)
For financial reporting purposes, we recorded a valuation allowance of $2.6 million as of December 31, 2010 to offset a portion of the deferred tax assets related to the state net operating loss carryforwards. Management regularly reviews our financial forecasts in an effort to determine our ability to utilize the net operating loss carryforwards for tax purposes. Accordingly, the valuation allowance is adjusted periodically based on management’s estimate of the benefit the company will receive from such carryforwards.
Fair value accounting
FASB ASC Topic 820 “Fair Value Measurements and Disclosures” established a single definition of fair value in generally accepted accounting principles and expanded disclosure requirements about fair value measurements. The provision applies to other accounting pronouncements that require or permit fair value measurements. We adopted the fair value provisions for financial assets and financial liabilities effective January 1, 2008. The adoption had a material impact on our consolidated financial position, results of operations or cash flows. We adopted fair value provisions for nonfinancial assets and nonfinancial liabilities effective January 1, 2009. This includes applying the fair value concept to (i) nonfinancial assets and liabilities initially measured at fair value in business combinations; (ii) reporting units or nonfinancial assets and liabilities measured at fair value in conjunction with goodwill impairment testing; (iii) other nonfinancial assets measured at fair value in conjunction with impairment assessments; and (iv) asset retirement obligations initially measured at fair value. The adoption of the fair value provisions of FASB ASC Topic 820 to nonfinancial assets and nonfinancial liabilities did not have a material impact on our consolidated financial position, results of operations or cash flows.
The fair value provisions include guidance on how to estimate the fair value of assets and liabilities in the current economic environment and reemphasizes that the objective of a fair value measurement remains an exit price. If we were to conclude that there has been a significant decrease in the volume and level of activity of the asset or liability in relation to normal market activities, quoted market values may not be representative of fair value and we may conclude that a change in valuation technique or the use of multiple valuation techniques may be appropriate.
The degree of judgment utilized in measuring the fair value of financial instruments generally correlates to the level of pricing observability. Pricing observability is affected by a number of factors, including the type of financial instrument, whether the financial instrument is new to the market, and the characteristics specific to the transaction. Financial instruments with readily available active quoted prices or for which fair value can be measured from actively quoted prices generally will have a higher degree of pricing observability and a lesser degree of judgment utilized in measuring fair value. Conversely, financial instruments rarely traded or not quoted will generally have less (or no) pricing observability and a higher degree of judgment utilized in measuring fair value.
FASB ASC Topic 820 established a hierarchal disclosure framework associated with the level of pricing observability utilized in measuring fair value. This framework defined three levels of inputs to the fair value measurement process and requires that each fair value measurement be assigned to a level corresponding to the lowest level input that is significant to the fair value measurement in its entirety. The three broad levels of inputs defined by the FASB ASC Topic 820 hierarchy are as follows:
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Level 1 Inputs-quoted prices (unadjusted) in active markets for identical assets or liabilities that the reporting entity has the ability to access at the measurement date;
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Level 2 Inputs-inputs other than quoted prices included within Level 1 that are observable for the asset or liability, either directly or indirectly. If the asset or liability has a specified (contractual) term, a Level 2 input must be observable for substantially the full term of the asset or liability; and
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Level 3 Inputs-unobservable inputs for the asset or liability. These unobservable inputs reflect the entity’s own assumptions about the assumptions that market participants would use in pricing the asset or liability, and are developed based on the best information available in the circumstances (which might include the reporting entity’s own data).
As a result of the adoption of the fair value provisions, we modified the assumptions used in measuring the fair value of our derivative positions. Specifically, we now include the impact of our own credit risk on derivative liabilities measured at fair value as defined. Counterparty credit-risk adjustments are applied to derivatives, such as over-the-counter derivatives, where the base valuation uses market parameters based on LIBOR interest rate curves. Not all counterparties have the same credit risk as that implied by the relevant LIBOR curve, so it is necessary to consider the market value of the credit risk of the counterparty in order to estimate the fair value of such an item. Bilateral or “own” credit risk adjustments are applied to our own credit risk when valuing derivatives measured at fair value. Credit adjustments consider the estimated future cash flows between the company and its counterparties under the terms of the instruments and affect the credit risk on the valuation of those cash flows, rather than a point-in-time assessment of the current recognized net asset or liability.
The fair value of our liabilities is impacted by our credit ratings as established by agencies such as Moody’s Investor Services (“Moody’s) and Standard & Poor’s (“S&P”). The estimated change in the fair value of these liabilities, including the credit risk and all other market variables, was a gain of $1.5 million for the period ended December 31, 2009. We settled our outstanding swap transactions on December 1, 2009 when we terminated our then existing bank credit facilities, resulting in a loss of $2.3 million. The loss represents the difference in the discounted value as estimated in accordance with FASB ASC Topic 820 and the actual amount the bank was willing to accept in an arms-length transaction.
As of December 31, 2010, each major category of assets measured at fair value on a non-recurring basis are categorized as follows:
Long-term debt and debt covenant compliance
Our classification of borrowings under our Revolver as long-term debt on our balance sheet is based on our assessment that, under the terms of our Credit Agreement and after considering our projected operating results and cash flows for the coming year, no principal payments are required to be made. These projections are estimates dependent upon a number of factors including developments in the markets in which we are operating in and economic and political factors, among other factors. Accordingly, these projections are inherently uncertain and our actual results could differ from these estimates.
Stock-Based compensation
We have one stock option plan, The Amended and Restated 1999 Stock Incentive Plan, (the “Plan”) under which stock options and restricted stock awards are granted to employees, directors, officers and advisors of the company. A maximum of 3,100,000 shares are authorized under the Plan, of which 1,151,998 are outstanding and 560,151 are exercisable as of December 31, 2010.
We account for stock-based compensation under the provisions of FASB ASC Topic 718 “Compensation-Stock Compensation.” We record equity awards under the fair value method with share-based compensation measured at the fair value of the award as of the grant date. The exercise price for options is equal to the closing market price of Salem Communications common stock on the date of grant. We use the straight-line attribution method to recognize share-based compensation costs over the service period of the award. Upon exercise, cancellation, forfeiture, or expiration of stock options, or upon vesting or forfeiture of restricted stock awards, deferred tax assets for options and restricted stock awards with multiple vesting dates are eliminated for each vesting period on a first-in, first-out basis as if each vesting period was a separate award.
Recent Accounting Pronouncements
In February 2010, the FASB issued Accounting Standards Update (ASU) No. 2010-09, “Amendments to Certain Recognition and Disclosure Requirements” (“ASU No. 2010-09”), which is included in the FASB Accounting Standards Codification (the "ASC") Topic 855 (Subsequent Events). ASU No. 2010-09 clarifies that an SEC filer is required to evaluate subsequent events through the date that the financial statements are issued. ASU No. 2010-09 is effective upon the issuance of the final update and had no impact on our financial position, results of operations or cash flows.
In December 2009, the FASB issued ASU No. 2009-17, “Improvements to Financial Reporting by Enterprises Involved with Variable Interest Entities” (“ASU No. 2009-17”), which replaced the quantitative-based risks and rewards calculation for determining which reporting entity, if any, has a controlling financial interest in a variable interest entity (“VIE”) with a primarily qualitative analysis. The qualitative analysis is based on identifying the party that has both the power to direct the activities that most significantly impact the VIE’s economic performance (the “power criterion”) and the obligation to absorb losses from or the right to receive benefits of the VIE that could potentially be significant to the VIE (the “losses/benefit criterion”). The party that meets both these criteria is deemed to have a controlling financial interest. The party with the controlling financial interest is considered to be the primary beneficiary and as a result is required to consolidate the VIE. ASU No. 2009-17 had no impact on our financial position, results of operations or cash flows.
In January 2010, the FASB issued ASU No. 2010-06, “ Improving Disclosures about Fair Value Measurements ” (“ASU No. 2010-06”), which provides amendments to the FASB ASC Subtopic 820-10 that require new disclosures regarding (i) transfers in and out of Level 1 and Level 2 fair value measurements and (ii) activity in Level 3 fair value measurements. ASU No. 2010-06 also clarifies existing disclosures regarding (i) the level of asset and liability disaggregation and (ii) fair value measurement inputs and valuation techniques. The new disclosures and clarifications of existing disclosures are effective for interim and annual reporting periods beginning after December 15, 2009, except for the disclosures about purchases, sales, issuances, and settlements in the roll forward of activity in Level 3 fair value measurements. Those disclosures are effective for fiscal years beginning after December 15, 2010, and for interim periods within those fiscal years. We are currently evaluating the disclosure impact of adoption on our consolidated financial statements.
In October 2009, the FASB issued ASU No. 2009-13, “Multiple-Deliverable Revenue Arrangements” (“ASU No. 2009-13”). ASU No. 2009-13 provides guidance for arrangements with multiple deliverables. Specifically, the updated accounting standard requires an entity to allocate arrangement consideration at the inception of an arrangement to all of its deliverables based on their relative selling prices. ASU No. 2009-13 also eliminates the residual method of allocation and requires use of the relative-selling-price method in all circumstances in which an entity recognizes revenue for an arrangement with multiple deliverables. ASU No. 2009-13 is effective as of January 2011 with early adoption permitted. The adoption of ASU No. 2009-13 did not have a material impact on our financial position, results of operations or cash flows.
LIQUIDITY AND CAPITAL RESOURCES
We have historically financed acquisitions through borrowings, including borrowings under credit facilities and, to a lesser extent, from operating cash flow and selected asset dispositions. We currently expect to fund any future acquisitions from cash on hand, proceeds from debt and equity offerings, borrowings under our credit facility, operating cash flow and possibly through the sale of income-producing assets. We have historically funded, and will continue to fund, expenditures for operations, administrative expenses, capital expenditures and debt service required by our credit facilities and the notes from operating cash flow, borrowings under the Revolver and, if necessary, proceeds from the sale of selected assets or radio stations.
Cash Flows
Cash and cash equivalents decreased $8.1 million to $0.8 million as of December 31, 2010 compared to $8.9 million as of the same period of the prior year. Working capital decreased $6.7 million to $17.4 million as of December 31, 2010, compared to $24.1 million for the same period of the prior year.
The following events impacted our liquidity and capital resources during the year ended December 31, 2010:
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Our net income from continuing operations increased $10.2 million to $1.9 million from a loss of $8.3 million for the prior year;
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Consolidated net receivables increased $2.4 million to $30.0 million from $27.6 million as of the prior year;
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Capital expenditures increased $4.1 million to $7.8 million from $3.7 million for the prior year;
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Cash paid for acquisitions increased $4.7 million to $8.4 million from $3.7 million for the prior year;
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A special cash distribution of $0.20 per share on our outstanding Class A Common Stock was paid on December 13, 2010 in the amount of $4.8 million;
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We redeemed $30.0 million of total principal on the 95/8% notes at a price equal to 103% of face value, or $30.9 million in cash; and
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We increased the outstanding balance on our Revolver by $20.0 million, to $35.0 million as of December 31, 2010 compared to $15.0 million as of the same period of the prior year.
Credit Facilities
The Revolver and the 95/8% Notes have been entered into by Salem Communications Corporation. Our parent company, Salem Communications Corporation has no independent assets or operations. All of the subsidiaries of Salem Communications Corporation are currently guarantors of the Revolver and the 95/8% Notes. The guarantees are full and unconditional and joint and several, and any subsidiaries of the parent company other than the subsidiary guarantors are minor.
Senior Credit Facility
On December 1, 2009, our parent company, Salem Communications Corporation entered into the Revolver. We amended the Revolver on November 1, 2010 to increase the capacity from $30 million to $40 million. The amendment allowed us to use borrowings under the Revolver, subject to the “Available Amount” as defined by the terms of the Credit Agreement, to redeem applicable portions of the 95/8% Notes. The calculation of the “Available Amount” also pertains to the payment of dividends when the leverage ratio is above 5.0 to 1. We believe that the Revolver will allow us to meet our ongoing operating requirements, fund capital expenditures, and satisfy our debt service requirements. The Revolver is a three-year credit facility, which includes a $5 million subfacility for standby letters of credit and a subfacility for swingline loans of up to $5 million, subject to the terms and conditions of the Credit Agreement relating to the Revolver. Amounts outstanding under the Revolver bear interest at a rate based on LIBOR plus a spread of 3.50% per annum or at the Base Rate (as defined in the Credit Agreement) plus a spread of 2.50% per annum, at our option as of the date of determination. Additionally, we pay a commitment fee on the unused balance of 0.75% per year. If an event of default occurs, the interest rate may increase by 2.00% per annum. Amounts outstanding under the Revolver may be paid and then reborrowed at Salem’s discretion without penalty or premium. At December 31, 2010, the blended interest rate on amounts outstanding under the Revolver was 3.76%.
During the year ended December 31, 2010, the amounts outstanding on our Revolver ranged from zero to $37.0 million. Cash flows from operations during the first quarter of 2010 were used to pay down the Revolver balance to $2.0 million as of March 31, 2010. The Revolver balance was paid in full as of April 4, 2010. During the second quarter of 2010, we increased the Revolver balance to $26.0 million, inclusive of the $2.0 million repayment, to fund our acquisition of GodTube.com for $2.5 million on June 8, 2010 and to redeem $17.5 million of principal on our 95/8% Notes for $18.0 million on June 1, 2010, as well as our bond interest payment on June 15, 2010 of $14.7 million. During the third quarter of 2010, we used cash flows from operations of $11.5 million to reduce the balance outstanding on the Revolver to $17.5 million at September 30, 2010. During this quarter we used $3.0 million of borrowings to fund our acquisition of WWRC-AM for $3.1 million on August 3, 2010 and Samaritan Funding for $0.6 million on September 1, 2010. The Revolver balance increased by $17.5 million, inclusive of $7.5 million in repayments, during the fourth quarter of 2010 due to the redemption of $12.5 million of principal on our 95/8% Notes for $12.9 million on December 1, 2010, the cash distribution of $4.8 million on December 6, 2010, and the bond interest payment of $13.0 million on December 15, 2010.
With respect to financial covenants, the Credit Agreement includes a maximum leverage ratio of 7.0 to 1.0 and a minimum interest coverage ratio of 1.5 to 1. The Credit Agreement also includes other negative covenants that are customary for credit facilities of this type, including covenants that, subject to exceptions described in the Credit Agreement, restrict the ability of Salem and the guarantors (i) to incur additional indebtedness; (ii) to make investments; (iii) to make distributions, loans or transfers of assets; (iv) to enter into, create, incur, assume or suffer to exist any liens; (v) to sell assets; (vi) to enter into transactions with affiliates; (vii) to merge or consolidate with, or dispose of all or substantially all assets to, a third party; (viii) to prepay indebtedness; and (ix) to pay dividends. As of December 31, 2010, our leverage ratio was 5.76 to 1 and our interest coverage ratio was 1.76 to 1. We were and remain compliant with our debt covenants.
Senior Secured Second Lien Notes
On December 1, 2009, we issued $300.0 million principal amount of the 95/8% Notes at a discount for $298.1 million resulting in an effective yield of 9.75%. Interest is due and payable on June 15 and December 15 of each year, commencing June 15, 2010 until maturity. We are not required to make principal payments on the 95/8% Notes that are due in full in December 2016. The 95/8% Notes are guaranteed by all of our existing domestic restricted subsidiaries. We are required to pay $28.9 million per year in interest on the 95/8% Notes. As of December 31, 2009 and 2010, accrued interest on 95/8% Notes was $2.4 million and $1.2 million, respectively. The discount is being amortized to interest expense over the term of the 95/8% Notes based on the effective interest method. During the year ended December 31, 2009 and 2010, approximately $16,000 and $0.2 million of the discount has been recognized as interest expense.
On June 1, 2010, we redeemed $17.5 million of the 95/8% Notes for $18.0 million, or at a price equal to 103% of the face value. This transaction resulted in a $1.1 million pre-tax loss on the early retirement of debt which includes $0.1 million of unamortized discount and $0.4 million of bond issues costs associated with the 95/8% Notes.
On December 1, 2010, we redeemed $12.5 million of the 95/8% Notes for $12.9 million, or at a price equal to 103% of the face value. This transaction resulted in a $0.8 million pre-tax loss on the early retirement of debt, including $0.1 million of unamortized discount and $0.3 million of bond issues costs associated with the 95/8% Notes.
The carrying value of the 95/8% Notes is $298.1 million and $268.5 million as of December 31, 2009 and 2010.
Prior Credit Facility
Our wholly-owned subsidiary, Salem Communications Holding Corporation (“Salem Holding”), was the borrower under our prior credit facilities. The prior credit facilities included commitments of $75.0 million senior secured reducing revolving credit facility (“revolving credit facility”), a $75.0 million term loan B facility (“Term Loan B”) and a $165.0 million term loan C facility (“Term Loan C”). On December 1, 2009, we used the proceeds of the 95/8% Notes, a portion of the Revolver, and approximately $27 million of cash on hand to fully repay amounts outstanding under the Term Loan B of $71.2 million, the Term Loan C of $160.0 million, and to fully repay all outstanding aggregate principal of $89.7 million on the 7 ¾% Notes. We recorded a loss of $1.7 million which included $1.1 million of unamortized bank loan fees on the prior credit facility, $0.1 million of unamortized bond issue costs on the 7 ¾% Notes and $0.4 million of legal and dealer fees associated with the calling of the 7 ¾% Notes and prior credit facility.
Swingline Credit Facility
On June 1, 2005, we entered into an agreement for a swingline credit facility (“Swingline”) with a borrowing capacity of $5.0 million. The agreement was most recently amended on June 1, 2009 and had a borrowing capacity of $4.3 million. The interest rate was the bank’s prime rate plus 0.75% per annum. As collateral for the Swingline, we pledged our corporate office building. We terminated the Swingline as of December 1, 2009.
73/4% Notes
In December 2002, Salem Holding issued $100.0 million principal amount of 73/4% Notes. The indenture for the 73/4% Notes contained restrictive covenants that, among other things, limited the incurrence of debt by Salem Holding and its subsidiaries, the payment of dividends, the use of proceeds of specified asset sales and transactions with affiliates. Through the use of an unrestricted subsidiary, we repurchased $9.4 million of our 73/4% Notes for $4.7 million in December 2008. This transaction resulted in a $4.7 million pre-tax gain on the early retirement of debt. Through the use of an unrestricted subsidiary, we repurchased $1.0 million of our 73/4% Notes for $0.3 million in April 2009. This transaction resulted in a $0.7 million pre-tax gain on the early retirement of debt. As of September 30, 2009, there was $89.7 million aggregate principal amount of the 73 /4% Notes outstanding. Based on this principal amount, Salem Holding was required to pay $7.0 million per year in interest on the 73/4% Notes. As of December 1, 2009, we used the net proceeds from the offering of the 95/8% Notes, borrowings under the Revolver, and approximately $27 million of cash on hand to fund the payment of consideration and certain costs relating to the early settlement of the Tender Offer and consent solicitation with respect to the outstanding $89.7 million in aggregate principal amount of the 73/4% Notes. Accrued interest on the tendered 73/4% Notes was also paid. Since all outstanding 73/4% Notes were tendered, accepted for payment and cancelled, the indenture relating to the 73/4% Notes was discharged.
Summary of long-term debt obligations
Long-term debt consisted of the following at the balance sheet date indicated:
In addition to the amounts listed above, we also have interest payments related to our long-term debt as follows as of December 31, 2010:
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Outstanding borrowings of $35.0 million under the Revolver, with interest payments equal to LIBOR plus 3.50% or at prime rate plus 2.50%;
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$270.0 million 95/8% Notes with semi-annual interest payments at an annual rate of 95/8%; and
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Commitment fee of 0.75% on the unused portion of the Revolver.
Impairment Losses on Goodwill and Indefinite-Lived Intangible Assets
In prior years, we incurred significant impairment losses with regard to our broadcast indefinite-lived intangible assets. These losses are attributable to estimated increases in the weighted-average cost of capital, a decline in the estimated terminal or exit values assigned to broadcast licenses because of industry wide declines in radio station transaction multiples, decreases in projected future cash flows, and a significant decline in projected revenues as of the impairment dates as compared to prior periods.
In prior years, we also incurred significant impairment losses with regard to our non-broadcast indefinite-lived intangible assets. These losses are attributable to an increase in the weighted average cost of capital, a decline in the estimated terminal or exit values assigned to the assets because of industry wide declines in the total number of magazines sold, a decrease in projected future cash flows, and a significant decline in projected profit margins.
Cash flows and operating income for each of our reporting units is contingent upon the ability of the entity to generate revenues. Our radio stations are to varying degrees dependent upon advertising for their revenues. Our non-broadcast operating entities are also dependent upon advertising revenue. The economic downturn that began during 2007 negatively impacted our ability to generate revenues. Included in the broadcast valuation estimates prepared by Bond & Pecaro on a market participant basis for the testing period ended December 31, 2010, are increases in revenue of 2.5% to 3.1% for 2011 as compared to 2010 followed by increases of 0.25% to 1.6% in 2012 as compared to 2011. Included in the non-broadcast valuation estimates prepared by Bond & Pecaro on a market participant basis are projected profit margins of 2.0% for 2011. Failure to achieve these anticipated growth rates may result in future impairment losses, the amount of which may be material.
Given the current economic environment and uncertainties surrounding the potential negative impact on our business, there can be no assurance that our estimates and assumptions regarding the duration of the economic downturn, or the period and strength of recovery, made for the purpose of our indefinite-lived intangible fair value estimates will prove to be accurate. Using market indicators from several industry analysts, our valuation estimates prepared by Bond & Pecaro on a market participant basis anticipate revenues to show improvements of between 2.5% to 3.1% for the year ended December 31, 2011 as compared to the year ended December 31, 2010.
The valuation of intangible assets is subjective and based on estimates rather than precise calculations. If actual future results are not consistent with the assumptions and estimates used, we may be exposed to impairment charges in the future, the amount of which may be material. The fair value measurements for our indefinite-lived intangible assets use significant unobservable inputs that reflect our own assumptions about the estimates that market participants would use in measuring fair value including assumptions about risk. If actual future results are not consistent with the assumptions and estimates used, we may be exposed to impairment charges in the future, the amount of which may be material. Discount rate assumptions are based on an assessment of the risk inherent in the future cash flows of the respective market clusters and reporting units.
The impairment charges that have been recognized were non-cash in nature and did not result in a violation of our then existing credit facilities or Revolver. However, the potential of future impairment charges can be viewed as a negative factor with regard to forecasted future performance and cash flows. We believe that we have adequately considered the economic downturn in our valuation models and do not believe that the impairments in and of themselves are a liquidity risk.
OFF-BALANCE SHEET ARRANGEMENTS
At December 31, 2009 and 2010, Salem did not have any relationships with unconsolidated entities or financial partnerships, such as entities often referred to as structured finance or special purpose entities, which would have been established for the purpose of facilitating off-balance sheet arrangements or other contractually narrow or limited purposes. As such, Salem is not materially exposed to any financing, liquidity, market or credit risk that could arise if Salem had engaged in such relationships.
CONTRACTUAL OBLIGATIONS
The following table summarizes our aggregate contractual obligations at December 31, 2010, and the estimated timing and effect that such obligations are expected to have on our liquidity and cash flow in future periods.
(1)
Interest payments on long-term debt are based on the outstanding debt and respective interest rates with interest rates on variable-rate debt held constant through maturity at the December 31, 2010 rates. Interest ultimately paid on these obligations may differ based on changes in interest rates for variable-rate debt, as well as any potential repayments or future refinancing. See Note 6 to the accompanying consolidated financial statements for further details.
ITEM 7A.
ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK.
DERIVATIVE INSTRUMENTS
We are exposed to fluctuations in interest rates. We actively monitor these fluctuations and use derivative instruments from time to time to manage the related risk. In accordance with our risk management strategy, we use derivative instruments only for the purpose of managing risk associated with an asset, liability, committed transaction, or probable forecasted transaction that is identified by management. Our use of derivative instruments may result in short-term gains or losses that may increase the volatility of our earnings.
Under FASB ASC Topic 815 “Derivatives and Hedging” the effective portion of the gain or loss on a derivative instrument designated and qualifying as a cash flow hedging instrument shall be reported as a component of other comprehensive income (outside earnings) and reclassified into earnings in the same period or periods during which the hedged forecasted transaction affects earnings. The remaining gain or loss on the derivative instrument, if any, shall be recognized currently in earnings.
On April 8, 2005, we entered into an interest rate swap arrangement for the notional principal amount of $30.0 million whereby we were to pay a fixed interest rate of 4.99% as compared to LIBOR on our then outstanding bank credit facility borrowing. Interest expense for year ended December 31, 2009, was approximately $0.9 million based on the difference between the interest rates. The swap was settled on December 1, 2009 for $3.1 million when the underlying bank credit facility was terminated. The ineffective portion of this swap reported in current period expenses was a $0.6 million gain and upon termination of the swap, we recognized a $0.8 million loss. Effective on October 1, 2008, we had elected a one-month reset on our Term Loan C rather than the three-month reset period. As this interest rate swap agreement contained a three-month reset period, the swap was no longer effective and no longer qualified as a cash flow hedge. Changes in the fair value of this swap after October 1, 2008 were reported in current period income rather than deferred in other comprehensive income. An additional $0.3 million of accumulated other comprehensive loss was reclassified into interest expense as of December 1, 2009 in order to recognize the impact over the same period in which the hedged
transaction affected earnings. On December 1, 2009, the remaining $1.0 million in accumulated other comprehensive losses was reclassified into interest expense.
On April 26, 2005, we entered into an interest rate swap arrangement for the notional principal amount of $30.0 million whereby we were to pay a fixed interest rate of 4.70% as compared to LIBOR on our then outstanding bank credit facility borrowing. Interest expense for year ended December 31, 2009, was approximately $0.8 million based on the difference between the interest rates. The swap was settled on December 1, 2009 for $2.9 million when the underlying bank credit facility was terminated. The ineffective portion of this swap reported in current period expenses was a $0.5 million gain and upon termination of the swap, we recognized a $0.8 million loss. Effective on October 1, 2008, we had elected a one-month reset on our Term Loan C rather than the three-month reset period. As this interest rate swap agreement contained a three-month reset period, the swap was no longer effective and no longer qualified as a cash flow hedge. Changes in the fair value of this swap after October 1, 2008 were reported in current period income rather than deferred in other comprehensive income. An additional $0.3 million of accumulated other comprehensive loss was reclassified into interest expense as of December 1, 2009 in order to recognize the impact over the same period in which the hedged transaction affected earnings. On December 1, 2009, the remaining $0.7 million in accumulated other comprehensive losses was reclassified into interest expense.
On May 5, 2005, we entered into a third interest rate swap arrangement for the notional principal amount of $30.0 million whereby we were to pay a fixed interest rate of 4.53% as compared to LIBOR on then outstanding bank credit facility borrowing. Interest expense for year ended December 31, 2009, was approximately $0.8 million based on the difference between the interest rates. The swap was settled on December 1, 2009 for $2.7 million when the underlying bank credit facility was terminated. The ineffective portion of this swap reported in current period expenses was a $0.5 million gain and upon termination of the swap, we recognized a $0.7 million loss. Effective on October 1, 2008, we had elected a one-month reset on our Term Loan C rather than the three-month reset period. As this interest rate swap agreement contained a three-month reset period, the swap was no longer effective and no longer qualified as a cash flow hedge. Changes in the fair value of this swap after October 1, 2008 were reported in current period income rather than deferred in other comprehensive income. An additional $0.2 million of accumulated other comprehensive loss was reclassified into interest expense as of December 1, 2009 in order to recognize the impact over the same period in which the hedged transaction affected earnings. On December 1, 2009, the remaining $0.6 million in accumulated other comprehensive losses was reclassified into interest expense.
ITEM 8.
ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA.
REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM
To the Board of Directors and Stockholders
Salem Communications Corporation
We have audited the accompanying consolidated balance sheets of Salem Communications Corporation and subsidiaries (collectively, the “Company”) as of December 31, 2010 and 2009, and the related consolidated statements of operations, stockholders' equity and cash flows for each of the three years in the period ended December 31, 2010. Our audits also included the financial statement schedule of the Company listed in Item 15(a). 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 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. The Company is not required to have, nor were we engaged to perform, an audit of its internal control over financial reporting. Our audit included consideration of internal control over financial reporting as a basis for designing audit procedures that are appropriate in the circumstances, but not for the purpose of expressing an opinion on the effectiveness of the Company’s internal control over financial reporting. Accordingly, we express no such opinion. An audit also includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements, 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, the consolidated financial statements referred to above present fairly, in all material respects, the financial position of Salem Communications Corporation and subsidiaries as of December 31, 2010 and 2009, and the results of their operations and their cash flows for each of the three years in the period ended December 31, 2010 in conformity with US generally accepted accounting principles. Also, in our opinion, the related 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.
SingerLewak LLP
Los Angeles, California
March 11, 2011
SALEM COMMUNICATIONS CORPORATION
CONSOLIDATED STATEMENTS OF OPERATIONS
(Dollars in thousands, except share and per share data)
See accompanying notes
SALEM COMMUNICATIONS CORPORATION
CONSOLIDATED STATEMENTS OF OPERATIONS (CONTINUED)
(Dollars in thousands, except share and per share data)
See accompanying notes
SALEM COMMUNICATIONS CORPORATION
CONSOLIDATED STATEMENTS OF STOCKHOLDERS’ EQUITY
(Dollars in thousands, except share data)
SALEM COMMUNICATIONS CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE 1. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
Basis of Presentation
The accompanying consolidated financial statements of Salem Communications Corporation (“Salem” "We" or the “company”) include the company and its wholly-owned subsidiaries. All significant intercompany balances and transactions have been eliminated.
The company is a holding company with substantially no assets, operations or cash flows other than its investments in subsidiaries. The company, excluding its subsidiaries, is herein referred to as Parent. In May 2000, the company formed Salem Communications Holding Corporation (“Salem Holding”), a Delaware corporation with substantially no assets, operations or cash flows other than its investments in subsidiaries. Salem Holding was the issuer of the 7¾% Senior Subordinated Notes due 2010 (“7¾% Notes”) discussed in Note 6. The Guarantors (i) are wholly-owned subsidiaries of the company, (ii) comprise substantially all the company’s direct and indirect subsidiaries and (iii) have fully and unconditionally guaranteed on a joint and several basis and the 7¾% Notes. On June 30, 2008, the company completed a reorganization of certain legal entities. Under this reorganization, Salem Holding now owns all operating assets of the company other than CCM Communications, Inc. The operating assets of CCM Communications, Inc. remain owned by Salem Holding. The reorganization did not impact the Consolidated Balance Sheets and Consolidated Statements of Operations.
On December 12, 2008, the company formed Salem Investment Corporation (“SIC”), a wholly-owned subsidiary of Salem Communications Corporation. SIC issued a promissory note to Salem Holding in the amount of $4.75 million. On December 18, 2008, SIC purchased $9.4 million of Salem Holding’s 7 ¾% Notes (“Notes”) at a 50% discount from a group of Note holders. Salem Holding agreed to cancel the outstanding promissory note in exchange for the cancellation by SIC of the 7 ¾% Notes. On a consolidated basis, the transaction resulted in a $4.7 million pre-tax gain on the early retirement of debt. On April 7, 2009, SIC issued a promissory note to Salem Holding in the amount of $0.3 million. On April 9, 2009, SIC purchased $1.0 million of Salem Holding’s 7¾% Notes for $0.3 million. Salem Holding agreed to cancel the outstanding promissory note in exchange for the cancellation by SIC of the 7 ¾% Notes. On a consolidated basis, the transaction resulted in a $0.7 million pre-tax gain on the early retirement of debt.
Description of Business
Salem is a domestic commercial radio broadcasting company that provides programming targeting audiences interested in Christian and family-themed content. Our core business is the ownership and operation of radio stations in large metropolitan markets. Upon the close of all announced transactions, we will own and/or operate 95 radio stations across the United States. We also own and operate Salem Radio Network® (“SRN”), SRN News Network (“SNN”), Salem Music Network (“SMN”), Reach Satellite Network (“RSN”), Salem Media Representatives (“SMR”) and Vista Media Representatives (“VMR”). SRN, SNN, SMN and RSN are radio networks that produce and distribute talk, news and music programming to numerous radio stations in the U.S., including some of our own stations. SMR and VMR sell commercial air time to national advertisers for Salem’s radio stations and networks, as well as for independent radio station affiliates.
In addition to our radio broadcast business, we also own and operate a non-broadcast media division. This division consists of Salem Web Network (“SWN”), a provider of online Christian and conservative-themed content in addition to audio and video streaming, Salem Publishing™, a publisher of Christian magazines and Xulon Press™, a provider of print-on-demand publishing services targeting the Christian audience. SWN’s content, both in text and audio, can be accessed through our national portals that include OnePlace.com, Crosswalk.com®, Christianity.com, GodTube.com and Townhall.com®. SWN’s content can also be accessed through our local radio station websites, which provide content of interest to local listeners. We also own and operate Salem Consumer Products, an online site providing books, DVD’s and editorial content. The revenue and related operating expenses of these businesses are reported as “non-broadcast” on our Consolidated Statements of Operations.
Cash and Cash Equivalents
We consider all highly liquid debt instruments, purchased with an initial maturity of three-months or less, to be cash equivalents. The carrying value of our cash equivalents approximated fair value at each balance sheet date.
Restricted Cash
Restricted cash includes amounts that are contractually restricted in connection with a security agreement between the company and Traveler’s Insurance.
Allowance for Doubtful Accounts
We maintain allowances for doubtful accounts for estimated losses resulting from the inability of our customers to make required payments. An analysis is performed by applying various percentages based on the age of the receivable and other subjective and historical analysis. A considerable amount of judgment is required in assessing the likelihood of ultimate realization of these receivables including the current creditworthiness of each customer. If the financial condition of our customers were to deteriorate, resulting in an impairment of their ability to make payments, additional allowances may be required.
Revenue Recognition
Revenues are recognized when pervasive evidence of an arrangement exists, delivery has occurred or the service has been rendered, the price to the customer is fixed or determinable and collection of the arrangement fee is reasonably assured.
Revenues from radio programs and commercial advertising are recognized when the program or advertisement is broadcast. Revenue is reported net of agency commissions, which are calculated based on a stated percentage applied to gross billing. Our customers principally include not-for-profit charitable organizations and commercial advertisers. Revenue from the sale of products and services from our non-broadcast businesses are recognized when the products are shipped and the services are rendered. Revenues from the sale of advertising in our magazines are recognized upon publication. Revenue from the sale of subscriptions to our publications are recognized over the life of the subscription. Revenue from book sales are recorded when shipment occurs.
Advertising by the radio stations exchanged for goods and services is recorded as the advertising is broadcast and is valued at the estimated value of goods or services received or to be received. The value of the goods and services received in such barter transactions is charged to expense when used. Barter advertising revenue included in broadcast revenue for the years ended December 31, 2008, 2009 and 2010 was approximately $4.9 million, $5.0 million and $4.6 million, respectively, and barter expenses were approximately the same as barter revenue for each period. We record broadcast advertising provided in exchange for goods and services as broadcast revenue and the goods or services received in exchange for such advertising as broadcast operating expenses.
Multiple-Deliverables
We may enter bundled advertising agreements that include spot advertisements on our radio stations, Internet banner placements, print magazine advertisements and booth space at specific events or some combination thereof. The multiple deliverables contained in each agreement are accounted for separately over their respective delivery period provided that they are separate units of accounting. The selling price used for each deliverable is based on vendor specific objective evidence if available or estimated selling price if vendor specific objective evidence is not available. Objective evidence of fair value includes the price charged for each element when it is sold separately. The estimated selling price is the price that we would transact if the deliverable were sold regularly on a standalone basis. Arrangement consideration is allocated at the inception of each arrangement to all deliverables using the relative selling price method. The relative selling price method allocates any discount in the arrangement proportionally to each deliverable on the basis of each deliverable’s selling price. The adoption of ASU No. 2009-13 did not change the units of accounting, how we allocate consideration to various units of accounting, or the timing of revenue recognition.
Accounting for Stock-Based Compensation
The company has one employee stock compensation plan, described more fully in “Note 11. Stock Option Plan.” We account for stock-based compensation in accordance with the provisions of Financial Accounting Standards Board (“FASB”) Accounting Standards Codification (“ASC”) Topic 718 “Compensation-Stock Compensation.” We record equity awards under the fair value method with share-based compensation measured at the fair value of the award as of the grant date. The exercise price for options is equal to the closing market price of Salem Communications common stock on the date of grant.
We use the straight-line attribution method to recognize share-based compensation costs over the service period of the award. Upon exercise, cancellation, forfeiture, or expiration of stock options, or upon vesting or forfeiture of restricted stock awards, deferred tax assets for options and restricted stock awards with multiple vesting dates are eliminated for each vesting period on a first-in, first-
out basis as if each vesting period was a separate award. To calculate the excess tax benefits available as of the date of adoption for use in offsetting future tax shortfalls, we followed the alternative transition method discussed in the FASB ASC Topic 718.
Accounting for Acquisitions and Upgrades of Radio Station and Network Assets
A majority of our radio station acquisitions have consisted primarily of the FCC licenses to broadcast in a particular market. We often do not acquire the existing format, or we change the format upon acquisition when we find it beneficial. As a result, a substantial portion of the purchase price for the assets of a radio station is allocated to the broadcast license. It is our policy generally to retain third-party appraisers to value radio stations, networks or non-broadcast properties. The allocations assigned to acquired broadcast licenses and other assets are subjective by their nature and require our careful consideration and judgment. We believe the allocations represent appropriate estimates of the fair value of the assets acquired. As part of the valuation and appraisal process, the third-party appraisers prepare reports that assign values to the various asset categories in our financial statements. Our management reviews these reports and determines the reasonableness of the assigned values used to record the acquisition of the radio station, network or non-broadcast properties at the close of the transaction.
We undertake projects from time to time to upgrade our radio station technical facilities and/or FCC broadcast licenses. Our policy is to capitalize costs incurred up to the point where the project is complete, at which time we transfer the costs to the appropriate fixed asset and/or intangible asset categories. When the completion of a project is contingent upon FCC or other regulatory approval, we assess the probable future benefit of the asset at the time that it is recorded and monitor it through the FCC or other regulatory approval process. In the event the required approval is not considered probable or the project is abandoned, we write-off the capitalized costs of the project.
Accounting for Discontinued Operations
We regularly review underperforming stations, particularly those in non-strategic formats, to determine if a sale might be a better way to monetize the station assets. When a station or group of stations is considered for sale, we review the transaction to determine if or when the entity qualifies as a discontinued operation in accordance with the criteria of FASB ASC Subtopic. 205-20, “Discontinued Operations.” This pronouncement specifies that the operations and cash flow of the entity disposed of (to be sold) have or will be eliminated from the ongoing operations as a result of the disposal and that we will not have significant continuing involvement in the operations after the disposal transaction. We define a cluster as a group of radio stations operating in the same geographic market, sharing the same building and equipment and being managed by a single general manager. General Managers are compensated based on the results of their cluster as a whole, not the results of any individual radio stations. Therefore, we have determined that an entity qualifies for a discontinued operation when management, having the authority to approve the action, commits to a plan to sell the asset (disposal group), the sale is probable, and the sale will result in the exit of a particular geographic market. The markets and entities that we have accounted for as a discontinued operation are explained in more fully in “Note 3 - Significant Transactions.”
Accounting for Property, Plant and Equipment
Property, plant and equipment are recorded at cost less accumulated depreciation. Cost represents the historical cost of acquiring the asset, including the costs necessarily incurred to bring it to the condition and location necessary for its intended use. For assets constructed for our own use, such as towers and building that are discrete projects for which costs are separately accumulated and for which construction takes considerable time, we record capitalized interest. The amount capitalized is the cost that could have been avoided had the asset not been constructed and is based on the average accumulated expenditures incurred over the capitalization period at the weighted average rate applicable to our outstanding variable rate debt. We capitalized interest of $45,000 and $26,000 during the years ended December 31, 2009 and 2010, respectively. Repair and maintenance costs are charged to expense as incurred. Capital improvements are capitalized when they extend the life of the asset or enhance the quality or ability of the asset to benefit operations. Depreciation is computed using the straight-line method over estimated useful lives as follows:
The carrying value of property, plant and equipment is evaluated periodically in relation to the operating performance and anticipated future cash flows of the underlying radio stations and businesses for indicators of impairment. When indicators of impairment are present and the cash flows estimated to be generated from these assets is less than the carrying value of these assets, an adjustment to reduce the carrying value to the fair market value of the assets is recorded, if necessary. No adjustments to the carrying amounts of property, plant and equipment were made during the years ended December 31, 2008, 2009 and 2010.
Accounting for Internally Developed Software and Website Development Costs
We capitalize costs incurred during the application development stage related to the development of internal-use software as specified in FASB ASC Topic 350-40 “Internal-Use Software.” Capitalized costs are generally amortized over the estimated useful life of three years. Costs incurred related to the conceptual design and maintenance of internal-use software are expensed as incurred. Website development activities include planning, design and development of graphics and content for new websites and operation of existing sites. Costs incurred that involve providing additional functions and features to the website are capitalized. Costs associated with website planning, maintenance, content development and training are expensed as incurred. Capitalized costs are generally amortized over the estimated useful life of three years. We capitalized $1.8 million, $1.2 million and $2.7 million during the years ended December 31, 2008, 2009 and 2010, respectively, related to internally developed software and website development costs. Amortization expense of amounts capitalized was $0.7 million, $1.3 million and $1.4 million for the years ended December 31, 2008, 2009 and 2010, respectively.
Accounting for Amortizable Intangible Assets
Intangible assets are recorded at cost less accumulated amortization. Typically, intangible assets have been acquired in conjunction with the acquisition of various radio stations and non-broadcast businesses. They are being amortized over the following estimated useful lives using the straight-line method:
The carrying value of amortizable intangible assets are evaluated periodically in relation to the operating performance and anticipated future cash flows of the underlying radio stations and businesses for indicators of impairment. In accordance with FASB ASC Topic 360 “Property, Plant and Equipment,” when indicators of impairment are present and the undiscounted cash flows estimated to be generated from these assets are less than the carrying amounts of these assets, an adjustment to reduce the carrying value to the fair market value of these assets is recorded, if necessary. No adjustments to the carrying amounts of amortizable intangible assets have been made during the years ended December 31, 2008, 2009 and 2010.
Goodwill and Other Indefinite-Lived Intangible Assets
Approximately 69% of our total assets as of December 31, 2010 consist of indefinite-lived intangible assets, such as broadcast licenses, goodwill and mastheads, the value of which depends significantly upon the operating results of our businesses. In the case of our radio stations, we would not be able to operate the properties without the related broadcast license for each property. Broadcast licenses are renewed with the FCC every eight years for a nominal cost that is expensed as incurred. We continually monitor our stations’ compliance with the various regulatory requirements. Historically, all of our broadcast licenses have been renewed at the end of their respective periods, and we expect that all broadcast licenses will continue to be renewed in the future. Accordingly, we consider our broadcast licenses to be indefinite-lived intangible assets in accordance with FASB ASC Topic 350 “Intangibles - Goodwill and Other.” We do not amortize goodwill or other indefinite-lived intangible assets, but rather test for impairment at least annually or more frequently if events or circumstances indicate that an asset may be impaired. Please refer to “Note 2 - Impairment of Goodwill and Other Indefinite-Lived Intangible Assets” for a further discussion of our testing plan and impairments recognized. The unit of accounting used to test broadcast licenses is the cluster level, which we define as a group of radio stations operating in the same geographic market, sharing the same building and equipment and managed by a single general manager. The cluster level is the lowest level for which discrete financial information is available and the level reviewed by management to analyze operating results. Goodwill and mastheads, primarily attributable to our non-broadcast operating segment, are tested at the business unit level, which we define by publication or website.
Gain or Loss on Disposal of Assets
We record gains or losses on the disposal of assets equal to the proceeds, if any, compared to the net book value. Exchange transactions are accounted for in accordance with FASB ASC Topic 845 “Non-Monetary Transactions.” For the year ended December 31, 2010, we recorded a loss on disposal of assets of $0.3 million which includes a $0.2 million pre-tax loss pending the sale of WAMD-AM, Aberdeen, Maryland, that closed on March 1, 2011, a $0.2 million loss on a related party real estate transaction and $0.2 million of losses related to various other fixed assets and equipment disposals offset by a $0.3 million pre-tax gain associated with the seizure of our property by the Dallas County School District. For the year ended December 31, 2009, we recorded a loss on disposal of assets of $1.7 million that included the sale of radio station KPXI-FM, Tyler-Longview, Texas for $0.4 million resulting in a pre-tax loss of $1.6 million. For the year ended December 31, 2008, we recorded a gain on the disposal of assets of $6.9 million which included the sale of radio station WRVI-FM, Louisville, Kentucky for $3.0 million resulting in a pre-tax gain of $1.1 million, the sale of radio station KTEK-AM, Houston, Texas for $7.8 million resulting in a pre-tax gain of $6.1 million, partially offset by various fixed assets disposals.
Leases
We lease various facilities including broadcast tower and transmitter sites. When a lease is entered, we determine the classification of the lease as either a capital or operating lease based on the factors listed in FASB ASC Topic 840 “Leases.” Lease terms generally range from one to twenty-five years with rent expense recorded on a straight line basis for financial reporting purposes. We also sublease owned towers under various agreements with other broadcasters. Lease terms generally cover a sixty year term, over which time we recognize rental income on a straight-line basis. Deferred rent revenue was $4.9 million and $4.8 million at December 31, 2009 and 2010, respectively.
Leasehold Improvements
We may elect to construct or otherwise invest in leasehold improvements to properties. We capitalize the cost of the improvements that are then amortized over the shorter of the useful life of the improvement or the remaining lease term.
Bond Issue Costs and Bank Loan Fees
Bond issue costs represent costs incurred in conjunction with the issuance of the 95/8% Senior Secured Second Lien Notes on December 1, 2009 (“95/8% Notes”). The costs are being amortized over the term of the 95/8% Notes as an adjustment to interest expense. Bank loan fees represent costs incurred with the new Senior Credit Facility, which is a revolving credit facility (“Revolver”) entered on December 1, 2009. The costs are being amortized over the three-year term of the Revolver as an adjustment to interest expense. During the year ended December 31, 2010, approximately $0.7 million of bond issue costs were written off in conjunction with the early redemption of $30.0 million of the 95/8% Notes. During the year ended December 31, 2009, approximately $0.1 million of bond issues costs were written off upon the calling and retirement of the 7 ¾% Notes. Also during the year ended December 31, 2009, bank loan fees associated with our prior credit facility of $1.1 million were written-off. During the year ended December 31, 2008, approximately $28,000 of bond issue costs were written off in conjunction with the early redemption of $9.4 million of the 73/4% Notes through the use of an unsecured subsidiary, SIC.
Partial Self-Insurance on Employee Health Plan
We provide health insurance benefits to eligible employees under a self-insured plan whereby the company pays actual medical claims subject to certain stop loss limits. We record self-insurance liabilities based on actual claims filed and an estimate of those claims incurred but not reported. Any projection of losses concerning our liability is subject to a high degree of variability. Among the causes of this variability are unpredictable external factors such as future inflation rates, changes in severity, benefit level changes, medical costs and claim settlement patterns. Should a different amount of claims occur compared to what was estimated or costs of the claims increase or decrease beyond what was anticipated, reserves may need to be adjusted in the future. The self-insurance liability was $0.5 million and $0.6 million at December 31, 2009 and 2010, respectively.
Local Programming and Marketing Agreement Fees
We enter into Local Marketing Agreement (“LMA”) or Time Brokerage Agreements (“TBA”) in connection with acquisitions of radio stations that are pending FCC regulatory approval of transfer of the broadcast licenses. Under the terms of these agreements, we make specified periodic payments to the owner in exchange for the right to program and sell advertising for a specified portion of the station’s inventory of broadcast time. We record revenues and expenses associated with the portion of the station’s inventory of
broadcast time it manages. Nevertheless, as the holder of the FCC license, the owner-operator retains control and responsibility for the operation of the station, including responsibility over all programming broadcast on the station. We also enter into LMA’s in connection with dispositions of radio stations. In such cases, we may receive periodic payments in exchange for allowing the buyer to program and sell advertising for a portion of the station’s inventory of broadcast time.
Derivative Instruments
We are exposed to fluctuations in interest rates. We actively monitor these fluctuations and use derivative instruments from time to time to manage the related risk. In accordance with our risk management strategy, we use derivative instruments only for the purpose of managing risk associated with an asset, liability, committed transaction, or probable forecasted transaction that is identified by management. Our use of derivative instruments may result in short-term gains or losses that may increase the volatility of our earnings.
Under FASB ASC Topic 815 “Derivatives and Hedging” the effective portion of the gain or loss on a derivative instrument designated and qualifying as a cash flow hedging instrument shall be reported as a component of other comprehensive income (outside earnings) and reclassified into earnings in the same period or periods during which the hedged forecasted transaction affects earnings. The remaining gain or loss on the derivative instrument, if any, shall be recognized currently in earnings. Please refer to “Note 7 Derivative Instruments” for a further discussion of our derivative instruments.
Fair Value Accounting
FASB ASC Topic 820 “Fair Value Measurements and Disclosures” established a single definition of fair value in generally accepted accounting principles and expanded disclosure requirements about fair value measurements. The provision applies to other accounting pronouncements that require or permit fair value measurements. We adopted the fair value provisions for financial assets and financial liabilities effective January 1, 2008. The adoption had a material impact on our consolidated financial position, results of operations and cash flows. We adopted fair value provisions for nonfinancial assets and nonfinancial liabilities effective January 1, 2009. This includes applying the fair value concept to (i) nonfinancial assets and liabilities initially measured at fair value in business combinations; (ii) reporting units or nonfinancial assets and liabilities measured at fair value in conjunction with goodwill impairment testing; (iii) other nonfinancial assets measured at fair value in conjunction with impairment assessments; and (iv) asset retirement obligations initially measured at fair value. The adoption of the fair value provisions of FASB ASC Topic 820 to nonfinancial assets and nonfinancial liabilities did not have a material impact on our consolidated financial position, results of operations or cash flows.
The fair value provisions include guidance on how to estimate the fair value of assets and liabilities in the current economic environment and reemphasizes that the objective of a fair value measurement remains an exit price. If we were to conclude that there has been a significant decrease in the volume and level of activity of the asset or liability in relation to normal market activities, quoted market values may not be representative of fair value and we may conclude that a change in valuation technique or the use of multiple valuation techniques may be appropriate.
The degree of judgment utilized in measuring the fair value of financial instruments generally correlates to the level of pricing observability. Pricing observability is affected by a number of factors, including the type of financial instrument, whether the financial instrument is new to the market, and the characteristics specific to the transaction. Financial instruments with readily available active quoted prices or for which fair value can be measured from actively quoted prices generally will have a higher degree of pricing observability and a lesser degree of judgment utilized in measuring fair value. Conversely, financial instruments rarely traded or not quoted will generally have less (or no) pricing observability and a higher degree of judgment utilized in measuring fair value. Please refer to “Note 8 Fair Value Accounting” for a further discussion.
Long-term Debt and Debt Covenant Compliance
Our classification of borrowings under our Revolver as long-term debt on our balance sheet is based on our assessment that, under the terms of our Credit Agreement and after considering our projected operating results and cash flows for the coming year, no principal payments are required to be made. These projections are estimates dependent upon a number of factors including developments in the markets in which we are operating in and economic and political factors, among other factors. Accordingly, these projections are inherently uncertain and our actual results could differ from these estimates.
Income Taxes and Uncertain Tax Positions
We account for income taxes in accordance with FASB ASC Topic 740 “Income Taxes.” Upon the adoption of the provisions on January 1, 2007, we had $3.0 million in liabilities related to uncertain tax positions, including $0.9 million recognized under FASB ASC Topic 450 “Contingencies” and carried forward from prior years and $2.1 million recognized upon adoption of the tax provision changes as a reduction to retained earnings. Included in the $2.1 million accrual was $0.1 million related interest, net of federal income tax benefits. During 2009, we recognized a net increase of $0.1 million in liabilities and at December 31, 2009, had $3.8 million in liabilities for unrecognized tax benefits. Included in this liability amount were $0.1 million accrued for the related interest, net of federal income tax benefits, and $0.1 million for the related penalty recorded in income tax expense on our Consolidated Statements of Operations. During 2010, we recognized a net decrease of $0.1 million in liabilities and at December 31, 2010, had $3.7 million in liabilities for unrecognized tax benefits. Included in this liability amount were $0.1 million accrued for the related interest, net of federal income tax benefits, and $0.05 million for the related penalty recorded in income tax expense on our Consolidated Statements of Operations.
A summary of the changes in the gross amount of unrecognized tax benefits for the year ended December 31, 2010, is as follows (dollars in thousands):
Valuation Allowance (Deferred Taxes)
For financial reporting purposes, we recorded a valuation allowance of $2.6 million as of December 31, 2010 to offset a portion of the deferred tax assets related to the state net operating loss carryforwards. Management regularly reviews our financial forecasts in an effort to determine our ability to utilize the net operating loss carryforwards for tax purposes. Accordingly, the valuation allowance is adjusted periodically based on management’s estimate of the benefit the company will receive from such carryforwards.
Comprehensive Loss
We recognized the gains and losses on the effective portion of our interest rate swap derivative instruments that were designated as, and qualified as, cash flow hedges as a component of Other Comprehensive Loss as defined by FASB ASC Topic 220 “Comprehensive Income.” As of October 1, 2008, we elected a one-month reset on our then outstanding Term Loan C rather than the three-month reset period. As our interest rate swap agreements contained a three-month reset period, the swaps were no longer effective and no longer qualified as cash flow hedges. As a result, changes in the fair value of our swaps were no longer deferred in other comprehensive income, but rather impacted current period income.
Other comprehensive loss recognized in prior periods reflects changes in the fair value of each of our cash flow hedges for the time that the cash flow hedges qualified as effective as follows:
Basic and Diluted Net Earnings Per Share
Basic net earnings per share has been computed using the weighted average number of Class A and Class B shares of common stock outstanding during the period. Diluted net earnings per share is computed using the weighted average number of shares of Class A and Class B common stock outstanding during the period plus the dilutive effects of stock options.
Options to purchase 562,175, 1,341,875 and 1,151,998 shares of Class A common stock and unvested restricted stock shares of zero, 5,000 and 10,000 were outstanding at December 31, 2008, 2009 and 2010. Diluted weighted average shares outstanding exclude
outstanding stock options whose exercise price is in excess of the average price of the company’s stock price. These options are excluded from the respective computations of diluted net income or loss per share because their effect would be anti-dilutive. There were no dilutive shares for the years ended December 31, 2008 or 2009. The number of anti-dilutive shares as of December 31, 2010 was 360,164.
The following table sets forth the shares used to compute basic and diluted net earnings per share for the periods indicated:
Segments
We have one reportable operating segment-radio broadcasting. The remaining non-reportable segments consist of our Internet businesses, SWN, Townhall.com®, and Salem Consumer Products and our publishing businesses, Salem Publishing and Xulon Press™, which do not meet the reportable segment quantitative thresholds and accordingly are aggregated as non-broadcast. The radio broadcasting segment also operates various radio networks. We present our segment operating results in Note 16.
Concentrations of Business and Credit Risks
The majority of our operations are conducted in multiple locations across the country. Our credit risk is spread across a large number of customers, none of which account for a significant volume of revenue or outstanding receivables. We do not normally require collateral on credit sales; however, credit histories are reviewed before extending substantial credit to any customer. We establish an allowance for doubtful accounts based on customers’ payment history and perceived credit risks. Bad debt expense has been within management’s expectations.
Use of Estimates
The preparation of financial statements in conformity with U.S. generally accepted accounting principles requires management to make estimates and assumptions that affect the amounts reported in the financial statements and accompanying notes. Actual results could differ from those estimates. Significant areas for which management uses estimates are allowance for bad debts, income tax valuation allowance, impairment analysis for indefinite-lived intangible assets including broadcast licenses and goodwill, impairment analysis on other long-lived assets, stock-based compensation expense, and liabilities incurred under our partial self-insurance plan.
Reclassifications
Certain reclassifications were made to the prior year financial statements to conform to the current year presentation. These reclassifications include the accounting for WRRD-AM, Milwaukee, Wisconsin, WFZH-FM, Milwaukee, Wisconsin, and CCM Magazine, as discontinued operations as discussed in Note 3. The accompanying Consolidated Statements of Operations reflect the operating results of these entities as discontinued operations for the years ended December 31, 2009 and 2008.
These reclassifications also include the operating results of WRFD-AM, Columbus, Ohio that are now shown as part of continuing operations from discontinued operations. We had entered into an Asset Purchase Agreement (“APA”) on July 31, 2008, to sell this radio station and exit the Columbus market. At that time, the Consolidated Balance Sheets and Statements of Operations for all periods presented were reclassified to reflect the operating results and net assets of this market as a discontinued operation as of the date of the APA through December 2009. The sale was expected to close in the fourth quarter of 2009. On December 30, 2009, the buyer of the radio station advised us that they would not be able to meet the terms of the APA. Because of the buyer terminating the agreement, we have reclassified the accompanying Consolidated Balance Sheets and Statements of Operations for all periods presented to reflect the operating results and net assets of this market in continuing operations.
Recent Accounting Pronouncements
In February 2010, the FASB issued Accounting Standards Update (ASU) No. 2010-09, “Amendments to Certain Recognition and Disclosure Requirements” (“ASU No. 2010-09”), which is included in the FASB Accounting Standards Codification (the "ASC") Topic 855 (Subsequent Events). ASU No. 2010-09 clarifies that an SEC filer is required to evaluate subsequent events through the date that the
financial statements are issued. ASU No. 2010-09 is effective upon the issuance of the final update and had no impact on our financial position, results of operations or cash flows.
In December 2009, the FASB issued ASU No. 2009-17, “Improvements to Financial Reporting by Enterprises Involved with Variable Interest Entities” (“ASU No. 2009-17”), which replaced the quantitative-based risks and rewards calculation for determining which reporting entity, if any, has a controlling financial interest in a variable interest entity (“VIE”) with a primarily qualitative analysis. The qualitative analysis is based on identifying the party that has both the power to direct the activities that most significantly impact the VIE’s economic performance (the “power criterion”) and the obligation to absorb losses from or the right to receive benefits of the VIE that could potentially be significant to the VIE (the “losses/benefit criterion”). The party that meets both these criteria is deemed to have a controlling financial interest. The party with the controlling financial interest is considered to be the primary beneficiary and as a result is required to consolidate the VIE. ASU No. 2009-17 had no impact on our financial position, results of operations or cash flows.
In January 2010, the FASB issued ASU No. 2010-06, “ Improving Disclosures about Fair Value Measurements ” (“ASU No. 2010-06”), which provides amendments to the FASB ASC Subtopic 820-10 that require new disclosures regarding (i) transfers in and out of Level 1 and Level 2 fair value measurements and (ii) activity in Level 3 fair value measurements. ASU No. 2010-06 also clarifies existing disclosures regarding (i) the level of asset and liability disaggregation and (ii) fair value measurement inputs and valuation techniques. The new disclosures and clarifications of existing disclosures are effective for interim and annual reporting periods beginning after December 15, 2009, except for the disclosures about purchases, sales, issuances, and settlements in the roll forward of activity in Level 3 fair value measurements. Those disclosures are effective for fiscal years beginning after December 15, 2010, and for interim periods within those fiscal years. We are currently evaluating the disclosure impact of adoption on our consolidated financial statements.
In October 2009, the FASB issued ASU No. 2009-13, “Multiple-Deliverable Revenue Arrangements” (“ASU No. 2009-13”). ASU No. 2009-13 provides guidance for arrangements with multiple deliverables. Specifically, the updated accounting standard requires an entity to allocate arrangement consideration at the inception of an arrangement to all of its deliverables based on their relative selling prices. ASU No. 2009-13 also eliminates the residual method of allocation and requires use of the relative-selling-price method in all circumstances in which an entity recognizes revenue for an arrangement with multiple deliverables. ASU No. 2009-13 is effective as of January 2011 with early adoption permitted. The adoption of ASU No. 2009-13 did not have a material impact on our financial position, results of operations or cash flows.
NOTE 2. IMPAIRMENT OF GOODWILL AND OTHER INDEFINITE-LIVED INTANGIBLE ASSETS
We account for goodwill and other indefinite-lived intangible assets in accordance with the Financial Accounting Standards Board Accounting Standards Codification (“FASB ASC”) Topic 350 “Intangibles-Goodwill and Other.” We do not amortize goodwill or other indefinite-lived intangible assets, but rather test for impairment annually or more frequently if events or circumstances indicate that an asset may be impaired. Broadcast licenses account for approximately 95% of our indefinite-lived intangible assets. Goodwill and magazine mastheads account for the remaining 5%.
We complete our annual impairment tests in the fourth quarter of each year. Based on deteriorating macro-economic factors, including declining radio industry revenues throughout 2009 and a weakening in prevailing radio station transaction multiples, we tested our goodwill and other indefinite-lived intangible assets for impairment in the second, third and fourth quarters of 2009. During 2010, we did not have indications of impairment at interim dates. We performed our annual tests in the fourth quarter of 2010 that did not result in impairment charges.
The valuation of intangible assets is subjective and based on estimates rather than precise calculations. If actual future results are not consistent with the assumptions and estimates used, we may be exposed to impairment charges in the future, the amount of which may be material. The fair value measurements for our indefinite-lived intangible assets use significant unobservable inputs that reflect our own assumptions about the estimates that market participants would use in measuring fair value including assumptions about risk. The unobservable inputs are defined in FASB ASC Topic 820 “Fair Value Measurements and Disclosures” as Level 3 inputs discussed in detail in Note 8 “Fair Value Accounting.”
When performing our impairment testing for broadcast licenses we review the financial performance of the market clusters against established internal benchmarks. For testing periods as of December 31, 2008 and prior, the first step of our impairment testing process compared the fair value as determined from valuations obtained in prior periods from an independent third-party to the carrying value to determine the degree by which the amounts differed. We had discounted the prior period appraised fair values by 25% to 70%, adjusting our discount percentages higher each period beginning with our 2008 interim testing based on reduced revenues and overall market conditions, including declines in market values associated with radio station sales. If the discounted prior period fair value exceeded the carrying value of the broadcast licenses, the assets were deemed not to be impaired. For our
impairment reviews completed during 2009 and 2010, we did not discount the prior period appraised fair value of any broadcast market cluster as in most markets the carrying value has been reduced to equal the fair value. Due to the number of recent appraisals, we compared actual operating revenues as of the period end to the projected revenues used in the most recent appraisals. Markets with actual operating results that exceeded the projections, which were not subject to changes in other assumptions such as the weighted average cost of capital, were deemed not to be impaired.
The second step of our impairment testing process compares the carrying value of the broadcast licenses for each market cluster including goodwill to the station operating income (“SOI”) for each market cluster including goodwill as of the period end. If the carrying value of the broadcast licenses was less than six times the annualized SOI, the broadcast licenses were deemed not to be impaired. As radio stations are typically sold on the basis of a multiple of projected operating income usually up to a multiple of eight, we believe that a benchmark of six appears conservative even in today’s market. We evaluate the SOI multiples used in our testing based on market data available as of each testing date.
For market clusters that do not meet the first or second test benchmarks, Bond & Pecaro, an independent third-party appraisal and valuation firm, is engaged to perform an appraisal of the indefinite-lived intangible asset(s). Bond & Pecaro utilizes an income approach to value broadcast licenses. The income approach measures the expected economic benefits that the broadcast licenses provides and discounts these future benefits using a discounted cash flow analysis. The discounted cash flow analysis assumes that the broadcast licenses are held by hypothetical start-up stations and the values yielded by the discounted cash flow analysis represent the portion of the stations value attributable solely to the broadcast license. The discounted cash flow model incorporates variables such as projected revenues, operating profit margins, and a discount rate. The variables used reflect historical company growth trends, industry projections, and the anticipated performance of the business. The discounted cash flow projection period was determined to be ten years; which is typically the time radio station operators and investors expect to recover their investments as widely used by industry analysts in their forecasts.
The key assumptions used in the Bond & Pecaro analysis to estimate the fair value of each major category of assets in our broadcast segment for each testing period were as follows:
We also test goodwill balances within the broadcast segment for impairment on an annual basis and between annual tests when there are indications of impairment. The first step of our goodwill impairment test, used to identify potential impairment, compares the most recent appraised fair value of the market cluster for markets with actual operating results that exceeded the estimates used in
the appraisal model to the carrying value of the market cluster, including goodwill. If the appraised fair value exceeded the carrying value, goodwill is deemed not to be impaired. For market clusters that were not appraised, we determined the implied fair value of the market cluster as a multiple of SOI as noted in our second test of the FCC license value. If the implied fair value exceeded the carrying value of the market cluster, goodwill is deemed not to be impaired. Market clusters that do not meet these two tests are subject to appraisal.
The second test of the goodwill impairment test, used to measure the impairment loss, compares either the appraised value or the implied fair value of the market cluster including goodwill to the carrying value of the market cluster including goodwill. If the carrying value exceeded these amounts, a loss is recognized in an amount equal to the excess.
The results of our impairment testing for our broadcast segment for each testing period were as follows:
There was no goodwill impairment for the testing period ended December 31, 2010. As a result of our review and valuation for the testing period ended December 31, 2009, we recognized a pre-tax impairment charge of $0.2 million associated with the value of broadcast licenses in the Detroit market. In addition, we recognized (1) pre-tax impairment charges during our September 30, 2009,
interim review and valuation of $14.1 million associated with the value of broadcast licenses in the Cleveland, Atlanta, Detroit and Portland markets; and (2) pre-tax impairment charges recognized during our June 30, 2009 interim review and valuation of $12.1 million associated with the value of broadcast licenses in the Dallas and Portland markets and $0.4 million associated with the value of goodwill in the Dallas market. For the annual review and valuation for the period ended December 31, 2008, we recognized impairment charges of $73.0 million associated with the value of broadcast licenses and goodwill in the Boston, Detroit, Cleveland, Louisville, Tampa, Miami, Orlando, Sacramento, Omaha, and Nashville market clusters.
The broadcast impairments recognized during 2009 were driven in part by declining revenues at the industry and market levels, declining radio stations transaction multiples and a higher cost of capital. The impairments were indicative of a trend in the broadcast industry and were not unique to the company.
. When performing impairment testing for our non-broadcast indefinite-lived intangible assets, we review the financial performance of the reporting unit against established internal benchmarks. For testing periods as of December 31, 2008 and prior, the first step of our impairment testing compared the fair value as determined from an independent third-party to the carrying value to determine the degree by which the amounts differed. We had discounted the prior period appraised fair values by 25% to 70%, adjusting our discount percentages higher each period beginning with our 2008 testing based on reduced revenues and overall market conditions. If the discounted fair value exceeded the carrying value of the indefinite-lived intangible assets, the assets were deemed not to be impaired. For our impairment reviews completed during 2009 and 2010, we did not discount the prior period appraised fair value of any reporting unit as the carrying value of the unit had already been reduced to equal the fair value. Due to the number of recent appraisals, we compared actual operating revenues as of the period end to the projected revenues used in the most recent appraisals. Reporting units with actual operating results that exceeded the projections, which were not subject to changes in other assumptions such as the weighted average cost of capital, were deemed not to be impaired.
The second step of our impairment testing process compared the carrying value of the indefinite-lived intangible assets, specifically mastheads and goodwill, for each reporting unit as of the testing date to the enterprise value. Enterprise value is defined as six times the net operating income for each reporting unit as of the trailing 12 months plus the net book value of the property, plant and equipment of the operating unit. For the annual testing periods ended December 31, 2010 and 2009, we used the actual net operating income for each reporting unit for the last twelve months. As media entities are typically sold on the basis of a multiple of projected operating income, usually in excess of eight, we believe that a benchmark of six appears conservative even in today’s market. We evaluate the multiples used in our testing based on market data available as of each testing date. If the carrying value of the intangibles is less than the enterprise value, the intangible assets are deemed not to be impaired.
For reporting units that do not meet the internal benchmarks, Bond & Pecaro, an independent third-party appraisal and valuation firm, is engaged to perform an appraisal of the indefinite-lived asset(s). Bond & Pecaro utilizes an income approach to estimate the fair value of the businesses. The income approach measures the expected economic benefits these assets bring to the holder. The fair value of the business may be expressed by discounting these future benefits. The discounted cash flow model incorporated variables such as projected revenues, operating cash flow margins, and a discount rate. The variables used reflect historical company growth trends, industry projections, and the anticipated performance of the business. The discounted cash flow projection period was determined to be ten years; which is typically the time media and technology property investors expect to recover their investments as widely used by industry analysts in their forecasts.
The key assumptions used in the Bond & Pecaro analysis to estimate the fair value of each major category of assets in our non-broadcast segment for each testing period was as follows:
We also test goodwill balances within the non-broadcast segment for impairment on an annual basis and between annual dates when there are indications of impairment. The first step of the goodwill impairment test is used to identify potential impairment; by comparing the most recent appraised fair value of the reporting unit to the carrying value of the reporting unit including goodwill. If the appraised fair value exceeds the carrying value, goodwill is deemed not to be impaired. For reporting units that were not appraised, we use the implied fair value of the reporting unit, or enterprise value, as noted in our second test of the internal review. If the implied fair value exceeds the carrying value, goodwill is deemed not to be impaired. If these criteria are not met, a second test is applied.
The second test of the goodwill impairment test, used to measure the amount of any impairment loss, compares either the appraised fair value or the implied fair value of the reporting unit including goodwill to the carrying value of the reporting unit including goodwill. If the carrying value exceeds these amounts, a loss is recognized in an amount equal to the excess. There were no impairments recognized for the annual testing period ended December 31, 2010. For the interim testing period ended June 30, 2009, we recognized an impairment charge of $1.2 million associated with the value of goodwill and mastheads in our non-broadcast segment. For the interim testing period ended September 30, 2009 and the annual testing period ended December 31, 2009, there were no impairments recognized.
The results of our impairment testing process for our non-broadcast segment for each testing period were as follows:
The economic downturn that began during 2007 negatively affected our ability to generate revenues. The discount rate assumptions used in our impairment tests are based on an assessment of the risk inherent in the future cash flows of the respective market clusters and reporting units. Cash flows and operating income for each of our reporting units is contingent upon the ability of the entity to generate revenues. Our radio stations are to varying degrees dependent upon advertising for their revenues. Our non-broadcast operating entities are also dependent upon advertising revenue. Included in our broadcast valuation estimates are a 2.5% to a 3.1% increase in revenues for 2011 as compared to 2010 followed by up to a 1.6% increase in 2012 as compared to 2011. Included in
our non-broadcast valuation estimates are projected profit margins of up to 2.0% projected for 2011, increasing to 3.3% in 2012. Failure to achieve the anticipated growth rates and/or declines in excess of those amounts may result in future impairment losses, the amount of which may be material.
NOTE 3. SIGNIFICANT TRANSACTIONS
On December 1, 2010, we redeemed $12.5 million of the 95/8% Notes for $12.9 million, or at a price equal to 103% of the face value. This transaction resulted in a $0.8 million pre-tax loss on the early retirement of debt, including $0.1 million of unamortized discount and $0.3 million of bond issues costs associated with the 95/8% Notes.
On November 1, 2010, we amended our Revolver to allow us to use borrowings under the Revolver, subject to the “Available Amount” as defined by the terms of the Credit Agreement, to redeem applicable portions of the 95/8% Notes. The calculation of the “Available Amount” also pertains to the payment of dividends when the leverage ratio is above 5.0 to 1. Additionally, we increased the total capacity of the Revolver from $30.0 million to $40.0 million.
On September 28, 2010, we received approximately $1.0 million as compensation for loss of our property rights under an Eminent Domain Petition from the Dallas Independent School District. We reduced the proceeds by the net book value of our property, which was not directly associated with the operations of radio station, KSKY-AM, Dallas, Texas, resulting in a pre-tax gain of $0.3 million. The property rights were related to our back-up transmitter site. We do not expect the loss of these property rights to negatively impact our operations.
On September 1, 2010, we acquired Samaritan Fundraising, a web-based fundraising products company, for $0.6 million in cash plus $0.2 million contingent consideration payable in the future based on achieving certain revenue and profit goals as specified in the APA. The accompanying Consolidated Balance Sheets and Statements of Operations reflect the operating results and net assets of this entity as of the acquisition date. The acquisition resulted in goodwill of $0.3 million representing the excess value of the business as a result of the integrated business model and services already established that provide future economic benefit to us.
On August 3, 2010, we completed the acquisition of WWRC-AM in Washington, D.C. for $3.1 million. We had begun operating the station under a local marketing agreement (“LMA”) effective May 15, 2010. The accompanying Consolidated Statements of Operations reflect the operating results of this entity as of the LMA date. The accompanying Consolidated Balance Sheets reflect the net assets of this entity as of the closing date.
On June 1, 2010, we redeemed $17.5 million of the 95/8% Notes for $18.0 million, or at a price equal to 103% of the face value. This transaction resulted in a $1.1 million pre-tax loss on the early retirement of debt, including $0.1 million of unamortized discount and $0.4 million of bond issues costs associated with the 95/8% Notes.
On June 8, 2010, we completed the acquisition of tangle.com and GodTube.com, Christian content and community websites, for $2.5 million. We ceased using the tangle.com name shortly after completing the acquisition having identified all acquired content under the GodTube.com brand. The accompanying Consolidated Balance Sheets and Statements of Operations reflect the operating results and net assets of these entities as of the acquisition date. The acquisition resulted in goodwill of $0.3 million representing the excess value of the business as a result of the integrated business model and services already established that provide future economic benefit to us.
On February 12, 2010, we completed the acquisition of HotAir.com, a website blog featuring news, analysis and commentary, for $2.0 million. The accompanying Consolidated Balance Sheets and Statements of Operations reflect the operating results and net assets of this entity as of the acquisition date. The acquisition resulted in goodwill of $0.2 million representing the excess value of the business as a result of the integrated business model and services already established that provide future economic benefit to us.
A summary of our business acquisitions and asset purchases for the year ended December 31, 2010, none of which were material to our consolidated financial position as of the respective date of acquisition, is as follows:
Under the acquisition method of accounting as specified in FASB ASC Topic 805, the total acquisition consideration is allocated to the assets acquired and liabilities assumed based on their estimated fair values as of the date of the transaction. We obtained an independent third-party appraisal of the estimated fair value of the acquired net assets as of the acquisition date for the transaction noted.
The total acquisition consideration was allocated to the net assets acquired as follows:
Pending Transactions:
On November 11, 2010, we entered into a Time Brokerage Agreement (“TBA”) to acquire KVCE-AM, Highland Park, Texas. We began programming the station on January 3, 2011, pursuant to the TBA.
On November 8, 2010, we entered into an APA to acquire WDDZ-AM, Pawtucket, Rhode Island, for $0.6 million. The purchase is subject to the approval by the FCC and is expected to close in the first quarter of 2011.
On October 15, 2010, we entered into an APA to sell radio station KKMO-AM in Seattle, Washington for $2.7 million. The sale was subject to the approval of the FCC and closed on January 6, 2011.
On September 23, 2010, we entered into an APA to sell radio station, WAMD-AM, Aberdeen, Maryland, for $1. The sale closed on March 1, 2011. The loss on the sale of $0.2 million was recognized when the APA was entered during the quarter ended September 30, 2010.
On June 24, 2010, we entered into an agreement to sell radio station KXMX-AM, Los Angeles, California, for $12.0 million. We have collected an earnest deposit on the sale of $1.0 million that is included in current liabilities as of December 31, 2010. On December 30, 2010, we agreed to amend the agreement extending the purchase date to June 30, 2011. We collected an additional $1.0 million earnest deposit on February 1, 2011, according to the terms of the extension. The sale closed on February 25, 2011.
On March 5, 2010, we entered into an APA to re-acquire KTEK-AM, Houston, Texas for $3.7 million, which includes forgiveness of the promissory note that we received upon our original sale of the station. We began programming the station pursuant to a TBA with the current owner on March 8, 2010. The accompanying Consolidated Statements of Operations reflect the operating results of this entity as of the TBA date. The purchase is subject to the approval by the FCC and is expected to close in the first half of 2011.
During the year ended December 31, 2009, we completed the following business acquisitions and asset purchases, none of which were material in aggregate or individually to our consolidated financial position as of the date of acquisition:
Under the acquisition method of accounting, in accordance with FASB ASC Topic 805, the total acquisition consideration is allocated to the assets acquired and liabilities assumed based on their estimated fair values as of the date of the transaction. We obtained an independent third-party appraisal of the estimated fair value of the acquired net assets from Bond & Pecaro as of the acquisition date for each of the transactions noted.
The estimated fair value of the total acquisition consideration was allocated to the total assets acquired as follows:
On December 1, 2009, we entered into the Revolver and issued $300 million of 95/8% Notes at a discount for $298.1 million resulting in an effective yield of 9.75%. The revolver includes a $5 million subfacility for standby letters of credit, a subfacility for swingline loans of up to $5 million and an optional $10 million incremental facility under which we may increase the commitments available, subject to the terms and conditions of the credit agreement relating to the Revolver (the “Credit Agreement”). The net proceeds from the 95/8% Notes of $291.7 million, borrowings under our Revolver of $15.0 million and cash on hand were used to repay and terminate Salem Holding’s then existing credit facilities which included the Term Loan B and Term Loan C and to repurchase all of the outstanding 7¾% Notes due 2010.
On July 24, 2009, we completed the purchase of radio station WZAB-AM in Miami, Florida for $1.0 million. The accompanying Consolidated Statements of Operations reflect the operating results of this radio station as of the acquisition date. The business combination is not material in the aggregate or individually to our financial position as of the date of acquisition.
In accordance with FASB ASC Topic 805 “Business Combinations,” effective as of January 1, 2009, any excess of fair value of the acquired net assets over the acquisition consideration shall be recognized as a gain on a bargain purchase. Prior to recording a gain, the acquiring entity must reassess whether all acquired assets and assumed liabilities have been identified and recognized and perform re-measurements to verify that the consideration paid, assets acquired, and liabilities assumed have been properly valued. We underwent such a reassessment, and as a result, have recorded a gain on the bargain purchase of WZAB-AM in Miami, Florida, of $1.6 million. We have completed the measurement period and have not obtained information about facts and circumstances that existed as of the acquisition date that would have affected the amounts recognized for assets acquired and liabilities assumed. We believe that the gain on bargain purchase resulted from various factors that may have impacted the acquisition price of WZAB-AM, including, without limitation, that the previous owner of the license for WZAB-AM did not have the technical facilities from which to broadcast.
On June 1, 2009, we completed the sale of radio station KPXI-FM in Tyler-Longview, Texas for $0.4 million that resulted in a pre-tax loss of $1.6 million. The operating results of KPXI-FM were excluded from the Consolidated Statements of Operations as of the date of the sale.
On April 9, 2009, SIC purchased $1.0 million of Salem Holding’s 7¾% Notes for $0.3 million. Salem Holding agreed to cancel the outstanding promissory note in exchange for the cancellation by SIC of the 7 ¾% Notes. On a consolidated basis, the transaction resulted in a $0.7 million pre-tax gain on the early retirement of debt.
On March 31, 2009, we completed the purchase of radio station WAMD-AM in Aberdeen, Maryland for $2.7 million. The acquisition was made to accommodate the day time signal upgrade of WNYM-AM, New York, NY. Approximately $2.5 million of the purchase price was allocated to this upgrade. The purchase price had been paid into an escrow account on July 18, 2008. The
accompanying Consolidated Statements of Operations includes the operating results of this radio station as of the acquisition date. In accordance with FASB ASC Topic 805 “Business Combinations,” expenses associated with this business combination were expensed as of the January 2009 effective date. The business combination is not material in the aggregate or individually to our financial position as of the date of acquisition.
On February 2, 2009, we received reimbursement from the Port of Seattle of approximately $1.7 million of costs associated with a tower relocation project. The tower relocation began in 2001 as a result of the Port’s use of eminent domain in which the existing tower land was seized.
Discontinued Operations
We entered a plan to sell all radio stations in the Milwaukee market during 2007. We sold radio station WRRD-AM in Milwaukee, Wisconsin for $3.8 million on March 28, 2008 and sold radio station WFZH-FM in Milwaukee, Wisconsin for $8.1 million on May 30, 2008. We entered into an LMA with the buyer of WFZH-FM effective as of February 15, 2008, under which the buyer began programming the station and paying a majority of operational costs of the station. The accompanying Consolidated Statements of Operations reflect the operating results of the Milwaukee stations as a discontinued operation for the year ended December 31, 2008.
We ceased publishing the CCM Magazine as of March 2008. The operating results for CCM Magazine were reported as a discontinued operation as of this date. The accompanying Consolidated Statements of Operations reflect the operating results of this entity as a discontinued operation for the year ended December 31, 2008.
On July 31, 2008, we entered into an asset purchase agreement to sell radio station WRFD-AM in Columbus, Ohio for $4.0 million. As a result of the sale, we were to exit the Columbus, Ohio market. The Consolidated Balance Sheets and Statements of Operations for all periods presented were reclassified as of the date of the asset purchase agreement to reflect the operating results and net assets of this market as a discontinued operation through December 2009. The sale was expected to close in the fourth quarter of 2009. On December 30, 2009, the buyer of the radio station advised us that they would not be able to meet the terms of the asset purchase agreement. Because of the buyer terminating the agreement, we have reclassified the accompanying Consolidated Balance Sheets and Statements of Operations for all periods presented to reflect the operating results and net assets of this market in continuing operations. In January 2010, we collected a $0.2 million termination fee from the buyer pursuant to the asset purchase agreement.
The following table sets forth the components of income (loss) from discontinued operations as reclassified, net of tax, for the years ended December 31, 2008 and 2009:
During the year ended December 31, 2008, we completed the following business acquisitions and asset purchases, none of which were material in aggregate or individually to our consolidated financial position as of the date of acquisition:
The purchase price was allocated to the total assets acquired as follows:
The accompanying Consolidated Balance Sheets include the acquired assets and liabilities of each acquired entity as of the acquisition date. The results of operations are included in the accompanying Consolidated Statements of Operations as of the date of acquisition with the exception of WMCU-AM, in Miami, Florida, which was included in the Consolidated Statement of Operations beginning October 18, 2007, the date on which we began operating the station under an LMA with the seller pending approval of the acquisition by the FCC.
On December 12, 2008, we formed SIC, a wholly-owned subsidiary of Salem Communications Corporation. SIC issued a promissory note to Salem Holding for $4.75 million. On December 18, 2008 SIC purchased $9.4 million of Salem Holding’s 7 ¾% Notes at a 50% discount from a group of note holders. Salem Holding agreed to cancel the outstanding promissory note in exchange for the cancellation by SIC of the 7 ¾% Notes. On a consolidated basis, the transaction resulted in a $4.7 million pre-tax gain on the early retirement of debt.
On December 2, 2008, we sold radio station WRVI-FM in Louisville, Kentucky for $3.0 million resulting in a pre-tax gain of $1.1 million. The operating results of WRVI-FM are excluded from the Consolidated Statement of Operations as of the date of the sale.
On October 29, 2008, we notified the owner of radio station KTRO-AM, in Portland, Oregon that we would not acquire the radio station. We had entered into an agreement on February 1, 2007, to purchase selected assets of the station and began operating the station under an LMA as of that date. In accordance with the terms of the agreement, we ceased operating the station under the LMA on October 20, 2008 and recorded a terminated transaction charge of $0.4 million in the fourth quarter of 2008. The accompanying Consolidated Statement of Operations includes the operating results of this radio station as of the LMA date through the termination.
In September 2008, an agreement dated February 22, 2008 to sell radio station KKMO-AM in Seattle, Washington for approximately $3.7 million was terminated. The buyer of the station did not meet the terms of the Asset Purchase Agreement. As a result of the buyer terminating the agreement, we recognized income of $0.2 million reported as other income in the Consolidated Statement of Operations.
On June 30, 2008, we completed a reorganization of certain legal entities. Under this reorganization, Salem Holding now owns all operating assets of the company other than CCM Communications, Inc. The operating assets of CCM Communications, Inc. and SIC remain owned by Salem. The reorganization did not impact the Consolidated Balance Sheets and Consolidated Statements of Operations.
On May 30, 2008, we sold radio station WFZH-FM in Milwaukee, Wisconsin for $8.1 million resulting in a pre-tax gain of $1.4 million that is reported as a component of discontinued operations. The accompanying Consolidated Statements of Operations for the year ended December 31, 2008 reflect WFZH-FM as a discontinued operation.
On April 11, 2008, we purchased selected assets of WMCU-AM in Miami, Florida, for $12.3 million. We began operating the station under a LMA effective on October 18, 2007. The accompanying Consolidated Statements of Operations includes the operating results of this station as of the LMA date. The acquisition was not material in the aggregate or individually to our financial position as of the date of acquisition
On April 8, 2008, we acquired land in Seattle, Washington, Denver, Colorado and Pittsburgh, Pennsylvania from entities controlled by its Chairman and by its Chief Executive Officer (“Principal Shareholders”) for approximately $5.0 million. This transaction was approved by the independent members of the company Board of Directors and was based on the appraised value from a third-party valuation firm. As a result of this transaction, we will reduce rental expense by approximately $148,000 annually and has permanently secured these AM transmitter site locations. We also assumed two income-producing lease agreements as follows: (a) a diplex agreement at the Seattle-Tacoma, Washington site generating annual rental income that is currently $139,000 approximately and (b) a mobile telephone lease at the Pittsburgh, Pennsylvania site generating annual rental income that is currently $26,000. In addition, we entered into new transmitter site leases for eight (8) existing transmitter sites (the “New Transmitter Site Leases”) operated by the company and leased from the Principal Stockholders. Seven (7) of these New Transmitter Site Leases replace existing transmitter site leases between the company and the Principal Shareholder which were either scheduled to expire or had option exercise deadlines in 2009 or 2010. As a result, we are not required to renegotiate a new lease or exercise an option on any of its related party leases until 2016.
On March 28, 2008, we sold radio station KTEK-AM in Houston, Texas for $7.8 million, including $4.5 million in cash, and $3.3 million in notes receivables. The notes included a $1.8 million 90 day promissory note due on June 24, 2008 bearing interest at 8% per annum and a $1.5 million seven year promissory note bearing interest at 8% per annum, with monthly installments due beginning in May 2008. The sale resulted in a pre-tax gain of $6.1 million. The operating results of KTEK-AM were excluded from the Consolidated Statement of Operations beginning on February 1, 2008, the date we stopped operating the station pursuant to a Time Brokerage Agreement with the buyer.
On March 28, 2008, we sold radio station WRRD-AM in Milwaukee, Wisconsin for $3.8 million resulting in a pre-tax gain of $2.0 million that is reported as a component of discontinued operations. The accompanying Consolidated Statements of Operations for the year ended December 31, 2008 reflect WRRD-AM as a discontinued operation.
NOTE 4. PROPERTY, PLANT AND EQUIPMENT
Property, plant and equipment consisted of the following:
Depreciation expense was approximately $13.3 million, $13.4 million and $12.6 million for the years ended December 31, 2008, 2009, and 2010, respectively, which includes depreciation of $53,000 for each of the years ended December 31, 2008, 2009 and 2010 on a radio station tower that was valued at $0.8 million under a capital lease obligation. Accumulated depreciation associated with the capital lease was $132,000 and $185,000 at December 31, 2009 and 2010.
NOTE 5. AMORTIZABLE INANGIBLE ASSETS
The following tables provide details, by major category, of the significant classes of amortizable intangible assets:
Based on the amortizable intangible assets as of December 31, 2010, we estimate amortization expense for the next five years to be as follows:
NOTE 6. NOTES PAYABLE AND LONG-TERM DEBT
Senior Credit Facility
On December 1, 2009, our parent company, Salem Communications Corporation entered into the Revolver. We amended the Revolver on November 1, 2010 to increase the capacity from $30 million to $40 million. The amendment allowed us to use borrowings under the Revolver, subject to the “Available Amount” as defined by the terms of the Credit Agreement, to redeem applicable portions of the 95/8% Notes. The calculation of the “Available Amount” also pertains to the payment of dividends when the leverage ratio is above 5.0 to 1. We believe that the Revolver will allow us to meet our ongoing operating requirements, fund capital expenditures, and satisfy our debt service requirements. The Revolver is a three-year credit facility, which includes a $5 million subfacility for standby letters of credit and a subfacility for swingline loans of up to $5 million, subject to the terms and conditions of the Credit Agreement relating to the Revolver. Amounts outstanding under the Revolver bear interest at a rate based on LIBOR plus a spread of 3.50% per annum or at the Base Rate (as defined in the Credit Agreement) plus a spread of 2.50% per annum, at our option as of the date of determination. Additionally, we pay a commitment fee on the unused balance of 0.75% per year. If an event of default occurs, the interest rate may increase by 2.00% per annum. Amounts outstanding under the Revolver may be paid and then reborrowed at Salem’s discretion without penalty or premium. At December 31, 2010, the blended interest rate on amounts outstanding under the Revolver was 3.76%.
With respect to financial covenants, the Credit Agreement includes a maximum leverage ratio of 7.0 to 1.0 and a minimum interest coverage ratio of 1.5 to 1. The Credit Agreement also includes other negative covenants that are customary for credit facilities of this type, including covenants that, subject to exceptions described in the Credit Agreement, restrict the ability of Salem and the guarantors (i) to incur additional indebtedness; (ii) to make investments; (iii) to make distributions, loans or transfers of assets; (iv) to enter into, create, incur, assume or suffer to exist any liens; (v) to sell assets; (vi) to enter into transactions with affiliates; (vii) to merge or consolidate with, or dispose of all or substantially all assets to, a third party; (viii) to prepay indebtedness; and (ix) to pay dividends. As of December 31, 2010, our leverage ratio was 5.76 to 1 and our interest coverage ratio was 1.76 to 1. We were and remain compliant with our debt covenants.
Our parent company, Salem Communications Corporation, has no independent assets or operations, the subsidiary guarantees are full and unconditional and joint and several, and any subsidiaries of the parent company other than the subsidiary guarantors are minor.
Senior Secured Second Lien Notes
On December 1, 2009, we issued $300.0 million principal amount of the 95/8% Notes at a discount for $298.1 million resulting in an effective yield of 9.75%. Interest is due and payable on June 15 and December 15 of each year, commencing June 15, 2010 until maturity. We are not required to make principal payments on the 95/8% Notes that are due in full in December 2016. The 95/8% Notes are guaranteed by all of our existing domestic restricted subsidiaries. We are required to pay $28.9 million per year in interest on the 95/8% Notes. As of December 31, 2009 and 2010, accrued interest on the 95/8% Notes was $2.4 million and $1.2 million, respectively. The discount is being amortized to interest expense over the term of the 95/8% Notes based on the effective interest method. During the year ended December 31, 2009 and 2010, approximately $16,000 and $0.2 million, respectively, of the discount has been recognized as interest expense.
On June 1, 2010, we redeemed $17.5 million of the 95/8% Notes for $18.0 million, or at a price equal to 103% of the face value. This transaction resulted in a $1.1 million pre-tax loss on the early retirement of debt which includes $0.1 million of unamortized discount and $0.4 million of bond issues costs associated with the 95/8% Notes.
On December 1, 2010, we redeemed $12.5 million of the 95/8% Notes for $12.9 million, or at a price equal to 103% of the face value. This transaction resulted in a $0.8 million pre-tax loss on the early retirement of debt, including $0.1 million of unamortized discount and $0.3 million of bond issues costs associated with the 95/8% Notes.
The carrying value of the 95/8% Notes is $298.1 million and $268.5 million as of December 31, 2009 and 2010.
Prior Credit Facility
Our wholly-owned subsidiary, Salem Communications Holding Corporation (“Salem Holding”), was the borrower under our prior credit facilities. The prior credit facilities included a $75.0 million senior secured reducing revolving credit facility (“revolving credit facility”), a $75.0 million term loan B facility (“Term Loan B”) and a $165.0 million term loan C facility (“Term Loan C”). On December 1, 2009, we used the proceeds of the 95/8% Notes, a portion of the Revolver, and approximately $27 million of cash on hand to fully repay amounts outstanding under the Term Loan B of $71.2 million, the Term Loan C of $160.0 million, and to fully repay all outstanding aggregate principal of $89.7 million on the 7¾% Notes. We recorded a loss of $1.7 million which included $1.1 million of unamortized bank loan fees on the prior credit facility, $0.1 million of unamortized bond issue costs on the 7¾% Notes and $0.4 million of legal and dealer fees associated with the calling of the 7 ¾% Notes and prior credit facility.
Swingline Credit Facility
On June 1, 2005, we entered into an agreement for a swingline credit facility (“Swingline”) with a borrowing capacity of $5.0 million. The agreement was most recently amended on June 1, 2009 and had a borrowing capacity of $4.3 million. The interest rate was the bank’s prime rate plus 0.75% per annum. As collateral for the Swingline, we pledged our corporate office building. We terminated the Swingline as of December 1, 2009.
73/4% Notes
In December 2002, Salem Holding issued $100.0 million principal amount of 73/4% Notes. The indenture for the 73/4% Notes contained restrictive covenants that, among other things, limited the incurrence of debt by Salem Holding and its subsidiaries, the payment of dividends, the use of proceeds of specified asset sales and transactions with affiliates. Through the use of an unrestricted subsidiary, we repurchased $9.4 million of our 73/4% Notes for $4.7 million in December 2008. This transaction resulted in a $4.7
million pre-tax gain on the early retirement of debt. Through the use of an unrestricted subsidiary, we repurchased $1.0 million of our 73/4% Notes for $0.3 million in April 2009. This transaction resulted in a $0.7 million pre-tax gain on the early retirement of debt. As of September 30, 2009, there was $89.7 million aggregate principal amount of the 73 /4% Notes outstanding. Based on this principal amount, Salem Holding was required to pay $7.0 million per year in interest on the 73/4% Notes. As of December 1, 2009, we used the net proceeds from the offering of the 95/8% Notes, borrowings under the Revolver, and approximately $27 million of cash on hand to fund the payment of consideration and certain costs relating to the early settlement of the Tender Offer and consent solicitation with respect to the outstanding $89.7 million in aggregate principal amount of the 73/4% Notes. Accrued interest on the tendered 73/4% Notes was also paid. Since all outstanding 73/4% Notes were tendered, accepted for payment and cancelled, the indenture relating to the 73/4% Notes was discharged.
Summary of long-term debt obligations
Long-term debt consisted of the following:
In addition to the amounts listed above, we also have interest payments related to our long-term debt as follows as of December 31, 2010:
·
Outstanding borrowings of $35.0 million under the Revolver, with interest payments due at LIBOR plus 3.50% or at prime rate plus 2.50%;
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$270.0 million 95/8% Notes with semi-annual interest payments at an annual rate of 95/8%; and
·
Commitment fee of 0.75% on the unused portion of the Revolver.
Other Debt
We have several capital leases related to various data processing equipment. The obligation recorded at December 31, 2009 and 2010 represents the present value of future commitments under the lease agreements.
Maturities of Long-Term Debt
Principal repayment requirements under all long-term debt agreements outstanding at December 31, 2010 for each of the next five years and thereafter are as follows:
NOTE 7. DERIVATIVE INSTRUMENTS
During 2005, we entered into three interest rate swap transactions intended to offset the risks associated with the variable interest rate on our then outstanding Term Loan C. The interest rate swaps were designated and qualified as cash flow hedges under FASB ASC Topic 815 “Derivatives and Hedging.” The effective portion of the gain or loss on these derivative instruments was reported as a component of other comprehensive income (outside earnings) and reclassified into earnings in the same period or periods during
which the hedged forecasted transaction affected earnings. Effective October 1, 2008, we elected a one-month reset on our Term Loan C rather than a three-month , resulting in the swaps no longer qualifying as a cash flow hedge. As the interest rate swap agreements contained a three-month reset period, the swaps were no longer effective and no longer qualified as a cash flow hedge. Changes in the fair value of these swaps after October 1, 2008 were reported in current period income rather than deferred in other comprehensive income. On December 1, 2009, the swap transactions were terminated when the underlying Term Loan C was paid in full.
Details of the three swap transaction were as follows:
On April 8, 2005, we entered into an interest rate swap arrangement for the notional principal amount of $30.0 million whereby we were to pay a fixed interest rate of 4.99% as compared to LIBOR on our then outstanding bank credit facility borrowing. Interest expense for year ended December 31, 2009, was approximately $0.9 million based on the difference between the interest rates. The swap was settled on December 1, 2009 for $3.1 million when the underlying bank credit facility was terminated. The ineffective portion of this swap reported in current period expenses was a $0.6 million gain and upon termination of the swap, we recognized a $0.8 million loss. Effective on October 1, 2008, we had elected a one-month reset on our Term Loan C rather than the three-month reset period. As this interest rate swap agreement contained a three-month reset period, the swap was no longer effective and no longer qualified as a cash flow hedge. Changes in the fair value of this swap after October 1, 2008 were reported in current period income rather than deferred in other comprehensive income. An additional $0.3 million of accumulated other comprehensive loss was reclassified into interest expense as of December 1, 2009 in order to recognize the impact over the same period in which the hedged transaction affected earnings. On December 1, 2009, the remaining $1.0 million in accumulated other comprehensive loss was reclassified into interest expense.
On April 26, 2005, we entered into an interest rate swap arrangement for the notional principal amount of $30.0 million whereby we were to pay a fixed interest rate of 4.70% as compared to LIBOR on our then outstanding bank credit facility borrowing. Interest expense for year ended December 31, 2009, was approximately $0.8 million based on the difference between the interest rates. The swap was settled on December 1, 2009 for $2.9 million when the underlying bank credit facility was terminated. The ineffective portion of this swap reported in current period expenses was a $0.5 million gain and upon termination of the swap, we recognized a $0.8 million loss. Effective on October 1, 2008, we had elected a one-month reset on our Term Loan C rather than the three-month reset period. As this interest rate swap agreement contained a three-month reset period, the swap was no longer effective and no longer qualified as a cash flow hedge. Changes in the fair value of this swap after October 1, 2008 were reported in current period income rather than deferred in other comprehensive income. An additional $0.3 million of accumulated other comprehensive loss was reclassified into interest expense as of December 1, 2009 in order to recognize the impact over the same period in which the hedged transaction affected earnings. On December 1, 2009, the remaining $0.7 million in accumulated other comprehensive loss was reclassified into interest expense.
On May 5, 2005, we entered into a third interest rate swap arrangement for the notional principal amount of $30.0 million whereby we were to pay a fixed interest rate of 4.53% as compared to LIBOR on then outstanding bank credit facility borrowing. Interest expense for year ended December 31, 2009, was approximately $0.8 million based on the difference between the interest rates. The swap was settled on December 1, 2009 for $2.7 million when the underlying bank credit facility was terminated. The ineffective portion of this swap reported in current period expenses was a $0.5 million gain and upon termination of the swap, we recognized a $0.7 million loss. Effective on October 1, 2008, we had elected a one-month reset on our Term Loan C rather than the three-month reset period. As this interest rate swap agreement contained a three-month reset period, the swap was no longer effective and no longer qualified as a cash flow hedge. Changes in the fair value of this swap after October 1, 2008 were reported in current period income rather than deferred in other comprehensive income. An additional $0.2 million of accumulated other comprehensive loss was reclassified into interest expense as of December 1, 2009 in order to recognize the impact over the same period in which the hedged transaction affected earnings. On December 1, 2009, the remaining $0.6 million in accumulated other comprehensive loss was reclassified into interest expense.
NOTE 8. FAIR VALUE ACCOUNTING
FASB ASC Topic 820 “Fair Value Measurements and Disclosures” established a hierarchal disclosure framework associated with the level of pricing observability utilized in measuring fair value. This framework defined three levels of inputs to the fair value measurement process and requires that each fair value measurement be assigned to a level corresponding to the lowest level input that is significant to the fair value measurement in its entirety. The three broad levels of inputs defined by the FASB ASC Topic 820 hierarchy are as follows:
•
Level 1 Inputs-quoted prices (unadjusted) in active markets for identical assets or liabilities that the reporting entity has the ability to access at the measurement date;
•
Level 2 Inputs-inputs other than quoted prices included within Level 1 that are observable for the asset or liability, either directly or indirectly. If the asset or liability has a specified (contractual) term, a Level 2 input must be observable for substantially the full term of the asset or liability; and
•
Level 3 Inputs-unobservable inputs for the asset or liability. These unobservable inputs reflect the entity’s own assumptions about the assumptions that market participants would use in pricing the asset or liability, and are developed based on the best information available in the circumstances (which might include the reporting entity’s own data).
As a result of the adoption of the fair value provisions, we modified the assumptions used in measuring the fair value of our derivative positions. Specifically, we now include the impact of our own credit risk on derivative liabilities measured at fair value as defined. Counterparty credit-risk adjustments are applied to derivatives, such as over-the-counter derivatives, where the base valuation uses market parameters based on LIBOR interest rate curves. Not all counterparties have the same credit risk as that implied by the relevant LIBOR curve, so it is necessary to consider the market value of the credit risk of the counterparty in order to estimate the fair value of such an item. Bilateral or “own” credit risk adjustments are applied to our own credit risk when valuing derivatives measured at fair value. Credit adjustments consider the estimated future cash flows between the company and its counterparties under the terms of the instruments and affect the credit risk on the valuation of those cash flows, rather than a point-in-time assessment of the current recognized net asset or liability.
The fair value of our liabilities was impacted by our credit ratings as established by agencies such as Moody’s Investor Services (“Moody’s) and Standard & Poor’s (“S&P”). The estimated change in the fair value of these liabilities, including the credit risk and all other market variables, was a gain of $1.5 million for the period ended December 1, 2009. We settled our outstanding swap transactions on December 1, 2009 when we terminated our then existing bank credit facilities resulting in a loss of $2.3 million. The loss represents the difference in the discounted value estimated in accordance with FASB ASC Topic 820 and the actual amount the bank was willing to accept in an arms length transaction.
As of December 31, 2010, each major category of assets measured at fair value on a non-recurring basis was categorized as follows:
Interest Rate Caps
On October 18, 2006, we purchased two interest rate caps for $0.1 million to mitigate exposure to rising interest rates based on LIBOR. The first interest rate cap covers $50.0 million of borrowings under the credit facility for a three-year period. The second interest rate cap covers $50.0 million of borrowings under the credit facility for a four-year period. Both interest rate caps are at 7.25%. The caps do not qualify for hedge accounting and accordingly, all changes in fair value have been included as a component of interest expense. For the years ended December 31, 2008 and 2009, interest expense of $14,000 and $350, respectively, was recorded related to our interest rate caps. The interest rate cap agreements were terminated in December 2009 in conjunction with the cancellation of the underlying debt under our prior credit facilities.
NOTE 9. INCOME TAXES
The consolidated provision (benefit) for income taxes from continuing operations for Salem consisted of the following:
Discontinued operations are reported net of the tax provision (benefit) of $1.5 million in 2008 and $(0.1) million in 2009.
The consolidated deferred tax asset and liability consisted of the following:
The following table reconciles the above net deferred tax liabilities to the financial statements:
A reconciliation of the statutory federal income tax rate to the provision for income tax is as follows:
At December 31, 2010, we had net operating loss carryforwards for federal income tax purposes of approximately $104.9 million that expire in 2019 through 2030 and for state income tax purposes of approximately $807.7 million that expire in years 2011 through 2030. For financial reporting purposes at December 31, 2010, we had a valuation allowance of $2.6 million, net of federal benefit, to offset a portion of the deferred tax assets related to state net operating loss carryforwards that may not be realized.
NOTE 10. COMMITMENTS AND CONTINGENCIES
The company and its subsidiaries, incident to its business activities, are parties to a number of legal proceedings, lawsuits, arbitration and other claims including the purported class action described below. Such matters are subject to many uncertainties and outcomes that are not predictable with assurance. The company maintains insurance that may provide coverage for such matters. Consequently, the company is unable to ascertain the ultimate aggregate amount of monetary liability or the financial impact with respect to these matters. The company believes, at this time, that the final resolution of these matters, individually and in the aggregate, will not have a material adverse effect upon the company’s annual consolidated financial position, results of operations or cash flows.
On July 10, 2010, Asia Vision, Inc. and Rehan Siddiqi amended a complaint they had previously filed against third parties in the 152nd Judicial District Court of Harris County, Houston, Texas, naming Salem Communications Corporation, South Texas Broadcasting, Inc. and one of Salem’s officers as defendants. In their complaint, Asia Vision claims that the Salem defendants interfered with Asia Vision’s contractual right to purchase radio station KTEK-AM from Business Radio Licensee, LLC. In their complaint, Asia Vision and Rehan Siddiqi make a claim for injunctive relief and monetary damages. On July 21, 2010, Salem Communications and South Texas Broadcasting were served with the complaint but the Salem officer has not been served. Salem has retained counsel, has tendered defense of the matter to several insurance companies, and will vigorously defend this action.
On March 7, 2011, Salem entered into a tentative settlement of the matter, which still requires court approval. If approved, the settlement will result in no liability to the Salem defendants.
Salem leases various land, offices, studios and other equipment under operating leases that generally expire over the next ten to twenty-five years. The majority of these leases are subject to escalation clauses and may be renewed for successive periods ranging from one to five years on terms similar to current agreements and except for specified increases in lease payments. Rental expense included in operating expense under all lease agreements was $15.5 million, $15.7 million and $15.4 million in 2008, 2009 and 2010, respectively.
Future minimum rental payments required under operating leases that have initial or remaining non-cancelable lease terms in excess of one year as of December 31, 2010, are as follows:
NOTE 11. STOCK OPTION PLAN
The company has one stock option plan. The Amended and Restated 1999 Stock Incentive Plan (the “Plan”) allows the company to grant stock options to employees, directors, officers and advisors of the company. A maximum of 3,100,000 shares are authorized under the Plan. Options generally vest over a four year period and have a maximum term of five years from the vesting date. The Plan provides that vesting may be accelerated in certain corporate transactions of the company. The Plan provides that the Board of Directors, or a committee appointed by the Board, has discretion, subject to certain limits, to modify the terms of outstanding options. We recognize non-cash stock-based compensation expense related to the estimated fair value of stock options granted in accordance with FASB ASC Topic 718 “Compensation-Stock Compensation.”
The following table reflects the components of stock-based compensation expense recognized in the Consolidated Statements of Operations for the years ended December 31, 2008, 2009 and 2010:
Stock option and restricted stock grants
The Plan allows the company to grant stock options and shares of restricted stock to employees, directors, officers and advisors of the company. The option exercise price is set at the closing price of the company’s common stock on the date of grant, and the related number of shares granted is fixed at that point in time. The Plan also provides for grants of restricted stock. Eligible employees may receive stock options annually with the number of shares and type of instrument generally determined by the employee’s salary grade and performance level. In addition, certain management and professional level employees typically receive a stock option grant upon commencement of employment. Non-employee directors of the company have been awarded restricted stock grants that vest one year from the date of issuance as well as stock options that vest immediately. The Plan does not allow key employees and directors (restricted persons) to exercise options during pre-defined black out periods. Employees may participate in 10b5-1 Plans that allow them to exercise options according to predefined criteria.
We use the Black-Scholes option valuation model to estimate the grant date fair value of stock options. The expected volatility reflects the consideration of the historical volatility of our stock as determined by the closing price over a six to ten year term that is generally commensurate with the expected term of the option. The expected dividends reflected in 2008 take into consideration our payment of special dividends in 2006 and 2007. The expected term of the option is based on evaluations of historical and expected future employee exercise behavior. The risk-free interest rates for periods within the expected term of the option are based on the U.S. Treasury yield curve in effect during the period the options were granted. We use historical data to estimate future forfeiture rates to apply against the gross amount of compensation expense determined using the option valuation model.
During the year ended December 31, 2008, all senior executives voluntarily surrendered options (vested and unvested) to the company. The voluntary surrender was not accompanied by a concurrent grant of (or offer to grant) a replacement award or other valuable consideration. The surrender was accounted for as a repurchase for no consideration. As a result, 1,741,854 options were voluntarily surrendered resulting in approximately a $1.6 million increase in stock-based compensation expense in the third quarter of 2008.
The weighted-average assumptions used to estimate the fair value of the stock options using the Black-Scholes option valuation model were as follows for the years ended December 31, 2008, 2009 and 2010:
Stock option information with respect to the company’s stock-based compensation plans during the three years ended December 31, 2010 is as follows (Dollars in thousands, except share amounts, weighted average exercise price and weighted average grant date fair value):
The aggregate intrinsic value represents the difference between the company’s closing stock price on December 31, 2010 of $3.17 and the option exercise price of the shares for stock options that were in the money, multiplied by the number of shares underlying such options. The total fair value of options vested during the years ended December 31, 2008, 2009 and 2010 was $2.4 million, $0.8 million and $1.1 million, respectively.
The fair values of shares of restricted stock are determined based on the closing price of the company common stock on the grant dates. Information regarding the company’s restricted stock during the three years ended December 31, 2010 is as follows:
As of December 31, 2010, there was $1.5 million of total unrecognized compensation cost related to non-vested awards of stock options and restricted shares. This cost is expected to be recognized over a weighted-average period of 2.0 years.
Additional information regarding options outstanding as of December 31, 2010, is as follows:
NOTE 12. RELATED PARTY TRANSACTIONS
Our board of directors has adopted a written policy for review, approval and monitoring of transactions between the company and its related parties. Related parties include our directors, executive officers, nominees to become a director, any person beneficially owning more than 5% of any class of our stock, immediate family members of any of the foregoing, and any entity in which any of the forgoing persons is employed or is a general partner or principal or in which the person has a 10% or greater beneficial ownership interest. The policy covers material transactions in which a related party had, has or will have a direct or indirect interest.
Leases with Principal Stockholders
A trust controlled by the Chief Executive Officer of the company, Edward G. Atsinger III, owns real estate on which assets of one radio station are located. Salem has entered into a lease agreement with this trust. Rental expense related to this lease included in operating expense for 2008, 2009 and 2010 amounted to $145,000, $151,000 and $156,000, respectively.
Land and buildings occupied by various Salem radio stations are leased from entities owned by the company’s CEO and its Chairman of the Board. Rental expense under these leases included in operating expense for 2008, 2009 and 2010 amounted to $1.3 million, $1.2 million and $1.3 million, respectively.
On April 8, 2008, we acquired land in Seattle, Washington; Denver, Colorado; and Pittsburgh, Pennsylvania from entities controlled by Principal Shareholders for approximately $5.0 million. This transaction was approved by the independent members of the company Board of Directors and was based on the appraised value from a third-party valuation firm. As a result of this transaction, the company will reduce rental expense by approximately $148,000 annually and has permanently secured these AM transmitter site locations. We also assumed two income-producing lease agreements as follows: (a) a diplex agreement at the Seattle-Tacoma, Washington site generating current annual rental income of approximately $139,000, and (b) a mobile telephone lease at the Pittsburgh, Pennsylvania site generating current annual rental income of approximately $26,000. A prerequisite negotiated by the company as an important condition of the closing of the Transmitter Site Purchases was the entry by the company into new transmitter site leases for eight existing transmitter sites (the “New Transmitter Site Leases”) operated by the company and leased from the Principal Stockholders. Seven of these New Transmitter Site Leases replace existing transmitter site leases between the company and the Principal Shareholder which were either scheduled to expire or had option exercise deadlines in 2009 or 2010. As a result, we are not required to renegotiate a new lease or exercise an option on any of its related party leases until 2016.
Radio Stations Owned by the Epperson’s
Nancy A. Epperson, the wife of the Chairman of the Board, Stuart W. Epperson, currently serves as an officer, director and stockholder of six radio stations in Virginia, five radio stations in North Carolina, and five radio stations in Florida.
Chesapeake-Portsmouth Broadcasting Corporation (“Chesapeake-Portsmouth”) is a company controlled by Nancy Epperson, wife of Salem’s Chairman of the Board Stuart W. Epperson and sister of CEO Edward G. Atsinger III. Chesapeake-Portsmouth owns and operates radio stations WJGR-AM, Jacksonville, Florida, WZNZ-AM, Jacksonville, Florida and WZAZ-AM, Jacksonville, Florida, which we sold to Chesapeake-Portsmouth on December 1, 2006, for $2.8 million resulting in a pre-tax gain of $0.1 million.
The markets where these radio stations are located are not currently served by stations owned and operated by the company. Under his employment agreement, Mr. Epperson is required to offer the company a right of first refusal of opportunities related to the company’s business.
Radio Stations Owned by Mr. Hinz
Mr. Hinz, a director of the company, through companies or entities controlled by him, operates three radio stations in Southern California. These radio stations are formatted in Christian Teaching and Talk programming in the Spanish language. Operating radio stations with such programming in the markets reached by such stations is not currently part of Salem’s current business strategy.
Truth For Life-Mr. Hinz and Mr. Riddle
Truth For Life is a non-profit organization that is a customer of Salem Communications. During 2008, 2009 and 2010, Truth For Life paid the company approximately $2.4 million, $2.0 million and $2.0 million, respectively, for airtime on its stations. Mr. Hinz was an active member of the board of directors of Truth for Life for 2008, 2009, and through September 2010. Mr. Riddle joined the Truth for Life Board in October 2010.
Split-Dollar Life Insurance
The company purchased split-dollar life insurance policies for its Chairman and Chief Executive Officer in 1997. The premiums were $230,000, for each of the years ended December 31, 2008, 2009 and 2010, respectively. The company is the owner of the policies and is entitled to recover all of the premiums paid on these policies. The company records an asset based on the lower of the aggregate premiums paid or insurance cash surrender value. As of December 31, 2009 and 2010, we recorded net assets of $2.4 million and $2.8 million, respectively. Benefits above and beyond the cumulative premiums paid will go to the beneficiary trusts established by each of the Chairman and Chief Executive Officer.
Transportation Services Supplied by Atsinger Aviation
From time to time, the company rents aircraft from a company that is owned by Edward G. Atsinger III. As approved by the independent members of the company’s board of directors, the company rents these aircraft on an hourly basis at what the company believes are market rates and uses them for general corporate needs. Total rental expense for these aircraft for 2008, 2009 and 2010 amounted to approximately $188,000, $135,000 and $209,000, respectively.
Other Related Party Transactions
On June 3, 2010, we entered into a related party transaction under which the company purchased the former primary residence of our President, Radio Division. The transaction was entered to facilitate the relocation of the President, Radio Division, in order for him to reside near the corporate office as necessary to effectively perform employment related duties. We obtained an independent third-party appraisal of the purchase price of the residence for $0.7 million. On December 29, 2010, we sold the property sold for $0.5 million, resulting in a pre-tax loss of $0.2 million.
During the period ended March 31, 2010, we recorded a loss of $0.2 million associated with a second lien real estate note with an employee.
NOTE 13. DEFINED CONTRIBUTION PLAN
We maintain a 401(k) defined contribution plan (the “401(k) Plan”), which covers all eligible employees (as defined in the 401(k) Plan). Participants are allowed to make non-forfeitable contributions up to 60% of their annual salary, but may not exceed the annual maximum contribution limitations established by the Internal Revenue Service. The plan allows a company match of 50% on the first 3% of the amounts contributed by each participant and 25% on the next 3% contributed but does not match participants’ contributions
in excess of 6% of their compensation per pay period. We contributed and expensed $0.7 million to the 401(k) Plan in 2008. The company match was temporarily suspended in July 2008 as part of an extensive cost reduction program.
NOTE 14. STOCKHOLDERS’ EQUITY
Holders of Class A common stock are entitled to one vote per share and holders of Class B common stock are entitled to ten votes per share, except for specified related party transactions. Holders of Class A common stock and Class B common stock vote together as a single class on all matters submitted to a vote of stockholders, except that holders of Class A common stock vote separately for two independent directors.
On December 13, 2010, we paid a special cash distribution of $0.20 per share on its Class A and Class B common stock to shareholders of record as of the close of business on December 6, 2010. The distribution amounted to approximately $4.8 million.
We account for stock-based compensation expense in accordance with FASB ASC Topic 718 “Compensation-Stock Expense.” As a result, $3.4 million, $0.6 million and $1.4 million of non-cash stock-based compensation expense has been recorded to additional paid-in capital for the year ended December 31, 2008, 2009, and 2010, respectively.
NOTE 15. QUARTERLY RESULTS OF OPERATIONS (UNAUDITED):
The following table sets forth selected financial results of the company on a quarterly basis.
NOTE 16. SEGMENT DATA
FASB ASC Topic 280 “Segment Reporting” requires companies to provide certain information about their operating segments. We have one reportable operating segment - radio broadcasting. The remaining non-reportable segments consist of our Internet businesses, SWN, Townhall.com®, and Salem Consumer Products and our publishing businesses, Salem Publishing and Xulon Press™, which do not meet the reportable segment quantitative thresholds and accordingly are aggregated below as non-broadcast. The radio-broadcasting segment also operates various radio networks.
Management uses operating income before depreciation, amortization, impairments of indefinite-lived intangible assets, (gain) loss on disposal of assets, and costs of denied towers, abandoned projects and terminated transactions as its measure of profitability for purposes of assessing performance and allocating resources.
NOTE 17. SUBSEQUENT EVENTS
On January 6, 2011, we completed the sale of radio station KKMO-AM in Seattle, Washington for $2.7 million.
On February 25, 2011, we completed the sale of radio station KXMX-AM in Los Angeles, California for $12.0 million.
On March 1, 2011, we completed the sale of radio station WAMD-AM in Aberdeen, Maryland resulting in a loss of $0.2 million that was recognized when the APA was entered in September 2010.
Subsequent events reflect all applicable transactions through the date of the filing.
ITEM 9.
ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND FINANCIAL DISCLOSURE.
None.
ITEM 9A.
ITEM 9A. CONTROLS AND PROCEDURES.
(a) Evaluation of Disclosure Controls and Procedures. We maintain disclosure controls and procedures that are designed to ensure that information required to be disclosed in our reports pursuant to the Securities Exchange Act of 1934, as amended (the “Exchange Act”), is recorded accurately, processed, summarized and reported within the time periods specified in the SEC’s rules and forms and that such information is accumulated and communicated to our management, including our Chief Executive Officer and Chief Financial Officer, as appropriate, to allow for timely decisions regarding required disclosure. In designing and evaluating the disclosure controls and procedures, management recognizes that any controls and procedures, no matter how well designed and operated, can provide only reasonable assurance of achieving the desired control objectives, and management is required to apply its judgment in evaluating the cost-benefit relationship of possible controls and procedures. As required by Rules 13a-15(b) and 15d-15(b) under the Exchange Act, we carried out an evaluation, under the supervision and with the participation of senior management, including our Chief Executive Officer and our Chief Financial Officer, of our disclosure controls and procedures, as such term is defined under Rules 13a-15(e) and 15d-15(e) promulgated under the Exchange Act, as of the end of the period covered by this report. Based on this evaluation, our Chief Executive Officer and our Chief Financial Officer concluded that our disclosure controls and procedures were effective at the reasonable assurance level as of the end of the period covered by this report.
(b) Management’s Annual Report on Internal Control Over Financial Reporting. Our management is responsible for establishing and maintaining adequate internal control over financial reporting, as such term is defined in Exchange Act Rules 13a-15(f) and 15d-15(f). Under the supervision and with the participation of our management, including our Chief Executive Officer and Chief Financial Officer, we evaluated the effectiveness of our internal control over financial reporting as of December 31, 2010 based on the criteria established in Internal Control-Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission. Based on our evaluation under that framework and applicable Securities and Exchange Commission rules, our management concluded that our internal control over financial reporting was effective as of December 31, 2010.
(c) Attestation Report of Registered Public Accounting Firm. This annual report does not include an attestation report of our registered public accounting firm regarding the internal control over financial reporting. Management’s report was not subject to attestation by our registered public accounting firm pursuant to rules of the Securities and Exchange Commission that permit us to provide only management’s report in this annual report.
(d) Changes in Internal Control Over Financial Reporting. There were no changes in our internal control over financial reporting during our fourth fiscal quarter for 2010 that have materially affected, or are reasonably likely to materially affect, our internal control over financial reporting.
ITEM 9B.
ITEM 9B. OTHER INFORMATION.
Not applicable.
PART III
ITEM 10.
ITEM 10. DIRECTORS, EXECUTIVE OFFICERS AND CORPORATE GOVERNANCE.
The information required by this item is incorporated by reference to our Definitive Proxy Statement under the heading “DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT,” expected to be filed within 120 days of our fiscal year end.
ITEM 11.
ITEM 11. EXECUTIVE COMPENSATION.
The information required by this item is incorporated by reference to our Definitive Proxy Statement under the heading “EXECUTIVE COMPENSATION,” expected to be filed within 120 days of our fiscal year end.
ITEM 12.
ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT AND RELATED STOCKHOLDER MATTERS.
The information required by this item is incorporated by reference to our Definitive Proxy Statement under the heading “SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT AND RELATED STOCKHOLDER MATTERS” expected to be filed within 120 days of our fiscal year end.
ITEM 13.
ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS AND DIRECTOR INDEPENDENCE.
The information required by this item relating to “Certain Relationships and Related Party Transactions” is incorporated by reference to our Definitive Proxy Statement under the heading “CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS” expected to be filed within 120 days of our fiscal year end.
The information required by this item relating to “Director Independence” is incorporated by reference to our Definitive Proxy Statement under the heading “DIRECTOR INDEPENDENCE” expected to be filed within 120 days of our fiscal year end.
ITEM 14.
ITEM 14. PRINCIPAL ACCOUNTING FEES AND SERVICES.
The information required by this item is incorporated by reference to our Definitive Proxy Statement under the heading “PRINCIPAL ACCOUNTING FEES AND SERVICES,” expected to be filed within 120 days of our fiscal year end.
PART IV
ITEM 15.
ITEM 15. EXHIBITS AND FINANCIAL STATEMENT SCHEDULES.
(a)
1. Financial Statements. The financial statements required to be filed hereunder are included in Item 8.
2. Financial Statement Schedule. The following financial statement schedule for the years ended December 31, 2008, 2009 and 2010 is filed as part of this report and should be read in conjunction with the consolidated financial statements.
SALEM COMMUNICATIONS CORPORATION
Schedule II - Valuation & Qualifying Accounts
(Dollars in thousands)
All other schedules for which provision is made in the applicable accounting regulation of the Securities and Exchange Commission are not required under the related instructions or are inapplicable, and therefore have been omitted.
3. Exhibits.
EXHIBIT LIST
SIGNATURES
Pursuant to the requirements of Section 13 or 15(d) of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned, thereunto duly authorized.
SALEM COMMUNICATIONS CORPORATION
March 11, 2011
By: /s/ EDWARD G. ATSINGER III
Edward G. Atsinger III
Chief Executive Officer
March 11, 2011
By: /s/ EVAN D. MASYR
Evan D. Masyr
Senior 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/ EDWARD G. ATSINGER III
Chief Executive Officer
(Principal Executive Officer)
March 11, 2011
Edward G. Atsinger III
/s/ EVAN D. MASYR
Senior Vice President and Chief Financial Officer
(Principal Financial Officer and Principal Accounting Officer)
March 11, 2011
Evan D. Masyr
/s/ STUART W. EPPERSON
Chairman
March 11, 2011
Stuart W. Epperson
/s/ DAVID DAVENPORT
Director
March 11, 2011
David Davenport
/s/ ROLAND S. HINZ
Director
March 11, 2011
Roland S. Hinz
/s/ PAUL PRESSLER
Director
March 11, 2011
Paul Pressler
/s/ RICHARD A. RIDDLE
Director
March 11, 2011
Richard A. Riddle
/s/ DENNIS M. WEINBERG
Director
March 11, 2011
Dennis M. Weinberg
EXHIBIT INDEX