NOTE 2. IMPAIRMENT OF GOODWILL AND OTHER INDEFINITE-LIVED INTANGIBLE ASSETS

 

Goodwill and indefinite-lived intangible assets

 

We account for goodwill and other indefinite-lived intangible assets in accordance with FASB ASC Topic 350 “Intangibles—Goodwill and Other.” Approximately 71% of our total assets as of December 31, 2014, 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. Broadcast licenses account for approximately 94% of our indefinite-lived intangible assets. Goodwill and mastheads account for the remaining 6%. We believe that our estimate of the value of our broadcast licenses, mastheads, and goodwill is a critical accounting estimate as the value is significant in relation to our total assets, and our estimates incorporate variables and assumptions that are based on experiences and judgment about future operating performance of our markets and business segments.

 

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. We complete our annual impairment tests in the fourth quarter of each year. 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.

 

In July 2012, the FASB issued Accounting Standards Update (“ASU”) 2012-02, “Intangibles – Goodwill and Other (Topic 350).” Under ASU 2012-02, we have the option to assess whether it is more likely than not that an indefinite-lived intangible asset is impaired. If it is more likely than not that impairment exists, we are required to perform a quantitative analysis to estimate the fair value of the assets. The qualitative assessment requires significant judgment in considering events and circumstances that may affect the estimated fair value of our indefinite-lived intangible assets and to weigh these events and circumstances by what we believe to be the strongest to weakest indicator of potential impairment. We adopted the provisions of ASU 2012-02 as of our 2012 annual testing period.

 

ASU 2012-02 provides examples of events and circumstances that could affect the estimated fair value of indefinite-lived intangible assets; however, the examples are not all-inclusive and are not by themselves indicators of impairment. We considered these events and circumstances, as well as other external and internal considerations. Our analysis, in order of what we consider to be the strongest to weakest indicators of impairment include: (1) the difference between any recent fair value calculations and the carrying value; (2) financial performance, such as station operating income, including performance as compared to projected results used in prior estimates of fair value; (3) macroeconomic economic conditions, including limitations on accessing capital that could affect the discount rates used in prior estimates of fair value; (4) industry and market considerations such as a declines in market-dependent multiples or metrics, a change in demand, competition, or other economic factors; (5) operating cost factors, such as increases in labor, that could have a negative effect on future expected earnings and cash flows; (6) legal, regulatory, contractual, political, business, or other factors; (7) other relevant entity-specific events such as changes in management or customers; and (8) any changes to the carrying amount of the indefinite-lived intangible asset.

 

Broadcast licenses

 

In the case of our broadcast radio stations, we would not be able to operate the properties without the related FCC 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 that are necessary for FCC renewal. Historically, all of our broadcast licenses have been renewed at the end of their respective periods, and we expect all broadcast licenses to be renewed in the future. Accordingly, we consider our broadcast licenses to be indefinite-lived intangible assets.

 

The unit of accounting we use 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 and cash flows are available and the level reviewed by management to analyze operating results.

 

We perform a qualitative assessment for each of our broadcast market clusters. We review the significant assumptions and key estimates applicable to our prior year valuations of the estimated fair value to assess if events and circumstances have occurred that could affect these assumptions and key estimates. The significant assumptions and key estimates used in the fair value estimates assume a hypothetical start-up station with industry specific market assumptions such as forecasted revenue, operating margins, forecasted growth rates, estimated start-up costs, losses expected to be incurred in the early years, competition within the market, the effective tax rate, future terminal values, a risk-adjusted discount rate, future economic and market conditions, and market comparables. We also review internal benchmarks and economic performance for each of our markets to conclude if reasonably reliance can be placed upon the prior year fair value estimates and assumptions as a starting point to our qualitative analysis.

 

We selected eleven of our market clusters for further testing as we have not performed an independent third party fair value appraisal in the last two annual testing periods. The table below shows the percentage within a range by which our estimated fair value exceeded the carrying value of our broadcasting licenses for these eleven market clusters:

 

 

The first step of our qualitative assessment is to calculate the excess fair value, or the amount by which our prior year estimated fair value exceeds the current year carrying value. We believe based on our analysis and review, including the financial performance of each market, that a 25% excess fair value margin is conservative and reasonable in the qualitative analysis. Markets with an excess fair value of 25% or more are not likely to be impaired. Fifteen of the eighteen markets for which a fair value appraisal was obtained in the prior year were subject to further testing. The table below presents the percentage within a range by which our prior year start-up income estimated fair value exceeds the current year carrying value of our broadcasting licenses:

 

  

The second step of our qualitative review consists of a review of the financial operating results for each market cluster. Radio stations are often sold on the basis of a multiple of projected cash flow, or station operating income less station operating expenses (“SOI”). Numerous trade organizations and analysts review these radio stations sales to track SOI multiples applicable to each transaction. Based on published reports and analysis of market transactions, we believe industry benchmarks to be in the six to seven times cash flow range. We elected an SOI benchmark of four as a conservative indicator of fair value. Using the SOI multiple to estimate fair value, we determined that three of our remaining market cluster were subject to further testing. The table below presents the percentage within a range by which our estimated fair value as a multiple of SOI exceeded the carrying value of our broadcasting licenses for these market clusters:

 

 

We engaged an independent third-party appraisal and valuation firm to assist us in estimating the fair value of our broadcast licenses that were subject to further testing. Bond & Pecaro prepared valuations of the estimated fair value for the testing period ending December 31, 2012 and 2013. Noble Financial Capital Markets prepared the valuations for the testing period ending December 31, 2014.

 

In each of these years, the estimated fair value was determined using an income approach that measures the expected economic benefits that the broadcast licenses provide. These future economic benefits are discounted using a discounted cash flow analysis that assumes that the broadcast licenses are held by hypothetical start-up station. 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 projection period for years 2012 and 2013 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. For 2014, cash flows were developed using a five year projection period, which represents the typical time required for a new broadcast station to reach normalized operations and profitability. For cash flows beyond the projection period, a terminal value was calculated using the Gordon constant growth model and long-term industry growth rate assumptions based on long-term industry growth and GDP inflation rates.

 

 

The discount rate reflects the weighted average cost of capital (WACC) developed based on data from same or similar industry participants and publicly available market data as of the valuation date. Similar industry participants included those broadcast entities for which 70% or more of their operation were comprised of radio broadcasting. The decrease in the WACC for 2014 as compared to 2013 was largely attributable to decreases in the risk free rate and corporate borrowing interest rates.We performed a sensitivity analysis of certain key assumptions including reducing the long-term revenue growth rate and increasing the weighted average cost of capital by 100 basis point to determine that such changes would have no incremental impact to the carrying value of our broadcast licenses.

 

 

Based on our review and analysis we determined that no impairment charges were necessary to the carrying value of our broadcast licenses as of the annual testing period ending December 31, 2014. Based on prior tests, we determined that no impairments of our broadcast licenses were necessary for years ending December 31, 2013 and 2012, respectively.

Mastheads

 

Mastheads consist of the graphic elements that identify our publications to readers and advertisers. These include customized typeset page headers, section headers, and column graphics as well as other name and identity stylized elements within the body of each publication. We test the value of mastheads as a single combined publishing entity as our print magazines operate from one shared facility under one general manager with operating results and cash flows reported on a combined basis for all publications. This is the lowest level for which discrete financial information and cash flows are available and the level reviewed by management to analyze operating results.

 

We have regularly performed quantitative reviews of our mastheads based on the low margin by which our estimated fair values have exceeded our carrying value and actual operating results that do not meet or exceed our expectations. We engaged an independent third-party appraisal firm to assist us in estimating the fair value of our mastheads using a relief from royalty method, which is a form of the income approach. Bond & Pecaro prepared valuations of the estimated fair value for the testing period ending December 31, 2012 and 2013. Noble Financial Capital Markets prepared the valuations for the testing period ending December 31, 2014.

 

The relief from royalty method estimates the fair value of mastheads through use of a discounted cash flow model that incorporates a hypothetical “royalty rate” that a third-party owner would be willing to pay in lieu of owning the asset. The royalty rate used is based on observed royalty rates for comparable assets as of the valuation date. When determining the future cash flow estimates, we must estimate future net sales and a fair market royalty rate at an appropriate discount rate to measure the present value of the anticipated cash flows. The key estimates and assumptions to which are as follows:

 

 

As of our June 2012 interim testing period, the estimated fair value of our mastheads exceeded our carrying value by 1.7%. As of our 2012 annual testing, we recorded an impairment charge associated with mastheads of $0.1 million driven by a reduction in projected net revenues. For the interim testing performed as of June 2013, projected revenue growth rates were lowered based on failure of the print magazine segment to achieve the amounts previously projected. Based on these lower actual and projected growth rates. we recorded an impairment of $0.3 million as of June 2013. During our 2013 annual testing, our royalty rate was lowered to 2.0% from the 3.0% industry standard based on gross margins associated with the segment. Additionally, the discount rate was raised from 9.0% to 9.5% based on risks associated with print magazines. We recorded an additional $0.3 million impairment charge associated with mastheads because of these changes. We performed a sensitivity analysis of certain key assumptions including reducing the long-term revenue growth rate and increasing the weighted average cost of capital by 100 basis point to determine that such changes would have no incremental impact to the carrying value of our mastheads.

 

During our annual testing for 2014, which coincided with our budget and financial forecasts process for the following year, we decided to cease publishing Townhall Magazine as of December 2014 and we may cease other publications in the future. We lowered our projected net revenues for the reductions in the number of publications. Although we expect to realize cost savings with the planned reductions, we do not expect to realize net income within the next twelve months. Based on these revised projections we recorded an impairment loss of $34,000 associated with magazine mastheads.

 

These impairments were driven by reductions in projected net revenues and a reduction in the number of publications produced. The growth of digital-only publications, that are often free to readers or at a significantly reduced cost to readers has hindered the ability of the publishing industry to recover from the economic recession that began in 2008. We believe that the impairments are indicative of trends in the publishing industry as a whole and are not unique to our company or operations.

 

Goodwill - Broadcast 

 

The unit of accounting we use 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. Fourteen of our 33 market clusters and our networks have goodwill associated with them as of our annual testing period ending December 31, 2014 compared to eleven of our 32 markets as of the annual testing period ending December 31, 2013.

 

We perform a qualitative assessment to determine if events and circumstances have occurred that indicate it is more likely than not that the fair value of the assets in each of our market clusters are less than their carrying values. We review the significant inputs used in our prior year fair value estimates to determine if any changes to those inputs should be made. We estimate fair value using a market and income approach and compare. We compare the estimated fair value of each market cluster to its carrying value, including goodwill. Under the market approach, we apply a multiple of four to each market clusters' station operating income (“SOI”) to estimate the fair value. We believe that an SOI benchmark of four is a conservative indicator of fair value as described above. Under the income approach, we utilize a discounted cash flow method to calculate the estimated fair value of the accounting unit. The discounted cash flow method incorporates the cumulative present value of the net after-tax cash flows projected for each market assuming that it is a hypothetical start-up station. If the carrying amount, including goodwill, exceeds the estimated fair value of the market cluster, an indication exists that the amount of goodwill attributed to that market cluster may be impaired. When we have indication of impairment, we engage an independent third-party appraisal and valuation firm to assist us with determining the enterprise value. Bond & Pecaro prepared valuations of the estimated fair value for the testing periods ending December 31, 2012 and 2013. Noble Financial Capital Markets prepared the valuations for the testing period ending December 31, 2014.

 

The enterprise valuation assumes that the subject assets are installed as part of an operating business rather than as a hypothetical start-up. We performed a sensitivity analysis of certain key assumptions including reducing the long-term revenue growth rate and increasing the weighted average cost of capital by 100 basis point to determine that such changes would have no incremental impact to the carrying value of goodwill associated with our broadcast entities.

The key estimates and assumptions used for our enterprise valuations are as follows:

 

 

Based on our review and analysis we determined that no impairment charges were necessary to the carrying value of our broadcast goodwill as of the annual testing period ending December 31, 2014. Based on prior tests, we determined that no impairments of our broadcast goodwill were necessary for years ending December 31, 2012 and 2011, respectively. The estimated fair value of our networks exceeded the carrying value by 64%, 63%, and 113.0% for each of the annual testing periods ending December 31, 2014, 2013 and 2012, respectively. The tables below present the percentage within a range by which the estimated fair value exceeded the carrying value of each of our market clusters, including goodwill:

Goodwill – Digital Media

 

The unit of accounting we use to test goodwill in our digital media segment is the entity level, which includes Salem Web Network, Townhall.com, Eagle Financial Publications and Eagle Wellness. The financial statements for Salem Web Network reflect the operating results and cash flows for all of our Internet sites and our church product sites exclusive of Townhall.com. The financial statements for Townhall.com reflect the operating results for each of our conservative opinion sites. Eagle Wellness includes only the results of the e-commerce site for nutritional products.

 

We perform a qualitative assessment to determine if events and circumstances have occurred that indicate it is more likely than not that the fair value of the assets in each of our digital media entities are less than their carrying values. We review the significant inputs used in our prior year fair value estimates to determine if any changes to those inputs should be made. We estimate fair value using a market and income approach and compare. We compare the estimated fair value of each entity to its carrying value, including goodwill. Under the market approach, we apply a multiple of four to each entities operating income to estimate the fair value. We believe that a multiple of four is a conservative indicator of fair value as described above. Under the income approach, we utilize a discounted cash flow method to calculate the estimated fair value of the accounting unit. The discounted cash flow method incorporates the cumulative present value of the net after-tax cash flows projected for each unit assuming that it is a hypothetical start-up station.

 

If the carrying amount, including goodwill, exceeds the estimated fair value of the entity, an indication exists that the amount of goodwill attributed to that entity may be impaired. When we have indication of impairment, we engage an independent third-party appraisal and valuation firm to assist us with determining the enterprise value. Bond & Pecaro prepared valuations of the estimated fair value for the testing period ending December 31, 2012 and 2013. Noble Financial Capital Markets prepared the valuations for the testing period ending December 31, 2014.

We performed a sensitivity analysis of certain key assumptions including reducing the long-term revenue growth rate and increasing the weighted average cost of capital by 100 basis point to determine that such changes would have no incremental impact to the carrying value of goodwill associated with our digital media entities.

 

Based on our review and analysis we determined that no impairment charges were necessary to the carrying value of our digital media goodwill as of the annual testing periods ending December 31, 2014, December 31, 2013, and December 31, 2012, respectively.

 

 

Goodwill – Publishing

 

The unit of accounting we use to test goodwill in our publishing segment is the entity level, which includes Salem Publishing, Eagle Regnery, and Xulon Press. Salem Publishing is our printing entity that produces our print magazines from a stand-alone facility, under one general manager, with operating results and cash flows of all publications reported on a combined basis. Eagle Regnery is our book publishing entity based in Washington DC, with a stand-alone facility under one general manager, with operating results and cash flows of reported at the entity level. Xulon Press also operates from a stand-alone facility in Orlando, Florida under one general manager who is responsible for the separately stated operating results and cash flows. Each of these entities has goodwill associated with them as of our annual testing period.

 

We have regularly performed quantitative reviews of goodwill associated with our print magazine entity based on the low margin by which our estimated fair values exceed our carrying value including goodwill and actual operating results that have not met our expectations. We engage an independent third-party appraisal firm to assist us with estimating the enterprise value of our entities.

 

Bond & Pecaro prepared valuations of the estimated fair value for the testing period ending December 31, 2012 and 2013. Noble Financial Capital Markets prepared the valuations for the testing period ending December 31, 2014. The enterprise valuation assumes that the subject assets are installed as part of an operating business rather than as a hypothetical start-up. The key estimates and assumptions used for our enterprise valuations are as follows:

 

 

Based on our review and analysis of the enterprise estimated fair value, we recorded a $0.4 million impairment charge associated with the print magazine goodwill as of the June 2013 interim testing period. This impairment was driven by lower projected profit margins based on the failure of the print magazine segment to achieve the amounts previously projected. Additionally, the discount rate was raised from 9.0% to 9.5% based on risks associated with print magazines. The decline in revenues from print magazines is prevalent throughout the industry and is not unique to our operations. No goodwill impairment charges were necessary as of the annual testing period ended December 31, 2013.

 

Based on the impairment recognized to the value of our mastheads in 2014, we could not conclude that it was more likely than not that goodwill associated with our magazine publishing unit was not impaired. We obtained an independent fair value of our magazine publishing unit as of December 2014. Based on this valuation, we determined that the carrying value of the goodwill was less than the implied value of goodwill as of that date and we recorded an impairment charge of $45,000.

 

 

We believe that we have made reasonable estimates and assumptions to calculate the estimated fair value of our indefinite-lived intangible assets, however, these estimates and assumptions could be materially different from actual results. If actual market conditions are less favorable than those projected by the industry or by us, or if events occur or circumstances change that would reduce the estimated fair value of our indefinite-lived intangible assets below the amounts reflected on our balance sheet, we may recognize future impairment charges, the amount of which may be material.