The accompanying Consolidated Financial Statements of Salem Media Group, Inc. (“Salem” “we,” “us,” “our” or the “company”) include the company and its wholly owned subsidiaries. All significant intercompany balances and transactions have been eliminated.

Our publishing operating segment includes three businesses: (1) Regnery Publishing, a traditional book publisher that has published dozens of bestselling books by leading conservative authors and personalities, including Ann Coulter, Newt Gingrich, David Limbaugh, Ed Klein, Mark Steyn and Dinesh D’Souza; (2) Salem Author Services, a self-publishing service for authors through Xulon Press, Mill City Press and Bookprinting.com; and (3) Singing News^® magazine, previously Salem Publishing™ which produces and distributes a print magazine.

The carrying value of our 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. During 2016, we recorded an impairment of approximately $8,000 associated with amortizable assets within our wellness products business. No adjustments to the carrying amounts of our amortizable intangible assets were necessary during the year ended December 31, 2017.

We account for stock-based compensation under the provisions of Financial Accounting Standards Board (“FASB”) Accounting Standards Codification (“ASC”) Topic 718, Compensation—Stock Compensation. We record equity awards with stock-based compensation measured at the fair value of the award as of the grant date. We determine the fair value of our options using the Black-Scholes option-pricing model that requires the input of highly subjective assumptions, including the expected stock price volatility and expected term of the options granted. The exercise price for options is equal to the closing market price of Salem Media Group common stock as of the date of grant. We use the straight-line attribution method to recognize share-based compensation costs over the expected 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. See Note 15 – Stock Incentive Plan.

Costs of media advertising and associated production costs are expensed as incurred and amounted to approximately $12.0 million, $12.3 million and $11.3 million for each of the years ended December 31, 2017, 2016 and 2015, respectively.

 

Deferred rental revenue was $4.3 million as of December 31, 2017 and 2016.

We provide health insurance benefits to eligible employees under a self-insured plan whereby we pay 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. Our estimates are based on historical data and probabilities. 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 the actual amount of claims increase or decrease beyond what was anticipated, we may adjust our future reserves. Our self-insurance liability was $0.7 million and $0.8 million at December 31, 2017 and 2016, respectively. We have not modified our estimate methodology and we have not historically recognized significant losses from changes in our estimates. While we had an unusually high level of claims in the third quarter of 2016 due to a larger than normal number of expensive claims, we believe that our estimates and assumptions are reasonable and that our reserves are accurately reflected.

On March 27, 2013, we entered into an interest rate swap agreement with Wells Fargo that began on March 28, 2014 with a notional principal amount of $150.0 million. The agreement was entered to offset risks associated with the variable interest rate on the Term Loan B. Payments on the swap were due on a quarterly basis with a LIBOR floor of 0.625%. The swap was to expire on March 28, 2019 at a fixed rate of 1.645%. The interest rate swap agreement was not designated as a cash flow hedge, and as a result, all changes in the fair value were recognized in the current period statement of operations rather than through other comprehensive income. On May 19, 2017, we paid $0.8 million to terminate the interest rate swap. As of December 31, 2017, we did not have any outstanding derivative instruments.

 

		December 31, 2016			December 31, 2017
		(Dollars in thousands)
Fair value of interest rate swap		$	514		$	—

As of December 31, 2017, the carrying value of cash and cash equivalents, trade accounts receivables, accounts payable, accrued expenses and accrued interest approximates fair value due to the short-term nature of such instruments.  The carrying value of the ABL approximates fair value as the related interest rates approximate rates currently available to the company. The carrying amount of the Notes at December 31, 2017 was $255.0 million, which approximated the fair value based on the prevailing interest rates and trading activity of our Notes. See Note 12 – Fair Value Measurements and Disclosures.

For financial reporting purposes, we recorded a valuation allowance of $6.2 million as of December 31, 2017 to offset $6.0 million of the deferred tax assets related to the state net operating loss carryforwards and $0.2 million associated with asset impairments. During the third quarter of 2016, we identified an error in our estimated valuation allowance for certain deferred tax assets. For financial reporting purposes, we recorded a valuation allowance of $4.5 million as of December 31, 2016 to offset $4.2 million of the deferred tax assets related to the state net operating loss carryforwards and $0.3 million associated with asset impairments. We believe that our estimates and assumptions are reasonable and that our reserves are accurately reflected.

We review and reevaluate uncertain tax positions on a quarterly basis. Changes in assumptions may result in the recognition of a tax benefit or an additional charge to the tax provision. During the year ended December 31, 2017, we did not have any material unrecognized tax benefits recorded. During the year ended December 31, 2016, we recognized a net decrease of $0.1 million in liabilities associated with uncertain tax positions. Accordingly, we have no liabilities for uncertain tax positions recorded at December 31, 2016. The $0.1 million balance at December 31, 2015 included approximately $21,000 of accrued interest, net of federal income tax benefits, and $6,000 for the related penalties previously recorded in income tax expense. Our evaluation was performed for all tax years that remain subject to examination, which range from 2013 through 2016. There are currently no tax examinations in process. In August 2017, we received a letter notifying us that the City of New York is initiating an audit of our tax returns for years 2013 and 2014. As of fourth quarter, we are still in the early stages of the audit. We do not anticipate the outcome to be material nor significant.

Options to purchase 1,428,462, 1,720,000 and 1,581,123 shares of Class A common stock were outstanding at December 31, 2017, 2016 and 2015, respectively. 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. The number of anti-dilutive shares as of December 31, 2017, 2016 and 2015 was 814,556, 795,378 and 589,437, respectively.

		Year Ended December 31,
		2015			2016			2017
Weighted average shares			25,426,732			25,669,538			26,068,942
Effect of dilutive securities - stock options			461,087			365,452			366,815
Weighted average shares adjusted for dilutive securities			25,887,819			26,034,990			26,435,757

We may enter into agreements or investments with other entities that could qualify as variable interest entities (“VIEs”) in accordance with Financial Accounting Standards Board (“FASB”) Accounting Standards Codification (“ASC”) Topic 810 Consolidation. A VIE is consolidated in the financial statements if we are deemed to be the primary beneficiary. The primary beneficiary is the entity that holds the majority of the beneficial interests in the VIE, either explicitly or implicitly. A VIE is an entity for which the primary beneficiary’s interest in the entity can change with variations in factors other than the amount of investment in the entity. We perform our evaluation for VIE’s upon entry into the agreement or investment. We re-evaluate the VIE when or if events occur that could change the status of the VIE.

Certain reclassifications have been made to the prior year financial statements to conform to the current year presentation. These include the reclassification of land held for sale from current assets to long-term assets based on the APA term that exceeds twelve months.

We identified an adjustment related to the accounting for deferred taxes associated with non-qualified stock options that were voluntarily surrendered or forfeited. These forfeitures should have been adjusted to the deferred tax assets with a corresponding entry to Additional Paid In Capital (“APIC”) or retained earnings if there was not a sufficient amount of excess tax benefits within APIC (“pool”) to absorb.

 

The impact primarily resulted from a voluntary surrender of 1,741,854 options in the third quarter of 2008 that most senior executives voluntarily participated in. The voluntary surrender was not accompanied by a concurrent grant of (or offer to grant) a replacement award or other valuable consideration. The voluntary surrender was accounted for as a repurchase for no consideration. The deferred tax asset associated with these options should have offset the APIC pool to the extent available, with the excess recorded as deferred tax expense.

 

In order to assess materiality with respect to the adjustments, we considered SAB 99, Materiality and SAB 108, Considering the Effects of Prior Year Misstatements when Quantifying Misstatements in Current Year Financial Statements, and determined that the impact of the adjustments on prior period consolidated financial statements was immaterial.

 

The impact of the adjustments on the Consolidated Financial Statements for each of the years presented is as follows:

 

		December 31, 2014
		As Reported			Adjustment			As Revised
		(in thousands)
Additional Paid In Capital		$	240,493		$	(1,079)		$	239,414
Retained Earnings (Accumulated Deficit)			(2,770)			(1,447)			(4,217)
Total Stockholders' Equity			203,994			(2,526)			201,468

 

		December 31, 2015
		As Reported			Adjustment			As Revised
		(in thousands)
Additional Paid In Capital			241,780			(1,153)			240,627
Retained Earnings (Accumulated Deficit)			1,768			(1,447)			321
Total Stockholders' Equity			209,821			(2,600)			207,221

 

		December 31, 2016
		As Reported			Adjustment			As Revised
		(in thousands)
Deferred Income Tax Liability		$	60,769		$	2,654		$	63,423
Total Liabilities			376,422			2,654			379,076
Additional Paid In Capital			243,607			(1,207)			242,400
Retained Earnings (Accumulated Deficit)			3,963			(1,447)			2,516
Total Stockholders' Equity			213,846			(2,654)			211,192

 

In considering if we should amend previously filed 2016 Form 10-K and 2017 Form 10-Q’s, our evaluation of SAB 99 considered that the aggregate impact of the adjustment did not impact our net income or loss before income taxes, was not material to our operating results, had no impact on operating cash flows, and had an insignificant impact on the Consolidated Balance Sheets. In aggregate, we do not believe it is probable that the views of a reasonable investor would have changed by this adjustment in each of the consolidated financial statements to warrant an amendment. Accordingly, the adjustment was made to the December 31, 2016 Consolidated Balance Sheet and the December 31, 2014 balances in the Consolidated Statement of Changes in Stockholders’ Equity as described above using the SAB 108 approach. The cumulative adjustment was recorded as a decrease of $2.7 million in deferred tax assets, which is presented as an increase in deferred tax liabilities, with a corresponding decrease in APIC of $1.2 million and a decrease in retained earnings of $1.5 million.

 

Recent Accounting Pronouncements 

 

In November 2016, the FASB issued ASU 2016-18, Statements of Cash Flows (Topic 230): Restricted Cash, which provides guidance on the presentation of restricted cash or restricted cash equivalents in the statement of cash flows. ASU 2016-18 is effective for fiscal years beginning after December 15, 2017, and interim periods within those fiscal years. We do not expect the adoption of ASU 2016-18 to have a material impact on our cash flows or presentation thereof. 

 

In October 2016, the FASB issued ASU 2016-16 Intra-Entity Transfers of Assets Other Than Inventory” which modifies existing guidance for the accounting for income tax consequences of intra-entity transfers of assets. This ASU requires entities to immediately recognize the tax consequences on intercompany asset transfers (excluding inventory) at the transaction date, rather than deferring the tax consequences under current GAAP. The guidance is effective for fiscal years beginning after December 15, 2018, and interim reports within those fiscal years, with early adoption permitted only as of the first quarter of a fiscal year. We do not expect the adoption of ASU 2016-16 to have a material impact on our financial position, results of operations, cash flows, or presentation thereof.

 

In August 2016, the FASB issued ASU 2016-15, Statement of Cash Flows (Topic 230): Classification of Certain Cash Receipts and Cash Payments, which clarifies how entities should classify certain cash receipts and cash payments on the statement of cash flows with the objective of reducing diversity in practice related to eight specific types of transactions. The guidance is effective for fiscal years beginning after December 15, 2017, and interim periods within those fiscal years, with early adoption permitted. We do not expect the adoption of ASU 2016-15 to have a material impact on our financial cash flows or presentation thereof.

 

In June 2016, the FASB issued ASU 2016-13, Financial Instruments-Credit Losses, which changes the impairment model for most financial assets and certain other instruments. For trade and other receivables, held-to-maturity debt securities, loans and other instruments, entities will be required to use a new forward-looking “expected loss” model that will replace today’s “incurred loss” model and generally will result in the earlier recognition of allowances for losses. For available-for-sale debt securities with unrealized losses, entities will measure credit losses in a manner similar to current practice, except that the losses will be recognized as an allowance. The guidance is effective for fiscal years beginning after December 15, 2019, and interim periods within those fiscal years, with early adoption permitted. We have not yet evaluated the impact of the adoption of this accounting standard on our financial position, results of operations, cash flows, or presentation thereof.

 

In February 2016, the FASB issued ASU 2016-02, Leases (Topic 842), which requires that lessees recognize a right-of-use asset and a lease liability for all leases with lease terms greater than twelve months in the balance sheet. ASU 2016-02 requires additional disclosures including the significant judgments made by management to provide insight into the revenue and expense to be recognized from existing contracts and the timing and uncertainty of cash flows arising from leases. The guidance is effective for fiscal years beginning after December 15, 2018, and interim periods within those fiscal years, with early adoption permitted. We have not yet determined the dollar impact of recording operating leases on our statement of financial position. The adoption of ASU 2016-02 will have a material impact on our financial position and the presentation thereof. Our existing credit facility stipulates that our covenants are based on GAAP as of the agreement date. Therefore, the material impact of recording right-to-use assets and lease liabilities on our statement of financial position is not expected to impact the compliance status for any covenant.

 

In January 2016, the FASB issued ASU 2016-01, Recognition and Measurement of Financial Assets and Financial Liabilities, which provides updated guidance that enhances the reporting model for financial instruments, including amendments, to address aspects of recognition, measurement, presentation and disclosure. The guidance is effective for fiscal years beginning after December 15, 2017, and interim periods within those fiscal years. With the exception of the early application guidance applicable to certain entities, early adoption of the amendments is not permitted. We do not expect the adoption of this accounting standard to have a material impact on our financial position, results of operations, cash flows, or presentation thereof.