The Company has certain stock option plans under which it awards incentive and non-qualified stock options to employees, officers, and outside directors. Stock options granted to employees have either a ten year contractual term with one-fifth yearly vesting over a five year period or a six year contractual term with one-third yearly vesting over a three year period. Stock options granted to outside directors have a ten year contractual term with a vesting period of six months.

On July 10, 2014, the Company granted an aggregate of 55,000 incentive stock options (“ISOs”) from the Company’s 2010 Stock Option Plan to certain employees, of which 45,000 ISOs were granted to the Company’s Chief Operating Officer (“COO” who was appointed March 20, 2014). The ISOs granted were for a contractual term of six years with one-third yearly vesting over a three year period. The exercise price of the ISOs was $5.00 per share, which was equal to our closing stock price as reported on Nasdaq on the date of grant.

On September 18, 2014, the Company granted an aggregate of 16,800 non-qualified stock options (“NQSOs”) from the Company’s 2003 Outside Directors Stock Plan to our seven re-elected directors at our Annual Meeting of Stockholders held on September 18, 2014. The NQSOs granted were for a contractual term of ten years with a vesting period of six months. The exercise price of the NQSOs was $3.70 per share, which was equal to our closing stock price the day preceding the grant date, pursuant to the 2003 Outside Directors Stock Plan.

As of September 30, 2014, the Company had an aggregate of 76,000 employee stock options outstanding (from the 2004 and 2010 Stock Option Plans), of which 21,000 are vested. The weighted average exercise price of the 21,000 outstanding and fully vested employee stock options is $7.13 with a remaining weighted contractual life of 0.3 years. Additionally, the Company had an aggregate of 170,343 outstanding director stock options (from the 2003 Outside Directors Stock Plans), of which 153,543 are vested. The weighted average exercise price of the 153,543 outstanding and fully vested director stock options is $9.30 with a remaining weighted contractual life of 4.9 years. 

The summary of the Company’s total Stock Plans as of September 30, 2014, as compared to September 30, 2013, and changes during the periods then ended, are presented below. The Company’s Plans consist of the 2004 and 2010 Stock Option Plans and the 2003 Outside Directors Stock Plans:

⁽¹⁾ Options with exercise prices ranging from $2.79 to $14.75

⁽²⁾ Options with exercise prices ranging from $5.50 to $14.75

The Company follows FASB ASC 718, “Compensation – Stock Compensation” (“ASC 718”) to account for stock-based compensation. ASC 718 requires all stock-based payments to employees, including grants of employee stock options, to be recognized in the income statement based on their fair values.

The Company estimates fair value of stock options using the Black-Scholes valuation model. Assumptions used to estimate the fair value of stock options granted include the exercise price of the award, the expected term, the expected volatility of the Company’s stock over the option’s expected term, the risk-free interest rate over the option’s expected term, and the expected annual dividend yield. The fair value of the options granted during the nine months ended September 30, 2014 and 2013 and the related assumptions used in the Black-Scholes option model used to value the options granted were as follows (No options were granted to employees during the nine months ended September 30, 2013):

⁽¹⁾ The risk-free interest rate is based on the U.S. Treasury yield in effect at the grant date over the expected term of the option.

⁽²⁾ The expected volatility is based on historical volatility from our traded Common Stock over the expected term of the option.

⁽³⁾ The expected option life is based on historical exercises and post-vesting data.

The following table summarizes stock-based compensation recognized, which is included in selling, general and administrative expenses, for the three and nine months ended September 30, 2014 and 2013 for our employee and director stock options.

The Company recognized stock-based compensation expense using a straight-line amortization method over the requisite service period, which is the vesting period of the stock option grant. ASC 718 requires that stock based compensation expense be based on options that are ultimately expected to vest. ASC 718 requires forfeitures to be estimated at the time of grant and revised, if necessary, in subsequent periods if actual forfeitures differ from those estimates. The Company has generally estimated forfeiture rates based on historical trends of actual forfeitures. When actual forfeitures vary from our estimates, the Company recognizes the difference in compensation expense in the period the actual forfeitures occur or when options vest. The total stock-based compensation expense for the nine months ended September 30, 2014 included a reduction in expense of approximately $54,000 resulting from the forfeiture of options by Mr. Jim Blankenhorn, our previous COO, who voluntarily resigned from the Company effective March 28, 2014. The COO was granted an option from the Company’s 2010 Stock Option Plan on July 25, 2011, which provided for the purchase of up to 60,000 shares of the Company’s Common Stock at $7.85 per share. The options had a six year contractual term with one-third yearly vesting over a three year period. As of September 30, 2014, the Company has approximately $181,000 of total unrecognized compensation cost related to unvested options, of which $36,000 is expected to be recognized in remaining 2014, $73,000 in 2015, $53,000 in 2016, with the remaining $19,000 in 2017.