12. Stock-Based Compensation and Stock Awards

Stock Options

On September 19, 1997, the Company adopted the Dril-Quip, Inc. 1997 Incentive Plan (as amended, the “1997 Plan”) and the Company reserved 3,400,000 shares of Common Stock for use in connection with the 1997 Plan. During 2001, the Company reserved an additional 1,400,000 shares for use in connection with the 1997 Plan. There are no options that remain outstanding under the 1997 Plan as the last grants were made in 2003. On May 13, 2004, the Company’s stockholders approved the 2004 Incentive Plan of Dril-Quip, Inc. (as amended in 2012, the “2004 Plan”), which reserved up to 2,696,294 shares of Common Stock to be used in connection with the 2004 Plan. Persons eligible for awards under the 1997 Plan and 2004 Plan are employees holding positions of responsibility with the Company or any of its subsidiaries and members of the Board of Directors. Options granted under the 1997 Plan and the 2004 Plan have a term of ten years and become exercisable in cumulative annual increments of one-fourth of the total number of shares of Common Stock subject thereto, beginning on the first anniversary of the date of the grant.

The fair value of stock options granted is estimated on the grant date using the Black-Scholes option pricing model. The expected life is based on the Company’s historical trends, and volatility is based on the historical volatility over the expected life of the options. The risk-free interest rate is based on U.S. Treasury yield curve at the grant date. The Company does not pay dividends and, therefore, there is no assumed dividend yield.

On October 28, 2011, the Company granted options to purchase 213,000 shares, of Common Stock pursuant to the 2004 Plan to certain officers and employees. There were no stock options granted in 2012 or 2013. The following table presents the assumptions used in the option pricing model.


	2011
Expected life (years)		6.0
Volatility		49.5	%
Risk-free interest rate		1.13	%
Dividend yield		0.0	%
Fair value of each option	$	32.38

Option activity for the year ended December 31, 2013 was as follows:


	Number of Options			Weighted Average Price		Aggregate intrinsic value (in millions)		Weighted Average Remaining Contractual Life (in years)
Outstanding at December 31, 2012		751,687		$	52.74
Granted		—			—
Exercised		(234,417	)		44.82
Forfeited		(4,375	)		65.63

Outstanding at December 31,2013		512,895		$	56.25	$	27.5		6.25

Exercisable at December 31,2013		383,459		$	52.29	$	22.1		5.82

The total intrinsic value of stock options exercised in 2013, 2012 and 2011 was $10.7 million, $7.6 million and $4.9 million, respectively. The income tax benefit realized from stock options exercised was $3.7 million for the year ended December 31, 2013. There were no anti-dilutive stock option shares on December 31, 2013.

Stock-based compensation is recognized as selling, general and administrative expense in the accompanying Consolidated Statements of Income. During the years ended December 31, 2013, 2012 and 2011, stock-based compensation expense for stock option awards totaled $3.4 million, $3.8 million and $4.5 million, respectively. Stock option expense for 2011 excludes $1.4 million of non-cash expense due to the vesting of Mr. J. Mike Walker’s stock options as a result of his retirement. This expense for early vesting is included in Special items on the Consolidated Statements of Income and discussed in Note 14 of Notes to Consolidated Financial Statements. No stock-based compensation expense was capitalized during 2013, 2012 or 2011.

Options granted to employees vest over four years and the Company recognizes compensation expense on a straight-line basis over the vesting period of the options. At December 31, 2013, there was $3.7 million of total unrecognized compensation expense related to nonvested stock options. This expense is expected to be recognized over a weighted average of 1.2 years.

Restricted Stock Awards

On October 28, 2013 pursuant to the 2004 Plan, the Company awarded officers, directors and key employees restricted stock awards (“RSA”), which is an award of common stock subject to time vesting. In May 2012, the Board of Directors amended the 2004 Plan to include non-employee directors as eligible for restricted stock awards. RSAs issued under this plan are restricted as to transference, sale and other disposition. These RSAs vest ratably over a three year period. The RSAs may also vest in case of a change of control. Upon termination, whether voluntary or involuntary, the RSAs that have not vested will be returned to the Company resulting in stock forfeitures. The fair market value of the stock on the date of grant is amortized and charged to selling, general and administrative expense over the stipulated time period over which the RSAs vest on a straight-line basis, net of estimated forfeitures.

The Company’s RSA activity and related information is presented below:


	RSA Number of Shares			Weighted Average Grant Date Fair Value Per Share
Nonvested balance at December 31, 2012		132,784		$	69.41
Granted		67,255			116.62
Vested		(50,236	)		69.43
Forfeited		(1,050	)		69.55

Nonvested balance at December 31, 2013		148,753		$	90.75

Restricted stock awards compensation expense for the year ended December 31, 2013 totaled $3.9 million and $1.7 million for 2012 and $87,000 for 2011. For 2013, total income tax benefit recognized in net income for restricted stock awards was $2.0 million. As of December 31, 2013, there was $12.5 million of total unrecognized compensation cost related to nonvested RSAs, which is expected to be recognized over a weighted average period of 1.63 years. There were 11,923 anti-dilutive restricted shares on December 31, 2013.

Performance Unit Awards

On October 28, 2013, the Company awarded 31,707 performance unit awards (“Performance Units”) pursuant to the 2004 Plan to officers and key employees. The Performance Units were valued based on a Monte Carlo simulation at $138.31 which is approximately 118.4% of the grant share price. Under the plan, participants may earn from 0% to 200% of their target award based upon the Company’s relative total share return (“TSR”) to the 15 component companies of the Philadelphia Oil Service Index (“OSX index”). The TSR is calculated over a three year period from October 1, 2013 to September 30, 2016 and assumes reinvestment of dividends for companies within the index that pay dividends, which Dril-Quip does not. Assumptions used in the Monte Carlo simulation are as follows:


Grant date		October 28, 2013
Performance period		October 1, 2013 to September 30, 2016
Volatility		34.4%
Risk-free interest rate		0.569%
Grant date price		$116.83

The Company’s Performance Unit activity and related information is presented below:


	Number of Performance Units		Weighted Average Grant Date Fair Value Per Performance Unit
Nonvested balance at December 31, 2012		46,350	$	84.66
Granted		31,707		138.31
Vested		—		—
Forfeited		—		—

Nonvested balance at December 31, 2013		78,057	$	106.45

Performance Unit compensation expense for the year ended December 31, 2013 totaled $1.6 million, $235,000 for 2012 and none for 2011. As of December 31, 2013, there was $6.5 million (based on 100% result rate) of total unrecognized compensation expense related to nonvested Performance Units which is to be recognized over a weighted average period of 1.7 years. There were 5,646 anti-dilutive performance share units at December 31, 2013.

The following table summarizes information for equity compensation plans in effect as of December 31, 2013:


	Number of securities to be issued upon exercise of outstanding options(1)		Weighted-average exercise price of outstanding options		Number of securities remaining available for future issuance under equity compensation plan (excluding securities reflected in column (a))
Plan category	(a)		(b)		(c)
Equity compensation plans approved by stockholders
Stock options		512,895	$	56.25		772,736
Equity compensation plans not approved by stockholders		—		not applicable		—

Total		512,895	$	56.25		772,736

(1)	Excludes 148,753 shares of unvested restricted stock awards and 78,057 of unvested performance units, which were granted pursuant to the 2004 Plan approved by the stockholders.