Stock-Based Compensation

Stock-based compensation — Stock-based compensation includes stock option grants, restricted stock unit grants, and other transactions under the Company’s equity plans. Total stock-based compensation expense (a component of compensation and benefits) was approximately $2.1 million, $3.2 million and $3.8 million for fiscal years 2017, 2016 and 2015, respectively. Included in stock-based compensation expense for fiscal 2015 is approximately $600,000 of stock-based compensation expense that resulted from the accelerated vesting of stock options and restricted stock units upon the retirement of the Company’s former Chief Executive Officer.

On June 4, 2013, the Company adopted the Kirkland’s, Inc. Amended and Restated 2002 Equity Incentive Plan (the “2002 Plan”), replacing the plan adopted in July 2002. The 2002 Plan provides for the award of restricted stock, restricted stock units (“RSUs”), incentive stock options, non-qualified stock options and stock appreciation rights with respect to shares of common stock to employees, directors, consultants and other individuals who perform services for the Company. The 2002 Plan is authorized to provide awards for up to a maximum of 3,500,000 shares of common stock.

As of February 3, 2018, options to purchase 1,239,201 shares of common stock were outstanding under the 2002 Plan at exercise prices ranging from $1.11 to $25.52 per share. As of February 3, 2018, there were 245,700 RSUs outstanding under the 2002 Plan with fair value grant prices ranging from $8.98 to $25.52 per share. Shares reserved for future stock-based grants under the 2002 Plan was 737,000 at February 3, 2018.

Stock options — The Company allows for the settlement of vested stock options on a net share basis (“net settled stock options”), instead of settlement with a cash payment (“cash settled stock options”), if so desired by the holder. With net settled stock options, the employee does not surrender any cash or shares upon exercise. Rather, the Company withholds the number of shares to cover the option exercise price and the minimum statutory tax withholding obligations from the shares that would otherwise be issued upon exercise. The settlement of vested stock options on a net share basis results in fewer shares issued by the Company. Options issued to employees under the 2002 Plan have maximum contractual terms of 10 years and generally vest ratably over 3 or 4 years.

As of February 3, 2018, there were 554,995 outstanding in-the-money options. The aggregate intrinsic value of in-the-money options outstanding and options exercisable as of February 3, 2018 was approximately $1.4 million and $0.9 million, respectively. The weighted average grant date fair values of options granted during fiscal 2017, fiscal 2016 and fiscal 2015 were $4.23, $6.48 and $12.06, respectively. The intrinsic value of options exercised was approximately $0.1 million in fiscal 2017, $0.3 million in fiscal 2016, and $6.1 million in fiscal 2015. At February 3, 2018, unrecognized stock compensation expense related to the unvested portion of outstanding stock options was approximately $2 million, which is expected to be recognized over a weighted average period of 2.3 years.

Stock option activity for the fiscal year ended February 3, 2018 was as follows:



	Number of Options		Weighted Average Exercise Price		Weighted Average Remaining Contractual Term (in years)
Balance at January 28, 2017	1,191,568		$	14.52
Options granted	245,000		8.98
Options exercised	(28,346	)	9.09
Options forfeited	(169,021	)	16.91
Balance at February 3, 2018	1,239,201		$	13.22	5.4
Options Exercisable As of:
February 3, 2018	837,888		$	13.62	3.9

The fair value of each option is recorded as compensation expense on a straight-line basis over the applicable vesting period. The Company has estimated the fair value of all stock option awards as of the date of the grant by applying the Black-Scholes option pricing model. The application of this valuation model involves assumptions that are judgmental and highly subjective in the determination of compensation expense. The weighted averages for key assumptions used in determining the fair value of options granted in fiscal years 2017, 2016 and 2015 and a summary of the methodology applied to develop each assumption are as follows:



	53 Weeks Ended February 3, 2018		52 Weeks Ended January 28, 2017		52 Weeks Ended January 30, 2016
Expected price volatility	46	%	48	%	47	%
Risk-free interest rate	1.96	%	1.68	%	1.80	%
Expected life	6.3 years		6.3 years		6.3 years
Dividend yield	0	%	0	%	0	%

Expected price volatility — The expected price volatility is a measure of the amount by which the stock price has fluctuated or is expected to fluctuate. The Company uses actual historical changes in the market value of its stock to calculate the volatility assumption as it is management’s belief that this is the best indicator of future volatility. The Company calculates daily market value changes using the historical volatility of returns for the six years prior to the grant. An increase in the expected volatility will increase compensation expense.

Risk-free interest rate — The risk-free interest rate is the U.S. Treasury rate for the week of the grant having a term equal to the expected life of the option. An increase in the risk-free interest rate will increase compensation expense.

Expected life — The expected life is the period of time over which the options granted are expected to remain outstanding. The Company uses the “simplified” method found in the Securities and Exchange Commission’s Staff Accounting Bulletin No. 107 to estimate the expected life of stock option grants. Options granted have a maximum term of ten years. An increase in the expected life will increase compensation expense.

Dividend yield — The dividend yield is the estimated dividend yield for the weighted average expected life of the option granted. The Company paid a dividend on its common stock in fiscal 2015. In fiscal 2016 and fiscal 2017, the Company did not pay a dividend on its common stock. The addition or increase of a dividend will decrease compensation expense. The Company currently has no plans to pay additional dividends.

Forfeiture rate — The forfeiture rate is the percentage of options granted that were forfeited or canceled before becoming fully vested. Historically, the Company has used an estimated forfeiture rate of 5%. With the adoption of ASU 2016-09 in the first quarter of fiscal 2017, the Company accounts for forfeitures of share-based awards as they occur. An increase in the forfeiture rate will decrease compensation expense. The Company’s forfeiture rate has a minimal effect on expense as the majority of the Company’s stock option awards vest quarterly.

Restricted stock units — The Company periodically grants restricted stock units for a fixed number of shares to various employees and directors. The RSUs granted to directors become 100% vested on the first anniversary of the grant date. The RSUs granted to employees prior to fiscal 2016 vest in full on the third anniversary of the grant date, while fiscal 2016 and fiscal 2017 RSU grants vest 25% annually on the anniversary of the grant date over 4 years. The fair values of the RSUs are equal to the closing price of the Company’s common stock on the date of the grant. The Company granted 148,500, 132,500 and 107,000 RSUs during fiscal 2017, 2016 and 2015, respectively. The weighted average grant date fair values of the RSUs granted during fiscal 2017, 2016 and 2015 were $9.01, $13.49 and $25.52, respectively. Compensation expense related to RSUs is recognized ratably over the requisite service period. Compensation expense for RSUs during fiscal 2017, 2016 and 2015 was approximately $0.9 million, $1.7 million and $2.0 million, respectively. As of February 3, 2018, there was approximately $1.6 million of unrecognized compensation expense related to RSUs which is expected to be recognized over a weighted average period of 2.6 years.

RSU activity for the fiscal year ended February 3, 2018, was as follows:



	Shares		Weighted Average Grant Date Fair Value
Non-Vested at January 28, 2017	244,654		$	19.25
Granted	148,500		9.01
Vested	(103,479	)	9.37
Forfeited	(43,975	)	17.82
Non-Vested at February 3, 2018	245,700		$	13.29

Employee stock purchase plan — In July 2002, the Company adopted an Employee Stock Purchase Plan (“ESPP”) which was amended in 2006, 2008 and 2016. Under the ESPP, full-time employees who have completed twelve consecutive months of service are allowed to purchase shares of the Company’s common stock, subject to certain limitations, through payroll deduction, at 85% of the fair market value. The Company’s ESPP was originally authorized to issue up to 500,000 shares of common stock. In June 2016, the shareholders ratified the amendment to the Company’s ESPP to increase the number of shares of common stock authorized to be issued under the ESPP by 125,000 shares with an optional annual increase thereafter each January 1 commencing on January 1, 2017 by up to an additional 35,000 shares. During fiscal 2017, 2016 and 2015, there were 34,963, 31,879 and 19,423 shares of common stock, respectively, issued to participants under the ESPP. As of February 3, 2018, the amount authorized under the ESPP was 660,000 with approximately 106,327 shares remaining under the authorization.