Stock-based compensation includes expense charges for all stock-based awards to employees and directors. These awards include stock option grants and restricted stock, restricted stock unit, and performance restricted stock unit awards.

Stock-based compensation expense related to internal labor is capitalized to software and patent costs based on direct labor hours charged to capitalized software and patent costs.

The Company estimates the fair value of stock options on the date of grant (measurement date) using the Black-Scholes option pricing model. The Company recognizes the fair value of stock option awards on a straight-line basis over the vesting period of the award.

The following inputs are used in the Black-Scholes option pricing model to estimate the fair value of stock options:

Stock Price. The stock price represents the fair market value of the Company’s common stock on the date of the grant.

Expected Life. The expected life of awards granted represents the period of time that they are expected to be outstanding. The Company determines the expected life based on historical experience with similar awards, giving consideration to the contractual terms and vesting schedules of the awards. Stock options granted generally vest over a service period of three years and have a contractual term of ten years.

Expected Volatility. The Company estimates the volatility of its common stock at the date of grant based on the historical volatility of its common stock based on historical prices over the most recent period commensurate with the expected life of the award.

Risk-Free Interest Rate. The Company determines the risk-free interest rate using current U.S. treasury yields for bonds with a maturity commensurate with the expected life of the award.

Expected Dividend Yield. The expected dividend yield is derived by dividing the Company’s expected annual dividend rate over the expected term by the fair value of the Company’s common stock at the grant date.

	Three		Three			Nine		Nine
	Months		Months			Months		Months
	Ended		Ended			Ended		Ended
	September 30,		September 30,			September 30,		September 30,
	2021		2020			2021		2020
Stock price	$	—	$	15.36		$	—	$	15.36
Expected life (years)		—		3.25			—		3.25
Expected volatility		—		70.91	%		—		70.91	%
Risk-free interest rate		—		0.25	%		—		0.25	%
Expected dividend yield		—		0	%		—		0	%

There were no stock options granted during the three and nine months ended September 30, 2021.

The fair value of restricted stock awards is based on the fair market value of the Company’s common stock on the date of the grant (measurement date) and is recognized on a straight-line basis over the vesting period of the award. Restricted stock awards granted generally vest over a service period of three to four years for employee grants and one to three years for director grants.

The fair value of restricted stock unit (“RSU”) awards, which vest upon meeting a service condition, is based on the fair market value of the Company’s common stock on the date of the grant (measurement date) and is recognized on a straight-line basis over the service period of the award, which is generally three years.

There were no RSUs granted during the three and nine months ended September 30, 2021.

The fair value of performance restricted stock unit (“PRSU”) awards, which vest upon meeting a market condition, such as exceeding a target stock price in the future, and a service condition, is determined on the date of grant (measurement date) using the Monte Carlo valuation model. The Company recognizes the fair value of the award on a straight-line basis over the service period of the award, which is generally three years.

The following inputs are used in the Monte Carlo valuation model to estimate the fair value of PRSUs:

Stock Price. The stock price represents the fair market value of the Company’s common stock on the date of the grant.

Risk-Free Interest Rate. The Company determines the risk-free interest rate using current U.S. treasury yields for bonds with a maturity commensurate with the term of the award.

	Three		Three			Nine		Nine
	Months		Months			Months		Months
	Ended		Ended			Ended		Ended
	September 30,		September 30,			September 30,		September 30,
	2021		2020			2021		2020
Stock price	$	—	$	16.49		$	—	$	16.49
Expected volatility		—		72.50	%		—		72.50	%
Risk-free interest rate		—		0.14	%		—		0.14	%

There were no PRSUs granted during the three and nine months ended September 30, 2021.

On April 12, 2021, Bruce Davis notified the Company of his intention to retire as the Company’s President and Chief Executive Officer and as Chairman and a member of the Board of Directors effective April 12, 2021 (the “Transition Date”). In connection with his retirement, the Company entered into a Separation Agreement and General Release with Mr. Davis (the “Separation Agreement”), dated April 12, 2021. Pursuant to the Separation Agreement, Mr. Davis agreed to release certain claims he may have against the Company and other released parties, and Mr. Davis’s stock options, restricted stock and RSUs that vest solely based on continued service, and PRSUs that were earned and remained subject to time-based vesting, immediately vested with respect to the number of shares that would have vested if Mr. Davis’s employment had continued for an additional twenty-four months from the Transition Date, and his right to exercise vested stock options will expire on the earliest of (i) twenty-eight months from the Transition Date, (ii) the latest date the particular stock option could have expired by its original terms under any circumstances, or (iii) the tenth anniversary of the original date of grant of the particular stock option.

The terms of the Separation Agreement resulted in the acceleration of vesting for 137 stock options, 30 RSUs, and 82 PRSUs and the forfeiture of 35 stock options, 15 RSUs, and 42 PRSUs. The terms of the Separation Agreement also resulted in a modification to all outstanding stock options, as the expiration date for exercise of the options were extended beyond the original terms of the options, and 21 PRSUs were modified to provide for accelerated vesting. In accordance with ASC 718, Compensation – Stock Compensation, the Company calculated the fair value of the modified stock options and PRSUs and calculated the fair value of the original stock options and PRSUs immediately before the modification. The Company recorded additional stock-based compensation expense of $1,926 upon modification of these awards during the second quarter ended June 30, 2021.

The Company incurred $3,990 of stock-based compensation expense, including the impact of the modified awards, during the second quarter ended June 30, 2021, associated with the Separation Agreement.

	Three		Three		Nine		Nine
	Months		Months		Months		Months
	Ended		Ended		Ended		Ended
	September 30,		September 30,		September 30,		September 30,
	2021		2020		2021		2020
Stock-based compensation:
Cost of revenue	$	164	$	216	$	515	$	602
Sales and marketing		369		591		2,359		1,674
Research, development and engineering		401		694		1,202		1,495
General and administrative		667		1,126		6,272		3,378
Stock-based compensation expense		1,601		2,627		10,348		7,149
Capitalized to software and patent costs		37		40		111		125
Total stock-based compensation	$	1,638	$	2,667	$	10,459	$	7,274

The following table sets forth total unrecognized compensation costs related to non-vested stock-based awards granted under the Company’s equity compensation plan:

Total unrecognized compensation costs will be adjusted for any future forfeitures if and when they occur.

The Company expects to recognize the total unrecognized compensation costs as of September 30, 2021, for stock option, restricted stock, RSU, and PRSU awards over weighted average periods through September 30, 2025, as follows:

Stock

Restricted

Options

Stock

RSUs

PRSUs

Weighted average period

—

1.38 years

—

As of September 30, 2021, under the Company’s stock-based compensation plan, an additional 964 shares remained available for future grants. The Company issues new shares upon exercises of stock options, grants of restricted stock awards and vesting of RSU and PRSU awards.

				Weighted		Weighted
				Average		Average		Aggregate
	Number of			Exercise		Grant Date		Intrinsic
Three months ended September 30, 2021:	Options			Price		Fair Value		Value
Outstanding at June 30, 2021		200		$	34.55	$	15.43
Granted		—		$	—	$	—
Exercised		(100	)	$	29.55	$	19.79
Forfeited or expired		—		$	—	$	—
Outstanding at September 30, 2021		100		$	39.54	$	22.23	$	—

				Weighted		Weighted
				Average		Average		Aggregate
	Number of			Exercise		Grant Date		Intrinsic
Nine months ended September 30, 2021:	Options			Price		Fair Value		Value
Outstanding at December 31, 2020		305		$	27.94	$	12.65
Granted		—		$	—	$	—
Exercised		(170	)	$	23.71	$	15.93
Forfeited or expired		(35	)	$	15.36	$	7.36
Outstanding at September 30, 2021		100		$	39.54	$	22.23	$	—
Exercisable at September 30, 2021		100		$	39.54			$	—

The aggregate intrinsic value is based on the closing price of $34.44 per share of Digimarc common stock on September 30, 2021, which would have been received by the optionees had all of the options with exercise prices less than $34.44 per share been exercised on that date.

				Weighted
				Average
	Number of			Grant Date
Three months ended September 30, 2021:	Shares			Fair Value
Unvested balance, June 30, 2021		458		$	33.76
Granted		25		$	25.83
Vested		(78	)	$	32.58
Forfeited		(16	)	$	39.21
Unvested balance, September 30, 2021		389		$	33.26

				Weighted
				Average
	Number of			Grant Date
Nine months ended September 30, 2021:	Shares			Fair Value
Unvested balance, December 31, 2020		416		$	28.20
Granted		223		$	39.26
Vested		(199	)	$	29.43
Forfeited		(51	)	$	33.13
Unvested balance, September 30, 2021		389		$	33.26

	Three		Three		Nine		Nine
	Months		Months		Months		Months
	Ended		Ended		Ended		Ended
	September 30,		September 30,		September 30,		September 30,
	2021		2020		2021		2020
Fair value of restricted stock awards vested	$	2,188	$	1,168	$	6,648	$	4,239

				Weighted
				Average
	Number of			Grant Date
Nine months ended September 30, 2021:	Units			Fair Value
Unvested balance, December 31, 2020		45		$	15.36
Granted		—		$	—
Vested		(30	)	$	15.36
Forfeited		(15	)	$	15.36
Unvested balance, September 30, 2021		—		$	—

The fair value of RSUs vested was $1,050 for the nine months ended September 30, 2021.

				Weighted
				Average
	Number of			Grant Date
Nine months ended September 30, 2021:	Units			Fair Value
Unvested balance, December 31, 2020		124		$	11.08
Granted		—		$	—
Vested (1)		(82	)	$	15.54
Forfeited		(42	)	$	11.08
Unvested balance, September 30, 2021		—		$	—

The fair value of PRSUs vested was $2,886 for the nine months ended September 30, 2021.