(11) Share-Based Compensation

On August 19, 2010, Territorial Bancorp Inc. adopted the 2010 Equity Incentive Plan, which provides for awards of stock options and restricted stock to key officers and outside directors. In accordance with the Compensation – Stock Compensation topic of the FASB ASC, the cost of the 2010 Equity Incentive Plan is based on the fair value of the awards on the grant date. The fair value of restricted stock is based on the closing price of the Company’s stock on the grant date. The fair value of stock options is estimated using a Black-Scholes option pricing model using assumptions for dividend yield, stock price volatility, risk-free interest rate and option term. These assumptions are based on our judgments regarding future events, are subjective in nature, and cannot be determined with precision. The cost of the awards will be recognized on a straight-line basis over the three, five- or six-year vesting period during which participants are required to provide services in exchange for the awards.

The Company recognized compensation expense, measured as the fair value of the share-based award on the date of grant, on a straight-line basis over the vesting period. Share-based compensation is recorded in the statement of income as a component of salaries and employee benefits with a corresponding increase in shareholders’ equity. The table below presents information on compensation expense and the related tax benefit for all share-based awards:


	Three Months Ended
	March 31,
(In thousands)	2020		2019
Compensation expense	$	157	$	86
Income tax benefit		43		23

Shares of our common stock issued under the 2010 Equity Incentive Plan shall come from authorized shares. The maximum number of shares that will be awarded under the plan will be 1,862,637 shares.

Stock Options

The table below presents the stock option activity for the three months ended March 31, 2020 and 2019:


		Weighted			Aggregate
		Average		Remaining	Intrinsic
		Exercise		Contractual	Value
	Options	Price		Life (years)	(in thousands)
Options outstanding at December 31, 2019	116,409	$	17.53	0.72	$	1,562
Granted	—		—	—		—
Exercised	22,547		17.36	—		288
Forfeited	—		—	—		—
Expired	—		—	—		—
Options outstanding at March 31, 2020	93,862	$	17.57	0.49	$	656

Options outstanding at December 31, 2018	337,654	$	17.51	1.74	$	2,859
Granted	—		—	—		—
Exercised	74,560		17.36	—		788
Forfeited	—		—	—		—
Expired	—		—	—		—
Options outstanding at March 31, 2019	263,094	$	17.55	1.51	$	2,461

Options vested and exercisable at March 31, 2020	93,862	$	17.57	0.49	$	656

The following summarizes certain stock option activity of the Company:


	For the Three Months Ended
	March 31,
(In thousands)	2020		2019
Intrinsic value of stock options exercised	$	288	$	788
Proceeds received from stock options exercised		391		1,294
Tax benefits realized from stock options exercised		53		171
Total fair value of stock options that vested		—		—

During the three months ended March 31, 2020, we issued 9,555 shares of common stock, net, in exchange for 22,547 stock options and 12,992 shares of common stock. Pursuant to the provisions of our equity incentive plan, optionees are permitted to use the value of our common stock they own in a net settlement to pay the exercise price of stock options.

As of March 31, 2020, the Company had no unrecognized compensation costs related to the stock option plan.

Restricted Stock

Restricted stock awards are accounted for as fixed grants using the fair value of the Company’s stock at the time of grant. Unvested restricted stock may not be disposed of or transferred during the vesting period. Restricted stock carries the right to receive dividends, although dividends attributable to restricted stock are retained by the Company until the shares vest, at which time they are paid to the award recipient. Dividends accrued on restricted stock awards that do not vest are forfeited.

The table below presents the restricted stock activity:


		Weighted
		Average Grant
	Restricted	Date Fair
	Stock	Value
Unvested at December 31, 2019	20,249	$	28.78
Granted	13,444		21.05
Vested	6,794		28.99
Forfeited	—		—
Unvested at March 31, 2020	26,899	$	24.87

Unvested at December 31, 2018	16,424	$	30.26
Granted	10,366		27.30
Vested	3,340		30.73
Forfeited	—		—
Unvested at March 31, 2019	23,450	$	28.89

During the three months ended March 31, 2020, the Company issued 13,444 shares of restricted stock to certain members of executive management under the 2010 Equity Incentive Plan. The fair value of the restricted stock is based on the value of the Company’s stock on the date of grant. Restricted stock will vest over three years from the date of grant.

As of March 31, 2020, the Company had $570,000 of unrecognized compensation costs related to restricted stock.

During the three months ended March 31, 2020, the Company issued 16,129 performance-based restricted stock units (PRSUs) to certain members of executive management under the 2010 Equity Incentive Plan. These PRSUs will vest in the first quarter of 2023 after our Compensation Committee determines whether a performance condition that compares the Company’s return on average equity to the SNL Bank Index is achieved. Depending on the Company’s performance, the actual number of these PRSUs that are issued at the end of the vesting period can vary between 0% and 150% of the target award. For the PRSUs, an estimate is made of the number of shares expected to vest based on the probability that the performance criteria will be achieved to determine the amount of compensation expense to be recognized. This estimate is re-evaluated quarterly and total compensation expense is adjusted for any change in the current period.

The table below presents the PRSUs that will vest on a performance condition:


	Performance-
	Based Restricted
	Stock Units	Weighted
	Based on a	Average Grant
	Performance	Date Fair
	Condition	Value
Unvested at December 31, 2019	35,976	$	29.16
Granted	16,129		21.05
Vested	7,680		29.53
Forfeited	3,840		29.53
Unvested at March 31, 2020	40,585	$	25.83

Unvested at December 31, 2018	23,538	$	30.14
Granted	8,292		27.30
Vested	—		—
Forfeited	—		—
Unvested at March 31, 2019	31,830	$	29.40

The fair value of these PRSUs is based on the fair value of the Company’s stock on the date of grant. As of March 31, 2020, the Company had $458,000 of unrecognized compensation costs related to these PRSUs. Performance will be measured over a three-year performance period and will be cliff vested.

During the three months ended March 31, 2020, the Company issued 2,688 of PRSUs to certain members of executive management under the 2010 Equity Incentive Plan. These PRSUs will vest in the first quarter of 2023 after our Compensation Committee determines whether a market condition that compares the Company’s total stock return to the SNL Bank Index is achieved. The number of shares that will be expensed will not be adjusted for performance. The fair value of these PRSUs is based on a Monte Carlo valuation of the Company’s stock on the date of grant. The assumptions which were used in the Monte Carlo valuation of the PRSUs are:

Grant date: March 12, 2020

Performance period: January 1, 2020 to December 31, 2022

2.80 year risk-free rate on grant date: 0.56%

December 31, 2019 closing price: $30.94

Closing stock price on the date of grant: $21.05

Annualized volatility (based on 2.82 year historical volatility as of the grant date): 18.02%

The table below presents the PRSUs that will vest on a market condition:


	Performance-
	Based Restricted	Monte Carlo
	Stock Units	Valuation of
	Based on a	the Company's
	Market Condition	Stock
Unvested at December 31, 2019	8,994	$	25.74
Granted	4,032		22.16
Vested	1,197		24.44
Forfeited	1,682		22.44
Unvested at March 31, 2020	10,147	$	24.69

Unvested at December 31, 2018	5,884	$	26.42
Granted	2,073		24.45
Vested	—		—
Forfeited	—		—
Unvested at March 31, 2019	7,957	$	25.91

As of March 31, 2020, the Company had $111,000 of unrecognized compensation costs related to the PRSUs that are based on a market condition. Performance will be measured over a three-year performance period and will be cliff vested.