9. STOCK‑BASED COMPENSATION

Stock Incentive Plans—In December 2009, the Board of Directors (the “Board”) adopted the 2009 Employee, Director and Consultant Equity Incentive Plan (the “2009 Plan”) for the issuance of common stock and stock options to employees, officers, directors, consultants, and advisors.

In July 2017, the Company’s 2017 Equity Incentive Plan (the “2017 Plan”) became effective. The 2017 Plan was established to provide equity-based ownership opportunities for employees, officers, directors, consultants, and advisors. As of September 30, 2019, there were 665,522 shares of common stock available for grant under the 2017 Plan. In addition, any shares of common stock subject to awards under the 2009 Plan that expire, are forfeited, or are otherwise surrendered, without having been fully exercised or resulting in any common stock being issued will become available for issuance under the prior plan, up to an additional 2,538,468 shares, which is the number of shares issuable pursuant to outstanding awards granted under the prior plan.

Also approved under the 2017 Plan is an annual increase for each of the years through December 31, 2027, equal to the least of (i) 3,573,766 shares of common stock, (ii) 4% of the shares of common stock outstanding on December 31 of the prior year and (iii) an amount determined by the Board.

Under the plans, the Board determines the number of shares of common stock to be granted pursuant to the awards, as well as the exercise price and terms of such awards. The exercise price of incentive stock options cannot be less than the fair value of the common stock on the date of grant. Stock options awarded under the plans expire 10 years after the grant date, unless the Board sets a shorter term. Options granted under the plans generally vest over a four‑year period. A portion of the unvested stock options will vest upon the sale of all or substantially all of the stock or assets of the Company.

In the past, the Company had granted stock options which contain performance‑based vesting criteria. These criteria were milestone events that were specific to the Company’s corporate goals. Stock‑based compensation expense associated with performance‑based stock options is recognized if the achievement of the performance condition is considered probable using management’s best estimates. As of September 30, 2019, there were no performance-based awards outstanding.

Employee Stock Purchase Plan—In 2017, the Company approved the 2017 Employee Stock Purchase Plan, which was amended and restated in December 2018 (as amended, the “ESPP”). The ESPP reserved an aggregate of 223,341 shares of common stock and provides for an annual increase on the first day of each fiscal year, beginning on January 1, 2019 and ending on December 31, 2029, in an amount equal to the lowest of: (1) 893,441 shares of the Company’s common stock; (2) 1% of the total number of shares of the Company’s common stock outstanding on the first day of the applicable fiscal year; and (3) an amount determined by the Company’s board of directors.

The ESPP provides for two six-month offering periods each year; the first offering period begins on the first trading day on or after each January 1; the second offering period begins on the first trading day on or after each July 1. Under the ESPP, participating employees can authorize the Company to withhold a portion of their base pay during consecutive six-month payment periods for the purchase of shares of the Company’s common stock. At the conclusion of the period, participating employees can purchase shares of the Company’s common stock at 85% of the lesser of the closing price of the common stock on (i) the first business day of the plan period or (ii) the exercise date. The fair value of the purchase rights granted under the ESPP was estimated on the date of grant, using the Black-Scholes option-pricing model. The first offering period for 2019 ended on June 30, 2019. In July 2019, employees of the Company purchased an aggregate of 123,664 shares under the ESPP.

Inducement Stock Option Awards—During the three months ended September 30, 2019 and 2018, the Company granted non-statutory stock options to purchase an aggregate of 27,000 shares and 69,500 shares of the Company’s common stock, respectively. During the nine months ended September 30, 2019 and 2018, the Company granted non-statutory stock options to purchase an aggregate of 175,500 shares and 219,500 shares of the Company’s common stock, respectively. These stock options will vest over a four-year period, with 25% of the shares underlying each option award vesting on the one-year anniversary of the applicable employees’ new hire date and the remaining 75% of the shares underlying each award vesting monthly thereafter for three-years. Vesting of each option is subject to such employee’s continued service with the Company through the applicable vesting dates. These stock options were granted outside of the 2017 Plan as an inducement material to each employee’s acceptance of employment with the Company in accordance with Nasdaq Listing Rule 5635(c)(4).

A summary of option activity for employee and non‑employee awards under the 2009 Plan, the 2017 Plan and inducement grants for the nine months ended September 30, 2019 is as follows:


				Weighted
		Weighted		Average
		Average		Remaining	Aggregate
	Number of	Exercise		Contractual	Intrinsic
	Shares	Price		Term	Value
				(Years)		(in thousands)
Outstanding at January 1, 2019	5,111,690	$	8.96	8.0	$	3,771
Granted	2,116,425		5.24
Exercised	(24,714)		1.70
Forfeited	(207,632)		12.64
Outstanding at September 30, 2019	6,995,769	$	7.76	7.8	$	1,429
Vested or expected to vest at September 30, 2019	6,995,769	$	7.76	7.8	$	1,429
Options exercisable at September 30, 2019	3,683,751	$	6.91	6.9	$	1,365

The Company records stock‑based compensation related to stock options granted at fair value. The Company utilizes the Black‑Scholes option‑pricing model to estimate the fair value of stock option grants and to determine the related compensation expense. The assumptions used in calculating the fair value of stock‑based payment awards represent management’s best estimates.

The assumptions used in determining fair value of the stock options granted and shares purchasable under the ESPP during the nine months ended September 30, 2019 and 2018 are as follows:


	Nine Months Ended September 30,
	2019			2018
Expected volatility	61%	–	82%	80%	–	85%
Risk-free interest rate	1.44%	–	2.58%	2.63%	–	2.96%
Expected dividend yield		0%			0%
Expected term (in years)	0.50	–	6.63	5.27	–	6.13

The Company derived the risk‑free interest rate assumption from the U.S. Treasury rates for U.S. Treasury zero‑coupon bonds with maturities similar to those of the expected term of the awards being valued. The Company based the assumed dividend yield on its expectation of not paying dividends in the foreseeable future. The Company calculated the weighted‑average expected term of options using the simplified method, as the Company lacks relevant historical data due to the Company’s limited operating experience. The estimated volatility is based upon the historical volatility of comparable companies with publicly available share prices. The impact of forfeitures on compensation expense is recorded as they occur.

During the three months ended September 30, 2019 and 2018, the weighted average grant‑date fair value of options granted was $2.82 and $8.83, respectively. During the nine months ended September 30, 2019 and 2018, the weighted average grant‑date fair value of options granted was $3.70 and $9.99, respectively. The fair value is being expensed over the vesting period of the options on a straight‑line basis as the services are being provided. As of September 30, 2019, there was $20.5 million of unrecognized compensation cost related to the stock options granted, which is expected to be expensed over a weighted‑average period of 2.46 years.

Reserved Shares—As of September 30, 2019 and December 31, 2018, the Company had reserved the following shares of common stock issuable upon exercise of rights under equity compensation plans, inducement stock option awards, and warrant rights to acquire common stock:


	September 30,	December 31,
	2019	2018

Warrant rights to acquire Common Stock	384,163	384,163
ESPP	561,971	223,341
Outstanding inducement stock option awards	673,500	498,000
2009 Plan	2,538,468	2,563,072
2017 Plan	4,485,323	3,130,910
Total	8,643,425	6,799,486

Stock-based Compensation Expenses—Stock‑based compensation expense was classified in the statements of operations as follows (in thousands):


	Three Months Ended				Nine Months Ended
	September 30,				September 30,
	2019		2018		2019		2018

Cost of product revenues	$	60	$	–	$	101	$	–
Research and development		913		684		2,315		2,064
Selling, general and administrative		1,599		1,581		5,250		4,353
Total	$	2,572	$	2,265	$	7,666	$	6,417

Stock-based compensation expense for the Company’s manufacturing employees related to INVELTYS manufactured since the FDA approval of $0.01 million and $0.4 million for the three and nine months ended September 30, 2019, respectively, has been capitalized into inventory as a component of overhead expense. Capitalized stock-based compensation is recognized as cost of product revenues when the related product is sold or expensed to selling, general and administrative expense when the related sample is issued.