Stock-Based Compensation

KCG Equity Incentive Plan

The Knight Capital Group, Inc. Amended and Restated 2010 Equity Incentive Plan was established to provide long-term incentive compensation to employees and directors of the Company. As a result of the Mergers, on July 1, 2013, this plan was assumed by KCG and was renamed the KCG Holdings, Inc. Amended and Restated Equity Incentive Plan ("the KCG Plan"). At such time, the Knight Capital Group, Inc. 2009 Executive Incentive Plan was also assumed by KCG in connection with the Mergers and was renamed the KCG Holdings, Inc. Amended and Restated Executive Incentive Plan. As of July 1, 2013, the number of shares reserved for issuance under the KCG Plan was 20.7 million (based on a conversion ratio of one third of a share of KCG Class A Common Stock for each share of Knight Class A Common Stock).

The KCG Plan is administered by the Compensation Committee of the Company’s Board of Directors, and allows for the grant of options, SARs, restricted stock and RSUs (collectively, the “awards”), as defined by the KCG Plan. In addition to overall limitations on the aggregate number of awards that may be granted, the KCG Plan also limits the number of awards that may be granted to a single individual. The KCG Plan replaced prior Knight stockholder-approved equity plans for future equity grants and no additional grants will be made under those historical Knight stock plans. However, the terms and conditions of any outstanding equity grants under the historical Knight stock plans are not affected.

As a result of the Mergers on July 1, 2013, each outstanding Knight stock option, whether vested or unvested, was automatically replaced with an option to purchase KCG Class A Common Stock equal to one third of the number of shares of Knight Common Stock subject to such original stock option immediately prior to the completion of the Mergers (rounded down to the nearest whole share of KCG Class A Common Stock). The exercise price per share of KCG Class A Common Stock is equal to the exercise price per share of Knight Common Stock subject to such Company stock option multiplied by three (rounded up to the nearest whole cent). Pursuant to the terms of the applicable Knight stock plans and award agreements, each option granted on or prior to December 19, 2012 immediately vested. There were no Knight stock options granted subsequent to December 19, 2012 through June 30, 2013.

As a result of the Mergers, each Knight restricted share granted after December 19, 2012 and each outstanding Knight RSU was replaced with a restricted share or restricted stock unit, as applicable, equal to one third of a share of common stock of KCG (rounded to the nearest whole share). Knight awards granted on or prior to December 19, 2012 (except for RSUs that vest based upon performance) automatically vested upon the completion of the Mergers. Knight awards granted after December 19, 2012 (and RSUs granted on or prior to December 19, 2012 that vest based on performance) will continue to vest in accordance with their existing vesting schedule, subject to acceleration under certain circumstances.

Restricted Shares and Restricted Stock Units

Eligible employees and directors may receive restricted shares and/or RSUs (collectively “restricted awards”) as a portion of their total compensation. The majority of restricted awards vest ratably over three years and are subject to accelerated vesting, or continued vesting, following certain termination circumstances, in accordance with the applicable award documents. For certain restricted awards, the Company has the right to fully vest employees and directors upon retirement and in certain other circumstances.

The Company measures compensation cost related to restricted awards based on the fair value of KCG Class A Common Stock at the date of grant. Compensation expense from continuing operations relating to restricted awards, primarily recorded in Employee compensation and benefits, and the corresponding income tax benefit, which was recorded in Income tax benefit on the Consolidated Statements of Operations are presented in the following table (in thousands):



	For the three months ended September 30,
	2013
Stock award compensation expense	$	12,234
Income tax benefit	4,649

The following table summarizes restricted awards activity, including awards related to employees working in businesses that are included within discontinued operations, for the three months ended September 30, 2013 (awards in thousands):



	Restricted Stock Units
	Number of Units		Weighted- Average Grant date Fair Value
July 1, 2013	—		$	—
Conversion of outstanding Knight RSUs	3,251		11.22
Granted	6,004		10.58
Vested	(45	)	11.07
Forfeited	(246	)	11.45
Outstanding at September 30, 2013	8,963		$	10.78

There is $79.6 million of unamortized compensation related to the unvested restricted awards outstanding at September 30, 2013. The cost of these unvested restricted shares is expected to be recognized over a weighted average life of 2.5 years.

Stock Options and Stock Appreciation Rights

The Company’s policy is to grant options for the purchase of shares of KCG Class A Common Stock and SARs to purchase or receive the cash value of shares of KCG Class A Common Stock, in each case at not less than market value. Options and SARs generally vest ratably over a three year period and expire on the fifth or tenth anniversary of the grant date, pursuant to the terms of the applicable award agreement. Options and SARs continue to vest following certain termination circumstances, in accordance with the applicable award agreements. Options and SARs are otherwise canceled if employment is terminated before the end of the relevant vesting period. The Company’s policy is to issue new shares upon option exercises by its employees and directors. The Company may issue new shares or provide a cash payment upon SARs exercises by its employees.

The fair value of each option and SAR granted is estimated as of its respective grant date using the Black-Scholes option-pricing model. Stock options and SARs are granted with exercise prices equal to or greater than the market value of the Company’s common stock at the date of grant as defined by the stock plans. The principal assumptions utilized in valuing options and SARs and the methodology for estimating such model inputs include: 1) risk-free interest rate—estimate is based on the yield of U.S. zero coupon securities with a maturity equal to the expected life of the option or SAR; 2) expected volatility—estimate is based on several factors including implied volatility of market-traded options on the Company’s common stock on the grant date and the volatility of the Company’s common stock; and 3) expected option or SAR life—estimate is based on internal studies of historical experience and projected exercise behavior based on different employee groups and specific option and SAR characteristics, including the effect of employee terminations.

Compensation expense from continuing operations relating to stock options and SARs, all of which was recorded in Employee compensation and benefits, as well as the corresponding income tax benefit, which is recorded in Income tax benefit on the Consolidated Statements of Operations are as follows (in thousands):



	For the three months ended September 30,
	2013
Stock option and SAR compensation expense	$	915
Income tax benefit	348

The following table summarizes stock option and SAR activity and stock options exercisable for the three months ended September 30, 2013 (awards in thousands):



	Number of Stock Awards		Weighted- Average Exercise Price		Aggregate Intrinsic Value		Weighted- Average Remaining Life (years)
July 1, 2013	—		$	—
Conversion of outstanding Knight options	782		41.25
Granted at market value⁽¹⁾	4,324		15.19
Exercised	—		—
Forfeited or expired	(79	)	45.81
Outstanding at September 30, 2013 ⁽¹⁾	5,027		$	18.76	$	387	4.49
Exercisable at September 30, 2013	703		$	40.74	$	381	2.61
Available for future grants at September 30, 2013 *	6,327

* Represents both options and awards available for grant.

⁽¹⁾ Includes 1.7 million of SARs.

The aggregate intrinsic value is the amount by which the closing price of the Company’s common stock exceeds the exercise price of the stock options multiplied by the number of shares. There were no stock options exercised during the three months ended September 30, 2013.

There is $7.2 million unamortized compensation related to unvested stock options and SARs outstanding at September 30, 2013. The cost of these unvested awards is expected to be recognized over a weighted average life of 2.2 years.

Incentive units

Prior to the Mergers, GETCO awarded deferred compensation to its employees in the form of incentive units that generally vest over time. The value of these incentive units is determined based on the same methodology used to value the GETCO Class B unit awards and the amount expensed is determined based on this valuation multiplied by the percent vested. In connection with the Mergers, all outstanding unvested incentive units vested and were converted into units based on the applicable exchange ratio of GETCO units to KCG Class A Common Stock. The units are marked to the current stock price of KCG Class A Common Stock at the end of each period with the resulting change in the liability reflected as either an expense or gain. Given that the units vested in connection with the Mergers, the Company fully amortized the units as of June 30, 2013. The accelerated amortization of incentive units recorded during the nine months ended September 30, 2013 was $1.3 million. Deferred compensation payable at September 30, 2013 and December 31, 2012 related to incentive units was $3.0 million and $3.5 million, respectively, and is included in accounts Accrued compensation expense on the Consolidated Statements of Financial Condition.

The following is a summary of the changes in the incentive units for the nine months ended September 30, 2013 (units in thousands):



	Vested		Unvested
Incentive units at January 1, 2013	24		45
Issued	1		12
Vested	53		(53	)
Exercised	(22	)	—
Canceled	(1	)	(4	)
Incentive units at September 30, 2013	55		—

Class B units

Prior to the Mergers, the Company granted membership unit awards to employees in the form of Class B units. Prior to 2012, these primarily consisted of non-voting units which vest three years from the grant date, provided certain conditions of employment and performance were met by the employee. In 2012, the Company changed the vesting of units granted in 2012 to an annual vesting of one-third of the units over the 3 year period. Upon termination of employment, the Company had the option to repurchase all or a portion of the units granted within six months. The purchase price for the unvested units was determined as a percentage of grant date fair value. The Company classified these unit awards as equity as the employees received full membership rights with respect to allocation of income and participation in member distributions. In connection with the Mergers, all outstanding unvested Class B units vested on June 25, 2013. The accelerated amortization of Class B units recorded during the nine months ended September 30, 2013 was $9.4 million.

The following is a schedule of the changes in the Company’s unvested Class B units (units in thousands):



	Units		Weighted Average Grant Price
Unvested as of December 31, 2012	417		$	89.99
Issued	58		73.54
Vested	(438	)	87.86
Forfeited	(37	)	89.28
Unvested as of September 30, 2013	—		$	—

Class E units

In 2012, the Company also granted employees profit interests in the form of Class E units. Prior to 2012, Class E units primarily vested three years from the grant date. For units granted in 2012, the Company changed the vesting of Class E units to an annual vesting of one-third of the units over the three year period and provided the Company an option to repurchase the units at the end of 5 years. Class E units allowed for future appreciation in excess of the Company’s value over a certain strike price per unit and allocation of income once the units are vested. Upon the departure of an employee, the Class E units were forfeited whether vested or not, and if vested, the cash value of the Class E units above their strike price was paid to the employee. The Company classified these unit awards as equity. In connection with the Mergers all outstanding unvested Class E units vested on June 25, 2013 and were canceled for no consideration. The accelerated amortization of the Class E units recorded during the three and nine months ended September 30, 2013 was $0 and $3.5 million, respectively.

The following is a schedule of the changes in the Company’s unvested Class E units (units in thousands):



	Units		Weighted Average Grant Price
Unvested as of December 31, 2012	476		$	36.78
Issued	—		—
Vested	(442	)	37.24
Forfeited	(34	)	30.89
Unvested as of September 30, 2013	—		$	—

Compensation expense (benefit) related to the Class B, Class E and Incentive units, all of which are recorded within Employee compensation and benefits on the Consolidated Statements of Operations are as follows (in thousands):



	Three months ended September 30,					Nine months ended September 30,
	2013			2012		2013		2012
Class B and E units	$	—		$	5,429	$	19,860	$	9,124
Incentive units	(875		)	368		1,428		788
Total	$	(875	)	$	5,797	$	21,288	$	9,912