Note 2.Stock-Based Compensation

The following table shows the income statement components of stock-based compensation expense recognized in the Condensed Consolidated Statements of Income:


	Three Months Ended				Nine Months Ended
	April 30,				April 30,
	2016		2015		2016		2015

Cost of sales	$	120,000	$	64,000	$	320,000	$	226,000
Operating expenses:
Selling		246,000		138,000		684,000		444,000
General and administrative		1,847,000		1,137,000		4,750,000		3,639,000
Research and development		29,000		14,000		83,000		45,000
Total operating expenses		2,122,000		1,289,000		5,517,000		4,128,000
Stock-based compensation before income taxes		2,242,000		1,353,000		5,837,000		4,354,000
Income tax benefits		(797,000)		(479,000)		(2,071,000)		(1,525,000)
Total stock-based compensation expense, net of tax	$	1,445,000	$	874,000	$	3,766,000	$	2,829,000

The above stock-based compensation expense before income taxes was recorded in the Condensed Consolidated Financial Statements as stock-based compensation expense and an increase to additional paid-in capital. The related income tax benefits were recorded as either an increase to current deferred income tax assets or long-term deferred income tax assets (which are netted with long-term deferred income tax liabilities) and a reduction to income tax expense. All of our stock options and stock awards (which consist only of restricted shares) are expected to be deductible for tax purposes, except for certain restricted shares granted to employees residing outside of the United States, and were tax-effected using the Company’s estimated U.S. effective tax rate at the time of grant.

All of our stock options and stock awards are subject to graded vesting in which portions of the awards vest at different times during the vesting period, as opposed to awards that vest at the end of the vesting period. We recognize compensation expense for awards subject to graded vesting using the straight-line basis over the vesting period, reduced by estimated forfeitures. At April 30, 2016, total unrecognized stock-based compensation expense, before income taxes, related to total nonvested stock options and stock awards was $11,005,000 with a remaining weighted average period of 18 months over which such expense is expected to be recognized. Most of our nonvested awards relate to stock awards.

We determine the fair value of each stock award using the closing market price of our common stock on the date of grant.

A summary of nonvested stock award activity follows:


		Weighted
	Number of	Average
	Shares	Fair Value

Nonvested stock awards at July 31, 2015	343,519	$	32.77
Granted	167,990		54.81
Canceled	(4,324)		44.04
Vested	(169,575)		28.49
Nonvested stock awards at April 30, 2016	337,610	$	45.74

The fair value of each option grant was estimated on the date of grant using the Black-Scholes option valuation model with the following weighted average assumptions for options granted during the nine months ended April 30, 2016 and 2015:


Weighted-Average
Black-Scholes Option	Nine Months Ended		Nine Months Ended
Valuation Assumptions	April 30, 2016		April 30, 2015

Dividend yield	0.22	%	0.25	%
Expected volatility (1)	55.90	%	33.90	%
Risk-free interest rate (2)	1.41	%	1.55	%
Expected lives (in years) (3)	5.00		5.00

(1)

Volatility was based on historical closing prices of our common stock.

(2)

The U.S. Treasury rate based on the expected life at the date of grant.

(3)

Based on historical exercise behavior.

Additionally, all options were considered to be deductible for tax purposes in the valuation model. Such non-qualified options were tax-effected using the Company’s estimated U.S. effective tax rate at the time of grant. For the nine months ended April 30, 2016 and 2015, these non-qualified options had a weighted average fair value of $26.49 and $11.54, respectively.

There were no option exercises during the three and nine months ended April 30, 2016. For the three and nine months ended April 30, 2015, the aggregate intrinsic value (i.e. the excess market price over the exercise price) of all options exercised was approximately $383,000 and $2,803,000, respectively.

A summary of stock option activity follows:


		Weighted
	Number of	Average
	Shares	Exercise Price

Outstanding at July 31, 2015	107,500	$	25.73
Granted	15,000		55.36
Outstanding at April 30, 2016	122,500	$	29.36
Exercisable at July 31, 2015	45,000	$	20.32
Exercisable at April 30, 2016	80,834	$	22.72

If certain criteria are met when options are exercised or restricted stock becomes vested, we are allowed a deduction on our United States income tax return. Accordingly, we account for the income tax effect on such income tax deductions as a reduction of previously recorded deferred income tax assets and as a reduction of income taxes payable. Excess tax benefits arise when the ultimate tax effect of the deduction for tax purposes is greater than the tax benefit on stock compensation expense which was determined based upon the award’s fair value at the time the award was granted. The differences noted above between actual tax deductions and the previously recorded deferred income tax assets are recorded as additional paid-in capital. For the nine months ended April 30, 2016 and 2015, income tax deductions of $3,297,000 and $4,532,000, respectively, were generated and increased additional paid-in capital by $1,586,000 and $2,662,000, respectively. We classify the cash flows resulting from excess tax benefits as financing cash flows in our Condensed Consolidated Statements of Cash Flows.

In January 2016, the Cantel Medical Corp. 2016 Equity Incentive Plan (the “2016 Plan”) was approved by shareholders. As a result, no further options or awards will be granted under the Cantel Medical Corp. 2006 Equity Incentive Plan. The 2016 Plan provides for the granting of stock options, stock appreciation rights (SARs), restricted stock awards, restricted stock units (RSUs) and performance-based awards to our employees, independent contractors and consultants. It also provides the flexibility to grant equity-based awards to our non-employee directors. The 2016 Plan does not permit the granting of discounted options or discounted stock appreciation rights. The maximum number of shares as to which equity awards may be granted under the 2016 Plan is 1,200,000 shares. Under the 2016 Plan, 5,725 restricted stock awards were granted as of April 30, 2016. Once granted, restricted stock awards under this plan are subject to risk of forfeiture solely due to an employment length-of-service restriction, with such restriction lapsing as to one-third of the shares on each of the first three anniversaries of the grant date subject to being employed by the Company through such vesting date. The 2016 Plan will terminate on the date of our annual meeting of stockholders following the close of our fiscal year ending in 2025, unless terminated earlier by the Board of Directors.