STOCK-BASED COMPENSATION

Fair Value of Stock Compensation

We recognize compensation expense for all share based payment awards based on the fair value of such awards. The expense is recognized on a straight-line basis over the respective requisite service period of the awards.

Determining Fair Value

The fair values of shares purchased under the Employee Stock Purchase Plan (“ESPP”) for the three months ended December 31, 2011 and January 1, 2011, respectively, were estimated using the following weighted-average assumptions:



	Employee Stock Purchase Plan
	Three Months Ended
	December 31, 2011			January 1, 2011
Expected life in years	0.5			0.5
Expected volatility	49.3		%	30.6		%
Risk-free interest rate	0.1		%	0.2		%
Expected dividends	—			—
Weighted average fair value per share	$	14.93		$	9.78

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(1)	There were no options granted during the three months ended December 31, 2011 and January 1, 2011.

Restricted stock awards and restricted stock units are independent of option grants and are typically subject to vesting restrictions—either time-based or performance-based conditions for vesting. Until restricted stock vests, shares (including those issuable upon vesting of the applicable restricted stock unit) are subject to forfeiture if employment terminates prior to the release of restrictions and cannot be transferred.


•	The service based restricted stock awards generally vest three years from the date of grant.


•	The service based restricted stock unit awards are generally subject to annual vesting over three years from the date of grant.

•

The market-based performance restricted stock unit award grants are generally either subject to annual vesting over three years from the date of grant or subject to a single vest measurement three years from the date of grant, depending upon achievement of performance measurements ("Performance RSUs") based on the performance of the Company's Total Shareholder Returns (as defined) compared with the performance of the Russell 2000 Index.

We granted market-based performance restricted stock units to officers and certain employees. The performance stock unit agreements provide for the award of performance stock units with each unit representing the right to receive one share of Coherent, Inc. common stock to be issued after the applicable award period. The final number of units awarded for this grant will be determined as of the vesting dates, based upon our total shareholder return over the performance period compared to the Russell 2000 Index and could range from a minimum of no units to a maximum of twice the initial award. The weighted average fair value for these performance units was $71.59 and was determined using a Monte Carlo simulation model incorporating the following weighted average assumptions:



Risk-free interest rate	0.39	%
Volatility	41.8	%

We recognize the estimated cost of these awards, as determined under the simulation model, over the related service period, with no adjustment in future periods based upon the actual shareholder return over the performance period.

Stock-Based Compensation Expense

The following table shows total stock-based compensation expense and related tax benefits included in the Condensed Consolidated Statements of Operations for the three months ended December 31, 2011 and January 1, 2011 (in thousands):



	Three Months Ended
	December 31, 2011			January 1, 2011
Cost of sales	$	369		$	244
Research and development	393			337
Selling, general and administrative	3,260			2,342
Income tax benefit	(1,328		)	(675		)
	$	2,694		$	2,248

During the three months ended December 31, 2011, $0.5 million was capitalized into inventory for all stock plans, $0.4 million was amortized to cost of sales and $0.5 million remained in inventory at December 31, 2011. During the three months ended January 1, 2011, $0.4 million was capitalized into inventory for all stock plans, $0.2 million was amortized to cost of sales and $0.4 million remained in inventory at January 1, 2011. Management has made an estimate of expected forfeitures and is recognizing compensation costs only for those equity awards expected to vest.

At December 31, 2011, the total compensation cost related to unvested stock-based awards granted to employees under the Company’s stock plans but not yet recognized was approximately $24.6 million, net of estimated forfeitures of $2.7 million. This cost will be amortized on a straight-line basis over a weighted-average period of approximately 1.6 years and will be adjusted for subsequent changes in estimated forfeitures.

At December 31, 2011, total compensation cost related to options to purchase common shares under the ESPP but not yet vested was approximately $0.7 million, which will be recognized over the offering period.

The cash flows resulting from excess tax benefits (tax benefits related to the excess of tax deduction resulting from an employee’s exercises of stock options over the stock-based compensation cost recognized for those options) are classified as financing cash flows. During the first three months of fiscal 2012 and fiscal 2011, we recorded $1.7 million and $1.7 million, respectively, of excess tax benefits as cash flows from financing activities.

Stock Options & Awards Activity

The following is a summary of option activity for our Stock Plans (in thousands, except per share amounts and weighted average remaining contractual term in years):



	Number of Shares		Weighted Average Exercise Price Per Share		Weighted Average Remaining Contractual Term in Years	Aggregate Intrinsic Value
Outstanding at October 1, 2011	917		$	27.80
Granted	—		—
Exercised	(66	)	26.27
Forfeitures	—		—
Expirations	—		—
Outstanding at December 31, 2011	851		$	27.91	4.0	$	20,742
Vested and expected to vest at December 31, 2011	845		$	27.87	4.0	$	20,626
Exercisable at December 31, 2011	662		$	27.67	3.5	$	16,291

The aggregate intrinsic value is calculated as the difference between the exercise price of the underlying options and the quoted price of our common stock at the end of the reporting period. There were approximately 0.9 million outstanding options that were in-the-money as of December 31, 2011. The aggregate intrinsic value of options exercised under the Company’s stock plans for the three months ended December 31, 2011 and January 1, 2011 were $1.6 million and $6.6 million, respectively, determined as of the date of option exercise.

The following table summarizes the activity of our time based and market- performance based restricted stock units for the first three months of fiscal 2012 (in thousands, except per share amounts):



	Time Based Restricted Stock Units				Market-Based Performance Restricted Stock Units
	Number of Shares(1)		Weighted Average Grant Date Fair Value		Number of Shares(2)		Weighted Average Grant Date Fair Value
Nonvested stock at October 1, 2011	404		$	34.71	101		$	49.77
Granted	224		53.46		95		63.85
Vested	(172	)	30.93		(44	)	53.18
Forfeited	—		—		—		—
Nonvested stock at December 31, 2011	456		$	45.37	152		$	57.55

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(1)Service-based restricted stock vested during each fiscal year.

(2)Performance-based awards and units included at 100% of target goal; under the terms of the awards, the recipient may earn between 0% and 200% of the award.