Stock-Based Compensation

Overview

We issue stock-based awards to certain of our employees and our Board of Directors pursuant to our 2000 Stock Incentive Plan, as amended, (the "Plan") and our 2001 Employee Stock Purchase Plan, as amended and restated effective December 4, 2018 (the "ESPP"), and recognize related stock-based compensation in our condensed consolidated financial statements. The Plan provides for the granting to employees and consultants of Comtech (including prospective employees and consultants): (i) incentive and non-qualified stock options, (ii) restricted stock units ("RSUs"), (iii) RSUs with performance measures (which we refer to as "performance shares"), (iv) restricted stock, (v) stock units (reserved for issuance to non-employee directors) and share units (reserved for issuance to employees) (collectively, "share units") and (vi) stock appreciation rights ("SARs"), among other types of awards. Our non-employee directors are eligible to receive non-discretionary grants of stock-based awards, subject to certain limitations.

As of October 31, 2018, the aggregate number of shares of common stock which may be issued, pursuant to the Plan, may not exceed 10,362,500. Stock options granted may not have a term exceeding ten years or, in the case of an incentive stock award granted to a stockholder who owns stock representing more than 10.0% of the voting power, no more than five years. We expect to settle all outstanding awards under the Plan and employee purchases under the ESPP with the issuance of new shares of our common stock.

As of October 31, 2018, we had granted stock-based awards pursuant to the Plan representing the right to purchase and/or acquire an aggregate of 8,327,069 shares (net of 3,944,088 expired and canceled awards), of which an aggregate of 5,880,127 have been exercised or settled.

As of October 31, 2018, the following stock-based awards, by award type, were outstanding:



Stock options	1,590,045
Performance shares	260,262
RSUs and restricted stock	440,829
Share units	155,806
Total	2,446,942

Our ESPP provides for the issuance of up to 1,050,000 shares of our common stock. Our ESPP is intended to provide our eligible employees the opportunity to acquire our common stock at 85% of fair market value at the date of issuance. Through October 31, 2018, we have cumulatively issued 752,596 shares of our common stock to participating employees in connection with our ESPP.

Stock-based compensation for awards issued is reflected in the following line items in our Condensed Consolidated Statements of Operations:



	Three months ended October 31,
	2018			2017
Cost of sales	$	58,000		40,000
Selling, general and administrative expenses	905,000			654,000
Research and development expenses	83,000			53,000
Stock-based compensation expense before income tax benefit	1,046,000			747,000
Estimated income tax benefit	(228,000		)	(260,000	)
Net stock-based compensation expense	$	818,000		487,000

Stock-based compensation for equity-classified awards is measured at the date of grant, based on an estimate of the fair value of the award and is generally expensed over the vesting period of the award. At October 31, 2018, unrecognized stock-based compensation of $11,084,000, net of estimated forfeitures of $925,000, is expected to be recognized over a weighted average period of 3.2 years. Total stock-based compensation capitalized and included in ending inventory at both October 31, 2018 and July 31, 2018 was $48,000. There are no liability-classified stock-based awards outstanding as of October 31, 2018 or July 31, 2018.

Stock-based compensation expense (benefit), by award type, is summarized as follows:



	Three months ended October 31,
	2018			2017
Stock options	$	171,000		267,000
Performance shares	406,000			112,000
RSUs and restricted stock	547,000			385,000
ESPP	52,000			45,000
Share units	(130,000		)	(62,000	)
Stock-based compensation expense before income tax benefit	1,046,000			747,000
Estimated income tax benefit	(228,000		)	(260,000	)
Net stock-based compensation expense	$	818,000		487,000

ESPP stock-based compensation expense primarily relates to the 15% discount offered to participants in the ESPP. During the three months ended October 31, 2018 and 2017, we recorded benefits of $130,000 and $62,000, respectively, which primarily represents the recoupment of certain share units.

The estimated income tax benefit as shown in the above table was computed using income tax rates expected to apply when the awards are settled. Such deferred tax asset was recorded net as part of our non-current deferred tax liability in our Condensed Consolidated Balance Sheet as of October 31, 2018 and July 31, 2018. The actual income tax benefit recognized for tax reporting is based on the fair market value of our common stock at the time of settlement and can significantly differ from the estimated income tax benefit recorded for financial reporting.

Stock Options

The following table summarizes the Plan's activity during the three months ended October 31, 2018:



	Awards (in Shares)		Weighted Average Exercise Price		Weighted Average Remaining Contractual Term (Years)	Aggregate Intrinsic Value
Outstanding at July 31, 2018	1,668,975		$	28.72
Exercised	(78,930	)	28.37
Outstanding at October 31, 2018	1,590,045		$	28.74	4.27	$	741,000

Exercisable at October 31, 2018	1,388,123		$	28.74	3.94	$	574,000

Vested and expected to vest at October 31, 2018	1,555,133		$	28.73	4.22	$	712,000

Stock options outstanding as of October 31, 2018 have exercise prices ranging from $20.90 to $33.94, representing the fair market value of our common stock on the date of grant, a contractual term of five or ten years and a vesting period of three or five years. The total intrinsic value relating to stock options exercised during the three months ended October 31, 2018 was $561,000. There were no stock options exercised during the three months ended October 31, 2017. There were no stock options granted since fiscal 2017.

During the three months ended October 31, 2018, at the election of certain holders of vested stock options, 72,830 stock options were net settled upon exercise. As a result, 9,345 net shares of our common stock were issued during the three months ended October 31, 2018 after reduction of shares retained to satisfy the exercise price and minimum statutory tax withholding requirements.

Performance Shares, RSUs, Restricted Stock and Share Unit Awards

The following table summarizes the Plan's activity relating to performance shares, RSUs, restricted stock and share units:



	Awards (in Shares)		Weighted Average Grant Date Fair Value		Aggregate Intrinsic Value
Outstanding at July 31, 2018	818,438		$	19.78
Granted	177,908		34.27
Settled	(121,790	)	21.08
Forfeited	(17,659	)	27.23
Outstanding at October 31, 2018	856,897		$	22.44	$	23,925,000

Vested at October 31, 2018	216,718		$	27.71	$	6,051,000

Vested and expected to vest at October 31, 2018	819,625		$	22.58	$	22,884,000

The total intrinsic value relating to fully-vested awards settled during the three months ended October 31, 2018 and 2017 was $4,210,000 and $1,937,000, respectively.

The performance shares granted to employees since fiscal 2014 principally vest over a three-year performance period, if pre-established performance goals are attained or as specified pursuant to the Plan and related agreements. As of October 31, 2018, the number of outstanding performance shares included in the above table, and the related compensation expense prior to consideration of estimated pre-vesting forfeitures, assume achievement of the pre-established goals at a target level.

RSUs and restricted stock granted to non-employee directors have a vesting period of three years and are convertible into shares of our common stock generally at the time of termination, on a one-for-one basis for no cash consideration, or earlier under certain circumstances. RSUs granted to employees have a vesting period of five years and are convertible into shares of our common stock, generally at the time of vesting, on a one-for-one basis for no cash consideration.

Share units granted prior to July 31, 2017 were vested when issued and are convertible into shares of our common stock, generally at the time of termination, on a one-for-one basis for no cash consideration, or earlier under certain circumstances. Share units granted on or after July 31, 2017 were granted to certain employees in lieu of non-equity incentive compensation and are convertible into shares of our common stock on the one-year anniversary of the respective grant date. Cumulatively through October 31, 2018, 270,979 share units granted have been settled.

The fair value of performance shares, RSUs, restricted stock and share units is determined using the closing market price of our common stock on the date of grant, less the present value of any estimated future dividend equivalents such awards are not entitled to receive and an applicable estimated discount for post vesting restrictions. RSUs, performance shares and restricted stock granted since fiscal 2013 are entitled to dividend equivalents unless forfeited before vesting occurs; however, performance shares granted in fiscal 2013 were not entitled to such dividend equivalents until our Board of Directors determined that the pre-established performance goals were met. Share units granted prior to fiscal 2014 are not entitled to dividend equivalents. Share units granted since fiscal 2014 are entitled to dividend equivalents while the underlying shares are unissued.

Dividend equivalents are subject to forfeiture, similar to the terms of the underlying stock-based awards, and are payable in cash generally at the time of settlement of the underlying shares into shares of our common stock. During the three months ended October 31, 2018, we accrued $82,000 of dividend equivalents (net of forfeitures) and paid out $259,000. Accrued dividend equivalents were recorded as a reduction to retained earnings. As of October 31, 2018 and July 31, 2018, accrued dividend equivalents were $536,000 and $713,000, respectively.

During the three months ended October 31, 2018, we recorded $457,000 of income tax benefits in our Condensed Consolidated Statements of Operations, which represents net excess income tax benefits from the settlement of stock-based awards. During the three months ended October 31, 2017, we recorded $85,000 of income tax expense in our Condensed Consolidated Statements of Operations, which represents net income tax shortfalls from the settlement of stock-based awards and the reversal of deferred tax assets associated with expired and unexercised stock-based awards.