Note 5 – Shareholders’ Equity and Share-based Compensation

Preferred Stock

The Company has five million shares of authorized preferred stock, none of which is issued or outstanding. Under the terms of the Company’s Restated Articles of Incorporation, the Board of Directors is authorized to determine or alter the rights, preferences, privileges and restrictions of the Company’s authorized but unissued shares of preferred stock.

Comprehensive Income

Comprehensive income consists of two components, net income and other comprehensive income. Other comprehensive income refers to revenue, expenses, gains and losses that under GAAP are recorded as an element of shareholders’ equity but are excluded from net income. The Company’s other comprehensive income consists of foreign currency translation adjustments from those subsidiaries not using the U.S. dollar as their functional currency, unrealized gains and losses on marketable securities classified as available-for-sale, and net deferred gains and losses on certain derivative instruments accounted for as cash flow hedges.

The following table presents the components of comprehensive income, net of taxes, during the three months ended December 31, 2011 and December 25, 2010 (in millions):

		September 30,			September 30,
	Three Months Ended
	December 31, 2011			December 25, 2010
Net income	$	13,064		$	6,004
Other comprehensive income:
Change in unrecognized gains/losses on derivative instruments		(67	)		243
Change in foreign currency translation		(6	)		16
Change in unrealized gains/losses on marketable securities		14			(99	)

Total comprehensive income	$	13,005		$	6,164

The following table summarizes activity in other comprehensive income related to derivatives, net of taxes, held by the Company during the three months ended December 31, 2011 and December 25, 2010 (in millions):

		September 30,			September 30,
	Three Months Ended
	December 31, 2011			December 25, 2010
Change in fair value of derivatives	$	87		$	(43	)
Adjustment for net gains/losses realized and included in net income		(154	)		286

Change in unrecognized gains/losses on derivative instruments	$	(67	)	$	243

The following table shows the components of AOCI, net of taxes, as of December 31, 2011 and September 24, 2011 (in millions):

		September 30, 2009		September 30, 2009
	December 31, 2011		September 24, 2011
Net unrealized gains on marketable securities	$	144	$	130
Net unrecognized gains on derivative instruments		223		290
Cumulative foreign currency translation		17		23

Accumulated other comprehensive income	$	384	$	443

Equity Awards

A summary of the Company’s RSU activity and related information for the three months ended December 31, 2011, is as follows (in thousands, except per share amounts):

		September 30,			September 30,		September 30,
	Number of RSUs			Weighted- Average Grant Date Fair Value		Aggregate Intrinsic Value
Balance at September 24, 2011		14,446		$	231.49
Restricted stock units granted		6,130		$	390.41
Restricted stock units vested		(2,397	)	$	187.26
Restricted stock units cancelled		(490	)	$	213.94

Balance at December 31, 2011		17,689		$	293.04	$	7,164,026

RSUs that vested during the three months ended December 31, 2011 and December 25, 2010 had a fair value of $1.0 billion and $659 million, respectively, as of the vesting date.

A summary of the Company’s stock option activity and related information for the three months ended December 31, 2011, is as follows (in thousands, except per share amounts and contractual term in years):

		September 30,			September 30,		September 30,		September 30,
	Number of Options			Weighted- Average Exercise Price		Weighted- Average Remaining Contractual Term		Aggregate Intrinsic Value
Balance at September 24, 2011		11,866		$	108.64
Options granted		0		$	0
Options cancelled		(12	)	$	152.08
Options exercised		(1,386	)	$	65.66

Balance at December 31, 2011		10,468		$	114.28		2.24	$	3,043,317

Exercisable at December 31, 2011		10,172		$	113.23		2.20	$	2,967,830
Expected to vest after December 31, 2011		296		$	150.19		3.54	$	75,487

Aggregate intrinsic value represents the value of the Company’s closing stock price on the last trading day of the fiscal period in excess of the weighted-average exercise price multiplied by the number of options outstanding or exercisable. The total intrinsic value of options at the time of exercise was $457 million and $944 million for the three-months ended December 31, 2011 and December 25, 2010, respectively.

The Company had approximately 39.8 million shares reserved for future issuance under the Company’s stock plans as of December 31, 2011. RSUs granted are deducted from the shares available for grant under the Company’s stock plans utilizing a factor of two times the number of RSUs granted. Similarly, RSUs cancelled are added back to the shares available for grant under the Company’s stock plans utilizing a factor of two times the number of RSUs cancelled.

Share-based Compensation

Share-based compensation cost for RSUs is measured based on the closing fair market value of the Company’s common stock on the date of grant. Share-based compensation cost for stock options and employee stock purchase plan rights (“stock purchase rights”) is estimated at the grant date and offering date, respectively, based on the fair-value as calculated by the Black-Scholes Merton (“BSM”) option-pricing model. The BSM option-pricing model incorporates various assumptions including expected volatility, expected life and interest rates. The expected volatility is based on the historical volatility of the Company’s common stock over the most recent period commensurate with the estimated expected life of the Company’s stock options and other relevant factors including implied volatility in market traded options on the Company’s common stock. The Company bases its expected life assumption on its historical experience and on the terms and conditions of the stock awards it grants to employees. The Company recognizes share-based compensation cost as expense on a straight-line basis over the requisite service period.

The Company did not grant any stock options during the three months ended December 31, 2011 and December 25, 2010. The weighted-average fair value of stock purchase rights per share was $88.72 and $61.22 during the three months ended December 31, 2011 and December 25, 2010, respectively.

The following table provides a summary of the share-based compensation expense included in the Condensed Consolidated Statements of Operations for the three months ended December 31, 2011 and December 25, 2010 (in millions):

		September 30,		September 30,
	Three Months Ended
	December 31, 2011		December 25, 2010
Cost of sales	$	63	$	52
Research and development		160		113
Selling, general and administrative		197		134

Total share-based compensation expense	$	420	$	299

The income tax benefit related to share-based compensation expense was $145 million and $96 million for the three months ended December 31, 2011 and December 25, 2010, respectively. As of December 31, 2011, the total unrecognized compensation cost related to outstanding stock options and RSUs expected to vest was $4.4 billion, which the Company expects to recognize over a weighted-average period of 3.74 years.

Employee Benefit Plans

Rule 10b5-1 Trading Plans

During the three months ended December 31, 2011, executive officers Timothy D. Cook, Peter Oppenheimer, D. Bruce Sewell, Philip W. Schiller, and Jeffrey E. Williams, and director Arthur D. Levinson had trading plans pursuant to Rule 10b5-1(c)(1) of the Securities Exchange Act of 1934, as amended (the “Exchange Act”). A trading plan is a written document that pre-establishes the amounts, prices and dates (or formula for determining the amounts, prices and dates) of future purchases or sales of the Company’s stock, including the exercise and sale of employee stock options and shares acquired pursuant to the Company’s employee stock purchase plan and upon vesting of RSUs.