Note 6: Stock-Based Compensation

HP's stock-based compensation plans permit the issuance of restricted stock awards, stock options and performance-based awards.

In connection with the Separation and in accordance with the employee matters agreement, HP has made certain adjustments to the exercise price and number of stock-based compensation awards with the intention of preserving the intrinsic value of the awards prior to the Separation. Exercisable and non-exercisable stock options have been converted to similar awards of the entity where the employee is working post-separation. Restricted stock unit awards and performance-contingent awards have been adjusted to provide holders with restricted stock units awards and performance-contingent awards in the company that employs such employee following the Separation. The pre-tax stock-based compensation expense due to the adjustments was $2 million and was recorded during the three months ended January 31, 2016. All outstanding restricted stock awards and stock options for employees transferred to Hewlett Packard Enterprise were cancelled (the "Cancelled Awards") in connection with the Separation.

Stock-based compensation expense and the resulting tax benefits from continuing operations were as follows:

	Three months ended April 30						Six months ended April 30
	2016			2015			2016			2015
	In millions
Stock-based compensation expense	$	40		$	59		$	101		$	110
Income tax benefit		(13	)		(16	)		(35	)		(32	)

Stock-based compensation expense, net of tax	$	27		$	43		$	66		$	78

Restricted Stock Awards

Restricted stock awards are non-vested stock awards that may include grants of restricted stock or restricted stock units. For the three and six months ended April 30, 2016 and 2015, HP granted only restricted stock units. HP uses the closing stock price on the grant date to estimate the fair value of service-based restricted stock units. HP estimates the fair value of restricted stock units subject to performance-adjusted vesting conditions using a combination of the closing stock price on the grant date and the Monte Carlo simulation model. For the three months ended April 30, 2016 and 2015, HP did not grant any restricted stock units subject to performance-adjusted vesting conditions. The weighted-average fair value and the assumptions used to measure fair value of restricted stock units subject to performance-adjusted vesting conditions in the Monte Carlo simulation model were as follows:

	Six months ended April 30
	2016			2015
Weighted-average fair value(1)	$	13		$	47
Expected volatility(2)		32.5	%		33.6	%
Risk-free interest rate(3)		1.2	%		1.0	%
Expected performance period in years(4)		2.9			2.9


(1)	The weighted-average fair value was based on performance-adjusted restricted stock units granted during the period.
(2)	The expected volatility was estimated using the historical volatility derived from HP's common stock.
(3)	The risk-free interest rate was estimated based on the yield on U.S. Treasury zero-coupon issues.
(4)	The expected performance period was estimated based on the length of the remaining performance period from the grant date.

A summary of restricted stock award activity was as follows:

	Six months ended April 30, 2016
	Shares			Weighted- Average Grant Date Fair Value Per Share
	In thousands
Outstanding at beginning of period		29,717		$	32
Granted		27,334		$	9
Vested		(2,137	)	$	12
Cancelled Awards		(23,926	)	$	32
Forfeited		(933	)	$	13

Outstanding at end of period		30,055		$	13

At April 30, 2016, there was $238 million of unrecognized pre-tax stock-based compensation expense related to non-vested restricted stock awards, which HP expects to recognize over the remaining weighted-average vesting period of 1.5 years.

Stock Options

HP utilizes the Black-Scholes-Merton option pricing formula to estimate the fair value of stock options subject to service-based vesting conditions. HP estimates the fair value of stock options subject to performance-contingent vesting conditions using a combination of a Monte Carlo simulation model and a lattice model, as these awards contain market conditions. The weighted-average fair value and the assumptions used to measure fair value were as follows:

	Three months ended April 30						Six months ended April 30
	2016			2015			2016			2015
Weighted-average fair value(1)	$	2		$	7		$	4		$	8
Expected volatility(2)		31.6	%		27.7	%		36.4	%		26.3	%
Risk-free interest rate(3)		1.6	%		1.4	%		1.9	%		1.7	%
Expected dividend yield(4)		5.1	%		2.2	%		3.4	%		1.7	%
Expected term in years(5)		5.0			5.2			6.0			5.8


(1)	The weighted-average fair value was based on stock options granted during the period.
(2)	For all awards granted in fiscal 2016, expected volatility was estimated using the leverage-adjusted average of the term-matching volatilities of peer companies due to the lack of volume of forward traded options, which precluded the use of implied volatility. For all awards granted in fiscal 2015, expected volatility was estimated using the implied volatility derived from options traded on HP's common stock.
(3)	The risk-free interest rate was estimated based on the yield on U.S. Treasury zero-coupon issues.
(4)	The expected dividend yield represents a constant dividend yield applied for the duration of the expected term of the award.
(5)	For awards subject to service-based vesting, due to the lack of historical exercise and post-vesting termination patterns of the post-Separation employee base, the expected term was estimated using a simplified method for all awards granted in fiscal 2016 and the expected term was estimated using historical exercise and post-vesting termination patterns for all awards granted in fiscal 2015; and for performance-contingent awards, the expected term represents an output from the lattice model.

A summary of stock option activity was as follows:

	Six months ended April 30, 2016
	Shares			Weighted- Average Exercise Price		Weighted- Average Remaining Contractual Term		Aggregate Intrinsic Value
	In thousands					In years		In millions
Outstanding at beginning of period		36,278		$	26
Granted		25,108		$	6
Exercised		(1,371	)	$	7
Cancelled Awards		(26,252	)	$	26
Forfeited and expired		(1,689	)	$	16

Outstanding at end of period		32,074		$	12		5.1	$	47


Vested and expected to vest at end of period		30,107		$	12		5.0	$	47


Exercisable at end of period		17,966		$	11		3.7	$	47

The aggregate intrinsic value in the table above represents the total pre-tax intrinsic value that option holders would have realized had all option holders exercised their options on the last trading day of the second quarter of fiscal 2016. The aggregate intrinsic value is the difference between HP's closing stock price on the last trading day of the second quarter of fiscal 2016 and the exercise price, multiplied by the number of in-the-money options. The total intrinsic value of options exercised for the three and six months ended April 30, 2016 was $5 million and $7 million, respectively.

At April 30, 2016, there was $27 million of unrecognized pre-tax, stock-based compensation expense related to unvested stock options, which HP expects to recognize over the remaining weighted-average vesting period of 2.2 years.