Stockholders’ Equity, Comprehensive Income and Share-Based Compensation

Accumulated Other Comprehensive Income (Loss)

Changes in the components of AOCI, net of tax, were as follows:



	Unrealized Gain (Loss) on Investments, Net			Unrealized Gain (Loss) on Derivative Instruments Qualifying as Cash Flow Hedges			Defined and Postretirement Benefit Plans			Cumulative Translation Adjustments			Total
	(In millions)
Balance at October 27, 2013	$	25		$	2		$	(72	)	$	7		(38		)
Other comprehensive income (loss) before reclassifications	8			4			(36		)	(2		)	(26		)
Amounts reclassified out of accumulated other comprehensive income	(9		)	(6		)	3			—			(12		)
Other comprehensive income (loss), net of tax	(1		)	(2		)	(33		)	(2		)	(38		)
Balance at October 26, 2014	$	24		$	—		$	(105	)	$	5		$	(76	)
Other comprehensive income (loss) before reclassifications	(11		)	(9		)	(5		)	—			(25		)
Amounts reclassified out of AOCI	1			(6		)	5			9			9
Other comprehensive income (loss), net of tax	(10		)	(15		)	—			9			(16		)
Balance at October 25, 2015	$	14		$	(15	)	$	(105	)	$	14		$	(92	)
Other comprehensive income (loss) before reclassifications	14			(33		)	(42		)	—			(61		)
Amounts reclassified out of AOCI	2			30			6			—			38
Other comprehensive income (loss), net of tax	16			(3		)	(36		)	—			(23		)
Balance at October 30, 2016	$	30		$	(18	)	$	(141	)	$	14		$	(115	)

The tax effects on net income of amounts reclassified from AOCI for 2016 was $22 million. The tax effects on net income of amounts reclassified from AOCI for the fiscal years 2015, and 2014 were not material.

Stock Repurchase Program

On June 9, 2016, Applied’s Board of Directors approved a new common stock repurchase program authorizing up to $2.0 billion in repurchases, which followed the completion of a $3.0 billion common stock repurchase program approved on April 26, 2015. At October 30, 2016, $1.8 billion remained available for future stock repurchases under the new repurchase program.

The following table summarizes Applied’s stock repurchases for each fiscal year:



	2016		2015		2014

	(In millions, except per share amounts)
Shares of common stock repurchased	96		76		—
Cost of stock repurchased	$	1,892	$	1,325	$	—
Average price paid per share	$	19.82	$	17.33	$	—

Applied records treasury stock purchases under the cost method using the first-in, first-out (FIFO) method. Upon reissuance of treasury stock, amounts in excess of the acquisition cost are credited to additional paid in capital. If Applied reissues treasury stock at an amount below its acquisition cost and additional paid in capital associated with prior treasury stock transactions is insufficient to cover the difference between the acquisition cost and the reissue price, this difference is recorded against retained earnings.

Dividends

During each of fiscal 2016, 2015 and 2014, Applied’s Board of Directors declared quarterly cash dividends in the amount of $0.10 per share. Dividends paid during fiscal 2016, 2015 and 2014 amounted to $444 million, $487 million and $485 million, respectively. Applied currently anticipates that cash dividends will continue to be paid on a quarterly basis, although the declaration of any future cash dividend is at the discretion of the Board of Directors and will depend on Applied’s financial condition, results of operations, capital requirements, business conditions and other factors, as well as a determination by the Board of Directors that cash dividends are in the best interests of Applied’s stockholders.

Share-Based Compensation

Applied has a stockholder-approved equity plan, the Employee Stock Incentive Plan, which permits grants to employees of share-based awards, including stock options, restricted stock, restricted stock units, performance shares and performance units. In addition, the plan provides for the automatic grant of restricted stock units to non-employee directors and permits the grant of share-based awards to non-employee directors and consultants. Share-based awards made under the plan may be subject to accelerated vesting under certain circumstances in the event of a change in control of Applied. Applied also has two Employee Stock Purchase Plans, one generally for United States employees and a second for employees of international subsidiaries (collectively, ESPP), which enable eligible employees to purchase Applied common stock.

Applied recognized share-based compensation expense related to stock options, ESPP shares, restricted stock, restricted stock units, performance shares and performance units, and related tax benefits for each fiscal year as follows:



	2016		2015		2014

	(In millions)
Share-based compensation	$	201	$	187	$	177
Tax benefit recognized	$	63	$	52	$	50

The effect of share-based compensation on the results of operations for each fiscal year was as follows:



	2016		2015		2014

	(In millions)
Cost of products sold	$	62	$	57	$	53
Research, development, and engineering	76		69		66
Marketing and selling	26		26		23
General and administrative	37		35		35
Total share-based compensation	$	201	$	187	$	177

The cost associated with share-based awards that are subject solely to time-based vesting requirements, less expected forfeitures, is recognized over the awards’ service period for the entire award on a straight-line basis. The cost associated with performance-based equity awards is recognized for each tranche over the service period, based on an assessment of the likelihood that the applicable performance goals will be achieved.

At October 30, 2016, Applied had $270 million in total unrecognized compensation expense, net of estimated forfeitures, related to grants of share-based awards and shares issued under Applied’s ESPP, which will be recognized over a weighted average period of 2.4 years. At October 30, 2016, there were 107 million shares available for grants of share-based awards under the Employee Stock Incentive Plan, and an additional 23 million shares available for issuance under the ESPP.

Stock Options

Stock options are rights to purchase, at future dates, shares of Applied common stock. The exercise price of each stock option equals the fair market value of Applied common stock on the date of grant. Options typically vest over three to four years, subject to the grantee’s continued service with Applied through the scheduled vesting date, and expire no later than seven years from the grant date. There were no stock options granted during fiscal 2016, 2015 or 2014. Outstanding stock options at the end of fiscal 2016 were not material to the consolidated financial statements.

Restricted Stock Units, Restricted Stock, Performance Shares and Performance Units

Restricted stock units are converted into shares of Applied common stock upon vesting on a one-for-one basis. Restricted stock has the same rights as other issued and outstanding shares of Applied common stock except these shares generally have no right to dividends and are held in escrow until the award vests. Performance shares and performance units are awards that result in a payment to a grantee, generally in shares of Applied common stock on a one-for-one basis if performance goals and/or other vesting criteria established by the Human Resources and Compensation Committee of Applied’s Board of Directors (the Committee) are achieved or the awards otherwise vest. Restricted stock units, restricted stock, performance shares and performance units typically vest over four years and vesting is usually subject to the grantee’s continued service with Applied and, in some cases, achievement of specified performance goals. The compensation expense related to the service-based awards is determined using the fair market value of Applied common stock on the date of the grant, and the compensation expense is recognized over the vesting period.

Certain executive officers were granted awards that are subject to the achievement of specified performance goals (performance-based awards). These performance-based awards become eligible to vest only if performance goals are achieved and will vest only if the grantee remains employed by Applied through each applicable vesting date. These performance-based awards require the achievement of targeted levels of adjusted annual operating profit margin. For performance-based awards granted in fiscal 2016 and 2015, additional shares become eligible for time-based vesting if Applied achieves certain levels of total shareholder return (TSR) relative to a peer group, comprised of companies in the Standard & Poor’s 500 Information Technology Index, measured at the end of a two-year period.

The fair value of these performance-based awards is estimated on the date of grant and assumes that the specified performance goals will be achieved. If the goals are achieved, these awards vest over a specified remaining service period of generally three or four years, provided that the grantee remains employed by Applied through each scheduled vesting date. If the performance goals are not met as of the end of the performance period, no compensation expense is recognized and any previously recognized compensation expense is reversed. The expected cost of each award is reflected over the service period and is reduced for estimated forfeitures.

A summary of the changes in restricted stock units, restricted stock, performance shares and performance units outstanding under Applied’s equity compensation plans is presented below:



	Shares		Weighted Average Grant Date Fair Value		Weighted Average Remaining Contractual Term	Aggregate Intrinsic Value

	(In millions, except per share amounts)
Non-vested restricted stock units, restricted stock, performance shares and performance units at October 27, 2013	38		$	11.11	2.4 years	$	662
Granted	11		$	16.58
Vested	(13	)	$	11.13
Canceled	(3	)	$	11.72
Non-vested restricted stock units, restricted stock, performance shares and performance units at October 26, 2014	33		$	12.59	2.3 years	$	698
Granted	10		$	22.60
Vested	(15	)	$	12.04
Canceled	(1	)	$	14.98
Non-vested restricted stock units, restricted stock, performance shares and performance units at October 25, 2015	27		$	16.41	2.2 years	$	440
Granted	11		$	18.54
Vested	(11	)	$	14.25
Canceled	(2	)	$	17.57
Non-vested restricted stock units, restricted stock, performance shares and performance units at October 30, 2016	25		$	18.28	2.3 years	$	718
Non-vested restricted stock units, restricted stock, performance shares and performance units expected to vest	23		$	18.06	2.1 years	$	652

At October 30, 2016, 1 million additional performance-based awards could be earned upon certain levels of achievement of Applied’s TSR relative to a peer group at a future date.

Employee Stock Purchase Plans

Under the ESPP, substantially all employees may purchase Applied common stock through payroll deductions at a price equal to 85 percent of the lower of the fair market value of Applied common stock at the beginning or end of each 6-month purchase period, subject to certain limits. Applied issued 6 million, 5 million and 6 million shares during fiscal 2016, 2015 and 2014, respectively, under the ESPP. Compensation expense is calculated using the fair value of the employees’ purchase rights under the Black-Scholes model. Underlying assumptions used in the model are outlined in the following table:



	2016		2015		2014
ESPP:
Dividend yield	1.76	%	2.20	%	1.96	%
Expected volatility	29.3	%	31.8	%	26.3	%
Risk-free interest rate	0.47	%	0.19	%	0.06	%
Expected life (in years)	0.5		0.5		0.5
Weighted average estimated fair value	$5.48		$4.55		$4.56