Stock-Based Compensation (Unaudited)

9 Months Ended

Sep. 30, 2011

Stock-Based Compensation [Abstract]

Stock-Based Compensation

1.  Stock-Based Compensation

In the first quarter of 2011, a committee of non-employee directors of Norfolk Southerns Board of Directors granted stock options, restricted stock units and performance share units (PSUs) pursuant to the Long-Term Incentive Plan (LTIP) and granted stock options pursuant to the Thoroughbred Stock Option Plan (TSOP) as discussed below.  Stock-based compensation expense was $3 million during the third quarter of 2011, and $9 million during the same period of 2010.  For the first nine months of 2011 and 2010, stock-based compensation expense was $52 million and $60 million, respectively.  The total tax effects recognized in income in relation to stock-based compensation were net benefits of $1 million and $3 million for the quarters ended September 30, 2011 and 2010, respectively, and net benefits of $17 million and $19 million for the first nine months of 2011 and 2010.

Stock Options

In the first quarter of 2011, 627,700 options were granted under the LTIP and 257,000 options were granted under the TSOP.  In each case, the grant price was $62.75, which was the greater of the average fair market value of Norfolk Southern common stock (Common Stock) or the closing price of the Common Stock on the effective date of the grant, and the options have a term of ten years.  The options granted under the LTIP and TSOP in 2011 may not be exercised prior to the fourth and third anniversaries of the date of grant, respectively.  Holders of the 2011 options granted under the LTIP who remain actively employed receive cash dividend equivalent payments for four years in an amount equal to the regular quarterly dividends paid on Common Stock.  Dividend equivalent payments are not made on TSOP options.

The fair value of each option award in 2011 was measured on the date of grant using a lattice-based option valuation model.  Expected volatilities are based on implied volatilities from traded options on Common Stock and historical volatility of Common Stock.  NS uses historical data to estimate option exercises and employee terminations within the valuation model.  The average expected option life is derived from the output of the valuation model and represents the period of time that options granted are expected to be outstanding.  The average risk-free interest rate is based on the U.S. Treasury yield curve in effect at the time of grant.  A dividend yield of zero was used for LTIP options during the four-year period in which dividend equivalent payments are made.  A dividend yield of 2.55% was used for LTIP options for periods where no dividend equivalent payments are made as well as for TSOP options which do not receive dividend equivalents.  The assumptions for the 2011 LTIP and TSOP grants are shown in the following table:

Expected volatility range	28% - 32%
Average expected volatility	28%
Average expected option life	8.5 years
Average risk-free interest rate	3.42%
LTIP per-share grant-date fair value	$22.26
TSOP per-share grant-date fair value	$18.10

During the third quarter of 2011, options relating to 555,659 shares were exercised, yielding $15 million in cash proceeds and $11 million of tax benefits recognized as additional paid-in capital.  During the third quarter of 2010, options relating to 497,375 shares were exercised, yielding $11 million in cash proceeds and $6 million of tax benefits recognized as additional paid-in capital.

For the first nine months of 2011, options relating to 2,204,705 shares were exercised, yielding $60 million of cash proceeds and $33 million of tax benefits recognized as additional paid-in capital.  For the first nine months of 2010, options relating to 1,655,271 shares were exercised yielding $37 million of cash proceeds and $20 million of tax benefits recognized as additional paid-in capital.

Restricted Stock Units and Restricted Shares

There were 177,400 restricted stock units granted in 2011, with an average grant-date fair value of $62.75 and a five-year restriction period.  The restricted stock units granted in 2011 will be settled through the issuance of shares of Common Stock.

During the third quarters of 2011 and 2010, no restricted stock units were earned or paid out.  There were no restricted stock units earned or paid out during the first nine months of 2011.  The total related tax benefit recognized as additional paid-in capital was less than $1 million for both the third quarter of 2011 and the first nine months of 2011.

During the first nine months of 2010, 286,709 restricted stock units were earned and paid out in cash with a weighted average fair value of $48.88.  Also earned and distributed were 433,236 restricted shares with a weighted-average grant-date fair value of $34.10.  The total related tax benefit recognized as additional paid-in capital was $2 million in the first nine months of 2010.

Performance Share Units

PSUs provide for awards based on achievement of certain predetermined corporate performance goals at the end of a three-year cycle.  During the first quarter of 2011, there were 580,900 PSUs granted with a grant-date fair value of $62.75.  The PSUs granted in 2011 and 2010 will be paid in the form of shares of Common Stock.

During the first nine months of 2011, 850,595 PSUs were earned and paid out, one-half in shares of Common Stock and one-half in cash.  These PSUs had a grant-date fair value of $50.47 per unit and a fair value at payout of $62.75 per unit.  The total related tax benefit recognized as additional paid-in capital was $2 million for the first nine months of 2011.

During the first nine months of 2010, 851,893 PSUs were earned and paid out, one-half in shares of Common Stock and one-half in cash.  These PSUs had a grant-date fair value of $49.56 per unit and a fair value at payout of $47.76 per unit.  The total related tax expense recognized as a reduction to additional paid-in capital was less than $1 million for the first nine months of 2010.