Note I – Incentive Plans

Murphy utilizes cash-based and/or share-based incentive plans to supplement normal salaries as compensation for executive management and certain employees. For share-based awards that qualify for equity accounting, costs are recognized as an expense in the financial statements using a fair value-based measurement method over the periods that the awards vest. For share-based awards that are required to be accounted for under liability accounting rules, costs are recognized as expense using a fair value-based measurement method over the vesting period, but expense is adjusted as necessary beyond the vesting period through the date the award value is determined; total expense for liability awards is ultimately adjusted to the final intrinsic value for the award.

At the Company’s annual stockholders’ meeting held on May 9, 2012, shareholders approved replacement of the 2007 Annual Incentive Plan (2007 Annual Plan) and the 2007 Long-Term Incentive Plan (2007 Long-Term Plan) with the 2012 Annual Incentive Plan (2012 Annual Plan) and 2012 Long-Term Incentive Plan (2012 Long-Term Plan), respectively. The new plans can be found in the Company’s Definitive Proxy statement (Definitive 14A) dated March 29, 2012. All awards on or after May 9, 2012 will be made under the respective 2012 plans.

The 2012 Annual Plan and the 2007 Annual Plan authorize the Executive Compensation Committee (the Committee) to establish specific performance goals associated with annual cash awards that may be earned by officers, executives and certain other employees. Cash awards under the 2012 Annual Plan and 2007 Annual Plan are determined based on the Company’s actual financial and operating results as measured against the performance goals established by the Committee. The 2012 Long-Term Plan and the 2007 Long-Term Plan authorize the Committee to make grants of the Company’s Common Stock to employees. These grants may be in the form of stock options (nonqualified or incentive), stock appreciation rights (SAR), restricted stock, restricted stock units, performance units, performance shares, dividend equivalents and other stock-based incentives. The 2012 Long-Term Plan expires in 2022. A total of 8,700,000 shares are issuable during the life of the 2012 Long-Term Plan, with annual grants limited to 1% of Common shares outstanding; allowed shares not granted may be granted in future years. Based on awards made to date, approximately 8,472,500 shares remained available for grant under the 2012 Long-Term Plan at December 31, 2012. The Company also has a Stock Plan for Non-Employee Directors (Director Plan) that permits the issuance of restricted stock, restricted stock units and stock options or a combination thereof to the Company’s Non-Employee Directors.

The Company generally expects to issue treasury shares to satisfy future stock option exercises and vesting of restricted stock and restricted stock units.

Amounts recognized in the financial statements with respect to share-based plans are shown in the following table.


(Thousands of dollars)	2012		2011		2010
Compensation charged against income before income tax benefit	$	46,694		43,272		41,992
Related income tax benefit recognized in income		10,924		13,053		12,169

As of December 31, 2012, there was $56,638,000 in compensation costs to be expensed over approximately the next two years related to unvested share-based compensation arrangements granted by the Company. Cash received from options exercised under all share-based payment arrangements for the years ended December 31, 2012, 2011 and 2010 was $12,324,000, $15,551,000 and $42,995,000, respectively. Total income tax benefits realized from tax deductions related to stock option exercises under share-based payment arrangements were $5,920,000, $8,775,000 and $15,896,000 for the years ended December 31, 2012, 2011 and 2010, respectively.

STOCK OPTIONS – The Committee fixes the option price of each option granted at no less than fair market value (FMV) on the date of the grant and fixes the option term at no more than seven years from such date. Each option granted to date under the 2012 Long-Term Plan and the 2007 Long-Term Plan has been nonqualified, with a term of seven years and an option price equal to FMV at date of grant. Under the 2012 Long-Term Plan and the 2007 Long-Term Plan, one-half of each grant is generally exercisable after two years and the remainder after three years. Under the Director Plan, one-third of each grant is exercisable after each of the first three years.

The fair value of each option award is estimated on the date of grant using the Black-Scholes pricing model based on the assumptions noted in the following table. Expected volatility is based on historical volatility of the Company’s stock and implied volatility on publicly traded at-the-money options on the Company’s stock. The Company estimates the expected term of the options granted based on historical option exercise patterns and considers certain groups of employees exhibiting different behavior. The risk-free interest rate for periods within the expected term of the option is based on the U.S. Treasury yield curve in effect at the time of grant.


	2012	2011	2010
Fair value per option grant	$12.37 – $17.74	$20.34	$18.75
Assumptions
Dividend yield	1.80% – 2.27%	1.80%	1.80%
Expected volatility	39.00% – 39.62%	37.00%	43.00%
Risk-free interest rate	0.55% – 0.77%	2.10%	2.52%
Expected life	4.00 yrs. – 5.20 yrs.	5.10 yrs.	5.25 yrs.

Changes in options outstanding during the last three years are presented in the following table.


	Number of Shares			Average Exercise Price
Outstanding at December 31, 2009		5,431,560		$	42.01
Granted at FMV		1,605,628			52.85
Exercised		(1,580,950	)		29.04
Forfeited		(153,854	)		53.33

Outstanding at December 31, 2010		5,302,384			48.83
Granted at FMV		1,397,312			67.64
Exercised		(974,500	)		39.30
Forfeited		(290,968	)		52.73

Outstanding at December 31, 2011		5,434,228			55.17
Granted at FMV		1,870,500			57.96
Exercised		(823,855	)		38.37
Forfeited		(573,514	)		60.43

Outstanding at December 31, 2012		5,907,359			57.89

Exercisable at December 31, 2009		3,506,310		$	34.86
Exercisable at December 31, 2010		2,499,610			45.07
Exercisable at December 31, 2011		2,319,735			51.14
Exercisable at December 31, 2012		2,474,636			54.43

Additional information about stock options outstanding at December 31, 2012 is shown below.


	Options Outstanding						Options Exercisable
Range of Exercise Prices per Option	No. of Options		Avg. Life Remaining in Years		Aggregate Intrinsic Value		No. of Options		Avg. Life Remaining in Years		Aggregate Intrinsic Value
$21.17 to $23.58		70,750		0.1	$	2,614,000		70,750		0.1	$	2,614,000
$30.30 to $45.70		924,910		3.5		14,327,000		697,410		2.6		11,176,000
$51.07 to $57.32		1,643,097		2.9		11,084,000		1,071,476		2.3		7,252,000
$59.66 to $72.75		3,268,602		4.9		0		635,000		1.9		0

		5,907,359		4.0	$	28,025,000		2,474,636		2.2	$	21,042,000

The total intrinsic value of options exercised during 2012, 2011 and 2010 was $17,197,000, $28,145,000 and $49,929,000, respectively. Intrinsic value is the excess of the market price of stock at date of exercise over the exercise price received by the Company upon exercise. Aggregate intrinsic value is nil when the exercise price of the stock option exceeds the market price of the Company’s Common stock. In February 2013, the Committee reduced the exercise price of all outstanding stock options by $2.50 per share to reflect the impact of the special dividend of the same amount paid in December 2012. The exercise prices in the tables above do not reflect this $2.50 reduction in exercise price approved in 2013. The income statement effect of this reduced exercise price will be reflected in 2013 and future years.

SAR – SAR may be granted in conjunction with or independent of stock options; if granted, the Committee would determine when SAR may be exercised and the price. No SAR have been granted through 2012.

PERFORMANCE-BASED RESTRICTED STOCK UNITS – Restricted stock units (RSU) were granted in each of the last three years under the 2012 Long-Term Plan or the 2007 Long-Term Plan. Each grant will vest if the Company achieves specific performance objectives at the end of the designated performance period. Additional shares may be awarded if performance objectives are exceeded. If performance goals are not met, shares under performance-based grants will not vest, but recognized compensation cost associated with the stock award would not be reversed. For past awards, the performance conditions were based on the Company’s total shareholder return over the performance period compared to an industry peer group of companies. During the performance period, RSU are subject to transfer restrictions and are subject to forfeiture if a grantee terminates for reasons other than retirement, disability or death. Termination for these three reasons will lead to a pro rata award of amounts earned. No dividends are paid or voting rights exist on awards of RSU. Changes in performance-based RSU outstanding for each of the last three years are presented in the following table.


(Number of shares or share units)	2012			2011			2010
Balance at beginning of year		1,174,492			1,023,492			872,027
Granted		653,355			521,423			449,100
Awarded		(260,175	)		(309,656	)		(252,551	)
Forfeited		(141,434	)		(60,767	)		(45,084	)

Balance at end of year		1,426,238			1,174,492			1,023,492

The fair value of the performance-based awards granted in each year was estimated on the date of grant using a Monte Carlo valuation model. Expected volatility was based on daily historical volatility of the Company’s stock price compared to a peer group average over a three-year period. The risk-free interest rate is based on the yield curve of three-year U.S. Treasury bonds and the stock beta was calculated using three years of historical averages of daily stock data for Murphy and the peer group. The assumptions used in the valuation of the performance awards granted in 2012, 2011 and 2010 are presented in the following table.


	2012	2011	2010
Fair value per share at grant date	$54.90 – $63.64	$38.94 – $64.89	$42.38 – $50.95
Assumptions
Expected volatility	37.00%	51.00%	51.00%
Risk-free interest rate	0.30%	1.04%	1.41%
Stock beta	0.913	1.006	1.008
Expected life	3.00 yrs.	3.00 yrs.	3.00 yrs.

TIME-LAPSE RESTRICTED STOCK UNITS – Restricted stock units (RSU) have been granted to the Company’s Non-Employee Directors under the Directors Plan. These awards vest on the third anniversary of the date of grant. The fair value of these awards was estimated based on the fair market value of the Company’s stock on the date of grant, which was $59.33 per share in 2012, $52.66 per share in 2011 and $52.49 per share in 2010. Changes in time-lapse restricted stock units outstanding for each of the last three years are presented in the following table.


(Number of shares or share units)	2012			2011			2010
Balance at beginning of year		116,724			166,173			164,695
Granted		42,256			32,711			43,370
Vested and issued		(44,980	)		(82,160	)		(29,475	)
Forfeited		(15,523	)		0			(12,417	)

Balance at end of year		98,477			116,724			166,173

PHANTOM UNITS – A total of 55,000 phantom units were granted to two Company executives during 2012. These awards will be settled in cash in 2015 based on the average of the high and low price for the Company’s Common stock on the maturity dates. Total expense of $305,000 was recorded related to these phantom awards during 2012.

PERFORMANCE UNITS – The Company also awarded performance units in 2011 and 2012 to certain U.S. retail marketing employees under the 2007 Long-Term Plan. The performance units are to be paid in cash and awards are computed at between 0% and 200% of targeted amounts based on achievement of U.S. retail financial performance over the three-year term of the award. Total expense related to these awards was $2,665,000 in 2012 and $871,000 in 2011.

EMPLOYEE STOCK PURCHASE PLAN (ESPP) – The Company has an ESPP under which the Company’s Common Stock can be purchased by eligible U.S. and Canadian employees. Each quarter, an eligible employee may elect to withhold up to 10% of his or her salary to purchase shares of the Company’s stock at the end of the quarter at a price equal to 90% of the fair value of the stock as of the first day of the quarter. The ESPP will terminate on the earlier of the date that employees have purchased all 980,000 authorized shares or June 30, 2017. Employee stock purchases under the ESPP were 24,418 shares at an average price of $48.54 per share in 2012, 28,555 shares at an average price of $55.28 per share in 2011 and 44,361 shares at $51.97 per share in 2010. At December 31, 2012, 302,961 shares remained available for sale under the ESPP. Compensation costs related to the ESPP are estimated based on the value of the 10% discount and the fair value of the option that provides for the refund of participant withholdings, and such expenses were $272,000 in 2012, $328,000 in 2011 and $357,000 in 2010. The fair value per share issued under the ESPP was approximately $7.30, $8.60 and $7.51 for the years ended December 31, 2012, 2011 and 2010, respectively.

SAVINGS-RELATED SHARE OPTION PLAN (SOP) – One of the Company’s U.K. subsidiaries formerly provided a plan that allowed shares of the Company’s Common stock to be purchased by eligible employees using payroll withholdings. An eligible employee could have elected to withhold from £5 to £250 per month to purchase shares of Company stock at a price equal to 90% of the fair value of the stock as of the date of grant. The SOP plan had a term of three years and employee withholdings were fixed over the life of the plan. At the end of the term of the SOP plan an employee received interest on withholdings and had six months to either use all or part of the withholdings plus credited interest to purchase shares of Company stock or receive a repayment of withholdings plus credited interest. The SOP expired in 2012. Compensation costs related to the SOP plan were estimated based on the value of the 10% discount and the fair value of the option that allowed the employee to receive a repayment of withholdings plus credited interest. The fair value per share of the SOP plans with holding periods that ended in August 2010, April 2011 and May 2012 were $19.90, $23.77 and $22.85, respectively.

CASH AWARDS – The Committee also administers the Company’s incentive compensation plans, which provide for annual or periodic cash awards to officers, directors and certain other employees. These cash awards are generally determinable based on the Company achieving specific financial and/or operational objectives. Compensation expense of $32,417,000, $33,035,000 and $25,171,000 was recorded in 2012, 2011 and 2010, respectively, for these plans.