NOTE 12: STOCK-BASED COMPENSATION PLANS

Our Board of Directors and stockholders approved the Amended and Restated Merchants Bancshares, Inc. 2008 Stock Incentive Plan (the "Plan") in 2011. The Plan allows us to grant stock options and restricted stock grants to certain employees. The Plan allows for the issuance of up to 600,000 shares of stock. As of December 31, 2011, there were 467,990 shares that remain available for future grants under the Plan.

The fair value of stock option and restricted stock awards, measured at the grant date are amortized to compensation expense on a straight-line basis over the vesting period. The total compensation cost recognized related to stock option awards was $110 thousand, $103 thousand and $65 thousand for 2011, 2010 and 2009, respectively. The total compensation expense recognized related to restricted stock awards for 2011 was $54 thousand. There were no restricted stock awards prior to 2011. Compensation cost related to stock option and restricted stock awards is included in salary expense in the accompanying consolidated Statements of Income. Remaining compensation expense relating to current outstanding stock option grants is $99 thousand. Remaining compensation expense related to current outstanding restricted stock awards is $223 thousand.

Restricted Stock

Restricted stock provides grantees with rights to shares of common stock upon completion of a service period. During the service period, all shares are considered outstanding and dividends are paid on the restricted stock. We made a grant of 11,054 restricted shares in 2011, our first grant of restricted shares under the Plan. The shares will vest in 2014. No restricted shares vested during 2011, and the grant date fair value of restricted stock granted during 2011 was $25.00 per share.

Stock Options

Stock options are granted at 100% of fair market value and vest over three years. No stock options were granted during 2011. We granted 52,475 options during May 2010. The fair value of the options granted during 2010 was $3.06 per option. The fair value of each option grant is estimated on the grant date using the Black-Scholes option-pricing model that requires Merchants to develop estimates for assumptions used in the model. The Black-Scholes valuation model uses the following assumptions: expected volatility, expected term of option, risk-free interest rate and dividend yield. Expected volatility estimates are developed based on historical volatility of our stock. We use historical data to estimate the expected term of the options. The risk-free interest rate for periods within the expected life of the option is based on the U.S. Treasury yield in effect at the grant date. The dividend yield represents the expected dividends on our stock.

The following table presents the assumptions used for options granted during 2010:


	2010
Expected volatility	24.41	%
Expected term of option	7.0 years
Risk-free interest rate	2.82	%
Annual rate of quarterly dividends	5.07	%

A summary of Merchants' stock option plan as of December 31, 2011, 2010 and 2009 and changes during the years then ended are as follows, with numbers of shares in thousands:


	2011			2010			2009
	Number Of Shares	Weighted Average Exercise Price Per Share		Number Of Shares	Weighted Average Exercise Price Per Share		Number Of Shares	Weighted Average Exercise Price Per Share




Options outstanding,
beginning of year	127	$	22.82	81	$	23.30	100	$	20.14
Granted	0		0	52		22.07	39		22.75
Exercised	6		22.93	2		23.00	58		17.49
Forfeited	0		0	4		22.75	0		0
Expired	0		0	0		0	0		0
Options outstanding, end of year	121	$	22.81	127	$	22.82	81	$	23.30
Options exercisable	34	$	24.01	10	$	26.63	13	$	25.88

As of December 31, 2011, there were options outstanding within the following ranges: 111 thousand at an exercise price within the range of $22.07 to $22.93, and 10 thousand at $26.63.

The total intrinsic value of options exercised was $8 thousand, $6 thousand and $240 thousand for the three years ended December 31, 2011, 2010 and 2009, respectively. We generally use shares held in treasury for option exercises. Options exercisable at December 31, 2011 had an intrinsic value of $177 thousand and a weighted average remaining term of 5.91 years. The total cash received from employees, net of withholding taxes, as a result of employee stock option exercises was zero, $60 thousand and $475 thousand for the years ended December 31, 2011, 2010 and 2009, respectively. There were 5 thousand shares surrendered by employees to satisfy the exercise price in conjunction with the option exercise for the year ended December 31, 2011 and no shares surrendered by employees to satisfy the exercise price in conjunction with the option exercise for the year ended December 31, 2010. Total shares surrendered by employees to satisfy the exercise price in conjunction with option exercises were 21,933 shares for the year ended December 31, 2009. The tax benefit realized as a result of the stock option exercises was less than $1 thousand, $2 thousand and $52 thousand for the years ended December 31, 2011, 2010 and 2009, respectively.

Deferred Compensation Plans

Merchants has established deferred compensation plans for non-employee directors. Under the terms of these plans participating directors can elect to have all, or a specified percentage, of their director's fees for a given year paid in the form of cash or deferred in the form of restricted shares of Merchants' common stock. These shares are held in a rabbi trust and are considered outstanding for purposes of computing earnings per share. Directors who elect to have their compensation deferred are credited with a number of shares of Merchants' common stock equal in value to the amount of fees deferred. Prior to 2011 Directors were also credited with a risk premium of 20% of the amount deferred. The participating director may not sell, transfer or otherwise dispose of these shares prior to distribution. With respect to shares of common stock issued or otherwise transferred to a participating director, the participating director will have the right to receive dividends or other distributions thereon. If a participating director resigns under certain circumstances, the director forfeits all of his or her shares which are risk premium shares. The total amount of unearned compensation cost related to non-vested risk premium shares was $35 thousand at December 31, 2011. During 2011, no risk premium shares were granted. Deferred fees are recognized as an expense in the year incurred and the grant date fair value of the risk premium shares is recognized as an expense ratably over the five-year vesting period.