(11) Stock-Based Compensation

The fair value of all awards granted, net of estimated forfeitures, is recognized as compensation expense over the respective service period.

Bancorp currently has one stock-based compensation plan. Initially, in the 2005 Stock Incentive Plan, there were 735,000 shares of common stock reserved for issuance of stock based awards. In 2010, shareholders approved an additional 700,000 shares of common stock for issuance under the plan. As of March 31, 2014, there were 423,424 shares available for future awards. Bancorp’s 1995 Stock Incentive Plan expired in 2005; however, options granted under this plan expire as late as 2015.

Options and stock appreciation rights (SARs) granted generally have been subject to a vesting schedule of 20% per year. Restricted shares generally vest over three to five years. All awards have been granted at an exercise price equal to the market value of common stock at the time of grant; options and SARs expire ten years after the grant date unless forfeited due to employment termination. No stock options have been granted since 2007.

Grants of performance stock units (PSUs) to executive officers vest based upon service and a three-year performance period which begins January 1 of the first year of the performance period. Because grantees are not entitled to dividend payments during the performance period, the fair value of these PSUs is estimated based upon the fair value of the underlying shares on the date of grant, adjusted for non-payment of dividends.

Grants of restricted stock units (RSUs) to directors vest based upon one year of service. Because grantees are entitled to deferred dividend payments at the end of the vesting period, the fair value of the RSUs are estimated based on the fair value of the underlying shares on the date of grant.

Bancorp has recognized stock-based compensation expense, within salaries and employee benefits for employees, and within other non-interest expense for directors, in the consolidated statements of income as follows:

	For three months ended
	March 31,
(in thousands)	2014			2013
Stock-based compensation expense before income taxes	$	290		$	531
Less: deferred tax benefit	(102		)	(186		)
Reduction of net income	$	188		$	345

Bancorp expects to record an additional $1,469,000 of stock-based compensation expense in 2014 for equity grants outstanding as of March 31, 2014. As of March 31, 2014, Bancorp has $4,664,000 of unrecognized stock-based compensation expense that is expected to be recorded as compensation expense over the next five years as awards vest. Bancorp received cash of $463,000 and $61,000 from the exercise of options during the first three months of 2014 and 2013, respectively.

The fair values of Bancorp’s stock options and SARs are estimated at the date of grant using the Black-Scholes option pricing model, a leading formula for calculating the value of stock options and SARs. This model requires the input of subjective assumptions, changes to which can materially affect the fair value estimate. The fair value of restricted shares is determined by Bancorp’s closing stock price on the date of grant. The following assumptions were used in SAR valuations at the grant date in each year:

	2014	2013

Dividend yield	2.94%	2.80%
Expected volatility	23.66%	22.54%
Risk free interest rate	2.22%	1.26%
Expected life of SARs	7.0 years	6.6 years

Dividend yield and expected volatility are based on historical information corresponding to the expected life of options and SARs granted. Expected volatility is the volatility of the underlying shares for the expected term on a monthly basis. The risk free interest rate is the implied yield currently available on U.S. Treasury issues with a remaining term equal to the expected life of the options. The expected life of options and SARs is based on actual experience of past like-term options. Bancorp evaluates historical exercise and post-vesting termination behavior when determining the expected life.

A summary of stock option and SARs activity and related information for the three months ended March 31, 2014 follows:

											Weighted
					Weighted		Aggregate		Weighted		average
	Options				average		intrinsic		average		remaining
	and SARs		Exercise		exercise		value		fair		contractual
	(in thousands)		price		price		(in thousands)		value		life (in years)

At December 31, 2013
Vested and exercisable	579		$	20.25-26.83	$	23.83	$	4,685	$	5.43	3.4
Unvested	218		21.03-24.87		22.70		2,011		4.36		7.7
Total outstanding	797		20.25-26.83		23.52		6,696		5.14		4.6

Granted	60		29.05		29.05		156		5.37
Exercised	(24	)	20.25-26.83		23.05		190		5.36
Forfeited	—		—		—		—		—

At March 31, 2014
Vested and exercisable	635		20.25-26.83		23.69		5,045		5.33		3.7
Unvested	198		21.03-29.05		24.72		1,372		4.56		8.4
Total outstanding	833		20.25-29.05		23.93		$	6,417	5.15		4.8

Vested year-to-date	80		21.03-24.87		22.49		$	734	4.63

Intrinsic value for stock options and SARs is defined as the amount by which the current market price of the underlying stock exceeds the exercise price.

For the periods ending December 31, 2013 and March 31, 2014, Bancorp granted shares of restricted common stock as outlined in the following table:

			Grant date
			weighted-
	Number		average cost
Unvested at December 31, 2012	113,910		$	22.55
Shares awarded	55,275		22.93
Restrictions lapsed and shares released to employees/directors	(39,909	)	22.29
Shares forfeited	(4,720	)	23.45
Unvested at December 31, 2013	124,556		$	22.77
Shares awarded	39,480		29.11
Restrictions lapsed and shares released to employees/directors	(42,932	)	22.63
Shares forfeited	(1,081	)	23.55
Unvested at March 31, 2014	120,023		$	24.90

Bancorp awarded performance-based restricted stock units (PSUs) to executive officers of Bancorp, the three-year performance period for which began January 1 of the award year. The following table outlines the PSU grants.

	Vesting		Expected
Grant	period	Fair	shares to
year	in years	value	be awarded
2012	3	20.57	22,668
2013	3	20.38	28,579
2014	3	26.42	16,675

In the first quarter of 2014, Bancorp awarded 3,920 restricted stock units (RSUs) to directors of Bancorp. The RSUs vest in one year.