Note 14. Share-Based Compensation

The Company accounts for its share-based compensation arrangements in accordance with ASC Topic 718, which requires the measurement and recognition of compensation expense for all share-based payment awards to employees and directors based on estimated fair values. ASC Topic 718 further requires a reduction in share-based compensation expense by an estimated forfeiture rate. The forfeiture rate used by the Company is based on historical forfeiture trends. If actual forfeiture rates are not consistent with the Company’s estimates, the Company may be required to increase or decrease compensation expenses in future periods.

The Company uses the alternative transition method for calculating the tax effects of share-based compensation pursuant to ASC Topic 718. The alternative transition method includes simplified methods to establish the beginning balance of the additional paid-in capital pool (“APIC Pool”) related to the tax effects of employee share-based compensation, and to determine the subsequent impact on the APIC Pool and consolidated statements of cash flows of the tax effects of employee and director share-based awards that were outstanding upon adoption of ASC Topic 718.

Stock Plans

As of December 31, 2011, the Company had only one shareholder approved stock plan under which shares were available for equity-based awards: the Callaway Golf Company Amended and Restated 2004 Incentive Plan (the “2004 Plan”). The 2004 Plan permits the granting of stock options, stock appreciation rights, restricted stock and restricted stock units and other equity-based awards to the Company’s officers, employees, consultants and certain other non-employees who provide services to the Company. All grants under the 2004 Plan are discretionary, although no participant may receive awards in any one year in excess of 2,000,000 shares. The maximum number of shares issuable over the term of the 2004 Plan is 17,500,000.

The following table presents shares authorized, available for future grant and outstanding under each of the Company’s plans as of December 31, 2011:


	Authorized		Available			Outstanding
	(In thousands)
Promotion, Marketing and Endorsement Stock Incentive Plan		3,560		—			200
1995 Employee Stock Incentive Plan		10,800		—			1,038
1996 Stock Option Plan		9,000		—			321
2001 Directors Plan		500		92	*		332
2004 Plan		17,500		1,650			8,656

Total		41,360		1,742			10,547

*	The Company’s 2001 Non-Employee Directors Plan expired on December 31, 2011. The shares available for grant under this plan are only available to satisfy incremental dividend equivalent rights for outstanding awards.

Stock Options

All stock option grants made under the 2004 Plan are made at exercise prices no less than the Company’s closing stock price on the date of grant. Outstanding stock options generally vest over a three-year period from the grant date and generally expire up to 10 years after the grant date. The Company recorded $3,306,000, $3,606,000 and $3,384,000 of compensation expense relating to outstanding stock options for the years ended December 31, 2011, 2010 and 2009, respectively.

The Company records compensation expense for employee stock options based on the estimated fair value of the options on the date of grant using the Black-Scholes option-pricing model. The model uses various assumptions, including a risk-free interest rate, the expected term of the options, the expected stock price volatility, and the expected dividend yield. Compensation expense for employee stock options is recognized on a straight-line basis over the vesting term and is reduced by an estimate for forfeitures, which is based on the Company’s historical forfeitures of unvested options and awards. For the years ended December 31, 2011, 2010 and 2009, the weighted average estimated forfeiture rate used was 4.5%, 3.5% and 4.4%, respectively. The table below summarizes the average fair value assumptions used in the valuation of stock options granted during the years ended December 31, 2011, 2010 and 2009.


	2011		2010		2009
Dividend yield		1.4%		1.1%		1.9%
Expected volatility		48.5%		46.2%		42.7%
Risk-free interest rate		2.0%		2.2%		1.4%
Expected life		5.0 years		4.7 years		4.1 years

The Company uses forecasted dividends to estimate the expected dividend yield as dividends paid have decreased beginning in 2009. The expected volatility is based on the historical volatility, among other factors, of the Company’s stock. The risk-free interest rate is based on the U.S. Treasury yield curve at the date of grant with maturity dates approximately equal to the expected term of the options at the date of the grant. The expected life of the Company’s options is based on evaluations of historical employee exercise behavior, forfeitures, cancellations and other factors. The valuation model applied in this calculation utilizes highly subjective assumptions that could potentially change over time. Changes in the subjective input assumptions can materially affect the fair value estimates of an option. Furthermore, the estimated fair value of an option does not necessarily represent the value that will ultimately be realized by the employee holding the option.

The following table summarizes the Company’s stock option activities for the year ended December 31, 2011 (in thousands, except price per share and contractual term):


Options	Number of Shares			Weighted- Average Exercise Price Per Share		Weighted- Average Remaining Contractual Term		Aggregate Intrinsic Value
Outstanding at January 1, 2011		9,732		$	12.55
Granted		1,731		$	7.51
Exercised		—		$	—
Forfeited		(293	)	$	7.51
Expired		(1,258	)	$	17.21

Outstanding at December 31, 2011		9,912		$	11.23		3.26	$	—
Vested and expected to vest in the future at December 31, 2011		9,854		$	11.25		3.23	$	—
Exercisable at December 31, 2011		8,065		$	12.06		2.24	$	—

The weighted-average grant-date fair value of options granted during the years ended December 31, 2011, 2010 and 2009 was $2.94, $2.37 and $3.95 per share, respectively. The total intrinsic value for options exercised during the years ended December 31, 2010 was $85,000. No options were exercised during the years ended December 31, 2011 and 2009.

At December 31, 2011, there was $3,351,000 of total unrecognized compensation expense related to options granted to employees under the Company’s share-based payment plans. That cost is expected to be recognized over a weighted-average period of 1.3 years. The amount of unrecognized compensation expense noted above does not necessarily represent the amount that will ultimately be realized by the Company in its consolidated statement of operations.

Cash received from the exercise of stock options for the year ended December 31, 2010 was $564,000. There were no stock option exercises in 2011 and 2009. During 2010, the Company settled the exercise of stock options through the Callaway Golf Company Grantor Stock Trust (see Note 13).

Restricted Stock Awards and Restricted Stock Units

All restricted stock awards and restricted stock units awarded under the 2004 Plan and the 2001 Directors Plan are recorded at the Company’s closing stock price on the date of grant. Restricted stock awards and restricted stock units generally cliff-vest over a three year period. In connection with restricted stock awards, the Company recorded compensation expense of $51,000 in 2010 and reversed compensation expense of $223,000 in 2009, due to employee terminations. The Company did not grant restricted stock awards in 2011, 2010 and 2009. In 2011, 2010 and 2009, the Company recorded $1,799,000, $3,126,000 and $3,400,000, respectively, of compensation expense related to restricted stock units.

The table below summarizes the total number of restricted stock units granted to certain employees and directors and the weighted average grant date fair value during the years ended December 31, 2011, 2010 and 2009 (number of shares are in thousands).


	# of Units Granted						Weighted Average Grant-Date Fair Value
	2011		2010		2009		2011		2010		2009
Restricted Stock Units		61		505		512	$	7.01	$	7.64	$	7.72

The table below is a roll-forward of the activity for restricted stock units during the twelve months ended December 31, 2011 (in thousands, except fair value amounts):


Restricted Stock Units	Units			Weighted- Average Grant-Date Fair Value
Nonvested at January 1, 2011		1,246		$	9.33
Granted		61			7.01
Vested		(606	)		11.05
Forfeited		(77	)		7.49

Nonvested at December 31, 2011		624		$	7.62

At December 31, 2011, there was $1,460,000 of total unrecognized compensation expense related to nonvested restricted stock units granted to employees under the Company’s share-based payment plans. That cost is expected to be recognized over a weighted-average period of 0.8 years. The amount of unrecognized compensation expense noted above does not necessarily represent the amount that will ultimately be realized by the Company in its consolidated statement of operations.

Phantom Stock Units

Phantom stock units (“PSUs”) awarded under the 2004 Plan are a form of share-based award that is indexed to the Company’s stock and is settled in cash. As such, these awards are classified as liabilities. Because PSUs are settled in cash, compensation expense recognized over the vesting period will vary based on changes in fair value. Fair value is remeasured at the end of each interim reporting period and is based on the closing price of the Company’s stock. PSUs generally vest over two and three year periods. The table below summarizes the total number of PSUs granted to employees during the years ended December 31, 2011, 2010 and 2009 (in thousands).

# of Units
Granted

2011

2010

2009

Phantom stock units

679

—

1,150

The table below is a roll-forward of the activity for phantom stock units during the twelve months ended December 31, 2011 (in thousands, except fair value amounts):


Phantom Stock Units	Units			Weighted- Average Grant-Date Fair Value
Nonvested at January 1, 2011		1,125		$	7.87
Granted		679			7.51
Vested		(883	)		7.78
Forfeited		(200	)		7.70

Nonvested at December 31, 2011		721		$	7.68

In connection with these awards, the Company recognized compensation expense of $2,095,000 and $3,801,000 for the years ended December 31, 2011and 2010, respectively. Compensation expense recognized in 2009 was nominal. Accrued compensation expense for PSUs was $1,919,000 at December 31, 2011, of which $1,325,000 was included in accrued employee compensation and benefits and $594,000 was included in long-term incentive compensation and other in the accompanying consolidated balance sheet. Accrued compensation expense at December 31, 2010 was $3,801,000, of which $2,281,000 was included in accrued employee compensation and benefits and $1,520,000 was included in long-term incentive compensation and other in the accompanying consolidated balance sheet.

Stock Appreciation Rights

In 2011, the Company granted 500,000 units of cash settled stock appreciation rights (“SARs”) that vest over one year. The Company records compensation expense for SARs based on the estimated fair value on the date of grant using the Black Scholes option-pricing model. SARs are subsequently remeasured at each interim reporting period based on a revised Black Scholes value until they are exercised. As of December 31, 2011, the Company recognized $321,000 in compensation expense related to these awards with the corresponding accrual in accrued employee compensation and benefits in the accompanying consolidated balance sheet.

Employee Stock Purchase Plan

Pursuant to the amended and restated Callaway Golf Employee Stock Purchase Plan (the “Plan”), participating employees authorize the Company to withhold compensation and to use the withheld amounts to purchase shares of the Company’s common stock at 85% of the closing price on the last day of each six-month offering period. During the third quarter in 2011, in connection with the Company’s Reorganization and Reinvestment Initiatives (see Note 3), the Company terminated the Employee Stock Purchase Plan.

In 2011, 2010 and 2009 the Company purchased approximately 376,000, 409,000 and 421,000 shares, respectively, of common stock under the Plan on behalf of participating employees and recorded compensation expense of $234,000, $404,000 and $452,000, respectively.

Share-Based Compensation Expense

The table below summarizes the amounts recognized in the financial statements for the years ended December 31, 2011, 2010 and 2009 for share-based compensation related to employees and directors. Amounts are in thousands, except for per share data.


	2011			2010			2009
Cost of sales	$	424		$	938		$	457
Operating expenses		10,882			12,451			8,356

Total cost of employee share-based compensation included in loss before income tax		11,306			13,389			8,813
Income tax benefit		(4,353	)		(4,406	)		(2,705	)

Amount included in net loss	$	6,953		$	8,983		$	6,108

Impact on net loss per common share:
Basic	$	(0.11	)	$	(0.14	)	$	(0.10	)
Diluted	$	(0.11	)	$	(0.14	)	$	(0.10	)

In connection with an employment agreement with a former executive officer of the Company, the Company was contractually obligated to grant $11,730,000 in the form of various share-based awards over the service period stipulated in the agreement. As a result, the total contractual obligation related to these equity awards was recognized on a straight-line basis over the contract term, which resulted in the recognition of compensation expense of $1,415,000, $2,401,000 and $1,800,000 in 2011, 2010 and 2009, respectively. In 2011, as a result of the resignation of the executive officer, the Company accelerated the vesting period of all outstanding equity awards granted under the employment agreement, which resulted in the recognition of additional compensation expense of $2,136,000.

In total, in connection with the Reorganization and Reinvestment Initiatives announced in June 2011 (see Note 3), the Company recognized $3,539,000 during the year ended December 31, 2011 in stock compensation expense as a result of the contractual acceleration of the vesting of certain stock options, restricted stock units and phantom stock units. There were no material award accelerations during 2010 and 2009.