Note 8 – Stock Incentive Plans and Warrants

Stock Options

We have several stock option plans and incentive stock plans (the "Plans") providing for the issuance of a maximum of 9,778,571 shares of common stock, which may be issued as incentive stock options ("ISOs"), nonqualified stock options, stock-settled stock appreciation rights ("SARs"), restricted stock awards ("RSAs"), performance-based restricted stock awards ("PBRSAs"), or restricted stock units ("RSUs"). Under the terms of the Plans, ISOs may not be granted at less than the fair market value on the date of grant (and in no event less than par value); in addition, ISO grants to holders of 10% of the combined voting power of all classes of Palomar stock must be granted at an exercise price of not less than 110% of the fair market value at the date of grant. Pursuant to the Plans, options are exercisable at varying dates, as determined by our board of directors, and have terms not to exceed 10 years (five years for 10% or greater stockholders). Our board of directors, in its discretion, may convert the optionee's ISOs into nonqualified stock options at any time prior to the expiration of such ISOs.

The following table summarizes all stock option activity for the year ended December 31, 2012:

	Number of Shares			Exercise Price		Weighted Average Exercise Price		Weighted Average Remaining Contractual Term (in Years)		Aggregate Intrinsic Value

Outstanding, December 31, 2011		2,665,562			$0.90 - $24.63	$	13.90		4.63	$	596,136
Granted		-			-		-
Exercised		(40,000	)		$0.90 - $5.05	$	1.70
Cancelled		(259,194	)		$9.15 - $16.53	$	14.64
Outstanding, December 31, 2012		2,366,368			$4.08 - $24.63	$	14.02

Exercisable, December 31, 2012		2,366,368			$4.08 - $24.63	$	14.02		3.73	$	263,652
Vested and expected to vest at December 31, 2012		2,366,368				$	14.02		3.73	$	263,652
Available for future issuances under the plans as of December 31, 2012		62,589

The total intrinsic value for options exercised during the years ended December 31, 2012, 2011, and 2010 was $281,600, $1,100,408, and $263,413, respectively.

The following table summarizes information about stock options outstanding as of December 31, 2012:

Options Outstanding								Options Exercisable
Range of Exercise Prices		Options Outstanding		Weighted Average Remaining Contractual Life		Weighted Average Exercise Price		Options Exercisable		Weighted Average Exercise Price
	$4.08 - $10.72		253,376		5.39	$	8.17		253,376	$	8.17
	$13.31 - $13.31		1,222,500		5.10		13.31		1,222,500		13.31
	$13.66 - $24.63		890,492		1.38		16.67		890,492		16.67
	$4.08 - $24.63		2,366,368		3.73	$	14.02		2,366,368	$	14.02

As of December 31, 2012, we had no unamortized stock-based compensation expense related to these options.

Stock-Settled Stock Appreciation Rights

SARs are awards that allow the recipient to receive an amount of our common stock equal to the appreciation (if any) in the fair market value of our common stock on the date of exercise over the initial SAR valuation set on the date of grant per share of common stock for the number of shares vested. We have awarded stock-settled SARs since 2007. The conversion price was set at 50 percent of the fair market value of our common stock on the date of grant, and the holder's right to receive shares of common stock under these grants occurs automatically on the vesting date. The SARs become exercisable over a four-year period with one-third vesting on the second, third, and fourth anniversaries of the date of grant. The related compensation expense is being recognized over the four-year period on a straight-line basis. Total unamortized stock-based compensation expense related to these awards as December 31, 2012 is $0.1 million which will be recognized over a weighted average period of 0.9 years.

We did not grant any SARs in the year ended December 31, 2012.

The following table summarizes the SARs activity for the year ended December 31, 2012:

	Number of Shares			Weighted Average Conversion Price		Weighted Average Remaining Contractual Term (in Years)		Aggregate Intrinsic Value

Outstanding, December 31, 2011		248,239		$	6.34		1.17	$	734,728
Granted		-			-
Converted		(164,317	)		6.79
Cancelled/Expired		(15,263	)		6.97
Outstanding, December 31, 2012		68,659		$	5.12		0.87	$	280,506

Vested, December 31, 2012		-			-		-	$	-

SARs Outstanding
Range of Conversion Prices		SARs Outstanding		Weighted Average Remaining Contractual Life		Weighted Average Conversion Price
	$5.03 - $5.03		5,333		0.92	$	5.03
	$5.13 - $5.60		63,326		0.86		5.13
	$5.03 - $5.60		68,659		0.87	$	5.12

Restricted Stock Awards

The following table summarizes the RSAs activity for the year ended December 31, 2012:

	Number of Shares			Weighted Average Grant Date Fair Value
Nonvested, December 31, 2011		700,499		$	9.70
Granted		393,000			8.97
Vested		(176,813	)		10.00
Cancelled		(64,750	)		9.70
Nonvested, December 31, 2012		851,936		$	9.30

The following table summarizes the RSA grant and unamortized compensation expense for the years ended December 2012, 2011, and 2010. All restricted common stock awards vest over a four year period with one-quarter vesting on each of the next four anniversaries of the date of grant. The related compensation expense is being recognized over the four-year period on a straight-line basis.

	Number of restricted common stock granted		Unamortized stock-based compensation at December 31, 2012 (in millions)		Weighted average period for recognition of unamortized compensation as of December 31, 2012 (in years)
As of December 31, 2012		393,000	$	3.8		2.4
As of December 31, 2011		470,250	$	2.5		1.8
As of December 31, 2010		307,000	$	1.7		1.5

Performance-based Restricted Stock Awards

During the years ended December 31, 2012, 2011, and 2010, we granted 80,000, 0, and 0, respectively, performance-based restricted stock awards ("PBRSAs") to employees at a fair market value of our common stock on the date of grant. If the Company's consolidated revenue exceeds $100 million (the "Target") for any trailing four quarter period between January 1, 2013 and December 31, 2016, the PBRSAs will vest on the date which is the earlier of (i) the quarterly financial earnings release for the quarter that the Target has been achieved or (ii) a determination by the Audit Committee of the Board of Directors that the Target has been achieved. As we believe that as of December 31, 2012, it is probable that the Target will be achieved before December 31, 2016, we are recognizing related compensation expense on a straight-line basis over the period from the date of grant through the expected vest date. If at any point in time, we believe that achieving the performance goal is not probable, we will stop recognizing the related compensation expense and will adjust the previously recognized related compensation expense accordingly.

Restricted Stock Units

The following table summarizes the RSUs activity for the year ended December 31, 2012:

	Number of Shares			Weighted Average Grant Date Fair Value
Nonvested, December 31, 2011		45,000		$	10.05
Granted		-			-
Vested		(11,250	)		10.05
Cancelled		-			-
Nonvested, December 31, 2012		33,750		$	10.05

The following table summarizes the RSU grant and unamortized compensation expense for the years ended December 2012, 2011, and 2010. All restricted common stock units vest over a four year period with one-quarter vesting on each of the next four anniversaries of the date of grant. The related compensation expense is being recognized over the four-year period on a straight-line basis.

	Number of restricted common stock granted		Unamortized stock-based compensation at December 31, 2012 (in millions)		Weighted average period for recognition of unamortized compensation as of December 31, 2012 (in years)
As of December 31, 2012		-	$	-		-
As of December 31, 2011		45,000	$	0.3		1.7
As of December 31, 2010		-	$	-		-

Warrants

As of December 31, 2012, we had no warrants outstanding. The total intrinsic value for warrants exercised during the years ended December 31, 2012, 2011, and 2010 was $0, $0, and $81,275, respectively.

Reserved Shares

At December 31, 2012, we have reserved shares of our common stock for the following:

Stock incentive plans			2,468,777
Employee 401(k) plan			463,531
Total			2,932,308