Note 9. Share-based Compensation

Our share-based compensation program consists of a combination of time vesting stock options with graduated vesting over a four year period; performance and market vesting common stock units, or PSUs, tied to the achievement of pre-established company performance metrics and market based goals over a three-year performance period; and, time vesting restricted stock awards, or RSUs, granted to our non-employee directors generally vesting over a one year period.

The fair values of our share-based awards are determined as follows:

· stock option grants are estimated as of the date of grant using a Black-Scholes option valuation model and compensation expense is recognized over the applicable vesting period;

· PSUs subject to company specific performance metrics, which include both performance and service conditions, are based on the market value of our stock on the date of grant. Compensation expense is based upon the number of shares expected to vest after assessing the probability that the performance criteria will be met. Compensation expense is recognized over the vesting period, adjusted for any changes in our probability assessment;

· PSUs subject to our total shareholder return, or TSR, market metric relative to a peer group of companies, which includes both market and service conditions, are estimated using a Monte Carlo simulation. Compensation expense is recognized over the applicable vesting period. All compensation cost for the award will be recognized if the requisite service period is fulfilled, even if the market condition is never satisfied; and,

· time vesting RSUs are based on the market value of our stock on the date of grant. Compensation expense for time vesting RSUs is recognized over the vesting period.

The vesting period for our stock awards is the requisite service period associated with each grant.

Our share-based compensation expense is comprised of the following:

	Three Months Ended				Nine Months Ended
	September 30,				September 30,
(in thousands)	2013		2012		2013		2012
Stock options	$	5,282	$	4,376	$	14,296	$	12,351
Performance shares	1,083		1,049		3,815		2,887
Restricted shares	215		265		658		709
Employee Stock Purchase Plan	49		61		143		164
Total	$	6,629	$	5,751	$	18,912	$	16,111

Our share-based compensation expense is recorded as follows:

	Three Months Ended				Nine Months Ended
	September 30,				September 30,
(in thousands)	2013		2012		2013		2012
Research and development	$	1,609	$	1,216	$	4,088	$	3,450
Selling, general and administrative	5,020		4,535		14,824		12,661
Total	$	6,629	$	5,751	$	18,912	$	16,111

We currently have three share-based award plans in place: a 1995 Stock Option and Restricted Share Plan (1995 Plan), a 2001 Equity Incentive Plan (2001 Plan) and a 2005 Stock Option and Restricted Share Plan (2005 Plan) (collectively, the “Plans”). In September 2005, the 1995 Plan expired and no additional grants will be issued from this plan. The Plans were adopted by our board of directors to provide eligible individuals with an opportunity to acquire or increase an equity interest in the Company and to encourage such individuals to continue in the employment of the Company.

In May 2008, the 2005 Plan was amended and an additional 5,000,000 shares of common stock was reserved for issuance upon the exercise of stock options or the grant of restricted shares or restricted share units. This amendment was approved by stockholders at our Annual Meeting of Stockholders in May of 2010. In April 2012, the 2005 Plan was amended and an additional 2,500,000 shares of common stock was reserved for issuance upon the exercise of stock options or the grant of restricted shares or restricted share units. This amendment was approved by stockholders at our Annual Meeting of Stockholders in May 2012.

As of September 30, 2013, there were 2,421,229 shares available for grant under the Plans.

The following table lists information about these equity plans at September 30, 2013:

	1995 Plan	2001 Plan	2005 Plan	Combined
Shares authorized for issuance	4,500,000	500,000	15,350,000	20,350,000
Shares outstanding	4,500,000	500,000	12,928,771	17,928,771
Shares available for grant	—	—	2,421,229	2,421,229

Employee Stock Option Plans

We granted 2,130,825 stock options during the nine months ended September 30, 2013. The weighted average fair value of the grants was estimated at $ 14.20 per share using the Black-Scholes option-pricing model using the following assumptions:

Expected dividend yield		—
Range of risk free interest rate		1.10% - 2.27%
Weighted-average volatility		57.91%
Range of volatility		57.72% - 58.47%
Range of expected option life (in years)		5.50 - 6.25

We have 10,105,417 option grants outstanding at September 30, 2013 with exercise prices ranging from $1.84 per share to $40.45 per share and a weighted average remaining contractual life of 6.77 years. The following table lists the outstanding and exercisable option grants as of September 30, 2013:

	Number of options	Weighted average exercise price		Weighted average remaining contractual term (years)	Aggregate intrinsic value (in thousands)
Outstanding	10,105,417	$	17.62	6.77	$	218,737
Exercisable	5,455,070	$	13.31	5.20	$	141,562

The following table summarizes information regarding our stock option awards at September 30, 2013:

	Shares Under Option		Weighted Average Exercise Price

Balance at December 31, 2012	8,814,831		$	15.26
Granted	2,130,825		$	25.88
Exercised	(686,424	)	$	12.20
Forfeited	(146,461	)	$	21.05
Cancelled	(7,354	)	$	23.09
Balance at September 30, 2013	10,105,417		$	17.62

As of September 30, 2013, there was $47.8 million of total unrecognized compensation cost related to unvested share-based payments (including share options) granted under the Plans. That cost is expected to be recognized over a weighted-average period of 2.78 years.

Performance Awards

Employees receive annual grants of performance award units, or PSUs, in addition to stock options which give the recipient the right to receive common stock that is contingent upon achievement of specified pre-established company performance goals over a three year performance period. The performance goals for the PSUs granted, which are accounted for as equity awards, are based upon the following performance measures: (i) our revenue growth over the performance period, (ii) our adjusted net income as a percent of sales at the end of the performance period, and (iii) our relative total shareholder return, or TSR, compared to a peer group of companies at the end of the performance period.

In 2013, approximately 253,000 PSUs subject to company specific performance metrics were granted with weighted average grant date fair value of $23.37 per share and approximately 28,000 PSUs subject to the TSR metric were granted with weighted average grant date fair value of $32.63 per share. The number of PSUs reflected as granted represents the target number of shares that are eligible to vest subject to the attainment of the performance goals. Depending on the outcome of these performance goals, a recipient may ultimately earn a number of shares greater or less than their target number of shares granted, ranging from 0% to 200% of the PSUs granted. Shares of our common stock are issued on a one-for-one basis for each PSU earned. Participants vest in their PSUs at the end of the performance period.

The fair value of the PSUs subject to company specific performance metrics is equal to the closing price of our common stock on the grant date.

The fair value of the market condition PSUs was determined using a Monte Carlo simulation and utilized the following inputs and assumptions:

	Nine Months Ended
	September 30,
(in thousands)	2013			2012
Closing stock price on grant date	$	23.37		$	28.16
Performance period starting price	$	23.83		$	24.94
Term of award (in years)	2.99			2.99
Volatility	43.13		%	65.06		%
Risk-free interest rate	0.43		%	0.45		%
Expected dividend yield	0.00		%	0.00		%
Fair value per TSR PSU	$	32.63		$	45.37

The performance period starting price is measured as the average closing price over the last 30 trading days prior to the performance period start. The Monte Carlo simulation model also assumed correlations of returns of the prices of our common stock and the common stocks of the comparator group of companies and stock price volatilities of the comparator group of companies.

At September 30, 2013, there was approximately $7.0 million of unrecognized compensation cost related to all PSUs that is expected to be recognized over a weighted-average period of approximately 1.76 years.

The following table summarizes information regarding our PSUs as of September 30, 2013:

	Share Units (in thousands)		Weighted-average grant date fair value
Balance at December 31, 2012	350,739		$	24.86
Granted	281,030		$	24.30
Exercised	—		$	—
Forfeited	(17,019	)	$	24.70
Vested	—		$	—
Balance at September 30, 2013	614,750		$	24.61

Restricted Stock Awards

We also grant our non-employee directors restricted stock awards that generally vest after one year of service. In 2013, 31,500 RSUs were granted with weighted average grant date fair values of $25.25 per share. The fair value of a restricted stock award is equal to the closing price of our common stock on the grant date.

The following summarizes information regarding our restricted stock awards as of September 30, 2013:

	Share Units (in thousands)		Weighted- average grant date fair value
Balance at December 31, 2012	37,750		$	31.12
Granted	31,500		$	25.25
Vested	(33,583	)	$	31.51
Balance at September 30, 2013	35,667		$	25.57

As of September 30, 2013, there was approximately $0.4 million of unrecognized compensation cost related to RSUs which is expected to be recognized over a weighted average period of 0.56 years.

Employee Stock Purchase Plan

During the first nine months of 2013, 13,010 shares were sold to employees. During the year ended December 31, 2012, 29,927 shares were sold to employees. As of September 30, 2013 there are approximately 357,141 shares available for issuance under this plan.

Previously under this plan, there were two plan periods: January 1 through June 30 (Plan Period One) and July 1 through December 31 (Plan Period Two).

In November 2012, the plan was amended to revise Plan Period One to May 1 through October 31 and to revise Plan period Two to November 1 through April 30 along with minor administrative changes. The plan amendments are effective January 1, 2013 and provide an Initial Offering Period from January 1, 2013 through April 30, 2013.

For the Initial Offering Period in 2013, the fair value of approximately $60,700 was estimated using the Type B model with a risk free interest rate of 0.04%, volatility of 29.6% and an expected option life of 0.33 years. This fair value was amortized over the four month period ending April 30, 2013.

For Plan Period One in 2013, the fair value of approximately $97,500 was estimated using the Type B model with a risk free interest rate of 0.08%, volatility of 28.00% and an expected option life of 0.50 years. This fair value is being amortized over the six month period ending October 31, 2013.