Share-Based Compensation

Stockholder Approved Equity Compensation Plans

As of March 31, 2014, we maintained one share-based incentive compensation plan, the Kilroy Realty 2006 Incentive Award Plan as amended (the “2006 Plan”). As of March 31, 2014, no shares were available for grant under the 2006 Plan. Under applicable NYSE listing rules, we may not increase the 2006 Plan share limit without stockholder approval. At our Annual Meeting of Stockholders, on May 22, 2014, stockholders will be asked to approve an amendment and restatement of the 2006 Plan which includes an increase in the share limit to 7,120,000 shares.

2014 Share-Based Compensation Grants

On January 29, 2014, the Executive Compensation Committee of the Company’s Board of Directors granted to certain officers of the Company under the 2006 Plan 236,604 restricted stock units (“RSUs”), 119,098 RSUs that are subject to market and performance-based vesting requirements (the “2014 Performance-Based RSU Grant”) and 117,506 RSUs that are subject to time-based vesting requirements (the “2014 Time-Based RSU Grant”).

2014 Performance-Based RSU Grant

The 2014 Performance-Based RSUs are scheduled to vest at the end of a three year period based upon the achievement of pre-established levels of FFO per share (the “performance condition”) for the year ended December 31, 2014 and also based upon the average annual relative stockholder return targets (the “market condition”) for the three year period ending December 31, 2016. The 2014 Performance-Based RSUs are also subject to a three-year service vesting provision and will cliff vest at the end of the three-year period. The number of 2014 Performance-Based RSUs ultimately earned could fluctuate based upon the levels of achievement for both the FFO and relative stockholder return metrics. Compensation expense for the 2014 Performance-Based RSU Grant will be recorded on a straight-line basis over the three year period.

Each 2014 Performance-Based RSU represents the right to receive one share of our common stock in the future. However, in the event that our stockholders do not approve an increase to the share limit under our 2006 Plan, as discussed above, then the 2014 Performance-Based RSUs may be cash settled based on the fair market value of our common stock on the applicable vesting date. As a result, until a sufficient amount of shares are authorized by our stockholders for issuance under the 2006 Plan to cover the payment of these awards, we are required to re-measure the fair value of the 2014 Performance-Based RSU Grant at each reporting date and record compensation expense based on the fair value at each reporting date for the cumulative portion of the performance period that has elapsed. The total fair value of the 2014 Performance-Based RSU Grant was $7.1 million at March 31, 2014 and was calculated using a Monte Carlo simulation pricing model based on the assumptions in the table below. The determination of the fair value of the 2014 Performance-Based RSU Grant takes into consideration the likelihood of achievement of both the performance condition and the market condition discussed above. For the three months ended March 31, 2014, we recorded compensation expense based upon the $63.44 fair value at March 31, 2014 because we did not have shares authorized for issuance by our stockholders under the 2006 Plan. The following table summarizes the assumptions utilized in the Monte Carlo simulation pricing model:



	Fair Value Assumptions as of March 31, 2014
Fair value per share at March 31, 2014	$63.44
Expected share price volatility	32.00%
Risk-free interest rate	0.79%
Remaining expected life	2.75 years

The computation of expected volatility is based on a blend of the historical volatility of our shares of common stock over approximately six years as that is expected to be most consistent with future volatility and equates to a time period twice as long as the approximate three year performance period of the RSUs and implied volatility data based on the observed pricing of six month publicly-traded options on our shares of common stock. The risk-free interest rate is based on the yield curve on zero-coupon U.S. Treasury STRIP securities in effect at March 31, 2014. The expected dividend yield is estimated by examining the average of the historical dividend yield levels over the remaining 2.75 year term of the RSUs and our current annualized dividend yield as of March 31, 2014. The expected life of the RSUs is equal to the remaining 2.75 year vesting period at March 31, 2014.

2014 Time-Based RSU Grant

The 2014 Time-Based RSUs are scheduled to vest in four equal installments beginning on January 5, 2015 through January 5, 2018. Compensation expense for the 2014 Time-Based RSUs will be recognized on a straight-line basis over the four year service vesting period. Each 2014 Time-Based RSUs represents the right to receive one share of our common stock in the future. However, in the event that our stockholders do not approve an increase to the share limit under our 2006 Plan, as discussed above, then the 2014 Time-Based RSUs may be cash settled, based on the fair market value of our common stock on the applicable payment date. As a result, unless and until a sufficient amount of shares are authorized by our stockholders for issuance under the 2006 Plan to cover the payment of these awards, we are required to re-measure the fair value of the 2014 Time-Based RSUs at each reporting date and record compensation expense based on the fair value at each reporting date for the cumulative portion of the performance period that has elapsed. The total grant date fair value was $6.1 million, which was based on the $51.64 closing share price of the Company’s common stock on the NYSE on the grant date. At March 31, 2014, we recorded compensation expense based upon the $58.58 closing share price of the Company’s common stock on that date because we did not have shares authorized for issuance by our stockholders under the 2006 Plan.

Share-Based Compensation Cost Recorded During the Period

The total compensation cost for all share-based compensation programs was $2.9 million and $2.4 million for the three months ended March 31, 2014 and 2013, respectively. Of the total share-based compensation costs, $0.4 million and $0.2 million was capitalized as part of real estate assets for the three months ended March 31, 2014 and 2013, respectively. As of March 31, 2014, there was approximately $36.9 million of total unrecognized compensation cost related to nonvested incentive awards granted under share-based compensation arrangements that is expected to be recognized over a weighted-average period of 2.6 years. $13.6 million of the total unrecognized compensation cost as of March 31, 2014 relates to the 2014 Performance-Based and Time-Based RSU grants which require fair value re-measurement at each reporting period as discussed above. The remaining compensation cost related to these nonvested incentive awards had been recognized in periods prior to March 31, 2014.