Note 9 - Stock-Based Compensation

At the 2016 annual meeting, stockholders approved the Shore Bancshares, Inc. 2016 Stock and Incentive Plan (“2016 Equity Plan”), replacing the Shore Bancshares, Inc. 2006 Stock and Incentive Plan (“2006 Equity Plan”), which expired on that date. The Company may issue shares of common stock or grant other equity-based awards pursuant to the 2016 Equity Plan. Stock-based awards granted to date generally are time-based, vest in equal installments on each anniversary of the grant date and range over a one- to five-year period of time, and, in the case of stock options, expire 10 years from the grant date. As part of the 2016 Equity Plan, a performance equity incentive award program, known as the “Long-term incentive plan” allows participating officers of the Company to earn incentive awards of performance share/restricted stock units if certain pre-determined targets are achieved at the end of a three-year performance cycle. Stock-based compensation expense based on the grant date fair value is recognized ratably over the requisite service period for all awards and reflects forfeitures as they occur. The 2016 Equity Plan originally reserved 750,000 shares of common stock for grant, and 709,873 shares remained available for grant at September 30, 2017.

The following tables provide information on stock-based compensation expense for the three and nine months ended September 30, 2017 and 2016.


	For Three Months Ended				For Nine Months Ended
	September 30,				September 30,
(Dollars in thousands)	2017		2016		2017		2016
Stock-based compensation expense	$	158	$	85	$	748	$	262
Excess tax benefits related to stock-based
compensation		15		12		26		25


	September 30,
(Dollars in thousands)	2017			2016
Unrecognized stock-based compensation
expense	$	1,147		$	132
Weighted average period unrecognized
expense is expected to be recognized		1.3	years		0.6	years

The following table summarizes restricted stock award activity for the Company under the 2016 Equity Plan for the nine months ended September 30, 2017 and 2016.


	Nine Months Ended September 30, 2017
		Weighted Average
	Number of	Grant Date
	Shares	Fair Value
Nonvested at beginning of period	17,066	$	11.46
Granted	21,470		16.69
Vested	(22,623)		13.66
Cancelled	-		-
Nonvested at end of period	15,913	$	12.49

The fair value of restricted stock awards that vested during the first nine months of 2017 and 2016 was $309 thousand and $204 thousand, respectively.

Restricted stock units (RSUs) are similar to restricted stock, except the recipient does not receive the stock immediately, but instead receives it upon the terms and conditions of the Company’s long-term incentive plans which are subject to performance milestones achieved at the end of a three-year period. Each RSU cliff vests at the end of the three-year period and entitles the recipient to receive one share of common stock on a specified issuance date. The recipient does not have any stockholder rights, including voting rights, with respect to the shares underlying awarded RSUs until the recipient becomes the holder of those shares.

During 2017, the Company entered into a long-term incentive program agreement with officers of the Company and its subsidiaries to award RSUs based on a performance metric to be achieved as of December 31, 2019. These awards will cliff vest on this date, in which the final number of common shares to be issued will be determined. The range of RSUs which could potentially be awarded at the end of the performance cycle is between 12,703 shares and 50,830 shares, assuming a certain performance metric is met. The table below presents management’s evaluation of the probable number of common stock awards to be issued at the end of the performance cycle.

During 2016, the Company entered into a long-term incentive program agreement with officers of the Company and its subsidiaries to award RSUs based on a performance metric to be achieved as of December 31, 2018. These awards will cliff vest on this date, in which the final number of common shares to be issued will be determined. The range of RSUs which could potentially be awarded at the end of the performance cycle is between 12,214 shares and 48,871 shares, assuming a certain performance metric is met. In addition, two members of the long-term incentive plan from 2015 forfeited their RSUs due to leaving the Company before the end of the vesting period. The table below presents management’s evaluation of the probable number of common stock awards to be issued at the end of the performance cycle.

During 2015, the Company entered into a long-term incentive program agreement with officers of the Company and its subsidiaries to award RSUs based on performance metrics to be achieved as of December 31, 2017. These awards will cliff vest on this date, in which the final number of common shares to be issued will be determined. The range of RSUs which could potentially be awarded at the end of the performance cycle is between 10,953 shares and 43,821 shares, assuming certain performance metrics are met. The table below presents management’s evaluation of the probable number of common stock awards to be issued at the end of the performance cycle.

The following table summarizes restricted stock units activity based on management’s evaluation of the probable number of common stock awards to be issued at the end of the performance cycle for the Company under the 2016 and 2006 Equity Plans for the nine months ended September 30, 2017 and 2016.


	Nine Months Ended September 30, 2017
		Weighted Average
	Number of	Grant Date
	Shares	Fair Value
Outstanding at beginning of period	46,342	$	10.64
Granted	25,410		16.57
Vested	-		-
Forfeited	-		-
Outstanding at end of period	71,752	$	12.01

The following table summarizes stock option activity for the Company under the 2016 Equity Plan for the nine months ended September 30, 2017 and 2016.


	Nine Months Ended September 30, 2017
		Weighted Average
	Number of	Grant Date
	Shares	Exercise Price
Outstanding at beginning of period	62,086	$	8.29
Granted	1,202		10.99
Exercised	(859)		6.64
Expired/Cancelled	-		-
Outstanding at end of period	62,429	$	8.36

Exercisable at end of period	61,828	$	8.34

The weighted average fair value of stock options granted during the nine months ended September 30, 2017 and September 30, 2016 was $10.99 and $5.03, respectively. The Company estimates the fair value of options using the Black-Scholes valuation model with weighted average assumptions for dividend yield, expected volatility, risk-free interest rate and expected lives (in years). The expected dividend yield is calculated by dividing the total expected annual dividend payout by the average stock price. The expected volatility is based on historical volatility of the underlying securities. The risk-free interest rate is based on the Federal Reserve Bank’s constant maturities daily interest rate in effect at grant date. The expected contract life of the options represents the period of time that the Company expects the awards to be outstanding based on historical experience with similar awards. The following weighted average assumptions were used as inputs to the Black-Scholes valuation model for options granted in 2017 and 2016.


	2017		2016
Dividend yield	0.84	%	0.73	%
Expected volatility	64.80	%	38.60	%
Risk-free interest rate	2.42	%	1.75	%
Expected contract life (in years)	10 years		10 years

At the end of the third quarter of 2017, the aggregate intrinsic value of the options outstanding under the 2016 Equity Plan was $517 thousand based on the $16.65 market value per share of the Company’s common stock at September 30, 2017. Similarly, the aggregate intrinsic value of the options exercisable was $514 thousand at September 30, 2017. The intrinsic value on options exercised during the nine months ended September 30, 2017 was $8 thousand based on the $15.89 market value per share of the Company’s common stock at January 30, 2017. The intrinsic value on options exercised in 2016 was $2 thousand based on the $11.35 market value per share of the Company’s common stock at February 8, 2016. At September 30, 2017, the weighted average remaining contract life of options outstanding was 6.4 years.