NOTE 12

SHAREHOLDERS’ EQUITY

Stock-Based Compensation

The company’s stock-based compensation generally includes stock options, restricted stock units (RSUs), performance share units (PSUs) and purchases under the company’s employee stock purchase plan. Shares issued relating to the company’s stock-based plans are generally issued out of treasury stock.

The Baxter International Inc. 2015 Incentive Plan provided for 35 million additional shares of common stock available for issuance with respect to awards for participants. As of December 31, 2015, approximately 54 million authorized shares are available for future awards under the company’s stock-based compensation plans.

Stock Compensation Expense

Stock compensation expense, presented on a continuing operations basis, recognized in the consolidated statements of income was $126 million, $126 million and $122 million in 2015, 2014 and 2013, respectively. The related tax benefit recognized was $38 million in 2015, $41 million in 2014 and $36 million in 2013.

Stock compensation expense is recorded at the corporate level and is not allocated to the segments. Approximately 70% of stock compensation expense is classified in marketing and administrative expenses, with the remainder classified in cost of sales and R&D expenses. Costs capitalized in the consolidated balance sheets at December 31, 2015 and 2014 were not material.

Stock compensation expense is based on awards expected to vest, and therefore has been reduced by estimated forfeitures.

In connection with the separation of Baxalta, the company adjusted its outstanding equity awards on July 1, 2015, in accordance with the terms of the employee matters agreement (equitable adjustment). For purposes of the vesting of these equity awards, continued employment or service with Baxter or with Baxalta is treated as continued employment for purposes of both Baxter’s and Baxalta’s equity awards. The adjustments are summarized as follows:

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Stock options, RSUs, and PSUs granted prior to January 1, 2015 were generally converted into the same number of Baxter stock options (with an adjusted exercise price), RSUs, and PSUs as well as an equal number of Baxalta stock options, RSUs, and PSUs. The underlying performance conditions for the PSUs are consistent with Baxter’s original performance targets and future measurement periods and future performance targets will be established to reflect each company’s standalone business. The vesting terms of each amended grant remained unchanged.

•

Stock options and RSUs granted after January 1, 2015 were generally converted into: (i) for continuing Baxter employees, Baxter stock options (with an adjusted exercise price) and RSUs and (ii) for continuing Baxalta employees, Baxalta stock options and RSUs.

No incremental fair value was awarded as a result of the above adjustments.

Stock Options

Stock options are granted to employees and non-employee directors with exercise prices equal to 100% of the market value on the date of grant. Stock options granted to employees generally vest in one-third increments over a three-year period. Stock options granted to non-employee directors generally cliff-vest one year from the grant date. Stock options typically have a contractual term of 10 years. The grant-date fair value, adjusted for estimated forfeitures, is recognized as expense on a straight-line basis over the substantive vesting period.

The fair value of stock options is determined using the Black-Scholes model. The weighted-average assumptions used in estimating the fair value of stock options granted during each year, along with the weighted-average grant-date fair values, were as follows:


years ended December 31	2015		2014		2013

Expected volatility		20%		24%		25%
Expected life (in years)		5.5		5.5		5.5
Risk-free interest rate		1.7%		1.7%		0.9%
Dividend yield		2.86%		2.8%		2.6%
Fair value per stock option		$9		$12		$12

The above table does not include the impacts of the equitable adjustment resulting from the separation of Baxalta discussed below.

The following table summarizes stock option activity for the year ended December 31, 2015 and the outstanding stock options as of December 31, 2015.


(options and aggregate intrinsic values in thousands)	Options			Weighted- average exercise price		Weighted-average remaining contractual term (in years)		Aggregate intrinsic value

Outstanding as of January 1, 2015¹		29,273		$	60.41
Granted¹		10,227		$	66.79
Exercised¹		(3,424	)	$	40.43
Forfeited¹		(1,253	)	$	49.75
Expired¹		(189	)	$	44.67
Equitable adjustment		1,165		$	37.47

Outstanding as of December 31, 2015		35,799		$	34.16		6.4	$	142,970

Vested or expected to vest as of December 31, 2015		33,545		$	34.12		6.4	$	135,652

Exercisable as of December 31, 2015		19,415		$	31.47		4.5	$	129,748

¹	The share price for activity prior to the separation on July 1, 2015 was not adjusted for the separation. See the discussion regarding the equitable adjustment below for additional details.

The equitable adjustment represents the net increase in options outstanding as of December 31, 2015, resulting from the separation of Baxter and Baxalta. Continuing Baxter employees who received option awards after January 1, 2015 were given a concentrated grant of Baxter options with an adjusted exercise price. Continuing Baxalta employees who had been granted Baxter option awards had their awards cancelled and reissued in a concentrated grant of Baxalta options with an adjusted exercise price. The net increase represents the difference between those awards granted and cancelled.

The aggregate intrinsic value in the table above represents the difference between the exercise price and the company’s closing stock price on the last trading day of the year. The total intrinsic value of options exercised in 2015, 2014 and 2013 were $43 million, $114 million, and $176 million, respectively.

As of December 31, 2015, $47 million of unrecognized compensation cost related to stock options is expected to be recognized as expense over a weighted-average period of approximately 1.4 years.

RSUs

RSUs are granted to employees and non-employee directors. RSUs granted to employees generally vest in one-third increments over a three-year period. RSUs granted to non-employee directors generally cliff-vest one year from the grant date. The grant-date fair value, adjusted for estimated forfeitures, is recognized as expense on a straight-line basis over the substantive vesting period. The fair value of RSUs is determined based on the number of shares granted and the close price of the company’s common stock on the date of grant.

The following table summarizes nonvested RSU activity for the year ended December 31, 2015.


(share units in thousands)	Share units			Weighted- average grant-date fair value

Nonvested RSUs as of January 1, 2015¹		2,648		$67.89
Granted¹		1,590		$66.65
Equitable Adjustment — awards granted		744		$37.32
Vested¹		(1,042	)	$61.54
Forfeited¹		(214	)	$48.19
Equitable Adjustment — awards cancelled		(648	)	$69.56

Nonvested RSUs as of December 31, 2015		3,078		$37.62

¹	The share price for activity prior to the separation on July 1, 2015 was not adjusted for the separation. See the discussion regarding the equitable adjustment below for additional details.

Any RSU awards granted in 2015, prior to the separation, were equitably adjusted in the same manner as option awards. Recipients of the awards were given either a concentration of Baxter or Baxalta RSUs depending on their continuing employer. The activity shown above reflects the awards cancelled and granted as a result of the equitable adjustment.

As of December 31, 2015 $59.4 million of unrecognized compensation cost related to RSUs is expected to be recognized as expense over a weighted-average period of approximately 1.5 years. The weighted-average grant-date fair value of RSUs in 2015, 2014 and 2013 was $66.65, $71.22 and $70.09, respectively. The fair value of RSUs vested in 2015, 2014 and 2013 was $73 million, $62 million and $47 million, respectively.

PSUs

The company’s annual equity awards stock compensation program for senior management includes the issuance of PSUs based on return on invested capital (ROIC) as well as market conditions. The vesting condition for ROIC PSUs is set at the beginning of the year for each tranche of the award during the three-year service period. Compensation cost for the ROIC PSUs is measured based on the fair value of the awards on the date that the specific vesting terms for each tranche of the award are established. The fair value of the awards is determined based on the quoted price of the company’s stock on the grant date for each tranche of the award. The compensation cost for ROIC PSUs is adjusted at each reporting date to reflect the estimated probability of achieving the vesting condition.

The fair value for PSUs based on market conditions is determined using a Monte Carlo model. The assumptions used in estimating the fair value of these PSUs granted during the period, along with the grant-date fair values, were as follows:


years ended December 31	2015		2014		2013

Baxter volatility		19%		20%		21%
Peer group volatility		16%-38%		13%-58%		13%-38%
Correlation of returns		0.24-0.55		0.23-0.66		0.37-0.62
Risk-free interest rate		1.1%		0.7%		0.3%
Fair value per PSU		$46		$57		$67

The above table does not include the impacts of the equitable adjustment resulting from the separation of Baxalta discussed above.

Unrecognized compensation cost related to all unvested PSUs of $5.3 million at December 31, 2015 is expected to be recognized as expense over a weighted-average period of 1.9 years.

The following table summarizes nonvested PSU activity for the year ended December 31, 2015.


(share units in thousands)	Share units			Weighted-average grant-date fair value

Nonvested PSUs as of January 1, 2015		489		$64.80
Granted		171		$60.74
Vested		(299	)	$36.84
Forfeited		(61	)	$56.88

Nonvested PSUs as of December 31, 2015		300		$36.11

Realized Excess Income Tax Benefits and the Impact on the Statements of Cash Flows

Realized excess tax benefits associated with stock compensation are presented in the consolidated statements of cash flows as an outflow within the operating section and an inflow within the financing section. Realized excess tax benefits from stock-based compensation related to continuing operations were $7 million, $15 million and $21 million in 2015, 2014 and 2013, respectively.

Employee Stock Purchase Plan

Nearly all employees are eligible to participate in the company’s employee stock purchase plan. The employee purchase price is 85% of the closing market price on the purchase date.

The Baxter International Inc. Employee Stock Purchase Plan provides for 10 million shares of common stock available for issuance to eligible participants, of which approximately six million shares were available for future purchases as of December 31, 2015.

During 2015, 2014, and 2013, the company issued approximately 1.1 million, 0.8 million and 0.8 million shares, respectively, under the employee stock purchase plan. The number of shares under subscription at December 31, 2015 totaled approximately 1.3 million.

Cash Dividends

Total cash dividends declared per common share for 2015, 2014, and 2013 were $1.27, $2.05 and $1.92, respectively.

Pre-separation quarterly dividends of $0.52 per share were declared in February and May of 2015 and were paid in April and July of 2015, respectively. In July 2015, subsequent to the separation of Baxalta, Baxter’s board of directors declared a quarterly dividend of $0.115 per share ($0.46 on an annualized basis) which was paid in October 2015. In November 2015, the board of directors declared a quarterly dividend of $0.115 per share, which was paid on January 4, 2016 to stockholders of record as of December 4, 2015.

Stock Repurchase Programs

As authorized by the board of directors, the company repurchases its stock depending on the company’s cash flows, net debt level and market conditions. The company did not repurchase shares in 2015. The company repurchased 8 million shares for $600 million in 2014 and 13 million shares for $900 million in 2013. In July 2012, the board of directors authorized the repurchase of up to $2 billion of the company’s common stock and $0.5 billion remained available as of December 31, 2015.