Stock Option Plans

2005 Stock Plan

The Company adopted the Penumbra, Inc. 2005 Stock Plan (the 2005 Plan) in January 2005. The 2005 Plan was subsequently amended and restated in 2006, 2007, 2008 and 2010. As of December 31, 2016 and 2015, the Company had granted options to purchase 5,431,017 and 5,431,017 shares of common stock, respectively, under the 2005 Plan, of which options to purchase 1,002,307 and 1,757,282 shares of common stock were outstanding, and options to purchase 4,263 and 12,339 shares of common stock had been early exercised and were unvested and subject to repurchase, as of December 31, 2016 and 2015, respectively. Under the 2005 Plan, the board of directors could grant incentive stock options (ISOs), nonqualified stock options (NSOs), and/or stock awards to eligible persons, including employees, nonemployees, directors, consultants and other independent advisors who provide services to the Company. Stock purchase rights could also be granted under the 2005 Plan. The board of directors had the authority to determine to whom options would be granted, the number of options, the term and the exercise price. ISOs could only be granted to Company employees, which include officers and directors of the Company. NSOs and stock purchase rights could be granted to employees and consultants. For individuals holding more than 10% of the voting rights of all classes of stock, the exercise price for an ISO could not be less than 110% of fair market value. Options granted under the 2005 Plan permitted an optionee to exercise options immediately upon grant irrespective of the vesting term. Options generally vest annually at a rate of 1/4 after the first year and 1/48 per month thereafter. The term of the options is no longer than five years for ISOs, for which the grantee owns greater than 10% of the voting power of all classes of stock and no longer than 10 years for all other options.

2011 Equity Incentive Plan

The Company adopted the Penumbra, Inc. 2011 Equity Incentive Plan (the 2011 Plan) in October 2011. As of December 31, 2016 and 2015, the Company had granted options to purchase 145,000 and 145,000 shares of common stock, respectively, under the 2011 Plan, of which options to purchase 145,000 and 145,000 shares of common stock were outstanding at December 31, 2016 and 2015, respectively. As of December 31, 2016 and 2015, the Company had granted 505,000 and 505,000 shares of restricted stock under the 2011 Plan, of which 150,125 and 249,125 shares were unvested and subject to forfeiture and 9,667 and 4,667 shares had been forfeited as of December 31, 2016 and 2015, respectively. Under the 2011 Plan, the board of directors could grant ISOs, NSOs, restricted stock, and/or RSUs to eligible persons, including employees, directors and consultants who provide services to the Company. Stock Appreciation Rights (SAR) could also be granted under the 2011 Plan. The board of directors had the authority to determine to whom options would be granted, the number of options, the term and the exercise price. ISOs could only be granted to Company employees, which include officers and directors of the Company. NSOs, SARs, restricted stock and RSUs could be granted to employees and consultants. For individuals holding more than 10% of the voting rights of all classes of stock, the exercise price for an ISO could not be less than 110% of fair market value. Stock options granted under the 2011 Plan generally have a contractual life of ten years, and generally vest over a period of four years.

Amended and Restated 2014 Equity Incentive Plan

The Company adopted the Penumbra, Inc. 2014 Equity Incentive Plan in May 2014. The plan was amended and restated as of September 17, 2015 (as amended and restated, the 2014 Plan). The 2014 Plan replaced the 2011 Plan and the 2005 Plan and no further equity awards may be granted under the 2011 Plan or the 2005 Plan. Under the 2014 Plan, 5,733,259 shares of common stock were reserved for issuance and as of December 31, 2016, 3,683,576 shares of common stock were available for grant. As of December 31, 2016 and 2015, the Company had granted options to purchase 1,857,900 and 1,857,900 shares of common stock under the 2014 Plan, 1,729,648 and 1,853,063 of which were outstanding and 21,886 and 4,421 of which had been forfeited as of December 31, 2016 and 2015, respectively. The Company had granted 673,361 and 673,361 shares of restricted stock under the 2014 Plan, as of December 31, 2016 and 2015, respectively, of which 494,896 and 508,646 shares were unvested and subject to forfeiture as of such dates. The Company had granted 427,896 and 91,800 shares of RSU under the 2014 Plan, as of December 31, 2016 and 2015, respectively, of which 357,923 and 91,800 shares were unvested and subject to forfeiture as of such dates.

Employee Stock Purchase Plan

The Penumbra, Inc. Employee Stock Purchase Plan (the ESPP), became effective on September 17, 2015. The ESPP initially reserved 600,000 shares of common stock for purchase under the ESPP, with the number of shares reserved for purchase automatically increasing each year pursuant to an “evergreen” provision set forth in the ESPP. As of December 31, 2016, 684,953 shares of common stock were reserved for issuance. All qualifying employees of the Company and its designated subsidiaries are eligible to participate in the ESPP. Each offering to the Company’s employees to purchase stock under the ESPP will begin on each May 20 and November 20 and will end on the following November 19 and May 19, respectively, each referred to as offering periods, except that the first offering period under the ESPP began on September 17, 2015 and ended on May 19, 2016. Under the ESPP, each employee may purchase shares by authorizing payroll deductions at a minimum of 1% and up to 15% of his or her eligible compensation for each pay period during the offering period. Unless the participating employee withdraws from the offering, his or her accumulated payroll deductions will be used to purchase the Company’s common stock on the last business day of the offering period at a price equal to 85% of the fair market value of the common stock on either the first or the last day of the offering period, whichever is lower, provided that no more than 2,000 shares of the Company’s common stock or such other lesser maximum number established by the ESPP administrator may be purchased by any one employee during each offering period. Under applicable tax rules, an employee may purchase no more than $25,000 worth of common stock, valued at the start of the purchase period (corresponding to an offering period), under the ESPP in any calendar year. As of December 31, 2016, 214,025 shares of common stock have been issued under the plan.

Early Exercises

Stock options granted under the 2005 Plan, 2011 Plan and 2014 Plan allow the board of directors to grant awards to provide employee option holders the right to elect to exercise unvested options in exchange for restricted common stock. Unvested shares, which amounted to 4,263 and 12,339 as of December 31, 2016 and 2015, respectively, were subject to a repurchase right held by the Company at the original issue price in the event the optionees’ employment was terminated either voluntarily or involuntarily. For exercises of employee options, this right lapses according to the vesting schedule designated on the associated option grant. The repurchase terms are considered to be a forfeiture provision. The shares purchased by the employees pursuant to the early exercise of stock options are not deemed to be issued or outstanding for accounting purposes until those shares vest, though they are legally issued and outstanding. In addition, cash received from employees for exercise of unvested options is treated as a refundable deposit shown as a liability on the consolidated balance sheets. As of December 31, 2016 and 2015, cash received related to unvested shares totaled $0.03 million and $0.1 million, respectively. Amounts recorded are transferred into common stock and additional paid-in-capital as the shares vest.

Stock Options

Activity of stock options under the 2005 Plan, 2011 Plan and 2014 Plan is set forth below:



	Number of Shares		Weighted Average Exercise Price		Weighted Average Remaining Contractual Life (in Years)	Aggregate Intrinsic Value (in thousands)
Balance, December 31, 2015	3,755,345		$	12.13
Exercised	(860,424	)	3.62
Canceled/Forfeited	(17,966	)	17.68
Balance, December 31, 2016	2,876,955		$	14.63
Vested and expected to vest—December 31, 2016	2,858,851		$	14.58	6.71	$	140,713
Exercisable—December 31, 2016	1,694,078		$	9.89	5.49	$	91,330

The total intrinsic value of stock options exercised during the year ended December 31, 2016, 2015 and 2014 was $53.1 million, $13.1 million and $3.8 million, respectively. The intrinsic value is calculated as the difference between the estimated fair value of the Company’s common stock at the exercise date and the exercise price of the stock option.

The weighted average grant date fair value of the employee stock options was $9.69 and $3.69 per share during the years ended 2015 and 2014, respectively.

Restricted Stock and Restricted Stock Units

The activity of unvested restricted stock and restricted stock units under the Plans during the year ended December 31, 2016 is set forth below:



	Number of Shares		Weighted Average Grant Date Fair Value
Unvested at December 31, 2015	849,571		$	15.12
Granted	336,096		62.25
Vested	(174,723	)	23.30
Canceled/Forfeited	(8,000	)	21.38
Unvested at December 31, 2016	1,002,944		$	29.44

The fair value of the restricted stock and restricted stock units that vested during the year ended December 31, 2016, 2015 and 2014 was $9.9 million, $4.0 million and $0.4 million, respectively.

Employee Stock Purchase Plan

Under the Penumbra, Inc. ESPP, employees purchased 214,025 shares for $6.6 million during the year ended December 31, 2016.

Stock-based Compensation

The Company uses the Black-Scholes option pricing model to determine the fair value of stock options and ESPP. The valuation model for stock compensation expense requires the Company to make assumptions and judgments about the variables used in the calculation including the expected term (weighted average period of time that the options granted are expected to be outstanding); volatility of the Company’s common stock and an assumed-risk-free interest rate.

The Company used the following assumptions in its Black-Scholes option pricing model to determine the fair value of equity settled awards:



	Equity Settled Awards
	Year Ended December 31,
	2016	2015	2014
Expected term (in years)	.50	6.08—6.25	6.25
Expected volatility	40%	45%	45%
Risk-free interest rate	0.48%	1.56%—1.78%	1.76%—2.02%
Expected dividend rate	0%	0%	0%

The Company did not grant any options during the year ended December 31, 2016.

Fair Value of Common Stock. Prior to the IPO, the fair value of the shares of common stock underlying the Company's stock options was determined by the Company’s board of directors. Because there was no public market for the Company’s common stock and in the absence of recent arm’s-length cash sales transactions of the Company’s common stock with independent third parties, the Company’s board of directors determined the fair value of the Company’s common stock by considering at the time of grant a number of objective and subjective factors. The intent of the Company’s board of directors was for all options granted to be exercisable at a price per share not less than the per share fair value of the Company’s common stock underlying those options on the date of grant. The estimated fair value of the Company’s common stock was determined at each valuation date in accordance with the guidelines outlined in the American Institute of Certified Public Accountants Practice Aid, Valuation of Privately-Held-Company Equity Securities Issued as Compensation.

Weighted Average Expected Term. The Company derived the expected term using the “simplified” method (the expected term is determined as the average of the time-to-vesting and the contractual life of the options), as the Company had limited historical information to develop expectations about future exercise patterns and post vesting employment termination behavior.

Volatility. Since there was no public market through mid-September 2015 for the Company’s common stock and lack of company-specific historical volatility, the Company has determined the share price volatility for options granted based on an analysis of the volatility used by a peer group of publicly traded medical device companies. In evaluating similarity, the Company considered factors such as industry, stage of life cycle and size.

Risk-Free Interest Rate. The risk-free interest rate is based upon U.S. Treasury zero-coupon issues with remaining terms similar to the expected term of the options.

Dividend Yield. The Company has never paid any dividends and does not plan to pay dividends in the foreseeable future, and therefore, used an expected dividend yield of zero in the valuation model.

Forfeitures. The Company is required to estimate forfeitures at the time of grant, and revise those estimates in subsequent periods if actual forfeitures differ from those estimates. The Company uses historical data to estimate pre-vesting option forfeitures and record stock based compensation expense only for those awards that are expected to vest. To the extent actual forfeitures differ from the estimates, the difference will be recorded as a cumulative adjustment in the period that the estimates are revised.

The following table sets forth the stock-based compensation expense included in the consolidated statements of operations (in thousands):



	Year Ended December 31,
	2016		2015		2014
Cost of sales	$	1,132	$	316	$	267
Research and development	1,020		444		96
Sales, general and administrative	12,485		6,511		1,070
	$	14,637	$	7,271	$	1,433

As of December 31, 2016, total unrecognized compensation cost was $34.7 million related to unvested share-based compensation arrangements which is expected to be recognized over a weighted average period of 2.8 years.

The total stock-based compensation cost capitalized in inventory was $0.4 million and $0.3 million as of December 31, 2016 and 2015, respectively. The total stock-based compensation cost capitalized in inventory was insignificant as of December 31, 2014.