Stock-Based Compensation

Description of Equity Incentive Plans

In 2006, the Company adopted the 2006 Equity Incentive Award Plan, as amended, (the “2006 Plan”) under which 141,750 shares of common stock were reserved for issuance to employees, directors and consultants of the Company. The 2006 Plan provides for the grant of incentive stock options, non-qualified stock options and rights to purchase restricted stock to eligible recipients. Recipients of stock options are eligible to purchase shares of the Company’s common stock at an exercise price equal to no less than the estimated fair market value of such stock on the date of grant. The maximum term of options granted under the 2006 Plan is ten years. Options granted pursuant to the 2006 Plan generally vest over four years. Upon adoption of the 2010 Plan discussed below, no further grants may be made from the 2006 Plan.

In 2010, the Company adopted the 2010 Equity Incentive Award Plan (the “2010 Plan”), which became effective immediately prior to the completion of the IPO. An initial 280,459 shares were reserved for issuance to employees, directors and consultants of the Company under the 2010 plan. The number of shares initially reserved were subsequently increased by the number of shares of common stock related to awards granted under the 2006 Plan that are repurchased, forfeited, expired or are canceled on or after the effective date of the 2010 Plan, as well as an annual increase pursuant to an evergreen provision. The 2010 Plan provides for the grant of incentive stock options, non-qualified stock options, stock appreciation rights, restricted stock units and rights to purchase restricted stock to eligible recipients. Recipients of stock options are eligible to purchase shares of the Company’s common stock at an exercise price equal to no less than the estimated fair market value of such stock on the date of grant. The maximum term of options granted under the 2010 Plan is ten years.

Service-based options granted pursuant to the 2010 Plan generally vest over four years. Performance-based options are subject to the employee’s continued service and become vested and exercisable based on the completion of a specified regulatory milestone.

In June 2012, the Company amended and restated the 2010 Plan (the “Restated 2010 Plan”). Pursuant to the Restated 2010 Plan, the number of shares that are reserved for issuance under the 2010 Plan was increased to 1,162,500, plus any shares related to outstanding options granted under the 2006 Plan that are repurchased, forfeited, expire or are canceled on or after the effective date of the Restated 2010 Plan. Further, the 2010 Plan’s evergreen provision was amended such that, commencing on January 1, 2013, and on each January 1 thereafter during the term of the Restated 2010 Plan, the aggregate number of shares available for issuance under the Restated 2010 Plan shall be increased by that number of shares of the Company’s common stock equal to the lower of:


•	4% of the Company’s outstanding common stock on the applicable January 1; or


•	an amount determined by the board of directors.

At December 31, 2017 and 2016, 756,524 and 571,778 shares of common stock were available for future issuance under the Restated 2010 Plan, respectively.

On December 4, 2013, the Company adopted the Employment Inducement Equity Incentive Award Plan (the Inducement Plan). The terms of the Inducement Plan are substantially similar to the terms of the Company’s 2010 Equity Incentive Award Plan with two principal exceptions: (1) incentive stock options may not be granted under the Inducement Plan; and (2) the annual compensation paid by the Company to specified executives will be deductible only to the extent that it does not exceed $1.0 million, as the conditions of Section 162(m) of the Internal Revenue Code of 1986, as amended (“IRC”) applicable at the time will not be met. The Inducement Plan was adopted by the board of directors without stockholder approval pursuant to Rule 5635(c)(4) of the Nasdaq Listing Rules.

The Company has initially reserved 337,500 shares of the Company’s common stock for issuance pursuant to awards granted under the Inducement Plan. In accordance with Rule 5635(c)(4) of the Nasdaq Listing Rules, awards under the Inducement Plan may only be made to an employee who has not previously been an employee or member of the board of directors of the Company or any parent or subsidiary, or following a bona fide period of non-employment by the Company or a parent or subsidiary, if he or she is granted such award in connection with his or her commencement of employment with the Company or a subsidiary and such grant is an inducement material to his or her entering into employment with the Company or such subsidiary. As of December 31, 2017 and 2016, there were 102,276 and 236,625 shares of common stock available for future issuance under the Inducement Plan, respectively.

The 2006 Plan, Restated 2010 Plan and Inducement Plan are intended to encourage ownership of stock by employees, consultants and non-employee directors of the Company, as applicable, and with respect to the 2006 Plan and Restated 2010 Plan, to provide additional incentives for them to promote the success of the Company’s business. The board of directors is responsible for determining the individuals to receive equity grants, the number of shares subject to each grant, the exercise price per share and the exercise period of each option. The Company satisfies option exercises through the issuance of new shares.

The following sections summarize activity under the Company’s stock plans.

Stock Options

The following table summarizes the Company’s stock option activity for 2017:



	Shares (in thousands)		Weighted Average Exercise Price		Weighted Average Remaining Contractual Term (years)	Aggregate Intrinsic Value (in thousands)
Outstanding at December 31, 2016	3,285		$	15.46
Granted	961		$	11.07
Exercised	(677	)	$	15.47
Canceled	(177	)	$	11.79
Outstanding at December 31, 2017	3,392		$	14.41	7.2	$	86,987
Exercisable at December 31, 2017	2,003		$	16.53	6.3	$	47,116

The total intrinsic value of options exercised in 2017, 2016 and 2015 was $14.3 million, $24,000 and $0.3 million, respectively.

In 2017, the Company determined the achievement of the performance condition for certain options granted in October 2015 was no longer considered probable, and previously recognized compensation costs of $0.7 million were reversed.

Restricted Stock Units

The following table summarizes the Company’s restricted stock unit activity for 2017:



	Shares (in thousands)		Weighted Average Fair Value per Share at Grant Date
Nonvested at December 31, 2016	103		$	10.31
Granted	175		10.42
Vested	—		—
Canceled	(19	)	9.60
Nonvested at December 31, 2017	259		10.43

As of December 31, 2017, restricted stock units (“RSUs”) outstanding include 159,000 shares granted in March 2017 with performance-based conditions to employees and executives. The weighted average fair value of RSUs granted was $10.20 per share. The RSUs vest upon the approval by the FDA of the Company’s new drug application for ZX008, provided such approval occurs within five years following the grant date. Due to the uncertainties associated with the FDA approval process, approval is not yet probable, as such term is used for accounting purposes, prior to the occurrence of the event. Accordingly, no compensation expense has been recognized as of December 31, 2017 for these awards.

There were no vestings of restricted stock units in 2017, 2016 and 2015. As of December 31, 2017, nonvested restricted stock units outstanding not subject to a performance condition had a weighted average remaining contractual term of 0.2 years with an intrinsic value of $3.9 million.

Employee Stock Purchase Plan

In 2010, the Company adopted the 2010 Employee Stock Purchase Plan (the “ESPP”), which allows employees to purchase shares of the Company’s common stock during specified offering periods at a discount to the fair market value at the time of purchase. The ESPP is implemented by overlapping, twelve-month offering periods and each offering period may contain up to two purchase periods of six months each. At any one time, there may be up to two offering periods under the ESPP. In general, a new twelve-month offering period commences on each June 1 and December 1 of a calendar year.

Stock may be purchased under the ESPP at a price equal to 85% of the fair market value of the Company’s stock on either the date of purchase or the first day of an offering period, whichever is lower. Eligible employees may elect to withhold up to 20% of their compensation through payroll deductions during an offering period for the purchase of stock. The ESPP contains a reset provision whereby if the price of the Company’s common stock on the first day of a new offering period is less than the price on the first day of any preceding offering period, all participants in the preceding offering period with higher first day price will be automatically withdrawn from such offering periods and re-enrolled in the new offering period. The reset feature, when triggered, will be accounted for as a modification to the original offering period, resulting in incremental expense to be recognized over the twelve-month period of the new offering.

The ESPP limits the maximum number of shares that may be purchased by any one participant in an offering period to 2,500 shares. In addition, the IRC limits purchases under an ESPP to $25,000 worth of stock in any one calendar year, valued as of the first day of the offering period.

At December 31, 2017 and 2016, a total of 16,672 and 21,356 shares of common stock were reserved for issuance under the ESPP, respectively. In 2017, 2016 and 2015 35,934, 35,164, and 25,204 shares were issued under the ESPP, respectively.

Valuation of Equity Awards

The Company used the Black-Scholes option-pricing model for determining the estimated fair value and stock-based compensation for stock-based awards to employees and the board of directors. The assumptions used in the Black-Scholes option-pricing model were as follows:



	Year Ended December 31,
	2017	2016	2015
Stock Options
Risk free interest rate	1.8% to 2.3%	1.1% to 2.1%	1.5% to 1.9%
Expected term	5.1 to 6.1 years	5.1 to 6.1 years	5.1 to 6.1 years
Expected volatility	75.1% to 85.8%	76.5% to 78.1%	76.7% to 79.2%
Expected dividend yield	—%	—%	—%
Weighted-average fair value of option on grant date	$7.43	$6.69	$8.37

Employee Stock Purchase Plan
Risk free interest rate	1.1% to 1.6%	0.5% to 0.8%	0.1% to 0.5%
Expected term	0.5 to 1.0 years	0.5 to 1.0 years	0.5 to 1.0 years
Expected volatility	54.8% to 152.8%	59.5% to 71.3%	67.4% to 77.8%
Expected dividend yield	—%	—%	—%

The risk-free interest rate assumption was based on the rates for U.S. Treasury zero-coupon bonds with maturities similar to those of the expected term of the stock option or purchase right being valued. The assumed dividend yield was zero as the Company currently does not intend to pay dividends in the foreseeable future. The weighted average expected term of options was calculated using the simplified method as prescribed by accounting guidance for stock-based compensation due to the Company’s limited history of relevant stock option exercise activity. The expected volatility was calculated based on the Company’s historical stock prices, supplemented as necessary with historical volatility of the common stock of several peer companies with characteristics similar to those of the Company.

Stock-Based Compensation Expense

The Company recognized stock-based compensation expense in continuing operations as follows (in thousands):



	Year Ended December 31,
	2017		2016		2015
Cost of contract manufacturing	$	71	$	386	$	390
Research and development	1,933		1,924		1,266
Selling, general and administrative	4,151		5,043		5,285
Total	$	6,155	$	7,353	$	6,941

As of December 31, 2017, there was approximately $9.2 million of total unrecognized compensation costs related to outstanding equity awards scheduled to be recognized over a weighted average period of 2.3 years.