14. Equity Incentive Program

The following table summarizes the compensation expense recognized by the Company for the periods presented:



	Years Ended December 31,
(in millions)	2016		2015		2014
Pre-tax stock-based compensation expense	$	21.5	$	15.2	$	8.6
Tax benefit	—		—		(3.0		)
Total stock-based compensation expense, net of tax	$	21.5	$	15.2	$	5.6

For 2016, stock-based compensation expense of $15.3 million was classified in Selling and administrative expenses, $4.7 million in Research and development expenses and $1.5 million in Cost of goods sold. For 2015, stock-based compensation expense of $12.0 million was classified in Selling and administrative expenses, $2.0 million in Research and development expenses and $1.2 million in Cost of goods sold. For 2014, stock-based compensation expense of $7.5 million was classified in Selling and administrative expenses, $0.8 million in Cost of goods sold and $0.3 million in Research and development expenses.

Compensation expense for stock-based awards is measured based on the fair value of the awards, as of the date the stock-based awards are granted and adjusted to the estimated number of awards that are expected to vest. Forfeitures are estimated based on historical experience at the time of grant and revised in subsequent periods if actual forfeitures differ from those estimates. Compensation costs for stock-based awards are amortized over their service period.

Prior to the Separation, Knowles employees participated in our Former Parent's incentive stock program. Stock-based compensation expense was allocated to Knowles based on the portion of our Former Parent's equity incentive program in which Knowles employees participated. Adopted in connection with the Separation, Knowles' Equity and Cash Incentive Plan provides for the assumption of certain awards granted under our Former Parent's equity incentive program and authorizes the grant of several different forms of benefits, including stock options, restricted stock units ("RSUs") and stock-settled stock appreciation rights ("SSARs").

In connection with the Separation, equity awards previously granted by our Former Parent to employees of the Company were converted to Knowles equity awards under the Company's Equity and Cash Incentive Plan. In general, each award is subject to the same terms and conditions as were in effect prior to the Separation, except that our Former Parent's performance shares converted to time-based RSUs. In addition, the Company made a grant comprised of both stock options and time-based RSUs that will vest 50% on the third and fourth anniversaries from the date of the grant. The Company also made grants of both stock options and time-based RSUs that will vest evenly over each of the first three years following the date of the grant. Lastly, the independent directors received a grant of Company shares that vested immediately in March 2014 and an annual grant for their service during the year ended December 31, 2014, receipt of which was deferred by some of the recipients. The Company has elected to use the straight-line method to attribute the expense over the service period of the awards.

In connection with the Audience acquisition, the Company converted unvested in-the-money Audience stock options and restricted stock units to Knowles equity awards for an aggregate of 461,371 shares of its common stock. The fair value of unvested equity awards relating to future services, and not yet earned, will be recorded as operating expenses over the remaining service periods. The Company has elected to use the straight-line method to attribute the expense over the service period of the awards.

SSARs and Stock Options

The fair value of stock options granted by the Company subsequent to the Separation and our Former Parent's SSARs and stock options granted to Knowles employees prior to the Separation was estimated on the date of grant using a Black-Scholes option-pricing model based on the assumptions shown in the table below.



	Knowles Grants
	2016			2015			2014
Risk-free interest rate	1.04%	to	1.25%	1.24%	to	1.50%	1.32%	to	1.70%
Dividend yield	—%			—%			—%
Expected life (years)	4.5			4.5			4.5	to	5.3
Volatility	37.0%	to	39.6%	39.8%	to	42.4%	42.9%	to	49.9%
Fair value at date of grant	$3.76	to	$4.83	$5.94	to	$6.88	$7.99	to	$13.50

Knowles' assumptions were utilized for grants made on or after February 28, 2014. The determination of expected volatility is based on a blended peer group volatility for companies in similar industries, stage of life and with similar market capitalization since there is not sufficient historical volatility data for Knowles common stock over the period commensurate with the expected term of stock options, as well as other relevant factors. The risk-free interest rate is based on U.S. government issues with a remaining term equal to the expected life of the stock options. The expected term is the period over which our employees are expected to hold their options. It is based on the simplified method from the Securities and Exchange Commission’s safe harbor guidelines. The Company does not currently anticipate paying dividends over the expected term.

The exercise price per share for the stock options granted by the Company was equal to the closing price of Knowles' stock on the New York Stock Exchange on the date of the grant. The period during which options granted by the Company were exercisable was fixed by Knowles' Compensation Committee at the time of grant. Generally, the stock options expire at the end of seven years.

The following table summarizes the Company's SSAR and stock option activity for the year ended December 31, 2016 (in millions except share and per share amounts).



	SSARs							Stock Options
	Number of Shares		Weighted-Average Exercise Price		Aggregate Intrinsic Value		Weighted-Average Remaining Contractual Term (Years)	Number of Shares		Weighted-Average Exercise Price		Aggregate Intrinsic Value		Weighted-Average Remaining Contractual Term (Years)
(in millions except share and per share amounts)
Outstanding at December 31, 2015	1,013,780		$	20.92				3,165,556		$	22.58
Granted	—		—					2,038,013		11.20
Exercised	(56,707	)	14.50					—		—
Forfeited	—		—					(410,959	)	18.15
Expired	(58,355	)	$	22.06				(108,493	)	$	22.22
Outstanding at December 31, 2016	898,718		$	21.25	$	0.5	4.9	4,684,117		$	18.03	$	10.4	5.5

Exercisable at December 31, 2016	898,718		$	21.25	$	0.5	4.9	938,890		$	22.67	$	—	5.0

The aggregate intrinsic value in the table above represents the difference between the Company's closing stock price on December 31, 2016 and the exercise price of each SSAR and stock option, multiplied by the number of in-the-money stock options.

Unrecognized compensation expense related to stock options not yet exercisable at December 31, 2016 was $12.0 million. This cost is expected to be recognized over a weighted-average period of 1.2 years. There was no unrecognized compensation expense related to SSARs at December 31, 2016.

Other information regarding the exercise of SSARs and stock options is listed below:



	Years Ended December 31,
(in millions)	2016		2015		2014
SSARs
Fair value of SSARs that are exercisable	$	1.9	$	0.6	$	1.1
Aggregate intrinsic value of SSARs exercised	$	0.1	$	0.1	$	0.1

Stock Options
Cash received by Knowles for exercise of stock options	$	—	$	—	$	0.1
Aggregate intrinsic value of options exercised	$	—	$	—	$	0.2

RSUs

The following table summarizes the Company's RSU balances for the year ended December 31, 2016:



	Share units		Weighted-average grant date fair value
Unvested at December 31, 2015	1,079,994		$	24.41
Granted	1,685,512		12.17
Vested	(415,905	)	19.81
Forfeited	(274,603	)	15.81
Unvested at December 31, 2016	2,074,998		$	14.94

At December 31, 2016, $19.5 million of unrecognized compensation expense related to RSUs is expected to be recognized over a weighted-average period of 1.4 years.