Stock-Based and Employee Savings Plans

Prior to the separation (i.e., periods up to July 17, 2015), PayPal employees participated in eBay's equity incentive plans, including stock options, restricted stock units (“RSUs”) and performance-based restricted stock units (“PBRSUs”). In addition, certain PayPal employees participated in eBay's employee stock purchase plan. All awards granted under these plans consisted of eBay common shares. PayPal's consolidated statement of income reflected compensation expense for these stock-based plans associated with the portion of eBay's equity incentive plans in which PayPal employees participated.

Following separation, outstanding awards granted to PayPal employees under eBay's equity incentive plans were converted into PayPal awards under PayPal's equity incentive plans based on a conversion ratio. This conversion ratio was determined as the closing per-share price of eBay shares on the last regular trading session prior to separation divided by the opening per-share price of PayPal shares on the first regular trading session after separation. There was no significant incremental stock-based compensation expense recorded as a result of the share conversions.

Equity Incentive Plans

The Board of Directors adopted the PayPal Holdings, Inc. 2015 Equity Incentive Award Plan (the “Plan”) on June 16, 2015. Under the terms of the Plan, equity awards, including stock options, RSUs, restricted stock awards, PBRSUs, deferred stock units, and stock payments may be granted to our directors, officers and employees. At December 31, 2016, we had 92 million shares authorized under our equity incentive plans and 61 million shares were available for future grant. Shares issued as a result of stock option exercises and the release of stock awards were funded primarily with the issuance of new shares of common stock.

All stock options granted under these plans generally vest 12.5% six months from the date of grant (or 25% one year from the date of hire for grants to new employees) with the remainder vesting at a rate of 2.08% per month thereafter, and generally expire seven to ten years from the date of grant. The cost of stock options is determined using the Black-Scholes option pricing model on the date of grant.

RSUs are granted to eligible employees under our equity incentive plans. In general, RSUs vest in equal annual installments over a period of three to four years, are subject to an employee's continuing service to us and do not have an expiration date. The cost of RSUs granted prior to the separation was determined using the fair value of eBay's common stock on the date of grant. For RSUs granted following separation, the cost of RSUs was determined using the fair value of PayPal's common stock on the date of grant.

Certain of our executives are eligible to receive performance-based restricted stock units (“PBRSUs”). PBRSUs are equity awards that may be earned based on an initial target number with the final number of PBRSUs that may be vested and settled determined based on the Company’s performance against pre-established performance metrics over a predefined performance period. PBRSUs granted under eBay's equity incentive plans generally have two-year performance periods with one-half of the grant vesting in March following the end of the performance period and the remaining one-half vesting more than one year following the completion of the performance period. In the first quarter of 2016, the Compensation Committee approved a revised structure for PBRSUs granted under PayPal's 2015 Equity Incentive Award Plan to officers and certain employees providing services to the Company. PBRSUs granted under PayPal's 2015 Equity Incentive Award Plan have three-year performance periods with cliff vesting following the completion of the performance period, subject to the Committee's approval of the level of achievement against the pre-established performance targets. Over the performance period, the number of PBRSUs that may be issued and related stock-based compensation expense that is recognized is adjusted upward or downward based upon the probability of achieving the approved performance targets against the performance metrics. Depending on the probability of achieving the pre-established performance targets, the PBRSUs issued could range from 0% to 200% of the target amount.

Employee Stock Purchase Plan

Prior to separation, eligible employees participated in eBay’s employee stock purchase plan. Effective July 17, 2015, the Board of Directors adopted the PayPal Holdings, Inc. Employee Stock Purchase Plan (“ESPP”). Under the terms of this plan, shares of our common stock may be purchased over an offering period with a maximum duration of two years at 85% of the lower of the fair market value on the first day of the applicable offering period or on the last business day of each six-month purchase period within the offering period. Employees may purchase shares between 2% and 10% of their gross compensation during an offering period but not more than the statutory limitation of $25,000 per year. The company stock purchased through the ESPP is considered outstanding and is included in the weighted-average outstanding shares for purposes of computing basic and diluted earnings per share. For the year ended December 31, 2016, our employees purchased 2.7 million shares of PayPal common stock at an average price of $29.49. For the year ended December 31, 2015, our employees purchased 0.9 million shares of eBay common stock at an average price of $44.37 and 1.2 million shares of PayPal common stock at an average price of $28.12. Under eBay's employee stock purchase plan for the year ended December 31, 2014 our employees purchased approximately 1.5 million shares of eBay common stock at an average price of $42.16. As of December 31, 2016, approximately 8.1 million shares were reserved for future issuance under the Purchase Plan.

Stock Option Activity

The following table summarizes stock option activity of our employees under our equity incentive plans for the year ended December 31, 2016:



	Shares		Weighted Average Exercise Price		Weighted Average Remaining Contractual Term (Years)	Aggregate Intrinsic Value
	(In thousands, except per share amounts and years)
Outstanding at January 1, 2016	6,008		$	25.94
Granted	124		$	36.32
Exercised	(1,557	)	$	18.39
Forfeited/expired/canceled	(287	)	$	30.82
Outstanding at December 31, 2016	4,288		$	28.65	4.14	$	47,510
Expected to vest	1,424		$	29.17	5.27	$	15,059
Options exercisable	2,727		$	28.30	3.47	$	31,166

The weighted average grant date fair value of options granted to our employees during the years 2016, 2015 and 2014 was $8.79, $11.20 and $13.38, respectively. The aggregate intrinsic value was calculated as the difference between the exercise price of the underlying awards and the quoted price of our common stock at December 31, 2016. During the years 2016, 2015 and 2014, the aggregate intrinsic value of options exercised under eBay's and PayPal's equity incentive plans was $31 million, $72 million and $57 million, respectively, determined as of the date of option exercise. At December 31, 2016, 4.2 million options were in-the-money.

Restricted Stock Unit Activity

The following table summarizes the restricted stock units (including performance-based restricted stock units) granted under our equity incentive plans as of December 31, 2016 and changes during the year ended December 31, 2016:



	Units		Weighted Average Grant-Date Fair Value (per share)
	(In thousands, except per share amounts)
Outstanding at January 1, 2016	28,761		$	34.63
Awarded	14,120		$	39.13
Vested	(9,784	)	$	33.28
Forfeited	(3,912	)	$	36.13
Outstanding at December 31, 2016	29,185		$	37.06
Expected to vest	25,565

During the years 2016, 2015 and 2014, the aggregate intrinsic value of restricted stock units vested under eBay's and PayPal's equity incentive plans were $378 million, $315 million and $292 million, respectively.

Stock-Based Compensation Expense

The impact on our results of operations of recording stock-based compensation expense under eBay's and PayPal's equity incentive plans for the years ended December 31, 2016, 2015 and 2014 was as follows:



	Year Ended December 31,
	2016		2015		2014
	(In millions)
Customer support and operations	$	85	$	62	$	52
Sales and marketing	84		52		59
Product development	139		132		108
General and administrative	130		94		75
Depreciation and amortization	6		7		4
Total stock-based compensation expense	$	444	$	347	$	298

Capitalized as part of internal use software and website development costs	$	13	$	7	$	10
Income tax benefit recognized for stock-based compensation arrangements	$	127	$	98	$	77

As of December 31, 2016, there was approximately $707 million of unearned stock-based compensation estimated to be expensed from 2017 through 2019. If there are any modifications or cancellations of the underlying unvested awards, we may be required to accelerate, increase or cancel all or a portion of the remaining unearned stock-based compensation expense. Future unearned stock-based compensation will increase to the extent we grant additional equity awards, change the mix of grants between stock options and RSUs or assume unvested equity awards in connection with acquisitions.

Stock Option Valuation Assumptions

We calculated the fair value of each option award on the date of grant using the Black-Scholes option pricing model. The following weighted average assumptions were used for the years ended December 31, 2016, 2015 and 2014:



	Year Ended December 31,
	2016		2015		2014
Risk-free interest rate	1.5	%	1.4	%	1.2	%
Expected life (in years)	4.6		4.3		4.1
Dividend yield	—		—		—
Expected volatility	25	%	26	%	29	%

For periods prior to separation, our computation of expected volatility was based on a combination of historical and market-based implied volatility from traded options on eBay’s stock. The computation of expected life was determined based on historical experience of similar awards, giving consideration to the contractual terms of the stock-based awards, vesting schedules, and expectations of future employee behavior. The interest rate for periods within the contractual life of the award was based on the U.S. Treasury yield curve in effect at the time of grant.

For periods subsequent to the separation, the risk-free interest rate for periods within the contractual life of the award was based upon the U.S. Treasury yield curve in effect at the time of the grant. Due to our limited history of stock option exercises, we estimated the expected term of options granted based on the midpoint between the vesting date and the end of the contractual term using the “simplified” method under the SEC guidance. The computation of expected volatility for our employee stock option awards was based on the historical volatility of selected peer companies.

Employee Saving Plans

Prior to separation, eligible U.S. employees participated in eBay's savings plan, which qualifies under Section 401(k) of the Code. Effective July 17, 2015, the Board of Directors adopted the PayPal Holdings, Inc. Deferred Compensation Plan. Under the terms of this plan, participating U.S. employees may contribute up to 50% of their eligible compensation, but not more than statutory limits. In 2016, 2015 and 2014, under PayPal's and eBay's savings plans, eligible employees received one dollar for each dollar contributed, up to 4% of each employee’s eligible salary, subject to a maximum employer contribution of $10,600, $10,600 and $10,400, respectively, per employee. Our non-U.S. employees are covered by other savings plans. For the years ended December 31, 2016, 2015 and 2014, the matching contribution expense for our U.S. and international savings plans were approximately $42 million, $42 million and $37 million, respectively.