NOTE 9. STOCK-BASED COMPENSATION

Arrowhead has two plans that provide for equity-based compensation. Under the 2000 Stock Option Plan, 153,200 shares of Arrowhead’s Common Stock are reserved for issuance upon exercise of non-qualified stock options. No further grants can be made under the 2000 Stock Option Plan. Under the 2004 Equity Incentive Plan, 3,000,000 shares of Common Stock are authorized for issuance, of which 510,166 shares are available as of June 30, 2013 for the grant of stock options, stock appreciation rights, restricted stock awards and performance unit/share awards, by the Compensation Committee of the Board of Directors, to employees, consultants and others. 2,965,860 shares of Common Stock are reserved for the grant of stock options, stock appreciation rights, restricted stock awards and performance unit/share awards, by the Compensation Committee of the Board of Directors, to employees, consultants and others. As of June 30, 2013, there were options granted and outstanding to purchase 152,900 and 2,455,694 shares of Common Stock under the 2000 Stock Option Plan and the 2004 Equity Incentive Plan, respectively, and 251,200 options outstanding that were issued outside of equity incentive plans, as inducement options.

During the nine months ended June 30, 2013, 949,000 options were granted under the 2004 Equity Incentive Plan.

The following tables summarize information about stock options under the 2000 Stock Option Plan, the 2004 Stock Option Plan and as inducement options outside of an equity incentive plan:

			Weighted- Average Exercise Price Per Share			Aggregate Intrinsic Value
Balance At September 30, 2011	729,096		$	9.03
Granted	1,229,500			4.40
Cancelled	(42,919	)		11.77
Exercised	(4,883	)		5.20
Balance At September 30, 2012	1,910,794		$	6.01
Granted	949,000			2.03
Cancelled	0			0
Exercised	0			0
Balance At June 30, 2013	2,859,794		$	4.69	8.2 years	$	—
Exercisable At June 30, 2013	1,129,939		$	7.01	6.6 years	$	—

Stock-based compensation expense for the nine months ended June 30, 2013 and 2012 was $1,114,375 and $837,188, respectively. There is no income tax benefit as the Company is currently operating at a loss and an actual income tax benefit may not be realized. The loss creates a timing difference, resulting in a deferred tax asset, which is fully reserved by a valuation allowance.

The fair value of the options granted by Arrowhead during the nine months ended June 30, 2013 and 2012 is estimated at $1,197,588 and $3,505,912, respectively. The aggregate fair value of options granted by Calando during the nine months ended June 30, 2013 and 2012 is estimated at $0 and $33,690, respectively.

The intrinsic value of the options exercised during the nine months ended June 30, 2013 was $0, there were no options exercised during the nine months ended June 30, 2013.

As of June 30, 2013, the pre-tax compensation expense for all unvested stock options at Arrowhead in the amount of approximately $3,775,514 will be recognized in our results of operations over a weighted average period of 2.9 years. As of June 30, 2013, the pre-tax compensation expense for all unvested stock options at Calando in the amount of approximately $39,169 will be recognized in our results of operations over a weighted average period of 2.2 years.

The fair value of each stock option award is estimated on the date of grant using the Black-Scholes option pricing model. The Black-Scholes option valuation model was developed for use in estimating the fair value of traded options, which do not have vesting restrictions and are fully transferable. The determination of the fair value of each stock option is affected by our stock price on the date of grant, as well as assumptions regarding a number of highly complex and subjective variables. Because the Company’s employee stock options have characteristics significantly different from those of traded options, and because changes in the subjective input assumptions can materially affect the fair value estimate, in management’s opinion, the existing models do not necessarily provide a reliable single measure of the fair value of its employee stock options.

The assumptions used to value stock options are as follows:

	Nine months ended June 30,
	2013			2012
Dividend yield		0			—
Risk-free interest rate	0.7% to 1.25%			0.9% to 1.7%
Volatility		69	%	90% to 100%
Expected life (in years)	5.5 to 6.25			5.5 to 6.25
Weighted average grant date fair value per share of options granted	$	1.26		$	3.79

The dividend yield is zero as the Company currently does not pay a dividend.

The risk-free interest rate is based on the U.S. Treasury bond.

Volatility is estimated based on volatility average of the Company’s Common Stock price.