NOTE 5.

BENEFIT PLANS

Stock Plans

The Company adopted the 2007 Stock Incentive Plan (the “2007 Plan”) effective June 6, 2007, under which 1,875,000 shares of common stock of the Company, plus the number of shares that remained available for grants of awards under the Company’s 1998 Stock Option Plan (the “1998 Plan”) and those shares that become available as a result of forfeiture, termination, or expiration of awards previously granted under the 1998 Plan, were reserved for the grant of awards to its employees, directors and consultants to acquire common stock of the Company. The 2007 Plan is a shareholder approved plan with the initial 1,875,000 share authorization increased by 815,000 shares in 2009 and 1,500,000 shares in 2012. The 2007 Plan provides for the grant of awards in the form of stock options, stock appreciation rights, restricted stock, RSUs, the vesting of which may be performance-based or service-based, and other rights and benefits. Each RSU issued reduces the number of shares of the Company’s common stock available for grant under the 2007 Plan by two shares. Options under the 2007 Plan are granted at an exercise price of not less than 100% of the fair market value of the Company’s common stock on the date of grant. The 2007 Plan replaced the Company’s 1998 Plan and the 2000 Long-Term Bonus Plan. There were no modifications to the 2007 Plan and no awards classified as liabilities in the year ended December 31, 2013.

For the years ended December 31, 2013, 2012 and 2011, the share-based compensation expense was $3.7 million, $3.8 million and $5.2 million, respectively, before provision for income taxes. The Company recorded a tax benefit of approximately $1.4 million, $1.5 million and $2.0 million, respectively, related to the aforementioned share-based compensation expenses. There was no capitalized share-based compensation expense in the years ended December 31, 2013, 2012 and 2011. For the years ended December 31, 2013, 2012 and 2011, the share-based compensation expenses, net of taxes, reduced net income by $2.2 million, $2.4 million and $3.2 million, respectively, or $0.09, $0.09, and $0.13 per diluted share for each period, respectively.

Stock Options

As of December 31, 2013, a cumulative total of 6,617,400 shares subject to options have been granted with exercise prices ranging from $3.47 to $38.89. Of these, options have been exercised for the purchase of 3,498,741 shares, while options for 874,152 shares have been terminated, and options for 1,772,062 shares with exercise prices ranging from $15.29 to $38.89 remained outstanding under the stock plans. Most of these options vest over five years and expire seven and ten years after grant. To date, no options have been issued to any of the Company’s non-employee advisors. As of December 31, 2013, 1,576,452 shares remained available for issuance of awards under the stock plans.

A summary of the Company’s option activity and related information for the three years ended December 31, 2013 is as follows:


	Number of Options			Weighted- Average Price		Weighted- Average Remaining Contractual Term (In Years)		Aggregate Intrinsic Value (In millions)
Balance At December 31, 2010		3,344,450			22.80
Options Granted		160,600			27.41
Options Exercised		(309,447	)		17.19
Options Cancelled/Forfeited/Expired		(109,584	)		25.01

Balance At December 31, 2011		3,086,019			23.52
Options Granted		128,500			29.63
Options Exercised		(327,498	)		17.95
Options Cancelled/Forfeited/Expired		(48,468	)		27.63

Balance At December 31, 2012		2,838,553			24.37
Options Granted		192,800			29.14
Options Exercised		(1,237,341	)		24.71
Options Cancelled/Forfeited/Expired		(21,950	)		25.20

Balance At December 31, 2013		1,772,062			24.68		2.74	$	26.8

Exercisable at December 31, 2013		1,328,237			23.73		1.98	$	21.3
Expected to Vest after December 31, 2013		390,566			27.81		5.06	$	4.6

The intrinsic value of stock options at any point in time is calculated as the difference between the exercise price of the underlying awards and the quoted price of the Company’s common stock. The aggregate intrinsic value of options exercised and sold under the Company’s stock option plans was $14.1 million, $4.9 million and $4.2 million for the years ended December 31, 2013, 2012 and 2011, respectively, determined as of the date of option exercise. As of December 31, 2013, there was approximately $3.4 million of total unrecognized compensation cost related to unvested share-based compensation option arrangements granted under the Company’s stock plans, which is expected to be recognized over a weighted-average period of 1.7 years.

The following table indicates the options outstanding and options exercisable by exercise price with the weighted-average remaining contractual life for the options outstanding and the weighted-average exercise price at December 31, 2013:


	Options Outstanding						Options Exercisable
Exercise Price	Number Outstanding at December 31, 2013		Weighted- Average Remaining Contractual Life (Years)		Weighted- Average Grant Date Value		Number Exercisable at December 31, 2013		Weighted- Average Grant Date Value
$15–20		237,742		2.15	$	15.62		206,742	$	15.62
20–25		679,825		1.74		22.09		616,520		21.94
25–30		741,195		3.45		29.09		496,825		29.23
30–35		108,300		5.48		31.73		8,150		31.55
35–40		5,000		6.92		38.89		—		—

$15–40		1,772,062		2.74		24.68		1,328,237		23.73

The Company utilizes the Black-Scholes option-pricing model to estimate the fair value of share-based compensation at the date of grant, which requires the use of accounting judgment and financial estimates, including estimates of the expected term option holders will retain their vested stock options before exercising them, the estimated volatility of the Company’s stock price over the expected term and the expected number of options that will be forfeited prior to the completion of their vesting requirements. Application of alternative assumptions could produce significantly different estimates of the fair value of share-based compensation amounts recognized in the Consolidated Statements of Income.

The fair value of each option granted was estimated on the date of grant using the Black-Scholes option-pricing model using the following weighted-average assumptions:


	Year Ended December 31,
	2013			2012			2011
Expected term (in years)		5.0			5.0			5.0
Expected volatility		50.3	%		52.1	%		51.6	%
Expected dividend yields		3.3	%		3.2	%		3.4	%
Risk-free interest rates		0.8	%		0.8	%		2.0	%

The Company monitors option exercise behavior to determine the appropriate homogenous groups for estimation purposes. Currently, the Company’s option activity is separated into two categories: directors and employees. The expected term of the options represents the estimated period of time until exercised and is based on historical experience, giving consideration to the option terms, vesting schedules and expectations of future behavior. Expected stock volatility is based on historical stock price volatility of the Company and the risk-free interest rates are based on U.S. Treasury yields in effect on the date of the option grant for the estimated period the options will be outstanding. The expected dividend yield is based upon the current dividend annualized as a percentage of the grant exercise price.

The weighted average grant date fair value per share was $9.87, $10.28 and $9.68 during the years ended December 31, 2013, 2012 and 2011, respectively.

Restricted Stock Units (“RSUs”)

The following table summarizes the activity of the Company’s RSUs, which includes service-based and performance-based awards, for the three years ended December 31, 2013:


	Number of Shares			Weighted- Average Grant Date Fair Value		Aggregate Intrinsic Value (in millions)
Balance at December 31, 2010		110,200			23.61
RSUs Granted		125,800			27.99
RSUs Vested		(39,105	)		23.91
RSUs Cancelled/Forfeited/Expired		(9,085	)		25.36

Balance at December 31, 2011		187,810			26.33
RSUs Granted		109,200			31.37
RSUs Vested		(34,190	)		27.85
RSUs Cancelled/Forfeited/Expired		—			—

Balance at December 31, 2012		262,820			28.22
RSUs Granted		150,300			26.89
RSUs Vested		(87,840	)		24.98
RSUs Cancelled/Forfeited/Expired		(4,300	)		29.24

Balance at December 31, 2013		320,980			28.47	$	12.8

Performance-based RSUs vest over five years, with 60% of the shares immediately vesting after three years when the performance has been determined to have been met and 20% of the remaining shares vesting annually at the anniversary of the performance determination date, subject to continuous employment of the participant. There were 212,550 performance-based RSUs expected to vest as of December 31, 2013. Service-based RSUs have been issued to the Company’s directors and generally vest over one to two years. There were 20,280 service-based RSUs expected to vest as of December 31, 2013. No forfeitures are currently expected.

Share-based compensation expense for RSUs for the year ended December 31, 2013, 2012 and 2011 was $2.0 million, $1.8 million and $2.6, respectively. As of December 31, 2013, the total unrecognized compensation expense related to unvested RSUs was $4.7 million and is expected to be recognized over a weighted-average period of 2.7 years.

Employee Stock Ownership and 401(k) Plans

On August 1, 2012 the Company amended and restated the Employee Stock Ownership Plan, the 401(k) Plans and the Enviroplex 401(k) Plans (“Plans”) to become the McGrath RentCorp Employee Stock Ownership and 401(k) Plan (the “KSOP”). In conjunction with this, the Plans’ assets totaling approximately $16.4 million in cash were concurrently transferred into the KSOP. The KSOP plan provides that each participant may annually contribute an elected percentage of his or her salary, not to exceed the statutory limit. The Company, at its discretion, may make matching contributions. Contributions are expensed in the year approved by the Board of Directors. Dividends on the Company’s stock held by the KSOP are treated as ordinary dividends and, in accordance with existing tax laws, are deducted by the Company in the year paid. For the year ended December 31, 2013 dividends deducted by the Company were $0.3 million, which resulted in a tax benefit of approximately $0.1 million in 2013.

At December 31, 2013, the KSOP held 339,406 shares, or less than 2% of the Company’s total common shares outstanding. These shares are included in basic and diluted earnings per share calculations.