Note 10 – Share-Based Compensation

Overview

On August 27, 2015, the Board of Directors of the Company approved the Golden Entertainment, Inc. 2015 Incentive Award Plan (the “2015 Plan”), which was approved by the Company’s shareholders at the Company’s 2016 annual meeting. The 2015 Plan authorizes the issuance of stock options, restricted stock, restricted stock units (“RSUs”), dividend equivalents, stock payment awards, stock appreciation rights, performance bonus awards and other incentive awards. The 2015 Plan authorizes the grant of awards to employees, non-employee directors and consultants of the Company and its subsidiaries. Options generally have a ten-year term. Except as provided in any employment agreement between the Company and the employee, if an employee is terminated (voluntarily or involuntarily), any unvested options as of the date of termination will be forfeited.

The maximum number of shares of the Company’s common stock for which grants may be made under the 2015 Plan is 2.25 million shares, plus an annual increase on January 1^st of each year during the ten-year term of the 2015 Plan equal to the lesser of 1.8 million shares, 4% of the total shares of the Company’s common stock outstanding (on an as-converted basis) and such smaller amount as may be determined by the Board in its sole discretion. The annual increase on January 1, 2016 was 874,709 shares. In addition, the maximum aggregate number of shares of common stock that may be subject to awards granted to any one participant during a calendar year is 2.0 million shares.

The 2015 Plan provides that no stock option or stock appreciation right (even if vested) may be exercised prior to the earlier of August 1, 2018 or immediately prior to the consummation of a change in control of the Company that would result in an “ownership change” as defined in Section 382 of the Internal Revenue Code of 1986, as amended. There were 2,930,165 stock options outstanding under the 2015 Plan as of December 31, 2016, of which 599,446 had vested. There were 141,296 RSUs outstanding under the 2015 Plan as of December 31, 2016, none of which had vested. As of December 31, 2016, a total of 53,248 shares of the Company’s common stock remained available for grants of awards under the 2015 Plan.

In June 2007, the Company’s shareholders approved the 2007 Lakes Stock Option and Compensation Plan (the “2007 Plan”), which is authorized to grant a total of 1.25 million shares of the Company’s common stock. Vested options are exercisable for ten years from the date of grant; however, if the employee is terminated (voluntarily or involuntarily), any unvested options as of the date of termination will be forfeited. There were 461,114 stock options outstanding under the 2007 Plan as of December 31, 2016, of which 399,827 had vested. As of December 31, 2016, a total of 221,348 shares of the Company’s common stock remained available for grants of awards under the 2007 Plan.

The Company also has a 1998 Stock Option and Compensation Plan (the “1998 Plan”). There were 11,202 stock options outstanding under this plan as of December 31, 2016, all of which were fully vested. No additional options will be granted under the 1998 Plan.

Share-based compensation expense related to stock options was $3.9 million, $0.8 million and $0.3 million for fiscal years 2016, 2015 and 2014, respectively. In connection with the Special Dividend discussed in Note 9, Shareholders’ Equity, and in accordance with the Company’s equity incentive plans approved by the Company’s shareholders, equitable anti-dilutive adjustments were made to the exercise prices of outstanding stock options to purchase shares of Company common stock, in order to preserve the value of such stock options following the Special Dividend. Accordingly, effective as of the close of business on July 14, 2016, the exercise price of each outstanding stock option granted prior to the Record Date under the 2015 Plan, the 2007 Plan and the 1998 Plan (collectively, the “Adjusted Options”) was reduced by $1.71 per share. The weighted average exercise price of the Adjusted Options presented in the table below have been adjusted accordingly. The Adjusted Options had a weighted average exercise price of $7.04 per share after giving effect to such anti-dilutive adjustments. The Adjusted Options have varying remaining terms, which were not affected by the adjustments. The Company measured the incremental compensation cost as the excess of the fair value of the Adjusted Options immediately following such anti-dilutive adjustments over the fair value of the Adjusted Options immediately prior to such anti-dilutive adjustments. Of the 2,337,643 Adjusted Options, 1,908,070 were unvested and 429,573 were vested at the time of the adjustment. The incremental fair value related to the unvested Adjusted Options resulting from the anti-dilutive adjustments was estimated to be $1.7 million, which will be recorded over the remaining vesting period of such Adjusted Options. The incremental fair value related to the vested Adjusted Options resulting from the anti-dilutive adjustments, determined using the Black-Scholes option pricing model, was $0.7 million and was recorded as share-based compensation expense during the third quarter of 2016.

For fiscal years 2016, 2015 and 2014, no income tax benefit was recognized in the Company’s consolidated statements of operations for share-based compensation arrangements. Management assessed the likelihood that the deferred tax assets relating to future tax deductions from share-based compensation will be recovered from future taxable income and determined that a valuation allowance is necessary to the extent that management currently believes it is more likely than not that tax benefits will not be realized. Management’s determination is based primarily on historical losses and earnings volatility.

Stock Options

The following table summarizes stock option activity for fiscal years 2016, 2015 and 2014:

	Number of Common Shares					Weighted-
	Options					Average
	Outstanding			Exercisable		Exercise Price
Balance at December 31, 2015		2,419,529			724,529	$	8.16
Granted		1,494,475					12.03
Options Subject to Anti-Dilutive Adjustments		(2,337,643	)				8.75
Options Subject to Anti-Dilutive Adjustments		2,337,643					7.04
Exercised		(313,500	)				5.72
Cancelled		(198,023	)				8.10
Balance at December 31, 2016		3,402,481			411,029	$	9.02

Balance at December 28, 2014		755,617			616,792	$	6.09
Granted		1,695,000					9.07
Exercised		(25,088	)				9.62
Cancelled		(6,000	)				9.19
Balance at December 31, 2015		2,419,529			724,529	$	8.16

Balance at December 29, 2013		798,171			585,769	$	5.97
Forfeited/cancelled/expired		(25,211	)				5.19
Exercised		(28,343	)				4.73
Granted		11,000					9.18
Balance at December 28, 2014		755,617			616,792	$	6.09

The Company uses the Black-Scholes option pricing model to estimate the fair value and compensation cost associated with employee incentive stock options, which requires the consideration of historical employee exercise behavior data and the use of a number of assumptions including volatility of the Company’s stock price, the weighted-average risk-free interest rate and the weighted-average expected life of the options. The Company’s determination of fair value of share-based option awards on the date of grant using the Black-Scholes option pricing model is affected by the following assumptions regarding complex and subjective variables. Any changes in these assumptions may materially affect the estimated fair value of the share-based award.

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Expected dividend yield — As the Company has not historically paid dividends, with the exception of the Special Dividend, the dividend rate variable used in the Black-Scholes model is zero.

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Risk-free interest rate — The risk free interest rate assumption is based on the U.S. Treasury yield curve in effect at the time of grant and with maturities consistent with the expected term of options.

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Expected term — The expected term of employee stock options represents the weighted-average period that the stock options are expected to remain outstanding. It is based upon an analysis of the historical behavior of option holders during the period from September 1995 to December 31, 2016. Management believes historical data is reasonably representative of future exercise behavior.

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Expected volatility — The volatility assumption is based on the historical weekly price data of the Company’s stock over a two-year period. Management evaluated whether there were factors during that period which were unusual and which would distort the volatility figure if used to estimate future volatility and concluded that there were no such factors.

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Forfeiture rate — As share-based compensation expense recognized is based on awards ultimately expected to vest, expense for grants is reduced for estimated forfeitures at the time of grant and revised, if necessary, in subsequent periods if actual forfeitures differ from those estimates. The Company’s management has reviewed the historical forfeitures which have been minimal, and as such presently amortizes the grants to the end of the vesting period and will adjust for forfeitures at the end of the term.

The following assumptions were used to estimate the fair value of stock options granted during fiscal years 2016, 2015 and 2014:

	2016		2015		2014
Expected dividend yield		—		—		—
Risk-free interest rate	1.43 – 2.40%		2.18 – 2.36%		2.39 – 2.88%
Expected term (in years)		10		10		10
Expected volatility	24.03 – 26.95%		27.24 – 27.60%		32.87 – 39.35%

As of December 31, 2016, the outstanding stock options had a weighted-average remaining contractual life of 7.9 years, weighted-average exercise price of $9.02 and an aggregate intrinsic value of $11.0 million. As of December 31, 2016, the outstanding stock options that were then exercisable had a weighted-average remaining contractual life of 1.7 years, a weighted-average exercise price of $4.50 and an aggregate intrinsic value of $3.1 million. The total intrinsic value of stock options exercised during fiscal years 2016, 2015 and 2014 was $1.8 million, $0.1 million and $0.1 million, respectively. The weighted-average grant-date fair value of stock options granted during fiscal years 2016, 2015 and 2014 was $4.80, $3.72 and $4.65 per share, respectively.

As of December 31, 2016, the Company’s unrecognized share-based compensation expense related to stock options was approximately $10.5 million, which is expected to be recognized over a weighted-average period of 3.2 years.

The Company issues new shares of common stock upon exercise of stock options.

Restricted Stock Units

The Company granted 141,296 RSUs during the year ended December 31, 2016 with a weighted average grant-date fair value of $12.57 per share. As of December 31, 2016, there was $1.6 million of unamortized compensation related to unvested RSUs which is expected to be recognized over a weighted-average period of 0.9 years. There was no RSU activity during the years ended December 31, 2015 and December 28, 2014.