Notes to Consolidated Financial Statements

Note 4 —   Stock-based and Other Incentive Compensation Plans and Agreements

General

We currently sponsor the following stock-based and other incentive compensation plans and agreements:

Accounting Treatment and Compensation Expense

Effective January 1, 2006, we adopted SFAS 123R, using the modified prospective application transition method. Financial results for the prior periods presented were not retroactively adjusted to reflect the effects of SFAS 123R.

Prior to January 1, 2006, we accounted for our share-based payment transactions in accordance with SFAS 123, as amended by SFAS 148. This allowed us to rely on APB 25 and related interpretations in accounting for our stock-based compensation plans under the intrinsic value method. SFAS 123R requires us to measure and recognize stock-based compensation expense in our financial statements based on the estimated fair value at the date of grant for our stock-based awards, which include:

 

  • stock options
  • stock awards, and
  • performance units (restricted stock units and performance cash units)

 

Performance-based stock awards and performance units contain market conditions. Stock options, restricted stock awards and performance units also contain a service condition. In accordance with SFAS 123R, we recognize compensation expense over the requisite service period for:

 

  • awards granted on or after January 1, 2006 and
  • unvested awards previously granted and outstanding as of January 1, 200

 

In addition, we estimate forfeitures over the requisite service period when recognizing compensation expense. These estimates are adjusted to the extent that actual forfeitures differ, or are expected to materially differ, from such estimates.

In 2005, we did not record compensation expense related to our stock option grants in our financial statements, which is consistent with the APB 25 requirements. However, at the end of each reporting period, we recorded compensation expense over the requisite service period for our other stock-based and performance cash unit awards. The following table provides additional information on compensation costs and income tax benefits related to our stock-based compensation awards. We recorded these amounts in our consolidated statements of income for the years ended December 31, 2007, 2006 and 2005.

Prior to our adoption of SFAS 123R, benefits of tax deductions in excess of recognized compensation costs were reported as operating cash flows. SFAS 123R requires excess tax benefits to be reported as a financing cash inflow rather than as a reduction of taxes paid. In 2007 and 2006, our cash flows from financing activities included an immaterial amount for recognized compensation costs in excess of the benefits of tax deductions. In 2005, we included $8 million of such benefits in cash flow provided by operating activities.

If stock-based compensation expense for the year ended December 31, 2005 had been recorded based on the fair value of the awards at the grant dates consistent with the method prescribed by SFAS 123, which has been superseded by SFAS 123R, our net income and earnings per share for the year ended December 31, 2005 would have been reduced to the amounts shown in the following table.

Incentive and Nonqualified Stock Options

We grant incentive and nonqualified stock options with a strike price equal to the fair market value on the date of the grant. "Fair market value" is defined under the terms of the applicable plans as the most recent closing price per share of AGL Resources common stock as reported in The Wall Street Journal. Stock options generally have a three-year vesting period. Nonqualified options generally expire 10 years after the date of grant. Participants realize value from option grants only to the extent that the fair market value of our common stock on the date of exercise of the option exceeds the fair market value of the common stock on the date of the grant. Compensation expense associated with stock options is generally recorded over the option vesting period; however, for unvested options that are granted to employees who are retirement-eligible, the remaining compensation expense is recorded in the current period rather than over the remaining vesting period.

As of December 31, 2007, we had $4 million of total unrecognized compensation costs related to stock options. These costs are expected to be recognized over the remaining average requisite service period of approximately 2 years. Cash received from stock option exercises for 2007 was $10 million, and the income tax benefit from stock option exercises was $3 million. The following tables summarize activity related to stock options for key employees and non-employee directors.

 

Information about outstanding and exercisable options as of December 31, 2007, is as follows.

 

 

Summarized below are outstanding options that are fully exercisable.

In accordance with the fair value method of determining compensation expense, we use the Black-Scholes pricing model. Below are the ranges for per share value and information about the underlying assumptions used in developing the grant date value for each of the grants made during 2007, 2006 and 2005.

Intrinsic value for options is defined as the difference between the current market value and the grant price. Total intrinsic value of options exercised during 2007 was $5 million. With the implementation of our share repurchase program in 2006, we use shares purchased under this program to satisfy share-based exercises to the extent that repurchased shares are available. Otherwise, we issue new shares from our authorized common stock.

 

Performance Units

In general, a performance unit is an award of the right to receive (i) an equal number of shares of our common stock, which we refer to as a restricted stock unit or (ii) cash, subject to the achievement of certain pre-established performance criteria, which we refer to as a performance cash unit. Performance units are subject to certain transfer restrictions and forfeiture upon termination of employment. The dollar value of restricted stock unit awards is equal to the grant date fair value of the awards, over the requisite service period, determined pursuant to FAS 123R. The dollar value of performance cash unit awards is equal to the grant date fair value of the awards measured against progress towards the performance measure, over the requisite service period, determined pursuant to FAS 123R. No other assumptions are used to value these awards.

 

Restricted Stock Units In general, a restricted stock unit is an award that represents the opportunity to receive a specified number of shares of our common stock, subject to the achievement of certain pre-established performance criteria. In 2007, we granted to a select group a total of 127,400 restricted stock units (the 2007 restricted stock units), of which 113,700 of these units were outstanding as of December 31, 2007. These restricted stock units had a performance measurement period that ended December 31, 2007, and a performance measure related to a basic earnings per share goal. In February 2008, these restricted stock units were forfeited for failure to meet the performance criteria.

 

Performance Cash Units In general, a performance cash unit is an award that represents the opportunity to receive a cash award, subject to the achievement of certain pre-established performance criteria. In 2007, we granted performance cash awards to a select group of officers. These awards have a performance measure that is related to annual growth in basic earnings per share, plus the average dividend yield, as adjusted to reflect the effect of economic value created during the performance measurement period by our wholesale services segment. In 2007, the basic earnings per share growth target was not achieved with respect to the 2007 awards. Accruals in connection with these grants are as follows:

Stock and Restricted Stock Awards

In general, we refer to a stock award as an award of our common stock that is 100% vested and not forfeitable as of the date of grant. We refer to restricted stock as an award of our common stock that is subject to time-based vesting or achievement of performance measures. Restricted stock awards are subject to certain transfer restrictions and forfeiture upon termination of employment. The dollar value of both stock awards and restricted stock awards are equal to the grant date fair value of the awards, over the requisite service period, determined pursuant to FAS 123R. No other assumptions are used to value the awards.

 

Stock Awards — Non-Employee Directors Non-employee director compensation may be paid in shares of our common stock in connection with initial election, the annual retainer, and chair retainers, as applicable. Stock awards for non-employee directors are 100% vested and nonforfeitable as of the date of grant. The following table summarizes activity during 2007, related to stock awards for our non-employee directors.

Restricted Stock Awards — Employees From time to time, we may give restricted stock awards to our key employees. The following table summarizes activity during the year ended December 31, 2007, related to restricted stock awards for our key employees.

Employee Stock Purchase Plan

Under the ESPP, employees may purchase shares of our common stock in quarterly intervals at 85% of fair market value. Employee contributions under the ESPP may not exceed $25,000 per employee during any calendar year.

Stand-alone SARs

We recognize the intrinsic value of the SARs as compensation expense over the vesting period. Compensation expense for 2007, 2006 and 2005 was not material to our consolidated results of operations. A total of 2,761 SARs at a weighted average exercise price of $23.97 were vested and outstanding as of December 31, 2007.