Quest Diagnostics 2006 Annual Report Download - page 113

outlined above for the ELTIP. Certain options granted under the 1999 EEPP and the 1996 EEPP remain
outstanding.
The ELTIP increased the maximum number of shares of Quest Diagnostics common stock that may be
optioned or granted to 48 million shares. In addition, any remaining shares under the 1996 EEPP are available
for issuance under the ELTIP.
In 2005, the Company established the Amended and Restated Director Long-Term Incentive Plan (the
“DLTIP”), to replace the Company’s prior plan established in 1998. The DLTIP provides for the grant to non-
employee directors of non-qualified stock options to purchase shares of Quest Diagnostics common stock at no
less than the fair market value on the date of grant and incentive stock awards. The incentive stock awards are
generally earned on achievement of certain performance goals specified in the awards. The maximum number of
shares that may be issued under the DLTIP is 2 million shares. The stock options expire seven years from date
of grant and generally become exercisable in three equal annual installments beginning on the first anniversary
date of the grant of the option regardless of whether the optionee remains a director of the Company. During
2006, 2005 and 2004, grants under the DLTIP totaled 95, 110 and 180 thousand shares, respectively.
In general, the Company’s practice has been to issue shares related to its stock-based compensation program
from shares of its common stock held in treasury. See Note 11 for further information regarding the Company’s
share repurchase program.
The fair value of each option granted prior to January 1, 2005 was estimated on the date of grant using the
Black-Scholes option-pricing model. The fair value of each stock option award granted subsequent to January 1,
2005 was estimated on the date of grant using a lattice-based option valuation model. Management believes a
lattice-based option valuation model provides a more accurate measure of fair value. The expected volatility in
connection with the Black-Scholes option-pricing model was based on the historical volatility of the Company’s
stock, while the expected volatility under the lattice-based option-valuation model was based on the current and
the historical implied volatilities from traded options of the Company’s stock. The dividend yield was based on
the approved annual dividend rate in effect and current market price of the underlying common stock at the time
of grant. The risk-free interest rate of each option granted prior to January 1, 2005 was estimated using the time
applicable U.S. Treasury rate in effect at the time of grant. The risk-free interest rate of each stock option
granted subsequent to January 1, 2005 was based on the U.S. Treasury yield curve in effect at the time of grant
for bonds with maturities ranging from one month to seven years. The expected holding period of the options
granted was estimated using the historical exercise behavior of employees. The weighted average assumptions
used in valuing options granted in the periods presented are:
2006 2005 2004
Weighted average fair value of options at grant date. . . ....... $13.91 $14.17 $17.23
Expected volatility .......................................... 18.2% 23.0% 47.2%
Dividend yield . . . ........................................... 0.7% 0.7% 0.7%
Risk-free interest rate ....................................... 4.6% 3.9% - 4.0% 2.8% - 4.0%
Expected holding period, in years. . . ......................... 5.6 - 6.2 5.4 - 5.9 5.0
The fair value of restricted stock awards and performance share units is the average market price of the
Company’s common stock at the date of grant.
F-26
QUEST DIAGNOSTICS INCORPORATED AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - CONTINUED
(dollars in thousands unless otherwise indicated)