LeapFrog 2006 Annual Report Download - page 147

the closing price of our common stock on the date immediately preceding the grant date, one-quarter of such
options had a strike price of $12.41, which was 133% of the closing price of our common stock on the date
immediately preceding the grant date, and the remaining one-quarter of the options has a strike price of $15.49,
which was 166% of the closing price of our common stock on the date immediately preceding the grant date.
These options also vest 25% on the first anniversary of the grant date, with the remaining in thirty-six equal
monthly installments for the three years thereafter. The graduated structure of the strike prices for the option
grants to Mr. Katz and these October 2006 option grants is intended to directly align senior executives’ interests
with the long-term interests of our stockholders and to ensure that such equity incentives are performance based
and dependent upon a long-term increase in stockholder value. Although we granted a large number of options to
our executive officers in 2006, more than half of those granted in the latter half of 2006 were granted with
exercise prices above the value of our common stock at the time of grant and the board believed such grants were
necessary in order to incentivize our executive officers, many of whom held, and still hold, underwater options.
Performance Shares. In 2004, the Compensation Committee hired an independent compensation
consultant to perform our first comprehensive review of executive compensation and, as a result, implemented a
performance share program to supplement the granting of stock options. The performance share program was
designed to provide selected executives at the level of vice president and above a performance-based, long-term
full-value share program related to three-year performance cycles. Performance shares, if vested, are received by
participants at the end of each three-year cycle and are tied to our performance against pre-established financial
measures. Performance shares were granted in relation to the three-year cycles covering 2004-2006, 2005-2007
and 2006-2008, with the total amount of shares earned by the participant based upon the achievement of the
financial measures set for each fiscal year within the three-year performance period (and for the 2004-2006 and
2005-2007, a three-year total stockholder return component as well). Since 2004, however, we have not achieved
any of the pre-established financial measures and through 2006, no performance shares have vested or been paid
out to participants.
In March 2006, the Compensation Committee approved the grant to Mr. Kalinske, Mr. Chiasson and
Mr. Dodd of 40,000, 10,000 and 10,000 performance shares, respectively, measured at target levels of achieving
the 2006-2008 program measures. In 2006, we did not meet the threshold goals for 2006 on the three annual
measures of net income, net sales and operating cash flow (adjusted for current accounts receivable), and thus the
portion of performance shares attributable to calendar year 2006 was not earned under the 2006-2008 plan cycle
(or under either the 2004 – 2006 plan cycle or the 2005 – 2007 plan cycle, for those employees that had been
granted performance shares under those prior plans).
In February 2007, the Compensation Committee discontinued the performance share program and
terminated the pending 2005-2007 plan cycle and the 2006 – 2008 plan cycle. The performance share program
was discontinued following the Compensation Committee’s full review in 2006 and 2007 of total compensation
components, which review was conducted in order to determine the optimal mix of compensation components
that would align executive performance with our long-term strategic goals. The Compensation Committee
concluded that awarding option grants to key executives with a substantial portion of the strike prices set
“out-of-the-money,” would adequately motivate executive performance without the need for additional
performance shares and the related complexity.
Restricted Stock and Restricted Stock Units (RSUs). Restricted stock and restricted stock units, or RSUs,
represent full-value shares and allow us to grant fewer shares as compared to options, in order to deliver a
competitive compensation value to our key employees and strengthen the retention power of the equity grant
program while at the same time decreasing the amount of potential dilution for all stockholders. Restricted stock
and RSU’s are first and foremost a retention vehicle, as the stock continues to have value even when the stock
price declines. In addition, restricted stock serves as a valuable attraction vehicle by offering immediate equity
value in our common stock, allowing us to recruit talented executives who might forfeit valuable equity stakes at
their current employer in order to join us. RSUs differ slightly from grants of restricted stock awards in that
shares of our common stock are not issued when an RSU is granted. Instead, once an RSU vests, one share of our
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