Notes to Consolidated Financial Statements
Beginning in the 2005 fiscal year, the fair value of the options was estimated using a lattice option pricing model which uses the assumptions in the table below. We believe the lattice model provides a better estimated fair value of our options as it uses a range of possible outcomes over an option term and can be adjusted for changes in certain assumptions over time. Expected volatilities are based on the historical performance of our stock. We also use historical data to estimate the timing and amount of option exercises and forfeitures within the valuation model. The expected term of the options is an output of the option pricing model and estimates the period of time that options are expected to remain unexercised. The risk-free interest rate is based on the U.S. Treasury yield curve in effect at the time of grant. Prior to 2005, we valued our stock options using the Black-Scholes option pricing model. In 2006 and 2005, the Black-Scholes model would have produced a fair value that was approximately 3.5% and 15%, respectively, higher than the lattice model.
The per share weighted-average fair value of an option granted was $7.47, $7.05 and $6.79 in 2006, 2005 and 2004, respectively. These fair values were computed using the following range of assumptions for our various stock compensation plans for the years ended November 30:
| 2006 | 2005 | 2004 | |
|---|---|---|---|
| Risk-free interest rates | 4.5 - 4.7% | 2.4 - 4.2% | 3.3 - 3.8% |
| Dividend yield | 2.0% | 1.7 - 1.9% | 1.8% |
| Expected volatility | 18.2 - 25.6% | 12.4 - 20.5% | 21.75% |
| Expected lives | 5.4 years | 1.9 - 5.9 years | 5.0 - 6.0 years |
Under our stock option plans, we may issue shares on a net basis at the request of the option holder. This occurs when the option price is paid by giving already outstanding shares owned by the option holder.
A summary of our stock option activity for the years ended November 30 follows:
| (shares in millions) | 2006 | 2005 | 2004 | |||||||||||||||
|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|
| Shares | Weighted- average exercise price |
Shares | Weighted- average exercise price |
Shares | Weighted- average exercise price |
|||||||||||||
| Beginning of year |
17.5 | $ | 24.58 | 17.4 | $ | 21.81 | 17.4 | $ | 18.60 | |||||||||
| Granted | .6 | $ | 32.96 | 2.7 | $ | 37.91 | 4.1 | $ | 30.71 | |||||||||
| Exercised | (2.0 | ) | $ | 19.76 | (2.4 | ) | $ | 19.07 | (3.9 | ) | $ | 16.75 | ||||||
| Forfeited | (.3 | ) | $ | 34.25 | (.2 | ) | $ | 28.64 | (.2 | ) | $ | 24.16 | ||||||
| End of year | 15.8 | $ | 25.31 | 17.5 | $ | 24.58 | 17.4 | $ | 21.81 | |||||||||
| Exercisable – end of year |
11.3 | $ | 22.57 | 10.2 | $ | 20.47 | 8.7 | $ | 18.24 | |||||||||
As of November 30, 2006, the intrinsic value (the difference between the exercise price and the market price) for all options outstanding was $211.4 million and the intrinsic value for all options exercisable was $182.5 million. The total intrinsic value of all options exercised during the year ended November 30, 2006 was $29.7 million. A summary of our stock options outstanding and exercisable at November 30, 2006 follows:
| (shares in millions) | Options outstanding | Options exercisable | ||||||||||||||||
|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|
| Range of exercise price |
Shares | Weighted average remaining life (yrs) |
Weighted- average exercise price |
Shares | Weighted average remaining life (yrs) |
Weighted- average exercise price |
||||||||||||
| $11.00-$17.84 | 2.0 | 2.6 | $ | 13.88 | 2.0 | 2.6 | $ | 13.88 | ||||||||||
| $17.85-$24.68 | 7.1 | 5.0 | $ | 20.86 | 6.3 | 4.8 | $ | 20.70 | ||||||||||
| $24.69-$31.51 | 3.6 | 6.6 | $ | 30.54 | 2.0 | 6.1 | $ | 30.51 | ||||||||||
| $31.52-$38.35 | 3.1 | 7.5 | $ | 37.07 | 1.0 | 5.4 | $ | 37.30 | ||||||||||
| 15.8 | 5.5 | $ | 25.31 | 11.3 | 4.7 | $ | 22.57 | |||||||||||
A summary of our RSU activity for the year ended November 30, 2006 follows:
| (shares in thousands) | ||||||
|---|---|---|---|---|---|---|
| Shares | Weighted- average grant date fair value |
|||||
| Outstanding – beginning of year | – | – | ||||
| Granted | 289.6 | $ | 32.88 | |||
| Vested | (2.7 | ) | $ | 32.83 | ||
| Forfeited | (7.1 | ) | $ | 32.83 | ||
| Outstanding – end of year | 279.8 | $ | 32.88 | |||
In prior years, we applied the intrinsic value based method of accounting for stock options under APB No. 25. Accordingly, no compensation expense was recognized for these stock options since all options granted have an exercise price equal to the market value of the underlying stock on the grant date. If compensation expense had been recognized based on the estimate of the fair value of each option granted in accordance with the provisions of SFAS No. 123 and SFAS No. 148, our net income would have been reduced to the following pro forma amounts:
| (millions except per share data) | 2005 | 2004 | ||||
|---|---|---|---|---|---|---|
| Net income as reported | $ | 214.9 | $ | 214.5 | ||
| Add: stock-based compensation recorded, net of tax |
.2 | .3 | ||||
| Deduct: stock-based compensation expense, net of tax |
(14.4 | ) | (15.5 | ) | ||
| Pro forma net income | $ | 200.7 | $ | 199.3 | ||
| Earnings per common share: Basic – as reported |
$ | 1.60 | $ | 1.57 | ||
| Basic – pro forma | 1.49 | 1.45 | ||||
| Diluted – as reported | 1.56 | 1.52 | ||||
| Diluted – pro forma | 1.45 | 1.41 | ||||
Pro forma compensation expense recognized under SFAS No. 123 did not consider potential forfeitures and amortizes the compensation expense for retiree eligible individuals over the vesting period without considering the acceleration of vesting for retirement eligible employees. These computational differences and the differences in the terms and nature of 2006 stock-based compensation awards create incomparability between the pro forma stock compensation presented above and the stock compensation recognized in 2006.