Fifteen of our twenty-two satellite offices, with a total of 164,000 square feet, are under leases that expire over terms through 2023 and the other offices are under a month-to-month lease. We believe that suitable space on commercially reasonable terms will be available to us as required.
Catalyst Health Solutions, Inc. is a full-service pharmacy benefit management, or PBM, company. We operate primarily under the brand name Catalyst Rx. We are built on strong, innovative principles in the management of prescription drug benefits and our client-centered philosophy contributes to our industry-leading customer service and client retention rates. Our clients include self-insured employers, including state and local governments; managed care organizations, or MCOs; unions; third-party administrators, or TPAs; hospices; and individuals who contract with us to administer the prescription drug component of their overall health benefit programs.
Our business has grown rapidly since 2000, in part due to acquisitions, with total annual PBM revenue increasing from $4.9 million in 2000 to $3.8 billion in 2010. Our business strategy is to continue to seek to expand our operations, including through making acquisitions involving new markets and complementary products, services, technologies and businesses. We strive to timely integrate our acquisitions into our financial, organizational, management and technology structure. When successfully integrated, we expect to achieve cost savings from the consolidation of certain corporate activities and the elimination of certain duplicate components of our corporate operations.
On August 25, 2010, we acquired inPharmative, Inc. for a cash payment of $16.5 million and 100,000 common stock warrants valued at approximately $1.0 million using the Black-Scholes option pricing model. inPharmative, which is based in Kansas City, MO, is a provider of rebate administration technology tools to PBMs, health plans, state Medicaid programs and group purchasing organizations.
purchase price to the net assets acquired resulted in goodwill of $12.6 million, customer relationships of $3.2 million with an estimated useful life of 12 years, technology software of $0.7 million with an estimated useful life of 3 years, and trade name intangibles of $0.5 million with an estimated useful life of 20 years. Goodwill related to this acquisition is deductible for tax purposes.
The purchase price of Total Script was largely determined on the basis of management’s expectations of future earnings and cash flows, resulting in the recognition of goodwill. Management’s allocation of the purchase price to the net assets acquired resulted in goodwill of $21.6 million and PBM customer relationship intangibles of $5.1 million with an estimated useful life of 14 years. Goodwill related to this acquisition is deductible for tax purposes.
Gross margin is calculated as revenue less direct expenses. Factors that can result in changes in gross margins include generic substitution rates, changes in the utilization of preferred drugs with higher discounts and changes in the volume of prescription dispensing at lower-cost network pharmacies. Our gross margin increased to $234.2 million for the year ended December 31, 2010 from $185.8 million for the comparable period in 2009. Gross margin as a percentage of revenue was 6.2% and 6.4% for the years ended December 31, 2010 and 2009, respectively. In 2010, gross margin percentages were slightly reduced by the impact of the addition of several recent new large contracts and renewals, including the Michigan Public School Employees Retirement System and the State of Louisiana. These decreases were somewhat offset by gross margin improvements resulting from an increased level of generic substitution and higher network discount rates.
Selling, General and Administrative. For the year ended December 31, 2010, selling, general and administrative expenses increased by $20.7 million over the prior year to $101.7 million, or 2.8% of operating expenses. For the year ended December 31, 2009, selling, general and administrative expenses was $81.0 million, or 2.9% of total 2009 operating expenses. The increase in selling, general and administrative expenses was primarily associated with our growth and the associated personnel, facility and vendor costs to serve and implement new clients, as well as incremental selling, general and administrative costs related to pursuing potential acquisitions.
Selling, general and administrative expenses of $101.7 million for the year ended December 31, 2010, consisted of $50.0 million in compensation and benefits, which includes $5.5 million in non-cash compensation, $14.2 million in professional fees, which includes transaction related costs, $10.3 million in facility costs, $5.6 million in travel expenses, $3.4 million in insurance and other corporate expenses, $1.6 million in non-employee non-cash compensation expense, $4.6 million in other, which includes $1.1 million in recruitment and temporary help, and $12.0 million in depreciation and amortization.
Direct Expenses. Direct expenses for the years ended December 31, 2009 and 2008 were approximately $2.7 billion and $2.4 billion, respectively. Direct expenses increased by $0.3 billion over the comparable period in 2008 primarily related to the $0.4 billion increase in revenue. Direct expenses for 2009 and 2008 represented 97.1% and 97.3% of total operating expenses for the respective periods.
Gross margin as a percentage of revenue was 6.4% and 5.6% for the years ended December 31, 2009 and 2008, respectively. In 2009, we experienced gross margin improvements resulting from our mail service pharmacy operations, higher generic utilization, contribution of performance management fees, enhanced drug manufacturer rebates, improved pharmacy reimbursement rates and higher formulary compliance.
Interest and Other Income. Interest and other income decreased to $0.8 million for the year ended December 31, 2009 from $4.5 million for the year ended December 31, 2008. The decrease was primarily due to a reduction in average market interest rates on our short-term investments.
Interest Expense. Interest expense increased to $0.6 million for the year ended December 31, 2009 from $0.3 million in the comparable period in 2008. The increase in interest expense was primarily attributable to the expense associated with the accretion of the liability related to our First Rx Specialty and Mail Services, LLC arrangement.
Income Tax Expense. The effective income tax rates of 37.9% in 2009 and 36.7% in 2008 represent the combined federal and state income tax rates adjusted as necessary based on the particular jurisdictions where we operate. The effective tax rate in 2009 was higher than in 2008 primarily due to an increase in our overall state effective income tax rates.
On August 4, 2010, we entered into new senior credit facilities consisting of a revolving credit facility and term loan facility. The term loan facility has a principal amount of $150.0 million. Our revolving credit facility has a principal amount of $200.0 million. Each of our revolving credit facility and our term loan facility matures on August 4, 2015. In addition to the revolving credit facility and term loan facility, our new senior credit facilities permit us to incur up to $100.0 million in total principal amount of additional term loan or revolving loan indebtedness under the senior credit facilities. Our obligations under our new senior credit facilities are fully and unconditionally guaranteed jointly and severally by us and certain of our U.S. subsidiaries currently existing or that we may create or acquire, with certain exceptions as set forth in our credit agreement, pursuant to the terms of a separate guarantee and collateral agreement. There was no outstanding balance under the revolving credit facility at December 31, 2010.
The term loan facility amortizes in nominal quarterly installments of $1.875 million on the last day of each calendar quarter, commencing on December 31, 2010 until maturity, whereby the final installment of the term loan facility will be paid on the maturity date in an amount equal to the aggregate unpaid principal amount. We anticipate repaying this term loan facility through our operating cash flows.
As previously disclosed, we were exploring and pursuing alternatives for obtaining relief from the unanticipated temporary illiquidity of our auction rate securities (“ARS”) holdings, including seeking relief from entities involved in investing our funds in ARS. As a part of these efforts, on February 23, 2009, we brought an arbitration claim before the Financial Industry Regulatory Authority (“FINRA”) against Credit Suisse Securities (USA), LLC (“Credit Suisse”) seeking rescission, restitution and damages for Credit Suisse’s conduct in connection with our investment account with Credit Suisse. On May 27, 2010, the arbitration panel ruled in our favor, finding Credit Suisse liable and requiring Credit Suisse to pay us $9.75 million, representing the par value of the remaining outstanding ARS in our Credit Suisse investment account on the date of the ruling. These ARS in our Credit Suisse investment account were transferred to Credit Suisse.
We currently have remaining $0.6 million at par value in investments related to ARS. Although we continue to receive timely interest payments, our ARS investments currently lack short-term liquidity and are therefore classified as non-current on our balance sheet. For each of our ARS, we evaluate the risks related to the structure, collateral and liquidity and estimate the fair value of the securities using a discounted cash flow model based on (a) the underlying structure of each security; (b) the present value of future principal and interest payments discounted at rates considered to reflect current market conditions; and (c) considerations of the probabilities of redemption or auction success for each period. Based on the results of these assessments, we recorded temporary impairment charges in accumulated other comprehensive income of $48 thousand through December 31, 2010 to reduce the value of our ARS classified as available-for-sale securities.
impaired. As of December 31, 2010, based on our evaluation of cash flows expected to be recovered from these securities, we determined there was no credit loss related to our ARS and, accordingly, no impairment losses have been recognized through earnings in 2010.
In connection with First Rx Specialty and Mail Services, LLC, an entity we formed in December 2008, we received $8.0 million in cash through December 31, 2010. As a part of this arrangement, we are also recognizing expense associated with the accretion of the liability to its ultimate redemption value of $9.0 million. We have a contractual obligation to redeem the total amount in cash in the year 2013. This obligation is included in other current liabilities in our consolidated balance sheet at December 31, 2010, because unilateral contract termination rights are exercisable beginning on December 1, 2011 and may require us to satisfy the obligation on demand.
Net Cash Used in Investing Activities. Net cash used in investing activities for the year ended December 31, 2010 was $240.3 million, compared to $21.5 million in 2009. The cash used in 2010 reflects expenditures of $239.9 million for business acquisitions, net of cash acquired, and $12.3 million in capital expenditures offset by investment sales of $11.9 million.
Net cash used in investing activities for the year ended December 31, 2009 was $21.5 million, compared to $120.3 million in 2008. The cash used in 2009 reflects $11.4 million in business acquisitions and related payments and $10.0 million in capital expenditures (net of proceeds from sale of property and equipment of $0.5 million) and other net investing activities of $0.1 million.
Net Cash Provided by Financing Activities. Net cash provided by financing activities for the year ended December 31, 2010 was $148.4 million compared to $6.4 million in 2009. In 2010, we received $150.0 million in
proceeds from a term loan, $3.6 million from the exercise of stock options, $0.3 million in proceeds from issuance of common stock pursuant to our employee stock purchase plan and had an income tax benefit of $6.0 million related to the exercise of stock options and restricted stock vesting. Additionally, we purchased $2.6 million of treasury stock during 2010, incurred $3.8 million in deferred financing cost related to our new credit facilities, made a repayment of $1.9 million on our term loan, and made a $3.2 million contingent consideration payment.
Net cash provided by financing activities for the year ended December 31, 2008 was $15.7 million compared to $14.0 million in 2007. In 2008, we purchased $1.8 million of treasury stock, received proceeds of $4.6 million from the exercise of options and $0.4 million in proceeds from issuance of common stock pursuant to the employee stock purchase plan. In addition, we received an income tax payable benefit of $5.5 million from the exercise of stock options and restricted stock vesting and cash of $7.0 million related to the formation of First Rx Specialty and Mail Services, LLC.
We anticipate continuing to generate positive operating cash flow which, combined with available cash resources, should be sufficient to meet our planned working capital, debt service, capital expenditures and operating expenses. However, there can be no assurance that we will not require additional capital. Even if such funds are not required, we may seek additional equity or debt financing, particularly to fund future acquisitions. We cannot be assured that such financing will be available on acceptable terms, if at all, or that such financing will not be dilutive to our stockholders.
(2) In connection with First Rx Specialty and Mail Services, LLC, an entity we formed in December 2008, we received $8.0 million in cash through December 31, 2010. As a part of this arrangement, we are also recognizing expense associated with the accretion of the liability to its ultimate redemption value of $9.0 million. We have a contractual obligation to redeem the total amount in cash in the year 2013. This obligation is included in other current liabilities in our consolidated balance sheet at December 31, 2010, because unilateral contract termination rights are exercisable beginning on December 1, 2011 and may require us to satisfy the obligation on demand.
At December 31, 2010, we had available a $200.0 million revolving credit facility with no outstanding borrowings. For additional information regarding our credit facility, deferred income taxes, and operating leases, see Notes 8, 9 and 12, respectively, of our consolidated financial statements.
We recognize revenues from services provided to our clients for sales of prescription drugs either by pharmacies in our nationwide network or through our mail order facilities, and related claims processing fees. Revenue is recognized when the claims are adjudicated. Pharmacy claims are adjudicated at the point-of-sale using an on-line claims processing system. When we have a contractual obligation to pay a network pharmacy provider for benefits provided to our clients’ members, total payments from these clients, including administration and other fees, are recorded as revenue and payments to the network pharmacy provider, and the claim adjudication service costs are recorded as direct expenses. Generally, these contracts require us to assume the credit risk of our clients’ abilities to pay. When we administer pharmacy reimbursement contracts and do not assume credit risk, we record only the net revenue and the administrative or processing fees. Rebates earned under arrangements with manufacturers or third party intermediaries are predominately recorded as a reduction to direct expenses. The portion of such rebates due to our clients is recorded as a reduction of revenue. Manufacturers’ or third party intermediary rebates are based on estimates, which are subject to final settlement with the contracted party. We refine our estimates each period based on actual collection and payment experiences.
The Company estimates its rebates receivable and rebates payable based on the number and type of claims submitted, the rebate program terms with its clients, the Company’s rebate contracts with pharmaceutical manufacturers and third party intermediaries, and other information that may be available. The amount of rebates actually received by the Company, and rebates paid to its clients, is impacted by a variety of factors, including the validation of claims data submitted by the Company and differences between estimated and actual rebatable products. As a result, the Company’s actual experience relative to rebates received by the Company, and rebates paid to its clients, may result in adjustments to the estimates made in prior periods.
During 2010, the Company adjusted its prior estimates related to rebates receivable and rebates payable by $4.8 million and $3.5 million, respectively. The impact of adjustments in rebates receivable and rebates payable estimates for the years ended December 31, 2009 and 2008 were not material. Future adjustments to the amounts of rebates receivable and rebates payable outstanding are possible and the impact, although not expected to be, could be material.
Our goodwill is not amortized, but is tested for impairment at least annually. We performed our annual goodwill impairment testing at December 31, 2010 and concluded that no goodwill impairment exists because the fair values of our reporting units are substantially in excess of their carrying values.
Our deferred income taxes are determined based on the estimated future tax effects of differences between the financial statement and tax bases of assets and liabilities given the provisions of enacted tax laws. Deferred income tax provisions and benefits are based on changes to the assets or liabilities from year to year. In providing for deferred taxes, we consider tax regulations of the jurisdictions in which we operate, estimates of future taxable income, and available tax planning strategies. If tax regulations, operating results or the ability to implement tax-planning strategies vary, adjustments to the carrying value of deferred tax assets and liabilities may be required. Valuation allowances, if any, are recorded related to deferred tax assets based on the “more-likely-than-not” criteria.
In June 2009, the FASB issued guidance that changed the consolidation model for variable interest entities (“VIEs”). This guidance requires companies to qualitatively assess the determination of the primary beneficiary of a VIE based on whether a company (1) has the power to direct matters that most significantly impact the activities of the VIE and (2) has the obligation to absorb losses or the right to receive benefits of the VIE that could potentially be significant to the VIE. This standard is effective at the beginning of our 2010 fiscal year. The adoption of the standard did not have an impact on our financial position, results of operations or cash flows.