8-K

UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

WASHINGTON, DC 20549

FORM 8-K

CURRENT REPORT PURSUANT
TO SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934

Date of report (Date of earliest event reported): November 13, 2009

Psychiatric Solutions, Inc.

(Exact Name of Registrant as Specified in Its Charter)

Delaware	0-20488	23-2491707
(State or Other Jurisdiction of Incorporation)	(Commission File Number)	(IRS Employer Identification No.)

6640 Carothers Parkway, Suite 500, Franklin, Tennessee 37067
(Address of Principal Executive Offices)

(615) 312-5700
(Registrant’s Telephone Number, including Area Code)

Not Applicable
(Former Name or Former Address, if Changed Since Last Report)

Check the appropriate box below if the Form 8-K filing is intended to simultaneously satisfy the filing obligation of the registrant under any of the following provisions (See General Instruction A.2. below):

o Written communications pursuant to Rule 425 under the Securities Act (17 CFR 230.425)

o Soliciting material pursuant to Rule 14a-12 under the Exchange Act (17 CFR 240.14a-12)

o Pre-commencement communications pursuant to Rule 14d-2(b) under the Exchange Act (17 CFR 240.14d-2(b))

o Pre-commencement communications pursuant to Rule 13e-4(c) under the Exchange Act (17 CFR 240.13e-4(c))

TABLE OF CONTENTS

EX-23.1

EX-99.1

EX-99.2

EX-99.3

Item 8.01. Other Events.

     Psychiatric Solutions, Inc. (the “Company”) is re-issuing in an updated format its historical financial statements in connection with the Financial Accounting Standards Board (“FASB”) Accounting Standards Codification (“ASC”) 205-20, “Discontinued Operations” (“ASC 205-20”). Generally accepted accounting principles require that all components of an entity that have been disposed of (by sale, by abandonment or in a distribution to owners) or are held for sale, and whose cash flows can be clearly distinguished from the rest of the entity, be presented as discontinued operations. During the nine month period ended September 30, 2009, the Company entered into a definitive agreement to sell its employee assistance program business, elected to make The Oaks Treatment Center and Nashville Rehabilitation Hospital available for sale and terminated one contract with a South Carolina juvenile justice agency. In compliance with ASC 205-20, the Company has reported the results of such operations, net of applicable income taxes, as discontinued operations for each period presented in its Quarterly Report on Form 10-Q for the three months and nine months ended September 30, 2009 (including the comparable periods of the prior year). Under Securities and Exchange Commission (“SEC”) requirements, the same reclassification to discontinued operations that is required by ASC 205-20 is also required for previously issued financial statements for each of the three years shown in the Company’s last Annual Report on Form 10-K, if those financial statements are incorporated by reference in subsequent filings with the SEC made under the Securities Act of 1933, as amended, even though those financial statements relate to periods prior to the date the operations were exited or made available for sale. This reclassification has no effect on the Company’s reported net income attributable to common stockholders and should not be read as a restatement of the Company’s Annual Report on Form 10-K for the year ended December 31, 2008 (the “2008 Form 10-K”).

     This Current Report on Form 8-K updates Items 6, 7 and 8 of the 2008 Form 10-K to reflect certain operations that met applicable reporting criteria during the nine month period ended September 30, 2009 as discontinued operations. The re-issued consolidated financial statements also include revised Note 1 explaining the reclassification of noncontrolling interests in accordance with ASC 810-10-45. All items of the 2008 Form 10-K not reissued with this Form 8-K remain unchanged. No attempt has been made to update matters in the 2008 Form 10-K except to the extent expressly provided above.

     The attached information should be read together with the Company’s filings with the SEC subsequent to the Company’s filing of the 2008 Form 10-K, which was filed on February 25, 2009, including its Quarterly Reports on Form 10-Q for the quarterly periods ended March 31, 2009, June 30, 2009 and September 30, 2009.

Item 9.01. Financial Statements and Exhibits.

     (d) Exhibits:

23.1	Consent of Independent Registered Public Accounting Firm
99.1	Re-issued 2008 Form 10-K, Item 6. — Selected Financial Data
99.2	Re-issued 2008 Form 10-K, Item 7. — Management’s Discussion and Analysis of Financial Condition and Results of Operations
99.3	Re-issued 2008 Form 10-K, Item 8. — Financial Statements and Supplementary Data

SIGNATURES

     Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned hereunto duly authorized.

	PSYCHIATRIC SOLUTIONS, INC.
Date: November 13, 2009	By:	/s/ Jack E. Polson
		Jack E. Polson
		Executive Vice President, Chief Accounting Officer

INDEX TO EXHIBITS

Exhibit Number	Description of Exhibits
23.1	Consent of Independent Registered Public Accounting Firm
99.1	Re-issued 2008 Form 10-K, Item 6. — Selected Financial Data
99.2	Re-issued 2008 Form 10-K, Item 7. — Management’s Discussion and Analysis of Financial Condition and Results of Operations
99.3	Re-issued 2008 Form 10-K, Item 8. — Financial Statements and Supplementary Data

EX-23.1

Exhibit 23.1

CONSENT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM

We consent to the incorporation by reference in the following Registration Statements:

(i)	Registration Statement (Form S-8, No. 333-100635) pertaining to the Psychiatric Solutions, Inc. 1997 Incentive and Nonqualified Stock Option Plan for Key Personnel of Psychiatric Solutions, Inc.;
(ii)	Registration Statement (Form S-8, No. 333-94983) pertaining to the 1997 Equity Incentive Plan of PMR Corporation;
(iii)	Registration Statement (Form S-8, No. 333-38419) pertaining to the 1997 Equity Incentive Plan, 1995 Warrant Grant and the 1996 Stock Option Grants of PMR Corporation;
(iv)	Registration Statement (Form S-8, No. 333-118529) pertaining to the Amended and Restated Psychiatric Solutions, Inc. Equity Incentive Plan and the Amended and Restated Outside Directors’ Non-Qualified Stock Option Plan;
(v)	Registration Statement (Form S-3, No. 333-139013) of Psychiatric Solutions, Inc.;
(vi)	Registration Statement (Form S-8, No. 333-128047) pertaining to the Amended and Restated Psychiatric Solutions, Inc. Equity Incentive Plan;
(vii)	Registration Statement (Form S-8, No. 333-136339) pertaining to the Amended and Restated Psychiatric Solutions, Inc. Equity Incentive Plan; and
(viii)	Registration Statement (Form S-8, No. 333-158957) pertaining to the Amended and Restated Psychiatric Solutions, Inc. Equity Incentive Plan;

of our report dated February 25, 2009, except for Note 1 (paragraphs 5, 26 and 30) and Note 4, as to which the date is November 13, 2009, with respect to the consolidated financial statements of Psychiatric Solutions, Inc., and our report dated February 25, 2009, with respect to the effectiveness of internal control over financial reporting of Psychiatric Solutions, Inc. for the year ended December 31, 2008, included in this current report on Form 8-K.

/s/ Ernst & Young LLP

Nashville, Tennessee
November 13, 2009

EX-99.1

Exhibit 99.1

Item 6. Selected Financial Data.

     The selected financial data presented below for the years ended December 31, 2008, 2007 and 2006, and at December 31, 2008 and 2007, are derived from our audited consolidated financial statements included elsewhere in this Annual Report on Form 10-K. The selected financial data for the years ended December 31, 2005 and 2004, and at December 31, 2006, 2005 and 2004, are derived from our audited consolidated financial statements not included herein. The audited consolidated financial statements for the years ended December 31, 2005 and 2004 and at December 31, 2006, 2005 and 2004 have been reclassified for discontinued operations. The selected financial data presented below should be read in conjunction with “Management’s Discussion and Analysis of Financial Condition and Results of Operations” and with our consolidated financial statements and notes thereto included elsewhere in this Annual Report on Form 10-K.

Psychiatric Solutions, Inc.
Selected Financial Data
As of and for the Years Ended December 31,

	2008		2007		2006		2005		2004
	(In thousands, except per share amounts)
Income Statement Data:
Revenue	$	1,703,865	$	1,424,031	$	992,484	$	689,408	$	447,391
Costs and expenses:
Salaries, wages and employee benefits		944,389		793,845		560,266		377,762		240,768
Other operating expenses		441,361		368,210		255,425		193,851		134,921
Provision for doubtful accounts		34,387		27,353		19,366		13,678		10,295
Depreciation and amortization		39,054		30,306		20,015		14,335		9,414
Interest expense		76,210		74,116		39,968		26,169		17,817
Other expenses		—		8,179		—		21,871		6,407
Total costs and expenses		1,535,401		1,302,009		895,040		647,666		419,622
Income from continuing operations before income taxes		168,464		122,022		97,444		41,742		27,769
Provision for income taxes		63,887		46,053		36,785		16,080		10,553
Income from continuing operations	$	104,577	$	75,969	$	60,659	$	25,662	$	17,216
Net income attributable to PSI stockholders	$	104,953	$	76,208	$	60,632	$	27,154	$	16,138
Basic earnings per share from continuing operations attributable to PSI stockholders	$	1.88	$	1.39	$	1.15	$	0.57	$	0.57
Basic earnings per share attributable to PSI stockholders	$	1.89	$	1.40	$	1.15	$	0.61	$	0.55
Shares used in computing basic earnings per share		55,408		54,258		52,953		44,792		29,140
Diluted earnings per share from continuing operations attributable to PSI stockholders	$	1.85	$	1.36	$	1.12	$	0.55	$	0.49
Diluted earnings per share attributable to PSI stockholders	$	1.87	$	1.37	$	1.12	$	0.59	$	0.48
Shares used in computing diluted earnings per share		56,267		55,447		54,169		46,296		35,146

     See Management’s Discussion and Analysis of Financial Condition and Results of Operations and Notes to Consolidated Financial Statements describing the reclassification from continuing operations to discontinued operations of the sale of our EAP business, the decision to make The Oaks Treatment Center and Nashville Rehabilitation Hospital available for sale, and the termination of one contract with a South Carolina juvenile justice agency. During 2008, we elected to sell one facility. Additionally, two contracts with a juvenile justice agency in Puerto Rico to manage inpatient facilities were terminated in 2008. During 2007, we elected to dispose of one facility. During 2006, we terminated three of our contracts to manage state-owned inpatient facilities and sold a therapeutic boarding school. These operations have been reclassified from continuing operations to discontinued operations.

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Psychiatric Solutions, Inc.
Selected Financial Data (continued)
As of and for the Years Ended December 31,

	2008		2007		2006		2005		2004
	(In thousands, except operating data)
Balance Sheet Data:
Cash	$	51,271	$	39,970	$	18,520	$	54,533	$	33,228
Working capital		245,377		157,555		103,287		138,843		44,791
Property and equipment, net		825,144		682,340		529,725		368,977		208,705
Total assets		2,505,990		2,179,504		1,581,746		1,176,131		498,342
Total debt		1,314,420		1,172,024		743,307		482,389		174,336
Stockholders’ equity		889,885		754,742		627,779		539,712		244,515
Operating Data:
Number of facilities at period end		91		86		70		54		33
Number of licensed beds		10,584		9,995		8,178		6,396		4,302
Admissions		163,968		138,835		106,489		76,795		49,165
Patient days		2,763,723		2,424,608		1,877,233		1,413,231		1,018,751
Average length of stay		17		17		18		18		21

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EX-99.2

Exhibit 99.2

Item 7. Management’s Discussion and Analysis of Financial Condition and Results of Operations.

     The following discussion and analysis should be read in conjunction with the selected financial data and the accompanying consolidated financial statements and related notes thereto included in this Annual Report on Form 10-K.

Overview

     Our business strategy is to acquire inpatient behavioral health care facilities and improve operating results within new and existing inpatient facilities and our other behavioral health care operations. From 2001 to 2004, we acquired 34 inpatient behavioral health care facilities. During 2005, we acquired 20 inpatient behavioral health care facilities in the acquisition of Ardent Health Services, Inc. and one other inpatient facility. During 2006, we acquired 19 inpatient behavioral health care facilities, including nine inpatient facilities with the acquisition of the capital stock of Alternative Behavioral Services, Inc. (“ABS”) on December 1, 2006. During 2007, we acquired 16 inpatient behavioral health care facilities, including 15 inpatient facilities in the acquisition of Horizon Health Corporation (“Horizon Health”). During 2008, we acquired five inpatient behavioral health care facilities from UMC and opened Lincoln Prairie Behavioral Health Center, a 120-bed inpatient facility in Springfield, Illinois. In January 2009, we opened Rolling Hills Hospital, an 80-bed inpatient facility in Franklin, Tennessee.

     We strive to improve the operating results of new and existing inpatient behavioral health care operations by providing the highest quality service, expanding referral networks and marketing initiatives and meeting increased demand for behavioral health care services by expanding our services and developing new services. We also attempt to improve operating results by maintaining appropriate staffing ratios, controlling contract labor costs and reducing supply costs through group purchasing. Our same-facility revenue from owned and leased inpatient facilities increased 8.3% for the year ended December 31, 2008 compared to the year ended December 31, 2007. Same-facility growth in 2008 was primarily the result of increases in patient days and revenue per patient day of 2.8% and 5.3%, respectively. Same-facility growth refers to the comparison of each inpatient facility owned during 2007 with the comparable period in 2008, adjusted for closures and combinations for comparability purposes.

     Income from continuing operations before income taxes increased to $168.5 million, or 9.9% of revenue, in 2008 as compared to $122.0 million, or 8.6% of revenue, in 2007. Operating results for 2007 include an $8.2 million loss on the refinancing of long-term debt. Excluding this refinancing loss, income from continuing operations for 2007 was $130.2 million, or 9.1% of revenue. The $38.3 million increase in income from continuing operations before income taxes and the refinancing loss in 2008 compared to 2007 was primarily the result of the following:

• operating results from the May 31, 2007 acquisition of Horizon Health and the March 1, 2008 acquisition of five behavioral health care facilities from UMC;

• same-facility growth at our behavioral health care facilities in patient days of 2.8% and revenue per patient day of 5.3%; and

• a reduction in interest expense as a percentage of revenue to 4.5% in 2008 compared to 5.2% in 2007 due primarily to a decrease in our overall effective interest rate.

     Our operating results for 2008 as compared to 2007 were negatively impacted by the following items:

• one of our behavioral health care hospitals in Chicago experienced a decline in operating results in 2008 as compared to 2007 primarily due to hold a on admissions placed on this facility by the Illinois Department of Children and Family Services and costs of professional services related to the United States Department of Justice investigation;

• our self-insured reserves for general and professional liability risks increased approximately $4.9 million at December 31, 2008 compared to December 31, 2007, primarily as a result of the revised assessment of certain claims at amounts higher than originally anticipated and the actuarial implications of such revisions; and

• an increase in share-based compensation expense of $3.8 million.

Sources of Revenue

Patient Service Revenue

     Patient service revenue is generated by our inpatient facilities for services provided to patients on an inpatient and outpatient basis within the inpatient behavioral health care facility setting. Patient service revenue is recorded at our established billing rates less contractual adjustments. Contractual adjustments are recorded to state our patient service revenue at the amount we expect to collect for the services provided based on amounts reimbursable by Medicare or Medicaid under provisions of cost or prospective reimbursement formulas or amounts due from other third-party payors at contractually determined rates. Patient service revenue comprised approximately 92.7% of our total revenue in 2008.

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Other Revenue

     Other behavioral health care services accounted for 7.3% of our revenue for the year ended December 31, 2008. This portion of our business primarily consists of our contract management business and a managed care plan in Puerto Rico. Our contract management business involves the development, organization and management of behavioral health care programs within medical/surgical hospitals. Services provided are recorded as revenue at contractually determined rates in the period the services are rendered, provided that collectability of such amounts is reasonably assured.

Results of Operations

     The following table illustrates our consolidated results of operations from continuing operations for the years ended December 31, 2008, 2007 and 2006 (dollars in thousands):

	Results of Operations, Consolidated Psychiatric Solutions
	For the Year Ended December 31,
	2008						2007						2006
	Amount			%			Amount			%			Amount		%
Revenue	$	1,703,865			100.0	%	$	1,424,031			100.0	%	$	992,484		100.0	%
Salaries, wages, and employee benefits (including share-based compensation of $19,913, $16,104 and $12,535 in 2008, 2007 and 2006, respectively)		944,389			55.4	%		793,845			55.8	%		560,266		56.5	%
Professional fees		163,708			9.6	%		137,040			9.6	%		93,747		9.4	%
Supplies		92,960			5.5	%		78,395			5.5	%		56,216		5.7	%
Provision for doubtful accounts		34,387			2.0	%		27,353			1.9	%		19,366		2.0	%
Other operating expenses		184,693			10.8	%		152,775			10.7	%		105,462		10.6	%
Depreciation and amortization		39,054			2.3	%		30,306			2.1	%		20,015		2.0	%
Interest expense, net		76,210			4.5	%		74,116			5.2	%		39,968		4.0	%
Other expenses:
Loss on refinancing long-term debt		—			0.0	%		8,179			0.6	%		—		0.0	%
Income from continuing operations before income taxes		168,464			9.9	%		122,022			8.6	%		97,444		9.8	%
Provision for income taxes		63,887			3.8	%		46,053			3.3	%		36,785		3.7	%
Income from continuing operations		104,577			6.1	%		75,969			5.3	%		60,659		6.1	%
Less: Net income attributable to noncontrolling interest		(604	)		0.0	%		(285	)		0.0	%		—		0.0	%
Income from continuing operations attributable to PSI stockholders	$	103,973			6.1	%	$	75,684			5.3	%	$	60,659		6.1	%
Option expense		19,913			1.2	%		16,104			1.1	%		12,535		1.3	%
SWB absent option expense		924,476			54.3	%		777,741			54.6	%		547,731		55.2	%

Year Ended December 31, 2008 Compared To Year Ended December 31, 2007

     The following table compares key total facility statistics and same-facility statistics for 2008 and 2007 for owned and leased inpatient facilities:

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	Year Ended December 31,				%
	2008		2007		Change
Total facility results:
Revenue (in thousands)	$	1,578,890	$	1,323,534		19.3	%
Number of facilities at period end		91		86		5.8	%
Admissions		163,968		138,835		18.1	%
Patient days		2,763,723		2,424,608		14.0	%
Average length of stay		16.9		17.5		-3.4	%
Revenue per patient day	$	571	$	546		4.6	%
Same-facility results:
Revenue (in thousands)	$	1,427,652	$	1,318,784		8.3	%
Number of facilities at period end		86		86		0.0	%
Admissions		144,915		138,211		4.9	%
Patient days		2,486,357		2,418,052		2.8	%
Average length of stay		17.2		17.5		-1.7	%
Revenue per patient day	$	574	$	545		5.3	%

     Revenue. Revenue from continuing operations increased $279.8 million, or 19.7%, to $1.7 billion for the year ended December 31, 2008 compared to the year ended December 31, 2007. Revenue from owned and leased inpatient facilities increased $255.4 million, or 19.3%, to $1.6 billion in 2008 compared to 2007. The increase in revenue from owned and leased inpatient facilities relates primarily to the acquisitions of Horizon Health in 2007 and five inpatient facilities from UMC in 2008. The remainder of the increase in revenue from owned and leased inpatient facilities is primarily attributable to same-facility growth in patient days of 2.8% and revenue per patient day of 5.3%. Other revenue was $125.0 million in 2008 compared to $100.5 million in 2007, an increase of $24.5 million, resulting primarily from the management contract business purchased in the Horizon Health acquisition.

     Salaries, wages, and employee benefits. Salaries, wages and employee benefits (“SWB”) expense was $944.4 million in 2008 compared to $793.8 million in 2007, an increase of $150.6 million, or 19.0%. SWB expense includes $19.9 million and $16.1 million of shared-based compensation expense for the years ended December 31, 2008 and 2007, respectively. Based on our stock option and restricted stock grants outstanding at December 31, 2008, we estimate remaining unrecognized share-based compensation expense to be approximately $43.6 million with a weighted-average remaining amortization period of 2.6 years. Excluding share-based compensation expense, SWB expense was $924.5 million, or 54.3% of total revenue, in 2008 compared to $777.7 million, or 54.6% of total revenue, in 2007. SWB expense for owned and leased inpatient facilities was $849.1 million in 2008, or 53.8% of revenue. Same-facility SWB expense for owned and leased inpatient facilities was $765.4 million in 2008, or 53.6% of revenue, compared to $713.9 million in 2007, or 54.1% of revenue. SWB expense for other operations was $49.0 million in 2008 compared to $35.1 million in 2007. The increase in SWB expense from other operations is primarily the result of the management contract business purchased in the Horizon Health acquisition. SWB expense for our corporate office was $46.4 million, including $19.9 million in share-based compensation, for 2008 compared to $41.5 million, including $16.1 million in shared-based compensation, for 2007.

     Professional fees. Professional fees were $163.7 million in 2008, or 9.6% of total revenue, compared to $137.0 million in 2007, or 9.6% of total revenue. Professional fees for owned and leased inpatient facilities were $144.2 million in 2008, or 9.1% of revenue. Same-facility professional fees for owned and leased inpatient facilities were $129.4 million in 2008, or 9.1% of revenue, compared to $122.0 million in 2007, or 9.3% of revenue. Professional fees for other operations and our corporate office increased to $19.5 million in 2008 compared to $14.2 million in 2007, primarily due to the other operations acquired in the Horizon Health acquisition.

     Supplies. Supplies expense was $93.0 million in 2008, or 5.5% of total revenue, compared to $78.4 million in 2007, or 5.5% of total revenue. Supplies expense for owned and leased inpatient facilities was $92.2 million in 2008, or 5.8% of revenue. Same-facility supplies expense for owned and leased inpatient facilities was $81.8 million in 2008, or 5.7% of revenue, compared to $77.3 million in 2007, or 5.9% of revenue. Supplies expense for other operations as well as our corporate office consisted primarily of office supplies and is negligible to our supplies expense overall.

     Provision for doubtful accounts. The provision for doubtful accounts was $34.4 million in 2008, or 2.0% of total revenue, compared to $27.4 million in 2007, or 1.9% of total revenue. The provision for doubtful accounts at owned and leased inpatient facilities comprised substantially all of our provision for doubtful accounts.

     Other operating expenses. Other operating expenses consist primarily of rent, utilities, insurance, travel, and repairs and maintenance expenses. Other operating expenses were $184.7 million in 2008, or 10.8% of total revenue, compared to $152.8 million in 2007, or 10.7% of total revenue. Other operating expenses for owned and leased inpatient facilities were $133.1 million in 2008, or

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8.4% of revenue. Same-facility other operating expenses for owned and leased inpatient facilities were $119.3 million in 2008, or 8.4% of revenue, compared to $105.4 million in 2007, or 8.0% of revenue. The increase in same-facility other operating expenses for owned and leased inpatient facilities was primarily the result of an increase in our self-insured reserves for professional and general liability risks, which is primarily due to the revised assessment of certain claims at amounts higher than originally anticipated and the actuarial implications of such revisions. Other operating expenses for other operations increased to $42.5 million in 2008 compared to $38.7 million in 2007, primarily due to the management contract business purchased in the Horizon Health acquisition.

     Depreciation and amortization. Depreciation and amortization expense increased to $39.1 million in 2008 compared to $30.3 million in 2007, primarily as a result of the acquisitions of inpatient facilities and capital expenditures during 2007 and 2008.

     Interest expense, net. Interest expense, net of interest income, increased to $76.2 million in 2008 compared to $74.1 million in 2007 primarily as a result of an increase in our long-term debt offset by a reduction in our overall effective interest rate. We borrowed $443.2 million in May 2007 to finance the Horizon Health acquisition and borrowed $149.3 million in 2008 to finance the acquisition of five inpatient behavioral health care facilities from UMC, acquisitions of EAP businesses that were later moved to discontinued operations, capital expenditures and other general corporate purposes. In February 2009, as part of an amendment to our revolving credit facility, the interest rate margins on borrowings based on LIBOR were increased to a range of 5.0% to 5.75% depending upon a certain leverage ratio. This interest rate margin was 1.5% at December 31, 2008. For further information on the February 2009 amendment to our revolving credit facility, see Liquidity and Capital Resources within this Management’s Discussion and Analysis of Financial Condition and Results of Operations.

     Loss on refinancing of long-term debt. During 2007 we incurred a loss on refinancing long-term debt of $8.2 million that consisted primarily of the amount above par value we paid to repurchase our 10⁵/₈% Senior Subordinated Notes due 2013 (“10⁵/₈ Notes”), the write-off of capitalized financing costs associated with our 10⁵/₈% Notes and the amount paid to exit the related interest rate swap agreements.

     Income from discontinued operations, net of taxes. Income from discontinued operations (net of income tax effect) was $1.0 million and $0.5 million for the years ended December 31, 2008 and 2007, respectively. During the nine months ended September 30, 2009, we entered a definitive agreement to sell our EAP business, elected to make The Oaks Treatment Center and Nashville Rehabilitation Hospital available for sale, and terminated one contract with a South Carolina juvenile justice agency. We closed the sale of our EAP business in the fourth quarter of 2009. During the year ended December 31, 2008, we elected to dispose of a leased inpatient facility and recorded a $1.9 million write-down to fair value of the assets held-for-sale for this facility. Additionally, two contracts with a Puerto Rican juvenile justice agency to manage inpatient facilities were terminated in 2008. During the year ended December 31, 2007, we elected to dispose of one inpatient facility. Accordingly these operations are included in discontinued operations.

Year Ended December 31, 2007 Compared To Year Ended December 31, 2006

     The following table compares key total facility statistics and same-facility statistics for 2007 and 2006 for owned and leased inpatient facilities.

	Year Ended December 31,				%
	2007		2006		Change
Total facility results:
Revenue (in thousands)	$	1,323,534	$	953,912		38.7	%
Number of facilities at period end		86		70		22.9	%
Admissions		138,835		106,489		30.4	%
Patient days		2,424,608		1,877,233		29.2	%
Average length of stay		17.5		17.6		-0.6	%
Revenue per patient day	$	546	$	508		7.5	%
Same-facility results:
Revenue (in thousands)	$	997,558	$	933,436		6.9	%
Number of facilities at period end		70		70		0.0	%
Admissions		106,749		104,486		2.2	%
Patient days		1,848,803		1,831,737		0.9	%
Average length of stay		17.3		17.5		-1.1	%
Revenue per patient day	$	540	$	510		5.9	%

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     Revenue. Revenue from continuing operations increased $431.5 million, or 43.5%, to $1.4 billion in 2007 compared to 2006. Revenue from owned and leased inpatient facilities increased $369.6 million, or 38.7%, to $1.3 billion in 2007 compared to 2006. The increase in revenue from owned and leased inpatient facilities relates primarily to acquisitions. The remainder of the increase in revenue from owned and leased inpatient facilities is primarily attributable to same-facility growth in patient days of 0.9% and revenue per patient day of 5.9%. Other revenue increased to $100.5 million in 2007 compared to $38.6 million in 2006 primarily as a result of other operations purchased in the Horizon Health and ABS acquisitions.

     Salaries, wages, and employee benefits. SWB expense was $793.8 million in 2007 compared to $560.3 million in 2006, an increase of $233.5 million, or 41.7%. SWB expense includes $16.1 million and $12.5 million of share-based compensation expense for the years ended December 31, 2007 and 2006, respectively. Excluding share-based compensation expense, SWB expense was $777.7 million, or 54.6% of total revenue, in 2007 compared to $547.7 million, or 55.2% of total revenue, in 2006. SWB expense for owned and leased inpatient facilities was $717.3 million in 2007, or 54.2% of revenue. Same-facility SWB expense for owned and leased inpatient facilities was $534.1 million in 2007, or 53.5% of revenue, compared to $509.5 million in 2006, or 54.3% of revenue. SWB expense for other operations increased to $35.1 million in 2007 compared to $11.3 million in 2006 primarily as a result of other operations acquired in the Horizon Health and ABS acquisitions. SWB expense for our corporate office was $41.5 million in 2007, including share-based compensation expense of $16.1 million, compared to $31.6 million in 2006, including share-based compensation of $12.5 million in 2006. This increase in SWB expense for our corporate office was primarily the result of hiring additional staff necessary to manage the inpatient facilities acquired during 2006 and 2007.

     Professional fees. Professional fees were $137.0 million in 2007, or 9.6% of total revenue, compared to $93.7 million in 2006, or 9.4% of total revenue. Professional fees for owned and leased inpatient facilities were $122.9 million in 2007, or 9.3% of revenue. Same-facility professional fees for owned and leased inpatient facilities were $88.2 million in 2007, or 8.8% of revenue, compared to $85.2 million in 2006, or 9.1% of revenue. Professional fees for other operations increased to $8.8 million in 2007 compared to $2.8 million in 2006, primarily as a result of the acquisitions of ABS and Horizon Health. Professional fees for our corporate office were $5.3 million in 2007 compared to $4.0 million in 2006.

     Supplies. Supplies expense was $78.4 million in 2007, or 5.5% of total revenue, compared to $56.2 million in 2006, or 5.7% of total revenue. Supplies expense for owned and leased inpatient facilities was $77.8 million in 2007, or 5.9% of revenue. Same-facility supplies expense for owned and leased inpatient facilities was $57.4 million in 2007, or 5.7% of revenue, compared to $54.9 million in 2006, or 5.8% of revenue.

     Provision for doubtful accounts. The provision for doubtful accounts was $27.4 million in 2007, or 1.9% of total revenue, compared to $19.4 million in 2006, or 2.0% of total revenue. The provision for doubtful accounts at owned and leased inpatient facilities comprises the majority of our provision for doubtful accounts as a whole.

     Other operating expenses. Other operating expenses consist primarily of rent, utilities, insurance, travel, and repairs and maintenance expenses. Other operating expenses were approximately $152.8 million in 2007, or 10.7% of total revenue, compared to $105.5 million in 2006, or 10.6% of total revenue. Other operating expenses for owned and leased inpatient facilities were $106.5 million in 2007, or 8.0% of revenue. Same-facility other operating expenses for owned and leased inpatient facilities were $75.7 million in 2007, or 7.6% of revenue, compared to $80.6 million in 2006, or 8.6% of revenue. The decrease in same-facility other operating expenses for owned and leased inpatient facilities was primarily the result of reductions in risk management costs as a percent of revenue. Other operating expenses for other operations increased to $38.7 million in 2007 compared to $17.9 million in 2006, primarily as a result businesses purchased in the acquisitions of ABS and Horizon Health.

     Depreciation and amortization. Depreciation and amortization expense increased to $30.3 million in 2007 compared to $20.0 million in 2006, primarily as a result of the acquisitions of ABS and Horizon Health.

     Interest expense, net. Interest expense, net of interest income, increased $34.1 million to $74.1 million in 2007 compared to 2006. On December 31, 2007, we had $1.2 billion in long-term debt compared to $743.3 million at December 31, 2006. The increase in interest expense is primarily the result of debt incurred to finance acquisitions. We borrowed $210.0 million in December 2006 to finance the acquisition of ABS, and we incurred net borrowings of $443.2 million in May 2007 to finance the acquisition of Horizon Health.

     Loss on refinancing of long-term debt. During 2007 we incurred a loss on refinancing long-term debt of $8.2 million that consisted primarily of the amount above par value we paid to repurchase our 10⁵/₈% Notes, the write-off of capitalized financing costs associated with our 10⁵/₈% Notes and the amount paid to exit the related interest rate swap agreements.

     Income (loss) from discontinued operations, net of taxes. Income from discontinued operations (net of income tax effect) was $0.5 million for the year ended December 31, 2007 compared to a loss from discontinued operations (net of income tax effect) of $27,000 for the year ended December 31, 2006. During the nine months ended September 30, 2009, we entered a definitive agreement to sell our EAP business, elected to make The Oaks Treatment Center and Nashville Rehabilitation Hospital available for sale, and terminated

5

one contract with a South Carolina juvenile justice agency. We closed the sale of our EAP business in the fourth quarter of 2009. During 2008, we elected to dispose of a leased inpatient facility and two contracts with a Puerto Rican juvenile justice agency to manage inpatient facilities were terminated. During 2007, we elected to dispose of one inpatient facility. During 2006, we terminated three of our contracts to manage state-owned inpatient facilities and sold a therapeutic boarding school. Accordingly, these operations are included in discontinued operations.

Liquidity and Capital Resources

     Working capital at December 31, 2008 was $245.4 million, including cash and cash equivalents of $51.3 million, compared to working capital of $157.6 million, including cash and cash equivalents of $40.0 million, at December 31, 2007. This change in working capital is primarily attributable to increases in net current assets held for sale of $77.1 million, accounts receivable of $17.8 million, cost report receivables of $10.9 million, income tax receivable/payable of $20.6 million and deferred tax assets of $7.1 million, offset by increases in current maturities under our revolving credit facility of $29.3 million and other accrued liabilities of $19.0 million to purchase a hospital building previously leased. The increase in accounts receivable is primarily the result of increases in same-facility revenue and receivables generated from businesses acquired in 2008. Our consolidated day’s sales outstanding were 52 and 54 at December 31, 2008 and 2007, respectively.

     In February 2009, our revolving credit facility was amended to:

• extend the maturity of $200 million capacity to December 31, 2011 with the remaining $100 million capacity to mature on December 21, 2009, as originally scheduled;

• revise the interest rate on borrowings to LIBOR plus a spread ranging from 5.0% to 5.75% or prime plus a spread ranging from 4.0% to 4.75%, depending upon a leverage ratio; and

• revise the commitment fee on the unused portion of our revolving credit facility to fluctuate between 0.75% and 1.0%, based upon a leverage ratio.

     As a result of the extension of our revolving credit facility, $200 million of the $229.3 million balance outstanding under the revolving credit facility at December 31, 2008 has been classified as a non-current liability with the remainder classified in current portion of long-term debt on our consolidated balance sheet as of December 31, 2008. On February 25, 2009, we used excess cash to reduce the outstanding debt balance on the revolving credit facility to $195.0 million and now have approximately $97.4 million available under our revolving credit facility.

     Cash provided by continuing operating activities was $138.3 million in 2008 compared to $123.0 million in 2007. The increase in cash flows from continuing operating activities was primarily attributable to improved same-facility operating margins, the operating results of facilities acquired from Horizon Health and UMC and changes in working capital excluding accrued interest, offset by increased payments for income tax and interest. Cash provided by discontinued operating activities was $3.5 million in 2008 compared to $2.5 million in 2007.

     Billings for patient accounts receivable are generally submitted to the payor within three days of the patient’s discharge or completion of services. Interim billings may be utilized for patients with extended lengths of stay. We verify within a reasonable period of time that claims submitted to third-party payors have been received and are being processed by such payors. Follow-up regarding the status of each claim is made on a periodic basis until payment on the claim is received. Billing notices for self-pay accounts receivable are distributed on a periodic basis. Self-pay accounts receivable are turned over to collection agencies once internal collection efforts have been exhausted. Accounts receivable under our inpatient management contracts are billed at least monthly. Follow-up collection efforts are made on a periodic basis until payment is received. Our allowance for doubtful accounts for patient receivables primarily consists of patient accounts that are greater than 180 days past the patient’s discharge date. Our allowance for doubtful accounts for receivables due under our inpatient management contracts primarily consists of amounts that are specifically identified as potential collection issues. Accounts receivable are written off when collection within a reasonable period of time is deemed unlikely.

     Cash used by continuing investing activities was $245.0 million in 2008 compared to $518.7 million in 2007. Cash used in investing activities in 2008 was primarily the result of $121.2 million paid for acquisitions of behavioral health care facilities and $122.5 million paid for purchases of fixed assets. Acquisitions in 2008 consisted primarily of five inpatient behavioral health care facilities acquired from UMC. Cash used for routine and expansion capital expenditures was approximately $41.1 million and $80.7 million, respectively, for the year ended December 31, 2008. We expect expansion expenditures to continue during 2009 as a result of planned capital expansion projects and the construction of new facilities, which are expected to add approximately 500 new beds to our inpatient facilities. We define expansion capital expenditures as those that increase the capacity of our facilities or otherwise enhance revenue. Routine or maintenance capital expenditures were 2.4% of our net revenue for 2008. Capital expenditures for 2008 also include $0.7 million paid in connection with the purchase of a previously leased hospital. Remaining payments of $19.0 million related to this purchase are due in 2009. Cash used in continuing investing activities in 2007 was primarily the result of $444.9 million

6

paid for acquisitions of behavioral health care facilities, including Horizon Health, and $71.4 million paid for purchases of fixed assets. Cash used in discontinued investing activities of $41.2 million in 2008 and $17.9 million in 2007 consisted primarily of acquisitions of EAP businesses that were later moved to discontinued operations.

     Cash provided by financing activities was $155.7 million in 2008 compared to $432.5 million in 2007. Cash provided by financing activities for 2008 consisted primarily of $149.3 million in net borrowings under our revolving credit facility, which were used to finance the acquisition of five inpatient behavioral health care facilities from UMC, acquisitions of EAP businesses that were later moved to discontinued operations, capital expenditures and other general corporate purposes. Cash provided by financing activities for 2008 also included $9.5 million in proceeds from the exercise of stock options and $3.1 million in income tax benefits in excess of share-based compensation expense on stock options exercised in 2008. Cash provided by financing activities for 2007 consisted primarily of additional borrowings of $481.9 million, which were used primarily to finance the acquisition of Horizon Health and to retire approximately $38.6 million of other long-term debt. Additionally, during 2007 we received $17.3 million in proceeds from the exercise of stock options and $9.4 million in income tax benefits in excess of share-based compensation expense on stock options exercised in 2007.

     We have a universal shelf registration statement on Form S-3 under which we may sell an indeterminate amount of our common stock, common stock warrants, preferred stock and debt securities. We may from time to time offer these securities in one or more series, in amounts, at prices and on terms satisfactory to us.

     During the fourth quarter of 2007, we entered into an interest rate swap agreement with Merrill Lynch Capital Services, Inc. to manage our exposure to fluctuations in interest rates. With this interest rate swap agreement we exchange the interest payments associated with a notional amount of $225 million of LIBOR indexed variable rate debt related to our senior secured term loan facility for a fixed interest rate. This interest rate swap agreement matures on November 30, 2009. The fair value of our interest rate swap agreement at December 31, 2008 reflected a liability of $6.2 million, which represents the estimated amount we would have paid if the agreement was canceled.

     We are actively seeking acquisitions that fit our corporate growth strategy and may acquire additional inpatient psychiatric facilities and other operations and will incur continued expenditures on expansion projects. Management continually assesses our capital needs and, should the need arise, we will seek additional financing, including debt or equity, to fund potential acquisitions, facility expansions, payment of indebtedness or for other corporate purposes. In negotiating such financing, there can be no assurance that we will be able to raise additional capital on terms satisfactory to us. Failure to obtain additional financing on reasonable terms could have a negative effect on our plans to acquire additional inpatient psychiatric facilities.

Obligations and Commitments

	Payments Due by Period (in thousands)
			Less than						More than
	Total		1 year		1-3 years		3-5 years		5 years
Long-term debt (1):
Senior Credit Facility:
Revolving line of credit facility, expiring on December 21, 2009 (extended to December 31, 2011 for $200,000 in February 2009) and bearing interest of 3.4% at December 31, 2008	$	229,333	$	29,333	$	200,000	$	—	$	—
Senior secured term loan facility, expiring on July 1, 2012 and bearing interest of 3.1% at December 31, 2008		568,625		3,750		7,500		557,375		—
7 3/4% Senior Subordinated Notes due July 15, 2015		475,841		—		—		—		475,841
Mortgage loans on facilities, maturing in 2036, 2037 and 2038 bearing fixed interest rates of 5.7% to 7.6%		33,273		423		928		1,051		30,871
		1,307,072		33,506		208,428		558,426		506,712
Lease and other obligations		105,558		40,113		19,796		11,360		34,289
Total contractual obligations	$	1,412,630	$	73,619	$	228,224	$	569,786	$	541,001

(1) Excludes capital lease obligations and other obligations of $7.3 million, which are included in lease and other obligations.

     The fair value of our $470.0 million in principal amount of 7³/₄% Notes was approximately $343.7 million and $467.1 million as of December 31, 2008 and 2007, respectively. The fair values of our revolving credit facility and senior secured term loan facility were approximately $195.5 million and $446.4 million, respectively, as of December 31, 2008. The carrying value of our revolving credit facility and senior secured term loan facility approximated fair value at December 31, 2007. The carrying value of our other long-term debt, including current maturities, of $40.6 million and $42.2 million at December 31, 2008 and December 31, 2007, respectively, approximated fair value. We had $568.6 million and $229.3 million, respectively, of variable rate debt outstanding under our revolving credit facility and senior secured term loan facility as of December 31, 2008. As a result of our interest rate swap agreement to exchange interest rate payments associated with a notional amount of $225 million of LIBOR-indexed variable rate debt for a fixed rate, the variable rate debt outstanding under our senior secured term loan facility was effectively $343.6 million as of December 31,

7

2008. At our December 31, 2008 borrowing level, a hypothetical 10% increase in interest rates would decrease our annual net income and cash flows by approximately $1.1 million.

Impact of Inflation and Economic Trends

     Although inflation has not had a material impact on our results of operations, the health care industry is very labor intensive and salaries and benefits are subject to inflationary pressures as are supply costs, which tend to escalate as vendors pass on the rising costs through price increases. Some of the freestanding owned, leased and managed inpatient behavioral health care facilities we operate are experiencing the effects of the tight labor market, including a shortage of nurses, which has caused and may continue to cause an increase in our SWB expense in excess of the inflation rate. Although we cannot predict our ability to cover future cost increases, management believes that through adherence to cost containment policies, labor management and reasonable price increases, the effects of inflation on future operating margins should be manageable. Our ability to pass on increased costs associated with providing health care to Medicare and Medicaid patients is limited due to various federal, state and local laws which have been enacted that, in certain cases, limit our ability to increase prices. In addition, as a result of increasing regulatory and competitive pressures and a continuing industry wide shift of patients into managed care plans, our ability to maintain margins through price increases to non-Medicare patients is limited.

     The behavioral health care industry is typically not directly impacted by periods of recession, erosions of consumer confidence or other general economic trends as most health care services are not considered a component of discretionary spending. However, our inpatient facilities may be indirectly negatively impacted to the extent such economic conditions result in decreased reimbursements by federal or state governments or managed care payors. Discussion concerning the current economic downturn is included in Part I, Item 1A under the caption “Risk Factors.” We are not aware of any economic trends that would prevent us from being able to remain in compliance with all of our debt covenants and to meet all required obligations and commitments in the near future.

Critical Accounting Policies

     Our consolidated financial statements have been prepared in accordance with accounting principles generally accepted in the United States. In preparing our financial statements, we are required to make estimates and assumptions that affect the reported amounts of assets, liabilities, revenues, and expenses included in the financial statements. Estimates are based on historical experience and other information currently available, the results of which form the basis of such estimates. While we believe our estimation processes are reasonable, actual results could differ from our estimates. The following represent the estimates considered most critical to our operating performance and involve the most subjective and complex assumptions and assessments.

     Allowance for Doubtful Accounts

     Our ability to collect outstanding patient receivables from third-party payors is critical to our operating performance and cash flows.

     The primary collection risk with regard to patient receivables lies with uninsured patient accounts or patient accounts for which primary insurance has paid, but the portion owed by the patient remains outstanding. We estimate the allowance for doubtful accounts primarily based upon the age of the accounts since the patient discharge date. We continually monitor our accounts receivable balances and utilize cash collection data to support our estimates of the provision for doubtful accounts. Significant changes in payor mix or business office operations could have a significant impact on our results of operations and cash flows.

     The primary collection risk with regard to receivables due under our inpatient management contracts is attributable to contractual disputes. We estimate the allowance for doubtful accounts for these receivables based primarily upon the specific identification of potential collection issues. As with our patient receivables, we continually monitor our accounts receivable balances and utilize cash collection data to support our estimates of the provision for doubtful accounts.

     Allowances for Contractual Discounts

     The Medicare and Medicaid regulations are complex and various managed care contracts may include multiple reimbursement mechanisms for different types of services provided in our inpatient facilities and cost settlement provisions requiring complex calculations and assumptions subject to interpretation. We estimate the allowance for contractual discounts on a payor-specific basis by comparing our established billing rates with the amount we determine to be reimbursable given our interpretation of the applicable regulations or contract terms. Most payments are determined based on negotiated per-diem rates. While the services authorized and provided and related reimbursement are often subject to interpretation that could result in payments that differ from our estimates, these differences are deemed immaterial. Additionally, updated regulations and contract renegotiations occur frequently necessitating continual review and assessment of the estimation process by our management. We periodically compare the contractual rates on our patient accounting systems with the Medicare and Medicaid reimbursement rates or the third-party payor contract for accuracy. We also monitor the adequacy of our contractual adjustments using financial measures such as comparing cash receipts to net patient revenue adjusted for bad debt expense.

8

     As of December 31, 2008, our patient accounts receivable balance for third-party payors was $229.5 million. A theoretical 1% change in the amounts due from third-party payors at December 31, 2008 could have an after tax effect of approximately $1.4 million on our financial position and results of operations.

     The following table presents the percentage by payor of our net revenue for the years ended December 31, 2008 and 2007 and related accounts receivable at year end (in thousands):

	For the Year Ended December 31,
	2008						2007
	Net			Accounts			Net			Accounts
	Revenue			Receivable			Revenue			Receivable
Medicaid		30	%		26	%		32	%		28	%
Commercial/HMO/Private Pay		35	%		41	%		34	%		37	%
Medicare		13	%		10	%		12	%		10	%
State agency		16	%		17	%		16	%		18	%
Other		6	%		6	%		6	%		7	%
		100	%		100	%		100	%		100	%

     The following table presents the percentage by aging category of our accounts receivable at December 31, 2008 and 2007 (in thousands):

	At December 31,
	2008			2007
0 - 30 days		64	%		64	%
31 - 60 days		13	%		14	%
61 - 90 days		8	%		8	%
91 - 120 days		5	%		5	%
121 - 150 days		4	%		4	%
151 - 180 days		4	%		3	%
> 180 days		2	%		2	%
Total		100	%		100	%

     Our consolidated day’s sales outstanding were 52 and 54 for the years ended December 31, 2008 and 2007, respectively. Our consolidated collections as a percentage of net revenue less bad debt expense was 100.0% and 101.4% for the years ended December 31, 2008 and 2007, respectively.

     Professional and General Liability

     We are subject to medical malpractice and other lawsuits due to the nature of the services we provide. Our operations have professional and general liability insurance in umbrella form for claims in excess of $3.0 million with an insured excess limit of $50.0 million. Effective December 31, 2008, we increased this insured excess limit to $75.0 million. The self-insured reserves for professional and general liability risks are estimated based on historical claims, demographic factors, industry trends, severity factors, and other actuarial assumptions calculated by an independent third-party actuary. This self-insurance reserve is discounted to its present value using a 5% discount rate. This estimated accrual for professional and general liabilities could be significantly affected should current and future occurrences differ from historical claim trends and expectations. We have utilized our captive insurance company to manage the self-insured retention. While claims are monitored closely when estimating professional and general liability accruals, the complexity of the claims and wide range of potential outcomes often limits timely adjustments to the assumptions used in these estimates.

     Income Taxes

     As part of our process for preparing our consolidated financial statements, our management is required to compute income taxes in each of the jurisdictions in which we operate. This process involves estimating the current tax benefit or expense of future deductible and taxable temporary differences. The tax effects of future deductible and taxable temporary differences are recorded as deferred tax assets and liabilities which are components of our balance sheet. Management then assesses our ability to realize the deferred tax

9

assets based on reversals of deferred tax liabilities and, if necessary, estimates of future taxable income. A valuation allowance for deferred tax assets is established when we believe that it is more likely than not that the deferred tax asset will not be realized. Management must also assess the impact of our acquisitions on the realization of deferred tax assets subject to a valuation allowance to determine if all or a portion of the valuation allowance will be offset by reversing taxable differences or future taxable income of the acquired entity. To the extent the valuation allowance can be reversed due to the estimated future taxable income of an acquired entity, then our valuation allowance is reduced accordingly as an adjustment to purchase price.

     We adopted FASB Interpretation No. 48 (“FIN 48”), Accounting for Uncertainty in Income Taxes — An Interpretation of FASB Statement No. 109, on January 1, 2007. Applying the provisions of FIN 48 requires significant judgments regarding the recognition and measurement of each tax position. Changes in these judgments may materially affect the estimate of our effective tax rate and our operating results.

     Share-Based Compensation

     We adopted SFAS No. 123R under the modified-prospective transition method on January 1, 2006, which requires us to measure and recognize the cost of employee services received in exchange for an award of equity instruments based on the grant-date fair value of such awards. We utilize the Black-Scholes option pricing model to estimate the grant-date fair value of our stock options. The Black-Scholes model includes certain variables and assumptions that require judgment, such as the expected volatility of our stock price and the expected term of our stock options. Additionally, SFAS 123R requires us to use judgment in the estimation of forfeitures over the vesting period of share-based awards.

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EX-99.3

Exhibit 99.3

Item 8. Financial Statements and Supplementary Data.

PSYCHIATRIC SOLUTIONS, INC.

INDEX TO CONSOLIDATED FINANCIAL STATEMENTS

	PAGE
Report of Independent Registered Public Accounting Firm	F-2
Management’s Report on Internal Control over Financial Reporting	F-3
Report of Independent Registered Public Accounting Firm	F-4
Consolidated Financial Statements:
Consolidated Balance Sheets, December 31, 2008 and 2007	F-5
Consolidated Statements of Income for the years ended December 31, 2008, 2007 and 2006	F-6
Consolidated Statements of Stockholders’ Equity for the years ended December 31, 2008, 2007 and 2006	F-7
Consolidated Statements of Cash Flows for the years ended December 31, 2008, 2007 and 2006	F-8
Notes to Consolidated Financial Statements	F-10

F-1

REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM

The Board of Directors and Stockholders of Psychiatric Solutions, Inc.

     We have audited the accompanying consolidated balance sheets of Psychiatric Solutions, Inc. as of December 31, 2008 and 2007, and the related consolidated statements of income, stockholders’ equity, and cash flows for each of the three years in the period ended December 31, 2008. These financial statements are the responsibility of the Company’s management. Our responsibility is to express an opinion on these financial statements based on our audits.

     We conducted our audits in accordance with the standards of the Public Company Accounting Oversight Board (United States). Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements. An audit also includes assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation. We believe that our audits provide a reasonable basis for our opinion.

     In our opinion, the financial statements referred to above present fairly, in all material respects, the consolidated financial position of Psychiatric Solutions, Inc. at December 31, 2008 and 2007, and the consolidated results of its operations and its cash flows for each of the three years in the period ended December 31, 2008, in conformity with U.S. generally accepted accounting principles.

     As discussed in Note 8 to the consolidated financial statements, the Company adopted FASB Interpretation No. 48, Accounting for Uncertainty in Income Taxes-An Interpretation of FASB Statement No. 109, effective January 1, 2007.

     We also have audited, in accordance with the standards of the Public Company Accounting Oversight Board (United States), Psychiatric Solutions, Inc.’s internal control over financial reporting as of December 31, 2008, based on criteria established in Internal Control-Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission and our report dated February 25, 2009 expressed an unqualified opinion thereon.

/s/ Ernst & Young LLP

Nashville, Tennessee
February 25, 2009, except for Note 1 (paragraphs 5, 26 and 30) and Note 4,
as to which the date is November 13, 2009

F-2

MANAGEMENT’S REPORT ON INTERNAL CONTROL OVER FINANCIAL REPORTING

     Our management is responsible for establishing and maintaining adequate internal control over financial reporting, as such term is defined in Exchange Act Rules 13a-15(f) and 15d-15(f). Under the supervision and with the participation of our management, including our Chief Executive Officer and Chief Accounting Officer, we conducted an evaluation of the effectiveness of our internal control over financial reporting as of December 31, 2008 based on the framework in Internal Control—Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission (COSO). Based on that evaluation, our management concluded that our internal control over financial reporting was effective as of December 31, 2008.

     Our accompanying consolidated financial statements have been audited by the independent registered public accounting firm of Ernst & Young LLP. Reports of the independent registered public accounting firm, including the independent registered public accounting firm’s report on our internal control over financial reporting, are included in this document.

F-3

REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM

The Board of Directors and Stockholders of Psychiatric Solutions, Inc.

     We have audited Psychiatric Solutions, Inc.’s internal control over financial reporting as of December 31, 2008, based on criteria established in Internal Control—Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission (the COSO criteria). Psychiatric Solutions, Inc.’s management is responsible for maintaining effective internal control over financial reporting, and for its assessment of the effectiveness of internal control over financial reporting included in the accompanying Management’s Report on Internal Control Over Financial Reporting. Our responsibility is to express an opinion on the Company’s internal control over financial reporting based on our audit.

     We conducted our audit in accordance with the standards of the Public Company Accounting Oversight Board (United States). Those standards require that we plan and perform the audit to obtain reasonable assurance about whether effective internal control over financial reporting was maintained in all material respects. Our audit included obtaining an understanding of internal control over financial reporting, assessing the risk that a material weakness exists, testing and evaluating the design and operating effectiveness of internal control based on the assessed risk, and performing such other procedures as we considered necessary in the circumstances. We believe that our audit provides a reasonable basis for our opinion.

     A company’s internal control over financial reporting is a process designed to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for external purposes in accordance with generally accepted accounting principles. A company’s internal control over financial reporting includes those policies and procedures that (1) pertain to the maintenance of records that, in reasonable detail, accurately and fairly reflect the transactions and dispositions of the assets of the company; (2) provide reasonable assurance that transactions are recorded as necessary to permit preparation of financial statements in accordance with generally accepted accounting principles, and that receipts and expenditures of the company are being made only in accordance with authorizations of management and directors of the company; and (3) provide reasonable assurance regarding prevention or timely detection of unauthorized acquisition, use, or disposition of the company’s assets that could have a material effect on the financial statements.

     Because of its inherent limitations, internal control over financial reporting may not prevent or detect misstatements. Also, projections of any evaluation of effectiveness to future periods are subject to the risk that controls may become inadequate because of changes in conditions, or that the degree of compliance with the policies or procedures may deteriorate.

     In our opinion, Psychiatric Solutions, Inc. maintained, in all material respects, effective internal control over financial reporting as of December 31, 2008, based on the COSO criteria.

     We have also audited, in accordance with the standards of the Public Company Accounting Oversight Board (United States), the consolidated balance sheets of Psychiatric Solutions, Inc. as of December 31, 2008 and 2007 and the related consolidated statements of income, stockholders’ equity and cash flows for each of the three years in the period ended December 31, 2008 of Psychiatric Solutions, Inc. and our report dated February 25, 2009, except for Note 1 (paragraphs 5, 26 and 30) and Note 4, as to which the date is November 13, 2009, expressed an unqualified opinion thereon.

/s/ Ernst & Young LLP

Nashville, Tennessee
February 25, 2009

F-4

PSYCHIATRIC SOLUTIONS, INC.
CONSOLIDATED BALANCE SHEETS
(in thousands)

	December 31,
	2008			2007
ASSETS
Current assets:
Cash and cash equivalents	$	51,271		$	39,970
Accounts receivable, less allowance for doubtful accounts of $48,623 and $35,170, respectively		243,346			225,573
Prepaids and other		184,364			74,517
Total current assets		478,981			340,060
Property and equipment:
Land		172,927			149,707
Buildings		666,387			534,077
Equipment		95,985			73,655
Less accumulated depreciation		(110,155	)		(75,099	)
		825,144			682,340
Cost in excess of net assets acquired		1,139,242			1,051,782
Other assets		62,623			105,322
Total assets	$	2,505,990		$	2,179,504
LIABILITIES AND STOCKHOLDERS’ EQUITY
Current liabilities:
Accounts payable	$	34,747		$	30,171
Salaries and benefits payable		83,866			80,714
Other accrued liabilities		80,577			65,604
Current portion of long-term debt		34,414			6,016
Total current liabilities		233,604			182,505
Long-term debt, less current portion		1,280,006			1,166,008
Deferred tax liability		69,471			49,131
Other liabilities		28,067			22,959
Total liabilities		1,611,148			1,420,603
Redeemable noncontrolling interest		4,957			4,159
Stockholders’ equity:
Common stock, $0.01 par value, 125,000 shares authorized; 55,934 and 55,107 issued and outstanding, respectively		559			551
Additional paid-in capital		608,341			574,943
Accumulated other comprehensive loss		(3,695	)		(479	)
Retained earnings		284,680			179,727
Total stockholders’ equity		889,885			754,742
Total liabilities and stockholders’ equity	$	2,505,990		$	2,179,504

See accompanying notes.

F-5

PSYCHIATRIC SOLUTIONS, INC.
CONSOLIDATED STATEMENTS OF INCOME
(in thousands, except for per share amounts)

	Year Ended December 31,
	2008			2007			2006
Revenue	$	1,703,865		$	1,424,031		$	992,484
Salaries, wages and employee benefits (including share-based compensation of $19,913, $16,104 and $12,535 for the years ended December 31, 2008, 2007 and 2006, respectively)		944,389			793,845			560,266
Professional fees		163,708			137,040			93,747
Supplies		92,960			78,395			56,216
Rentals and leases		20,774			19,076			12,748
Other operating expenses		163,919			133,699			92,714
Provision for doubtful accounts		34,387			27,353			19,366
Depreciation and amortization		39,054			30,306			20,015
Interest expense		76,210			74,116			39,968
Loss on refinancing long-term debt		—			8,179			—
		1,535,401			1,302,009			895,040
Income from continuing operations before income taxes		168,464			122,022			97,444
Provision for income taxes		63,887			46,053			36,785
Income from continuing operations		104,577			75,969			60,659
Income (loss) from discontinued operations, net of provision for (benefit from) income tax of $2,098, $853 and $(2) for 2008, 2007 and 2006, respectively		980			524			(27	)
Net income		105,557			76,493			60,632
Less: Net income attributable to noncontrolling interest		(604	)		(285	)		—
Net income attributable to PSI stockholders	$	104,953		$	76,208		$	60,632
Basic earnings per share:
Income from continuing operations attributable to PSI stockholders	$	1.88		$	1.39		$	1.15
Income (loss) from discontinued operations, net of taxes		0.01			0.01			—
Net income attributable to PSI stockholders	$	1.89		$	1.40		$	1.15
Diluted earnings per share:
Income from continuing operations attributable to PSI stockholders	$	1.85		$	1.36		$	1.12
Income (loss) from discontinued operations, net of taxes		0.02			0.01			—
Net income attributable to PSI stockholders	$	1.87		$	1.37		$	1.12
Shares used in computing per share amounts:
Basic		55,408			54,258			52,953
Diluted		56,267			55,447			54,169
Amounts attributable to PSI stockholders:
Income from continuing operations, net of taxes	$	103,973		$	75,684		$	60,659
Income (loss) from discontinued operations, net of taxes		980			524			(27	)
Net income attributable to PSI stockholders	$	104,953		$	76,208		$	60,632

See accompanying notes.

F-6

PSYCHIATRIC SOLUTIONS, INC.
CONSOLIDATED STATEMENTS OF STOCKHOLDERS’ EQUITY
(in thousands)

							Accumulated
					Additional		Other
	Common Stock				Paid-In		Comprehensive			Retained
	Shares		Amount		Capital		Loss			Earnings			Total
Balance at December 31, 2005		52,430	$	524	$	495,768	$	—		$	43,420		$	539,712
Share-based compensation		—		—		12,535		—			—			12,535
Common stock issued in acquisition		130		1		4,276		—			—			4,277
Exercise of stock options and grant of restricted stock, net of issuance costs		861		9		6,260		—			—			6,269
Income tax benefit of stock option exercises		—		—		4,354		—			—			4,354
Net income attributable to PSI stockholders		—		—		—		—			60,632			60,632
Balance at December 31, 2006		53,421		534		523,193		—			104,052			627,779
Comprehensive income:
Net income attributable to PSI stockholders		—		—		—		—			76,208			76,208
Change in fair value of interest rate swap, net of tax benefit of $308		—		—		—		(479	)		—			(479	)
Total comprehensive income														75,729
Share-based compensation		—		—		16,104		—			—			16,104
Common stock issued in acquisition		243		2		8,998		—			—			9,000
Exercise of stock options and grants of restricted stock, net of issuance costs		1,443		15		17,220		—			—			17,235
Cumulative adjustment for adoption of FIN 48		—		—		—		—			(533	)		(533	)
Income tax benefit of stock option exercises		—		—		9,428		—			—			9,428
Balance at December 31, 2007		55,107		551		574,943		(479	)		179,727			754,742
Comprehensive income:
Net income attributable to PSI stockholders		—		—		—		—			104,953			104,953
Change in fair value of interest rate swap, net of tax benefit of $2,154		—		—		—		(3,216	)		—			(3,216	)
Total comprehensive income														101,737
Share-based compensation		—		—		19,913		—			—			19,913
Common stock issued in acquisition		27		—		1,000		—			—			1,000
Exercise of stock options and grants of restricted stock, net of issuance costs		800		8		9,433		—			—			9,441
Income tax benefit of stock option exercises		—		—		3,052		—			—			3,052
Balance at December 31, 2008		55,934	$	559	$	608,341	$	(3,695	)	$	284,680		$	889,885

See accompanying notes.

F-7

PSYCHIATRIC SOLUTIONS, INC.
CONSOLIDATED STATEMENTS OF CASH FLOWS
(in thousands)

	Year Ended December 31,
	2008			2007			2006
Operating activities:
Net income	$	105,557		$	76,493		$	60,632
Adjustments to reconcile net income to net cash provided by continuing operating activities:
Depreciation and amortization		39,054			30,306			20,015
Amortization of loan costs and bond premium		2,213			2,151			1,672
Share-based compensation		19,913			16,104			12,535
Loss on refinancing long-term debt		—			8,179			—
Change in income tax assets and liabilities		(5,034	)		8,639			35,322
(Income) loss from discontinued operations, net of taxes		(980	)		(524	)		27
Changes in operating assets and liabilities, net of effect of acquisitions:
Accounts receivable		(17,949	)		(12,957	)		(10,331	)
Prepaids and other current assets		(4,615	)		6,348			(9,242	)
Accounts payable		2,779			(7,919	)		507
Salaries and benefits payable		1,613			1,861			5,519
Accrued liabilities and other liabilities		(4,247	)		(5,634	)		5,336
Net cash provided by continuing operating activities		138,304			123,047			121,992
Net cash provided by discontinued operating activities		3,479			2,474			1,861
Net cash provided by operating activities		141,783			125,521			123,853
Investing activities:
Cash paid for acquisitions, net of cash acquired		(121,156	)		(444,899	)		(373,915	)
Capital purchases of leasehold improvements, equipment and software		(122,495	)		(71,363	)		(33,036	)
Other assets		(1,318	)		(2,451	)		(594	)
Net cash used in continuing investing activities		(244,969	)		(518,713	)		(407,545	)
Net cash used in discontinued investing activities		(41,246	)		(17,871	)		(11,943	)
Net cash used in investing activities		(286,215	)		(536,584	)		(419,488	)

(Continued)

F-8

PSYCHIATRIC SOLUTIONS, INC.
CONSOLIDATED STATEMENTS OF CASH FLOWS
(in thousands)

	Year Ended December 31,
	2008			2007			2006
Financing activities:
Net increase (decrease) in revolving credit facility, less acquisitions	$	149,333		$	(21,000	)	$	101,000
Borrowings on long-term debt		—			481,875			150,000
Principal payments on long-term debt		(6,067	)		(41,281	)		(465	)
Payment of loan and issuance costs		(59	)		(6,661	)		(1,576	)
Refinancing of long-term debt		—			(7,127	)		—
Excess tax benefit from share based payment arrangements		3,052			9,428			4,354
Proceeds from exercises of common stock options		9,474			17,279			6,309
Net cash provided by financing activities		155,733			432,513			259,622
Net increase (decrease) in cash		11,301			21,450			(36,013	)
Cash and cash equivalents at beginning of the year		39,970			18,520			54,533
Cash and cash equivalents at end of the year	$	51,271		$	39,970		$	18,520
Supplemental Cash Flow Information:
Interest paid	$	82,704		$	62,864		$	40,177
Income taxes paid (refunded)	$	68,151		$	29,924		$	(2,656	)
Effect of Acquisitions:
Assets acquired, net of cash acquired	$	124,687		$	497,354		$	420,294
Liabilities assumed		(3,531	)		(34,753	)		(31,763	)
Common stock issued		—			(9,000	)		(4,277	)
Long-term debt assumed		—			(8,702	)		(10,339	)
Cash paid for acquisitions, net of cash acquired	$	121,156		$	444,899		$	373,915

See accompanying notes.

F-9

PSYCHIATRIC SOLUTIONS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 2008

1. Summary of Significant Accounting Policies

Description of Business

Psychiatric Solutions, Inc. was incorporated in 1988 as a Delaware corporation and has its corporate office in Franklin, Tennessee. Psychiatric Solutions, Inc. and its subsidiaries (“we,” “us” or “our”) are a leading provider of inpatient behavioral health care services in the United States. Through our owned and leased facilities, we operated 91 owned or leased inpatient behavioral health care facilities with approximately 10,000 beds in 31 states, Puerto Rico and the U.S. Virgin Islands at December 31, 2008. Our other behavioral health care business primarily consists of our contract management business. Our contract management business involves the development, organization and management of behavioral health care and rehabilitation programs within medical/surgical hospitals.

Recent Developments

Effective March 1, 2008, we completed the acquisition of five inpatient behavioral health care facilities from United Medical Corporation (“UMC”), which are located in Florida and Kentucky and include approximately 400 beds. During the second quarter of 2008, we opened Lincoln Prairie Behavioral Health Center, a 120-bed inpatient facility in Springfield, Illinois.

Basis of Presentation

The accompanying consolidated financial statements have been prepared in accordance with U.S. generally accepted accounting principles (“GAAP”). The preparation of financial statements in conformity with U.S. generally accepted accounting principles requires management to make estimates and assumptions that affect the amounts reported in the consolidated financial statements and accompanying notes. Actual results could differ from those estimates. The majority of our expenses are “cost of revenue” items. Costs that could be classified as general and administrative expenses at our corporate office, excluding share-based compensation expense, were approximately 2.7% of net revenue for the year ended December 31, 2008.

The consolidated financial statements include all wholly-owned subsidiaries and entities controlled by Psychiatric Solutions, Inc. The consolidated financial statements include one inpatient behavioral health care facility in which we own a controlling interest and account for the ownership interest of the noncontrolling partner as noncontrolling interest. All significant intercompany balances and transactions are eliminated in consolidation.

As discussed in “Recent Accounting Pronouncements,” we have adopted the provisions of Statement on Financial Accounting Standards (“SFAS”) No. 160, Noncontrolling Interests in Consolidated Financial Statements—an Amendment of ARB No. 51, (“SFAS 160”) effective January 1, 2009. All periods presented in this Form 8-K have been reclassified in accordance with the presentation and disclosure provisions of SFAS 160.

Cash and Cash Equivalents

Cash consists of demand deposits held at financial institutions. We place our cash in financial institutions that are federally insured. At December 31, 2008, the majority of our cash is deposited with two financial institutions. Cash equivalents are short-term investments with original maturities of three months or less.

Accounts Receivable

Accounts receivable vary according to the type of service being provided. Accounts receivable for our owned and leased facilities segment is comprised of patient service revenue and is recorded net of allowances for contractual discounts and estimated doubtful accounts. Such amounts are owed by various governmental agencies, insurance companies and private patients. Medicare comprised approximately 10% of net patient receivables for our owned and leased facilities at December 31, 2008 and 2007. Medicaid comprised approximately 26% and 28% of net patient receivables for our owned and leased facilities at December 31, 2008 and 2007, respectively. Concentration of credit risk from other payors is reduced by the large number of patients and payors.

Accounts receivable for our management contracts is comprised of contractually determined fees for services rendered. Such amounts are recorded net of estimated allowances for doubtful accounts. Concentration of credit risk is reduced by the large number of customers.

Allowance for Doubtful Accounts

Our ability to collect outstanding patient receivables from third party payors is critical to our operating performance and cash flows.

F-10

PSYCHIATRIC SOLUTIONS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 2008

The primary collection risk with regard to patient receivables is uninsured patient accounts or patient accounts for which primary insurance has paid, but the portion owed by the patient remains outstanding. We estimate the allowance for doubtful accounts primarily based upon the age of the accounts since the patient discharge date. We continually monitor our accounts receivable balances and utilize cash collection data to support our estimates of the provision for doubtful accounts. Significant changes in payor mix or business office operations could have a significant impact on our results of operations and cash flows.

Allowances for Contractual Discounts

The Medicare and Medicaid regulations are complex and various managed care contracts may include multiple reimbursement mechanisms for different types of services provided in our inpatient facilities and cost settlement provisions requiring complex calculations and assumptions subject to interpretation. We estimate the allowance for contractual discounts on a payor-specific basis given our interpretation of the applicable regulations or contract terms. The services authorized and provided and related reimbursement are often subject to interpretation that could result in payments that differ from our estimates. Additionally, updated regulations and contract renegotiations occur frequently necessitating continual review and assessment of the estimation process by our management.

Income Taxes

We account for income taxes under the asset and liability method. Under this method, deferred tax assets and liabilities are determined based upon differences between the financial statement carrying amounts and tax bases of assets and liabilities and are measured using the enacted tax laws that will be in effect when the differences are expected to reverse. A valuation allowance for deferred tax assets is established when we believe that it is more likely than not that the deferred tax asset will not be realized. We adopted FASB Interpretation No. 48 (“FIN 48”), Accounting for Uncertainty in Income Taxes — An Interpretation of FASB Statement No. 109, on January 1, 2007, which requires significant judgments regarding the recognition and measurement of each tax position. Our policy is to classify interest and penalties related to income taxes as a component of our tax provision.

Long-Lived Assets

Property and Equipment

Property and equipment are stated at cost and depreciated using the straight-line method over the useful lives of the assets, which range from 25 to 35 years for buildings and improvements and 2 to 7 years for equipment. Leasehold improvements are amortized on a straight-line basis over the shorter of the lease term or estimated useful lives of the assets. Depreciation expense was $35.6 million, $28.5 million and $19.4 million for the years ended December 31, 2008, 2007 and 2006, respectively. Depreciation expense includes the amortization of assets recorded under capital leases.

Cost in Excess of Net Assets Acquired (Goodwill)

We account for acquisitions using the purchase method of accounting. Goodwill is generally allocated to reporting units based on operating results. Goodwill is reviewed at least annually for impairment. Potential impairment is noted for a reporting unit if its carrying value exceeds the fair value of the reporting unit. For those reporting units that we have identified with potential impairment of goodwill, we determine the implied fair value of goodwill. If the carrying value of goodwill exceeds its implied fair value, an impairment loss is recorded. Our annual impairment test of goodwill in 2008, 2007 and 2006 resulted in no goodwill impairment.

The following table presents the changes in the carrying amount of goodwill for the years ended December 31, 2008 and 2007 (in thousands):

Balance at December 31, 2006	$	755,715
Acquisition of Horizon Health		273,446
Other Acquisitions		22,621
Balance at December 31, 2007		1,051,782
Acquisition of UMC facilities		85,459
Other Acquisitions		2,001
Balance at December 31, 2008	$	1,139,242

Other Assets

Other assets include contracts that represent the fair value of inpatient management contracts and service contracts purchased and are being amortized using the straight-line method over their estimated life, which is between 4 years and 9 years. At December 31, 2008

F-11

PSYCHIATRIC SOLUTIONS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 2008

and 2007, contracts totaled $25.5 million and $26.1 million and are net of accumulated amortization of $7.4 million and $4.3 million, respectively. Amortization expense related to contracts was $3.2 million, $1.7 million and $0.7 million for the years ended December 31, 2008, 2007 and 2006, respectively. Estimated amortization expense related to contracts for each of the five years ending December 31, 2013 is approximately $3.3 million.

When events, circumstances and operating results indicate that the carrying values of certain long-lived assets and the related identifiable intangible assets might be impaired, we prepare projections of the undiscounted future cash flows expected to result from the use of the assets and their eventual disposition. If the projections indicate that the recorded amounts are not expected to be recoverable, such amounts are reduced to estimated fair value. Fair value is estimated based upon projections of discounted cash flows.

Other assets also include loan costs that are deferred and amortized over the term of the related debt. Loan costs at December 31, 2008 and 2007 totaled $14.0 million and $16.8 million, respectively, and are net of accumulated amortization of $8.1 million and $5.2 million, respectively. Amortization expense related to loan costs, which is reported as interest expense, was approximately $2.9 million, $2.5 million and $1.7 million for the years ended December 31, 2008, 2007 and 2006, respectively. Estimated amortization expense of loan costs for the years ending December 31, 2009, 2010, 2011, 2012 and 2013 is $2.9 million, $2.3 million, $2.4 million, $1.8 million and $1.3 million, respectively.

Other Accrued Liabilities

At December 31, 2008 and 2007, we had approximately $18.3 million and $21.9 million, respectively, of accrued interest expense in other accrued liabilities.

Share-Based Compensation

We adopted SFAS No. 123 (Revised 2004), Share Based Payment (“SFAS 123R”), under the modified-prospective transition method on January 1, 2006. SFAS 123R requires companies to measure and recognize the cost of employee services received in exchange for an award of equity instruments based on the grant-date fair value. Share-based compensation recognized under the modified-prospective transition method of SFAS 123R includes share-based compensation based on the grant-date fair value determined in accordance with the original provisions of SFAS No. 123, Accounting for Stock-Based Compensation (“SFAS 123”), for all share-based payments granted prior to and not yet vested as of January 1, 2006 and share-based compensation based on the grant-date fair-value determined in accordance with SFAS 123R for all share-based payments granted on or after January 1, 2006. We use the Black-Scholes valuation model to determine grant-date fair value and use straight-line amortization of share-based compensation expense over the requisite service period of the grant.

Derivatives

We may periodically enter into interest rate swap agreements to manage our exposure to fluctuations in interest rates. These interest rate swap agreements effectively exchange fixed or variable interest payments between two parties. During 2007, we entered into an agreement to exchange the interest payments associated with a notional amount of $225 million LIBOR indexed variable rate debt related to our senior secured term loan for a fixed interest rate. Under SFAS No. 133, Accounting for Derivative Instruments and Hedging Activities, as amended (“SFAS 133”), we have designated this agreement as a cash flow hedge and have deemed it to be highly effective. We assess the effectiveness of the hedge quarterly. All changes in the fair value of a highly effective cash flow hedge are recognized as a component of other comprehensive income. Any change in the fair value of an ineffective portion of a cash flow hedge would be recorded to the income statement. If the interest rate swap arrangement is canceled, the gain or loss associated with the cancellation would be amortized through interest expense over the life of the agreement.

Risk Management

We are subject to medical malpractice and other lawsuits due to the nature of the services we provide. Our operations have professional and general liability insurance in umbrella form for claims in excess of a $3.0 million self-insured retention with an insured excess limit of $50.0 million. Effective December 31, 2008, we increased this insured excess limit to $75.0 million. The self-insured reserves for professional and general liability risks are estimated based on historical claims, demographic factors, industry trends, severity factors, and other actuarial assumptions calculated by an independent third-party actuary. This self-insurance reserve is discounted to its present value using a 5% discount rate. This estimated accrual for professional and general liabilities could be significantly affected should current and future occurrences differ from historical claim trends and expectations. We have utilized our captive insurance company to manage the self-insured retention. While claims are monitored closely when estimating professional and general liability accruals, the complexity of the claims and wide range of potential outcomes often hampers timely adjustments to the assumptions used in these estimates. The reserve for professional and general liability was approximately $20.0 million and $15.1

F-12

PSYCHIATRIC SOLUTIONS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 2008

million as of December 31, 2008 and 2007, respectively. This increase is primarily related to the revised assessment of certain claims at amounts higher than those originally anticipated and the actuarial implications of such revisions.

We carry statutory workers’ compensation insurance from an unrelated commercial insurance carrier. Our statutory workers’ compensation program is fully insured with a $350,000 deductible per accident. We believe that adequate provision has been made for workers’ compensation and professional and general liability risk exposures. The reserve for workers’ compensation liability was approximately $20.9 million and $18.1 million as of December 31, 2008 and 2007, respectively.

Fair Value of Financial Instruments

The carrying amounts reported in the accompanying Consolidated Balance Sheets for cash, accounts receivable, and accounts payable approximate their fair value given the short-term maturity of these instruments. The fair value of our $470.0 million 7³/₄% Senior Subordinated Notes due 2015 (“7³/₄% Notes”) was $343.7 million and $467.1 million at December 31, 2008 and 2007, respectively.

Noncontrolling Interests in Consolidated Entities

The consolidated financial statements include all assets, liabilities, revenues and expenses of all entities that we control. For those entities we control with less than 100% ownership, we have recorded noncontrolling interests in the earnings and equity.

Reclassifications

Certain reclassifications have been made to the prior year to conform with current year presentation.

Recent Accounting Pronouncements

In March 2008, the FASB issued SFAS No. 161, Disclosures about Derivative Instruments and Hedging Activities — An Amendment of SFAS 133 (“SFAS 161”). SFAS 161 requires enhanced disclosures about derivative and hedging activities. SFAS 161 is effective for fiscal years and interim periods beginning after November 15, 2008. We will adopt the provisions of SFAS 161 on January 1, 2009. We are currently assessing the impact, if any, of the adoption of SFAS 161 on our consolidated financial statement disclosures.

In December 2007, the FASB issued SFAS No. 141R, Business Combinations (“SFAS 141R”), to replace Statement of Financial Accounting Standards No. 141, Business Combinations. SFAS 141R requires use of the acquisition method of accounting, defines the acquirer, establishes the acquisition date, requires acquisition-related costs to be expensed as incurred and broadens the scope of a business combination to include transactions and other events in which one entity obtains control over one or more other businesses. We will adopt SFAS 141R on January 1, 2009. At the time of adoption, we do not expect that SFAS 141R will have a significant impact on our consolidated financial statements. However for any acquisitions completed during or after 2009, the effect of SFAS 141R could be significant to those acquisitions.

In December 2007, the FASB issued SFAS 160, which establishes accounting and reporting standards for the noncontrolling interest in a subsidiary and for the retained interest and gain or loss when a subsidiary is deconsolidated. The adoption of SFAS 160 on January 1, 2009 did not have a significant impact on our consolidated financial statements.

In February 2007, the FASB issued SFAS No. 159, The Fair Value Option for Financial Assets and Financial Liabilities—Including an Amendment of SFAS 115 (“SFAS 159”), which permits, but does not require, the measurement of financial instruments and certain other items at fair value. SFAS 159 requires reporting in earnings unrealized gains and losses on items for which the fair value option has been elected. Upon the effective date of SFAS 159, which was January 1, 2008, we did not elect the fair value option for any of our financial instruments.

2. Revenue

Revenue consists of the following amounts (in thousands):

	December 31,
	2008		2007		2006
Patient service revenue	$	1,578,890	$	1,323,534	$	953,912
Other revenue		124,975		100,497		38,572
Total revenue	$	1,703,865	$	1,424,031	$	992,484

F-13

PSYCHIATRIC SOLUTIONS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 2008

Patient Service Revenue

Patient service revenue is generated by our inpatient facilities from services provided to patients on an inpatient and outpatient basis. Patient service revenue is recorded at our established billing rates less contractual adjustments. Contractual adjustments are recorded to state our patient service revenue at the amount we expect to collect for the services provided based on amounts reimbursable by Medicare or Medicaid under provisions of cost or prospective reimbursement formulas or amounts due from other third-party payors at contractually determined rates. During the years ended December 31, 2008, 2007 and 2006, approximately 30%, 32% and 37%, respectively, of our revenue was obtained from providing services to patients participating in the Medicaid program. During the years ended December 31, 2008, 2007 and 2006, approximately 13%, 12% and 12%, respectively, of our revenue was obtained from providing services to patients participating in the Medicare program.

Settlements under cost reimbursement agreements with third-party payors are estimated and recorded in the period in which the related services are rendered and are adjusted in future periods as final settlements are determined. Final determination of amounts earned under the Medicare and Medicaid programs often occur in subsequent years because of audits by such programs, rights of appeal and the application of numerous technical provisions.

We provide care without charge to patients who are financially unable to pay for the health care services they receive. Because we do not pursue collection of amounts determined to qualify as charity care, these amounts are not reported as revenue.

Other Revenue

Other revenue primarily derives from our contract management business. Our contract management business involves the development, organization and management of behavioral health care programs within medical/surgical hospitals. Services provided are recorded as revenue at contractually determined rates in the period the services are rendered, provided that collectability of such amounts is reasonably assured.

3. Earnings Per Share

SFAS No. 128, Earnings per Share (“SFAS 128”), requires dual presentation of basic and diluted earnings per share by entities with complex capital structures. Basic earnings per share includes no dilution and is computed by dividing net income available to common stockholders by the weighted average number of common shares outstanding for the period. Diluted earnings per share also includes the potential dilution of securities that could share in the earnings of the entity. We have calculated earnings per share in accordance with SFAS 128 for all periods presented.

The following table sets forth the computation of basic and diluted earnings per share (in thousands, except per share amounts):

F-14

PSYCHIATRIC SOLUTIONS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 2008

	Year ended December 31,
	2008		2007		2006
Numerator:
Basic and diluted earnings per share:
Income from continuing operations attributable to PSI stockholders	$	103,973	$	75,684	$	60,659
Income (loss) from discontinued operations, net of taxes		980		524		(27	)
Net income attributable to PSI stockholders	$	104,953	$	76,208	$	60,632
Denominator:
Weighted average shares outstanding for basic earnings per share		55,408		54,258		52,953
Effects of dilutive stock options and restriced stock outstanding		859		1,189		1,216
Shares used in computing diluted earnings per common share		56,267		55,447		54,169
Basic earnings per share:
Income from continuing operations attributable to PSI stockholders	$	1.88	$	1.39	$	1.15
Income (loss) from discontinued operations, net of taxes		0.01		0.01		—
Net income attributable to PSI stockholders	$	1.89	$	1.40	$	1.15
Diluted earnings per share:
Income from continuing operations attributable to PSI stockholders	$	1.85	$	1.36	$	1.12
Income (loss) from discontinued operations, net of taxes		0.02		0.01		—
Net income attributable to PSI stockholders	$	1.87	$	1.37	$	1.12

4. Discontinued Operations

SFAS No. 144, Accounting for the Impairment or Disposal of Long-Lived Assets, requires that all components of an entity that have been disposed of (by sale, by abandonment or in a distribution to owners) or are held for sale and whose cash flows can be clearly distinguished from the rest of the entity be presented as discontinued operations. During 2009, we sold our employee assistance program (“EAP”) business, elected to make The Oaks Treatment Center and Nashville Rehabilitation Hospital available for sale, and terminated one contract with a South Carolina juvenile justice agency. During 2008, we elected to sell one facility. Additionally, two contracts with a juvenile justice agency in Puerto Rico to manage inpatient facilities were terminated in 2008. During 2007, we elected to dispose of one facility. During 2006, we terminated three of our contracts to manage state-owned inpatient facilities and sold a therapeutic boarding school. Accordingly, these operations, net of applicable income taxes, have been presented as discontinued operations and prior period consolidated financial statements have been reclassified.

The components of income (loss) from discontinued operations, net of taxes, are as follows (in thousands):

	Year Ended December 31,
	2008		2007		2006
Revenue	$	76,912	$	60,138	$	36,092
Operating expenses		71,917		57,994		34,696
Loss on disposal		1,917		767		1,425
		73,834		58,761		36,121
Income (loss) from discontinued operations before income taxes		3,078		1,377		(29	)
Provision for (benefit from) income taxes		2,098		853		(2	)
Income (loss) from discontinued operations, net of income taxes	$	980	$	524	$	(27	)

The loss on disposal for the year ended December 31, 2008, includes approximately $2.3 million of goodwill disposed of when we elected to sell a facility in 2008. Prepaids and other current assets include assets held for sale of $88.6 million and $11.0 million as of

F-15

PSYCHIATRIC SOLUTIONS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 2008

December 31, 2008 and 2007, respectively. Other assets include $1.8 million and $39.9 million of assets held for sale as of December 31, 2008 and 2007, respectively. Other current liabilities include liabilities of discontinued operations of $6.2 and $5.8 million as of December 31, 2008 and 2007, respectively.

We have elected to allocate interest expense to discontinued operations based on the ratio of net assets to be sold or discontinued less debt that is required to be paid as a result of the disposal transaction to the sum of our total net assets plus consolidated debt. Interest allocated to discontinued operations was $2.5 million, $1.0 million and $0.3 million for the years ended December 31, 2008, 2007 and 2006, respectively.

5. Acquisitions

     2008 Acquisitions

On March 1, 2008, we acquired five inpatient behavioral health care facilities with approximately 400 beds from UMC for $120.0 million. The acquisition was accounted for by the purchase method and the purchase price allocation for the UMC facilities is preliminary as of December 31, 2008, pending final measurement of certain assets and liabilities related to the acquisition. During 2008, we acquired multiple EAP businesses in separate transactions for an aggregate of approximately $45.0 million, which were subsequently sold in 2009.

     2007 Acquisitions

During 2007, we acquired 16 inpatient behavioral health care facilities with an aggregate of approximately 1,600 beds, including the May 31, 2007 acquisition of Horizon Health, which operated 15 inpatient facilities. Each acquisition was accounted for by the purchase method and the aggregate purchase prices of these transactions were allocated to the assets acquired and liabilities assumed based upon their respective fair values. The consolidated financial statements include the accounts and operations of the acquired entities for the period subsequent to the acquisition date. As the acquisition of Horizon Health involved a merger, the goodwill associated with this acquisition is not deductible for federal income tax purposes.

The following table summarizes the allocation of the aggregate purchase price of Horizon Health (in thousands):

Assets acquired:
Accounts receivable	$	40,590
Other current assets		15,102
Fixed assets		96,664
Costs in excess of net assets acquired		285,068
Other assets		24,039
		461,463
Liabilities assumed		35,446
Long-term debt assumed		6,998
Cash paid, net of cash acquired and discontinued operations		419,019
Assets and liabilities of discontinued operations		10,124
Cash paid, net of cash acquired	$	429,143

Acquisition-related direct costs paid subsequent to closing have been included as a part of the acquisition.

     2006 Acquisitions

During 2006, we acquired 19 inpatient behavioral health care facilities with an aggregate of approximately 1,900 beds, including the December 1, 2006 purchase of the capital stock of Alternative Behavioral Services, Inc. (“ABS”), which owned nine inpatient facilities. Each acquisition was accounted for by the purchase method and the aggregate purchase prices of these transactions were allocated to the assets acquired and liabilities assumed based upon their respective fair values. The consolidated financial statements include the accounts and operations of the acquired entities for the periods subsequent to the acquisition date. As the acquisition of ABS involved the acquisition of stock, the goodwill associated with this acquisition is not deductible for federal income tax purposes.

The following table summarizes the allocation of the aggregate purchase price of ABS (in thousands):

F-16

PSYCHIATRIC SOLUTIONS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 2008

Assets acquired:
Accounts receivable	$	21,049
Other current assets		8,883
Fixed assets		65,332
Costs in excess of net assets acquired		148,312
Other assets		411
		243,987
Liabilities assumed		30,262
Common stock issued		4,277
Cash paid, net of cash acquired and discontinued operations		209,448
Assets and liabilities of discontinued operations		2,266
Cash paid, net of cash acquired	$	211,714

6. Long-term debt

Long-term debt consists of the following (in thousands):

	December 31,
	2008		2007
Senior credit facility:
Revolving line of credit facility, expiring on December 21, 2009 (extended to December 31, 2011 for $200,000 in February 2009) and bearing interest of 3.4% and 6.4% at December 31, 2008 and December 31, 2007, respectively	$	229,333	$	80,000
Senior secured term loan facility, expiring on July 1, 2012 and bearing interest of 3.1% and 6.8% at December 31, 2008 and December 31, 2007, respectively		568,625		573,312
7 3/4% Notes		475,841		476,508
Mortgage loans on facilities, maturing in 2036, 2037 and 2038 bearing fixed interest rates of 5.7% to 7.6%		33,273		33,671
Other		7,348		8,533
		1,314,420		1,172,024
Less current portion		34,414		6,016
Long-term debt	$	1,280,006	$	1,166,008

Senior Credit Facility

Our Senior Credit Facility (the “Credit Agreement”) includes a $300 million revolving line of credit facility with Bank of America, N.A. (“Bank of America”) and a $575 million senior secured term loan facility with Citicorp North America, Inc. During February 2009, our revolving credit facility was amended to extend the maturity of $200 million capacity to December 31, 2011 (see Note 18. Subsequent Event). The remaining $100 million capacity under our revolving credit facility will mature on December 21, 2009, as originally scheduled. As a result of this extension, $200 million of the $229.3 million balance outstanding under the revolving credit facility at December 31, 2008 has been classified as a non-current liability, with the remainder classified in current portion of long-term debt. Quarterly principal payments of $0.9 million are due on our senior secured term loan facility and the balance of our senior secured term loan facility is payable in full on July 1, 2012.

Lehman Brothers Commercial Paper (“Lehman”) is a participant in our revolving credit facility. Under the terms of our Second Amended and Restated Credit Agreement, as amended, Lehman committed to $25.0 million of the $300.0 million revolving credit facility. As a result of the bankruptcy filing of Lehman on September 15, 2008, we have not been able to access any of Lehman’s remaining unfunded commitment of approximately $5.9 million as of December 31, 2008. Unless Lehman’s commitment is assumed by another party, the availability for future borrowings under our revolving credit facility may continue to be reduced by Lehman’s remaining unfunded commitment.

Our Credit Agreement is secured by substantially all of the personal property owned by us or our subsidiaries, substantially all real property owned by us or our subsidiaries that has a value in excess of $5.0 million and the stock of our operating subsidiaries. In

F-17

PSYCHIATRIC SOLUTIONS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 2008

addition, the Credit Agreement is fully and unconditionally guaranteed by substantially all of our operating subsidiaries. The revolving credit facility and senior secured term loan facility accrue interest at our choice of the “Base Rate” or the “Eurodollar Rate” (as defined in the Credit Agreement) and are due December 21, 2009 and July 1, 2012, respectively. The “Base Rate” and “Eurodollar Rate” fluctuate based upon market rates and certain leverage ratios, as defined in the Credit Agreement. At December 31, 2008, we had $229.3 million in borrowings outstanding and $63.9 million available for future borrowings under the revolving credit facility. Until the maturity date, we may borrow, repay and re-borrow an amount not to exceed $300 million on our revolving credit facility. All repayments made under the senior secured term loan facility are a permanent reduction in the amount available for future borrowings. At December 31, 2008 we paid a quarterly commitment fee on the unused portion of our revolving credit facility that fluctuates, based upon certain leverage ratios, between 0.25% and 0.5% per annum. Commitment fees were approximately $0.3 million for the year ended December 31, 2008.

Our Credit Agreement contains customary covenants that include: (1) a limitation on capital expenditures and investments, sales of assets, mergers, changes of ownership, new principal lines of business, indebtedness, transactions with affiliates, dividends and redemptions; (2) various financial covenants; and (3) cross-default covenants triggered by a default of any other indebtedness of at least $5.0 million. As of December 31, 2008, we were in compliance with all debt covenant requirements. If we violate one or more of these covenants, amounts outstanding under the revolving credit facility, senior secured term loan facility and the majority of our other debt arrangements could become immediately payable and additional borrowings could be restricted.

7³/₄% Notes

The 7³/₄% Notes mature on July 15, 2015 and are fully and unconditionally guaranteed on a senior subordinated basis by substantially all of our existing operating subsidiaries. We received a premium of 2.75% plus accrued interest from the sale of $250 million of 7³/₄% Notes in 2007. This premium is being amortized over the remaining life of the 7³/₄% Notes using the effective interest method, which results in an effective interest rate of 7.3% on the $250 million issuance. Interest on these notes accrues at the rate of 7³/₄% per annum and is payable semi-annually in arrears on January 15 and July 15.

Mortgage Loans

At December 31, 2008, we had $33.3 million debt outstanding under mortgage loan agreements insured by the U.S. Department of Housing and Urban Development (“HUD”). The mortgage loans insured by HUD are secured by real estate located at Holly Hill Hospital in Raleigh, North Carolina, West Oaks Hospital in Houston, Texas, Riveredge Hospital near Chicago, Illinois, Canyon Ridge Hospital in Chino, California and MeadowWood Behavioral Health in New Castle, Delaware. Interest accrues on the Holly Hill, West Oaks, Riveredge, Canyon Ridge and MeadowWood HUD loans at 6.0%, 5.9%, 5.7%, 7.6% and 7.0% and principal and interest are payable in 420 monthly installments through December 2037, September 2038, December 2038, January 2036 and October 2036, respectively. The carrying amount of assets held as collateral approximated $43.6 million at December 31, 2008.

Interest Rate Swap Agreements

We periodically enter into interest rate swap agreements to manage our exposure to fluctuations in interest rates. During 2007, we entered into an agreement with Merrill Lynch Capital Services, Inc. to exchange the interest payments associated with a notional amount of $225 million of LIBOR indexed variable rate debt related to our senior secured term loan for a fixed interest rate of 3.8%. The agreement matures on November 30, 2009. The interest payments associated with this agreement are settled on a net basis and are included in interest expense. The fair value of our interest rate swap at December 31, 2008, reflected an other current liability of $6.2 million, which represents its fair value.

Other

The aggregate maturities of long-term debt, including capital lease obligations, are as follows (in thousands):

2009		34,414
2010		4,877
2011		204,833
2012		558,426
2013		1,079
Thereafter		510,791
Total	$	1,314,420

F-18

PSYCHIATRIC SOLUTIONS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 2008

7. Leases

Our operating leases consist primarily of the leases of seven inpatient behavioral health care facilities, our corporate office and the office for our contract management and EAP business. At December 31, 2008, future minimum lease payments under operating leases having an initial or remaining non-cancelable lease term in excess of one year are as follows (in thousands):

2009	$	13,328
2010		10,450
2011		7,968
2012		5,463
2013		4,812
Thereafter		30,210
Total	$	72,231

We entered into an agreement in 2008 to purchase a hospital building that was previously leased. Remaining payments of $19.0 million are due in 2009.

8. Income Taxes

Total provision for income taxes for the years ended December 31, 2008, 2007 and 2006 was allocated as follows (in thousands):

	2008		2007		2006
Provision for income taxes attributable to income from continuing operations	$	63,887	$	46,053	$	36,785
Provision for (benefit from) income taxes attributable to loss from discontinued operations		2,098		853		(2	)
Total provision for income taxes	$	65,985	$	46,906	$	36,783

The provision for income taxes attributable to income from continuing operations consists of the following (in thousands):

	2008		2007			2006
Current:
Federal	$	44,566	$	30,909		$	9,472
State		5,548		4,935			2,335
Foreign		2,338		3,505			209
		52,452		39,349			12,016
Deferred:
Federal		9,895		8,086			24,133
State		1,497		(457	)		342
Foreign		43		(925	)		294
		11,435		6,704			24,769
Provision for income taxes	$	63,887	$	46,053		$	36,785

The tax benefits associated with exercises of nonqualified stock options decreased the current tax liability by $3.1 million, $9.4 million and $4.4 million in 2008, 2007 and 2006, respectively. Such benefits were recorded as increases to stockholders’ equity.

The reconciliation of income tax computed by applying the U.S. federal statutory rate to the actual income tax expense attributable to income from continuing operations attributable to PSI stockholders is as follows (in thousands):

F-19

PSYCHIATRIC SOLUTIONS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 2008

	2008		2007		2006
Federal tax	$	58,751	$	42,608	$	34,105
State income taxes (net of federal)		4,579		2,911		1,742
Other		557		534		938
Provision for income taxes	$	63,887	$	46,053	$	36,785

Deferred income taxes reflect the net tax effects of temporary differences between the carrying amounts of assets and liabilities for financial reporting purposes and the amounts used for income tax purposes. The tax effects of significant items comprising temporary differences at December 31, 2008 and 2007 are as follows (in thousands):

	2008			2007
Deferred tax assets:
Net operating loss carryforwards	$	9,146		$	10,210
Allowance for doubtful accounts		13,488			11,218
Alternative minimum tax credit carryovers		794			1,150
Accrued liabilities		39,293			24,757
Total gross deferred tax assets		62,721			47,335
Less: Valuation allowance		(4,748	)		(5,640	)
Total deferred tax assets		57,973			41,695
Deferred tax liabilities:
Intangible assets		(37,567	)		(16,611	)
Property and equipment		(57,415	)		(51,509	)
Other		(2,658	)		—
Net deferred tax liability	$	(39,667	)	$	(26,425	)

Deferred income taxes of $29.8 million and $22.7 million at December 31, 2008 and 2007, respectively, are included in other current assets. Noncurrent deferred income tax liabilities totaled $69.5 million and $49.1 million at December 31, 2008 and 2007, respectively.

GAAP requires that deferred income taxes reflect the tax consequences of differences between the tax basis of assets and liabilities and their carrying values for GAAP. Future tax benefits are recognized to the extent that realization of such benefits is more likely than not. A valuation allowance is established for those benefits that do not meet the more likely than not criteria. We have evaluated the need for a valuation allowance against deferred tax assets and have recorded valuation allowances of $4.7 million, $5.6 million and $3.0 million at December 31, 2008, 2007 and 2006, respectively. The net change in valuation allowance was a decrease of $0.9 million for the year ended December 31, 2008 and an increase of $2.6 million for the year ended December 31, 2007. Any subsequent changes to this valuation allowance will affect income tax expense.

As of December 31, 2008, we had an unrecognized deferred tax liability for temporary differences of $3.6 million related to investments in our Puerto Rico subsidiaries that are essentially permanent in duration.

As of December 31, 2008, we had federal net operating loss carryforwards of $8.5 million expiring in the years 2018 through 2027, state net operating loss carryforwards of $77.7 million expiring in various years through 2028, foreign net operating loss carryforwards of $11.7 million expiring through 2011 and an alternative minimum tax credit carryover of approximately $0.8 million available to reduce future federal income taxes.

We adopted FIN 48 effective January 1, 2007. Our policy is to classify interest and penalties related to income taxes as a component of our tax provision. We had gross unrecognized tax benefits of $1.7 million and $1.3 million as of December 31, 2008 and 2007, respectively. The total amount of interest and penalties recognized in our consolidated balance sheet was $0.2 million as of December 31, 2008 and 2007. The net impact on provision for income tax of unrecognized tax benefits, if recognized, would have been $0.5 million and $0.3 million as of December 31, 2008 and 2007, respectively. Upon adoption of SFAS 141R on January 1, 2009, the net impact of unrecognized tax benefits on the provision for income taxes would be $1.1 million, if recognized.

A reconciliation of the beginning and ending amount of gross unrecognized tax benefits is as follows:

F-20

PSYCHIATRIC SOLUTIONS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 2008

Balance as of January 1, 2008	$	1,272
Increases for tax positions taken in the current year		698
Reductions due to lapse of statute of limitations		(246	)
Balance as of December 31, 2008	$	1,724

Our tax years 2005 through 2008 remain open to examination by federal and state taxing authorities. In addition, our 2004 tax year remains open to examination in certain states.

In addition, ABS, an entity acquired in 2006, has pre-acquisition federal income tax returns which remain open to examination back to the year 2002. Certain pre-acquisition state income tax returns of acquired ABS subsidiaries also remain open to examination for the years 2002 through 2006. We are fully indemnified under the ABS stock purchase agreement for any liabilities resulting from examinations of pre-acquisition tax returns.

Horizon Health has federal and state tax years which remain open to examination going back to 2005 and in certain states going back to 2004. We have no indemnification for any pre-acquisition liabilities that may result from examinations of Horizon Health income tax returns for pre-acquisition periods.

In the next twelve months we anticipate increases in unrecognized tax benefits of approximately $0.3 million related to certain state tax issues, and we anticipate potential reductions in unrecognized tax benefits of approximately $0.4 million related to certain state tax expired statutes of limitation.

9. Stock Option Plans

A maximum of 13,116,666 shares of our common stock are authorized for grant as stock options, restricted stock or other share-based compensation under the Psychiatric Solutions, Inc. Equity Incentive Plan (the “Equity Incentive Plan”). Under the Equity Incentive Plan, stock options may be granted for terms of up to ten years. Grants to employees generally vest in annual increments of 25% each year, commencing on the date of grant or one year after the date of grant. The exercise prices of stock options are equal to the closing sales prices of our common stock on the date of grant or the trading day immediately preceding the date of grant.

A maximum of 683,334 shares of our common stock are authorized for grant as stock options under the Psychiatric Solutions, Inc. Outside Directors’ Stock Option Plan (the “Directors’ Plan”). The Director’s Plan provides for a grant of 8,000 stock options at each annual meeting of stockholders to each outside director at the fair market value of our common stock on the trading day immediately preceding the date of grant. The Directors’ Plan also provides for an initial grant of 12,000 stock options to each new outside director on the date of the director’s initial election or appointment to the board of directors. The options vest 25% on the grant date and 25% on the succeeding three anniversaries of the grant date and generally have terms of ten years.

Stock option activity during 2008 is as follows (number of options and aggregate intrinsic value in thousands):

						Weighted
				Weighted		Average
				Average		Remaining		Aggregate
	Number			Exercise		Contractual		Intrinsic
	of Options			Price		Term (in years)		Value
Outstanding at December 31, 2007		6,055		$	28.41		n/a		n/a
Granted		1,590		$	30.60		n/a		n/a
Canceled		(643	)	$	33.61		n/a		n/a
Exercised		(490	)	$	19.25		n/a		n/a
Outstanding at December 31, 2008		6,512		$	28.98		7.5	$	24,448
Exercisable at December 31, 2008		3,223		$	23.59		6.4	$	23,959

Of the 1.6 million stock options granted in 2008, approximately 65,000 stock options were granted to management employees related to recent acquisitions.

Restricted stock activity is as follows (number of restricted shares in thousands):

F-21

PSYCHIATRIC SOLUTIONS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 2008

				Weighted
	Number			Average
	of			Grant-
	Restricted			Date Fair
	Shares			Value
Unvested at December 31, 2007		242		$	40.20
Granted		318		$	29.24
Canceled		—		$	0.00
Vested		(62	)	$	39.99
Unvested at December 31, 2008		498		$	33.23

We recognized $19.9 million, $16.1 million and $12.5 million in share-based compensation expense and approximately $7.6 million, $6.1 million and $4.7 million of related income tax benefit for the years ended December 31, 2008, 2007 and 2006, respectively. Share-based compensation expense for the year ended December 31, 2006 includes $2.2 million recorded in the quarter ended March 31, 2006 resulting from reversing the cancellation and accelerating the vesting of 89,014 stock options previously granted to our former Chief Operating Officer. Remaining share-based compensation expense was recorded as a result of adopting SFAS 123R. The impact of share-based compensation expense, net of tax, on our basic and diluted earnings per share was approximately $0.22, $0.18 and $0.14 per share for the years ended December 31, 2008, 2007 and 2006, respectively. Also as a result of adopting SFAS 123R, we classified $3.1 million, $9.4 million and $4.4 million in income tax benefits in excess of share-based compensation expense on stock options exercised in 2008, 2007 and 2006, respectively, as a cash flow from financing activities in our Condensed Consolidated Statement of Cash Flows for the years ended December 31, 2008, 2007 and 2006, respectively. Prior to the adoption of SFAS 123R, income tax benefits in excess of share-based compensation expense recognized on stock options exercised were classified as cash flows from operations. The fair value of our stock options was estimated using the Black-Scholes option pricing model. We recognize expense on all share-based awards on a straight-line basis over the requisite service period of the entire award.

The following table summarizes the weighted average grant-date fair values of options and the weighted average assumptions we used to develop the fair value estimates under each of the option valuation models for options granted in the years ended December 31, 2008, 2007 and 2006:

	2008			2007			2006
Weighted average grant-date fair value of options	$	11.02		$	14.25		$	9.96
Risk-free interest rate		3	%		5	%		5	%
Expected volatility		34	%		35	%		31	%
Expected life		5			5			4
Dividend yield		0	%		0	%		0	%

Our estimate of expected volatility for stock options granted in 2008, 2007 and 2006 is based upon the historical volatility of our common stock. Our estimate of expected volatility for stock options granted prior to 2006 is based upon the historical volatility of comparable companies. Our estimate of expected term is based upon our historical stock option exercise experience.

Based on our stock option and restricted stock grants outstanding at December 31, 2008, we estimate remaining unrecognized share-based compensation expense to be approximately $43.6 million with a weighted average remaining amortization period of 2.6 years.

The total intrinsic value, which represents the difference between the underlying stock’s market price and the option’s exercise price, of options exercised during the years ended December 31, 2008, 2007 and 2006 was $10.9 million, $31.2 million and $19.4 million, respectively.

10. Employee Benefit Plan

We sponsor the Psychiatric Solutions, Inc. Retirement Savings Plan (the “Plan”). The Plan is a tax-qualified profit sharing plan with a cash or deferred arrangement whereby employees who have completed three months of service and are age 21 or older are eligible to participate. The Plan allows eligible employees to make contributions of 1% to 85% of their annual compensation, subject to annual limitations. The Plan enables us to make discretionary contributions into each participants’ account that fully vest over a four year period based upon years of service.

F-22

PSYCHIATRIC SOLUTIONS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 2008

11. Contingencies and Health Care Regulation

Contingencies

We are subject to various claims and legal actions which arise in the ordinary course of business. We have professional and general liability insurance in umbrella form for claims in excess of a $3.0 million self-insured retention with an insured excess limit of $50.0 million. Effective December 31, 2008, we increased the insured excess limit to $75.0 million. We believe the ultimate resolution of such matters will be adequately covered by our self-insured reserves or insurance and will not have a material adverse effect on our financial position or results of operations.

Employment Agreements

We entered into a new employment agreement with Joey A. Jacobs, our Chairman, President and Chief Executive Officer, on May 10, 2007. The employment agreement superseded Mr. Jacobs’ prior employment agreement with us. The employment agreement expires on December 31, 2009, but is subject to automatic annual renewals absent prior notice from either party of the intent not to renew the employment agreement. Pursuant to the employment agreement, Mr. Jacobs’ base salary, cash bonuses and incentive compensation are subject to adjustment from time to time at the discretion of the Compensation Committee.

If we terminate Mr. Jacobs’ employment “without cause” or if Mr. Jacobs resigns as a result of a “constructive discharge,” as those terms are defined in the employment agreement: (a) Mr. Jacobs will receive a lump sum severance payment equal to two times the sum of (i) his base salary on the date of termination and (ii) the most recent annual bonus paid to Mr. Jacobs during the immediately previous 12-month period; (b) Mr. Jacobs will receive any earned but unpaid base salary, which shall be paid in accordance with our normal payroll practices; (c) Mr. Jacobs will receive bonus compensation payable on a prorated basis for the year of termination, which shall be paid at the same time our executive officers receive their bonuses for the year in which the termination occurred; (d) to the extent that Mr. Jacobs is eligible for and has elected continuation coverage under the Consolidated Omnibus Budget Reconciliation Act of 1985 (“COBRA”), we agreed to waive all premiums for elected continuation coverage during such COBRA period but not to exceed 18 months; (e) to the extent that Mr. Jacobs is covered by an individual health policy, we will pay all reasonable premiums under such policy for 24 months following the termination date; and (f) all shares of restricted stock and unvested stock options held by Mr. Jacobs and scheduled to vest during the succeeding 24-month period will immediately vest and any such options will remain exercisable for 12 months from the date of termination. Termination, whether voluntary or involuntary, of Mr. Jacobs’ employment within 12 months following a “change in control,” as defined in the employment agreement, shall be treated as a termination without cause.

If Mr. Jacobs’ employment terminates as a result of his disability or death, Mr. Jacobs or his beneficiaries will be entitled to receive any earned but unpaid base salary, which shall be paid in accordance with the normal payroll practices of the Company. In addition, Mr. Jacobs or his beneficiaries will also receive any bonus compensation, which is payable on a prorated basis for the year of termination, and which shall be paid at the same time our executive officers receive their bonuses for the year in which the termination occurred. Finally, all shares of restricted stock and unvested stock options held by Mr. Jacobs will immediately vest upon his death or termination for disability.

If Mr. Jacobs’ employment is terminated for cause, as defined in the employment agreement, or he resigns other than pursuant to a triggering event described above, any earned but unpaid base salary shall be paid in accordance with our normal payroll practices, but we will not make any other payments or provide any benefits to Mr. Jacobs.

Current Operations

Final determination of amounts earned under prospective payment and cost-reimbursement arrangements is subject to review by appropriate governmental authorities or their agents. We believe adequate provision has been made for any adjustments that may result from such reviews.

Laws and regulations governing the Medicare and Medicaid programs are complex and subject to interpretation. We believe that we are in substantial compliance with all applicable laws and regulations and are not aware of any material pending or threatened investigations involving allegations of potential wrongdoing. While no material regulatory inquiries have been made, compliance with such laws and regulations can be subject to future government review and interpretation as well as significant regulatory action including fines, penalties, and exclusion from the Medicare and Medicaid programs.

We have acquired and may continue to acquire corporations and other entities with prior operating histories. Acquired entities may have unknown or contingent liabilities for failure to comply with health care laws and regulations, such as billing and reimbursement, fraud and abuse and similar anti-referral laws. Although we attempt to assure ourselves that no such liabilities exist and obtain

F-23

PSYCHIATRIC SOLUTIONS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 2008

indemnification from prospective sellers covering such matters, there can be no assurance that any such matter will be covered by indemnification or, if covered, that the liability sustained will not exceed contractual limits or the financial capacity of the indemnifying party.

12. Related Party Transactions

William M. Petrie, M.D., a member of our Board of Directors, serves as President of Psychiatric Consultants, P.C. (“PCPC”), a practice group managed by us, owns a 14% interest in PCPC, and is the medical director of Rolling Hills Hospital, our facility in Franklin, TN. The initial term of the PCPC management agreement was for three years. It was most recently renewed for an additional three year term on April 11, 2006. The PCPC management agreement will continue to automatically renew for three year terms unless terminated by either party. Our management fee for PCPC is less than $0.2 million annually.

13. Disclosures About Reportable Segments

In accordance with the criteria of SFAS No. 131, Disclosures About Segments of an Enterprise and Related Information (“SFAS 131”), our owned and leased behavioral health care facilities segment is our only reportable segment. Our inpatient facilities are organized in a reporting structure comprised of divisions and markets. Each division/market qualifies as an operating segment under SFAS 131. However, we have aggregated our inpatient facility divisions/markets into one reportable segment based on the similarity of the economic characteristics of the divisions/markets. As of December 31, 2008, the owned and leased facilities segment provides mental health and behavioral heath services to patients in its 87 owned and 7 leased inpatient facilities in 31 states, Puerto Rico and the U.S. Virgin Islands. The column entitled “Other” in the schedules below includes management contracts to provide inpatient psychiatric management and development services to inpatient behavioral health units in hospitals and clinics, employee assistance programs and a managed care plan in Puerto Rico. The operations included in the “Other” column do not qualify as reportable segments under SFAS 131. Activities classified as “Corporate” in the following schedules relate primarily to unallocated home office expenses and discontinued operations.

Adjusted EBITDA is a non-GAAP financial measure and is defined as net income (loss) before discontinued operations, interest expense (net of interest income), income taxes, depreciation, amortization, stock compensation and other items included in the caption labeled “Other expenses.” These other expenses may occur in future periods, but the amounts recognized can vary significantly from period to period and do not directly relate to ongoing operations of our health care facilities. Our management relies on adjusted EBITDA as the primary measure to review and assess the operating performance of our inpatient facilities and their management teams. We believe it is useful to investors to provide disclosures of our operating results on the same basis as that used by management. Management and investors also review adjusted EBITDA to evaluate our overall performance and to compare our current operating results with corresponding periods and with other companies in the health care industry. You should not consider adjusted EBITDA in isolation or as a substitute for net income, operating cash flows or other cash flow statement data determined in accordance with U. S. generally accepted accounting principles. Because adjusted EBITDA is not a measure of financial performance under U. S. generally accepted accounting principles and is susceptible to varying calculations, it may not be comparable to similarly titled measures of other companies. The following is a financial summary by reportable segment for the periods indicated (dollars in thousands):

F-24

PSYCHIATRIC SOLUTIONS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 2008

Year Ended December 31, 2008

	Owned and
	Leased
	Facilities			Other			Corporate			Consolidated
Revenue	$	1,578,890		$	124,975					$	1,703,865
Adjusted EBITDA	$	325,932		$	22,866		$	(45,157	)	$	303,641
Interest expense, net		28,148			(1,391	)		49,453			76,210
Provision for income taxes		—			—			63,887			63,887
Depreciation and amortization		32,879			4,633			1,542			39,054
Inter-segment expenses		63,372			5,840			(69,212	)		—
Other expenses:
Share-based compensation		—			—			19,913			19,913
Income (loss) from continuing operations		201,533			13,784			(110,740	)		104,577
Less: Income attributable to noncontrolling interest		(604	)		—			—			(604	)
Income (loss) from continuing operations attributable to PSI stockholders	$	200,929		$	13,784		$	(110,740	)	$	103,973
Total assets	$	2,208,939		$	74,175		$	222,876		$	2,505,990
Capital expenditures	$	117,284		$	876		$	4,335		$	122,495
Cost in excess of net assets acquired	$	1,111,855		$	27,387		$	—		$	1,139,242

Year Ended December 31, 2007

	Owned and
	Leased
	Facilities			Other		Corporate			Consolidated
Revenue	$	1,323,534		$	100,497	$	—		$	1,424,031
Adjusted EBITDA	$	272,497		$	16,862	$	(38,632	)	$	250,727
Interest expense, net		29,898			100		44,118			74,116
Provision for income taxes		—			—		46,053			46,053
Depreciation and amortization		26,433			2,413		1,460			30,306
Inter-segment expenses		54,815			4,503		(59,318	)		—
Other expenses:
Share-based compensation		—			—		16,104			16,104
Loss on refinancing long-term debt		—			—		8,179			8,179
Total other expenses		—			—		24,283			24,283
Income (loss) from continuing operations		161,351			9,846		(95,228	)		75,969
Less: Income attributable to noncontrolling interest		(285	)		—		—			(285	)
Income (loss) from continuing operations attributable to PSI stockholders	$	161,066		$	9,846	$	(95,228	)	$	75,684
Total assets	$	1,945,916		$	80,543	$	153,045		$	2,179,504
Capital expenditures	$	66,931		$	354	$	4,078		$	71,363
Cost in excess of net assets acquired	$	1,024,395		$	27,387	$	—		$	1,051,782

F-25

PSYCHIATRIC SOLUTIONS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 2008

Year Ended December 31, 2006

	Owned and
	Leased
	Facilities		Other			Corporate			Consolidated
Revenue	$	953,912	$	38,572		$	—		$	992,484
Adjusted EBITDA	$	191,991	$	6,539		$	(28,568	)	$	169,962
Interest expense, net		13,091		(2	)		26,879			39,968
Provision for income taxes		—		—			36,785			36,785
Depreciation and amortization		18,101		654			1,260			20,015
Inter-segment expenses		27,899		1,518			(29,417	)		—
Other expenses:
Share-based compensation		—		—			12,535			12,535
Income (loss) from continuing operations attributable to PSI stockholders	$	132,900	$	4,369		$	(76,610	)	$	60,659
Total assets	$	1,443,773	$	34,419		$	103,554		$	1,581,746
Capital expenditures	$	28,134	$	13		$	4,889		$	33,036
Cost in excess of net assets acquired	$	735,293	$	20,422		$	—		$	755,715

14. Other Information

A summary of activity in allowance for doubtful accounts follows (in thousands):

	Balances		Additions		Additions		Accounts written		Balances
	at beginning		charged to costs		charged to		off, net of		at end
	of period		and expenses		other accounts (1)		recoveries		of period
Allowance for doubtful accounts:
Year ended December 31, 2006	$	14,993	$	19,366	$	12,023	$	27,887	$	18,495
Year ended December 31, 2007		18,495		27,353		12,982		23,660		35,170
Year ended December 31, 2008		35,170		34,387		—		20,934		48,623

(1) Allowances as a result of acquisitions.

15. Quarterly Information (Unaudited)

Summarized results for each quarter in the years ended December 31, 2008 and 2007 are as follows (in thousands, except per share data):

F-26

PSYCHIATRIC SOLUTIONS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 2008

	1st Quarter		2nd Quarter		3rd Quarter		4th Quarter		Total Year
2008
Revenue	$	410,499	$	431,196	$	431,713	$	430,457	$	1,703,865
Income from continuing operations attributable to PSI stockholders	$	24,414	$	28,037	$	27,601	$	23,921	$	103,973
Net income attributable to PSI stockholders	$	25,496	$	29,059	$	26,377	$	24,021	$	104,953
Earnings per share:
Basic	$	0.46	$	0.53	$	0.48	$	0.43	$	1.89
Diluted	$	0.46	$	0.52	$	0.47	$	0.43	$	1.87
2007
Revenue	$	312,631	$	341,599	$	384,395	$	385,406	$	1,424,031
Income from continuing operations attributable to PSI stockholders	$	18,505	$	14,871	$	19,047	$	23,261	$	75,684
Net income attributable to PSI stockholders	$	18,125	$	14,607	$	20,325	$	23,151	$	76,208
Earnings per share:
Basic	$	0.34	$	0.27	$	0.37	$	0.42	$	1.40
Diluted	$	0.33	$	0.26	$	0.37	$	0.42	$	1.37

As discussed in Note 4, we sold our EAP business, elected to make The Oaks Treatment Center and Nashville Rehabilitation Hospital available for sale and terminated one contract with a South Carolina juvenile justice agency during 2009. During 2008, we elected to sell one inpatient behavioral health care facility and two contracts with a Puerto Rican juvenile justice agency to manage inpatient facilities were terminated. We disposed of one inpatient behavioral health care facility in 2007. During 2006, we terminated three of our contracts to manage state-owned inpatient facilities and sold a therapeutic boarding school. In accordance with SFAS 144, these operations, net of income tax, have been presented as discontinued operations and all prior quarterly data has been reclassified.

Our self-insured reserves for general and professional liability risks increased approximately $4.9 million at December 31, 2008 as compared to December 31, 2007, primarily as a result of the revised assessment in the fourth quarter of 2008 of certain claims at amounts higher than originally anticipated and the actuarial implications of such revisions.

We incurred a loss on refinancing long-term debt of approximately $8.2 million in the second quarter of 2007.

16. Financial Information for the Company and Its Subsidiaries

We conduct substantially all of our business through our subsidiaries. Presented below is consolidated financial information for Psychiatric Solutions, Inc. and its subsidiaries as of December 31, 2008 and 2007, and for the years ended December 31, 2008, 2007 and 2006. The information segregates the parent company (Psychiatric Solutions, Inc.), the combined wholly-owned subsidiary guarantors, the combined non-guarantors, and eliminations. All of the subsidiary guarantees are both full and unconditional and joint and several.

F-27

PSYCHIATRIC SOLUTIONS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 2008

Condensed Consolidating Balance Sheet
As of December 31, 2008
(in thousands)

			Combined
			Subsidiary			Combined Non-			Consolidating			Total Consolidated
	Parent		Guarantors			Guarantors			Adjustments			Amounts
Current Assets:
Cash and cash equivalents	$	—	$	39,881		$	11,390		$	—		$	51,271
Accounts receivable, net		—		235,623			7,792			(69	)		243,346
Prepaids and other		—		169,204			15,595			(435	)		184,364
Total current assets		—		444,708			34,777			(504	)		478,981
Property and equipment, net of accumulated depreciation		—		777,021			57,647			(9,524	)		825,144
Cost in excess of net assets acquired		—		1,139,242			—			—			1,139,242
Investment in subsidiaries		1,668,281		(546,931	)		(23,521	)		(1,097,829	)		—
Other assets		12,633		(1,046	)		27,971			23,065			62,623
Total assets	$	1,680,914	$	1,812,994		$	96,874		$	(1,084,792	)	$	2,505,990
Current Liabilities:
Accounts payable	$	—	$	33,951		$	865		$	(69	)	$	34,747
Salaries and benefits payable		—		82,139			1,727						83,866
Other accrued liabilities		28,786		51,524			3,798			(3,531	)		80,577
Current portion of long-term debt		33,991		—			423			—			34,414
Total current liabilities		62,777		167,614			6,813			(3,600	)		233,604
Long-term debt, less current portion		1,247,156		—			32,850			—			1,280,006
Deferred tax liability		—		69,471			—			—			69,471
Other liabilities		12,433		(62,056	)		31,688			46,002			28,067
Total liabilities		1,322,366		175,029			71,351			42,402			1,611,148
Redeemable noncontrolling interest		—		—			—			4,957			4,957
Total stockholders’ equity (deficit)		358,548		1,637,965			25,523			(1,132,151	)		889,885
Total liabilities and stockholders’ equity (deficit)	$	1,680,914	$	1,812,994		$	96,874		$	(1,084,792	)	$	2,505,990

Condensed Consolidating Balance Sheet
As of December 31, 2007
(in thousands)

			Combined
			Subsidiary			Combined Non-			Consolidating			Total Consolidated
	Parent		Guarantors			Guarantors			Adjustments			Amounts
Current Assets:
Cash and cash equivalents	$	—	$	19,154		$	20,816		$	—		$	39,970
Accounts receivable, net		—		218,239			7,444			(110	)		225,573
Prepaids and other		—		73,406			1,555			(444	)		74,517
Total current assets		—		310,799			29,815			(554	)		340,060
Property and equipment, net of accumulated depreciation		—		634,311			57,526			(9,497	)		682,340
Cost in excess of net assets acquired		—		1,051,782			—			—			1,051,782
Investment in subsidiaries		1,545,547		(424,942	)		(20,343	)		(1,100,262	)		—
Other assets		15,441		101,494			4,813			(16,426	)		105,322
Total assets	$	1,560,988	$	1,673,444		$	71,811		$	(1,126,739	)	$	2,179,504
Current Liabilities:
Accounts payable	$	—	$	29,560		$	1,059		$	(448	)	$	30,171
Salaries and benefits payable		—		79,037			1,657			20			80,714
Other accrued liabilities		25,171		39,838			242			353			65,604
Current portion of long-term debt		5,619		—			397			—			6,016
Total current liabilities		30,790		148,435			3,355			(75	)		182,505
Long-term debt, less current portion		1,132,735		—			33,273			—			1,166,008
Deferred tax liability		—		49,131			—			—			49,131
Other liabilities		2,659		5,431			13,549			1,320			22,959
Total liabilities		1,166,184		202,997			50,177			1,245			1,420,603
Redeemable noncontrolling interest		—		—			—			4,159			4,159
Total stockholders’ equity (deficit)		394,804		1,470,447			21,634			(1,132,143	)		754,742
Total liabilities and stockholders’ equity (deficit)	$	1,560,988	$	1,673,444		$	71,811		$	(1,126,739	)	$	2,179,504

F-28

PSYCHIATRIC SOLUTIONS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 2008

Condensed Consolidating Statement of Income
For the Twelve Months Ended December 31, 2008
(in thousands)

				Combined
				Subsidiary		Combined Non-		Consolidating			Total Consolidated
	Parent			Guarantors		Guarantors		Adjustments			Amounts
Revenue	$	—		$	1,652,614	$	63,130	$	(11,879	)	$	1,703,865
Salaries, wages and employee benefits		—			915,889		28,520		(20	)		944,389
Professional fees		—			156,087		7,721		(100	)		163,708
Supplies		—			90,550		2,410		—			92,960
Rentals and leases		—			24,607		397		(4,230	)		20,774
Other operating expenses		—			158,704		13,397		(8,182	)		163,919
Provision for doubtful accounts		—			33,486		901		—			34,387
Depreciation and amortization		—			37,092		2,269		(307	)		39,054
Interest expense		74,960			—		1,250		—			76,210
		74,960			1,416,415		56,865		(12,839	)		1,535,401
(Loss) income from continuing operations before income taxes		(74,960	)		236,199		6,265		960			168,464
(Benefit from) provision for income taxes		(28,427	)		89,574		2,376		364			63,887
(Loss) income from continuing operations		(46,533	)		146,625		3,889		596			104,577
Income from discontinued operations, net of tax		—			980		—		—			980
Net (loss) income		(46,533	)		147,605		3,889		596			105,557
Less: Net income attributable to noncontrolling interest		—			—		—		(604	)		(604	)
Net (loss) income attributable to PSI stockholders	$	(46,533	)	$	147,605	$	3,889	$	(8	)	$	104,953

Condensed Consolidating Statement of Income
For the Twelve Months Ended December 31, 2007
(in thousands)

				Combined
				Subsidiary		Combined Non-		Consolidating			Total Consolidated
	Parent			Guarantors		Guarantors		Adjustments			Amounts
Revenue	$	—		$	1,397,206	$	39,903	$	(13,078	)	$	1,424,031
Salaries, wages and employee benefits		—			778,774		15,068		3			793,845
Professional fees		—			132,643		5,529		(1,132	)		137,040
Supplies		—			77,185		1,227		(17	)		78,395
Rentals and leases		—			22,861		221		(4,006	)		19,076
Other operating expenses		—			130,992		12,406		(9,699	)		133,699
Provision for doubtful accounts		—			26,689		664		—			27,353
Depreciation and amortization		—			28,689		1,893		(276	)		30,306
Interest expense		72,876			—		1,240		—			74,116
Loss on refinancing long-term debt		8,179			—		—		—			8,179
		81,055			1,197,833		38,248		(15,127	)		1,302,009
(Loss) income from continuing operations before income taxes		(81,055	)		199,373		1,655		2,049			122,022
(Benefit from) provision for income taxes		(30,591	)		75,246		625		773			46,053
(Loss) income from continuing operations		(50,464	)		124,127		1,030		1,276			75,969
Income from discontinued operations, net of taxes		—			524		—		—			524
Net (loss) income		(50,464	)		124,651		1,030		1,276			76,493
Less: Net income attributable to noncontrolling interest		—			—		—		(285	)		(285	)
Net (loss) income attributable to PSI stockholders	$	(50,464	)	$	124,651	$	1,030	$	991		$	76,208

F-29

PSYCHIATRIC SOLUTIONS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 2008

Condensed Consolidating Statement of Income
For the Twelve Months Ended December 31, 2006
(in thousands)

				Combined
				Subsidiary			Combined Non-		Consolidating			Total Consolidated
	Parent			Guarantors			Guarantors		Adjustments			Amounts
Revenue	$	—		$	992,484		$	11,601	$	(11,601	)	$	992,484
Salaries, wages and employee benefits		—			560,266			—		—			560,266
Professional fees		—			93,729			1,023		(1,005	)		93,747
Supplies		—			56,216			—		—			56,216
Rentals and leases		—			16,243			—		(3,495	)		12,748
Other operating expenses		—			92,682			2,504		(2,472	)		92,714
Provision for doubtful accounts		—			19,366			—		—			19,366
Depreciation and amortization		—			19,169			1,089		(243	)		20,015
Interest expense		38,766			—			1,202		—			39,968
		38,766			857,671			5,818		(7,215	)		895,040
(Loss) income from continuing operations before income taxes		(38,766	)		134,813			5,783		(4,386	)		97,444
(Benefit from) provision for income taxes		(14,634	)		50,892			2,183		(1,656	)		36,785
(Loss) income from continuing operations		(24,132	)		83,921			3,600		(2,730	)		60,659
Loss from discontinued operations, net of taxes		—			(27	)		—		—			(27	)
Net (loss) income attributable to PSI stockholders	$	(24,132	)	$	83,894		$	3,600	$	(2,730	)	$	60,632

F-30

PSYCHIATRIC SOLUTIONS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 2008

Condensed Consolidating Statement of Cash Flows
For the Twelve Months Ended December 31, 2008
(in thousands)

				Combined
				Subsidiary			Combined Non-			Consolidating			Total Consolidated
	Parent			Guarantors			Guarantors			Adjustments			Amounts
Operating activities:
Net (loss) income	$	(46,533	)	$	147,605		$	3,889		$	596		$	105,557
Adjustments to reconcile net (loss) income to net cash (used in) provided by operating activities:
Depreciation and amortization		—			37,092			2,269			(307	)		39,054
Amortization of loan costs and bond premium		2,168			—			45			—			2,213
Share-based compensation		—			19,913			—			—			19,913
Change in income tax assets and liabilities		—			(5,034	)		—			—			(5,034	)
Loss from discontinued operations, net of taxes		—			(980	)		—			—			(980	)
Changes in operating assets and liabilities, net of effect of acquisitions:
Accounts receivable		—			(17,601	)		(348	)		—			(17,949	)
Prepaids and other current assets		—			9,425			(14,040	)		—			(4,615	)
Accounts payable		—			2,973			(194	)		—			2,779
Salaries and benefits payable		—			1,543			70			—			1,613
Accrued liabilities and other liabilities		(3,599	)		1,210			(1,858	)		—			(4,247	)
Net cash (used in) provided by continuing operating activities		(47,964	)		196,146			(10,167	)		289			138,304
Net cash provided by discontinued operating activities		—			3,479			—			—			3,479
Net cash (used in) provided by operating activities		(47,964	)		199,625			(10,167	)		289			141,783
Investing activities:
Cash paid for acquisitions, net of cash acquired		(121,156	)		—			—			—			(121,156	)
Capital purchases of leasehold improvements, equipment and software		—			(120,105	)		(2,390	)					(122,495	)
Other assets		—			(1,668	)		350			—			(1,318	)
Net cash used in continuing investing activities		(121,156	)		(121,773	)		(2,040	)		—			(244,969	)
Net cash (used in) provided by discontinued investing activities		(45,000	)		3,754			—			—			(41,246	)
Net cash used in investing activities		(166,156	)		(118,019	)		(2,040	)		—			(286,215	)
Financing activities:
Net increase in revolving credit facility, less acquisitions		149,333			—			—			—			149,333
Principal payments on long-term debt		(5,669	)		—			(398	)		—			(6,067	)
Payment of loan and issuance costs		(59	)		—			—			—			(59	)
Excess tax benefits from share-based payment arrangements		3,052			—			—			—			3,052
Net transfers to and from members		57,989			(60,879	)		3,179			(289	)		—
Proceeds from exercises of common stock options		9,474			—			—			—			9,474
Net cash provided by (used in) financing activities		214,120			(60,879	)		2,781			(289	)		155,733
Net increase (decrease) in cash		—			20,727			(9,426	)		—			11,301
Cash and cash equivalents at beginning of the year		—			19,154			20,816			—			39,970
Cash and cash equivalents at end of the year	$	—		$	39,881		$	11,390		$	—		$	51,271

F-31

PSYCHIATRIC SOLUTIONS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 2008

Condensed Consolidating Statement of Cash Flows
For the Twelve Months Ended December 31, 2007
(in thousands)

				Combined
				Subsidiary			Combined Non-			Consolidating			Total Consolidated
	Parent			Guarantors			Guarantors			Adjustments			Amounts
Operating activities:
Net (loss) income	$	(50,464	)	$	124,651		$	1,030		$	1,276		$	76,493
Adjustments to reconcile net (loss) income to net cash provided by (used in) operating activities:
Depreciation and amortization		—			28,689			1,893			(276	)		30,306
Amortization of loan costs and bond premium		2,106			—			45			—			2,151
Share-based compensation		—			16,104			—			—			16,104
Loss on refinancing long-term debt		8,179			—			—			—			8,179
Change in income tax assets and liabilities		—			8,193			446			—			8,639
Loss from discontinued operations, net of taxes		—			(524	)		—			—			(524	)
Changes in operating assets and liabilities, net of effect of acquisitions:
Accounts receivable		—			(13,535	)		578			—			(12,957	)
Prepaids and other current assets		—			5,971			377			—			6,348
Accounts payable		—			(7,428	)		(491	)		—			(7,919	)
Salaries and benefits payable		—			1,597			264			—			1,861
Accrued liabilities and other liabilities		10,965			(18,025	)		1,426			—			(5,634	)
Net cash (used in) provided by continuing operating activities		(29,214	)		145,693			5,568			1,000			123,047
Net cash provided by discontinued operating activities		—			2,474			—			—			2,474
Net cash (used in) provided by operating activities		(29,214	)		148,167			5,568			1,000			125,521
Investing activities:
Cash paid for acquisitions, net of cash acquired		(444,899	)		—			—			—			(444,899	)
Capital purchases of leasehold improvements, equipment and software		—			(70,796	)		(567	)		—			(71,363	)
Other assets		—			(2,866	)		415			—			(2,451	)
Net cash used in continuing investing activites		(444,899	)		(73,662	)		(152	)		—			(518,713	)
Net cash (used in) provided by discontinued investing activities		(17,921	)		50			—			—			(17,871	)
Net cash used in investing activities		(462,820	)		(73,612	)		(152	)		—			(536,584	)
Financing activities:
Net decrease in revolving credit facility, less acquisitions		(21,000	)		—			—			—			(21,000	)
Borrowings on long-term debt		481,875			—			—			—			481,875
Principal payments on long-term debt		(40,936	)		—			(345	)		—			(41,281	)
Payment of loan and issuance costs		(6,661	)		—			—			—			(6,661	)
Refinancing of long-term debt		(7,127	)		—			—			—			(7,127	)
Excess tax benefits from share-based payment arrangements		9,428			—			—			—			9,428
Net transfers to and from members		59,176			(58,565	)		389			(1,000	)		—
Proceeds from exercises of common stock options		17,279			—			—			—			17,279
Net cash provided by (used in) financing activities		492,034			(58,565	)		44			(1,000	)		432,513
Net increase in cash		—			15,990			5,460			—			21,450
Cash and cash equivalents at beginning of the year		—			3,164			15,356			—			18,520
Cash and cash equivalents at end of the year	$	—		$	19,154		$	20,816		$	—		$	39,970

F-32

PSYCHIATRIC SOLUTIONS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 2008

Condensed Consolidating Statement of Cash Flows
For the Twelve Months Ended December 31, 2006
(in thousands)

				Combined
				Subsidiary			Combined Non-			Consolidating			Total Consolidated
	Parent			Guarantors			Guarantors			Adjustments			Amounts
Operating activities:
Net (loss) income	$	(24,132	)	$	83,894		$	3,600		$	(2,730	)	$	60,632
Adjustments to reconcile net (loss) income to net cash provided by (used in) operating activities:
Depreciation and amortization		—			19,169			1,089			(243	)		20,015
Amortization of loan costs and bond premium		1,627			—			45			—			1,672
Share-based compensation		—			12,535			—			—			12,535
Change in income tax assets and liabilities		—			35,205			117			—			35,322
Loss from discontinued operations, net of taxes		—			27			—			—			27
Changes in operating assets and liabilities, net of effect of acquisitions:
Accounts receivable		—			(10,331	)		—			—			(10,331	)
Prepaids and other current assets		—			(10,452	)		1,210			—			(9,242	)
Accounts payable		—			507			—			—			507
Salaries and benefits payable		—			5,519			—			—			5,519
Accrued liabilities and other liabilities		(289	)		3,470			2,155			—			5,336
Net cash (used in) provided by continuing operating activities		(22,794	)		139,543			8,216			(2,973	)		121,992
Net cash used in discontinued operating activities		—			1,861			—			—			1,861
Net cash (used in) provided by operating activities		(22,794	)		141,404			8,216			(2,973	)		123,853
Investing activities:
Cash paid for acquisitions, net of cash acquired		(373,915	)		—			—			—			(373,915	)
Capital purchases of leasehold improvements, equipment and software		—			(33,036	)		—			—			(33,036	)
Other assets		—			(611	)		17			—			(594	)
Net cash used in investing activities		(373,915	)		(33,647	)		17			—			(407,545	)
Net cash used in discontinued investing activities		(11,163	)		(780	)		—			—			(11,943	)
Net cash used in investing activities		(385,078	)		(34,427	)		17			—			(419,488	)
Financing activities:
Net increase in revolving credit facility, less acquisitions		101,000			—			—			—			101,000
Borrowings on long-term debt		150,000			—			—			—			150,000
Principal payments on long-term debt		(187	)		—			(278	)		—			(465	)
Payment of loan and issuance costs		(1,576	)		—			—			—			(1,576	)
Refinancing of long-term debt		—			—			—			—			—
Excess tax benefits from share-based payment arrangements		4,354			—			—			—			4,354
Net transfers to and from members		147,972			(149,828	)		(1,117	)		2,973			—
Proceeds from exercises of common stock options		6,309			—			—			—			6,309
Net cash provided by (used in) financing activities		407,872			(149,828	)		(1,395	)		2,973			259,622
Net (decrease) increase in cash		—			(42,851	)		6,838			—			(36,013	)
Cash and cash equivalents at beginning of the year		—			43,948			10,585			—			54,533
Cash and cash equivalents at end of the year	$	—		$	1,097		$	17,423		$	—		$	18,520

17. Fair Value Measurements

In September 2006, the Financial Accounting Standards Board (“FASB”) issued SFAS No. 157, Fair Value Measurements (“SFAS 157”). SFAS 157 defines fair value, establishes a framework for measuring fair value in accordance with accounting principles generally accepted in the United States, and expands disclosures about fair value measurements. We adopted the provisions of SFAS 157 as of January 1, 2008, for financial instruments. The adoption of SFAS 157 did not materially impact our financial statements, but does require us to provide additional disclosures.

SFAS 157 prioritizes the inputs to valuation techniques used to measure fair value into three broad levels. Level 1 is quoted prices in active markets for identical assets and liabilities. Level 2 is significant inputs other than quoted prices in active markets that are either directly or indirectly observable. Level 3 is unobservable inputs for which little or no market data exists.

Our interest rate swap is required to be measured at fair value on a recurring basis. Our interest rate swap agreement is with a private party and is not traded on a public exchange. The fair value of our interest rate swap agreement is determined based on inputs that are readily available in public markets or can be derived from information available in publicly quoted markets. Therefore, we have categorized the inputs to value our interest rate swap agreement as Level 2, which are consistently applied.

F-33

PSYCHIATRIC SOLUTIONS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 2008

18. Subsequent Event

In February 2009, our revolving credit facility was amended to extend the maturity of $200 million capacity of our revolving credit facility to December 31, 2011. The remaining $100 million capacity under our revolving credit facility will mature on December 21, 2009, as originally scheduled. This amendment changes the interest rate on borrowings under our revolving credit facility to LIBOR plus an agreed upon spread ranging from 5.0% to 5.75% or prime plus an agreed upon spread ranging from 4.0% to 4.75%, depending upon a leverage ratio, as defined in the Credit Agreement. In addition, the commitment fee on the unused portion of our revolving credit facility will fluctuate between 0.75% and 1.0%, based upon a leverage ratio. Additionally, on February 25, 2009, we used excess cash to reduce the outstanding balance on the revolving credit facility to $195.0 million.

F-34