UNITED STATES SECURITIES AND EXCHANGE COMMISSION

FORM 10-K

(Mark One)

Commission file number 0-20488

Psychiatric Solutions, Inc.

840 Crescent Centre Drive, Suite 460
Franklin, TN 37067
(Address of Principal Executive Offices, Including Zip Code)

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

Securities registered pursuant to Section 12(b) of the Act: None

Securities registered pursuant to Section 12(g) of the Act:

     Indicate by check mark whether the registrant: (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes þ No o

     Indicate by check mark if disclosure of delinquent filers pursuant to Item 405 of Regulation S-K is not contained herein, and will not be contained, to the best of registrant’s knowledge, in definitive proxy or information statements incorporated by reference in Part III of this Form 10-K or any amendment to this Form 10-K. o

     Indicate by check mark whether the registrant is an accelerated filer (as defined in Exchange Act Rule 12b-2). Yes þ No o

     As of March 10, 2005, 20,496,730 shares of the registrant’s common stock were outstanding. As of June 30, 2004, the aggregate market value of the shares of common stock of the registrant held by non-affiliates of the registrant was approximately $357.7 million. For purposes of calculating such aggregate market value, shares owned by directors, executive officers and 5% beneficial owners of the registrant have been excluded.

DOCUMENTS INCORPORATED BY REFERENCE

     Portions of the registrant’s definitive proxy statement for its 2005 annual meeting of stockholders to be held on May 17, 2005 are incorporated by reference into Part III of this Form 10-K.

INDEX

PART I

     All references in this Annual Report on Form 10-K to “Psychiatric Solutions,” “the Company,” “we,” “us” or “our” mean, unless the context otherwise requires, Psychiatric Solutions, Inc. and its consolidated subsidiaries.

Item 1. Business

Overview

     We are a leading provider of inpatient behavioral health care services in the United States. Through our inpatient division, we operate 34 owned or leased inpatient behavioral health care facilities with approximately 4,000 beds in 19 states. In addition, through our inpatient management contract division, we manage 41 inpatient behavioral health care units for third parties, including a contract to provide mental health case management services to approximately 4,600 children and adults with serious mental illness in the Nashville, Tennessee area, and 8 inpatient behavioral health care facilities for government agencies. We believe that our singular focus on the provision of inpatient behavioral health care services allows us to operate more efficiently and provide higher quality care than our competitors. We primarily operate in underserved markets with limited competition and favorable demographic trends. We generated revenue of $487.2 million and $284.9 million for the years ended December 31, 2004 and 2003, respectively.

     Our inpatient behavioral health care facilities accounted for approximately 86% of our revenue for the year ended December 31, 2004 as compared to approximately 78% of our revenue for the year ended December 31, 2003. These facilities offer a wide range of inpatient behavioral health care services for children, adolescents and adults. We offer these services through a combination of acute inpatient behavioral facilities and residential treatment centers. Our acute inpatient behavioral facilities provide the most intensive level of care, including 24-hour skilled nursing observation and care, daily interventions and oversight by a psychiatrist and intensive, highly coordinated treatment by a physician-led team of mental health professionals. Our residential treatment centers, or RTCs, offer longer term treatment programs primarily for children and adolescents with long-standing acute behavioral health problems. Our RTCs provide physician-led, multi-disciplinary treatments that address the overall medical, psychiatric, social and academic needs of the patient.

     Our inpatient management contract division accounted for approximately 14% of our revenue for the year ended December 31, 2004 as compared to approximately 22% of our revenue for the year ended December 31, 2003. This portion of our business involves the development, organization and management of behavioral health care programs within medical/surgical hospitals and the management of inpatient behavioral health care facilities for government agencies. We provide our customers with a variety of management options, including (1) clinical and management infrastructure, (2) personnel recruitment, staff orientation and supervision, (3) corporate consultation and (4) performance improvement plans. Our broad range of services can be customized into individual programs that meet specific facility and community requirements. We are dedicated to providing quality programs with integrity, innovation and flexibility.

     The Company was incorporated in the State of Delaware in 1988. Our principal executive offices are located at 840 Crescent Centre Drive, Suite 460, Franklin, Tennessee 37067. Our telephone number is (615) 312-5700. Our Internet address is www.psysolutions.com.

Significant Recent Transactions

     On March 10, 2005, we entered into a Stock Purchase Agreement with Ardent Health Services LLC, a Delaware limited liability company (“Seller”), and Ardent Health Services, Inc., a Delaware corporation and wholly-owned subsidiary of Seller (“AHS”), pursuant to which we will acquire all of the outstanding capital stock of AHS for approximately $560 million. The purchase price will be paid $500 million in cash and $60 million in shares of our common stock. AHS owns and operates, through its subsidiaries, 20 inpatient behavioral health care facilities, which include approximately 2,000 inpatient beds and generated approximately $300 million in revenues in 2004. We anticipate financing the cash portion of the purchase price through the issuance of new debt. Closing of the transaction is conditioned upon satisfaction of customary closing conditions, including the receipt of all necessary governmental permits and approvals and the expiration or early termination of the Hart-Scott-Rodino Act waiting period. It is anticipated that closing will occur during the second quarter of 2005.

     On January 14, 2005, we redeemed $50 million of our 10 5/8% senior subordinated notes, leaving $100 million outstanding after the redemption. In connection with the redemption we paid bondholders a 10 5/8% penalty and accrued interest. We expect to record a loss on refinancing long-term debt of approximately $7 million during the first quarter of 2005. We paid the redemption with borrowings under our revolving credit facility of $30 million and the remainder with cash on hand.

     On December 21, 2004, we amended and restated our revolving credit facility with Bank of America, N.A. (“Bank of America”) to increase the borrowings available to us to $150 million, extend the term of the agreement until December 2009 and lower the applicable rate, as defined in the credit agreement. We initially entered into a revolving credit facility with Bank of America of up to $50 million on January 6, 2004. We subsequently amended and increased the revolving credit facility to $125 million in June 2004.

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     On December 20, 2004, we closed on the sale of 3,450,000 shares of our common stock at $33.70 per share. Of these shares, 450,000 were sold through the full exercise of the underwriters’ over-allotment option. We sold 3,285,000 shares for approximately $105 million after underwriting discounts and other issuance costs. Certain shareholders sold 165,000 shares in the offering. We did not receive any proceeds from the sale of common stock by the selling shareholders. Approximately $82 million of the net proceeds were used to pay down borrowings under our revolving line of credit.

     On November 1, 2004, we purchased the real estate housing the operations of Summit Oaks Hospital in Summit, New Jersey for approximately $15.9 million. Summit Oaks Hospital was one of four inpatient psychiatric facilities acquired from Heartland Healthcare (“Heartand”) on June 1, 2004. Subsequent to the acquisition of this facility on June 1, 2004, we leased the real estate from a third party.

     On June 30, 2004, we completed the acquisition of substantially all of the assets of Alliance Behavioral Health Group (“Alliance Behavioral”), a system of inpatient behavioral health care facilities with 144 beds located near El Paso, Texas, for approximately $12.5 million.

     On June 11, 2004, we completed the acquisition of substantially all of the assets of Piedmont Behavioral Health Center LLC (“Piedmont”), a 77 bed inpatient behavioral health care facility located in Leesburg, Virginia, for approximately $10.7 million.

     On June 1, 2004, we completed the acquisition of four inpatient behavioral health care facilities from Heartland for approximately $49.9 million. The four inpatient facilities, located in Summit, New Jersey, Ft. Lauderdale, Florida, Arlington, Texas and Eden Prairie, Minnesota, have a total of 360 beds.

     On May 1, 2004, we completed the acquisition of all of the membership interests of Palmetto Behavioral Health System, L.L.C. (“Palmetto”), an operator of two inpatient behavioral health care facilities, for approximately $6.4 million. The two leased inpatient facilities, located in Charleston and Florence, South Carolina, have 161 beds. On December 1, 2004, we purchased the real estate of the Charleston facility for approximately $4.0 million.

     On March 1, 2004, we acquired two inpatient psychiatric facilities from Brentwood Behavioral Health (“Brentwood”) for approximately $30.4 million cash with an earn-out of approximately $5 million expected to be paid in the second quarter of 2005. The inpatient facilities, which have an aggregate of 311 licensed beds, are located in Shreveport, Louisiana and Jackson, Mississippi.

     On December 24, 2003, we closed on the sale of 6,900,000 shares of our common stock at $16.00 per share. Of these shares, 900,000 were sold through the full exercise of the underwriters’ over-allotment option. We sold 3,271,538 shares for approximately $48.9 million after underwriting discounts and other issuance costs. Certain existing stockholders sold 3,628,462 shares in the offering. We did not receive any proceeds from the sale of common stock by the selling stockholders.

Our Industry

     An estimated 22% of the U.S. adult population and 10% of U.S. children and adolescents suffer from a diagnosable mental disorder in a given year. Based on the 2002 U.S. census, these figures translate to approximately 50 million Americans. In addition, four of the ten leading causes of disability in the United States are mental disorders.

     The behavioral health care industry is extremely fragmented with only a few large national providers. During the 1990s, the behavioral health care industry experienced a significant contraction following a long period of growth. Between 1990 and 1999, nearly 300 inpatient behavioral health care facilities, accounting for over 40% of available beds, were closed. The reduction was largely driven by third party payors who decreased reimbursement, implemented more stringent admission criteria and decreased the authorized length of stay. We believe this reduced capacity has resulted in an underserved patient population.

     Reduced capacity, coupled with mental health parity legislation providing for greater access to mental health services and increased demand for our behavioral health care services, has resulted in favorable industry fundamentals. Behavioral health care providers have enjoyed significant improvement in reimbursement rates, increased admissions and stabilized lengths of stay. According to the National Association of Psychiatric Health Systems, payments for the inpatient care of behavioral health and addictive disorders have increased nationwide. Inpatient admissions increased from an average of approximately 2,350 in 2001 to an average of approximately 2,500 in 2002, while the average occupancy rates stabilized at approximately 74% for both 2001 and 2002 after being approximately 69% in 2000. Following a rapid decrease during the early 1990s, inpatient average length of stay stabilized between 9 and 10 days from 1997 to 2002. In 2002, the inpatient average length of stay was 10.3 days. The average RTC net revenue per day in 2002 was $288 for hospital-based units and $273 for freestanding RTC facilities. The average number of admissions for hospital-based RTC units was 171 for 2002. The average number of admissions for freestanding RTC facilities was 213 for 2002. The average occupancy rate for hospital-based RTC units increased from 73.0% in 2001 to 74.9% in 2002, with an average length of stay of 165.5 days in 2002. The average occupancy rate for freestanding RTC facilities was 82.6% in 2002, with an average length of stay

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of 187.3 days in 2002. These favorable trends have resulted in high demand for inpatient behavioral health care services.

Our Competitive Strengths

     We believe the following competitive strengths contribute to our strong market share in each of our markets and will enable us to continue to successfully grow our business and increase our profitability:

Our Growth Strategy

     We have experienced significant growth in our operations as measured by the number of our facilities, admissions, patient days, revenue and net income. We intend to continue to successfully grow our business and increase our profitability by improving the performance of our inpatient facilities and through strategic acquisitions. The principal elements of our growth strategy are to:

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Services by Segment

     We operate two reportable segments: (1) our owned and leased facilities segment operates inpatient behavioral health care facilities and (2) our inpatient management contract segment manages inpatient behavioral health care units and facilities for third parties and government agencies. For financial information regarding our operating segments, see Note 14 to our Consolidated Financial Statements included elsewhere in this Annual Report on Form 10-K.

Inpatient Behavioral Health Care Facilities Division

     Our inpatient division operates 27 owned and 7 leased inpatient behavioral health care facilities. These facilities offer a wide range of inpatient behavioral health care services for children, adolescents and adults. Our inpatient facilities work closely with mental health professionals, including licensed professional counselors, therapists and social workers; psychiatrists; non-psychiatric physicians; emergency rooms; school systems; insurance and managed care organizations; company-sponsored employee assistance programs; and law enforcement and community agencies that interact with individuals who may need treatment for mental illness or substance abuse. Many of our inpatient facilities have mobile assessment teams who travel to prospective clients in order to assess their condition and determine if they meet established criteria for inpatient care. Those clients not meeting the established criteria for inpatient care may qualify for outpatient care or a less intensive level of care also provided by the facility. During the year ended December 31, 2004, our inpatient behavioral health care facilities division produced approximately 86% of our revenue.

     Through the diversity of programming and levels of care available, the patient can receive a seamless treatment experience from acute care to residential long-term care to group home living to outpatient treatment. This seamless care system provides the continuity of care needed to step the patient down and allow the patient to develop and use successful coping skills and treatment interventions to sustain long-term treatment success. Treatment modalities include comprehensive assessment, multidisciplinary treatment planning including the patient and family, group, individual and family therapy services, medical and dental services, educational services, recreational services and discharge planning services. Specialized interventions such as skills training include basic daily living skills, social skills, work/school adaptation skills and symptom management skills. Collateral consultations are provided to significant others such as family members, teachers, employers and other professionals when needed to help the patient successfully reintegrate back into his/her world. Services offered at our inpatient facilities include:

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     Acute inpatient hospitalization is the most intensive level of care offered and typically involves 24-hour skilled nursing observation and care, daily interventions and oversight by a psychiatrist, and intensive, highly coordinated treatment by a physician-led team of mental health professionals. Every patient admitted to our acute inpatient facilities is assessed by a medical doctor within 24 hours of admission. Patients with non-complex medical conditions are monitored during their stay by the physician and nursing staff at the inpatient facility. Patients with more complex medical needs are referred to more appropriate facilities for diagnosis and stabilization prior to treatment. Patients admitted to our acute inpatient facilities also receive comprehensive nursing and psychological assessments within 24 to 72 hours of admission. Oversight and management of patients’ medication is performed by licensed psychiatrists on staff at the facility, and individual, family, and group therapy is performed by licensed counselors as appropriate to the patients’ assessed needs. Education regarding their illness is also provided by trained mental health professionals.

     Detoxification for adult patients with a diagnosis of substance abuse is provided at some inpatient facilities. Substance abuse therapy and education is provided to these patients during their stay and referrals to appropriate aftercare services are made for the patient upon discharge, usually to an intensive outpatient program provided by the inpatient facility.

     Our RTCs provide longer term treatment programs for children and adolescents with long-standing behavioral health problems. Twenty-four hour observation and care is provided in our RTCs, along with individualized therapy that usually consists of one-on-one sessions with a licensed counselor, as well as process and rehabilitation group therapy. Another key component of the treatment of children and adolescents in our inpatient facilities is family therapy. Participation of the child’s or adolescent’s immediate family is strongly encouraged in order to heighten the chance of success once the resident is discharged. Medications for residents are managed by licensed psychiatrists while they remain at the inpatient facility. Our RTCs also provide academic programs by certified teachers to children and adolescent residents. These programs are individualized for each resident based on analysis by the teacher upon admission. Upon discharge, academic reports are forwarded to the resident’s school. Specialized programs for children and adolescents in our RTCs include programs for sexually reactive children, sex offenders, reactive attachment disorders, and children and adolescents who are developmentally delayed with a behavioral component. Our RTCs often receive out-of-state referrals to their programs due to the lack of specialized programs for these disorders within the patient’s own state.

     Other major diagnoses treated at our inpatient behavioral health care facilities include bipolar disorder, major depression, schizophrenia, attention deficit/hyperactivity disorder, impulse disorder and oppositional and conduct disorders.

     Our inpatient facilities’ programs have been adapted to the requests of various sources to provide services to patients with multiple issues and specialized needs. Our success rate with these difficult to treat cases has expanded our network of referrals. The services provided at each inpatient facility are continually assessed and monitored through an ongoing quality improvement program. The purpose of this program is to strive for the highest quality of care possible to individuals with behavioral health issues, and includes regular site visits to each inpatient facility in order to assess their compliance with legal and regulatory standards, as well as adherence to our compliance program. Standardized performance measures based on a national outcomes measurement data base comparing our inpatient facilities performance with national norms are also reported, reviewed and corrective steps are taken when necessary.

Inpatient Management Contract Division

     Our inpatient management contract division develops, organizes and manages behavioral health care programs within general third party medical/surgical hospitals and manages inpatient behavioral health care facilities for government agencies. We manage 41

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inpatient behavioral health units for third parties in 13 states, including a contract to provide mental health case management services to approximately 4,600 children and adults with serious mental illness in the Nashville, Tennessee area, and 8 inpatient behavioral health care facilities for government agencies. For the year ended December 31, 2004, our inpatient management contract division produced approximately 14% of our revenue.

     Our broad range of services can be customized into individual programs that meet specific inpatient facility and community requirements. Our inpatient management contract division is dedicated to providing high quality programs with integrity, innovation and sufficient flexibility to develop customized individual programs. We provide our customer with a variety of management options, including clinical and management infrastructure, personnel recruitment, staff orientation and supervision, corporate consultation and performance improvement plans. Under the management contracts, the hospital is the actual provider of the mental health services and utilizes its own facilities, support services, and generally its own nursing staff in connection with the operation of its programs.

     Our management contracts generally have an initial term of two to five years and are extended for successive one-year periods unless terminated by either party. The contracts also contain termination provisions that allow either party to terminate upon certain material events, including the failure to cure a breach or default under the contract, bankruptcy and the failure to maintain required licensure. While turnover of contracts is expected, we expect the number of contracts to remain relatively stable. Substantially all of our management contracts contain non-compete and confidentiality provisions. In addition, our management contracts typically prohibit the client hospital from soliciting our employees during the term of the contract and for a specified period thereafter.

     In addition, we manage eight inpatient behavioral health care facilities for government agencies located in Florida, Georgia and Puerto Rico. In general, our contracts to manage these inpatient facilities have an initial term of one to five years. Most of these contracts may be extended for up to three successive one-year periods at the discretion of the government agency. Payment under the contracts is contingent on the annual appropriation of funds by the respective state legislature. Most contracts allow us to terminate the agreement without cause upon 90 days notice and the government agency may terminate without cause upon 30 days notice or upon the occurrence of certain material events, including our failure to meet certain performance standards for a specified period of time, bankruptcy or default under the contract.

     Our management contract revenue is sensitive to regulatory and economic changes in the States of Tennessee and Florida. Our contract to provide case management services in and around Nashville, Tennessee comprised approximately 4% of our consolidated revenue and approximately 27% of revenue from our management contracts segment for the year ended December 31, 2004. Our contracts to manage eight inpatient facilities for the Florida Department of Juvenile Justice comprised approximately 4% of our consolidated revenue and approximately 27% of revenue from our management contracts segment for the year ended December 31, 2004.

Seasonality of Services

     Our inpatient behavioral health care facilities division typically experiences lower patient volumes and revenue during the beginning of the first quarter, the end of the second quarter, the beginning of the third quarter, and the end of the fourth quarter. Because a high proportion of patients served by our inpatient behavioral health care facilities division are children and adolescents, this seasonality corresponds to periods that school is out of session. We believe that, for a variety of reasons, children and adolescent patients are less likely to be admitted during the summer months and the year-end holidays.

Marketing

     Our local and regional marketing is led by clinical and business development representatives at each of our inpatient facilities. These individuals manage relationships among a variety of referral sources in their respective communities. Our national marketing efforts are focused on increasing the census at our RTCs from various state referral sources by developing relationships and identifying contracting opportunities in their respective territories. Our customer service is managed through our call center. Both families and agencies seeking placement for children receive quick, confidential service through the call center which further promotes our facilities.

Competition

     The inpatient behavioral health care facility industry and the inpatient behavioral health care unit management industry are highly fragmented. The industry is subject to continual changes in the method in which services are provided and the types of companies providing such services. We compete with several national competitors and many regional and local competitors, some of which are owned by governmental agencies and supported by tax revenue, and others are owned by nonprofit corporations and may be supported to a large extent by endowments and charitable contributions. Such support is not available to our inpatient facilities.

     In addition, our owned and leased inpatient behavioral health care facilities and managed inpatient behavioral health care units and inpatient facilities compete for patients with other providers of mental health care services, including other inpatient behavioral health care facilities, medical/surgical hospitals, independent psychiatrists and psychologists. We also compete with hospitals, nursing

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homes, clinics, physicians’ offices and contract nursing companies for the services of registered nurses. We believe we differentiate ourselves from our competition through our singular focus on the provision of behavioral health care services, our reputation for the quality of our services, recruitment of first rate medical staff and accessibility to our facilities. In addition, we believe that the active development of our referral network and participation in selected managed care provider panels enable us to successfully compete for patients in need of our services.

Reimbursement

     Our inpatient owned and leased facilities receive payment for services from the federal government primarily under the Medicare program, state governments under their respective Medicaid programs, private insurers, including managed care plans, and directly from patients. Most of our inpatient behavioral health facilities are certified as providers of Medicare and Medicaid services by the appropriate governmental authorities. The requirements for certification are subject to change, and, in order to remain qualified for such programs, it may be necessary for us to make changes from time to time in our inpatient facilities, equipment, personnel and services. If an inpatient facility loses certification, it will be unable to receive payment for patients under the Medicare or Medicaid programs. Although we intend to continue participating in such programs, there can be no assurance that we will continue to qualify for participation.

Medicare

     Medicare provides hospital and medical insurance benefits to persons age 65 and over, some disabled persons and persons with end-stage renal disease. Current freestanding psychiatric hospitals and certified psychiatric units of acute care hospitals are transitioning to reimbursement based on an inpatient services prospective payment system (“PPS”) from reimbursement based on a reasonable cost basis.

     The Centers for Medicare and Medicaid Services (“CMS”) began implementing a three-year transition period starting with the cost reporting periods beginning on or after January 2005. For these three years, CMS is proposing a blended payment. The payment for the first year of the transition period (cost reporting periods beginning after January 1, 2005 but on or before June 30, 2006) would consist of 75% based on the current cost-based reimbursement system and 25% on the proposed prospective payment rate. In the second year, the split will be 50% each and in the third year the split will be 25% based on the current cost-based system and 75% prospective payment system. For cost reporting periods beginning on or after July 1, 2008, the prospective payment rate percentage will be 100%. The first update to rates under this methodology is anticipated to occur in July 2006, with annual updates anticipated thereafter.

     Once the transition to PPS is complete, the base per diem amount will cover nearly all labor and non-labor costs of furnishing covered inpatient behavioral health care services — including routine, ancillary and capital costs. The per diem will not, however, include the costs of bad debts and certain other costs that are paid separately. Under CMS regulations the base per diem will be adjusted for specific facility characteristics that increase the cost of patient care. It is anticipated that payment rates for individual inpatient facilities will be adjusted to reflect geographic differences in wages and that rural providers will receive an increased payment adjustment, as would teaching facilities. Additionally, the base rate will be adjusted by factors that influence the cost of an individual patient’s care, such as each patient’s diagnosis related group, certain other medical and psychiatric comorbidities (i.e., other coexisting conditions that may complicate treatment), and age. Because the cost of inpatient behavioral care tends to be greatest at admission and a few days thereafter, it is anticipated that the per diem rate will be adjusted for each day up to and including the eighth day to reflect the number of days the patient has been in the facility. Medicare will pay this per diem amount, as adjusted, regardless of whether it is more or less than a hospital’s actual costs. Please see http://www.cms.hhs.gov/providers/ipfpps for additional information.

     With respect to revenue derived from behavioral health care unit management services, we bill our fees to the provider as a purchased management, administrative and consultative support service. Substantially all of the patients admitted to these programs are eligible for Medicare coverage. As a result, the providers rely upon payment from Medicare for the services. Many of the patients are also eligible for Medicaid payments. To the extent that a hospital deems revenue for a program we manage to be inadequate, it may seek to terminate its contract with us or not renew the contract. Similarly, we may not add new unit management contracts if prospective customers do not believe that such programs will generate sufficient revenue.

     Medicare generally deducts from the amount of its payments to hospitals an amount for patient “coinsurance,” or the amount that the patient is expected to pay. Many patients are unable to pay the coinsurance amount. Even if these patients are also covered by Medicaid, some states’ Medicaid programs will not pay the Medicare coinsurance amount. As a result, the Medicare coinsurance amount will go uncollected by the provider except to the extent that the provider is partially reimbursed that amount as a Medicare “bad debt.” To the extent that neither a Medicare patient nor any secondary payor for that patient pays the Medicare coinsurance amount after a reasonable collection effort or the patient’s indigence is documented, the provider is entitled to be paid 70% of this “bad debt” by Medicare. However, there are instances when Medicare denies reimbursement for all or part of claimed bad debts for coinsurance on Medicare patients on grounds that the provider did not engage in a reasonable collection effort or that the provider

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failed to maintain adequate documentation of its collection effort or of the patient’s indigence.

Medicaid

     Medicaid, a joint federal-state program that is administered by the respective states, provides hospital benefits to qualifying individuals who are unable to afford care. We cannot predict the extent or scope of changes that may occur in the ways in which state Medicaid programs contract for and deliver services to Medicaid recipients. All Medicaid funding is generally conditioned upon financial appropriations to state Medicaid agencies by the state legislatures and there are political pressures on such legislatures in terms of controlling and reducing such appropriations.

     Some states may adopt substantial health care reform measures that could modify the manner in which all health services are delivered and reimbursed, especially with respect to Medicaid recipients and other individuals funded by public resources. Many states have enacted or are considering enacting measures designed to reduce their Medicaid expenditures. As we receive Medicaid payments from more than 35 states, we are not significantly affected by changes in reimbursement policies in any one state. Most states have applied for and been granted federal waivers from current Medicaid regulations to allow them to serve some or all of their Medicaid participants through managed care providers. The majority of our Medicaid payments relate to the care of children and adolescents. We believe that children and adolescents are a patient class that is less susceptible to reductions in reimbursement rates. The reduction in other public resources could have an impact on the delivery of services to Medicaid recipients. Any significant changes in Medicaid funding, the structure of a particular state’s Medicaid program, the contracting process or reimbursement levels could have a material adverse impact on our financial condition and results of operations.

Managed Care and Commercial Insurance Carriers

     In addition to government programs, our inpatient facilities are reimbursed for certain behavioral health care services by private payors including health maintenance organizations (“HMOs”), preferred provider organizations (“PPOs”), commercial insurance companies, employers and individual private payors. To attract additional volume, our inpatient facilities offer discounts from established charges to certain large group purchasers of health care services. Generally, patients covered by HMOs, PPOs and other private insurers will be responsible for certain co-payments and deductibles, which are paid by the patient.

     The Mental Health Parity Act of 1996 (“MHPA”) is a federal law that requires annual or lifetime limits for mental health benefits be no lower than the dollar limits for medical/surgical benefits offered by a group health plan. MHPA applies to group health plans or health insurance coverage offered in connection with a group health plan that offers both mental health and medical/surgical benefits. However it does not require plans to offer mental health benefits. MHPA was scheduled to “sunset” on December 31, 2003, but the Mental Health Reauthorization Act of 2003 extended the sunset date of MHPA to December 31, 2004. However, no action has been taken by Congress to further extend the sunset date. Bills have also been introduced in Congress from time to time that could potentially apply this concept on a more far-reaching scale, but we cannot predict whether any such legislation will be implemented in the future. Approximately 34 states have also enacted some form of mental health parity laws. Some of these laws apply only to select groups such as those with severe mental illness or specific diagnosis.

Annual Cost Reports

     All facilities participating in the Medicare program and some Medicaid programs, whether paid on a reasonable cost basis or under a PPS, are required to meet certain financial reporting requirements. Federal regulations require submission of annual cost reports identifying medical costs and expenses associated with the services provided by each facility to Medicare beneficiaries and Medicaid recipients. Annual cost reports required under the Medicare and some Medicaid programs are subject to routine governmental audits, which may result in adjustments to the amounts ultimately determined to be due to us under these reimbursement programs. These audits often require several years to reach the final determination of amounts earned under the programs. Nonetheless, once the Medicare fiscal intermediaries have issued a final Notice of Program Reimbursement (“NPR”) after audit, any disallowances of claimed costs are due and payable within 30 days of receipt of the NPR. Providers have rights to appeal, and it is common to contest issues raised in audits of prior years’ cost reports.

Regulation and Other Factors

Licensure, Certification and Accreditation

     Health care facilities are required to comply with extensive regulation at the federal, state and local levels. Under these laws and regulations, health care facilities must meet requirements for licensure and qualify to participate in government programs, including the Medicare and Medicaid programs. These requirements relate to the adequacy of medical care, equipment, personnel, operating policies and procedures, fire prevention, maintenance of adequate records, hospital use, rate-setting, and compliance with building codes and environmental protection laws. There are also extensive regulations governing a facility’s participation in government programs. Facilities are subject to periodic inspection by governmental and other authorities to assure continued compliance with the various standards necessary for licensing and accreditation.

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     All of the inpatient facilities owned and operated by us are properly licensed under applicable state laws. Most of the inpatient facilities owned and operated by us are certified under Medicare and Medicaid programs and most are accredited by the Joint Commission on Accreditation or Healthcare Organizations (“JCAHO”), the effect of which is to permit the inpatient facilities to participate in the Medicare and Medicaid programs. Should any of our inpatient facilities lose its accreditation by JCAHO, or otherwise lose its certification under the Medicare and/or Medicaid program, that inpatient facility would be unable to receive reimbursement from the Medicare and Medicaid programs. If a provider contracting with us was excluded from any federal health care programs, no services furnished by that provider would be covered by any federal health care program. If we were excluded from federal health care programs, our owned and leased inpatient facilities would not be eligible for reimbursement by any federal health care program. In addition, providers would as a practical matter cease contracting for our inpatient behavioral health care unit management services because they could not be reimbursed for any management fee amounts they paid to us.

     We believe that the inpatient facilities we own and operate are in substantial compliance with current applicable federal, state, local and independent review body regulations and standards. The requirements for licensure, certification and accreditation are subject to change and, in order to remain qualified, it may be necessary for us to effect changes in our inpatient facilities, equipment, personnel and services. Additionally, certain of the personnel working at inpatient facilities owned and operated by us are subject to state laws and regulations governing their particular area of professional practice. We assist our client hospitals in obtaining required approvals for new programs. Some approval processes may lengthen the time required for programs to begin operations.

Fraud and Abuse Laws

     Participation in the Medicare and/or Medicaid programs is heavily regulated by federal law and regulation. If a hospital fails to substantially comply with the numerous federal laws governing that facility’s activities, the hospital’s participation in the Medicare and/or Medicaid programs may be terminated and/or civil or criminal penalties may be imposed. For example, a hospital may lose its ability to participate in the Medicare and/or Medicaid program if it pays money to induce the referral of patients or purchase of items or services where such items or services are reimbursable under a federal or state health care program.

     The anti-kickback provision of the Social Security Act prohibits the payment, receipt, offer or solicitation of money with the intent of generating referrals or orders for services or items covered by a federal or state health care program (the “Anti-kickback Statute”). Violations of the Anti-kickback Statute may be punished by criminal or civil penalties, exclusion from federal and state health care programs, imprisonment and damages up to three times the total dollar amount involved. The Anti-kickback Statute has been interpreted broadly by federal regulators and certain courts to prohibit the intentional payment of anything of value if even one purpose of the payment is to influence the referral of Medicare or Medicaid business. Therefore, many commonplace commercial arrangements between hospitals and physicians could be considered by the government to violate the Anti-kickback Statute.

     The Health Insurance Portability and Accountability Act of 1996 (“HIPAA”) broadened the scope of the fraud and abuse laws by adding several criminal statutes that are not related to receipt of payments from a federal health care program. HIPAA created civil penalties for proscribed conduct, including upcoding and billing for medically unnecessary goods or services. HIPAA established new enforcement mechanisms to combat fraud and abuse. These new mechanisms include a bounty system, where a portion of the payments recovered is returned to the government agencies, as well as a whistleblower program. HIPAA also expanded the categories of persons that may be excluded from participation in federal and state health care programs.

     The Office of Inspector General (the “OIG”) of the Department of Health and Human Services (“HHS”) is responsible for identifying fraud and abuse activities in government programs. In order to fulfill its duties, the OIG performs audits, investigations and inspections. In addition, it provides guidance to health care providers by identifying types of activities that could violate the Anti-kickback Statute. We have a variety of financial relationships with physicians who refer patients to our owned and leased facilities, as well as at behavioral health programs and facilities we manage. We also have contracts with physicians providing for a variety of financial relationships including employment contracts, independent contractor agreements, professional service agreements and medical director agreements.

     The OIG is authorized to publish regulations outlining activities and business relationships that would be deemed not to violate the Anti-kickback Statute. These regulations are known as “safe harbor” regulations. The safe harbor regulations do not make conduct illegal, but instead delineate standards that, if complied with, protect conduct that might otherwise be deemed in violation of the Anti-kickback Statute. We use our best efforts to structure each of our arrangements, especially each of our business relationships with physicians, to fit as closely as possible within an applicable safe harbor. However, not all of our business arrangements fit wholly within safe harbors so we cannot guarantee that these arrangements will not be scrutinized by government authorities or, if scrutinized, that they will be determined to be in compliance with the Anti-kickback Statute or other applicable laws. The failure of a particular activity to comply with the safe harbor regulations does not mean that the activity violates the Anti-kickback Statute. If we do violate the Anti-kickback Statute, we would be subject to criminal and civil penalties and/or possible exclusion from participating in Medicare, Medicaid or other governmental health care programs.

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     The OIG also issues advisory opinions to outside parties regarding the interpretation and applicability of the Anti-kickback Statute and other OIG health care fraud and abuse sanctions. An OIG advisory opinion only applies to the people or entities which requested it. However, advisory opinions are published and made available to the public (see http://oig.hhs.gov/fraud/advisoryopinions.html), and they provide guidance on those practices the OIG believes may (or may not) violate federal law. On April 3, 2003, the OIG issued Advisory opinion No. 03-8 regarding an arrangement whereby a company would develop and manage distinct part inpatient rehabilitation units located within general acute care hospitals in exchange for a management fee calculated on a per patient per day basis. The OIG found that the proposed arrangement could potentially generate prohibited remuneration under the Anti-kickback Statute and that the OIG could potentially impose administrative sanctions on the management company. The OIG noted that any definitive conclusion regarding the existence of an anti-kickback violation would require a determination of the parties’ intent, which is beyond the scope of the advisory opinion process.

     The OIG’s analysis noted that the proposed arrangement did not qualify for the safe harbor for personal services and management contracts because the aggregate compensation paid by the hospital to the management company was not set in advance. The OIG noted that “per patient,” “per click,” “per order,” and similar payment arrangements with parties in a position, either directly or indirectly, to refer or recommend an item or service payable by a federal health care program are disfavored under the Anti-kickback Statute. The principal concern is that such arrangements promote overutilization and unnecessarily lengthy stays. Other items of concern to the OIG included that the unit was under the medical direction of a physician in a position to generate referrals to the unit, the management company performed community outreach including marketing, and the fee arrangement could be deemed a success fee. While the proposed arrangement had certain features that would appear to reduce the risk, the OIG could not conclude that the residual risk was sufficiently low to grant protection prospectively.

     We provide services to medical/surgical facilities through behavioral health care management contracts and are compensated, in part, on a per discharge basis. We have not requested an advisory opinion from the OIG with respect to our inpatient management contracts. We believe that we are in compliance with the Anti-kickback Statute, despite the fact that our inpatient management contracts do not qualify for the safe harbor for personal services and management contracts because the aggregate compensation paid by our client hospitals is not set in advance. There can be no assurances that our contracts will not be reviewed and challenged by the OIG or other regulatory authorities empowered to do so.

     The Social Security Act also includes a provision commonly known as the “Stark Law.” This law prohibits physicians from referring Medicare and Medicaid patients for the furnishing of any “designated health services” to health care entities in which they or any of their immediate family members have ownership or other financial interest. These types of referrals are commonly known as “self referrals.” Sanctions for violating the Stark Law include civil monetary penalties, assessments equal to twice the dollar value of each service rendered for an impermissible referral and exclusion from the Medicare and Medicaid programs. There are ownership and compensation arrangement exceptions for many customary financial arrangements between physicians and facilities, including employment contracts, personal services agreements, leases and recruitment agreements. We have structured our financial arrangements with physicians to comply with the statutory exceptions included in the Stark Law and subsequent regulations. However, future Stark Law regulations may interpret provisions of this law in a manner different from the manner in which we have interpreted them. We cannot predict the effect such future regulations will have on us.

     Many states in which we operate also have adopted, or are considering adopting, laws similar to the Anti-kickback Statute and/or the Stark Law. Some of these state laws apply even if the government is not the payor. These statutes typically provide criminal and civil penalties as remedies. While there is little precedent for the interpretation or enforcement of these state laws, we have attempted to structure our financial relationships with physicians and others in light of these laws. However, if a state determines that we have violated such a law, we would be subject to criminal and civil penalties.

Emergency Medical Treatment and Active Labor Act

     The Emergency Medical Treatment and Active Labor Act (“EMTALA”) is a federal law that requires any health care facility that participates in the Medicare program to conduct an appropriate medical screening examination of every person who presents to the hospital’s emergency department for treatment and, if the patient is suffering from an emergency medical condition, to either stabilize that condition or make an appropriate transfer of the patient to a facility that can handle the condition. The obligation to screen and stabilize emergency medical conditions exists regardless of a patient’s ability to pay for treatment. There are severe penalties under EMTALA if a hospital fails to screen or appropriately stabilize or transfer a patient or if the hospital delays appropriate treatment in order to first inquire about the patient’s ability to pay. Penalties for violations of EMTALA include civil monetary penalties and exclusion from participation in the Medicare program. In addition, an injured patient, the patient’s family or a medical facility that suffers a financial loss as a direct result of another hospital’s violation of the law can bring a civil suit against the hospital.

     CMS regulations describe when a patient is considered to be on a hospital’s property for purposes of screening and treating the person pursuant to EMTALA. CMS’ rules do not specify particular “on-call” physician requirements for an emergency department,

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but provided a subjective standard stating that “on-call” hospital schedules should meet the hospital’s and community’s needs. Although we believe that our inpatient behavioral health care facilities comply with EMTALA, we cannot predict if CMS will implement new requirements in the future and whether we will comply with any new requirements.

The Federal False Claims Act

     The federal False Claims Act prohibits providers from knowingly submitting false claims for payment to the federal government. This law has been used not only by the federal government, but also by individuals who bring an action on behalf of the government under the law’s “qui tam” or “whistleblower” provisions. When a private party brings a qui tam action under the federal False Claims Act, the defendant will generally not be aware of the lawsuit until the government makes a determination whether it will intervene and take a lead in the litigation.

     Civil liability under the federal False Claims Act can be up to three times the actual damages sustained by the government plus civil penalties for each separate false claim. There are many potential bases for liability under the federal False Claims Act, including claims submitted pursuant to a referral found to violate the Anti-kickback Statute. Although liability under the federal False Claims Act arises when an entity knowingly submits a false claim for reimbursement to the federal government, the federal False Claims Act defines the term “knowingly” broadly. Although simple negligence will not give rise to liability under the federal False Claims Act, submitting a claim with reckless disregard to its truth or falsity can constitute “knowingly” submitting a false claim. From time to time, companies in the health care industry, including us, may be subject to actions under the federal False Claims Act.

HIPAA Transaction, Privacy and Security Requirements

     There are currently numerous laws at the state and federal levels addressing patient privacy concerns. Federal regulations issued pursuant to HIPAA contain, among other measures, provisions that require many organizations, including our inpatient facilities, to implement very significant and potentially expensive new computer systems, employee training programs and business procedures. The federal regulations are intended to encourage electronic commerce in the health care industry.

     HHS issued regulations requiring our inpatient facilities to use standard data formats and code sets established by the rule when electronically transmitting information in connection with several transactions, including health claims and equivalent encounter information, health care payment and remittance advice and health claim status with compliance required by October 16, 2003. We have implemented or upgraded computer systems, as appropriate, at our inpatient facilities and at our corporate headquarters to comply with the new transaction and code set regulations.

     HIPAA requires HHS to issue regulations establishing standard unique health identifiers for individuals, employers, health plans and health care providers to be used in connection with standard electronic transactions. All health care providers, including our facilities, will be required to obtain a new National Provider Identifier (“NPI”) to be used in standard transactions instead of other numerical identifiers beginning no later than May 23, 2007; health care providers may begin applying for NPIs on May 23, 2005. We cannot predict whether our facilities may experience payment delays during the transition to the new identifier. HHS has not yet issued proposed rules that establish the standard for unique health identifiers for health plans or individuals. Once these regulations are issued in final form, we expect to have approximately two years to become fully compliant, but cannot predict the impact of such changes at this time.

     On February 20, 2003, HHS finalized a rule that establishes, in part, standards to protect the confidentiality, availability and integrity of health information by health plans, health care clearinghouses and health care providers that receive, store, maintain or transmit health and related financial information in electronic form, regardless of format. These security standards require our inpatient facilities to establish and maintain reasonable and appropriate administrative, technical and physical safeguards to ensure the integrity, confidentiality and the availability of electronic health and related financial information. The security standards were designed to protect electronic information against reasonably anticipated threats or hazards to the security or integrity of the information and to protect the information against unauthorized use or disclosure. Although the security standards do not reference or advocate a specific technology, and covered health care providers, plans and clearinghouses have the flexibility to choose their own technical solutions, we expect that the security standards will require our inpatient facilities to implement significant new systems, business procedures and training programs. Our inpatient facilities must comply with these security regulations by April 21, 2005. We anticipate that our inpatient facilities will comply this these security regulations by April 21, 2005.

     On December 28, 2000 (with revisions August 14, 2002), HHS published a final rule establishing standards for the privacy of individually identifiable health information, with compliance required by April 14, 2003. These privacy standards apply to all health plans, all health care clearinghouses and health care providers that transmit health information in an electronic form in connection with the standard transactions, including our inpatient facilities. The privacy standards apply to individually identifiable information held or disclosed by a covered entity in any form, whether communicated electronically, on paper or orally. These standards impose extensive new administrative requirements on our inpatient facilities. They require our compliance with rules governing the use and disclosure of this health information. They create new rights for patients in their health information, such as the right to amend their health

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information, and they require our inpatient facilities to impose these rules, by contract, on any business associate to whom they disclose such information in order to perform functions on their behalf. In addition, our inpatient facilities will continue to remain subject to any state laws that are more restrictive than the privacy regulations issued under HIPAA. These state laws vary by state and could impose additional penalties.

     A violation of these regulations could result in civil money penalties of $100 per incident, up to a maximum of $25,000 per person per year per standard. HIPAA also provides for criminal penalties of up to $50,000 and one year in prison for knowingly and improperly obtaining or disclosing protected health information, up to $100,000 and five years in prison for obtaining protected health information under false pretenses, and up to $250,000 and ten years in prison for obtaining or disclosing protected health information with the intent to sell, transfer or use such information for commercial advantage, personal gain or malicious harm. Since there is no significant history of enforcement efforts by the federal government at this time, it is not possible to ascertain the likelihood of enforcement efforts in connection with the HIPAA regulations or the potential for fines and penalties which may result from the violation of the regulations.

     Compliance with these regulations has and will continue to require significant commitment and action by us and our inpatient facilities. We have appointed members of our management team to direct our compliance with these standards. Implementation of these regulations has and will continue to require our inpatient facilities and us to engage in extensive preparation and make significant expenditures. At this time we have appointed a privacy officer at each inpatient facility, prepared privacy policies, trained our workforce on these policies and entered into business associate agreements with the appropriate vendors. Because some of the regulations are proposed regulations, we cannot predict the total financial impact of the regulations on our operations.

  Certificates of Need (“CON”)

     The construction of new health care facilities, the acquisition or expansion of existing facilities, the transfer or change of ownership and the addition of new beds, services or equipment may be subject to state laws that require prior approval by state regulatory agencies. These CON laws generally require that a state agency determine the public need for construction or acquisition of facilities or the addition of new services. Failure to obtain necessary state approval can result in the inability to expand facilities, add services, complete an acquisition or change ownership. Violations of these state laws may result in the imposition of civil sanctions or revocation of a facility’s license.

  Corporate Practice of Medicine and Fee Splitting

     Some states have laws that prohibit unlicensed persons or business entities, including corporations or business organizations that own hospitals, from employing physicians. Some states also have adopted laws that prohibit direct and indirect payments or fee-splitting arrangements between physicians and unlicensed persons or business entities. Possible sanctions for violation of these restrictions include loss of a physician’s license, civil and criminal penalties and rescission of business arrangements. These laws vary from state to state, are often vague and have seldom been interpreted by the courts or regulatory agencies. Although we attempt to structure our arrangements with health care providers to comply with the relevant state laws and the few available regulatory interpretations, there can be no assurance that government officials charged with responsibility for enforcing these laws will not assert that we, or certain transactions in which we are involved, are in violation of such laws, or that such laws ultimately will be interpreted by the courts in a manner consistent with our interpretation.

  Health Care Industry Investigations

     Significant media and public attention has focused in recent years on the hospital industry. Because the law in this area is complex and constantly evolving, ongoing or future governmental investigations or litigation may result in interpretations that are inconsistent with industry practices, including our practices. It is possible that governmental entities could initiate investigations of or litigation against inpatient facilities owned or managed by us in the future and that such matters could result in significant penalties as well as adverse publicity. It is also possible that our executives and other management personnel could be included in governmental investigations or litigation or named as defendants in private litigation.

  Risk Management

     As is typical in the health care industry, we are subject to claims and legal actions by patients in the ordinary course of business. To cover these claims, we maintain professional malpractice liability insurance and general liability insurance in amounts we believe to be sufficient for our operations, although it is possible that some claims may exceed the scope of the coverage in effect. At various times in the past, the cost of malpractice insurance and other liability insurance has risen significantly. Therefore, there can be no assurance that such insurance will continue to be available at reasonable prices which would allow us to maintain adequate levels of coverage.

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  Conversion Legislation

     Many states have adopted legislation regarding the sale or other disposition of hospitals operated by not-for-profit entities. In other states that do not have such legislation, the attorneys general have demonstrated an interest in these transactions under their general obligations to protect charitable assets. These legislative and administrative efforts primarily focus on the appropriate valuation of the assets divested and the use of the proceeds of the sale by the not-for-profit seller. These reviews and, in some instances, approval processes can add additional time to the closing of a not-for-profit hospital acquisition. Future actions by state legislators or attorneys general may seriously delay or even prevent our ability to acquire certain hospitals.

  Regulatory Compliance Program

     We are committed to ethical business practices and to operating in accordance with all applicable laws and regulations. Our Compliance Program was established to ensure that all employees have a solid framework for business, legal, ethical, and employment practices. Our Compliance Program establishes mechanisms to aid in the identification and correction of any actual or perceived violations of any of our policies or procedures or any other applicable rules and regulations. We have appointed a Chief Compliance Officer as well as compliance coordinators at each inpatient facility. The Chief Compliance Officer heads our Compliance Committee which consists of senior management personnel and a member of our board of directors. Employee training is a key component of the Compliance Program. All employees receive training during orientation and annually thereafter.

Insurance

     We are subject to medical malpractice and other lawsuits due to the nature of the services we provide. Due to our acquisition of Ramsay Youth Services, Inc. (“Ramsay”), we had two distinct insurance programs that covered our inpatient facilities. Prior to January 1, 2005, all of our inpatient facilities except those acquired from Ramsay had professional and general liability insurance in umbrella form for claims in excess of $3.0 million with an insured limit of $20.0 million. For the inpatient facilities acquired from Ramsay, we had professional and general liability insurance in umbrella form for claims in excess of $500,000 with an insured limit of $26.0 million. These plans were combined in 2005 to cover all of our operations for professional and general liability in umbrella form for claims in excess of $2.0 million with an insured limit of $35.0 million. The self-insured reserves for professional and general liability risks are calculated based on historical claims, demographic factors, industry trends, severity factors, and other actuarial assumptions calculated by an independent third party. 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 this additional 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.

     We believe that our insurance coverage conforms to industry standards. There are no assurances, however, that our insurance will cover all claims (e.g., claims for punitive damages) or that claims in excess of our insurance coverage will not arise. A successful lawsuit against us that is not covered by, or is in excess of, our insurance coverage may have a material adverse effect on our business, financial condition and results of operations.

Employees

     As of December 31, 2004, we employed approximately 9,100 employees, of whom approximately 6,100 are full-time employees. Approximately 7,900 employees staff our owned and leased inpatient behavioral health care facilities, approximately 1,100 employees staff our inpatient management contracts and approximately 70 are in corporate management including finance, accounting, development, utilization review, training and education, information systems, member services, and human resources. None of our employees is subject to a collective bargaining agreement and we believe that our employee relations are good.

Available Information

     We make available free of charge through our website, which you can find at www.psysolutions.com, our Annual Report on Form 10-K, Quarterly Reports on Form 10-Q, Current Reports on Form 8-K, and amendments to these reports filed or furnished pursuant to Section 13(a) or 15(d) of the Exchange Act as soon as reasonably practicable after we electronically file such material with, or furnish it to, the Securities and Exchange Commission.

Item 2. Properties.

     At December 31, 2004, our inpatient behavioral health care facilities division operated 34 owned or leased inpatient behavioral health care facilities with 4,337 licensed beds in 19 states. The following table sets forth the name, location, number of licensed beds and the acquisition date for each of our owned and leased inpatient behavioral health care facilities as of December 31, 2004.

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     In addition, our principal executive offices are located in approximately 17,000 square feet of leased space in Franklin, Tennessee. We do not anticipate that we will experience any difficulty in renewing our lease upon its expiration in January 2010, or obtaining different space on comparable terms if such lease is not renewed. We believe our executive offices and our hospital property and equipment are generally well maintained, in good operating condition and adequate for our present needs.

Item 3. Legal Proceedings.

     We are subject to various claims and legal actions that arise in the ordinary course of our business. In the opinion of management, Psychiatric Solutions is not currently a party to any proceeding that would have a material adverse effect on its financial condition or results of operations.

Item 4. Submission of Matters to a Vote of Security Holders.

     None.

PART II

     Item 5. Market For Registrant’s Common Equity, Related Stockholder Matters and Issuer Purchases of Equity Securities.

     Our common stock has traded on the Nasdaq National Market under the symbol “PSYS”. The table below sets forth, for the calendar quarters indicated, the high and low sales prices per share as reported on the Nasdaq National Market for our common stock.

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     At the close of business on March 10, 2005, there were approximately 175 holders of record of our common stock.

     We currently intend to retain future earnings for use in the expansion and operation of our business. Our Credit Agreement with Bank of America prohibits us from paying dividends on our common stock. Also, the Indenture governing our 10 5/8% senior subordinated notes provides certain financial conditions that must be met in order for us to pay dividends. Subject to the terms of applicable contracts, the payment of any future cash dividends will be determined by our Board of Directors in light of conditions then existing, including our earnings, financial condition and capital requirements, restrictions in financing agreements, business opportunities and conditions, and other factors.

     During 2003, we sold 4,545,454 shares of series A convertible preferred stock for $25 million to various investors. Holders of our series A convertible preferred stock received pay-in-kind dividends, compounded quarterly, equal to 5% of the original share price. During 2004 the holders of the series A convertible preferred stock converted all outstanding shares of series A convertible preferred stock and related pay-in-kind dividends into 4,813,470 shares of our common stock.

Recent Sales of Unregistered Securities

     On January 8, 2004, we issued 6,080 shares of common stock to our former senior lender upon the exercise of a warrant at a price of $0.08 per share. Also, on January 8, 2004, we issued 15,863 shares of common stock to our former senior lender upon the exercise of a warrant at a price of $12.33 per share. On March 15, 2004, we issued 66,667 shares of common stock to one of our directors and a former chief executive officer of PMR Corporation (“PMR”) upon the exercise of stock options at a price of $14.25 per share. On November 21, 2004, we issued 1,564 shares of common stock to a former stockholder of an affiliated entity upon the exercise of a warrant at a price of $4.79 per share. On December 1, 2004, we issued 7,822 shares of common stock to a former stockholder of an affiliated entity upon the exercise of a warrant at a price of $4.79 per share. Finally, on December 29, 2004, we issued 4,167 shares of common stock upon the exercise of stock options at $24.00 per share and issued an additional 4,167 shares of common stock upon the exercise of stock options at $30.00 per share to a former executive officer of PMR.

     No underwriters were involved and no underwriter’s discounts or commissions were paid. Exemption from registration is claimed under Section 4(2) of the Securities Act of 1933 as a transaction not involving a public offering. We received cash and/or exchanged shares of our common stock as consideration for the transactions.

Item 6. Selected Financial Data.

     The selected financial data presented below for the years ended December 31, 2004, 2003 and 2002, and at December 31, 2004 and December 31, 2003, 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, 2001 and 2000, and at December 31, 2002, 2001 and 2000, are derived from our audited consolidated financial statements not included herein. 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.

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

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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

     Psychiatric Solutions completed a number of significant transactions in 2004. Through acquisitions, we increased our inpatient facility operations to 34 inpatient facilities and 4,337 licensed beds at December 31, 2004 from 24 inpatient facilities and 3,128 licensed beds at December 31, 2003. We also amended and restated our credit facility, in the process, lowering our effective rate of borrowing by one percentage point. In addition, we raised nearly $105 million in a secondary offering of our common stock. As a result, we ended 2004 with over $33 million in cash, $218 million in fixed assets and a debt balance roughly equivalent to that at the end of 2003. We believe these developments position us as a leading provider of inpatient behavioral health care services in the United States. We also believe that our singular focus on the provision of behavioral health care services allows us to operate more efficiently and provide higher quality care than our competitors. Our business is characterized by diverse sources of revenue, stable cash flows and low capital expenditure requirements.

     Our business strategy is to acquire inpatient behavioral health care facilities and improve operating results within new and existing inpatient facilities and our other inpatient behavioral health care operations. We completed our first significant acquisition in 2000 when we acquired Sunrise Behavioral Health, Ltd. and its inpatient behavioral health care management contracts. We continued implementing our acquisition strategy in 2001 with the acquisition of four inpatient behavioral health care facilities. In 2002, we acquired one inpatient behavioral health care facility and merged with PMR, a public company and operator of inpatient behavioral health care management contracts. 2003 marked our largest acquisitions to date with the purchase of six inpatient behavioral health care facilities from The Brown Schools, Inc. (“The Brown Schools”), the acquisition of Ramsay, an operator of 11 owned or leased inpatient behavioral health care facilities and 10 contracts to manage inpatient behavioral health care facilities for certain state governmental agencies, and the acquisitions of two other inpatient behavioral health care facilities from other sellers. In 2004, we acquired 10 inpatient behavioral health care facilities in five separate transactions, the most significant being the acquisition of four inpatient behavioral health care facilities from Heartland.

     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 our services by expanding our services and developing new services. We also improve operating results by optimizing staffing ratios, controlling contract labor costs and reducing supply costs through group purchasing. During 2004, we increased our revenue from owned and leased inpatient facilities by 9.0% as compared to our 2003 revenue from owned and leased inpatient facilities through same-facility growth. Same-facility growth also produced gains in owned and leased inpatient facility admissions and patient days of 5.7% and 7.7%, respectively, in 2004 as compared to 2003. Same-facility growth refers to the comparison of each inpatient facility owned during 2003 with the comparable period in 2004.

Acquisitions

     On March 10, 2004, we entered into a Stock Purchase Agreement to acquire all of the outstanding capital stock of AHS for approximately $560 million. The purchase price will be paid $500 million in cash and $60 million in shares of our common stock. AHS owns and operates, through its subsidiaries, 20 inpatient behavioral health care facilities, which include approximately 2,000 inpatient beds and generated approximately $300 million in revenues in 2004.

     On June 30, 2004, we completed the acquisition of substantially all the assets of Alliance Behavioral, a system of inpatient behavioral health care facilities with 144 beds located near El Paso, Texas, for approximately $12.5 million.

     On June 11, 2004, we completed the acquisition of substantially all of the assets of Piedmont, a 77 bed inpatient behavioral health care facility located in Leesburg, Virginia, for approximately $10.7 million.

     On June 1, 2004, we completed the acquisition of four inpatient behavioral health care facilities from Heartland for approximately $49.9 million. The four inpatient facilities, located in Summit, New Jersey, Ft. Lauderdale, Florida, Arlington, Texas and Eden Prairie, Minnesota, have a total of 360 beds.

     On May 1, 2004, we completed the acquisition of all of the membership interests of Palmetto, an operator of two inpatient behavioral health care facilities, for approximately $6.4 million. The two inpatient facilities, located in Charleston and Florence, South Carolina, have 161 beds.

     On March 1, 2004, we acquired two inpatient psychiatric facilities from Brentwood Behavioral Health for approximately $30.4 million cash with an earn-out of approximately $5 million payable in the second quarter of 2005. The inpatient facilities, which have an aggregate of 311 licensed beds, are located in Shreveport, Louisiana and Jackson, Mississippi.

     On December 16, 2003, we acquired the 50-bed Calvary Center located in Phoenix, Arizona for approximately $4.0 million. We paid $650,000 of the purchase price on the acquisition date with the balance paid in January 2004.

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     On November 1, 2003, we acquired the 109-bed Alliance Health Center located in Meridian, Mississippi. Alliance Health Center is a licensed acute care hospital that provides psychiatric care for children, adolescents and adults. In addition, we completed the construction of a 60-bed residential treatment center in June 2004.

     On June 30, 2003, we consummated the acquisition of Ramsay, a public company that traded on the Nasdaq SmallCap Market under the symbol “RYOU,” for approximately $81.3 million, consisting of $56.2 million in cash, or $5.00 per share, $22.3 million in net assumed debt that was repaid in connection with the acquisition and $2.8 million in fees and expenses. The 11 owned or leased inpatient behavioral health care facilities we acquired from Ramsay, which have an aggregate of 1,292 beds, are located primarily in the Southeastern region of the United States with locations also in Michigan, Missouri and Utah. In the acquisition, we also assumed 10 contracts to manage inpatient behavioral health care facilities for government agencies in Florida, Georgia and Puerto Rico.

     In April 2003, we consummated the acquisition of six inpatient behavioral health care facilities from The Brown Schools for $63.0 million in cash. The six inpatient facilities, which have an aggregate of 895 licensed beds, are located in Austin, San Antonio and San Marcos, Texas; Charlottesville, Virginia; Colorado Springs, Colorado; and Tulsa, Oklahoma. These facilities offer a full continuum of care for troubled adolescents and adults.

     Acquiring inpatient behavioral health care facilities is a key part of our business strategy. Because we have grown through acquisitions accounted for as purchases, it is difficult to make meaningful comparisons between our financial statements for the fiscal periods presented.

Sources of Revenue

Patient Service Revenue

     Patient service revenue is generated by our inpatient facilities as a result of services provided to patients within the inpatient behavioral health care facility setting. Patient service revenue is reported on an accrual basis in the period in which services are rendered, at established rates, regardless of whether collection in full is expected. Patient service revenue includes amounts estimated by management to be reimbursable by Medicare and Medicaid under provisions of cost or prospective reimbursement formulas in effect. Amounts received are generally less than the established billing rates of the inpatient facilities and the differences are reported as deductions from patient service revenue at the time the service is rendered. For the year ended December 31, 2004, patient service revenue comprised approximately 86% of our total revenue.

Management Contract Revenue

     Management contract revenue is earned by our inpatient management contract division. The inpatient management contract division receives contractually determined management fees from hospitals and clinics for providing psychiatric unit management and development services as well as management fees for managing inpatient behavioral health care facilities for government agencies. For the year ended December 31, 2004, management contract revenue comprised approximately 14% of our total revenue.

Results of Operations

     The following table illustrates our consolidated results of operations for the years ended December 31, 2004, 2003 and 2002 (dollars in thousands).

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Year Ended December 31, 2004 Compared To Year Ended December 31, 2003

     Revenue. Revenue from continuing operations was $487.2 million for the year ended December 31, 2004 compared to $284.9 million for the year ended December 31, 2003, an increase of $202.3 million or 71.0%. Revenue from our owned and leased inpatient facilities segment accounted for $419.3 million of the 2004 results compared to $223.3 million of the 2003 results, an increase of $196.0 million or 87.8%. The increase in revenues from our owned and leased inpatient facilities segment relates primarily to acquisitions. Acquisitions accounted for the following increases in revenue during 2004 as compared to 2003: $20.7 million for the inpatient facilities acquired from The Brown Schools, $61.8 million for the inpatient facilities acquired from Ramsay, $27.8 million for Brentwood, $28.9 million for Heartland and $36.2 million for other acquisitions during 2004 and 2003. The remainder of the increase in revenues from owned and leased inpatient facilities is primarily attributable to same-facility growth in admissions and patient days of 5.7% and 7.7%, respectively. Revenue from our inpatient management contracts segment accounted for $67.9 million of the 2004 results compared to $61.6 million of the 2003 results, an increase of $6.3 million or 10.2%. The increase in revenues from our inpatient management contracts segment relates primarily to revenues from inpatient management contracts assumed in the Ramsay acquisition.

     Salaries, wage, and employee benefits. Salaries, wages and employee benefits (“SWB”) expense was $265.7 million for the year ended December 31, 2004, or 54.6% of our total revenue, compared to $147.1 million for the year ended December 31, 2003, or 51.6% of our total revenue. SWB expense for our owned and leased inpatient facilities segment was $227.6 million in 2004, or 54.3% of segment revenue. Same-facility SWB expense for our owned and leased inpatient facilities segment was $131.7 million in 2004, or 54.1% of segment revenue, compared to $122.5 million in 2003, or 54.9% of segment revenue. SWB expense for our inpatient management contracts segment was $30.1 million in 2004. Same-facility SWB expense for our inpatient management contracts segment was $20.3 million in 2004 compared to $21.1 million in 2003. SWB expense for our corporate office was $8.0 million for 2004 compared to $3.5 million for 2003 as the result of the hiring of additional staff necessary to manage the inpatient facilities and inpatient management contracts acquired during 2003 and 2004.

     Professional fees. Professional fees were $53.3 million for the year ended December 31, 2004, or 10.9% of our total revenue, compared to $32.5 million for the year ended December 31, 2003, or 11.4% of our total revenue. Professional fees for our owned and leased inpatient facilities segment were $45.2 million in 2004, or 10.8% of segment revenue. Same-facility professional fees for our owned and leased inpatient facilities segment were $26.9 million in 2004, or 11.0% of segment revenue, compared to $26.3 million in 2003, or 11.8% of segment revenue. Professional fees for our inpatient management contracts segment were $4.8 million in 2004. Same-facility professional fees for our inpatient management contracts segment were $4.1 million in 2004, compared to $4.3 million in 2003. Professional fees for our corporate office were approximately $3.3 million in 2004 compared to approximately $1.8 million in 2003. The increase in professional fees in our

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corporate office relates to accounting, legal and other services required to meet the needs of a public company and achieving our acquisition strategy.

     Supplies. Supplies expense was $31.1 million for the year ended December 31, 2004, or 6.4% of our total revenue, compared to $16.4 million for the year ended December 31, 2003, or 5.8% of our total revenue. Supplies expense for our owned and leased inpatient facilities segment was $28.8 million in 2004, or 6.9% of segment revenue. Same-facility supplies expense for our owned and leased inpatient facilities segment was $16.9 million in 2004, or 6.9% of segment revenue, compared to $15.3 million in 2003, or 6.8% of segment revenue. Supplies expense for our inpatient management contracts segment was $2.2 million in 2004. Same-facility supplies expense for our inpatient management contracts segment were $1.1 million in 2004 compared to $1.0 million in 2003. Supplies expense at our owned and leased inpatient facilities segment has historically comprised the majority of our supplies expense as a whole; however, our inpatient management contracts segment began to utilize supplies to a larger extent due to the assumption of inpatient management contracts from Ramsay. Supplies expense for our corporate office consists of office supplies and are negligible to supplies expense overall.

     Provision for bad debts. The provision for bad debts was $10.9 million for the year ended December 31, 2004, or 2.2% of our total revenue, compared to $6.3 million for the year ended December 31, 2003, or 2.2% of our total revenue. The provision for bad debts at our owned and leased inpatient facilities segment comprises the majority of our provision for bad debts as a whole.

     Other operating expenses. Other operating expenses were approximately $63.6 million for the year ended December 31, 2004, or 13.1% of our total revenue, compared to $47.9 million for the year ended December 31, 2003, or 16.8% of our total revenue. Other operating expenses for our owned and leased inpatient facilities segment were $40.3 million in 2004, or 9.6% of segment revenue. Same-facility other operating expenses for our owned and leased inpatient facilities segment were $21.4 million in 2004, or 8.8% of segment revenue, compared to $21.7 million in 2003, or 9.7% of segment revenue. Other operating expenses for our inpatient management contracts segment were $20.0 million in 2004. Same-facility other operating expenses for our inpatient management contracts segment were $18.3 million in 2004 compared to $24.2 million in 2003. This decrease in other operating expenses for our inpatient management contracts segment on a same-facility basis, as compared to 2003, is primarily attributable to the net presentation of pharmacy receipts related to our Tennessee case management contract as an offset to other operating expenses. Other operating expenses at our corporate office increased to $3.3 million in 2004 from approximately $2.0 million in 2003.

     Depreciation and amortization. Depreciation and amortization expense was $9.9 million for the year ended December 31, 2004 compared to $5.7 million for the year ended December 31, 2003, an increase of approximately $4.2 million. This increase in depreciation and amortization expense is primarily the result of the numerous acquisitions of inpatient facilities during 2003 and 2004.

     Interest expense. Interest expense was $19.0 million for the year ended December 31, 2004 compared to $14.8 million for the year ended December 31, 2003, an increase of $4.2 million or 28.4%. The increase in interest expense is primarily attributable to the increase in our long-term debt during 2004. We began 2004 with $175.0 million in long-term debt, increasing to $191.9 million, $249.6 million and $244.4 million for the quarters ended March 31, 2004, June 30, 2004 and September 30, 2004, respectively, due to borrowings under our revolving line of credit to finance the acquisition of inpatient behavioral health care facilities. On December 31, 2004, we had $174.3 million in long-term debt as the result of repaying borrowings under our revolving line of credit with proceeds from our secondary offering of common stock that closed on December 20, 2004.

     Other expenses. Other expenses totaled $6.4 million for the year ended December 31, 2004 compared to approximately $5.3 million for the year ended December 31, 2003. Other expenses in 2004 consisted of $6.4 million in loss on the refinancing of our long-term debt. Other expenses in 2003 consisted of $4.9 million in loss on the refinancing of our long-term debt, $960,000 in expense recorded to recognize the change in fair value of stock purchase “put” warrants (for additional information on these warrants, see “Liquidity and Capital Resources” below) and the release of $545,000 in reserves related to our stockholder notes.

     Loss from discontinued operations, net of taxes. The loss from discontinued operations (net of income tax effect) of approximately $219,000 and $25,000 for the years ended December 31, 2004 and 2003, respectively, is from the operations of three contracts to manage inpatient facilities for the Florida Department of Juvenile Justice. These contracts were assumed in the Ramsay acquisition in 2003 and exited in 2004.

Year Ended December 31, 2003 Compared To Year Ended December 31, 2002

     Revenue. Revenue from continuing operations was $284.9 million for the year ended December 31, 2003 compared to $113.9 million for the year ended December 31, 2002, an increase of $171.0 million or 150.1%. Revenue from our owned and leased inpatient facilities segment accounted for $223.3 million of the 2003 results compared to $81.9 million of the 2002 results, an increase of $141.4 million or 172.5%. The increase in revenues from our owned and leased inpatient facilities segment relates primarily to revenues of $14.9 million during the first six months of 2003 for Riveredge Hospital, $57.3 million during 2003 for the inpatient facilities acquired from The Brown Schools and $59.6 million for the owned and leased inpatient facilities acquired from Ramsay. The

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remainder of the increase in revenues from inpatient facilities is primarily attributable to growth in admissions and patient days of 4.1% and 7.0%, respectively, on a same-facility basis. Revenue from our inpatient management contracts segment accounted for $61.6 million of the 2003 results compared to $32.0 million of the 2002 results, an increase of $29.6 million or 92.5%. The increase in revenues from our inpatient management contracts segment relates primarily to revenues of $13.6 million from inpatient management contracts acquired from PMR in August 2002, $13.8 million for Ramsay’s inpatient management contracts and growth of approximately $3.4 million in our contract to provide case management services in and around Nashville, Tennessee. This growth was offset by a reduction in the number of inpatient unit management contracts from 48 at December 31, 2002 to 42 at December 31, 2003, impacting revenues by approximately $1.2 million.

     Salaries, wage, and employee benefits. SWB expense was $147.1 million for the year ended December 31, 2003, or 51.6% of our total revenue, compared to $62.3 million for the year ended December 31, 2002, or 54.7% of our total revenue. SWB expense for our owned and leased inpatient facilities segment was $122.5 million in 2003, or 54.9% of our total revenue. Same-facility SWB expense for our owned and leased inpatient facilities segment was $48.2 million in 2003, or 53.9% of segment revenue, compared to $47.0 million in 2002, or 57.4% of segment revenue. This decrease in SWB expense as a percentage of revenue from our owned and leased inpatient facilities segment on a same-facility basis, as compared to 2002, primarily relates to efforts to maintain staffing levels on higher volumes. SWB expense for our inpatient management contracts segment was $21.1 million in 2003, or 34.2% of segment revenue. Same-facility SWB expense for our inpatient management contracts segment was $12.0 million in 2003, or 35.2% of segment revenue, compared to $13.2 million in 2002, or 41.2% of segment revenue. This decrease in SWB expense as a percentage of revenue from our inpatient management contracts segment on a same-facility basis, as compared to 2002, primarily relates to our acquisition from PMR of a contract to provide case management services in and around Nashville, Tennessee. We incur little SWB expense to provide these services because primarily all the costs to provide these services are recorded in other operating expenses because the actual services provided are subcontracted. SWB expense for our corporate office was $3.5 million for 2003 compared to $2.1 million for 2002 as the result of the hiring of additional staff necessary to manage the inpatient facilities and inpatient management contracts acquired during 2002 and 2003.

     Professional fees. Professional fees were $32.5 million for the year ended December 31, 2003, or 11.4% of our total revenue, compared to $14.4 million for the year ended December 31, 2002, or 12.6% of our total revenue. Professional fees for our owned and leased inpatient facilities segment were $26.3 million in 2003, or 11.8% of segment revenue. Same-facility professional fees for our owned and leased inpatient facilities segment were $10.8 million in 2003, or 12.1% of segment revenue, compared to $10.3 million in 2002, or 12.6% of segment revenue. This decrease in professional fees for our owned and leased inpatient facilities segment as a percentage of revenue on a same-facility basis, as compared to 2002, was primarily the result of efforts within our owned and leased inpatient facilities segment to reduce our reliance on contract labor. Professional fees for our inpatient management contracts segment were $4.3 million in 2003, or 7.0% of segment revenue. Same-facility professional fees for our inpatient management contracts segment were $3.6 million in 2003, or 10.6% of segment revenue, compared to $3.5 million in 2002, or 11.1% of segment revenue. Professional fees for our corporate office were approximately $1.8 million in 2003 compared to approximately $500,000 in 2002. The increase in professional fees in our corporate office relates to accounting, legal and other services required to meet the needs of a public company and achieving our acquisition strategy.

     Supplies. Supplies expense was $16.4 million for the year ended December 31, 2003, or 5.8% of our total revenue, compared to $5.3 million for the year ended December 31, 2002, or 4.7% of our total revenue. Supplies expense for our owned and leased inpatient facilities segment was $15.3 million in 2003, or 6.8% of segment revenue. Same-facility supplies expense for our owned and leased inpatient facilities segment was $5.9 million in 2003, or 6.6% of segment revenue, compared to $5.3 million in 2002, or 6.4% of segment revenue. Supplies expense for our inpatient management contracts segment was $1.0 million in 2003, or 1.7% of segment revenue, compared to $40,000 in 2002, or less than 1% of segment revenue. Supplies expense at our owned and leased inpatient facilities segment has historically comprised the majority of our supplies expense as a whole; however, our inpatient management contracts segment began to utilize supplies to a larger extent due to the assumption of inpatient management contracts from Ramsay. Supplies expense for our corporate office consists of office supplies and are negligible to supplies expense overall.

     Provision for bad debts. The provision for bad debts was $6.3 million for the year ended December 31, 2003, or 2.2% of our total revenue, compared to $3.7 million for the year ended December 31, 2002, or 3.2% of our total revenue. The provision for bad debts at our owned and leased inpatient facilities segment comprises the majority of our provision for bad debts as a whole. The reduction in provision for bad debts as a percentage of revenue was driven by the acquisition of inpatient facilities from The Brown Schools and Ramsay, which have fewer self-pay accounts.

     Other operating expenses. Other operating expenses were approximately $47.9 million for the year ended December 31, 2003, or 16.8% of our total revenue, compared to $16.0 million for the year ended December 31, 2002, or 14.1% of our total revenue. Other operating expenses for our owned and leased inpatient facilities segment were $21.7 million in 2003, or 9.7% of segment revenue. Same-facility other operating expenses for our owned and leased inpatient facilities segment were $7.9 million in 2003, or 8.8% of segment revenue, compared to $6.6 million in 2002, or 8.0% of segment revenue. This increase in other operating expenses for our owned and leased inpatient facilities segment as a percentage of revenue on a same-facility basis, as compared to 2002, relates primarily to increased insurance costs in 2003. Other operating expenses for our inpatient management contracts segment were $24.2

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million in 2003, or 39.3% of segment revenue. Same-facility other operating expenses for our inpatient management contracts segment was $11.1 million in 2003, or 32.6% of segment revenue, compared to $7.9 million in 2002, or 24.8% of segment revenue. This increase in other operating expenses for our inpatient management contracts segment as a percentage of revenue from this segment on a same-facility basis, as compared to 2002, is primarily attributable to growth in the contract to provide case management services in and around Nashville, Tennessee where actual services provided are subcontracted. Other operating expenses at our corporate office increased to $2.0 million in 2003 from approximately $1.4 million in 2002.

     Depreciation and amortization. Depreciation and amortization expense was $5.7 million for the year ended December 31, 2003 compared to $1.8 million for the year ended December 31, 2002, an increase of approximately $4.0 million. This increase in depreciation and amortization expense is the result of the acquisitions of Riveredge Hospital, PMR, The Brown Schools and Ramsay.

     Interest expense. Interest expense was $14.8 million for the year ended December 31, 2003 compared to $5.6 million for the year ended December 31, 2002, an increase of $9.2 million or 164.3%. The increase in interest expense is primarily attributable to the increase in our long-term debt from approximately $43.8 million at December 31, 2002 to approximately $175.0 million at December

     31, 2003 due to our 10 5/8% senior subordinated note offering, the expansion of our senior credit facility and the refinancing of our term loans from CapitalSource Finance LLC with mortgage loans insured by the U.S. Department of Housing and Urban Development (“HUD”). The proceeds from the 10 5/8% senior subordinated notes and the expanded credit facility were used to finance acquisitions in 2003.

     Other expenses. Other expenses totaled $5.3 million for the year ended December 31, 2003 compared to approximately $180,000 for the year ended December 31, 2002. Other expenses in 2003 consisted of $4.9 million in loss on the refinancing of our long-term debt, $960,000 in expense recorded to recognize the change in fair value of stock purchase “put” warrants (for additional information on these warrants, see “Liquidity and Capital Resources” below) and the release of $545,000 in reserves related to our stockholder notes. Other expenses in 2002 consisted of approximately $90,000 in loss on the refinancing of our long-term debt and approximately $90,000 to increase the reserve related to our stockholder notes.

     Loss from discontinued operations, net of taxes. The loss from discontinued operations of approximately $25,000 for the year ended December 31, 2003 is from the operations of three contracts to manage inpatient facilities for the Florida Department of Juvenile Justice. These contracts were assumed from Ramsay in 2003 and exited in 2004.

Liquidity and Capital Resources

     As of December 31, 2004, we had working capital of $39.9 million, including cash and cash equivalents of $33.3 million, compared to working capital of $67.2 million, including cash and cash equivalents of $45.0 million, at December 31, 2003. At December 31, 2004, our current liabilities include $20 million of our 10 5/8% senior subordinated bonds, which were repaid on January 14, 2005. The decrease in working capital is primarily due to the classification of $20 million of our 10 5/8% senior subordinated bonds as current at December 31, 2004 versus long-term at December 31, 2003.

     Cash provided by operating activities was $39.9 million for the year ended December 31, 2004 compared to $18.3 million for the year ended December 31, 2003. The increase in cash flows from operating activities was primarily due to the cash generated from the inpatient facilities we acquired in 2004 and the full year operations of the inpatient facilities acquired from Ramsay and The Brown Schools, which we acquired in 2003.

     Cash used in investing activities was $154.1 million for the year ended December 31, 2004 compared to $108.1 million for the year ended December 31, 2003. Cash used in investing activities for the year ended December 31, 2004 was primarily the result of $136.5 million paid for acquisitions and $17.2 million paid for the purchases of fixed assets. Cash used in the acquisition of Brentwood was approximately $31 million, of which $17 million came from our revolving credit facility. Cash used in the acquisition of Palmetto was approximately $11 million, including the purchase of real estate in Charleston, South Carolina of approximately $4 million. Cash used in the acquisition of Heartland was approximately $67 million, including the purchase of real estate in Summit, New Jersey of approximately $15.9 million. We borrowed $35 million under our revolving credit facility for the purchase of Heartland. Cash used in the acquisition of Piedmont was approximately $11 million, of which $10 million came from our revolving credit facility. Cash used in the acquisition of Alliance Behavioral was approximately $13 million, all of which came from our revolving credit facility. Cash used for routine capital expenditures were approximately $7 million for the year ended December 31, 2004. Cash used for non-routine capital expenditures during 2004 included the construction of a 60-bed RTC in Meridian, Mississippi and other expansion of beds. Cash used for non-routine capital expenditures during 2004 also included conversions and upgrades of computer systems at some of our newly acquired facilities. Cash used in investing activities for the year ended December 31, 2003 was primarily the result of $100.4 million paid for acquisitions and capital expenditures of approximately $5.8 million. Capital expenditures are generally not for the expansion of capacity within our inpatient facilities and historically approximate 2% of our net revenues. During 2003, our capital expenditures included typical non-expansion capital expenditures, as well as expenditures to upgrade computer systems at some of our newly acquired facilities and certain expansion projects.

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     Cash provided by financing activities was $102.5 million for the year ended December 31, 2004 compared to $132.3 million for the year ended December 31, 2003. During 2004, we raised approximately $109 million from the proceeds of the offering of our common stock and stock option exercises. Also during 2004, we spent approximately $7 million to refinance our long-term debt, pay loan and issuance costs and make principal payments on our long-term debt. During 2003, we received cash from borrowings of approximately $62.0 million, net of refinancings and not including proceeds from borrowings that were paid directly to the sellers of our acquisitions. Also during 2003, we received $48.9 million and $24.5 million, net of issuance costs, from the secondary offering of our common stock and from our issuance of series A convertible preferred stock, respectively. These sources of cash from financing activities were offset by cash payments during 2003 of $2.0 million and $1.4 million for capitalized loan costs on new debt and early termination fees on debt that we refinanced, respectively.

     On January 14, 2005, we redeemed $50 million of our 10 5/8% senior subordinated notes, leaving $100 million outstanding after the redemption. In connection with the redemption we paid bondholders a 10 5/8% penalty and accrued interest. We expect to record a loss on refinancing long-term debt of approximately $7 million during the first quarter of 2005. We paid the redemption with borrowings under our revolving credit facility of $30 million and the remainder with cash on hand. We issued $150 million in 10 5/8% senior subordinated notes, which are fully and unconditionally guaranteed on a senior subordinated basis by substantially all of our existing operating subsidiaries, on June 30, 2003. Proceeds from the issuance of the senior subordinated notes and the private placement of $12.5 million in series A convertible preferred stock were used to finance the acquisition of Ramsay and pay down the majority of our long-term debt. Interest on the senior subordinated notes accrues at the rate of 10.625% per annum and is payable semi-annually in arrears on June 15 and December 15, commencing on December 15, 2003. The senior subordinated notes will mature on June 15, 2013.

          On December 21, 2004, we amended and restated our revolving credit facility with Bank of America to increase the borrowings available to us to $150 million, extend the term of the agreement until December 2009 and lower the applicable interest rate, as defined in the credit agreement. We initially entered into a revolving credit facility with Bank of America of up to $50 million on January 6, 2004. We subsequently amended and increased the revolving credit facility to $125 million in June 2004.

          On December 20, 2004, we closed on the sale of 3,450,000 shares of our common stock at $33.70 per share. Of these shares, 450,000 were sold through the full exercise of the underwriters’ over-allotment option. We sold 3,285,000 shares for approximately $105 million after underwriting discounts and other issuance costs. Certain shareholders sold 165,000 shares in the offering. We did not receive any proceeds from the sale of common stock by the selling shareholders. Approximately $82 million of the net proceeds were used to pay down borrowings under our revolving line of credit.

     On January 26, 2004, we entered into an interest rate swap agreement to manage our exposure to fluctuations in interest rates. The swap agreement effectively converts $20 million of fixed-rate long-term debt to a LIBOR indexed variable rate instrument plus an agreed upon interest rate spread of 5.86%. On April 23, 2004, we entered into another interest rate swap agreement. This swap agreement effectively converts $30.0 million of fixed rate debt to a LIBOR indexed variable rate instrument plus an agreed upon interest rate spread of 5.51%.

     On November 5, 2003, we borrowed approximately $12.1 million under a mortgage loan agreement insured by the U.S. Department of Housing and Urban Development (“HUD”), secured by real estate located at Riveredge Hospital near Chicago, Illinois. Interest accrues on the HUD loan at 5.65% and principal and interest are payable in 420 monthly installments through December 2038. We used the proceeds from the loan to repay approximately $11.2 million of our term debt under our former senior secured credit facility, pay certain financing costs, and fund required escrow amounts for future improvements to the property.

     On August 28, 2003, we borrowed approximately $6.8 million under a mortgage loan agreement insured by HUD, secured by real estate located at West Oaks Hospital in Houston, Texas. Interest accrues on the HUD loan at 5.85% and principal and interest are payable in 420 monthly installments through September 2038. We used the proceeds from the loan to repay approximately $5.8 million of our term debt under our former senior secured credit facility, pay certain financing costs, and fund required escrow amounts for future improvements to the property.

     We believe that our working capital on hand, cash flows from operations and funds available under our revolving line of credit will be sufficient to fund our operating needs, planned capital expenditures and debt service requirements for the next 12 months.

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     In connection with our proposed acquisition of the capital stock of AHS, we anticipate financing the $500 million cash portion of the purchase price with new debt. We have entered into a commitment letter with Citigroup Global Markets, Inc. to provide such financing subject to the terms and conditions of such letter. In addition, we are actively seeking other acquisitions that fit our corporate growth strategy and may acquire additional inpatient psychiatric facilities. Management continually assesses our capital needs and, should the need arise, we will seek additional financing, including debt or equity, to fund potential acquisitions 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

     The fair value of our $150 million 10 5/8% senior subordinated notes was approximately $173 million as of December 31, 2004. The carrying value of our other long-term debt, including current maturities, of $24.3 million and $25.0 million at December 31, 2004 and December 31, 2003, respectively, approximated fair value. As a result of entering into two interest rate swap agreements during 2004, we effectively had $50 million in variable rate debt outstanding at December 31, 2004. At the December 31, 2004 borrowing level, a hypothetical 10% increase in interest rates would decrease net income and cash flows by approximately $250,000.

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 rising supply costs which tend to escalate as vendors pass on the rising costs through price increases. Some of our 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 salaries, wages and benefits 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 payers. 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 and receivables due under our inpatient management contracts 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

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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 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.

     Professional and General Liability

     We are subject to medical malpractice and other lawsuits due to the nature of the services we provide. Due to our acquisition of Ramsay, we had two distinct insurance programs that covered our inpatient facilities. Prior to December 31, 2004, all of our inpatient facilities except those acquired from Ramsay had professional and general liability insurance in umbrella form for claims in excess of $3.0 million with an insured limit of $20.0 million. For the inpatient facilities acquired from Ramsay, we had professional and general liability insurance in umbrella form for claims in excess of $500,000 with an insured limit of $26.0 million. These plans were combined in 2005 to cover all of our operations for professional and general liability in umbrella form for claims in excess of $2.0 million with an insured limit of $35.0 million. The self-insured reserves for professional and general liability risks are calculated based on historical claims, demographic factors, industry trends, severity factors, and other actuarial assumptions calculated by an independent third party. 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 this additional 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.

     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 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 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.

     Forward-Looking Statements

     This Annual Report on Form 10-K and other materials we have filed or may file with the Securities and Exchange Commission, as well as information included in oral statements or other written statements made, or to be made, by our senior management, contain, or will contain, disclosures that are “forward-looking statements” within the meaning of the safe harbor provisions of The Private Securities Litigation Reform Act of 1995. Forward-looking statements include all statements that do not relate solely to historical or current facts and can be identified by the use of words such as “may,” “will,” “expect,” “believe,” “intend,” “plan,” “estimate,” “project,” “continue,” “should” and other comparable terms. These forward-looking statements are based on the current plans and expectations of management and are subject to a number of risks and uncertainties, including those set forth below, which could significantly affect our current plans and expectations and future financial condition and results.

     We undertake no obligation to publicly update or revise any forward-looking statements, whether as a result of new information, future events or otherwise. Stockholders and investors are cautioned not to unduly rely on such forward-looking statements when evaluating the information presented in our filings and reports.

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     While it is not possible to identify all these factors, we continue to face many risks and uncertainties that could cause actual results to differ from those forward-looking statements, including:

     In addition, future trends for pricing, margins, revenues and profitability remain difficult to predict in the industries that we serve.

Risk Factors

     If we fail to comply with extensive laws and government regulations, we could suffer penalties or be required to make significant changes to our operations.

          The health care industry is required to comply with extensive and complex laws and regulations at the federal, state and local government levels relating to, among other things:

     Among these laws are the Anti-kickback Statute and the Stark Law. These laws impact the relationships that we may have with physicians and other referral sources. The OIG of the HHS has enacted safe harbor regulations that outline practices that are deemed

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protected from prosecution under the Anti-kickback Statute. Our current financial relationships with physicians and other referral sources may not qualify for safe harbor protection under the Anti-kickback Statute. Failure to meet a safe harbor does not mean that the arrangement automatically violates the Anti-kickback Statute, but may subject the arrangement to greater scrutiny. Further, we cannot guarantee that practices that are outside of a safe harbor will not be found to violate the Anti-kickback Statute.

     In order to comply with the Stark Law, our financial relationships with physicians and their immediate family members must meet an exception. We have structured our financial arrangements with physicians to comply with the statutory exceptions included in the Stark Law and subsequent regulations. However, future Stark Law regulations may interpret provisions of this law in a manner different from the manner in which we have interpreted them. We cannot predict the effect such future regulations will have on us.

     If we fail to comply with the Anti-kickback Statute, the Stark Law or other applicable laws and regulations, we could be subjected to penalties, including criminal penalties, civil penalties (including the loss of our licenses to operate one or more inpatient facilities), and exclusion of one or more of our inpatient facilities from participation in the Medicare, Medicaid and other federal and state health care programs. In addition, if we do not operate our inpatient facilities in accordance with applicable law, our inpatient facilities may lose their licenses or the ability to participate in third party reimbursement programs.

     Because many of these laws and regulations are relatively new, we do not always have the benefit of significant regulatory or judicial interpretation of these laws and regulations. In the future, different interpretations or enforcement of these laws and regulations could subject our current or past practices to allegations of impropriety or illegality or could require us to make changes in our inpatient facilities, equipment, personnel, services, capital expenditure programs and operating expenses. A determination that we have violated these laws, or the public announcement that we are being investigated for possible violations of these laws, could have a material adverse effect on our business, financial condition, results of operations or prospects and our business reputation could suffer significantly. In addition, we are unable to predict whether other legislation or regulations at the federal or state level will be adopted.

We may be required to spend substantial amounts to comply with legislative and regulatory initiatives relating to privacy and security of patient health information and standards for electronic transactions.

     There are currently numerous legislative and regulatory initiatives at the federal and state levels addressing patient privacy and security concerns. In particular, federal regulations issued under the Health Insurance Portability Accountability Act of 1996 contain provisions that have required, and in the future may require, our facilities to implement costly new computer systems and to adopt business procedures designed to protect the privacy and security of each of their patients’ individually identifiable health and related financial information. Compliance with the privacy regulations was required on April 14, 2003 for most health care organizations, including our inpatient facilities. The privacy regulations have had a financial impact on the health care industry because they impose extensive new administrative requirements, restrictions on the use and disclosure of individually identifiable patient health and related financial information, provide patients with new rights with respect to their health information and require our inpatient facilities to enter into contracts extending many of the privacy regulation requirements to third parties who perform functions on our behalf involving health information.

     On February 20, 2003, HHS issued final security regulations. Compliance with these security regulations is required by April 21, 2005 for most health care organizations, including our inpatient facilities. These security regulations require our inpatient facilities to implement administrative, physical and technical safeguards to protect the integrity, confidentiality and availability of electronically received, maintained or transmitted patient individually identifiable health and related financial information. We cannot predict the total financial or other impact of these regulations on our business. Compliance with these regulations requires substantial expenditures, which could negatively impact our financial results. In addition, our management has spent, and may spend in the future, substantial time and effort on compliance measures.

     On August 17, 2000, HHS issued regulations requiring most health care organizations, including our inpatient facilities, to use standard data formats and code sets by October 16, 2003 when electronically transmitting information in connection with several types of transactions, including health claims, health care payment and remittance advice and health claim status transactions. We have implemented or upgraded computer systems, as appropriate, at our inpatient facilities and at our corporate headquarters to comply with the new transaction and code set regulations.

     Violations of the privacy, security and transaction regulations could subject our inpatient facilities to civil penalties of up to $25,000 per calendar year for each provision contained in the privacy, security and transaction regulations that is violated and criminal penalties of up to $250,000 per violation for certain other violations. Since there is no significant history of enforcement efforts by the federal government at this time, it is not possible to ascertain the likelihood of enforcement efforts in connection with these regulations or the potential for fines and penalties which may result from the violation of the regulations.

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Other companies within the health care industry continue to be the subject of federal and state investigations, which increases the risk that we may become subject to investigations in the future.

     Both federal and state government agencies as well as private payors have heightened and coordinated civil and criminal enforcement efforts as part of numerous ongoing investigations of health care organizations. These investigations relate to a wide variety of topics, including:

     The OIG and the U.S. Department of Justice have, from time to time, undertaken national enforcement initiatives that focus on specific billing practices or other suspected areas of abuse. Moreover, health care providers are subject to civil and criminal false claims laws, including the federal False Claims Act, which allows private parties to bring whistleblower lawsuits against private companies doing business with or receiving reimbursement under federal health care programs. Some states have adopted similar state whistleblower and false claims provisions. Publicity associated with the substantial amounts paid by other health care providers to settle these lawsuits may encourage our current and former employees and other health care providers to bring whistleblower lawsuits. Any investigations of us or our executives or managers could result in significant liabilities or penalties as well as adverse publicity.

     As a provider of health care services, we are subject to claims and legal actions by patients and others.

     We are subject to medical malpractice and other lawsuits due to the nature of the services we provide. Facilities acquired by us may have unknown or contingent liabilities, including liabilities related to patient care and liabilities for failure to comply with health care laws and regulations, which could result in large claims and significant defense costs. Although we generally seek indemnification covering these matters from prior owners of facilities we acquire, material liabilities for past activities of acquired facilities may exist and such prior owners may not be able to satisfy their indemnification obligations. We are also susceptible to being named in claims brought related to patient care and other matters at inpatient facilities owned by third parties and operated by us.

     To protect ourselves from the cost of these claims, professional malpractice liability insurance and general liability insurance coverage is maintained in amounts and with deductibles common in the industry. We have professional and general liability insurance in umbrella form for claims in excess of $2 million with an insured limit of $35 million for all of our inpatient facilities. The self-insured reserves for professional and general liability risks are calculated based on historical claims, demographic factors, industry trends, severity factors, and other actuarial assumptions calculated by an independent third party. The self-insured 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 established a captive insurance company to manage this additional self-insured retention. There are no assurances that our insurance will cover all claims (e.g., claims for punitive damages) or that claims in excess of our insurance coverage will not arise. A successful lawsuit against us that is not covered by, or is in excess of, our insurance coverage may have a material adverse effect on our business, financial condition and results of operations. This insurance coverage may not continue to be available at a reasonable cost, especially given the significant increase in insurance premiums generally experienced in the health care industry.

If federal or state health care programs or managed care companies reduce reimbursement rates for services provided, revenues may decline.

     A large portion of our revenue comes from the Medicare and Medicaid programs. In recent years, federal and state governments have made significant changes in these programs.

     On November 3, 2004, CMS announced final regulations adopting a prospective payment system for services provided by inpatient behavioral health care hospitals. Inpatient behavioral health care facilities historically have been reimbursed based on reasonable cost, subject to a discharge ceiling. For cost reporting periods after January 1, 2005, CMS will begin to phase in over a three-year period a prospective payment system which will pay inpatient behavioral health care facilities a per diem base rate. During the three-year phase-in period, CMS has agreed to a stop loss provision which will guarantee that a provider will receive at least 70% of the amount it would have been paid under the cost-based reimbursement system.

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     The per diem base rate will be adjusted by factors that influence the cost of an individual patient’s care, such as each patient’s diagnosis related group, certain other medical and psychiatric comorbidities (i.e., other coexisting conditions that may complicate treatment), and age. The per diem amounts are calculated in part based on national averages, but will be adjusted for specific facility characteristics that increase the cost of patient care. The base rate per diem is intended to compensate a facility for costs incurred to treat a patient with a particular diagnosis, including nearly all labor and non-labor costs of furnishing covered inpatient behavioral health care services as well as routine, ancillary and capital costs. Payment rates for individual inpatient facilities will be adjusted to reflect geographic differences in wages and will allow additional outlier payments for expenses associated with extraordinary cases. Additionally, rural providers will receive an increased payment adjustment. Medicare will pay this per diem amount, as adjusted, regardless of whether it is more or less than a hospital’s actual costs. The per diem will not, however, include the costs of bad debt and certain other costs that are paid separately. Please see http://www.cms.hhs.gov/providers/ipfpps for additional information.

     Future federal and state legislation may reduce the payments we receive for our services.

     Insurance and managed care companies and other third parties from whom we receive payment are increasingly attempting to control health care costs by requiring that facilities discount their fees in exchange for exclusive or preferred participation in their benefit plans. This trend may continue and may reduce the payments received by us for our services.

If competition decreases the ability to acquire additional inpatient facilities on favorable terms, we may be unable to execute our acquisition strategy.

     Competition among hospitals and other health care providers in the United States has intensified in recent years due to cost containment pressures, changing technology, changes in government regulation and reimbursement, changes in practice patterns (such as shifting from inpatient to outpatient treatments), the impact of managed care organizations and other factors. An important part of our business strategy is to acquire inpatient facilities in growing markets. Some inpatient facilities and health care providers that compete with us have greater financial resources and a larger, more experienced development staff focused on identifying and completing acquisitions. In addition, some competitors are owned by governmental agencies or not-for-profit corporations supported by endowments and charitable contributions, and can finance capital expenditures on a tax-exempt basis. Any or all of these factors may impede our business strategy.

Our substantial indebtedness could adversely affect our financial condition.

     As of December 31, 2004, our total consolidated indebtedness was approximately $174.3 million.

     Our indebtedness could have important consequences including:

In connection with our proposed acquisition of the capital stock of AHS, we expect to incur significant additional indebtedness to finance the $500 million cash portion of the purchase price. If new indebtedness is added to our and our subsidiaries’ current indebtedness levels, the related risks that we and they now face could intensify. In addition, our amended and restated credit facility requires us to maintain specified financial ratios and tests which may require that we take action to reduce our debt or to act in a manner contrary to our business objectives. Events beyond our control,

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including changes in general business and economic conditions, may affect our ability to meet those financial ratios and tests. We cannot assure you that we will meet those ratios and tests or that the lenders will waive any failure to meet those ratios and tests. A breach of any of these covenants would result in a default under the amended and restated credit facility and any resulting acceleration thereunder may result in a default under the indenture governing our 10 5/8% senior subordinated notes. If an event of default under our amended and restated credit facility occurs, the lenders could elect to declare all amounts outstanding thereunder, together with accrued interest, to be immediately due and payable.

Additional financing may be necessary to fund our acquisition program and capital expenditures, and additional financing may not be available when needed.

     Our acquisition program requires substantial capital resources. Likewise, the operation of existing inpatient facilities requires ongoing capital expenditures for renovation, expansion and the upgrade of equipment and technology.

     In connection with our proposed acquisition of the capital stock of AHS, we expect to incur significant additional indebtedness to finance the $500 million cash portion of the purchase price. We may not receive additional financing on satisfactory terms. In addition, our level of indebtedness at any time may restrict our ability to borrow additional funds. If we are not able to obtain financing, then we may not be in a position to consummate acquisitions or undertake capital expenditures.

Recently acquired businesses and businesses acquired in the future will expose us to increased operating risks.

     We acquired 19 inpatient facilities in 2003 and acquired 10 inpatient facilities in 2004. In addition, we have entered into a Stock Purchase Agreement to acquire all of the capital stock of AHS. AHS owns and operates, through its subsidiaries, 20 inpatient behavioral health care facilities.

     This expansion exposes us to additional business and operating risk and uncertainties, including:

     If we are unable to manage this expansion efficiently or effectively, or are unable to attract and retain additional qualified management personnel to run the expanded operations, it could have a material adverse effect on our business, financial condition and results of operations.

If we fail to improve the operations of acquired inpatient facilities, we may be unable to achieve our growth strategy.

     We may be unable to maintain or increase the profitability of, or operating cash flows at, any existing hospital or other acquired inpatient facility, effectively integrate the operations of any acquisitions or otherwise achieve the intended benefit of our growth strategy. To the extent that we are unable to enroll in third party payor plans in a timely manner following an acquisition, we may experience a decrease in cash flow or profitability.

     Hospital acquisitions generally require a longer period to complete than acquisitions in many other industries and are subject to additional regulatory uncertainty. Many states have adopted legislation regarding the sale or other disposition of facilities operated by not-for-profit entities. In other states that do not have specific legislation, the attorneys general have demonstrated an interest in these transactions under their general obligations to protect charitable assets from waste. These legislative and administrative efforts focus primarily on the appropriate valuation of the assets divested and the use of the proceeds of the sale by the non-profit seller. In addition, the acquisition of facilities in certain states requires advance regulatory approval under “certificate of need” or state licensure regulatory regimes. These state-level procedures could seriously delay or even prevent us from acquiring inpatient facilities, even after significant transaction costs have been incurred.

We depend on our relationships with physicians who use our inpatient facilities.

     Our business depends upon the efforts and success of the physicians who provide health care services at our inpatient facilities and the strength of the relationships with these physicians.

     Our business could be adversely affected if a significant number of physicians or a group of physicians:

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We depend on our key management personnel.

     We are highly dependent on our senior management team, which has many years of experience addressing the broad range of concerns and issues relevant to our business. Our senior management team includes talented managers of our divisions, who have a wealth of experience in all aspects of health care. We have entered into employment agreements with Joey A. Jacobs, Chief Executive Officer, and Jack Salberg, Chief Operating Officer, which include non-competition and non-solicitation provisions. Key man life insurance policies are not maintained on any member of senior management other than Mr. Jacobs. The loss of key management or the inability to attract, retain and motivate sufficient numbers of qualified management personnel could have a material adverse effect on us.

Failure to achieve and maintain effective internal controls in accordance with Section 404 of the Sarbanes-Oxley Act could have a material adverse effect on our business and stock price.

     Each year we are required to document and test our internal control procedures in order to satisfy the requirements of Section 404 of the Sarbanes-Oxley Act, which requires annual management assessments of the effectiveness of our internal controls over financial reporting and a report by our independent registered public accounting firm addressing these assessments. During the course of our testing we may identify deficiencies that we may not be able to remediate in time to meet the deadline imposed by the Sarbanes-Oxley Act for compliance with the requirements of Section 404. In addition, if we fail to maintain the adequacy of our internal controls, as such standards are modified, supplemented or amended from time to time, we may not be able to ensure that we can conclude on an ongoing basis that we have effective internal controls over financial reporting in accordance with Section 404 of the Sarbanes-Oxley Act. Failure to achieve and maintain an effective internal control environment could have a material adverse effect on our stock price.

Our stock price could be volatile.

     The market price of our common stock could fluctuate significantly in response to various factors, including:

Item 7A. Quantitative and Qualitative Disclosures About Market Risk.

     Our interest expense is sensitive to changes in the general level of interest rates. With respect to our interest-bearing liabilities, all of our long-term debt outstanding at December 31, 2004 was subject to a weighted average fixed interest rate of 10%, not including our interest rate swaps. At December 31, 2004, we had $50 million in interest rate swaps that effectively changed $50 million of our 10 5/8% fixed rate senior subordinated bonds to a variable rate. A hypothetical 10% increase in interest rates would decrease our net income and cash flows by approximately $250,000 on an annual basis based upon the borrowing level at December 31, 2004. As discussed above, we do have a $150 million revolving credit facility that is subject to variable interest rates; however, at December 31, 2004, no balance was outstanding under the revolving line of credit. In the event we draw on our revolving credit facility and interest rates change significantly, we expect management would take actions intended to further mitigate our exposure to such change. Information on quantitative and qualitative disclosure about market risk is included in Part II, Item 7 of this Annual Report on Form 10-K under the caption “Management’s Discussion and Analysis of Financial Condition and Results of Operations — Liquidity and Capital Resources” and “Management’s Discussion and Analysis of Financial Condition and Results of Operations — Liquidity and Capital Resources — Contractual Obligations.”

Item 8. Financial Statements and Supplementary Data.

     Information with respect to this Item is contained in our consolidated financial statements indicated in the Index on Page F-1 of this Annual Report on Form 10-K.

Item 9. Changes in and Disagreements With Accountants on Accounting and Financial Disclosure.

None.

Item 9A. Controls and Procedures.

Conclusion Regarding the Effectiveness of Disclosure Controls and Procedures

     We carried out an evaluation, under the supervision and with the participation of management, including our Chief Executive Officer and Chief Accounting Officer, of the effectiveness of the design and operation of our disclosure controls and procedures as of the end of the period covered by this report pursuant to Exchange Act Rule 13a-15. Based upon that evaluation, the Chief Executive

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Officer and Chief Accounting Officer concluded that our disclosure controls and procedures were effective in ensuring that information required to be disclosed by us (including our consolidated subsidiaries) in reports that we file or submit under the Securities Exchange Act of 1934, as amended, is recorded, processed, summarized and reported on a timely basis.

     Pursuant to Section 404 of the Sarbanes-Oxley Act of 2002, we have included a report of management’s assessment of the design and operating effectiveness of our internal controls as part of this Annual Report on Form 10-K for the year ended December 31, 2004. Our independent registered public accounting firm also attested to, and reported on, management’s assessment of the effectiveness of internal control over financial reporting. Management’s report and the independent registered public accounting firm’s attestation report are included in our 2004 consolidated financial statements beginning with the index on page F-1 of this report under the captions entitled “Management’s Report on Internal Control Over Financial Reporting” and “Report of Independent Registered Public Accounting Firm on Internal Control Over Financial Reporting.”

Changes in Internal Control Over Financial Reporting

     There has been no change in our internal control over financial reporting during the fourth quarter ended December 31, 2004 that has materially affected, or is reasonably likely to materially affect, our internal control over financial reporting.

Item 9B. Other Information.

     None.

PART III

Item 10. Directors And Executive Officers of the Registrant.

Directors

     The information relating to our directors set forth in the Company’s Proxy Statement relating to the 2005 Annual Meeting of Stockholders under the caption “Election of Directors” and “Corporate Governance — Audit Committee” is incorporated herein by reference.

Executive Officers of the Registrant

     The executive officers of the Company are:

     Joey A. Jacobs, President and Chief Executive Officer. Mr. Jacobs serves as President and Chief Executive Officer and was one of our co-founders in April 1997. Prior to our founding, Mr. Jacobs served for 21 years in various capacities with Hospital Corporation of America (“HCA,” also formerly known as Columbia and Columbia/HCA), most recently as President of the Tennessee Division. Mr. Jacobs’ background at HCA also includes serving as President of HCA’s Central Group, Vice President of the Western Group, Assistant Vice President of the Central Group and Assistant Vice President of the Salt Lake City Division.

     Steven T. Davidson, Chief Development Officer. Mr. Davidson has served as Chief Development Officer since August 1997 and has over 21 years of health care experience. Prior to joining us, Mr. Davidson served as the Director of Development at HCA from 1991 until 1997. Mr. Davidson also served as a Senior Audit Supervisor and Hospital Controller during his term at HCA, which began in 1983, where he supervised audits of hospitals and other corporate functions. Prior to joining HCA, Mr. Davidson was employed by Ernst & Young LLP as a Senior Auditor. Mr. Davidson is a Certified Public Accountant and a member of the American Institute of Certified Public Accountants.

     Jack Salberg, Chief Operating Officer. Mr. Salberg has served as Chief Operating Officer since May 2000 and has more than 32 years of operational experience in both for-profit and non-profit health care sectors. Prior to joining us, Mr. Salberg served as President and Chief Executive Officer of Sunrise Behavioral Health, Ltd. from 1996 to 2000. In addition, Mr. Salberg served for ten years in various capacities with American Healthcorp, most recently as Senior Vice President with specific responsibilities for multi-facility contract management. Mr. Salberg also spent three years as head of Health Group, Inc.’s psychiatric division. In addition, Mr. Salberg was employed for four years with Humana Corporation as the Executive Director of a hospital and seven years with

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Arden Hill Hospital, an independent hospital, as its Associate Executive Director.

     Jack E. Polson, Chief Accounting Officer. Mr. Polson has served as Chief Accounting Officer since August 2002. Prior to being appointed Chief Accounting Officer, Mr. Polson had served as Controller since June 1997. From June 1995 until joining us, Mr. Polson served as Controller for Columbia Healthcare Network, a risk-bearing physician health organization. From May 1992 until June 1995, Mr. Polson served as an Internal Audit Supervisor for HCA.

     Brent Turner, Vice President, Treasurer and Investor Relations. Mr. Turner has served as the Vice President, Treasurer and Investor Relations since February 2003. From April 2002 until joining us, Mr. Turner served as Executive Vice President and Chief Financial Officer of Educational Services of America, a privately-held owner and operator of schools for children with learning disabilities. From November 2001 until March 2002, Mr. Turner served as Senior Vice President of Business Development for The Brown Schools, a provider of educational and therapeutic services for at-risk youth. From 1996 until January 2001, Mr. Turner was employed by Corrections Corporation of America, a private prison operator, serving as Treasurer from 1998 to 2001.

Code of Ethics

     We adopted a Code of Ethics that applies to all of our directors, officers and employees. The Code of Ethics is available on our website at www.psysolutions.com. We will disclose any amendment to, other than technical, administrative or non-substantive amendments, or waiver of our code of ethics granted to a director or executive officer by filing a Form 8-K disclosing the amendment or waiver within four business days.

Section 16(a) Compliance

     The information relating to Section 16(a) beneficial ownership reporting compliance set forth in our Proxy Statement relating to the 2005 Annual Meeting of Stockholders under the caption “Security Ownership of Certain Beneficial Owners and Management” is incorporated herein by reference.

Item 11. Executive Compensation.

     The information set forth in our Proxy Statement relating to the 2005 Annual Meeting of Stockholders under the caption “Executive Compensation” is incorporated herein by reference. The Comparative Performance Graph and the Compensation Committee Report on Executive Compensation also included in the Proxy Statement are expressly not incorporated herein by reference.

Item 12. Security Ownership of Certain Beneficial Owners and Management.

     The information set forth in our Proxy Statement relating to the 2005 Annual Meeting of Stockholders under the caption “Security Ownership of Certain Beneficial Owners and Management” and “Equity Compensation Plan Information” is incorporated herein by reference.

Item 13. Certain Relationships and Related Transactions.

     The information set forth in our Proxy Statement relating to the 2005 Annual Meeting of Stockholders under the caption “Certain Relationships and Related Transactions” is incorporated herein by reference.

Item 14. Principal Accountant Fees and Services.

     The information set forth in our Proxy Statement relating to the 2005 Annual Meeting of Stockholders under the caption “Independent Auditors — Audit and Non-Audit Fees” is incorporated herein by reference.

Item 15. Exhibits and Financial Statement Schedules.

     (a) The following documents are filed as part of this Annual Report on Form 10-K:

          1. Consolidated Financial Statements: The consolidated financial statements of Psychiatric Solutions are included as follows:

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2. Financial Statement Schedules.

All schedules are omitted because they are not applicable or are not required, or because the required information is included in the consolidated financial statements or notes in this report.

3. The exhibits which are filed with this report or which are incorporated herein by reference are set forth in the Exhibit Index on pages 34 through 36.

     (b) Exhibits.

34

35

36

PSYCHIATRIC SOLUTIONS, INC.

INDEX TO CONSOLIDATED FINANCIAL STATEMENTS

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, 2004 and 2003, and the related consolidated statements of income, stockholders’ equity, and cash flows for each of the three years in the period ended December 31, 2004. 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, 2004 and 2003, and the consolidated results of its operations and its cash flows for each of the three years in the period ended December 31, 2004, in conformity with U.S. generally accepted accounting principles.

We also have audited, in accordance with the standards of the Public Company Accounting Oversight Board (United States), the effectiveness of Psychiatric Solutions, Inc.’s internal control over financial reporting as of December 31, 2004, based on criteria established in Internal Control-Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission and our report dated March 10, 2005, expressed an unqualified opinion thereon.

/s/ ERNST & YOUNG LLP

Nashville, Tennessee
March 10, 2005

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, 2004 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, 2004.

Management’s assessment of the effectiveness of our internal control over financial reporting as of December 31, 2004 has been audited by Ernst & Young LLP, an independent registered public accounting firm, as stated in their report which is included elsewhere herein.

F-3

REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM

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

We have audited management’s assessment, included in the accompanying Management’s Report on Internal Control Over Financial Reporting, that Psychiatric Solutions, Inc. maintained effective internal control over financial reporting as of December 31, 2004, 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. Our responsibility is to express an opinion on management’s assessment and an opinion on the effectiveness of 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, evaluating management’s assessment, testing and evaluating the design and operating effectiveness of internal control, 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, management’s assessment that Psychiatric Solutions, Inc. maintained effective internal control over financial reporting as of December 31, 2004 is fairly stated, in all material respects, based on the COSO criteria. Also, in our opinion, Psychiatric Solutions, Inc. maintained, in all material respects, effective internal control over financial reporting as of December 31, 2004, based on the COSO criteria.

We also have 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, 2004 and 2003 and the related consolidated statements of income, stockholders’ equity and cash flows for each of the three years in the period ended December 31, 2004 and our report dated March 10, 2005 expressed an unqualified opinion thereon.

/s/ERNST & YOUNG LLP

Nashville, Tennessee
March 10, 2005

F-4

PSYCHIATRIC SOLUTIONS, INC.

See accompanying notes.

F-5

PSYCHIATRIC SOLUTIONS, INC.

See accompanying notes.

F-6

PSYCHIATRIC SOLUTIONS, INC.

See accompanying notes.

F-7

PSYCHIATRIC SOLUTIONS, INC.

(Continued)

F-8

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