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Executives

Brent Turner - Executive Vice President Finance and Administration

Joey Jacobs - Chairman, President, and Chief Executive Officer

Jack Polson - Chief Accounting Officer

Analysts

Ryan Daniels - William Blair

John Ransom - Raymond James

Adam Feinstein - Lehman Brothers

Darren Lehrich - Deutsche Bank

Kevin Campbell - Avondale Partners

Jeff Englander - Standard & Poor’s

Jie Bao - Citigroup

Psychiatric Solutions, Inc. (OTCPK:PSYS) Q3 2007 Earnings Call November 2, 2007 10:00 AM ET

Brent Turner

Good morning. I am Brent Turner, Executive Vice President Finance and Administration for Psychiatric Solutions. I would like to welcome you to PSI's conference call for the third quarter 2007.

Today's call is being recorded and will be available for replay beginning today through November 16, by dialing 719-457-0820. The confirmation number for the replay is 409-7401. The replay may also be accessed through November 16 at our website, which is psysolutions.com, and at earnings.com.

To the extent any non-GAAP financial measure discussed in today's call, you may also find a reconciliation of that measure to the most-directly comparable financial measure calculated according to GAAP on our website by following the investors links to news releases and clicking on yesterday's press release.

This conference call may contain forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995 including statements, among others, regarding PSI's financial, expected financial performance for 2007 and 2008.

For this purpose, any statements made during this call that are not statements of historical fact maybe deemed to be forward-looking statements. Without limiting the foregoing, the words believes, anticipates, plans, expects, and similar expressions are intended to identify forward-looking statements.

You are hereby cautioned that these statements may be affected by important factors, among others, set forth in Psychiatric Solutions' filings with the Securities and Exchange Commission and in our third-quarter news release and, consequently, actual operations and results may differ materially from the results discussed in the forward-looking statements.

The company undertakes no obligation to update publicly any forward-looking statements whether as a result of new information, future events, or otherwise. At this time for opening remarks, I would like to turn the conference over to our Chairman, President, and Chief Executive Officer, Joey Jacobs.

Joey Jacobs

Thanks, Brent, and good morning. It is a pleasure to be here today with you today to tell you about a great third-quarter for PSI. We produced strong profitable growth for the quarter, with revenues up over 50% and earnings per diluted share at the high end of our guidance. Most of our revenue growth came to the edition of new inpatient beds through facilities acquired in the past year.

These transactions included the nine-facility ABS acquisition completed in December last year and the 15-facility purchase of Horizon Health Corporation in June 2007, which together added more than 2500 beds to our third-quarter operations. We have been very pleased with the rapid integration of these facilities into our operations and with the contributions they are making to our growth.

We continue to be confident that Horizon will be accretive to our operations in its first 12 months following the transaction by $0.17 to $0.20 per diluted share. Our third-quarter revenue growth also reflected strong same-facility revenue growth of 8.3%. We continue to expect to produce same-facility revenue growth in the same seven to 9% range for 2008, as well.

Consistent with our long-term results, this growth in our same-facility revenue has enabled us to leverage our high fixed cost facility infrastructure. This leverage combined with initiatives to improve operating efficiencies drove a 150-basis-point expansion in our same facility EBITDA for the second consecutive quarter. This is exactly the type of performance our business model is designed to produce and we are proud of our team for the hard work that goes into successfully driving these results.

We are confident we got several hundred basis points of upside in the same-facility EBITDA margin that we can continue to capture going forward. As a final note this morning, I will add that this strong same-facility EBITDA performance played a key role in the 62% growth in our consolidated adjusted EBITDA for the third quarter to $68.9 million, or 17.1% of consolidated third-quarter revenue.

The liquidity inherent in both the size and growth of our adjusted EBITDA provides fundamental support to our continuing evaluation of a substantial pipeline of potential acquisitions. Based on this pipeline and our financial position, we remain committed to completing the acquisition of a minimum of six inpatient facilities over the next year.

Let me close by thanking you for your interest in PSI. I will now ask Jack Polson, our Chief Accounting Officer, to review our third-quarter financial results in more detail. Then we will be glad to open the floor for your questions.

Jack Polson

Thank you, Joey. PSI's revenue increased 58.5% for the third quarter of 2007 to a record $402 million from $254 million for the third quarter of 2006. This growth was due principally to the edition of new inpatient beds through acquisition and we also continued to expand our bed counts in existing facilities, consistent with the goal for two to 3% expansion annually.

Our revenue growth was also attributable to an 8.3% in same-facility revenue comprised of 1.5% growth in patient days and 6.9% growth in revenue per patient day. The economies of scale generated by this level of same-facility revenue growth as well as our ongoing programs to improve efficiency and increase productivity again produced an expansion in our same-facility EBITDA margin to 21.6% for the latest quarter from 20.1% for the third-quarter last year.

The combination of strong same-facility growth and growth produced through our acquired beds drove a 61.6% increase in consolidated EBITDA to $68.9 million for the third quarter, which was 17.1% of consolidated revenue, compared with 16.8% for the third quarter of 2006.

This substantial growth produced our ratio of total debt to pro forma consolidated EBITDA to 4.4 times for the third quarter from 4.6 times for the second quarter. PSI also continues to generate significant cash flow from operations, which increased 32.1% to $38.2 million for the third quarter and which was 1.8 times income from continuing operations.

Income from continuing operations for the third quarter increased 33.2% to $20.8 million and income from continuing operations per diluted share rose 31% to $0.38 from $0.29. As described in yesterday's press release, we are affirming our guidance for 2007 in a range of $1.47 to $1.49 and have re-established our guidance for 2008 in a range of $1.83 to $1.87.

As always our guidance does not include the effect of any future acquisitions for 2007 or the loss of refinancing related to the tender of our senior sub notes. This concludes our prepared remarks this morning. Operator, would you please open the floor to any questions?

Question-and-Answer Session

Operator

(Operator Instructions) And we’ll take our first question from Ryan Daniels with William Blair.

Ryan Daniels - William Blair

Quick housekeeping questions upfront. Can you talk a little bit about what is inherent in your '08 guidance regarding the tax rate? Is that going to still be around 38%?

Joey Jacobs

38%, 38.1% to be exact.

Ryan Daniels - William Blair

Okay, then can you give us a feel, if you look to out to 2008, what's incorporated in your guidance on the pricing front? Maybe if we look at Medicaid or some of your commercial payor negotiations, what that looks like.

And if you think the seven to nine growth will be a similar mix on patient admissions or total patient days in pricing next year?

Joey Jacobs

Ryan, this is Joey. Next year I would expect that patient days will be greater, the growth in patient days will be greater for next year, but pricing should still be probably in the 4% to 5% range, I think. With everything I know today, I would expect to be in a 4% to 5% range.

That's with getting, governmental payors are going to give us two to four, commercial payors are probably going to give us six to eight. You blend it down, so, but I think patient days will be growing as compared to this year at a better rate than they did this year.

Ryan Daniels - William Blair

Is there anything in particular that's going to be driving the strength in patient days next year? Is it due to bed additions or just new marketing programs or any color there would be helpful?

Joey Jacobs

It is a combination of everything there. I am feeling good about that we're going to be better positioned for 2008 was new beds, new programs, getting ready for the year to grow our patient days. Once again, we have to come out of the holidays.

We got off to a slow start this year just because we came into January and it just didn't rebound as quick it normally had in the past. But if it is a normal year coming out of the holidays, I expect patient days actually to be very, very good growth next year.

Ryan Daniels - William Blair

Great, that's helpful color. Then on your Q4 guidance, a quick question. I know before you had kind of laid out quarterly numbers looking at Q4 40 to 41, but your guidance range for the year, you're reiterating 147 to 149. Should we view that as kind of moving the Q4 numbers to $0.39 to $0.41?

If so, is there anything specific in the quarter, maybe some startup costs from the de novos or things of that nature that might pressure it a little bit on the earnings side?

Jack Polson

Well, we are, and even in the third quarter there was some pressure from the de novo projects. We have about four of those underway right now. And we still were able to hit the $0.38 a share.

No, the $0.41 is our target for the fourth quarter, but we are covering de novo projects that, once again, I think give us confidence that we will be having good patient day growth in 2008.

Ryan Daniels - William Blair

Okay, great. Then last question and I'll back in the queue, it is a follow-up to that. It seems like you guys, I think you opened the Danville facility this quarter. I know you've got some bigger projects underway.

Could you maybe give us a feel for -- that is obviously a great investment. I realize it is high return on invested capital, what probably does pressure earnings and margins a little bit during the period versus just acquiring a facility.

Can you give us a little color for what might be incorporated in '08 on the development cost side, both CapEx and maybe earnings pressure for startup losses?

Jack Polson

I do not have the CapEx expense number there. The Hughes Home that we're doing in Danville and we have another one of those projects that you all are not aware of that we're doing in Chicago area.

In both those facilities, we have and in each facility, we have roughly $4 million or $5 million in place and we will be bringing on 150 beds in total for those two facilities. So we are wanting to get them both on.

Well, Hughes Center is now online. It did lose money during the third quarter and it did put a little pressure. The other project in Chicago will now start spending some money in the fourth quarter, but we are hoping to have it online by the end of the first quarter of next year. So, we're doing that.

Those two projects together probably cost us $10 million in capital total, but they will be bringing on and if you bring on 150 beds, it is pretty cheap capital deployed in two very good markets for us. So that is -- but we are covering some of those startup losses right now for more than two projects, about four projects that we are working on.

Ryan Daniels - William Blair

Okay, Great. That is helpful color. Thanks guys.

Operator

We’ll take our next question from John Ransom with Raymond James.

John Ransom - Raymond James

Could you give us some idea of and I'm try to ask the question in a way that I'll have a high probability of you answering it. So, can you give us some idea of kind of the effect of new beds coming online in '08 compared to '07?

I guess I have heard some talk the maybe the '07 new beds were pushed back a little bit and will have a bigger year in '08. Is there some -- is it maybe a couple percent more in '08 versus '07?

Joey Jacobs

Yes, actually we could actually do a little bit more than that, I think. It is, once again, we have got beds -- we actually may get some California beds online next year, which we really were not thinking was going to happen, that they were actually going to be '09.

John Ransom - Raymond James

Okay.

Joey Jacobs

So, that kind of. I think there will be more beds online in '08 than compared to '07 and it is still just some timing of those last half of '08 beds. You know, it is construction and getting through the processing and getting them opened, so, but we will be opening more beds next year.

John Ransom - Raymond James

And then my two follow-ups would be the old Horizon contracting business, I guess we've heard some talk that there may be a little more momentum in '08 than there was in '07.

Could you talk about your expectations for the management contract business, realizing that it is a small piece of your total?

Joey Jacobs

Is a small piece, John, and once again, that is neutral to flat. We do think PPS is going to put pressure. January 1st starts the final year of peak that means we are fully implemented into PPS

John Ransom - Raymond James

Right.

Joey Jacobs

So it’s going to put some pressure on pricing and some contracts. However, I think during the last 60 days we signed three new contracts, so we are signing new contracts, but there is some pricing pressure on the other side. So if we can just keep neutral, that would hit my objective.

John Ransom - Raymond James

Are any of those acute care hospital partners prone to discussing moving that business out of the hospital into a freestanding location?

Joey Jacobs

We have three of those projects that we are talking with our management contract partners today.

John Ransom - Raymond James

You have two in the works. You already have two underway, right?

Joey Jacobs

No. We have one. We brought Saint David's during the third quarter. It is a startup and we doubled the size of what they were managing there and just had the open house on October 25 at that facility.

John Ransom - Raymond James

Okay.

Joey Jacobs

During the third quarter and in the fourth quarter, we will be investing some operating losses starting that up, so, but we have about three more those projects where we are talking to the host hospital.

John Ransom - Raymond James

Great, congratulations. Thank you.

Joey Jacobs

Thanks.

Operator

We’ll go next to Adam Feinstein with Lehman Brothers.

Adam Feinstein - Lehman Brothers

Okay. Thank you. Good morning everyone.

Joey Jacobs

Hi, Adam.

Adam Feinstein - Lehman Brothers

Just a few things here. And I apologize, I got on a minute late, so if you touched on this, but I guess same-store revenue growth was very strong in the quarter at 8.3%, but just the patient day relative to revenue per patient day just jumped around a little bit more than what we were thinking.

Can you just comment on what the specific item was that drove that in the quarter?

Joey Jacobs

You know, the third quarter is our most seasonal quarter, Adam and we just do not know about schools, how long they're going to stay out and when they go out and that sort of thing.

The third quarter is always the most seasonal to us. We did not get enough new beds. We brought new beds on, I think about 72 beds on during the third quarter, but we did not bring enough beds online.

We lost some patient admissions just because we did not have the programs there, and we expect and you might not have heard, but we do expect 2008 patient day growth to be much better than the 2007. That is our expectation.

Adam Feinstein - Lehman Brothers

Okay, but was there any change in mix in the quarter, I guess, as to just the revenue per patient day?

Joey Jacobs

You have to be careful. On the revenue per patient day, the 6.9% increase, you have to be careful there because mix does come into play there and occasionally, PSI does have about 6% revenue per day.

We did in one of our large states. We did get a very good rate increase July 1. Medicare gave us a 3.2% increase July 1, so some pricing was good for us in the third quarter, but also the mix can play with that number.

And once again, our revenue growth expectation is seven to 9% and we know we getting two factors, volume and pricing. And so, it really does not matter to us how we get it, just as long as we get the seven to nine.

Adam Feinstein - Lehman Brothers

Sure, all right. And then just a follow-up question on mix, Joey. Just as we think about the RTC business, looking at the length of stay ticking up a little bit, was there, once again, just a little bit of a mix shift to more RTC in of the quarter?

Joey Jacobs

I did not see that. I think the length of stay can move a couple of tenths and there is really nothing going on just other than when the timing of the discharges or admissions hit. So, nothing to read into length of stay. It has been very stable.

You know, what was it for the three months, 17.5 for same facilities, compared to 17.4 and year-to-date it's 17.5 to 17.5. You know, it is pretty predictable, but once again, no one should get alarmed if goes up 0.2 or down 0.2.

Adam Feinstein - Lehman Brothers

Yes, okay. And then just on the bad debt expense, you guys did a great job of managing that. I know HORC was running at much higher levels before the deal, so you came in lower.

So can you just comment on that? I know in the past you talked a lot about process, driving that, but certainly you got off to a good start there. I just want to make sure that you continue to have a good outlook in terms of improving the bad debt at the acquired facilities.

Joey Jacobs

Yes, we are making progress there. We probably have, at any given time, Adam, we probably have three to five facilities on our watch list or improvement list for bad debt issues, and we have been making progress at the Horizon facilities, especially the one that was causing them so much trouble.

We have been making improvements there and I am very pleased with, I just got a glimpse of what their bad debt looks like it is going to be for October, so I'm very pleased about how we have addressed what was their worst facility. So very pleased with what we're doing their.

Adam Feinstein - Lehman Brothers

Okay. All right, then just other contract management side, obviously not a big focus for you guys, but it is somewhat bigger pro forma the transaction. I guess it was little bit lighter than what I was looking for during the quarter, so just any changes therein terms of number of contracts?

Maybe some contracts you got out of because they were not as profitable come I just want to figure out was going on their.

Joey Jacobs

As I talked to John earlier, our management contract expectation there is to hold it neutral, maybe to a slight decline there. We did exit a couple of contracts in the third quarter at our behest and, but then there is some pressure with PPS. We think there is going to be more pressure, which is good for owned side.

We did convert Saint David's from a management contract to an owned facility. I think they were managing 24 beds and now we have all 48 beds opened up as of today I think, so there's two or three more those opportunities that we are working on.

But once again, management contracts, small piece of business, but it is a very good piece of the business and David White does a good job running the group for us.

Adam Feinstein - Lehman Brothers

Okay, then just final question for me. I know the guidance obviously implies very strong growth that you guys have done over the last several years.

You have a history of being conservative with the guidance, so certainly from looking at it last night, it seemed that way, but just as we think about potential swing factors in the guidance, anything that you can highlight that would cause it to potentially be different?

So is there any couple of items that you would characterize as a potential swing factor, Joey?

Joey Jacobs

I think the guidance, you know, many of you have all acquisitions in there and I think we're very comfortable with our pipeline and the letter of intents that we have out and the due diligence that we're doing that.

We will make our acquisitions for next year, which will be accretive to us. As all of you know, our acquisitions are accretive once we buy them and so that looks good.

The range of the midpoint to $1.85 at the growth is 25% growth in earnings per share just off of core businesses to date. Can it do better? Yes. Is it probably conservative? Probably, yes, I would characterize that, Adam, as that.

I think if you followed our company for a while, which you have since the beginning. We are conservative company and the range of $1.83 to $1.87 is something we want to make sure we can put in the bank. And so we are working hard to make sure that happens and exceed it. Always we want to exceed our expectations.

Adam Feinstein - Lehman Brothers

As I know you want to do. Okay thank you, sounds good.

Operator

And we’ll got next to Darren Lehrich with Deutsche Bank

Darren Lehrich - Deutsche Bank

Thanks. Good morning everyone.

Joey Jacobs

Hey, Darren.

Darren Lehrich - Deutsche Bank

Hey. So I guess just a couple of questions here with regard to capacity and if you could just give us the spot numbers for your total licensed beds at the end of the period, and then the number of same-store facilities and licensed beds as well, just so we can track what's in that bucket?

Brent Turner

Darren, this is Brent. We don’t have that number right in front of us, but we know that we opened roughly 70 net beds during the quarter. So the licensed bed count went up 70 from the number we gave on second quarter.

Darren Lehrich - Deutsche Bank

Okay, and that 70 includes the Hughes Center, is that correct?

Brent Turner

Yes, they only opened a portion of their beds, but it does include the 12 beds that are open their currently.

Darren Lehrich - Deutsche Bank

Okay. And if I follow up, you'll have the spot numbers then for the end of the quarter? We're just trying to track those.

And then it looks like there was a small acquisition or at least some acquisition CapEx on the cash-flow statement. Can you shed some light on that for us, please?

Brent Turner

We bought Horizon had a small EAP company under contract when we acquired Horizon and we completed that transaction, very small.

Darren Lehrich - Deutsche Bank

Okay. So we should expect you guys to grow the EAP segments. Is that something that you have been negotiating or is that something you just inherited from the deal?

Joey Jacobs

We inherited from the deal, but we absolutely, we have internal sales force growing those numbers. And plus, we do look for potential acquisitions. Cindy Sheriff, who used to be with PSI, who is now back with PSI when we acquired it back from Horizon, does a fantastic job there and she keeps the lookout.

Usually these are very small acquisitions out there and usually they are mom-and-pop EAP companies and they are very small. But if she finds one, we have the capitals to make that happen, they have good margins, very predictable earnings, so not an issue to occasionally make those acquisitions, too.

Darren Lehrich - Deutsche Bank

Okay, that's great. And I guess just as far as the schedule of bed openings, I know you have been asked this question a few times and it sounds like the 3% or so bed expansion you have been looking for will be exceeded next year.

But what I was hoping to get a rough sketch of is just the next few quarters of bed openings. It seems like that is going to be a major factor in seeing that patient day growth come back, so it would be helpful just to get a sketch of that over the next few quarters of new beds coming on-stream.

Joey Jacobs

Darren, I don’t have that information here with me in detail, but we will think about maybe on the next earnings, we'll think about internally maybe we should start giving those kind of numbers, but we have not in the past.

But we will think about your request about the total number of beds coming online. We will think about that for the first-quarter earnings call, I mean the year-end earnings call and maybe think about giving you some quarterly help on the number of new beds coming online.

Darren Lehrich - Deutsche Bank

That's great, we appreciate that. My last question here is just as it relates to the Horizon integration. Joey, I guess I just want you to talk a little bit about some of the opportunities you see in their facilities over the next 12 months.

I know there were a number of facilities that were due for some expansions, etcetera. But I just wanted now you're, I guess, six months into, so get a sense from you as to how you think you're coming along there.

Joey Jacobs

Well, I will give you one specific number. One of their biggest projects was approximately a 25-bed expansion for our facility in Virginia.

And that is on track to come online first quarter of next year and so we do have expansion plans at the Horizon facilities, but that is a good 25-bed expansion that we have got coming online for our facility in Virginia, the Poplar Springs. So we're very pleased about that, but we are deploying capital, having plans to grow those facilities.

For example, the Board of Directors, we had a board meeting at one of our facilities yesterday and during the presentation there the CEO of the facility was very pleased to announce that he thinks by the end of the year he needs 40 new beds and that's 40 new beds we really were not aware of but we will be building and working towards that.

So this facility can have 40 new beds. So we are aggressively adding beds, several hundred a year. And the Horizon facilities have similar characteristics of needing beds built for them and so we will just keep doing that.

Darren Lehrich - Deutsche Bank

Great, thanks very much.

Operator

And we’ll go next to Kevin Campbell with Avondale.

Kevin Campbell - Avondale Partners

I want to ask you just a quick question on those expansion beds. If you have several hundred coming online over a period, how long should we expect those to get up to a normal sort of occupancy level?

Is that going to take to quarters? Is a 12, I'm sorry, for quarters?

Joey Jacobs

The normal occupancy would be 75% occupied, for us I think would be the target there. We would think that by the end of 12 months, we would be there once they happen.

Now, for building the beds at a facility, where there's lots of deflections, for example one of our facilities opened up 12 beds and I think within two weeks they had 10 patients. So sometimes you can fill them just about as soon as you open.

But I would use give us four quarters to get the occupancy up to 75%.

Kevin Campbell - Avondale Partners

Okay, then looking at some of the expenses for the quarter, professional fees and other operating expenses were up year-over-year as a percentage of revenues, was modestly 50, 60 basis points each.

Was there anything in those numbers the will cause that to go up? Is it just sort of a quarterly, say, one-time thing or guess?

Brent Turner

Kevin, it is Brent. That is just the impact principally of the EAP and management contract business that came from Horizon, full quarter affect of that is really the major shift there in those expense lines.

Kevin Campbell - Avondale Partners

Okay, so we should expect those maybe to be a little bit higher because of that going forward.

Brent Turner

Correct, on a consolidated basis.

Kevin Campbell - Avondale Partners

Okay, great. In terms of shifting to the Mental Health Parity law, is there anything in addition to that pending on the state or federal level that there could be some legislative changes that we should be aware of?

Joey Jacobs

I know no other legislative changes going on right now, other than the Mental Health Parity Bill at the federal level. You know, hopefully that will get signed. It's very promising.

Kevin Campbell - Avondale Partners

Okay, great. And then lastly, on the acquisition front, have you seen any changes to multiples or anything like that given the sort of change in the credit market, since you have last reported?

Joey Jacobs

I think on the previous conference call or two I have talked about maybe that the multiples have peaked and I think that is the case and that going forward, we could see decline in multiples.

We have some letter of intents out that have lower multiples than what we have seen in the last couple of years, but, you know, we need to get them acquired and put them bed. Then we will be able to share with you, hopefully, those successes.

Kevin Campbell - Avondale Partners

Great. Thank you very much.

Operator

And will go next to Jeff Englander with Standard & Poor's.

Jeff Englander - Standard & Poor’s

Good morning guys. Quick question. First, Joey, on the California beds, if my memory serves me, you seem a little more confident this quarter maybe than last quarter that you may be able to get some of those on-stream in '08 and I'm wondering if you could give a little color there?

Joey Jacobs

I'll give a little color one time.

Jeff Englander - Standard & Poor’s

That's good. I will take that.

Joey Jacobs

Our facility at Canyon Ridge has just broke ground or in the process of breaking ground for that facility and if the weather was to go right, this time next year we could have that thing open. I am optimistic about that, but could awaken to January 1 of '09 to open up?

Sure. But I met with the CEO last week, he was here in Franklin; of the facility and we're pushing them to get it opened by November 1 of next year, so the big success there is we have got it through the planning process and that we're ready to build it.

So, very, very optimistic bear that Canyon Ridge and quite frankly Canyon Ridge will be doubling its size, that the demand deflection is there, so we will be building those beds. So that is the one in California I'm very, very excited about. We have other plans in the works, but I am very excited about that one.

Jeff Englander - Standard & Poor’s

Great. And also, Brent, on the provision for doubtful, is the rate you have seen this quarter, given the progress you've made in the troublesome Horizon property, something that we can extrapolate forward or do you think we're going to come back to a more normalized rate going forward?

Brent Turner

We're going to always sort of range in that 1.7 to 2.5% so we would not advise to take your model write down to that. It is jut going to be in that range, which we're very pleased with. We will manage that closely, but would want more expectations did it is always going to be sub 2% going forward.

Jeff Englander - Standard & Poor’s

Great, thanks very much, guys.

Operator

And we’ll go next to Andreas Dirnagl with JPMorgan.

Andreas Dirnagl - JPMorgan

Yes good morning guys. Most of my questions have been answered. Just two things. Joey, when you talked about pricing for next year, I think I heard you say that you thought government pricing would sort of come out at about two or 3%. Is that a blend of sort of the Medicare, the last increase, plus sort of flat on Medicaid or are you expecting Medicaid to sort of be up a little bit?

Joey Jacobs

Actually, it's two to 4% and I think it could be three to 4%. That does include the Medicare. We expect Medicare will give us rates January 1 and then we would expect one again July 1 of next year, but we think Medicaid programs across the Company, we think next year will get a cost of living from those contracts and for those patients and that is going to be in that 3% range. So, today we feel good about that and…

Andreas Dirnagl - JPMorgan

That is a little bit stronger than what you've been seeing over the past couple of years, correct?

Joey Jacobs

Yes. That was more than we have seen best it’s in line. Once again, we have already had government payors two to four. So, it is okay. It is maybe towards the higher end just a little, but nothing substantial.

Andreas Dirnagl - JPMorgan

Great. And then can you just give a little bit of color? We've spent a lot of time or you have made a lot of comments just in terms of how the Horizon integration is going. What about ABS? How is that going sort almost a year into it now?

Joey Jacobs

Is done. Both the Horizon and the ABS integrations have gone really well, really well. And the ABS transaction, if you all remember that transaction, there one facility that was causing them so much trouble, we have adjusted that.

We took the census down there to improve the treatment programs and we've right-sized it. We now need to grow it back and we will be doing that. And so hopefully it will get that back to where it needs to be.

And but as far as Puerto Rico and the other ABS facilities, they have done very well, met our expectations. The Pines is the facility in Norfolk, Virginia. Scott Cardenas (ph) has done a great there, but we have got the programs.

We have adjusted them, made some changes there with management and have a new CEO there. The CEO at Poplar Springs took that job there and Frank, we have great expectations for Frank and Scott. We're now in the marketing program to grow the census aggressively but because we did consciously take the census down to get our hands around the programming and those sort of things.

So, very bullish, but they need to have a good next 60, 90 days on growing the census there. But as far as the integrations, they have gone extremely well, exceeded our expectations. Both the folks that came over from the companies we acquired and our team have done a great job.

Andreas Dirnagl - JPMorgan

Great. And you made the comment on the facility that was problematic at ABS. There was a similar sort of very problematic facility at Horizon and then I was just wondering if you could make any comment in terms of now that you are really in there, is it basically what you thought was and you're working towards correcting that. You seem to have identified the problem sort of going into and I just wanted to see what the track record is so far.

Joey Jacobs

It is in similar stages there. We have a new CEO and they are working on the programming there and we will be able to grow the census quicker there because the deflections this is more of an acute this is actually an acute facility.

So we will be able to ramp the census up there quicker and we made many of our major changes on September 1 for the facility, in the facility. We're monitoring it daily, but we think we have a good plan there and I'm very optimistic about what it can do in 2008.

Andreas Dirnagl - JPMorgan

Great. Thanks a lot.

Operator

We’ll go next to Matt Riperger with Citi.

Jie Bao - Citigroup

It is Jie Bao (ph) for Matt Riperger. A couple questions. On the organic side, organic growth side of the business, can you just give us an update in terms of what is the current cost trend of the business on the same facility basis so that we can see the operating leverage when compared to your four to 5% pricing and seven to 9% revenue growth?

Joey Jacobs

I think the quick way to measure that is how our margin is improving and if you go back and if you look at our slide presentations where we do a lot of quarterly comparisons there, PSI on its same-store facilities, through the revenue growth, and managing expenses. For the third quarter, I think the margin was up 150 basis points to the same quarter last year.

So, that is the best way to measure how we're doing there and once again, we think there is more to do there and especially with the 24 facilities that we have acquired during the past twelve months. So, that is the best way to measure how we're doing there.

Jie Bao - Citigroup

Okay. And in terms of Horizon, I know that you have an estimated accretion of $0.17 to $0.20 12 months after the transaction closing. Do you have an estimate in terms of the accretion for '07 versus '08 on a calendar-year basis?

Joey Jacobs

No, we do not. Sorry.

Jie Bao - Citigroup

Okay. But is the accretion more significant in the first half of the year or second half of the year?

Joey Jacobs

When we gave our guidance on Horizon, we said it was going to be I believe, I do not have the exact number, but at around your $0.09 to $0.10 for 2007, so the balance is going to be in 2008 that nets to the $0.17 to $0.20.

Jie Bao - Citigroup

Okay, lastly on the Mental Health Parity legislation, can you maybe just give a little more color in terms of the opportunities you see from there? Is it more patients, new patients and patient volume grows, or length of stay expansion, more cash collection or maybe even new businesses? Can you just give more color in terms of what opportunities you see from that?

Joey Jacobs

I can just give you; it’s very hard to measure, but the biggest benefits in the Mental Health Parity Bill at the federal level is that for the large self insured companies that it will help eliminate the discrimination between physical benefits and mental health benefits.

For example, if you are a large self-insurer and on the medical side you have a $1000 deductible for a hospital admission, you might have a $2000 for mental health. What would require is that they would have to bring that deductible down to the $1000. They would have to be equal. That is just an example.

That is not a real world example. I just picked two numbers out of the air to talk about that example, but what the Federal Mental Health Parity bill will do will be the large self-insured companies would have to quit discriminating between the benefits. So, it is a positive for us, a positive for us, but it's something you cannot measure. We do know more people will have better coverage for mental health illness.

Jie Bao - Citigroup

Okay, thank you.

Operator

And we will take final question form John Ransom with Raymond James.

John Ransom - Raymond James

My question has been answered, thanks.

Operator

Thank you. Having no further questions, I would like to turn the conference back over to Mr. Joey Jacobs.

Joey Jacobs

Thank you and once again thanks for you listening in to the earnings call for us today. As you can see, the third quarter was a great quarter. You can see our earnings guidance for next year has great growth in it and we feel good about the acquisition pipeline.

But most importantly, I feel good about going out and visiting the facility. We were at Laurel Ridge Hospital yesterday with the Board and Dan Thomas, the CEO there, a terrific tour, overview of the facility, the need for more beds, and the services he is providing there.

Also last week for the first time, we brought all of our CEOs to the Company, into the Company, to Franklin for our meeting and it went extremely well. Once again, I feel good about the teams we have out there and the Company's 2008 opportunities, so once again, thanks for listening in and we will talk to you on the next call.

Operator

Thank you. That will conclude our conference call today. You may disconnect at this time.

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Source: Psychiatric Solutions Q3 2007 Earnings Call Transcript
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