Trupanion, Inc. — Q1 2015 Form 10-Q Summary
Business Context and Reporting Period
Trupanion provides monthly medical-plan subscriptions for cats and dogs in the United States, Canada and Puerto Rico. The unaudited report covers the three months ended March 31, 2015, compared with the three months ended March 31, 2014. The company operates subscription and other business segments.
Key Financial Metrics
| Metric | Q1 2015 | Q1 2014 | Change |
|---|---|---|---|
| Revenue | $33.3 million | $25.6 million | +30% |
| Gross profit | $5.6 million | $4.8 million | +17% |
| Gross margin | 17% | 19% | Down 2 percentage points |
| Operating loss | $4.6 million | $2.9 million | Loss increased |
| Net loss | $4.9 million | $4.9 million | Broadly unchanged |
| Net loss per share | $0.18 | $3.22 | Improved due primarily to higher share count |
| Adjusted EBITDA | $(3.3) million | $(2.1) million | Loss increased |
| Operating cash flow | $(4.9) million | $(4.0) million | Higher cash use |
Subscription revenue increased 31% to $30.1 million, while other business revenue increased 17% to $3.3 million. Subscription pets enrolled rose 27% year over year to 228,409; total pets enrolled reached 246,106. Monthly adjusted revenue per pet was $44.34, average monthly retention was 98.66%, lifetime value per pet was $567, and average pet acquisition cost was $134.
Claims expenses increased 37% to $23.4 million and represented 70% of revenue, compared with 66% in the prior-year quarter. Total cost of revenue increased to 83% of revenue from 81%. Sales and marketing expense rose 38% to $3.7 million, technology and development rose 27% to $2.8 million, and general and administrative expense rose 33% to $3.7 million. Stock-based compensation was $0.7 million, compared with $0.6 million.
Liquidity, Cash Flow and Capitalization
- Cash and cash equivalents were $32.5 million at March 31, 2015, down from $53.1 million at December 31, 2014.
- Short-term investments were $21.3 million; total short- and long-term investments were approximately $22.3 million, primarily held for statutory requirements.
- Net cash used in investing activities was $0.6 million, including $1.6 million of property and equipment purchases.
- Net cash used in financing activities was $14.9 million, primarily reflecting repayment of the revolving credit facility.
- The company had no outstanding borrowings at March 31, 2015. Its revolving facility provides borrowing capacity of up to $20.0 million, subject to restrictions and covenants, and matures in July 2016.
- Current liabilities were $20.9 million, including a $5.2 million claims reserve and $9.7 million of deferred revenue. Total liabilities were $22.5 million and stockholders’ equity was $54.9 million.
- Management stated that cash, cash equivalents and investments were sufficient to fund operations and statutory capital requirements for at least the next 12 months, although additional financing may be explored.
Material Changes Versus the Prior Comparable Period
- Revenue and enrollment continued to grow strongly, but claims costs grew faster than subscription revenue, reducing subscription gross margin from 20% to 18% and consolidated gross margin from 19% to 17%.
- Management attributed the elevated claims ratio to higher claim frequency and initiatives intended to improve member experience. The company expects claims expense and cost of revenue as a percentage of revenue to remain elevated during 2015 while pricing increases are implemented on members’ annual anniversaries.
- Operating expenses increased as the company expanded member acquisition, claims staffing, technology and public-company infrastructure. The claims department headcount increased 46%, and technology headcount increased 18%.
- Interest expense and other expense declined substantially from the prior year because of debt repayment and the absence of the $1.2 million warrant revaluation expense recorded in Q1 2014.
- The company repaid $14.9 million under its credit facility during the quarter and ended the period debt-free.
- Segment reporting was changed beginning January 1, 2015; certain enterprise-marketed pets were moved from the subscription business to the other business segment, and prior periods were recast.
- The company formed a Bermuda segregated account and revised its Canadian fronting and reinsurance arrangement effective January 1, 2015. Dividends from that entity are restricted until 2016 or later, subject to solvency requirements.
Outlook, Commentary, Risks and Unusual Items
Management expects continued investment in member acquisition, technology, claims administration and member experience. It expects operating cash flows to remain negative until enrollment reaches levels sufficient to support cash-flow break-even. No formal revenue, earnings or enrollment guidance is provided in the filing text.
- Profitability remains unachieved: the company has an accumulated deficit of $62.1 million and expects continued losses and significant expenditures.
- Claims reserves, pricing assumptions, claim frequency and severity, veterinary-cost inflation and regulatory approval of rate changes are significant uncertainties.
- Insurance subsidiaries must maintain regulatory capital and assets that may not be available for general corporate purposes. As of December 31, 2014, APIC was required to maintain $22.6 million of risk-based capital and held $23.7 million.
- Canadian operations are exposed to foreign-exchange risk; management identified an approximately $0.9 million adverse foreign-exchange impact on Canadian revenue growth year over year.
- The company received a final Canadian GST/HST assessment of $0.8 million for 2007–2013, paid $0.4 million during the quarter and expected to pay the remainder in Q2 2015, plus interest.
- APIC agreed to pay $0.4 million under a California Department of Insurance stipulation, an amount accrued at December 31, 2014. A Washington insurance-licensing matter carried an accrued liability of $0.3 million, with adverse outcomes beyond accrued amounts reasonably possible but not estimable.
- The company faces substantial competition, dependence on veterinary and other referral channels, technology and data-security risks, regulatory and licensing requirements, and potential volatility in acquisition costs and retention.
- Strategic marketing and consulting commitments entered into during the quarter were expected to total $0.6 million in 2015, $1.1 million in 2016 and $0.3 million in 2017.
Facts Investors Should Verify
- Whether enrollment growth and high retention can continue while average pet acquisition cost rises and lifetime value declines from prior periods.
- Whether claims frequency and severity normalize and whether pricing increases adequately offset higher claims costs.
- The pace at which operating losses and negative operating cash flow improve, including the effect of continued marketing and technology investments.
- The availability of corporate liquidity after considering statutory capital, trust-funding and dividend restrictions applicable to insurance subsidiaries.
- The status and ultimate cost of the Washington regulatory inquiry and any additional licensing, tax or insurance-regulatory matters.
- Whether the other-business relationship with the unaffiliated general agent remains in place, given its potential material effect on revenue if terminated.
- The company’s reconciliation and definitions for adjusted EBITDA, adjusted revenue, lifetime value and acquisition cost, which are non-GAAP or operating measures and may not be comparable with other companies.