TRUPANION, INC. quarterly report, Q1 FY2023

Trupanion, Inc. 10-Q Summary

Business context and reporting period

Trupanion provides medical insurance for cats and dogs in the United States, Canada, Europe, Puerto Rico and Australia. The filing covers the three months ended March 31, 2023, compared with the same period in 2022. Operations are reported in two segments: subscription business and other business, which primarily includes business-to-business policy underwriting and related products.

Financial performance and key metrics

Metric	Q1 2023	Q1 2022	Change
Revenue	$256.3 million	$206.0 million	+24%
Subscription revenue	$165.2 million	$139.8 million	+18%
Other business revenue	$91.1 million	$66.2 million	+38%
Operating loss	$24.5 million	$9.1 million	Loss increased
Net loss	$24.8 million	$8.9 million	Loss increased
Net loss per share	$0.60	$0.22	Loss increased
Operating cash flow	$(6.9) million	$(3.6) million	Greater use of cash

Total cost of revenue was $230.0 million, or approximately 90% of revenue, versus 85% in the prior-year period. The resulting gross margin was approximately 10%, compared with 15%.
Operating expenses were $50.8 million, or approximately 20% of revenue, versus 19% previously. The operating margin was approximately negative 10%, compared with negative 4%.
Subscription business operating loss was $18.8 million, compared with $8.7 million. Other business operating loss was $5.6 million, compared with $0.4 million.
Veterinary invoice expense rose 34% to $194.1 million. Subscription veterinary invoice expense represented 78% of subscription revenue, versus 72% in Q1 2022.
New pet acquisition expense was essentially unchanged at $21.6 million, while average pet acquisition cost declined to $247 from $301.
Technology and development expense declined 6% to $4.9 million. General and administrative expense increased 124% to $21.0 million.
Stock-based compensation expense increased to $12.3 million from $7.5 million, including $4.8 million associated with executive departures and related award modifications.
Total pets enrolled were 1.62 million at March 31, 2023, up 28% year over year. Subscription pets enrolled were 906,369, up 23%. Monthly average revenue per pet was $63.58, down 1%, and average monthly retention was 98.65%, versus 98.75%.

Cash, liquidity and debt

Cash, cash equivalents and short-term investments totaled $244.6 million at March 31, 2023, including $126.7 million of cash and cash equivalents and $117.9 million of short-term investments.
Cash, cash equivalents and restricted cash increased by $61.1 million during the quarter to $145.8 million, primarily because of investment maturities and new debt financing rather than positive operating cash flow.
Investing activities provided $33.9 million, including $73.8 million of investment maturities and sales, partially offset by $5.2 million of capital expenditures.
Financing activities provided $33.8 million, including $35.1 million of net debt financing proceeds and $0.6 million of debt repayments.
Debt had a carrying value of approximately $104.2 million, consisting of $1.3 million current debt and $102.9 million long-term debt. Term loans outstanding totaled $110.0 million before debt issuance costs.
The credit facility provides up to $150.0 million, with approximately $40.0 million available at quarter-end. The stated interest rate on outstanding term loans was approximately 10.05% and the facility is secured by substantially all company assets.
Management stated that existing liquidity and available borrowings were sufficient to fund operations and capital requirements for the next 12 months, while noting that additional financing may be considered.

Material changes versus the prior comparable period

Revenue growth remained strong, but margins deteriorated materially as veterinary invoice costs grew faster than subscription revenue. Management attributed pressure partly to inflation and increased use of its software that enables direct payment of veterinary invoices, which increased claims received in the short term.
General and administrative expense increased principally because of higher stock-based compensation, executive departure-related charges and a $3.8 million non-recurring settlement for uncollected premiums related to transitioning third-party underwriting to other insurers.
The company borrowed an additional $35.0 million under delayed-draw term loans in February 2023, increasing leverage and interest expense. Interest expense rose to $2.4 million from $0.1 million.
A non-recurring $3.8 million accounts receivable settlement was recorded during the quarter in connection with uncollected premiums.
Veterinary invoice reserves increased to $48.3 million from $43.7 million at December 31, 2022. Prior-year reserve adjustments increased expense by $2.8 million in aggregate, compared with a $0.1 million reduction in the prior-year quarter.

Guidance, outlook, management commentary and risks

The filing does not provide a clear numerical revenue or earnings outlook for 2023. Management expects continued investment in member acquisition, member experience, technology and product initiatives.
Management’s stated strategy is to maintain disciplined acquisition spending based on targeted returns while pursuing enrollment growth. The company expects to adjust subscription pricing to reflect operating costs, subject to regulatory approval.
Key risks include continued veterinary cost inflation, inaccurate claims reserves, delays or limits on regulatory approval of pricing actions, declining retention, rising acquisition costs, competition and termination of third-party underwriting relationships.
Insurance subsidiaries must maintain statutory capital and comply with regulatory restrictions, limiting the availability of some assets for general corporate purposes. APIC held $162.2 million of risk-based capital at December 31, 2022 against a stated minimum of $142.4 million.
The company remains loss-making and has an accumulated deficit of $196.3 million at March 31, 2023. It cautions that historical revenue growth may not be sustainable and that profitability may not be achieved or maintained.
The company was in compliance with all credit facility covenants at March 31, 2023. Legal proceedings arise in the ordinary course, but management did not identify any current matter as material individually or in aggregate.
Disclosure controls and procedures were assessed as effective, with no material changes to internal control over financial reporting identified during the quarter.

Most important facts for investors to verify

Whether subscription claims costs stabilize or continue rising faster than subscription revenue.
Whether pricing actions receive regulatory approval and improve the subscription payout ratio and margins.
Whether high enrollment growth can continue without deterioration in retention or lifetime value.
Whether operating cash flow improves or the company requires additional debt or equity financing.
The impact of the approximately 10.05% floating-rate debt and future principal repayments, including substantial scheduled maturities beginning in 2027.
The accuracy of veterinary invoice reserves and the potential for further prior-period reserve strengthening.
The financial contribution, margin profile and potential roll-off of the other business segment and third-party underwriting relationships.
The effect of executive departures, $4.8 million of related stock-based compensation charges and ongoing equity dilution.