Lemonade, Inc. — Q3 2020 Form 10-Q
Business context and reporting period. This unaudited quarterly report covers the three and nine months ended September 30, 2020, with comparisons to the same periods in 2019. Lemonade is a digital property and casualty insurer focused on renters and homeowners insurance, with a newly launched U.S. pet insurance product and operations in Germany and the Netherlands. The company completed its IPO in July 2020.
Financial and operating performance
| Metric | Q3 2020 | Q3 2019 | Nine months 2020 | Nine months 2019 |
|---|---|---|---|---|
| Total revenue | $17.8 million | $19.0 million | $73.9 million | $43.8 million |
| Net loss | $30.9 million | $31.1 million | $88.4 million | $75.8 million |
| Adjusted EBITDA (non-GAAP) | $(27.6) million | $(30.4) million | $(68.2) million | $(75.0) million |
| Gross profit margin | 41% | 21% | 23% | 16% |
| Adjusted gross profit margin (non-GAAP) | 52% | 21% | 29% | 18% |
| Gross loss ratio | 72% | 78% | 71% | 82% |
| Net loss ratio | 65% | 71% | 70% | 73% |
Gross written premium was $71.2 million in Q3, up 87%, and $156.0 million for the nine months, up 89%. At September 30, customers totaled 941,313, versus 562,251 a year earlier; in-force premium was $188.9 million, up from $94.9 million, and premium per customer was $201 versus $169.
For Q3, net earned premium fell 41% to $10.5 million, while total revenue declined 6%. A new proportional reinsurance arrangement generated $7.0 million of ceding commission income and materially changed reported net premiums and loss costs. For the nine months, total revenue increased 69%, but net loss widened 17% to $88.4 million as expenses grew faster than revenue.
Cash, cash equivalents and restricted cash were $575.7 million at September 30, 2020, compared with $270.3 million at December 31, 2019. Cash and short-term investments totaled $590.7 million; total cash and investment securities were reported as $597.4 million. Total assets were $831.5 million, total liabilities $262.5 million and stockholders’ equity $569.0 million. The balance sheet does not present a debt balance. Cash used in operating activities was $71.0 million for the nine months; investing activities provided $36.3 million and financing activities provided $339.6 million, primarily reflecting the IPO. IPO net proceeds were approximately $335.6 million.
Material changes versus the prior period
- Effective July 1, 2020, Lemonade began ceding 75% of premiums across products and geographies under proportional reinsurance contracts. Reinsurers fund the corresponding 75% of claims and pay a 25% ceding commission. The remaining 25% is managed through other reinsurance contracts.
- Despite lower Q3 marketing spend, gross written premium rose 87%; management attributed growth to customer additions, geographic and product expansion, and a 19% year-over-year increase in premium per customer. Management reported that Q3 in-force-premium growth was 49% greater than in the comparable quarter, while marketing spend was about one-third lower; each marketing dollar generated 121% more in-force premium.
- Sales and marketing expense declined 19% in Q3 and 11% year to date, while technology development expense increased 89% and 103%, respectively. General and administrative expense rose 121% in Q3 and 209% year to date, including public-company costs and a $12.2 million non-cash contribution to the Lemonade Foundation.
- The IPO and conversion of all preferred stock to common stock substantially changed the capital structure. The company reported $855.0 million of additional paid-in capital and no preferred shares outstanding at quarter-end.
- Net loss and loss adjustment expense reserves had $1.3 million of unfavorable prior-year development for the nine months, compared with $1.8 million of favorable development in 2019.
Outlook, commentary and risks
Management gave no specific financial guidance. It stated that existing cash and cash equivalents should meet working-capital and capital-expenditure needs for at least 12 months. Management expects continued investment in marketing, technology and staffing, and higher general and administrative expense to support growth and public-company compliance; it also expects near-term marketing expense to vary and, over time, to decline as a percentage of revenue if acquisition efficiency and renewals improve. The filing cautions that losses may increase in the near term and that historical results may not predict future performance.
Management reported no material impact from COVID-19 on results through September 30, 2020, but said the duration and ultimate financial impact remained uncertain. The company identifies key risks including its history of losses; dependence on customer growth and retention; catastrophe and reserve uncertainty; reinsurance availability, cost, counterparty performance and renewal terms; regulatory constraints on insurance operations and AI-based underwriting; data privacy and cybersecurity; competition; and execution of geographic and product expansion. About 58% of nine-month gross written premium came from California, New York and Texas.
Roughly three-quarters of the proportional reinsurance contracts have three-year terms expiring June 30, 2023; the remainder and the non-proportional contracts have one-year terms expiring June 30, 2021. The company remains directly liable to policyholders even when risks are reinsured. Cash and short-term investments held by regulated U.S. and Dutch insurance entities and the Dutch holding company totaled $107.6 million; distributions from insurance subsidiaries are subject to regulatory restrictions. Management said U.S. insurance-subsidiary capital exceeded prescribed risk-based requirements. The company reported no material pending legal proceedings and no off-balance-sheet arrangements, and said disclosure controls were effective at September 30, 2020.
Important facts for investors to verify
- How the new 75% proportional reinsurance structure affects underlying underwriting economics, reported revenue, margins, capital needs and results when contracts renew.
- Whether customer and in-force-premium growth can continue while acquisition spending remains efficient, and whether renters convert to higher-premium homeowner or other policies.
- Whether claims experience and reserve estimates remain adequate, particularly after the reported unfavorable prior-year reserve development and potential catastrophe losses.
- Liquidity available to the parent versus regulated insurance subsidiaries, including limits on subsidiary distributions and the timing of operating cash use.
- The sustainability and comparability of non-GAAP adjusted gross profit and adjusted EBITDA, including the treatment of the $12.2 million Foundation contribution.