TRUPANION, INC. quarterly report, Q1 FY2020

Trupanion, Inc. — Q1 2020 Form 10-Q Summary

Business context and reporting period

Trupanion provides medical insurance for cats and dogs in the United States, Canada and Puerto Rico. The company operates through subscription and other business segments. This unaudited Form 10-Q covers the three months ended March 31, 2020, compared with the three months ended March 31, 2019.

Financial performance and key metrics

Metric	Q1 2020	Q1 2019	Change
Revenue	$111.3 million	$87.0 million	+28%
Gross profit	$17.9 million	$15.0 million	+19%
Gross margin	16%	17%	Down 1 percentage point
Operating loss	$1.0 million	$1.3 million	Improved by $0.3 million
Net loss	$1.1 million	$1.3 million	Improved by $0.2 million
Net loss per share	$0.03	$0.04	Improved
Cash flow from operations	$2.9 million	$4.0 million	Down $1.0 million

Subscription revenue increased 21% to $89.5 million, driven by 14% growth in subscription pets enrolled and a 5% increase in monthly average revenue per pet.
Other business revenue increased 71% to $21.8 million, primarily due to higher enrollment in that segment. Its gross margin was approximately 8%, compared with approximately 9% in the prior-year quarter.
Veterinary invoice expense increased 30% to $79.6 million. Subscription veterinary expense per pet increased approximately 6%, reflecting higher veterinary costs and utilization.
Operating expenses increased 15% to $18.8 million. Sales and marketing expense rose 27% to $10.4 million, while technology and development increased 7% and general and administrative expense increased 2%.
Stock-based compensation expense was $1.7 million, compared with $1.4 million in Q1 2019.
Total pets enrolled reached 687,435, up 25% year over year; subscription pets enrolled reached 508,480, up 14%.
Average monthly retention was 98.59%, broadly consistent with 98.58% in the prior-year quarter. Average pet acquisition cost increased to $247 from $205, while lifetime value per pet increased to $535 from $471.

Liquidity, balance sheet and debt

At March 31, 2020, cash and cash equivalents were $27.2 million, short-term investments were $76.1 million, and long-term investments were $4.1 million.
Total assets were $273.2 million and total stockholders’ equity was $136.8 million.
The company reported $103.3 million of cash, cash equivalents and short-term investments and stated that these resources, together with its credit facility, were sufficient to fund operations and capital requirements for the next 12 months.
Cash, cash equivalents and restricted cash declined $1.9 million during the quarter, primarily reflecting $8.0 million of investing outflows partly offset by $2.9 million of operating cash flow and $3.9 million of financing cash flow.
The revolving credit facility has capacity of up to $50.0 million and matures in June 2022. Borrowings were $30.0 million, recorded net of financing fees as approximately $29.8 million of long-term debt, with $19.2 million of available borrowing capacity after ancillary services and letters of credit.
The facility bears interest at the greater of 4.5% or 0.75% plus the prime rate. Trupanion was in compliance with all financial and non-financial covenants at March 31, 2020.
Insurance subsidiaries hold substantial assets subject to statutory capital, dividend and regulatory restrictions. The company cannot freely use all insurance subsidiary cash and investments for general corporate purposes.
The company repurchased 3,300 shares for approximately $78,000 during the quarter under its $15.0 million repurchase authorization. Dividends are restricted by the credit agreement and insurance regulations.

Material changes versus the prior comparable period

Revenue growth accelerated through both segments, with the other business segment becoming a larger portion of consolidated revenue, rising from 15% to 20%.
Gross margin declined from 17% to 16% because cost of revenue grew faster than revenue, particularly veterinary invoice expense.
Operating and net losses narrowed despite higher sales and marketing investment and increased stock-based compensation.
Operating cash flow declined from $4.0 million to $2.9 million, primarily due to timing differences in collections, veterinary invoice payments and vendor payments.
Average pet acquisition cost increased approximately 20%, which may pressure the economics of future enrollment growth if not offset by retention, pricing or lifetime-value improvements.
The company adopted the expected credit loss standard, ASU 2016-13, on January 1, 2020; adoption had no material financial statement impact.

Outlook, management commentary, risks and unusual items

Management stated that COVID-19 had not produced a material adverse impact through the filing date, but expected near-term growth could decline slightly. The company shifted substantially all employees to work from home, extended payment-failure cancellation periods from 30 to 60 days in most cases, and continued monitoring enrollment, retention, veterinary expenses and partner impacts.
The duration and severity of COVID-19 remain uncertain. Risks include lower discretionary spending, reduced enrollment, higher cancellations, reduced veterinary and Territory Partner activity, operational inefficiencies, cybersecurity exposure and potential changes required by regulators.
The filing does not provide a clear formal quarterly revenue or earnings guidance range. Management indicated that cash, investments and available credit were expected to cover the next 12 months, while noting that additional financing could be considered as the business grows.
Veterinary invoice reserves totaled $22.9 million at March 31, 2020. These reserves depend on actuarial estimates and could require material adjustments if claims frequency, severity, veterinary costs or payment patterns differ from assumptions.
State insurance regulators continue to review a legacy issue concerning whether employees assisting prospective members by telephone required insurance licenses. The company believes it is adequately reserved and that resolved matters were immaterial.
The company has a $2.5 million revolving line of credit extended to a variable interest entity, a $7.6 million preferred-stock investment measured using Level 3 inputs, and a commitment to contribute up to $2.2 million AUD to a joint venture upon specified milestones. A $59,000 loss from the joint venture was recognized in Q1 2020.
Key ongoing risks include insurance regulation and rate approvals, risk-based capital requirements, competition, member retention, rising acquisition costs, reliance on veterinary and strategic partners, cybersecurity and technology disruptions, foreign exchange exposure, debt covenant compliance and the company’s history of cumulative losses.
Management concluded that disclosure controls and procedures were effective as of March 31, 2020, with no material changes in internal control over financial reporting.

Important facts for investors to verify

Whether COVID-19 causes sustained deterioration in enrollments, cancellations, retention, veterinary invoice expense or partner productivity.
Whether increasing pet acquisition costs can be supported by lifetime value, pricing and retention trends.
Whether veterinary invoice reserves remain adequate as claims volume, treatment costs and utilization change.
The availability of corporate liquidity after considering statutory capital requirements and restrictions on insurance subsidiary assets.
Compliance with the revolving credit facility’s borrowing limits, minimum cash and investment requirements, and other covenants.
The financial performance and contractual stability of the lower-margin other business segment and its third-party relationships.
Potential exposure from regulatory licensing inquiries, insurance rate approvals, legal proceedings and changes in insurance regulation.