Trupanion : Q2 2021 Earnings Conference Call Transcript

Trupanion, Inc.

Second Quarter 2021 Earnings Call

August 5, 2021

Trupanion, Inc - Second Quarter 2021 Earnings Call, August 5, 2021

C O R P O R A T E P A R T I C I P A N T S

Laura Bainbridge, Investor Relations

Darryl Rawlings, Chief Executive Officer

Tricia Plouf, Co-President

Margi Tooth, Co-President

C O N F E R E N C E C A L L P A R T I C I P A N T S

Shweta Khajuria, Evercore ISI

Maria Ripps, Canaccord Genuity

David Westenberg, Guggenheim Securities

Michael Parolari, Raymond James

Ryan Tunis, Autonomous Research

Greg Gibas, Northland Securities

P R E S E N T A T I O N

Operator

Greetings, and welcome to the Trupanion, Inc. Second Quarter 2021 Earnings Conference Call.

As a reminder, this conference is being recorded.

I would now like to turn the conference over to your host, Laura Bainbridge, Investor Relations.

Laura Bainbridge

Good afternoon and welcome to Trupanion's Second Quarter 2021 Financial Results Conference Call. Participating on today's call are Darryl Rawlings, Chief Executive Officer, and Tricia Plouf and Margi Tooth, Co-Presidents.

Similar to prior earnings calls, Margi will be joining Darryl and Tricia for the Q&A portion of today's call.

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Trupanion, Inc - Second Quarter 2021 Earnings Call, August 5, 2021

Before we begin, I would like to remind everyone that during today's conference call, we will make certain forward-looking statements regarding the future operations, opportunities and financial performance of Trupanion within the meaning of the Safe Harbor Provision of the Private Securities Litigation Reform Act of 1995. These statements involve a high degree of known and unknown risks and uncertainties that could cause actual results to differ materially from those discussed. A detailed discussion of these and other risks and uncertainties are included in our Earnings Release which can be found on our Investor Relations website as well as the Company's most recent reports on Forms 10K and 8K filed with the Securities and Exchange Commission.

Today's presentation contains references to non-GAAP financial measure that Management uses to evaluate the Company's performance, including without limitation, fixed expenses, variable expenses, adjusted operating income, acquisition costs, internal rate of return, Adjusted EBITDA and free cash flow.

When we use the term Adjusted Operating Income or Margin, it is intended to refer to our non-GAAP operating income or margin before new pet acquisition. Unless otherwise noted, margins and expenses will be presented on a non-GAAP basis which excludes stock base compensation expense and depreciation expense. These non-GAAP measures are in addition to, and not a substitute for, measures of financial performance prepared in accordance with the U.S. GAAP.

Investors are encouraged to review the reconciliations of these non-GAAP financial measures to the most directly comparable GAAP results which can be found in today's press release or on Trupanion's Investor Relations website under the Quarterly Earnings tab.

Lastly, I would like to remind everyone that todays call is also available via webcast on Trupanion's Investor Relations website. A replay will also be available on the site.

With that, I will hand the call over to Darryl.

Darryl Rawlings

Thanks, Laura, and good afternoon, everyone. In June, we hosted our Annual Shareholder Meeting during which we covered a wide range of topics that pertain to our business and our 60-month plan. Because of this, we'll keep today's remarks brief.

In summary, Q2 was another strong quarter as shown by our key financial measures. Total revenue grew 43% year-over-year.We added over 33,000 net new subscription pets in the quarter and we crossed over 1 million in total pets enrolled. These are interesting. But what I am most focused on is the expansion of our adjusted operating income, which are profits generated from our existing book of business that we then have available for us to grow and invest in our business at attractive internal rates of return.

In the quarter, adjusted operating income grew 32% to $18.5 million. We deployed about $17 million of these funds on our subscription business to acquire nearly 56,000 pets at an estimated internal rate of return of 34%. It's worth reiterating that for the purposes of our internal rate of return calculation, pet acquisition cost is inclusive of all sales and marketing spend, including the cost of all team members working on acquiring pets.

Growing our adjusted operating income and deploying as much of this as possible at attractive internal rates of returns are the fundamentals of our business model. The team is increasingly skilled at doing so. Year-over-year, the team was able to put approximately 100% more capital to work and in a disciplined and highly efficient way. Historically, we spent the vast majority of our adjusted operating income in acquiring pets in our core subscription business. This quarter, in addition to the $17 million we spent acquiring new pets, we spent $1 million of our adjusted operating income on pre-revenue initiatives that are a part of our 60-month plan.

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Trupanion, Inc - Second Quarter 2021 Earnings Call, August 5, 2021

We also invested roughly an additional $1 million in Capex compared to the prior year, primarily in our next-generation product administration platform, which we will launch in the next 12 months. We expect this platform will support new product initiatives, improve our member experience and build upon our position as a global low-cost provider in our industry.

While this results in us being cashflow negative in the quarter, it's a trade-off we are excited to make given our large underpenetrated market and the opportunities we're pursuing as a part of our 60-month plan. As a reminder, our 60-month plan was provided in our most recent Shareholder Letter, which can be found on the Investor Relations portion of our website. Our financial position is strong, and we're well capitalized to afford our accelerated growth and execute on the opportunities ahead of us.

Even with our elevated growth, I'm happy to report continued exceptional monthly retention of 98.72%, the output of our ongoing focus on member experience. The average pet now stays with Trupanion for 78 months, which is up from 70 months just a few years ago. We believe our retention is industry leading and small incremental improvements can meaningfully impact the intrinsic value of the company. Maintaining retention while accelerating growth is exceptionally difficult, and the team deserves to be commended on their efforts. Taking stock of where we stand six months into our 60-month plan, I am pleased with the progress we have made and I'm proud of the team.

With that, I'll hand the call over to Trish to discuss our Q2 results in greater detail. Trish?

Tricia Plouf

Thanks, Darryl, and good afternoon, everyone. We are very pleased with our second quarter results, which exceeded our expectations. Our over-performance was led by strong monthly retention and solid growth additions in our subscription business and continued strong growth in our other business. Total revenue for the quarter was $168.3 million, up 43% year-over-year. Within our subscription business, revenue was $120.4 million in the quarter, up 30% year-over-year, or 27% on a constant currency basis. Total enrolled subscription pets increased 22% year-over-year to approximately 643,000 pets as of June 30.

Average monthly retention, which is calculated on a trailing 12-month basis, was 98.72% compared to 98.66% in the prior year period, which we attribute to our ongoing investment in service levels. As a reminder, our blended retention rate is influenced by our mix of business. During periods of accelerated growth, first-year retention may act as a headwind to overall retention. Monthly average revenue per pet for the quarter was $63.69, an increase of 7.2% year-over-year or 4.4% on a constant currency basis.

In the first half of this year, we saw ARPU increase 7%, and the cost of paying veterinary invoices on a per-pet basis also increased approximately 7%.

While we continue to make progress on our pricing initiatives, we currently estimate needing an additional 1% in ARPU increases to ensure that we are pricing more consistently to our 71% value proposition.

Our subscription cost of revenue includes the cost of paying veterinary invoices and variable expenses. As a percentage of subscription revenue, the cost of paying veterinary invoices for our subscription business was 72%, and variable expenses increased slightly to 10%, both reflecting continued investment in people, systems and claims automation capabilities. We continue to be encouraged by the impact we are seeing to retention from these initiatives, which are designed to deliver a more differentiated member experience and over time to reduce frictional costs.

Our other business segment is comprised of revenue from other products and services that generally have a B2B component and different margin profiles than that of our subscription business.

In total, other business revenue was $47.9 million for the quarter, an increase of 88% year-over-year, due primarily to an increase in pets enrolled within this segment. Cost of revenue for our other business segment was $44 million compared to $23.5 million in the prior year period. The year-over-year increase is consistent with the increase in segment revenue over the same period.

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Trupanion, Inc - Second Quarter 2021 Earnings Call, August 5, 2021

Total fixed expenses, which are shared services that support both our subscription and other line of business, were 4% of revenue in the quarter, an improvement from 5% in the prior year period. After the cost of paying veterinary invoices, variable expenses and fixed expenses, we calculate our adjusted operating income. As Darryl mentioned, we view our adjusted operating income as the critical measure of our scale and discipline, since it represents the profit we generate before investing in growth and other strategic initiatives.

For our subscription business, our target adjusted operating margin remains at 15%. In the quarter, our total adjusted operating income was $18.5 million, which is up 32% over the prior year period, and our total net loss was $9.2 million, which I will discuss in more detail momentarily.

Approximately, 90% of our adjusted operating income was generated from our subscription business during the quarter at $16.6 million, or 14% of revenue. The variance from our 15% target was primarily due to the investments in our member experience we discussed earlier. We have made the strategic decision to invest in these initiatives in the near term as they drive retention and referrals, but we do expect them to scale longer term.

During the quarter, we invested $17.1 million of our adjusted operating income to acquire approximately 56,000 new subscription pets. This resulted in a PAC of $284 in the quarter, an estimated 34% internal rate of return for a single average pet within our internal rate of return guardrails. Given our strong balance sheet and scale, we are also investing in new product development and international expansion. These initiatives are included in development expenses as they are pre-revenue and were $1.1 million in the quarter. This resulted in an Adjusted EBITDA of $0.2 million in the quarter compared to $5.5 million in the prior year period.

Depreciation and amortization were $3.2 million during the quarter, an increase of $1.4 million from the prior year period. This increase was primarily due to the amortization of assets from our software acquisition in the fourth quarter. Total stock-based comp expense was $6.5 million during the quarter, up from $2.2 million in the prior year period. This is in line with our projection of $6 million to $7 million in stock-based compensation per quarter for the remainder of this year. As a result, net loss was $9.2 million, or a loss of $0.23 per basic and diluted share, compared to net income of $1.4 million, or $0.04 per basic and diluted share in the prior year period. As compared to the prior year period, the increase in stock-based compensation impacted net loss by $0.11, and the increased depreciation and amortization impacted net loss by $0.04 per share.

I'll now turn to cash flow. Operating cash flow in the quarter was negative $2.2 million compared to positive operating cash flow of $4.9 million in the prior year period. The year-over-year decrease in operating cash flow reflects our accelerated pet growth and investment in development initiatives I discussed earlier. We have also increased our investment in capital expenditures compared to the prior year totaling $2.9 million during the quarter. The increased capital expenditure is primarily related to software driving our member experience and new product initiatives. This resulted in free cash flow in the quarter of negative $5.1 million. At quarter end, we held cash and investments of over $219 million and no debt.

I'll now turn to the outlook for the full year of 2021, which we are updating to account for our over- performance in the first half of the year, including benefits from FX. We now expect total revenue in the range of $687 million to $692 million. Subscription revenue for the full year is expected to be in the range of $495 million to $498 million, representing 28% year-over-year growth at the midpoint.

At these revenue levels, we would expect total adjusted operating income of around $76 million, an increase of 34% over the prior year, with over 90% being generated from our subscription business. Of the $76 million in adjusted operating income, we would expect to invest approximately $69 million in acquiring pets within our subscription business, which add our targeted internal rates of return results in a PAC of around $280. We believe the most value is created through the compounding effects of cost- effective pet acquisition, while operating within our internal rate of return guardrails of 30% to 40%.

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ViaVid has made considerable efforts to provide an accurate transcription. There may be material errors, omissions, or inaccuracies in the reporting of the substance of the conference call. This transcript is being made available for information purposes only.

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