TRUP - Trupanion

[Cigarbutt]

Read about 8 hours of conference calls/presentations/shareholder letters and a bit about the short thesis so far this weekend to try to understand the qualitative aspect of this business.

 

Have yet to look at the quantative/annual reports yet.

 

The long argument appears apparent/easy to understand and noted above in the write ups above with large TAM, potentially inproved competitive position secondary to alignment with vets and superior payments processing etc

 

The short argument I want to pay attention to is the qualitative argument vs just that it trades at a crazy book value multiple for an insurance company.

 

The best stated short argument I see is that the actual pricing model for their upfront monthly costs are at an unprofitable level. Then over the life of the ~6.5 yr avg term, Trup will need to increase insurance premium cost based on supposed cost inflation of that subgroup. The argument is that it isnt cost inflation that drives the increased premiums, it was just horrible initial underwriting.

 

The continued revenue growth from adding new pets masks the fact that the actual underwriting is of poor quality.

The shorts would say that the 70% passed onto the consumer is not sustainable and it is essentially a ponzi scheme where if growth stopped revenue would fall and the supposed adjusted margin driving the growth would collapse.

The evidence for this appears to be request filings to the state to increase premiums as much as 15-20% suddenly (I have not read/seen these filings)

 

My instincts would say that Trup has been around long enough to have a reasonable actuarial representation of what the cost plus model should be. DR states "inflation" cost in health related expenses might be 6-8%/yr based on utilizing higher cost stuff like CT instead of xray etc.

 

But how would they be so off to need 15-20% jumps suddenly?

 

The next part of the short argument would be that churn will happen in the mid to late cycle of the pet life when Trup tries to increase premiums significantly once health costs are going up.

 

The increased churn of these mid to late cycle contracts ( yr 3-6) would be masked by the last few quarters of onboarding new pets early. This would allow the churn rate to seem stable at 1.6% for last several quarters.

 

Do any longs have a counter-argument to this? I genuinely want to like this company but want to protect downside first and foremost.

 

Thanks in advance!

Also at the evaluation phase.

 

An interesting aspect is that the company has been around for a very long time so the churn rates and poor underwriting arguments should have played out if that significant.

 

-Reported monthly retention ratios have been remarkably low high and stable for a very long time.

 

-Looking at reported numbers and filings at regulators, here are the combined ratios:

 

2012-4 (3 years): avg CR 96,3%

2015: 98%

2016: 95%

2017: 94%

 

-growth in monthly average revenue per pet: 2017 $52.07  2016 $47.82  2015 $45.04  2014 $44.14  2013 $42.56

CAGR: 5,2%

 

Top-line growth can help to hide red flags and growing pains but the above numbers don't suggest poor underwriting practices and a company trying to catch up.

 

Also (relying partly on specific company disclosures but also on other sources), the evolution of claim activity during the life of the pet does not correlate well with the human side of health benefits. I understand that the claim activity is more linear with accidents higher when pets are young and end-of-life expenses mitigated by a more "humane" (!?) approach (euthanasia) compared to the explosive growth of expenses for humans nearing the end.

 

FWIW, I value underwriters who act decisively and rapidly with the realization that certain lines are not profitable even if it means lost business.

Edit: correction made above

[bathtime]

Brian Bares (Bares Capital) has a large position in TRUP and they do intensive due diligence on their investments.

 

Think you may have his positions mixed up.

 

He has a position in TripAdvisor (ticker TRIP), not Trupanion (ticker TRUP).

 

https://whalewisdom.com/filer/bares-capital-management-inc#tabholdings_tab_link

 

My bad, TRUP at last reporting date was 27% of Nine Ten Capital's public positions which is apparently another of Bares' vehicles.

[tripleoptician]

https://www.barrons.com/articles/YMtOBspdDX

 

See more on a bit of the short thesis.

 

My instincts are similar to yours Cigarbutt

 

A request to the State for significant premium raises isn't defacto implying that the business is underpricing dramatically and therefore having large underwriting losses.

 

I suppose the short thesis is presuming without excessively low premiums to start they would not be able to attract new pet policies.

 

This whole situation feels a bit like the Ebix shorting process, but that had solid cash flow that was continuing to be used to by a business.

 

I still dont get the capital raise to buy their building. I dont see how that competes with reinvesting at 30-40% IRR's.

 

Some twitter short comments were talking about this was needed to shore up statutory capital which Trup badly needs.

 

My weekend work has put this in the too hard pile i think!

[maybe4less]

https://www.barrons.com/articles/YMtOBspdDX

 

Some twitter short comments were talking about this was needed to shore up statutory capital which Trup badly needs.

 

 

I'm not an expert here, but this is what I couldn't figure out. It seems like they need a lot of statutory capital to grow as fast as they have been and it wasn't clear to me where they were going to get it. I suppose stock sales may be the answer if this is true.

[Peregrino]

Brian Bares (Bares Capital) has a large position in TRUP and they do intensive due diligence on their investments.

 

Think you may have his positions mixed up.

 

He has a position in TripAdvisor (ticker TRIP), not Trupanion (ticker TRUP).

 

https://whalewisdom.com/filer/bares-capital-management-inc#tabholdings_tab_link

 

My bad, TRUP at last reporting date was 27% of Nine Ten Capital's public positions which is apparently another of Bares' vehicles.

 

I stand corrected!

[Cigarbutt]

https://www.barrons.com/articles/YMtOBspdDX

See more on a bit of the short thesis.

...

I suppose the short thesis is presuming without excessively low premiums to start they would not be able to attract new pet policies.

 

This whole situation feels a bit like the Ebix shorting process, but that had solid cash flow that was continuing to be used to by a business.

 

I still dont get the capital raise to buy their building. I dont see how that competes with reinvesting at 30-40% IRR's.

 

Some twitter short comments were talking about this was needed to shore up statutory capital which Trup badly needs.

 

My weekend work has put this in the too hard pile i think!

...

I'm not an expert here, but this is what I couldn't figure out. It seems like they need a lot of statutory capital to grow as fast as they have been and it wasn't clear to me where they were going to get it. I suppose stock sales may be the answer if this is true.

Surprisingly, I am slowly getting more comfortable with the company.

For regulators, TRUP is a question mark as their model and niche are quite unique.

Basically, the theme is to grow the premiums rapidly and get more profitable with scale as the main vector of value creation.

 

These are some numbers to help with perspective.

-(reported statutory capital and surplus)/(required statutory capital and surplus)

2014:104,7%    2015:106,4%    2016:118,0%    2017:167,5%

-(revenue as a proxy of net premiums written)/(reported statutory capital and surplus)

2014:489,9%    2015:563,8%    2016:618,1%    2017:652,5%

 

So TRUP has built a growing cushion over required risk-based capital and it's not clear how much of this was purely voluntary. But funds going in that direction constitute negative investing cashflows and this is related to the cost of growing the business.

 

From previous exam reports from regulators, it's been mentioned that they were comfortable with the higher ratios in the second category: "However, the Department is not concerned with the results of this ratio due the nature of the company’s business.", referring to the 300% NAIC benchmark (slightly different ratio: premium written to capital and surplus) and that makes sense. However, at some point, the very high growth (unusual rate of growth in the insurance business) of premiums must be raising questions and may have been a driving force behind the growing margin over the required risk-based capital and surplus and, in that light, helps to understand the move to issue shares and buy their "home office" of which I understand they are occupying 40% of the space now. The share issue in my book was made at a premium, will help to drive down the fixed expenses ratio and it seems that the real estate value will be included in the capital and surplus amount. Unusual move but IMO a nice way to deal with statutory uncertainty.

 

Interesting because as I feel more comfortable with the model, the market today seems to discover that it has second thoughts. ???

 

When valuing an insurance company, I typically use a two-column approach with 1-the underwriting profitability, growth and cycle management and 2-the float.

 

With TRUP, the float aspect has minimal value so the valuation exercise rests mainly on the profitable growth "story". Will spend some time trying to figure a way to translate their reported numbers into an underwriting-type model and try to narrow down the intrinsic value range which, at this point, does not really include the market price.

 

It would be interesting to read an opinion on the price they paid for the acquisition of the real estate. The price paid seems to be typical for comparable transactions but this is not an area of stength for me.

https://news.theregistryps.com/trupanion-planning-to-buy-its-georgetown-headquarters-in-seattle-for-65mm-from-benaroya-company/

[Spekulatius]

I have a little trouble to see how they can achieve high returns on equity in the long run. sure, there is a first mover advantage, but wouldn’t it be possible for competitions like an insurance company to offer add on insurance or for a health clinic pet store (Petsmart runs clinics on their premises) to offer add on insurance? Insurance per say isn’t moaty, unless there is a cost advantage. I am nothing auf there is much of a short case here, but is there really that much upside?

[Cigarbutt]

Not sure either.

Have been reviewing WRBerkley, RLI and EverestRE and a few others lately and come to the conclusion that many roads lead to Rome, in terms of ROE. I agree that moat is the exception rather than the rule in the insurance industry and would say that the classical low cost advantage is only one of the ways to stand out from the crowd.

 

TRUP has a consistent operating history showing that they have a good product which is distributed in an efficient way and, so far, most or all relevant competitors have been slow to react. There appears to be some noise at this point concerning a strategic part of the moat, but, at this point, my feeling is that it's only noise.

https://seekingalpha.com/article/4221796-trupanion-naic-address-pet-insurance-weekend

 

I emphasize the balance sheet when valuing insurance companies and the following reference is a reflection of what I'm trying to get at in this post.

http://www.scmessinacapital.com/blog/2017/8/16/why-are-insurance-companies-valued-at-pb-instead-of-pe

 

IMO TRUP "deserves" to be looked at using a different lens. For other industries, the Dupont decomposition of ROE=NPM*AT*leverage can be useful to "isolate" the driving forces. For an insurance firm with the TRUP profile, I suggest a variant on the above ROE equation:

 

ROE being a function of 1-underwriting profit, 2-growth in market share and 3-NPW/statutory capital.

 

When I look at EverestRE from that angle, for years 2013-7, they report an avg CR of 88,8%, a CAGR of NPW of 5,5% and a NPW/equity of 0,65 to 0,75. Using the above-described ROE function, numbers look poor but obviously, for EverestRE, other significant factors need to be taken into account including the value of float.

 

When I look at TRUP,

For 1-, they have consistently reported below 100% underwriting, with an attempt to reduce corporate costs with scale (slowly happening) and voluntarily allowing for higher vet costs in order to provide not a cheaper option but a better value option for the customer, contributing to 2.

 

For 2-, NPW have shown a CAGR of 32,7% for the 2013-7 period and there appears to be further room to run.

 

Note: I'm reading Sam Walton's Made in America these days and he describes that when he started out with his first variety store in Newport, Arkansas (1945!), he noticed, among other things, that he could sacrifice his own profit margins (by selling cheaper or "lowering the markup", or offering better value to his customers) in the pantyhose category and still optimize his bottom line (and I presume his ROE although he does not say) because the decreased margin was more than compensated by the much higher turnover.

 

For 3-, they have been able to maintain very high and growing NPW/capital ratios.

 

For 3-, over time (maybe it's starting to happen now), the ratio may have to come down causing a lower ROE but, at that point, it would mean that they are building float that could contribute to their bottom line mitigating the effect of lower "leverage" measures.

 

This will be interesting to follow because it will tend to converge to the margin between investors looking for subscription-type of firms and more classic insurance investors and there may be an opportunity during the period when the "story"-type investors get bored and before the traditional insurance investors notice.

[Spekulatius]

^ Yes, one could simply regard this as a subscription type business or more precisely, a hybrid between an insurance and a subscription type business. The reason why it resembles  a subscription type business is because TRUP really does not take much of a tail risk (which required a lot of capital to hold to remain solvent for the worst case scenario), but it’s more like a prepaid service, with some I insurance attributes. TRUP can adjust the prices as it sees fit if cost would spin out of control fairly quickly and I don’t think there are there long tail exposure either from delayed claims. So certainly, one should not value this like a plain vanilla health insurance company. Health insurance companies (for humans ) like UNH are probably closer in terms of capital, but are more regulated, there is more risk in terms or pricing (adjustment can be done yearly) more competition and foremost less growth potential.

[Spekulatius]

What’s the explanation for the seemingly hurried pace of insider sales? The CEO alone has sold ~$1.55M shares and so does everyone else.

 

FWIW, I bought a small position early Jan and flipped it for a quick buck, so I don’t own it right now. I would be reluctant to own this with this amount if insider sales even during the YE decline.

[Cigarbutt]

What’s the explanation for the seemingly hurried pace of insider sales? The CEO alone has sold ~$1.55M shares and so does everyone else.

 

FWIW, I bought a small position early Jan and flipped it for a quick buck, so I don’t own it right now. I would be reluctant to own this with this amount if insider sales even during the YE decline.

Insider ownership has been coming down over the years, which could mean many things.

Founding capital which includes RenRe and an entity funded by Howard Schultz {yeah, that one} have decreased their ownership over the same period.

 

As for the CEO, as of Jan 16 2018, he held 1,386M shares. During the year (november), he exercised about 0,545M options and sold some in what seems to be tax related reasons, has continued to sell smaller amounts as part of an automatic program and, as of Jan 22 2019, still holds 1,555M shares.

 

There is noise around the company but FWIW I don't see a hurried pace towards the exit

[Happy]

A lot of executives regularly sell all the related shares when their options expire. Rawlings instead elected to keep 60% of the resulting stock and only sold the rest. That doesn't seem particularly concerning to me. It would concern me a lot though if he simply had sold a lot of shares that didn't come from expiring options.

[Guest roark33]

Looks like SYF bought Pets Best.  125k in force policies, looks like the acquisitions might have been for around $200m if you look at SYF's 10Q, but hard to know exactly.  That would be around $800m valuation for TRUP, maybe more given scale, who knows.  Just saw it as a minor data point. 

 

 

https://www.prnewswire.com/news-releases/synchrony-acquires-pets-best-to-expand-carecredit-platform-in-rapidly-growing-pet-market-300807467.html

 

 

[EricSchleien]

Darryl has said he would be doing this before Trupanion IPO'd.

 

What’s the explanation for the seemingly hurried pace of insider sales? The CEO alone has sold ~$1.55M shares and so does everyone else.

 

FWIW, I bought a small position early Jan and flipped it for a quick buck, so I don’t own it right now. I would be reluctant to own this with this amount if insider sales even during the YE decline.

Insider ownership has been coming down over the years, which could mean many things.

Founding capital which includes RenRe and an entity funded by Howard Schultz {yeah, that one} have decreased their ownership over the same period.

 

As for the CEO, as of Jan 16 2018, he held 1,386M shares. During the year (november), he exercised about 0,545M options and sold some in what seems to be tax related reasons, has continued to sell smaller amounts as part of an automatic program and, as of Jan 22 2019, still holds 1,555M shares.

 

There is noise around the company but FWIW I don't see a hurried pace towards the exit

[Spekulatius]

TRUP is really get hammered now, is this just due to the short article in seekingalpha? It seems there must be more too it. I am following the company and had a few shares for a bit, but sold. I don’t like the way their financial look and how they market their product with an independent sales force. I know that some value/ growth investors are in it, including Rob Vinall, who takes a lot of time to look at companies he invests in.

[rogermunibond]

This rationale for selling from a former long investor was interesting.

 

https://intrinsicinvesting.com/2019/08/07/why-we-sold-trupanion/

[EricSchleien]

TRUP is really get hammered now, is this just due to the short article in seekingalpha? It seems there must be more too it. I am following the company and had a few shares for a bit, but sold. I don’t like the way their financial look and how they market their product with an independent sales force. I know that some value/ growth investors are in it, including Rob Vinall, who takes a lot of time to look at companies he invests in.

 

I'm curious why you DON'T like the Territory Partner model? That seems to me one of the strengths of deepening their moat. They will most likely to do terrible with online conversions until more people are educated about pet insurance (which may or may not ever happen). Advertising right now too has limited IRR in most markets. So why not take advantage of building relationships with Vets and vets having those relationships with the pet parents?

[Spekulatius]

TRUP is really get hammered now, is this just due to the short article in seekingalpha? It seems there must be more too it. I am following the company and had a few shares for a bit, but sold. I don’t like the way their financial look and how they market their product with an independent sales force. I know that some value/ growth investors are in it, including Rob Vinall, who takes a lot of time to look at companies he invests in.

 

I'm curious why you DON'T like the Territory Partner model? That seems to me one of the strengths of deepening their moat. They will most likely to do terrible with online conversions until more people are educated about pet insurance (which may or may not ever happen). Advertising right now too has limited IRR in most markets. So why not take advantage of building relationships with Vets and vets having those relationships with the pet parents?

 

I believe having basically a 3rd party salesforce has risk in terms of getting the message diluted. Generally, I don’t like business models, where the cost of marketing is so high. I see evidence of their growth (see above link) slowing down, higher customer acquisition costs and there is the issue with valuation, where you need 7-10 years of current growth rates to justify the valuation.

 

FWIW, scuttleblurb has a decent primer on TRUP:

https://www.scuttleblurb.com/trup/

[Astrea]

One thing I noted was that Markel started a tiny position in Trupanion last quarter. They do the underwriting for FIGO on the insurance side and so I expect the investment side has some good insights into the pet insurance market... Maybe worth looking at their 13F next quarter to see if they added during the pullback...

[matts]

One thing I noted was that Markel started a tiny position in Trupanion last quarter. They do the underwriting for FIGO on the insurance side and so I expect the investment side has some good insights into the pet insurance market... Maybe worth looking at their 13F next quarter to see if they added during the pullback...

 

Interesting. Thanks for the heads up.

 

[Packer16]

This does not look like insurance at all but pre-paid vet services.  I do not see why consumers (who would be organized enough to budget for pet insurance) would not put the equivalent of the insurance premium into an account & earn interest on it versus pay TRUP 30% of the premium.  I just do not see the value proposition here.  IMO it appears these guys are marketing a product that may have emotional appeal but economically does not make sense.  My question would be why do Europeans have such a high penetration of a product that is nothing more than pre-paid vet services?

 

Packer

[KCLarkin]

This does not look like insurance at all but pre-paid vet services.  I do not see why consumers (who would be organized enough to budget for pet insurance) would not put the equivalent of the insurance premium into an account & earn interest on it versus pay TRUP 30% of the premium.  I just do not see the value proposition here.  IMO it appears these guys are marketing a product that may have emotional appeal but economically does not make sense.  My question would be why do Europeans have such a high penetration of a product that is nothing more than pre-paid vet services?

 

Packer

 

Just looked at the Canadian product and it does look like true Pet Insurance.

 

I'm almost convinced to buy this, but it is very expensive. $100CAD per month even with a $1000 deductible. I guess I'll stick with self-insurance.

[Happy]

This does not look like insurance at all but pre-paid vet services.  I do not see why consumers (who would be organized enough to budget for pet insurance) would not put the equivalent of the insurance premium into an account & earn interest on it versus pay TRUP 30% of the premium.  I just do not see the value proposition here.  IMO it appears these guys are marketing a product that may have emotional appeal but economically does not make sense.  My question would be why do Europeans have such a high penetration of a product that is nothing more than pre-paid vet services?

 

I think you underestimate how big a percentage of the population doesn't carry large savings and lives paycheck to paycheck for the most part. For someone with a lot of money who can easily take the financial hit if their pet is "unlucky" the value proposition is not there. But I remember seeing stats that suggested that a lot of people couldn't deal with that financially.

[Cigarbutt]

^Taken literally, this would mean that the expense ratio part of the underwriting is superfluous as people should be able to build peace of mind instead of buying it.

 

FWIW, I have been spending some time on the private side of long-term care insurance (vs GE and all that) and have realized how it has failed to gain traction in the US and how its path has diverged from many european counterparts. The idea of building a cushion for rainy days is not in vogue these days.

 

IMO, TRUP offers a good product for its potential clientele but expectations are simply too high.

They have made a distinction though that defines them as a true insurance product and not simply as a pre-paid pet wellness service.

https://trupanion.com/canada/pet-insurance/pet-insurance-vs-pet-wellness

 

 

[Jurgis]

I think you underestimate how big a percentage of the population doesn't carry large savings and lives paycheck to paycheck for the most part.

 

If they live paycheck to paycheck, they should probably not have a pet.

 

OTOH, for majority of the big ticket vet items, the solution is not pet insurance, but rather putting the pet to sleep. Yeah, I know I'm gonna get hit by compassionate pet owners again, but $5K for your fluffy could save at least 10 children in Africa. Or 10 healthy just born fluffies that are being put down every day.