Will Lemonade Stock Recover?

Will Lemonade Stock Recover? Lemonade stock took a drubbing last week after the insurance company released a mixed-bag of news in its first quarter earnings report. Next day trading saw a loss of 18.5% on the company’s share price, dropping from $74.1 to $63.2. But why did the market turn so aggressively against a business that beat on revenue expectations and was shown to be growing many of its key metrics?

High Loss Ratios Hurt Lemonade

The severe fallout from the winter freeze that affected Texas in February turned out to be an impromptu stress test for Lemonade’s business model.

In the first week of the storm, the firm received roughly a year’s worth of customer claims. Lemonade subsequently put in place its catastrophe operational process, and the vast majority of the claims made at the outbreak of the storm were settled in quick order.

However, the impact of the flurry of claims arising from the crisis was heavy. The firm’s gross loss ratio – a measure of the amount of money paid out compared to the insurance premiums received – increased by 50% from the previous year to 121%.

No doubt investors saw this and panicked somewhat, driving its stock down in the wake of the news. And it’s not really surprising that this happened: the loss ratio is an important figure in the insurance world, and a number anywhere above 100% means that the company is no longer profitable.

Indeed, Lemonade took a huge 59% hit to its gross profit in the first quarter, resulting in net incurred losses of $6.5 million.

Lemonade Top Line Was Stellar

The odd thing – considering the Black Swan event earlier in February – is that Lemonade actually posted some pretty exemplary figures for the first quarter; and, even though revenue of $23.5 million meant a decrease of 10.3% year-on-year, the company still beat analyst expectations by $1.6 million, suffering only a slight miss on earnings of $0.03 with a GAAP EPS of -$0.81.

Reassuringly, perhaps, the company surprised with a slew of other positive news: the in force premium was up 89% year-on-year with a total of $252 million for the quarter; its 2021 revenue forecast was raised from a range of 21%-24% to 24%-28%; and the company grew pre-expense and payout premiums by 84% to $56 million.

Additionally, Lemonade added 1.1 million new users to its customer count – an increase of 50% from Q1 2020 – and grew its per customer premium by 25% to $229.

Will Car and Life Insurance Help Lemonade Grow?

At the time the company first went public with its IPO last July, its product portfolio consisted of nothing more than renter or homeowner insurance. The user journey at that point was extremely constrained; the best the company could hope for was for a customer to graduate simply from a rental policy to a homeowner’s.

Since then, however, the firm has grown its consumer entry points to include term life, pet health, and hopefully, later this year, vehicle insurance through its proposed Lemonade Car product. 

The company stated in its Shareholder Letter that as Lemonade’s product offerings diversify, the number of user pathways open to newly onboarded customers will grow geometrically. Lemonade hopes that as the number of multiple policy holders increases, the tendency for higher premiums and greater retention rates will also grow.

And the Lemonade Car play really does look to be a clever move. A product in the auto-mobile insurance space will be a lucrative proposition; the industry accounts for $300 billion of sales per year, some 70 times larger than its pet and renter’s sectors alone.

Will Lemonade Stock Recover?

The company has vastly expanded its total addressable market with the successful launch of its new insurance products, and hopefully should be able to leverage this with greater revenues through increased cross-sales to its established customer base.

EBITDA guidance for 2021 remains on target to hit analyst expectations from before the Texas storm catastrophe – a pleasant surprise maybe, considering the extent of the damage to the firm’s bottom line from its depressed gross loss ratio.

Beyond this, investors should note Lemonade’s unique business set-up and the technological sophistication of its AI-enabled single-point application platform. The company is able to use a combination of chatbots and pioneering machine learning algorithms to get customers insured in less than 60 seconds – and the fact that the majority of the firm’s user base is under 35 years old means that Lemonade should be able to bank on a good proportion of its policy holders being with the business for quite some time to come.

But to temper the bullish thesis for a moment, Lemonade does have a cash flow problem right now, with the company having to dilute its shares recently – presumably to muster up the extra money it’s been burning through of late. Neither is the business profitable yet, as its Q1 adjusted EBITDA loss of $41.3 million goes to show.

Still, Lemonade is a well-liked company – which counts for a lot. For example, in relation to its efforts dealing with the Texas freeze claims, its Net Promoter Score with customers worked out at around the 70 mark, very close to its normal average.

The rest of 2021 will likely be volatile for Lemonade, as it seeks to recover from the impact of the storm claims, and attempts to roll out a crucial new product. But for those with patience, Lemonade could be a potential multi-bagger in years to come.

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The author has no position in any of the stocks mentioned. Financhill has a disclosure policy. This post may contain affiliate links or links from our sponsors.