Greetings, and welcome to the Trupanion, Inc. 2nd Quarter 2021 Earnings Conference Call. At this time, all participants are in a listen only mode. A question and answer session will follow the formal presentation. As a reminder, this conference is being recorded.
I would now like to turn the conference over to your host, Laura Bainbridge, Investor Relations.
Good afternoon, and welcome to Trupanion's 2nd Quarter 2021 Financial Results Conference Call. Participating on today's call are Daryl Rawlings, Chief Executive Officer and Tricia Pluss and Margie Tooth, Co Presidents. Similar to prior earnings calls, Margie will be joining Darryl and Tricia for the Q and A portion of today's call. 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 10 ks and 8 ks filed with the Securities and Exchange Commission. Today's presentation contains references to non GAAP financial measures 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 based 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 today's 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 Daryl.
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 And we crossed over $1,000,000 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 18,500,000 We deployed about $17,000,000 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 $17,000,000 we spent acquiring New Pet, we spent $1,000,000 of our adjusted operating income on pre revenue initiatives That are part of our 60 month plan. We also invested roughly an additional $1,000,000 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 the global low cost provider in our industry. While this results in us being cash flow 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 percent, 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 6 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?
Thanks, Daryl, and good afternoon, everyone. We are very pleased with our 2nd 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 $168,300,000 up 43% year over year. Within our subscription business, revenue was $120,400,000 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 30th. Average monthly retention, which is calculated on 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, 1st 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 point 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 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 true 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 else than that of our subscription business. In total, other business revenue was $47,900,000 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 $44,000,000 compared to $23,500,000 in the prior year period. The year over year increase is consistent with the increase in segment revenue over the same period. 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 Daryl 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 $18,500,000 which is up 32% over the prior year period and our total net loss was $9,200,000 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 16,600,000 18% 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 $17,100,000 of our adjusted operating income To acquire approximately 56,000 new subscription pets, this resulted in a pack of $2.84 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 $1,100,000 in the quarter. This resulted in an adjusted EBITDA of $200,000 in the quarter compared to $5,500,000 in the prior year period. Depreciation and amortization were $3,200,000 during the quarter, an increase of $1,400,000 from the prior year period. This increase was primarily due to the amortization of assets from our software acquisition in the 4th quarter.
Total stock based comp expense was $6,500,000 during the quarter, up from $2,200,000 in the prior year period. This is in line with our projection of $6,000,000 to $7,000,000 in stock based compensation per quarter for the remainder of this year. As a result, Net loss was $9,200,000 or a loss of $0.23 per basic and diluted share compared to net income of 1,400,000 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 $2,200,000 compared to positive operating cash flow of $4,900,000 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 prior year totaling $2,900,000 during the quarter, but increased capital expenditures primarily related to software driving our member experience And new product initiatives. This resulted in free cash flow in the quarter of negative 5,100,000 At quarter end, we held cash and investments of over $219,000,000 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 $687,000,000 to $692,000,000 Subscription revenue for the full year is expected to be in the range of $495,000,000 to $498,000,000 representing 28% year over year growth at the midpoint.
At these revenue levels, we would expect total Adjusted operating income of around $76,000,000 an increase of 34% over the prior year with over 90% being generated from our subscription business. Of the $76,000,000 in adjusted operating income, We would expect to invest approximately $69,000,000 in acquiring pets within our subscription business, which At our targeted internal rates of return results in a pack 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%. For the full year of 2021, we continue to expect to spend $3,000,000 to $5,000,000 on development initiatives discussed earlier as well as on our other business pet acquisition. For the Q3, total revenue is expected to be in the range of $177,000,000 to $179,000,000 Subscription revenue is expected to be in the range of $127,000,000 to 128,000,000 representing 28% year over year growth at the midpoint.
Also keep in mind that our revenue projections are subject to conversion rate Thank you for your time today. Operator, we will now open up the call for questions.
Thank you. We will now be conducting a question and answer session. Our first question is from Shweta Khajuria with Evercore ISI. Please proceed.
Okay. Thank you. Two questions for me, please. First is on ARPU. That Increased from last quarter as well.
So could you please update us on the revised full year guide For ARPU. And then the second question is, Darryl, you said you are pleased with the progress for the 5 year plan in the 1st 6 months. Maybe if you could talk about how you're measuring progress across those 5 pillars or initiatives that you laid out as a shareholder letter? Thank you.
Hi, Swadda. This is Tricia. I'll start with the first one before I hand it over to Daryl. So we did see ARPU continue to increase, although a little bit lower on a constant currency basis. Just as a reminder, we're a cost plus model, so We're constantly looking at that and trying to hit that 71% value proposition.
We'll continue to do that for the rest of the year. We're looking at Roughly in the 5% to 6% range for the full year, just based on how we're tracking as we look to that 71 And what we expect to be flowing through.
Hi, Shweta.
So We have a number of initiatives that we outlined in the shareholder letter and we talked about recently in the shareholder meeting. Broad speaking, they include Adding more products, new distribution channels in North America and then international expansion. How are we measuring our investments in those areas? All of them have what we consider to be considerable upside And considerable upside that will not only be good for the next several years, but that could drive growth for the business for the upcoming following 1 to 2 decades. All of these initiatives are going to take a varying period of time from 12, 24, 36 months to get off the ground.
So what I am really monitoring are the milestones in each of those initiatives and how they are projecting Moving forward compared to our expectations, and in all areas, we feel really good. COVID has made international travel a little bit More challenging. So although we are moving ahead with business plans and making a lot of progress, we haven't had feet on the ground as much as we would like. But overall, the teams are doing really well. Margie, do
you have anything to add?
Okay. Thanks, Trish. Thanks, Daryl.
Our next question is from Maria Ripps with Canaccord Genuity. Please proceed. Great.
Thanks for taking my questions and congrats on strong results. So your Q3 guidance implies continued strong growth with very little deceleration From Q2, have you seen any changes in sort of consumer behavior or vet traffic over the past few weeks amidst what seems to be sort of worsening COVID conditions? And then I have a quick follow-up.
Hi, Maria. It's Maggie. So the volume is up. Our conversion rate is up. It continues to go in a positive direction.
Nothing has changed in the vet industry directly with Same thing that we've seen so far in the year and over the last year with vet shortage, vet soft shortages, rush of their fee. There is obviously, always during times like this, hence our traffic being positive, and there hasn't really been a change since last quarter.
Yes. And just as a I will kind of add to it. Our core subscription business is growing very strong and has slowed the last three quarters. As Marty said, leads and conversion rates are up. But just a reminder, the overall penetration rate in North America is extremely About every one point of penetration is over $1,000,000,000 of revenue.
So we've got so much runway ahead of us for the next several decades In just North America, that little changes in environmental, what's happening out in the world, don't really We don't see them as much as a headwind and I think our retention rates which are at our historical highs are another Indication that we have got a big market ahead of us and the consumers are accepting our product.
Great. Thanks for that. And then secondly, I just wanted to ask about sort of the breeder channel. And I believe you talked in the past that it could be an opportunity for Trepanion. I guess, how far along are you in that effort?
And it seems like it's a very fragmented space. So Did you see sort of the opportunity there to leverage data and technology to accelerate this effort, sort of similar to what you've been doing with vet hospitals?
Yes. So I mean the Brita channel is one of a number of channels that they've all been growing, and Brita channel is one that we've been definitely investing in now for a Good few years. There is no data, as you say, it is a fragmented channel. And the reason that we like the breeder channel is because you're getting to a puppy Or a kitten, at a very early age. And for us, we believe the best number of experience is having that pet enrolled from birth, taking them all the way through to end of life.
And so it really helps in terms of messaging. It ties into our overall value proposition. It's the reason that we feel that we have such strength in our Product, so it ties in well there. We continue to invest in all of our different distribution channels. Breeder is one that we are we like a lot.
It has high High lifetime value, and we'll continue to invest in that within those guardrails as we will with any of the channels that we're performing in. But we remain excited, and it's definitely part of that
Our next question is from David Westenberg with Guggenheim Securities. Please proceed.
Hi. Thank you for taking the question. And for Ghastle on the good job. So we're hearing a lot about wage inflation, Services inflation, that's really kind of raising prices over the next couple of years to accommodate that. I know over the long run, higher prices drives demand for insurance.
Do you anticipate any short term impacts if indeed We're seeing an increase in prices that we've not historically seen over the past few years.
Well, you pointed out an underlying thing that is often misunderstood in that we are aligned with Veterinarians, with them providing the best level of care that they can. Veterinarians and their staff have gone through a lot of pressure Over the last year, wage inflation is certainly a challenge. It's been a challenge for 10 plus years. Corporate consolidation is another one. We would expect inflation to be at or above historical levels for the next What's important for us We're very encouraged by what the veterinarians are doing, referral specialty hospitals, the advancements they're making.
And it's our job just to make sure that we can continue to stay on top of it. And We do that in a very granular fashion. We share
This could be miss modeling because I can do that at certain points sometimes, I'm not perfect. So anyway, when I was looking at, I under modeled kind of what the some of the subscription costs would be, and I was trying to go through and I'm like, Everything kind of just missed me slightly or was a little bit above me in terms of subscription costs and paying invoices, variable expenses, Fizz expenses, everything was a nudge above me. Is there any moving parts in the quarter? Or did I just not do a very good job of modeling Or listening to the 72% language that you've used before because that's possible too. And that's my last question.
Yes, Dave. I would say things move around slightly quarter to quarter. At the end, we were targeting around a 14% going into the quarter, and that's the guidance we gave on AOI, and We did come in right at that. So but it's possible between the various components. Those we performed a little better on our fixed expenses, but we did invest a little heavier in some of our member Variance, variable expenses.
But I mean overall where we came in with the 14% and our adjusted operating income Was right on.
Got it. Thank you.
Our next question is from Elliot Wilbur with
Just one of the initiatives was the introduction of the medium price point plans. I was just wondering if you had any update on those plans timing wise? And then also regarding those plans, can we still expect around the 70% payout ratio for them? And how should we think of ARPU growth with the presumed greater price
as well because there are a few in there. So to start off with, how are we doing? We have actually launched since the June shareholder meeting where We announced more of the details around the low and medium ARPU products, the first of which is called PHI Direct. We just launched that in Canada in the last month, Very early days, literally just a few weeks ago. So there's nothing really to share with them.
We're happy that we've built a new hospital as a team. One of the things that we've been Really trying to balance and learn this year in the 60 month plan is that we've got a very strong growth rate today with our core subscription business. And as we build a team
muscle, how do we maintain that strong growth
rate as well as to these new initiatives? And strong growth rate as well as do these new initiatives. And I think with our numbers that you've just seen come through in Q2, we've Proven that we can do that, which is encouraging. Dow, in terms of the margin, do you want to take that?
Yes. I mean, the most important margin for us Which include low and medium ARPU, international expansion, new distribution channels, even dipping their toe on the In a monthly food subscription side, all of them are designed to have the same margin profile, where we are looking at Creating that 15% and that's our focus.
Yes. We'd just add one thing. Overall, We will as some of these things ramp up our key metrics, particularly So this year, enrolling Yes, that's it. And that's one of the things that, we're really excited about as well. Like Margie said, Really driving strong growth in our core business and these will all be
Got it. Thanks, guys.
Thank you. Our next question is from Ryan Tunis with Autonomous Research. Please proceed.
Hey, guys. Thanks. Good evening. I guess on the underwriting front, with things reopening, Whether it's frequency incidents, I'm not exactly sure what you call the number of claims in pet insurance, but Are you seeing a higher level of frequency or utilization that maybe people are putting off surgeries, things like that?
No, I mean, our product is Accident and illness. And the accident and illness, there was a slight dip in Frequency in the beginning of COVID, I described it at the time as being like a snowstorm. If you called your veterinarian, you said my dog is limping a lot or a little bit and it's got a lump or a bump, do I need to come in today and the I'd like to see them soon, but it's not critical that you're here today. That slowed down frequency in the beginning of Q2 of last year. It also dramatically slowed down wellness visits.
So people going in for flea control, vaccinations, teeth cleaning, etcetera. But the frequency of our business is very stable. And going really into Q3 and Q4 of last year, We were back to normal frequency levels and they've held steady since then.
Got it. That makes sense. And then just on the pack, I'm not The pet acquisition costs, I'm trying to split hairs. But last quarter, we were using $280,000,000 as the assumption And it crept a little bit above that. I think you mentioned 280 earlier in the call is what you're thinking about for the rest of the year.
I mean, Should we interpret that as guidance? Or is it kind of do you think it will probably more likely continue to tick up?
Well, I
mean, we do our we target our pet acquisition costs based on the internal rate of return. So our guardrails are anywhere from 30% to 40%. The guidance that Trish mentioned on there was assuming we hit a 35% at the midpoint of Our internal rate of return and that our lifetime value remains steady of where it is today. But the lifetime value of our pet has gone up about 14% over the here because of the increase in ARPU and the increase in retention rates. So A little bit lower, but I think we're kind of splitting hairs.
I mean, for us, the goal is a large underpenetrated market, and We're happy with the internal rate of return anywhere between 30% 40%. We're right now saying, The whole team, they're cooking with gas. We've got our foot on the accelerator. We're trying to do it in a very disciplined way. So we're monitoring where we're spending our money By breed, by channel, by geography, but we're in growth mode.
Got it. And then just a housekeeping item, Depreciation and the development costs, I know those are strict, but is this quarter a pretty good run rate to use for the rest of the year?
Yes. I think particularly on depreciation, development, We're managing that more on an annual basis, between 50 and 100 basis points of revenue depending on the year and the other initiatives We have going on. This particular quarter, the development expenses ticked up just based on the number of initiatives, but On an annual basis, that's how we look at it?
Thank you.
Thank you.
Our next question is from Greg Gibas with Northland Securities. Please proceed.
A couple of quick ones. It seems like there was some revenue upside Just wanted to ask how the initial reception
In that, Sheldon, let me say, I think We're still very much in this phase of putting everything together and making sure that when we do kick off our tax So we still got a fairly long run As with everything in our 60 month plan, we expect them to come on a different time. So this is something that we continue to work We've got some focus on this, making sure that we can do it right, and we'll be able to update as and when that test kicks off and we can give more information then.
And I can speak to your first question. You're correct. We did over perform on both segments, the other business revenue being one of them. As a reminder, there's a few different things in our other business revenue, all of them or in combined, it's a lower margin part of our business. 1 is we insure pets for the veteran affairs of the federal government service dogs 2, some employer benefits That we go that go through there and then 3 would be underwriting other products in the market that we Wholly owned.
And all of them performed well during the quarter, over performed. As a reminder, this segment tends to The less predictable tends to be a little bit more lumpy. And so we always try to make sure we don't get ahead of ourselves when we're projecting that out, particularly, because it's a lower margin part of our business. It's areas that we are Are happy to participate in, albeit at lower margins. But our main focus is on our core subscription business And really pushing that and the margin profiles that come along with that and the strong growth rates over 90% of our The focus is on the subscription, particularly in our 60 month plan.
That's where you'll see those initiatives come into play more.
Great. That's helpful. And with respect to your guidance, I know you don't necessarily break out Your underlying assumptions in different channels, but I was wondering maybe at a high level, how you're assuming that lead volumes trend? Are you going to For the second half of the year, for instance, are we expecting to see kind of similar levels of growth in debt leads relative to the first half?
Yes. I mean, we definitely as the TP, the territory partners, can get back out into hospitals, we're seeing that Hospital visits happening more and more frequently, which is always great. It's where that relationship is built. So that industry is still core to everything we do. So we've seen that lead volume continue to pick up, as I mentioned, and that is our core channel there.
So I anticipate that that continues to be strong. When we talk about the way that we deploy our capital and the way that we can invest the money, put 30% to 40%, we're going to keep doing that. And I think I think that to the earlier question, we're actually in a position where we're driving an awful lot more leads than we're converting. So we're thinking about that 30% to 40%. We're staying in that guardrail to be really efficient.
So we know that the opportunity is there for us to go and crank the lever on lead volume as well as try and keep our conversion rate high. So That will no doubt continue to perform very strongly for us, and the team is doing a great job of keeping that lead volume up.
I guess
I had a comment for people that are new listeners to Trupanion. Trupanion has over 150 plus people in the field calling on Veterinary hospitals are typically trying to visit them every 60 days. We're the only company in the category that has a dedicated sales force. And And during COVID, like everybody else, they were stuck at home and they had to learn how to deal with telephone communication, texting, zooming. And the field is excited and to be able to get back in their cars and make those connections.
We will have to all watch what happens with COVID, but we are really eager to be in the field and We expect strong growth from that segment of our business.
Great. Thank you.
Thank you. Ladies and gentlemen, we have reached the end of the question and answer session and this will conclude today's conference. You may disconnect your lines at this time. Thank