2023-11-02 10:54:19 ET
Summary
- Lemonade, Inc. had a good Q3 2023 with rising in-force premiums and a respectable gross loss ratio.
- However, growth is slowing down and the company is still experiencing significant losses.
- We examine the best-case scenario for the company and tell you why that should have you worried.
It was a no-frills verdict. Last time around, we wrote that Lemonade, Inc. (LMND) would make sense only if two criteria were met.
So if LMND were profitable and consistently so, we would be willing to pay between $11.50 and $16.00 a share.
Source: The Big Q1 Beat .
This was despite the big Q1 2023 "beat." The stock is at about the same level today, despite a very huge bump post the Q3-2023 "beat."
Seeking Alpha
We go over the results and tell you why you need to curb your enthusiasm.
Q3 2023
LMND had a good quarter. There is no doubt about that. Its in-force premiums (a favorite measure of the company) rose again and growth was 18% over 2022. The gross loss ratio came in at a respectable 83%.
LMND Q3-2023 Shareholder Letter
While the growth numbers have been good, it is important to differentiate between their organic side and their acquisition of Metromile. That event was completed on July 28, 2022, and the year-over-year numbers still show a degree of boost from that partial quarter effect. More important today is the quarter-over-quarter figure and you can see that last quarter, in-force premiums were at $687 million.
LMND Q2-2023 Shareholder Letter
In other words, growth is really slowing down here and the AI-based organization is not going to grow out of its problems.
Getting back to metrics that worked, LMND showed the gross loss ratio playing out as well as it had predicted. Except for that baby bump in Q2 2023, of course.
LMND Q3-2023 Shareholder Letter
LMND also referenced the performance they are seeing now with what they referenced in their path to profitability investor day slide, about a year ago.
LMND Q3-2023 Shareholder Letter
This all sounds and looks impressive. The company appears to be making headway towards its goals and everything is working according to plan.
The Numbers That Matter
At the heart of our problem with slapping a buy rating is that the company is still a giant sink for dollars. Yes, this quarter the loss was "only" $0.88 a share, but this is a $13 stock. Now, in the slide below, we do see some good expense control, something that was sorely lacking in quarters past.
LMND Q3-2023 Shareholder Letter
Sales and marketing and general and administrative expenses actually declined year over year. The latter could be an anomaly of the Metromile acquisition once again. The key focus point should be on the loss and loss adjustment expense. Yes, it is lower than the net premium earned, but this is also likely one of LMND's better quarters. Insurance is lumpy and even in this quarter, losses were quite high. A simple exercise we can do here is a "what-if" scenario. What if revenues doubled and only the loss and loss adjustment expense line doubled? In other words, we will give our AI-friendly company, the full benefit of economies of scale. We will also do it from a quarter where they had a low loss ratio. So what would happen if they got there? You would add $114.5 million in revenues and $75.9 million in expenses. So you would improve profitability by $38.6 million. Now compare that against the net loss of around $60 million in this quarter. So your best case scenario with a doubling of revenues is that the company will not hit profitability.
Outlook & Verdict
It is easy to get excited about earnings beats, but we have to point out that even the company's own adjusted measures have been better.
LMND Q3-2023 Shareholder Letter
The guidance for Q4 2023 shows another 1.5% increase in in-force premiums. Here is the kicker, the one that should get you sitting up. Revenues are going to decline in Q4 2023.
LMND Q3-2023 Shareholder Letter
Again, not our words, it is in the slide above. Expected revenues of $108 million (midpoint), are lower than $114.5 million in Q3-2023. Whatever the final number we do see, growth is now slowing to a crawl. That is not necessarily a bad thing as so far more revenues have generally meant more losses for this company. We have been laser-focused on the balance sheet . The numbers we once again draw your attention to are the total equity excluding intangibles and goodwill.
LMND Q3-2023 Shareholder Letter
That works out to around $680 million, and we are expected to have about 70 million shares outstanding. That is your tangible book value of around $10 a share. Now you can take that and add the best numbers for the next two years. Here by best, we mean the lowest losses analysts are envisioning.
So that comes to another $5.00. So your best case is that tangible book value will be $5.00 in two years. One related fact is that the revenue estimate for 2026 is $721 million. Granted, only a brave soul is opining on this, but we take what we get.
Our point here is that we are likely to run into some natural limits of how much revenue can be earned on total equity of about $350 million (estimated 2025 end equity number). While LMND does not sport the market capitalization it once did, it might still make sense for the company to issue new equity as it is trading substantially over tangible equity this morning.
We maintain a neutral/hold rating as the company can still issue equity assertively here and the longer-term profitability issues are counteracted by the huge short interest.
For further details see:
When Life Gives You Lemonade, Book Your Tax Losses