It’s been about a week since Lemonade (NYSE:LMND) reported its fourth-quarter 2021 results. Unfortunately, the Certified B-Corp didn’t do a lot right in the final quarter of a terrible year. As a result of its less-than-stellar performance, LMND stock continues to fall well below its July 2020 initial public offering (IPO) price of $29.
It’s been well over a year since I last wrote about the insurtech that sells renters, homeowners, car, pet, and life insurance to customers in the U.S. and Europe. Unfortunately, its share price has lost 71% of its value in that time.
In my September 2020 article, I suggested that were its shares to fall into the $40s — it was trading at $72 — LMND shares might be worth considering. I recommended investors wait to see if it retested $45 in the future.
Unfortunately, I also said that “if you have some fun money you can afford to lose, buying over $50 shouldn’t kill you, but you’ve got to hold for longer than a year or two to benefit from Lemonade’s growth.”
Ouch. My bad indeed.
Although the headline suggests Lemonade’s year was a tire fire, not everything about Lemonade’s business screams “run for the hills.” Especially not at $21. The question is whether it can truly deliver for shareholders in 2022? Maybe.
Let’s have a look.
LMND Stock and Accumulating Losses
Lemonade had a net loss in 2021 of $241.3 million. That follows a loss of $122.3 million in 2020 and $108.5 million in 2019, which is why its accumulated deficit is $561.9 or $9.11 a share. It’s got a lot of work to do if it wants to turn that deficit into a surplus.
In my article from last September, I referenced the company’s 2020 revenue projection of $87 million. It came in at $94.4 million. In 2021, revenues grew 36% to $128.4 million. The company expected a gross earned premium of $147 million in 2020. It was $158.7 million, jumping 84% to $292 million.
The company makes money in four ways: net earned premium, ceding commission income, net investment income, and commission and other income. The latter two revenue streams aren’t material to its business results. So I won’t bother to discuss them.
Currently, its most significant revenue stream is net earned premiums. In the first six months of 2021, it ceded 75% of its premiums to reinsurers. In the second half of the year, that dropped to 70%. Hence, its ceded earned premium in 2021 was 74% of $292 million for a net earned premium of $77 million [$292.0 million less $215.0].
The company’s ceding commission income in 2021 was $44.9 million. The company is paid a fixed fee of 25% for every dollar ceded. However, because it switched from ceding 75% of its gross earned premiums to 70% halfway through the fiscal year, its ceding commission income works out to 20.9% [$44.9 million divided by $215.0 million], 410 basis points less than its 25% fixed fee.
The big problem for Lemonade in 2021 was the 22 percentage point increase in its net loss ratio to 93% from 71% in 2020. The net loss ratio is defined as the loss and loss adjustment expense divided by the net earned premium. This means that of the $77 million in net earned premium, $71.9 million represents the estimated cost of losses on the insurance policies not ceded to reinsurers.
Lemonade faces a problem: it has a relatively low adjusted gross margin of 36%. In 2021, that worked out to a gross profit of $45.6 million. However, its sales and marketing expenses in 2021 were $141.6 million, 3.1x its gross profit. That means it lost $96 million before it allocated any money to salaries and research and development.
It doesn’t have a revenue problem; it has an expense problem.
What’s Looking Good
The company’s Q4 shareholder letter states that it believes it’s gotten to the point where it’s completed the heavy lifting necessary to get on a pathway to profitability.
“While we will continue to develop new products and new technologies for many years to come, for the first time we believe we’ve achieved a critical mass of both, enabling us to shift resources to harnessing our technology to lower expense ratio through automation, and loss ratio through machine learning, while growing LTV/CAC [Lifetime value divided by customer acquisition cost] through cross selling and bundling.”
It provides the example of its Illinois business, where 75% of its customers there buy more than one type of policy. That’s great to hear, but it doesn’t have a revenue problem, as I said in the previous section.
The company believes that it can use automation to lower its expense ratio. Maybe it can. However, it’s hard to overlook its operating expenses in Q4 2021 increased by 89%, to $84.5 million. On the bright side, its sales and marketing expenses accounted for 44% of its total operating expenses, down from 51% in Q4 2020 and 49% in 2021.
So, it’s heading in the right direction, albeit slowly.
In November, it announced the acquisition of Metromile for $500 million in stock. Metromile is a digital insurance platform that sells insurance policies based on actual miles driven rather than approximations. Assuming it gets the green light from regulators, it will make an excellent addition to Lemonade’s business.
Another positive is the company’s cash position. At the end of December, it was $1.1 billion, or $17.39 a share. That’s 85% of its share price. Back out the cash, and investors value the business operations at $200 million based on a $1.3 billion market cap.
Assuming it uses $200 million in cash in 2022 for its operations, up from $144.6 million in 2021, it will still have more than $800 million on the balance sheet at the end of the year. Yet, its guidance calls for $202 million in revenue at the low-end of its range, 58% higher than in 2021.
The Bottom Line
There are a lot of question marks. That’s a certainty. However, I think there’s enough meat on the bone to suggest $29 might have been the correct IPO pricing for Lemonade stock.
When it traded at $70, anyone could see that it was overvalued. But, as it was losing money when I looked at it in September, I came at my analysis purely from a revenue story, forgetting that profits do matter to many investors.
If you’re a risk-taker, I’d consider a half position in the low $20s. Then I would wait to see if it can grow revenues faster than operating expenses over the next few quarters. Then, finally, I’d buy the other half position if Lemonade demonstrates it’s making more headway.
It’s an interesting business with a great deal of potential. I’ll give it that.
On the date of publication, Will Ashworth did not have (either directly or indirectly) any positions in the securities mentioned in this article. The opinions expressed in this article are those of the writer, subject to the InvestorPlace.com Publishing Guidelines.
Will Ashworth has written about investments full-time since 2008. Publications where he’s appeared include InvestorPlace, The Motley Fool Canada, Investopedia, Kiplinger, and several others in both the U.S. and Canada. He particularly enjoys creating model portfolios that stand the test of time. He lives in Halifax, Nova Scotia.