Lemonade, Inc. Q2 FY2025 earnings call

• Leveraging AI to pinpoint target risks accurately and achieve profitable growth concurrently. - Lemonade Car's growth in the first half of the year significantly exceeded original financial plans, with in force premium crossing $150 million. - Europe's business is a key engine of rapid profitable growth, with growth acceleration paired with improvement in underwriting performance due to the AI platform's structural cost advantages. - Renewed reinsurance program with quota share reduced from 55% to 20% based on multiyear loss ratio improvement. - Q2 financial results were exemplary with IFP growth, improved loss ratio, gross profit growth, and strong adjusted free cash flow generation. - Proprietary technology platform LoCo enables rapid building of new products, launch of new regions, etc., with unmatched efficiency.

For the second quarter of 2025, Lemonade's in force premium (IFP) grew 29% year-on-year, marking the seventh consecutive quarter of IFP growth acceleration. The gross loss ratio for Q2 was 67%, 12 points improved from Q2 of last year, and the trailing 12-month gross loss ratio was 70%, the best ever. Gross profit grew by over 100% in Q2, with a gross margin of 39%. Lemonade Car saw growth exceeding original financial plans in the first half of the year, with in force premium crossing $150 million and continuing to grow, and its car gross loss ratio improved to 82% in Q2, a 13-point improvement from last year. Europe's in force premium in Q2 was $43 million, representing over 200% growth, with an eighth consecutive quarter of triple-digit growth and fourth consecutive quarter of growth rate acceleration. The European gross loss ratio in Q2 was 83%, 15% improved from last year, powered by structural cost advantages from the AI platform.

• Q3 2025 in force premium expected between $1.144 billion and $1.147 billion, gross earned premium $267 million to $269 million, revenue $183 million to $186 million, and adjusted EBITDA loss between $37 million and $34 million. - Full year 2025 in force premium expected between $1.213 billion and $1.218 billion, gross earned premium $1.036 billion to $1.039 billion, revenue $710 million to $715 million, and adjusted EBITDA loss between $140 million and $135 million. - Reinsurance transition from 55% to 20% quota share unfolds over several quarters, with Q3 2026 expected to cede roughly 20% of premium and 2025下半年 expected to cede roughly 45%, and revenue growth expected to outpace IFP growth during this transition.

• Actual results may differ materially from forward-looking statements due to various factors including those in SEC filings. - Reinsurance structure change may bring certain risks, and all else equal, less quota share increases regulatory capital needs though offset by improved loss ratio and expanded use of wholly owned captive.

Q: Just a few questions around the reinsurance and the reinsurance change because I know a lot of clients have some questions there. So obviously, you're holding more risk, but there is no free lunch. Maybe just talk a little more about the structures you have in place, the way you can manage risk and if there's ways to -- how you manage -- just the different ways that you can now manage the risk. And then there's like a follow-up to that, does this reflect some kind of step function in the company's ability to manage risk? So like why now, I guess, is the question, right? So first is, structurally, how you plan on managing it going forward as this evolves? Two, why now? And then I guess the third is you did say revenue will outpace IFP, especially through this transition. But how should we think about gross profit relative to IFP growth?

A: Jason, it is a significant change. It's been -- I guess the only constant here that we've been, every couple of years, stepping down the amount of quota share reinsurance since IPO from 75% down to 55%, now to 20%. So in that sense, it's a continuation. But nevertheless, a drop from 55% to 20% is significant, and I think worth spending another few minutes on. The first thing that I'd highlight though, and then I will hand over to Tim to add a bit more color on some of these points, but quota share for us was not predominantly about risk management at all. We can use reinsurance to serve different goals. We have actually other policies in place that do manage risk concentration. So you see when a CAT hits, for example, like the one that hit in Q1 in the California fires, and you saw that our gross loss ratio was much worse than our net loss ratio. That wasn't the quota share that was helping. Quota share, in theory, will produce very similar gross and net loss ratios because you cede X percent of premiums and you cede the same X percent of claims. At first approximation, the gross and the net should be similar. If anything, because some CAT events are excluded from the quota share agreement, you might see slightly worse net than gross loss ratios in quota share. In fact, we saw significantly better net loss ratios, and that was because of other policies that we have in place about risk concentration covering losses beyond a certain dollar amount or too many losses in a particular quadrant or something like that. So we have various policies. Those continue. The policies that we have in place that are helping us protect against risk concentration are not being materially changed. Quota share was in place, as I say, not predominantly as a tool of risk management, but much more so as a tool for capital management. The regulators require that we set aside a certain percentage of our premiums. There's kind of a rule of thumb of 3:1. But when the insurance entities are fast growing and loss-making, it can be more cumbersome still. And once you cede those premiums to quota share partners, it is really their capital rather than yours and their cost of capital are lower. So we saw quota share predominantly as a tool for managing that aspect of our business, remaining capital-light through quota share. As the last few quarters came in and we have consistently lowered and stabilized our trailing 12-month loss ratio, I mean 67% this past quarter, trailing 12 months, which I think is the more dependable metric, if you like, less volatile, less given to the vicissitudes of a particular event. 70% trailing 12-month loss ratio is simply fantastic and perfectly aligned with our long-term goals. And what that has meant is that our insurance entities have moved from being loss-making to profit-making. Rather than consuming capital, they are generating capital. And that is something that changed over the course of the last few quarters as we indeed became cash flow positive, we reported a $25 million adjusted cash flow this past quarter, a tenfold increase year-on-year. It is that more than anything else that's allowing us to take on board less or to utilize less quota share reinsurance. And of course, our quota share partners have been stellar. They've been amazing. They've been with us from the get-go. They are the biggest and most trusted names in the industry. But as you say, no free lunches. When you engage in quota share reinsurance, you are really margin stacking. You are giving up part of your business. You're getting the gains that I outlined before, predominantly capital efficiency, but you are sacrificing some of your EBITDA. And you really want to use, or we really want to use as little of that as we need given our capital requirements. So that more than anything else is what's changed. We've moved from being businesses that are draining cash to those that are generating cash. Low loss ratios have changed the capital requirements significantly in those entities, and that is what is allowing us to be less dependent on quota share, and we made those adjustments. Tim, anything you want to add? Timothy Bixby: Yes. Just a couple of points on the second part of your question, Jason. One of note is that before we even get to our reinsurance structure, we do take advantage of one of our assets, which is our ability to grow at a very healthy clip, but be very selective about the risks that we take in the business that we write. And so in some ways, we enforce our own level of reinsurance by writing in certain areas of risk and not writing in others. Our risk in Florida, for example, is quite limited relative to a typical incumbent. Our experience in the California fire CAT of Q1 was -- before we even got to reinsurance -- relatively limited because we're choosy about the level of risk we take in terms of high-value homes. And so that's a layer that sort of underpins our reinsurance. Then we layer on reinsurance, of course. The bulk of the reinsurance structure at renewal remains unchanged. The quota share change in terms of its cede ratio was notable. Everything else is more or less in place and continuing. So we have protection against concentrated losses. We have protection against single large losses in our PPR and our FC coverage, and those continue and were renewed at similar structural impact as in the past. With regard to the impact on gross profit and revenue, a couple of things. We included a pretty straightforward example of what $1,000 of premium would look like under the old structure and now under the new structure and how it flows through each of the key P&L items -- line items. I would urge you to kind of look at that in the back of the shareholder letter today. And I think that will be helpful to sort of navigate how the model is expected to evolve, particularly over the coming 4 quarters as the change in the ceding ratio comes more into play. At a very high level, the impact on revenue is greater than the impact on gross profit. Gross profit for many quarters has grown at a very healthy clip, well ahead of the top line growth of IFP and premium, and that's because of -- you're combining 2 elements there. You're combining the benefit of growth as well as the benefit of significant loss ratio improvement. And so those dynamics will continue, but our loss ratio now that it's nicely in our target range, those shifts will be somewhat less than they have been over the past few years, and that's good news. Revenue, on the other hand, will be a little more -- will grow at a faster pace, again, as the reinsurance change rolls in. And again, you should see those dynamics in the example that we shared.

Q: Maybe to simplify the previous question in response, Tim, I think a couple of years ago, you guys put out a slide, an illustrative slide showing the premium leverage that you could write at. Do you have an update on what sort of premium leverage on a gross basis you can write at and then how that changes under this new reinsurance structure?

A: Sure. I think you're referring to some comments we've made from time to time regarding the capital surplus requirements relative to the premium we can write. Is that the crux of the question, I think? Thomas Mcjoynt-Griffith: That's right. Timothy Bixby: So you're correct to sort of trace the history a bit. When we shifted to a more material quota share reinsurance structure several years ago, one of the primary benefits, as Daniel noted, was a capital surplus benefit. Since then, a few things have happened. Our volatility has decreased. Our trailing 12 months loss ratio has come very much in line with our long-term targets. Our book is much more diverse. And we've put in place a couple of structural aids to captive reinsurers that are wholly owned or partially owned that we can now leverage. And the net of all that is our capital planning is substantially unchanged. How much of that capital surplus benefit we get from quota share versus our own captive entities has shifted somewhat. And so some of the surplus benefit that we give up as a result of the quota share shift, we get to retain more profit, we're able to replace that essentially in whole through our captive reinsurer or captive structures. So net-net, we've talked about a 6:1 target ratio in the past. Historically, we've been above and below that ratio depending on how the loss ratio and the premium growth and some other factors that impact that ratio have changed. But over the coming several year outlook, that ratio target for us is unchanged.

Q: I heard you talk about OpEx growth and growth spend or OpEx spend. Can you maybe just expand on technology development spend? It was kind of flattish year-over-year and lower as a percentage of premium earned. But I would think as just a tech-forward company, you're still going to be spending a bit. How do you see that kind of going into '25 and '26?

A: Yes, that's a line where you see really terrific leverage. So when you think about the productivity of that team, it's growing dramatically. Exponentially, it might be a stretch because of a math major, but it is growing significantly. The amount of product and content that's coming out of what's really roughly a fixed team in terms of size and cost continues to increase every day, every week, every month. And that's a trend that we've seen for some time. If you track our headcount, that's a big part of why we've been able to see actually a decline in total headcount. That doesn't mean there's a decline in hiring. There's natural turnover that happens at a company. And so we're constantly looking for great skills and assets to bring into the business, and that's something that does not change. Shai Wininger: Yes. I guess I'd just add, Andrew -- sorry, just to add, we're seeing in our engineering team some things that we spoke about in our Investor Day at length with regard to some of our volume teams, which is that we have capacity working for Lemonade, but it's just not all human. So we're finding that we're able to harness AI in engineering in very powerful ways. You've seen some of the largest tech companies in the world talk about how much of their code is now being written by AI, how much velocity they're able to extract from using these technologies. So definitely, our output continues to grow even if our human headcount does not.

Q: I wanted to circle back to the IFP guide, which for the full year, it looks like it hasn't changed despite significantly better-than-expected results this quarter. I was wondering if you guys could walk us through the thinking there and any timing considerations to keep in mind as the year progresses? And then sort of as an addendum, how much of the 28% growth that you guys are guiding to for the full year is expected to come from the Car product?

A: Sure. So in terms of the overall growth, an IFP is really the best measure, most direct measure of that. We grow at a pace of our own choosing. And so while there's some range around the pace of growth, the amount of dollars we spend and the pace at which we spend it really drives that growth number. So our strategy for the remainder of the year takes into account what happened in Q1. So we've acknowledged the fact that we performed somewhat better on certain metrics. But despite our disclosures around the California wildfires as being separate and different and unique, although which it was, it's part of the business, and it was a cash use, and we have to manage that business. So we're managing the top line. We're managing the bottom line. We were able to reiterate that we will be EBITDA breakeven at the end of next year, which is a date that hasn't moved since we started speaking about it a few years ago. And so we're managing all of those things and still on track to accelerate the top line growth rate. We could grow faster. This has been true for a very long time. But growing faster would change the dynamics of the rest of the P&L. And so we approach in sort of a balanced way. So we don't just roll forward the first quarter, but we do take into account the results of the first quarter. Katie Sakys: And on the Car piece, how much of the full year growth are you guys currently expecting will come from Car?

A: So we haven't put out a specific number for good reasons. One is we're very opportunistic, and our LTV models tell us where to go and how fast to go and when to really push the accelerator. But within reason, I would expect a similar dynamic as we saw in Q1 to continue, which is that Car is expected to grow at a faster pace than the rest of the book, and we expect that to continue for quite some time. And if everything stays on track as we expected, I would expect that pace to even accelerate. But I would expect the themes you saw in Q1 to continue throughout the rest of the year.

Q: It definitely sounds like the cross-sell opportunity is very important to gain some operating leverage around the growth spend. Perhaps one data point you could share is what percentage of the new car sales that you guys are generating are cross-sales from existing Lemonade customers versus new customers?

A: Yes. So I think in terms of trends in the quarter, we saw more of our growth coming from cross-sells, more of our growth coming from car. I think if you look at a couple of the metrics, you can see this dynamic. One is our multi-policy rate is increasing, and that's a dynamic that's not solely related to car, but we're now heading towards almost 5% of our customers having multi-policy. In terms of the cross-sell aspect, something like half of our new sales are now coming -- of car coming from existing customers. That's up. If you look back over a longer period of time, that would have looked more like 1/3. So still plenty of room to grow, but definitely an upward theme. So something on the order of half of those cross-sells coming from existing customers. And 2.5 million to go, 2.5 million less the ones we have already. So it's a pretty deep pool and a much more efficient way to acquire new business.