Annual Report
2018
TRUPANION.COM
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APRIL 25, 2019
TO OUR SHAREHOLDERS,
This letter is being published a few months shy of our five-year anniversary as a public
company. Looking ahead to the next five to ten years, our annual goal is to grow
revenue 20% to 30%, achieve and maintain an adjusted operating margin of 15% of
revenue, and reinvest as much of it as possible while achieving an anticipated internal
rate of return (IRR) between 30% and 40% for a single average pet. If we can achieve
these three goals on an annual basis while continuing to build moats around our
business and maintaining our culture, we will have had a good year.
By these measures, 2018 was a good and consistent year. Revenue was up 25%, our
adjusted operating income grew 36%, and our Pet Acquisition team was able to
deploy $24 million dollars which, based on our calculations, provides a 37% internal
rate of return on a single average pet.
As we approach our fifth year as a public company and pass mile nine in my
marathon analogy, it’s the right time to go back to our values and ask, “Have we done
what we said we would do?”
On the whole, my answer is yes. But before I go into why, I want to set the stage by
opening with our inaugural shareholder letter to give you a chance to reset with me
around who we are as a business, why we are here and what we believe in.
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April, 20 2015
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5 YEAR REFLECTION
When I re-read the 2014 shareholder letter (and the 2015, 2016, and 2017 letters) and
review our five-year report card, I feel good about our progress so far. That said, we
have a long way to go to become the company we aspire to be. That is why we are
on mile 9 versus mile 26!
With a 30,000-foot perspective, I would describe our first five years as relatively
predictable with important highlights, failures, learnings and departures.
5 YEAR REPORT CARD
REVENUE & PET GROWTH
ADJUSTED OPERATING MARGIN (AOM)
In our inaugural letter dated April 2015, we target
650,000 to 750,000 pets in 5 years or by Q2 of 2020.
Certainly no guarantees, but we are tracking to
achieve this.
Goal is to be at 15% by Q2 of 2020. Fixed expenses are
scaling, but we need to watch this metric based on
cash flow as we have been capitalizing some of our IT
spend. Also, our subscription cost of goods (what we
spend paying veterinary invoices) has been tracking
200 basis points higher than our plan.
IRR
Tracking nicely
FREE CASH FLOW POSITIVE
PATENTED SOFTWARE THAT ENABLES
US TO PAY VETERINARIANS DIRECTLY
WITHIN MINUTES, ELIMINATING THE
TRADITIONAL MODEL IN WHICH A
PET OWNER HAS TO PAY FOR THEIR
SERVICES OUT OF POCKET AND WAIT
FOR A REIMBURSEMENT
PRICING BY SUB-CATEGORY
Our stated goal was to be free cash flow positive in Q2
of 2016. We achieved this goal. Our subsequent goal
was to remain free cash flow positive while spending
as much of our discretionary profits (AOI) as possible
acquiring additional pets with IRRs between 30% and
40% for a single average pet. We achieved these goals.
Software and member experience is going very well.
Would have hoped to be further ahead on the number
of deployments.
Making good progress, particularly in the last 2 years,
but a little behind where I would have expected we
would be 5 years ago.
ACTIVE HOSPITALS
We have added approximately
700 new hospitals each year.
SAME STORE SALES
Better than expected and it appears to be scalable.
NUMBER OF TERRITORY PARTNERS
More in total, meaning we have added more 2nd
and 3rd Coca-Cola trucks (Territory Partners) than
previously anticipated, but we are behind in the total
number of markets covered from what I would have
expected.
A-
B
A
A+
B
B
B
A
B
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TABLE 1. KEY METRICS
YEAR
REVENUE
YEAR-OVER-YEAR CHANGE
ADJUSTED OPERATING INCOME (AOI)
ADJUSTED OPERATING MARGIN (AOM)
PET ACQUISITION COST (PAC)
INTERNAL RATE OF RETURN (NEW PETS) *
FREE CASH FLOW **
2014
$115.9M
38%
$0.9M
1%
$11.1M
N/A
($16.4M)
2015
2016
2017
2018
$146.9M $188.2M $242.7M $304.0M
27%
$3.6M
2%
$14.8M
N/A
($15.3M)
28%
$14.8M
8%
$14.7M
31%
$3.1M
29%
$23.4M
10%
$18.4M
35%
$6.5M
25%
$31.9M
10%
$23.7M
37%
$8.3M
*See Table 4 for the IRR calculation for a single average pet.
** 2018 free cash flow of $8.3 million reflects free cash flow of ($44.3) million, adjusted to exclude the $52.5
million used to purchase our building.
5 YEAR HIGHLIGHTS:
• Claims automation was an unexpected surprise. Claims automation and an
increase in same store sales occurred because of our commitment to our
software.
• Same store sales is a metric that we use when thinking about penetration rates
per veterinary clinic. Same store sales are higher in veterinary hospitals with our
software, an Account Manager and a Territory Partner.
• In our commitment to be the low cost provider by eliminating frictional costs,
we purchased our building. By owning our building and eliminating rent, we
reduce frictional costs by 100 basis points, meaning we save 1% of revenue. At
the same time, we were approved to contribute portions of the building over
time to our surplus (the cash we need on hand if every cat and dog were to
be hit by a car on the same date, which is equal to revenue divided by 4.8).
This frees up cash we would normally need to put into surplus, which means we
have more cash on hand to grow the business.
5 YEAR LEARNINGS:
At ground level, along the way we’ve had our share of execution mistakes, but I would
describe them as typical execution and growing pains. We’ve had no significant
misses.
IN 2015, WE MADE STUMBLES WITH:
• Onboarding new colleagues
• Lack of execution on educating pet owners about the benefits of our
approach and value proposition compared to competition
• Sub-category pricing
• Fixed expenses — should have targeted a lower spend
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IN 2016:
• Our dogged focus on financials led to operational compromises: we grew too
cautiously; didn’t execute on as many tests as desired; put significant strain on
ops team. Culture took a back seat; team members didn’t feel heard.
• Our growth surpassed human bandwidth to handle failed payments (solution
was to upgrade the systems and tools).
• Biggest disappointment was Nirvana — not only did we not make forward
progress, we took a small step backward.
IN 2017:
• I slowed down the team and hurt alignment when poorly describing why
something is important to the organization.
• There was not enough progress on Nirvana.
• We were spending money on things people don’t care about (e.g; postage,
snail mail); need lower frictional costs.
• We need to be better at trusting one another — a prerequisite for innovation,
nimbleness and growth; we have too much cynicism around our “how.”
• Some team members don’t have a clear path to higher compensation if they
stay in their same roles.
5 YEAR DEPARTURES:
• In 2014, I implied that we would target IRRs greater than 40% in the future. In our
2017 shareholder letter, we stated that we intend to target our IRR for a single
average pet to be between 30% and 40%. We came to this decision based on
the industry’s low penetration rate and large addressable market. Said another
way, targeting higher IRRs at this stage of the category’s growth feels wrong.
We want to be more aggressive for at least the next 5-10 years.
In short, although execution is hard for any company, we are fortunate that we live in
a world where we solve a complex problem in a large, under-penetrated market, with
a direct-to-consumer monthly recurring revenue business model. These three attributes
of our business hide many of our short-term tactical mistakes. In other words, our
business model makes us look good!
For me, I am less concerned with wins and losses over a short period of time or in a
particular subject. I am more focused on monitoring our progress in pursuit of long-
term goals. We’re always juggling, always measuring, always learning. Two steps
forward and one step back is progress.
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2018 IN REVIEW
As I mentioned earlier, 2018 was a good and consistent year. We kept digging our
moats and building our team as we attempted to advance the ball on our five
strategic initiatives (AOM expansion, increasing conversion rates, automated claims,
same-store sales, Nirvana), which we believe will help us in the long term. In some
areas we made more progress than others, though overall I am pleased.
Quarterly Revenue by New vs. Existing Pets
(dollars, in millions)
Existing Pets
New Pets
$82.6
$78.2
$73.4
$69.8
$66.6
$63.1
$58.3
$54.7
$51.3
$48.4
$45.8
$42.7
$40.2
$37.9
$35.6
$33.3
$31.9
$30.3
$28.1
$25.6
$24.0
$22.1
$19.8
$17.8
$15.9
$14.5
$13.2
$12.0
$9.9 $10.7
$8.8
$7.6
$5.3
$6.3
$4.4
$3.1
2010
2011
2012
2013
2014
2015
2016
2017
2018
Quarterly Premium by Policy Start Year Cohorts
(dollars, in millions)
$90.0
$80.0
$70.0
$60.0
$50.0
$40.0
$30.0
$20.0
$10.0
$0
$90.0
$80.0
$70.0
$60.0
$50.0
$40.0
$30.0
$20.0
$10.0
2010
2011
2012
2013
2014
2015
2016
2017
2018
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We ended the year with over 520,000 total enrolled pets and an adjusted operating
income of approximately $32 million (the cash remaining after we spent almost $214
million paying veterinary invoices, nearly $38 million in variable expenses supporting
our members 24/7 and approximately $20 million on fixed expenses, which includes
our investments in technology as well as general administration costs). When you take
the total money we received from the 520,000 plus total enrolled pets, our financials
broke down as follows, as a percentage of revenue:
TABLE 2. KEY MARGINS
REVENUE
LESS: PAYING VETERINARY INVOICES
LESS: VARIABLE EXPENSES
LESS: FIXED EXPENSES
= ADJUSTED OPERATING MARGIN (AOM)
(PROFITS BEFORE SPENDING
ON PET AQUISTIONS)
2018
100%
70%
13%
7%
10%
The Pet Acquisition team, led by Margi Tooth, our Chief Revenue Officer, spent
approximately $24 million of our AOI enrolling over 120,000 new subscription pets. We
anticipate that we will earn an approximate 37% IRR on our pet acquisition spend
(as calculated in this letter on a single average pet basis). Our free cash flow after
acquiring these pets was approximately $8 million (excluding the building purchase).
As the following chart demonstrates, we have been improving our key financial
measures since becoming a public company in 2014!
TABLE 3. FINANCIAL PERFORMANCE 2012-2018
YEAR
ENROLLED
PETS
REVENUE
YOY
REVENUE
GROWTH
ADJUSTED
OPERATING
INCOME
INVESTED
CAPITAL TO
ACQUIRE
NEW PETS
IRR ON AN
AVERAGE
PET
CASH, SHORT TERM
INVESTMENTS, OUR
BUILDING ASSETS,
MINUS DEBT
EARNINGS
(NET LOSS)
2012
2013
2014
2015
2016
2017
2018
127,704
182,497
232,450
291,818
343,649
423,194
521,326
$55.5M
$83.8M
$115.9M
$147.0M
$188.2M
$242.7M
$304.0M
50%
51%
38%
27%
28%
29%
25%
$3.0M
$4.3M
$0.9M
$3.6M
$14.8M
$23.4M
$31.9M
$6.7M
$8.4M
$11.1M
$14.8M
$14.7M
$18.4M
$23.7M
N/A
N/A
N/A
N/A
31%
35%
37%
$5.1M
$7.9M
$60.6M
$43.2M
$48.8M
$54.4M
$134.7M
($8.1M)
($8.2M)
($21.2M)
($17.2M)
($6.9M)
($1.5M)
($0.9M)
* 2018 cash, short-term investments, our building assets, minus debt factors in the purchase of our
headquarters building in August 2018, which consisted of $46.4 million of building and improvements, $15.8
million of land and improvements, and $3.0 million of lease-related intangible assets.
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TABLE 4. 2018 IRR CALCULATION FOR A SINGLE AVERAGE PET
MONTHS
AOM
71.4
1.40%
ARPU
10.50%
$53.44
MONTHLY CHURN
YEAR
MONTHS
AOI
CAPITAL CHARGE
PAC
FCP
0
6
$34
$(3)
$(164)
$(134)
1
12
$67
$(7)
2
12
$67
$(7)
3
12
$67
$(7)
4
12
$67
$(7)
5
12
$67
$(7)
6
5.4
$30
$(3)
$61
$61
$61
$61
$61
$27
71.4
$401
$(40)
IRR
37%
AOM = Adjusted Operating Margin
ARPU = Average Revenue Per Pet (Unit)
AOI = Adjusted Operating Income
PAC = Pet Acquisition Cost
FCP = Free Cash Flow Per Pet
In search of value, one cannot look at revenue growth and IRR in aggregate. It’s very
important that we look at it on a per share basis. Although revenue grew 25% year over
year, because we had a capital raise to purchase our building, revenue only grew 17%
on a per share basis. Our adjusted operating income (AOI) grew as evidenced 28%
year over year per share. Our balance sheet is much stronger this year as evidenced
by our cash, short term investments, building assets minus debt, which increased 133%
year over year on a per share basis.
TABLE 5. GROWTH PER SHARE
YEAR
TOTAL SHARE
COUNT PLUS
OPTIONS &
WARRANTS
GRANTED
2012 22,467,205
2013 24,889,316
2014 33,813,736
2015 34,138,237
2016 34,879,610
2017 35,444,460
2018 37,862,666
REVENUE
PER SHARE
YOY
GROWTH
ADJUSTED
OPERATING
INCOME
PER SHARE
YOY
GROWTH
CASH, SHORT TERM
INVESTMENTS, OUR
BUILDING ASSETS,
MINUS DEBT PER SHARE
YOY
GROWTH
EARNINGS
(LOSS) PER
SHARE*
$2.47
$3.37
$3.43
$4.31
$5.40
$6.85
$8.00
53%
36%
2%
26%
25%
27%
17%
$0.13
$0.17
$0.03
$0.11
$0.42
$0.66
$0.85
-7%
31%
-82%
267%
282%
57%
28%
$0.23
$0.32
$1.79
$1.27
$1.40
$1.53
$3.56
-30%
39%
459%
-29%
10%
9%
$(9.76)
$(6.23)
$(1.64)
$(0.62)
$(0.24)
$(0.05)
133% $($0.03)
*Loss per share is calculated using the GAAP basic weighted-average shares at year end.
In 2018, our outstanding shares, including options and warrants, increased 2,418,206 to
37,862,666. Of the increased share count, 86% was based on the capital raise used for
the purchase of the building and the 14% balance was used for compensation.
For our performance in 2018, we calculated our increase in Trupanion’s intrinsic
value per share for compensation purposes to be 22.8% before stock grants. For
compensation purposes, we try to calculate intrinsic value per share conservatively,
grounding the model in history (generally using 3-year historical averages), rather than
using forward-looking estimates for our assumptions. In accordance with our Intrinsic
Value Incentive Plan, a portion of the intrinsic value growth is shared with our team
members, with the remainder going to shareholders. Given our 22.8% intrinsic value
per share growth in 2018, we shared 1.37% of this increase in value with the team,
with the remaining 21.44% increase per share going to shareholders. Please see a full
description of our Intrinsic Value Incentive Plan in the Compensation Discussion and
Analysis section of our 2019 Proxy Statement.
At 1.37%, the total size of the grant pool in 2018 was 398,193 shares. 113,325 were
allocated during the year for new hire grants, individual performance awards and
board compensation, leaving 284,868 shares that were issued in Q1 2019 for our
Performance Grant Program.
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TABLE 6. VETERINARY CLINIC METRICS
NUMBER
OF
TERRITORY
PARTNERS
ESTIMATED
NUMBER OF
CLINICS WE
ARE VISITING
EVERY 60-90
DAYS
ESTIMATED
AGGREGATE
NUMBER OF
FACE-TO-
FACE VISITS
APPROXIMATE
NUMBER OF
ACTIVE CLINICS
(PEAK FOR
GIVEN YEAR)*
ENROLLMENTS
PER ACTIVE
CLINIC PER
MONTH
NUMBER OF
PARTNERED
CLINICS WITH
SOFTWARE
& ACCOUNT
MANAGER
ENROLLMENTS
PER CLINIC
WITH
SOFTWARE PER
MONTH
34
40
58
84
105
107
123
15,000
16,200
15,400
19,000
21,300
19,800
20,200
262,000
324,000
404,000
490,000
577,000
662,000
751,000
5,300
5,800
6,400
7,900
8,100
8,500
9,700
0.87
0.97
1.01
1.06
1.00
1.01
1.04
n/a
n/a
n/a
n/a
n/a
n/a
2,908
n/a
n/a
n/a
n/a
n/a
n/a
1.70
YEAR
2012
2013
2014
2015
2016
2017
2018
* We define an active hospital as a hospital to which we attribute at least one new pet enrolling in the
previous 3 months.
We ended 2018 with 123 Territory Partners visiting 20,200 unique veterinary clinics.
In total, we estimate that we made an additional 90,000 face-to-face visits during
the year and, in aggregate, have made approximately 751,000 such visits since we
entered the US market in 2008.
We increased the number of active clinics by 14% to 9,700. We now have our software
in 3,516 clinics and paid $53.5 million dollars directly to veterinarians — an increase of
32.6% over the prior year.
We’ve learned that we can be more successful when we partner with hospitals
that have our software installed. A partnered hospital commits to having a “Go-To”
employee in their hospital who consistently helps us in situations where we need
additional information to pay invoices quickly and efficiently for our mutual clients.
Of the 3,516 clinics that have our software installed, 2,908 are partnered with us in this
way. Trupanion has also created a team of dedicated account managers to support
these hospitals, and they touch base by phone on a regular basis to ensure we are
consistently communicating with them. Our Territory Partners typically visit hospitals
in their territories every 60 days, and having more frequent touchpoints than that has
proven to improve customer experience.
We will provide more insights into these metrics at the Annual Shareholder Meeting this
June in Seattle.
TABLE 7. 2018 REPORT CARD ON OUR 5 KEY LONG-TERM INITIATIVES
1
AOM EXPANSION
AOM is the fuel for our growth. We are tracking to hit
15% by the end of 2020.
2
INCREASE CONVERSION RATES
3
4
5
AUTOMATED CLAIMS
SAME STORE SALES
NIRVANA
Our conversion rate is calculated by taking the number
of quotes online or over the phone divided by new
enrollments. 2018 saw our blended conversion rate
increase from 13% to 14%.
4.7% of the invoices we paid with our software were fully
automated. Average processing time was 16.5 seconds.
40%+ increase when our software is married to an inside
account representative.
Tactics and strategies were implemented with no
improvements in the metric. Progress may take many
more iterations.
A-
A-
A
A
C+
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Every year there are things we screw up, things we knock out of the park and things
we learn…often the hard way. Here is my list this year:
2018 PROS:
• In our 2014 letter we talked about being a low cost provider and eliminating
frictional costs. This year we took the painful dilution to pay cash to buy our
headquarters in Seattle. We expect this to provide a home base for our team
over the next 10-20 years. Also, by owning this asset outright, we strengthened
our balance sheet and eliminated our need to pay rent.
• In 2018, we invested $3.3 million in TruUniversity, our training program. This was
an 8% percent increase in our commitment to training over the prior year.
Content has been improving and the delivery is becoming more efficient.
• Overall we had low turnover of team members. This was led by improvements in
our 24/7 Contact Center.
• Territory Partners represented nine of our 25 highest compensated team
members.
• We added 36 customer service-focused team members in the Philippines to
take advantage of an opportunistic time zone for running a 24/7 operation.
These dedicated team members are doing administrative tasks to help improve
our customer experience.
• In last year’s letter, I mentioned
a team member in the Contact
Center who I was proud of. She is
now managing a team and her
desk was relocated. Meet my new
neighbor, Paisley!
2018 CONS:
• We did not recruit enough Territory
Partners for new regions.
• Transparency and tracking of
individual and department
quarterly objectives lost some focus.
• More work needs to be done to link
our gains in year over year changes
in our intrinsic value to individual
performance.
• Progress towards Nirvana (more on
this below).
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2018 TEACHINGS
In the 2014 shareholder letter I talked about the importance of aligned and
informed shareholders. It’s important that you come away each year with a better
understanding of our business. To that end, this year there are four topics I want to
dive into.
TOPIC 1 –
Nirvana
Nirvana is our very important and difficult goal of offsetting our cancellations by
existing members adding pets or referring friends. All of these factors operate as a
percentage of our existing members. In 2018, cancellations averaged 1.40% per month
while referrals and added pets averaged 0.68% per month. We desire to have these
offset so that we can grow organically with strong IRR, rather than spending money to
only offset cancellations. At 1.40%, we will have 10,000 pets cancel per month when
we have 714,286 subscription pets enrolled.
In 2018, we added a record 126,000 subscription pets. Unfortunately, we had
approximately 67,000 pets cancel.
Nirvana has been on our 2020 goals since 2014. It was added to our 5 Key Strategic
Initiatives in 2017 and yet, we have made no progress. We need to think differently if we
are going to achieve Nirvana. With this in mind, TJ Houk, our Chief Member Experience
Officer, and his team created and own this year’s plan to drive our progress toward
Nirvana. This team is doing a great job thinking about Nirvana differently and many of
these changes started in Q4 of 2018.
We have a number of initiatives that focus on rethinking how we organize our teams,
goals and communications. There is incremental investment in the Contact Center,
with a focus on helping teams be more self-sufficient. Additional spend has been
allocated to dedicated niche teams within our claims department, providing bespoke
“white glove” service to members with their first claim. Additionally, we plan to
communicate coverage summary reports with members when they enroll. The goal
of a coverage summary report is to be more transparent with members about pre-
existing conditions to avoid a negative claims experience. We plan to begin doing this
on a test basis in 2019.
Improving the member experience by increasing the number of veterinary clinics that
have our software installed so we can pay them directly within minutes — or seconds
with claims automation — will continue to be a key focus over the next few years.
In addition to the initiatives described above, we also spent time in 2018 designing
and developing an updated Trupanion subscription product that we plan to test in
2019. Led by Steve Weinrauch, our Chief Product Officer, the goal of the product and
the test is to achieve higher conversion rates, higher ARPU and sustained or better
retention rates, which we expect will further our progress toward Nirvana. All of these
results drive higher intrinsic value and create moats. We will begin with a test in one
state and, if not initially successful, we will keep iterating until we get it right.
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Our 2020 goal is to limit monthly cancellations to 1.3%. Perfection is 1.0%. Cancellations
in 2018 broke down into the following cohorts.
TABLE 8. CHURN BY CANCEL REASON
COHORT
TEAM
APPROXIMATE
NUMBER OF
CANCELLATIONS
AVERAGE
MONTHLY
CHURN
90-day cancellation
Rate renewal
Death
Failed Payment
Pet Acquisition
Actuarial
Member Experience
Finance & Member Experience
General dissatisfaction Member Experience & Product Design
14,090
4,193
16,306
9,722
22,784
0.29%
0.09%
0.34%
0.20%
0.48%
AVERAGE
MONTHLY
RETENTION
RATE
99.71%
99.91%
99.66%
99.80%
99.52%
TOTAL CANCELLATIONS
67,095
1.40%
98.60%
Another view of our monthly churn or “road to Nirvana,” is to look at the 1.40% by
members who cancel without seeing a rate change compared to those that see a
satisfactory rate change and those that see a higher change.
TABLE 9. CHURN BY RATE CHANGE
2018 CHURN
ACTIVE PETS AT
YEAR END
NUMBER OF CANCELLED
PETS
DISTRIBUTION
MONTHLY
CHURN
MONTHLY
RETENTION
NO RATE CHANGE
RATE CHANGE < 20%
RATE CHANGE > 20%
TOTAL
86,914
290,719
53,137
430,770
26,960
30,000
10,135
67,095
20.18%
67.49%
12.34%
100.00%
2.79%
0.93%
1.69%
1.40%
97.21%
99.07%
98.31%
98.60%
The above chart shows two areas of focus:
1. First, and currently our biggest opportunity, is to reduce the number of pets
that cancel within the first year (particularly within their first 90 days), before
they ever receive a rate change. We need to figure this out. Some people
enroll their pet when they learn there is a problem and hope we can solve it
financially for them. We cannot. The best we can do is enroll pets as early as
possible so we can eliminate pre-existing conditions. Others enroll for a spay/
neuter or other wellness activities. For these pet owners, we need to do a
better job of educating them on the problem we solve and how we solve it.
The last group are pet owners who get buyer’s remorse or their partner does
not support or understand why we exist. All of these items require more upfront
education.
2. The second area of focus is to reduce the number of members that receive
a change to their monthly cost that is greater than 20% per year. On its face
this seems obvious and over-time, this is a very important long term goal, BUT
this goal should not supersede our desire to get more pricing categories as
accurate as possible first. Let me provide you with a detailed explanation on
why I believe this is the appropriate prioritization.
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TOPIC 2 –
Pricing by Category
What is the problem Trupanion is solving? Trupanion exists to help pet owners budget
for unexpected veterinary costs. A “lucky” pet may have unexpected veterinary
costs that only amount to $500 over its lifetime, whereas an “unlucky” pet may see
veterinary costs of $50,000+, which makes it very difficult for a responsible, loving pet
owner to budget.
How does Trupanion’s pricing model work? Trupanion operates on a cost-plus model.
This is where we understand the “average” cost before any potential inflation for
each category of pet over their entire life and then add 30%. This results in Trupanion
spending 70% of an average pet owner’s monthly costs paying veterinary invoices for
pets that are sick or injured. Said another way, we spend $0.70 of every $1.00 received
in monthly costs toward veterinary invoices. This model is designed to spread the risk
equally and fairly among the lucky, unlucky, and average pets. That is our pricing
promise.
Let’s share an example of how our cost-plus model works:
1. UNDERSTAND THE MONTHLY COST OF VETERINARY CARE TO TREAT ALL ACCIDENTS AND
ILLNESSES FOR THE AVERAGE PET WITHIN A CATEGORY.
2.
ADD 30% (15% FOR PROVIDING SERVICE TO OUR MEMBERS 24/7 AND 15%
TO ENROLL MORE PETS AND PROFIT).
$35.00
$15.00
3.
ADD THE TWO NUMBERS TOGETHER. THIS IS THE MEMBER’S MONTHLY COST.
= $50.00
If we are really good at understanding the average lifetime cost for a category of
pets, like Poodles in Brooklyn, NY, then on an annual basis we only need to monitor
inflationary changes and pass those along to our members.
Typically, inflation-related adjustments would be between 5% and 10% per year. If
we return to the monthly cost example set forth above, and the cost of veterinary
care including referral and specialty care was trending up by 10% per year, then our
members’ monthly costs would be adjusted accordingly.
THE MONTHLY COST OF VETERINARY CARE + INFLATION.
$35.00 + 10% = $38.50
1.
2.
ADD 30%.
3. ADD THE TWO NUMBERS TOGETHER. THIS IS THE MEMBER’S ADJUSTED MONTHLY COST.
$16.50
= $55.00
Other key points to note about our pricing structure:
• Members’ monthly rates are locked in for a minimum of 12 months.
• A member’s monthly cost is not impacted by their individual pet’s claim history.
• Over the last 10+ years, monthly rates have increased an average of 6% per
year.
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How do we determine the right monthly cost for a pet? To achieve fair and accurate
pricing, when a pet enrolls, we look at the following factors to help us determine the
typical or “average” health care costs for that particular pet:
• Age at enrollment
• Breed
• Gender
• Location/local cost of veterinary care
• Chosen deductible
Currently, these are some of the categories we have chosen to observe to ensure
we share risk fairly. One day we may add additional categories, such as indoor vs.
outdoor cats or the quality of food being fed.
The key point to understand is that we do not, have not and will not dictate veterinary
costs.
How we learn/get better over time:
When we enrolled our first pet in 2000, we only had one geographical category across
all of Canada. For illustrative purposes, we will use the following cost categories: 1 is
the lowest and 5 is the highest.
To start, Canada’s average cost was a 3.
CANADA
Cost Category 3
Over time, we learned that the underlying costs in Toronto were on average higher
than other areas of Canada while those in Winnipeg were lower. We used this data to
ensure we lived up to our pricing promise. We lowered monthly costs for our existing
and new members in Winnipeg and raised them in Toronto. The rest of Canada
remained the same as before.
WINNIPEG
CANADA
TORONTO
Cost Category 2
Cost Category 3
Cost Category 4
In the above example, the swing in underlying cost was +/- 20% on average. Having
monthly costs decrease by 20%+ is easy for one to handle or budget for. But for those
in Toronto, receiving an increase of 20% or more is much tougher to handle. In fact,
when you add the 20%+ to the 5% -10% we typically see for annual inflation, those in
Toronto received a 30%+ year over year change to their monthly cost. This is not an
ideal situation, but it is the right thing to do.
Let me explain why:
Our pricing promise is to spend $0.70 of every $1.00 we receive paying veterinary
invoices for our members. This is our value proposition. If a sub-category of pets, say
pet owners in Winnipeg, are paying the same monthly cost as the rest of Canada
(including Toronto), yet their cost of care is 20% lower than the rest of Canada (40%
lower than Toronto), then they would not be receiving the same value.
WINNIPEG
50% value
REST OF CANADA
70% value
TORONTO
90% value
100 pets @ Cost Category 2 = 200
100 pets @ Cost Category 3 = 300 100 pets @ Cost Category 4 = 400
AVERAGE COST ACROSS CANADA: (200+300+400)/300 =
Cost Category 3
PG 33
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Over time, fewer pet owners from Winnipeg would be enrolling, while Toronto would
grow faster. Even though we are not yet as effective in educating pet owners about
our value proposition as we’d like to be, they feel it.
WINNIPEG
50% value
REST OF CANADA
70% value
TORONTO
90% value
25 pets at Cost Category 2 = 50
100 pets at Cost Category 3 = 300 175 pets at Cost Category 4 = 700
AVERAGE COST ACROSS CANADA: (50+300+700)/300 =
Cost Category 3.5
If an insurance company kept all the monthly costs the same across Canada, then
the average cost would increase from 3 to 3.5 and continue to increase as more pets
would be enrolling from the Toronto area.
WINNIPEG
40% value
REST OF CANADA
60% value
TORONTO
80% value
10 pets at Cost Category 2 = 20
60 pets at Cost Category 3 = 180
150 pets at Cost Category 4 = 600
AVERAGE COST ACROSS CANADA: (20+180+600)/300 =
Cost Category 3.63
In this hypothetical, things would only continue to get more and more unbalanced.
The value proposition in Winnipeg would be so bad that the only pets that would
remain would be the “unlucky” pets causing the average cost in Winnipeg to rise from
2 to 2.75. Soon we’d see the number of enrolled pets in Canada drop from 300 to 205.
The average monthly cost increases (before inflation) 26% to 3.78 from 3.0.
WINNIPEG
40% value
REST OF CANADA
60% value
TORONTO
80% value
5 pets at Cost Category 2.75 = 13.75 50 pets at Cost Category 3.25 = 162.5 150 pets at Cost Category 4 = 600
AVERAGE COST ACROSS CANADA: (13.75+1162.5+600)/205 =
Cost Category 3.78
What this situation shows us is that pet owners in Winnipeg and the rest of Canada
are subsidizing those pet owners in Toronto, which is not fair. Fewer pets are enrolled in
Canada, which is not good for veterinarians, pet owners, or Trupanion.
Having the same value proposition of 70% for each category is not just the right and
fair thing to do, it provides the best and healthiest results.
WINNIPEG
70% value
REST OF CANADA
70% value
TORONTO
70% value
100 pets @ Cost Category 2 = 200
100 pets @ Cost Category 3 = 300 100 pets @ Cost Category 4 = 400
AVERAGE COST ACROSS CANADA: (200+300+400)/300 =
Cost Category 3
Over the next several years, we will continue to home in on variances across
neighborhoods.
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Once we learned that Toronto’s costs were higher, we didn’t stop there. We soon
learned that Toronto is not a single Toronto. There was as much variation between
the different neighborhoods within and surrounding Toronto as there was between
Toronto and Winnipeg. Variations among neighborhoods can be dramatic throughout
North America. For example, Los Angeles has 510 neighborhoods where household
income, home prices, general cost of living, and, not surprisingly, veterinary costs vary
dramatically. Think of Beverly Hills in comparison to Watts, both located in Los Angeles
and only 12 miles apart, but vastly different in regards to demographics.
Remember, Trupanion is here to help pet owners budget. 81% of our current members
live in neighborhoods where the average household income is under $100k. We need
to make sure we are treating everyone fairly. Our job is to understand the underlying
cost for a sub-category. When we get this right, year over year changes remain small,
manageable, and easy to budget for.
WINNIPEG
CANADA
TORONTO
Cost Category 2
Cost Category 3
Cost Category 4
NEIGHBORHOOD COST CATEGORIES
1
3
4
4
2
1
3
2
5
2
2
3
1
3
2
1
3
2
3
5
4
5
4
5
2
1
5
5
2
2
1
3
2
4
3
4
5
2
2
3
3
5
2
1
1
4
2
4
5
1
2
4
3
1
1
5
4
5
1
5
5
3
5
1
TOPIC 3 –
Alignment with Regulators
In the 2014 shareholder letter that is included at the beginning of this letter, I included
the handwritten update that, in addition to loving pet owners, veterinarians and
their co-workers, Trupanion Territory Partners, Trupanion employees and Trupanion
shareholders, the departments of insurance are additional constituents with whom we
desire to align our interests. To be clear, I have always felt that we are aligned with the
departments of insurance and my omission of them previously was an oversight.
Let’s start by explaining our alignment. The departments of insurance are mandated
to:
1. Make sure all consumers are treated fairly, without being misled and with no
one group receiving preferential treatment;
2. Ensure that the underlying value proposition of the policies being sold is
reasonable to both the consumer and insurance company; and
3. Ensure that the insurance company is adequately capitalized if a
disproportionate number of insureds have a claim within the same time
period.
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Trupanion has, from its beginning, strived to:
1. Provide comprehensive coverage through a single product that covers all
medical issues if a pet becomes sick or injured. This has always included the
items most likely to happen to certain breeds. We pay a percentage of the
veterinarian’s actual invoice. We don’t penalize a pet for becoming unlucky.
We accomplish this by understanding the underlying cost for the average
pet, then adding a 30% margin. We do this by breeds, neighborhoods, age at
enrollment and a few other factors.
2. Provide a high value proposition. We purchased our own underwriting
company in 2008 so we could eliminate frictional costs and increase the value
proposition to our members, while achieving a reasonable margin (15% AOM
when we hit between 650,000 and 750,000 pets).
3. Be well capitalized. We hold cash and short-term investments that equal our
revenue divided by 4.8. These reserves meet the requirements for a category
of insurance called inland marine. Medical insurance for cats and dogs
currently lies within inland marine, which has other lines of insurance that are
considerably more volatile. As our category continues to grow, I hope and
expect our industry eventually will get its own category designation that should
require reserve capital closer to 10:1, better reflecting the risk of our coverage.
We believe that we are highly aligned with the departments of insurance. Their
mandates and our values overlap. The fact that we are the only company that
owns a mono-line underwriter and that we, as a public company, have further
transparency, has us well positioned to be seen by regulators as the “experts” in our
field. It certainly helps that many regulators are pet owners who appreciate that our
product provides pets like theirs with a high value proposition (as a reminder, the NAIC
industry average loss ratio for the “Special Property” category that includes the inland
marine line of business is 56%, whereas we target 70%). We have, by necessity and by
choice, preferred to have a seat at the table, taking extra time to build relationships
with regulators when the opportunity presents itself. I believe that the more the
departments of insurance understand our values, product design, desired member
experience and value proposition, the more they like and support us.
Going back to my earlier omission, I believe we started off with very strong
relationships, but I should have done a better job communicating internally our
desire to over-communicate with the departments of insurance, as this would have
resulted in better/deeper relationships with them. This should have been included in
my first shareholder letter as well as in our internal communications. Years ago, and
particularly between 2011 and 2014, we did not have sufficient focus on deepening
relationships with regulators, nor did we provide the team with appropriate resources
to do so. The task of managing these relationships moved to team members who were
inadequately trained and underresourced, and we began to under-communicate
and became reactive. We made some mistakes and, quite frankly, did not adequately
prioritize the importance of complete compliance with the applicable insurance
regulators. Over the last few years, we have paid some fines for these mistakes, and
we will likely pay some additional fines for these previous mistakes. Although I am
certainly not thrilled to pay them, I believe they are justified and appropriate.
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TOPIC 4 –
Internal Rate of Return
In the 2014 shareholder letter, I noted that our business model is, “to spend X to acquire
a new member and have the discretionary income to return substantially more than
X over the life of the subscription.” I go on to say, “for these reasons we are most
concerned with IRR for incrementally adding an average pet.” Basically, our business
model is designed to generate greater and greater sums of operating cash that
we can reinvest at returns that are far greater than what’s readily available to most
shareholders.
In the 2017 shareholder letter, I included examples of how our allowable PAC spend
should expand while maintaining the same internal rate of return. Even after doing this,
I’m still leaving a lot of people confused. So, here is our fifth attempt (WD 5) to provide
clarity. This example compares our 2016 and 2018 invested capital. I chose to compare
2016 and 2018 because they offer a good illustration of two years during which PAC is
quite different.
So, let’s compare 2016 and 2018’s invested capital.
In 2016, we spent $14.7 million (which translated to $12.4 million in net acquisition spend
after you back out $2.1 million in sign-up fees and $0.2 million related to our other
business segment) to acquire 100,692 new cats and dogs, with an average monthly
revenue per pet (ARPU) of $48.81. Assuming that the pets act like our average pet in
2016 with a constant 7.9% adjusted operating margin and an average duration of 71.4
months, we calculate the IRR of a single average pet in this cohort to be 31%.
In 2018, we spent $23.7 million (which translated to $20.7 million in net acquisition
spend after you back out $2.6 million in sign-up fees and $0.4 million related to our
other business segment) to acquire 126,182 new cats and dogs, with an average
monthly revenue per pet (ARPU) of $53.44. Assuming that the pets act like our average
pet in 2018 with a constant 10% adjusted operating margin and an average duration
of 71.4 months, we calculate the IRR of a single average pet in this cohort to be 37%.
On the surface, the Pet Acquisition Cost (PAC) spend in 2016 at $123 appears better
than the $164 in 2018, BUT that would be mathematically incorrect if one is concerned
with value creation! Because both the ARPU and margin are larger in 2018 and the
pay-back period is reduced from 36 to 32 months, the 2018 IRR calculation of 37% is six
percentage points better than the 31% in 2016.
Put simply, spending $24 million at a 37% IRR is better than spending $15 million at a 31%
IRR.
Over the next 5-10 years, our goal is to spend greater and greater sums of our self-
generated discretionary capital with IRRs in the 30% to 40% range for a single average
pet.
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In Walter Isaacson’s biography of Leonardo da Vinci, the author draws a comparison
between Steve Jobs’ ability to merge engineering and art and Leonardo’s fascination
with combining science and art. This comparison had me thinking about Trupanion. In
my mind, Trupanion marries math with love.
The math comes from our value proposition and the simplicity of our business model.
The love comes from the people on our team and in our member community. We all
have unconditional love for pets.
For years, Trupanion’s biggest impediments to growth have been cash and/or
opportunities. Today, it’s people and culture. We know that execution — our biggest
risk — comes down to people and culture. And we need to be thoughtful about
bringing in the right mix of talent, heart, and fearlessness to move the company
forward in a way that preserves and strengthens our unique culture and commitment
to customer service while achieving ambitious and innovative goals.
I wrote about Kuyashii in the 2017 shareholder letter and often use it as a sign-off on
companywide communications when we need some inspiration. A few years ago, I
watched a Netflix documentary about chef and Los Angeles restaurant owner, Niki
Nakayama. Ms. Nakayama wanted to become a world-class chef, but was raised
being told only men could become successful chefs and restauranteurs. She used the
words of her doubters as her energy to succeed. She explained in the documentary
that there is a specific word in the Japanese language that describes this inspiration
and determination, which is Kuyashii.
If you would like to gain additional insights into Trupanion, whether you are an existing
shareholder or new to our story, I invite you to read our 2015, 2016 and 2017 shareholder
letters, as well as our investor FAQ. Both can be found on our IR website at Investors.
Trupanion.com. I also encourage you to come visit our Seattle Headquarters and
attend our shareholder meetings on June 6th, 2019 and June 4th, 2020. If you’d like to
visit, please reach out to InvestorRelations@Trupanion.com.
Kuyashii,
Darryl Rawlings
Founder & Chief Executive Officer
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PG 38
END NOTES
1 In this letter and our other publicly available reports, we present certain non-GAAP measures, including
adjusted EBITDA, variable expenses, fixed expenses, adjusted operating income, adjusted operating
margin, acquisition cost, and free cashflow. These non-GAAP financial measures may not provide
information that is directly comparable to that provided by other companies in our industry as other
companies in our industry may calculate or use non-GAAP financial measures differently. In addition, there
are limitations in using non-GAAP financial measures because they are not prepared in accordance with
GAAP and exclude expenses that may have a material impact on Trupanion’s reported financial results.
The presentation and utilization of non-GAAP financial measures is not meant to be considered in isolation
or as a substitute for the directly comparable financial measures prepared in accordance with GAAP.
Trupanion urges its investors to review the reconciliation of its non-GAAP financial measures to the most
directly comparable GAAP financial measures in its consolidated financial statements, and not to rely on
any single financial or operating measure to evaluate its business. These reconciliations are included within
our Supplemental Financial Information provided with the Q4 earnings release on Trupanion’s Investor
Relations website.
Our internal rate of return is calculated assuming the new pets we enroll during the year will behave like
an average pet. Specifically, our 2018 calculation assumes adjusted operating income (calculated as the
average monthly revenue for new pets of $53.44 factored by the adjusted operating margin of 10.5%) for an
average subscriber life of 71.4 months (calculated as the quotient obtained by dividing one by the churn
rate, which equals one minus the average monthly retention rate of 98.60%).
Because of varying available valuation methodologies, subjective assumptions and the variety of equity
instruments that can impact a company’s non-cash expenses, Trupanion believes that providing various
non-GAAP financial measures that exclude stock-based compensation expense and depreciation and
amortization expense allows for more meaningful comparisons between its operating results from period
to period. Trupanion offsets sales and marketing expense with sign-up fee revenue in the calculation of net
acquisition cost because it collects sign-up fee revenue from new members at the time of enrollment and
considers it to be an offset to a portion of Trupanion’s sales and marketing expenses. Trupanion believes
this allows it to calculate and present financial measures in a consistent manner across periods. Trupanion’s
management believes that the non-GAAP financial measures and the related financial measures derived
from them are important tools for financial and operational decision-making and for evaluating operating
results over different periods of time.
DISCLAIMER
This letter contains forward-looking statements within the meaning of Section 21E of the Securities Exchange
Act of 1934, as amended, and section 27A of the Securities Act of 1933, as amended (Securities Act). All
statements contained in this letter other than statements of historical fact, including statements regarding
lifetime values of a pet, discounted cash flows and our intrinsic value model, future results of operations
and financial position (including ARPU, AOM, AOI, IRR, PAC, and new pets enrolled), our business strategy
and plans and our objectives for future operations, are forward-looking statements. The words “anticipate,”
“believe,” “continue,” “could,” “estimate,” “expect,” “intend,” “may,” “model,” “plan,” “potentially,”
“predict,” “project,” “target,” “will,” “would,” and similar expressions that convey uncertainty of future
events or outcomes, are intended to identify forward-looking statements.
These forward-looking statements are subject to a number of risks, uncertainties and assumptions, including
those described under the heading “Risk Factors” in our Annual Report on Form 10-K and other filings we
make from time to time with the Securities and Exchange Commission. Moreover, we operate in a very
competitive and rapidly changing environment, and new risks emerge from time to time. It is not possible
for our management to predict all risks, nor can we assess the impact of all factors on our business or the
extent to which any factor, or combination of factors, may cause actual results to differ materially from
those contained in any forward-looking statements we may make. In light of these risks, uncertainties and
assumptions, the forward-looking events and circumstances discussed in this letter may not occur and
actual results could differ materially and adversely from those anticipated or implied in the forward-looking
statements.
You should not rely on forward-looking statements as predictions of future events. Although we believe
that the expectations reflected in the forward-looking statements are reasonable, we cannot guarantee
that the future results, levels of activity, performance or events and circumstances reflected in the forward-
looking statements will be achieved or occur. We undertake no obligation to update publicly any forward-
looking statements for any reason, except as required by law.
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THIS PAGE LEFT INTENTIONALLY BLANK
Form 10-K
2018
2018_Form10K_Cover_8.5x11.indd 1
4/15/19 10:32 AM
UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-K
(Mark One)
ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
For the fiscal year ended December 31, 2018
or
TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
For the transition period from ____ to ____
Commission File Number: 001-36537
TRUPANION, INC.
(Exact name of registrant as specified in its charter)
Delaware
(State or other jurisdiction of incorporation or
organization)
83-0480694
(I.R.S. Employer Identification Number)
6100 4th Avenue S, Suite 200
Seattle, Washington 98108
(855) 727 - 9079
(Address, including zip code, and telephone number, including area code, of registrant’s principal executive offices)
Securities registered pursuant to Section 12(b) of the Act:
Title of Each Class
Common Stock, $0.00001 par value per share
Name of Exchange on Which Registered
NASDAQ Stock Market LLC
Securities registered pursuant to Section 12(g) of the Act: None.
Indicate by check mark if the registrant is a well-known seasoned issuer, as defined in Rule 405 of the Securities Act.
Yes
No
Indicate by check mark if the registrant is not required to file reports pursuant to Section 13 or Section 15(d) of the Act.
Yes
No
Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during
the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for
the past 90 days. Yes
No
Indicate by check mark whether the registrant has submitted electronically every Interactive Data File required to be submitted pursuant to Rule 405 of
Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit such files).
Yes
No
Indicate by check mark if disclosure of delinquent filers pursuant to Item 405 of Regulation S-K (§229.405 of this chapter) is not contained herein, and will not
be contained, to the best of the registrant’s knowledge, in definitive proxy or information statements incorporated by reference in Part III of this Form 10-K or
any amendment to this Form 10-K.
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, a smaller reporting company, or an
emerging growth company. See the definitions of "large accelerated filer," "accelerated filer," "smaller reporting company," and "emerging growth company" in
Rule 12b-2 of the Exchange Act.
Large accelerated filer
Accelerated filer
Non-accelerated filer
(Do not check if smaller reporting company)
Smaller reporting company
Emerging growth company
If an emerging growth company, indicate by check mark if the registrant has elected not to use the extended transition period for complying with any new or
revised financial accounting standards provided pursuant to Section 13(a) of the Exchange Act.
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).
Yes
No
The aggregate market value of the registrant’s common stock held by non-affiliates as of June 30, 2018, the last business day of the registrant’s most recently
completed second fiscal quarter, was approximately $1,190,862,535 using the closing price on that day of $38.60.
As of February 7, 2019, there were approximately 34,332,607 shares of the registrant’s common stock outstanding.
DOCUMENTS INCORPORATED BY REFERENCE Part III incorporates certain information by reference from the definitive proxy statement to be filed by
the registrant in connection with the 2018 Annual Meeting of Stockholders (Proxy Statement). The Proxy Statement will be filed by the registrant with the
Securities and Exchange Commission pursuant to Regulation 14A not later than 120 days after the end of the registrant’s fiscal year ended December 31, 2018.
TRUPANION, INC.
Annual Report on Form 10-K
For the Fiscal Year Ended December 31, 2018
TABLE OF CONTENTS
Business
Risk Factors
Unresolved Staff Comments
Properties
Legal Proceedings
Mine Safety Disclosures
PART I
PART II
Market for Registrant's Common Equity, Related Stock Holder Matters and Issuer Purchases of Equity
Securities
Selected Financial Data
Management's Discussion and Analysis of Financial Condition and Results of Operations
Quantitative and Qualitative Disclosures about Market Risk
Financial Statements and Supplementary Data
Changes in and Disagreements with Accountants on Accounting and Financial Disclosure
Controls and Procedures
Other Information
PART III
Directors, Executive Officers and Corporate Governance
Executive Compensation
Security Ownership of Certain Beneficial Owners and Management and Related Stockholder Matters
Certain Relationships and Related Transactions, and Director Independence
Principal Accountant Fees and Services
PART IV
Exhibits, Financial Statement Schedules
Form 10-K Summary
Signatures
Exhibit Index
Parent Company Financials
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Item 1.
Item 1A.
Item 1B.
Item 2.
Item 3.
Item 4.
Item 5.
Item 6.
Item 7.
Item 7A.
Item 8.
Item 9.
Item 9A.
Item 9B.
Item 10.
Item 11.
Item 12.
Item 13.
Item 14.
Item 15.
Item 16.
Note About Forward-Looking Statements
This Annual Report on Form 10-K contains forward-looking statements within the meaning of Section 21E of the Securities
Exchange Act of 1934, as amended, and section 27A of the Securities Act of 1933, as amended (Securities Act). All statements
contained in this Annual Report on Form 10-K other than statements of historical fact, including statements regarding our
future results of operations and financial position, our business strategy and plans and our objectives for future operations, are
forward-looking statements. The words “believe,” “may,” “will,” “potentially,” “estimate,” “target,” “continue,” “anticipate,”
“intend,” “could,” “would,” “project,” “plan” and “expect,” and similar expressions that convey uncertainty of future events or
outcomes, are intended to identify forward-looking statements.
These forward-looking statements are subject to a number of risks, uncertainties and assumptions, including those described in
Part I. Item 1A. “Risk Factors” and elsewhere in this Annual Report on Form 10-K. Moreover, we operate in a very competitive
and rapidly changing environment, and new risks emerge from time to time. It is not possible for our management to predict all
risks, nor can we assess the impact of all factors on our business or the extent to which any factor, or combination of factors,
may cause actual results to differ materially from those contained in any forward-looking statements we may make. In light of
these risks, uncertainties and assumptions, the forward-looking events and circumstances discussed in this Annual Report on
Form 10-K may not occur and actual results could differ materially and adversely from those anticipated or implied in the
forward-looking statements.
You should not rely on forward-looking statements as predictions of future events. Although we believe that the expectations
reflected in the forward-looking statements are reasonable, we cannot guarantee that the future results, levels of activity,
performance or events and circumstances reflected in the forward-looking statements will be achieved or occur. We undertake
no obligation to update publicly any forward-looking statements for any reason, except as required by law.
Unless otherwise stated or the context otherwise indicates, references to “we,” “us,” “our” and similar references refer to
Trupanion, Inc. and its subsidiaries taken as a whole.
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PART I
Item 1. Business
Our Mission
Our mission is to help the pets we all love receive the best veterinary care.
Our Company and Approach
We provide medical insurance for cats and dogs throughout the United States, Canada and Puerto Rico. Our data-driven,
vertically-integrated approach enables us to provide pet owners with what we believe is the highest value medical insurance for
the life of their pets, priced specifically for each pet’s unique characteristics. Our growing and loyal member base provides us
with highly predictable and recurring revenue. We operate our business similar to other subscription-based businesses, with a
focus on maximizing the lifetime value of each pet while sustaining a favorable ratio of lifetime value relative to acquisition
cost, based on our desired return on investment.
Our target market is large and under-penetrated. We have pioneered a unique solution that sits at the center of the pet medical
ecosystem, meeting the needs of pets, pet owners and veterinarians, and we believe we are uniquely positioned to continue to
drive market penetration. Our aggregate total pets enrolled grew from 31,207 pets on January 1, 2010 to 521,326 pets on
December 31, 2018, which represents a compound annual growth rate of 37%.
Total Revenue by New and Existing Pets Enrolled
(in millions)
It is very difficult for pet owners to budget for their pet becoming sick or injured when they don't know whether their pet's
health will be average, lucky, or unlucky, and the cost of medical care varies dramatically by geography and pet breed. A pet
owner budgeting for average medical care costs is not an effective solution for an unlucky pet. Additionally, the timing of
accidents or illnesses may not align with the owner's budgeting approach. Our cost-plus model is designed to spread the risk
evenly within each category of pets. Our goal is to charge each pet the appropriate amount for their specific circumstances (e.g.,
breed, age at enrollment, geography, etc.) so that each pet receives the same value proposition, and, in aggregate, the extra
amount paid by lucky pets covers the veterinary costs incurred by unlucky pets. To an informed, responsible, and loving pet
owner, Trupanion is a hedge to help them budget for the unexpected cost and variable timing of necessary veterinary care.
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We provide our members with a high-quality medical plan for the life of their cat or dog. Our product is simple, fair, and covers
all unexpected illnesses and injuries, including those that are most likely to occur with particular breeds of pet, which other
insurance providers may label as congenital or hereditary conditions. We pay 90% of actual veterinary costs if a pet becomes
sick or injured, including all diagnostic tests, surgeries, and medications. In general, only certain taxes, examination fees, and
medical issues existing prior to enrollment are not included. Once enrolled in our subscription, we pay for the veterinary costs
for the pet's entire life, and pet owners are free to use any licensed veterinarian in the United States and Canada, including any
referral or specialty hospital. We aim to pay veterinarians directly, within five minutes of the veterinary invoice being created
and prior to the pet owner checking out, eliminating the traditional reimbursement model and providing our members the
convenience of not having to pay out of pocket or confirm treatment.
Veterinarians are able to recommend treatment to Trupanion members without having their decisions dictated by costs or the
financial burden of the pet owner. Veterinarians, as a result, are able to establish stronger relationships and better alignment
with pet owners who are protected by Trupanion. Our members tend to visit veterinarians more frequently and select the best
course of treatment for their pet regardless of cost.
We generate revenue primarily from our members' subscription fees. Fees are paid at the beginning of each subscription period,
which automatically renews on a monthly basis. Since 2010, at least 88% of our subscription business revenue every quarter
has come from existing members who had active subscriptions at the beginning of the quarter. Due to our focus on providing a
superior value proposition and member experience, our members are very loyal, as evidenced by our 98.5% average monthly
retention rate since 2010. For more information regarding average monthly retention, including an explanation of how we
calculate this metric, see “Management’s Discussion and Analysis of Financial Condition and Results of Operations—Key
Operating Metrics.”
We enrolled our first pet in Canada in 2000 and our first pet in the United States in 2008. Our revenue for the year ended
December 31, 2018 was $304.0 million, representing a compound annual growth rate of 41% from our revenue of $19.1
million for the year ended December 31, 2010. We have made and expect to continue to make substantial investments in
member acquisition and in expanding our operations to support our expected growth. For the year ended December 31, 2018,
we had a net loss of $0.9 million and our accumulated deficit was $83.7 million at December 31, 2018.
Our Strategy
We are focused on attracting and retaining members by providing a best-in-class value and member experience by focusing on
the following strategies:
Increase the number of referring veterinary practices. We intend to increase the number of veterinary practices that are
actively introducing Trupanion to their clients.
Increase the number of referrals from active veterinary practices. We intend to continue increasing the number and quality of
interactions that we have with veterinarians to accelerate the rate at which active veterinary practices refer us leads.
Increase the number of third-party referrals from members. We believe that it is critical to our long-term success that existing
members add a pet or refer their friends and family to Trupanion, so we focus on improving the member experience. For
example, Trupanion Express® is designed to directly pay veterinary invoices, eliminating the reimbursement model and
transforming the payment process to simplify the administrative hassle for our members.
Improve online lead generation and conversion. We are investing in our online marketing capabilities, and intend to continue
to do so in order to fully capture the online opportunity. Our online marketing initiatives have played an integral role in
converting leads to enrolled pets and also, to a lesser extent, in generating new leads.
Explore other member acquisition channels. We regularly evaluate new member acquisition channels. We intend to
aggressively pursue those channels that we believe could, over time, generate an attractive ratio of lifetime value relative to
acquisition cost, based on our desired return on investment.
Expand internationally. While we are primarily focused on capturing the large opportunity in the U.S. and Canadian markets,
we are in the process of entering the Australian market and may choose to explore other international expansion in the future.
Pursue other revenue opportunities. We may opportunistically engage in other revenue opportunities. For example, our
wholly-owned insurance subsidiary, American Pet Insurance Company, has partnered with unaffiliated general agents offering
pet insurance products since 2012.
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Sales and Marketing
Marketing to Veterinarians
Veterinary practices represent our largest referral source, and combined with referrals from members, accounted for
approximately 73% of our leads in 2018. Our Territory Partner model was designed to facilitate frequent, in-person, face-to-
face communications with veterinarians and their staff about the benefits of Trupanion and high-quality medical insurance for
the life of a pet. The most important job of a Territory Partner is to build strong relationships with each veterinary hospital, so
the staff can trust and recommend Trupanion. Alignment with veterinarians is critical for a positive member experience, long-
term retention, and pet owner referrals. We strongly believe that earning the trust of veterinarians and their staff is the first step
to successfully capturing more of the North American market.
The current market for veterinary services is highly fragmented and includes many sole-owner veterinary practices and small
veterinary practices that are difficult to reach. We believe that no pet insurance company has a resource that compares in scale
to our Territory Partners and that it would be extremely difficult, costly and time consuming to replicate. Our Territory Partners
are independent contractors who market our product and are paid fees based on activity in their regions. Their role is not to sell
or solicit policies directly to pet owners. Their role is instead to communicate and to build relationships with veterinarians and
their staff, primarily through face-to-face interactions. We believe this structure aligns our interests and provides a platform that
we can leverage over time.
Sales and Marketing to Pet Owners
We generate leads through a diverse set of third-party referrals and online member acquisition channels, which we then convert
into members through our contact center and website.
• Referrals from third-parties. We actively promote the value of Trupanion to veterinarians, veterinary affiliates
(including purchasing groups and other veterinary membership organizations), corporate employee benefit providers,
and shelters and breeders so they can inform their clients on the benefits of Trupanion. For the year ended
December 31, 2018, 65% of our new pet enrollments were generated from these third-party referrals (excluding
referral from existing members).
• Referrals from existing members. For the year ended December 31, 2018, 26% of our new pet enrollments were
generated from existing members adding a pet or referring their friends and family.
• Online. We believe many of our members spend some time researching options before deciding to purchase our
subscription. A significant portion of the members we acquire from online leads come through our paid search
marketing, email marketing, social media marketing and search engine optimization initiatives.
Competition
We compete with consumers that self-fund veterinary costs with cash or credit, as well as traditional "pet insurance" providers
and new entrants to our market. The vast majority of pet owners in the United States and Canada do not currently have medical
insurance for their pets. We are primarily focused on expanding the overall size of the market by improving the value
proposition for consumers. We view our primary competitive challenge as educating pet owners on why Trupanion is a better
alternative to self-funding.
In addition, new entrants backed by large insurance companies with substantial financial resources have attempted to enter the
market in the past and may do so again in the future. Further, traditional providers may consolidate, resulting in the emergence
of new providers that are vertically integrated or able to create other operational efficiencies, which could lead to increased
competition. We believe that we have competitive strengths that position us favorably related to existing and potential
competitors. These include: a superior value proposition for pet owners due, in part, to our vertically integrated structure that
reduces frictional costs; a unique member acquisition strategy, which we have developed using Territory Partners; a proprietary
database containing historical data since the year 2000, which provides actionable data insights; a powerful technology
infrastructure; and an experienced management team.
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Intellectual Property
We rely on federal, state, common law, and international rights, as well as contractual restrictions, to protect our intellectual
property. We control access to our proprietary technology, software, and documentation by entering into confidentiality and
invention assignment agreements with our employees and partners, and confidentiality agreements with third parties, such as
service providers, vendors, individuals and entities that may be exploring a business relationship with us. We also rely on a
combination of intellectual property rights, including trade secrets, patents, copyrights, trademarks, and domain names to
establish and protect our intellectual property. We seek to protect our proprietary position by filing patent applications in the
United States and in jurisdictions outside of the United States related to our technology, inventions, and improvements that are
important to our business. We hold two U.S. patents related to the technology underlying our proprietary Trupanion Express
platform, one patent for the design of the platform, and we have additional patent applications pending in the United States and
in other jurisdictions. We additionally rely on data and market exclusivity, and patent term extensions when available. Our
ability to protect and enforce our intellectual property rights is subject to risk and may adversely impact our business.
Employees
We highly value our company culture. We are a mission-driven company and attract employees that share our passion for pets.
Our culture enables our employees to channel that passion collectively toward our goals and is key to our success. As of
December 31, 2018, we had 586 employees.
Regulation
Each U.S. state, the District of Columbia and U.S. territories and possessions, as well as all of the Canadian provinces, have
insurance laws that apply to companies licensed to transact insurance business in the jurisdiction. The primary regulator of an
insurance company, however, is located in its state of domicile. Our insurance subsidiary, American Pet Insurance Company
(APIC), is domiciled in New York State and its primary regulator is therefore the New York Department of Financial Services
(NY DFS). APIC is currently licensed to do business in all 50 states, Puerto Rico and the District of Columbia in the United States.
As such, APIC is subject to comprehensive regulation and supervision under U.S. state and federal laws.
State insurance regulators have broad authority with respect to all aspects of the insurance industry, including the following:
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licensing to transact business, and approval and issuance of certificates of authority;
revoking or suspending previously issued certificates of authority;
assessing the officers and directors to ensure a minimum level of competency and trustworthiness;
licensing of individual producers and agents and business entities marketing and selling insurance products;
licensing of claims adjusters and third-party administrators;
penalizing for noncompliance with respect to licensing requirements and regulations;
admitting assets to statutory surplus and regulating the nature of investments;
regulating premium rate levels for the insurance products offered;
approving policy forms;
regulating claims practices; and
establishing reserve requirements and solvency standards.
Regulators also have broad authority to perform on-site market conduct examinations of our management and operations,
marketing and sales, underwriting, customer service, claims handling and licensing. Market conduct examinations can involve
direct, on-site contact with a company to identify potential regulatory violations, discussion and correction of an identified
problem, or obtaining a better understanding of how the company is operating in the marketplace.
State insurance laws and regulations in the United States require APIC to file financial statements with state insurance
regulators everywhere it is licensed and its operations and accounts are subject to examination at any time. APIC’s statutorily
required financial statements are available to the public. APIC prepares statutory financial statements in accordance with
accounting practices and procedures prescribed or permitted by these regulators. The National Association of Insurance
Commissioners (NAIC) has approved a series of uniform statutory accounting principles (SAP) that have been adopted, in
some cases with minor modifications, by all state insurance regulators. As a basis of accounting, SAP was developed to monitor
and regulate the solvency of insurance companies. In developing SAP, insurance regulators were primarily concerned with
assuring an insurer’s ability to pay all its current and future obligations to policyholders. As a result, statutory accounting
focuses on conservatively valuing the assets and liabilities of insurers, generally in accordance with standards specified by the
insurer’s domiciliary state. The values for assets, liabilities and equity reflected in financial statements prepared in accordance
with U.S. generally accepted accounting principles are usually different from those reflected in financial statements prepared
under SAP.
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In Canada, our medical insurance is written by an unaffiliated Canadian-licensed insurer, Omega General Insurance Company
(Omega). Under the terms of our agreements with Omega, our subsidiary Trupanion Brokers Ontario acts as a general agent
through a fronting and reinsurance agreement with Omega pursuant to which, we retain any financial risk associated with our
Canadian business. Effective January 1, 2015, these agreements were restructured to include our segregated cell business,
Wyndham Segregated Account AX (WICL), located in Bermuda. These restructured agreements automatically renew annually,
but may be terminated by either party with one year’s written notice. Omega’s Canadian insurance operations are supervised
and regulated by the Canadian federal, provincial and territorial governments. Omega is a fully licensed insurer in all of the
Canadian provinces and territories in which we do business.
Though we are not directly regulated by the Bermuda Monetary Authority (BMA), WICL’s regulation and compliance impacts
us as it could have an adverse impact on the ability of WICL to pay dividends. WICL is regulated by the BMA under the
Insurance Act of 1978 (Insurance Act) and the Segregated Accounts Company Act of 2000. The Insurance Act imposes on
Bermuda insurance companies solvency and liquidity standards, certain restrictions on the declaration and payment of
dividends and distributions, certain restrictions on the reduction of statutory capital, and auditing and reporting requirements,
and grants BMA the powers to supervise and, in certain circumstances, to investigate and intervene in the affairs of insurance
companies. Under the Insurance Act, WICL as a class 3 insurer is required to maintain available statutory capital and surplus at
a level equal to or in excess of a prescribed minimum established by reference to net written premiums and loss reserves.
Under the Bermuda Companies Act of 1981, as amended, a Bermuda company may not declare or pay a dividend or make a
distribution out of contributed surplus if there are reasonable grounds for believing that: (a) the company is, or would be after
the payment, unable to pay its liabilities as they become due; or (b) the realizable value of the company’s assets would thereby
be less than its liabilities. The Segregated Accounts Company Act of 2000 further requires that dividends out of a segregated
account can only be paid to the extent that the cell remains solvent. The value of its assets must remain greater than the
aggregate of its liabilities, issued share capital, and share premium accounts. Per our contractual agreements with WICL, the
allowable dividend to be paid by WICL is equivalent to the positive undistributed profit attributable to the shares.
Insurance Holding Company Regulation
APIC is subject to laws governing insurance holding companies in New York, its state of domicile. These laws impact us in a
number of ways, including the following:
• We must file periodic information reports with the NY DFS, including information concerning our capital structure,
ownership, financial condition and general business operations.
• New York regulates certain transactions between APIC and our other affiliated entities, including the fee levels
payable by APIC to affiliates that provide services to APIC.
• New York law restricts the ability of any one person to acquire certain levels of our voting securities without prior
regulatory approval. State insurance holding company regulations generally provide that no person, corporation or
other entity may acquire control of an insurance company, or a controlling interest in any parent company of an
insurance company, without the prior approval of such insurance company’s domiciliary state insurance regulator. Any
person acquiring, directly or indirectly, 10% or more of the voting securities of an insurance company is presumed to
have acquired “control” of the company. To obtain approval of any change in control, the proposed acquirer must file
with the applicable insurance regulator an application disclosing, among other information, its background, financial
condition, the financial condition of its affiliates, the source and amount of funds by which it will effect the
acquisition, the criteria used in determining the nature and amount of consideration to be paid for the acquisition,
proposed changes in the management and operations of the insurance company and other related matters. In
considering an application to acquire control of an insurer, the insurance commissioner generally will consider such
factors as the experience, competence and financial strength of the applicant, the integrity of the applicant’s board of
directors and executive officers, the acquirer’s plans for the management and operation of the insurer and any anti-
competitive results that may arise from the acquisition.
• New York law restricts the ability of APIC to pay dividends to its holding company parent. These restrictions are based
in part on the prior year’s statutory income and surplus. In general, dividends up to specified levels are considered
ordinary and may be paid without prior approval, and dividends in larger amounts, or extraordinary dividends, are
subject to approval by the NY DFS. An extraordinary dividend or distribution is defined as a dividend or distribution
that, in the aggregate in any 12-month period, exceeds the lesser of (i) 10% of surplus as of the preceding
December 31 or (ii) the insurer’s adjusted net investment income for such 12-month period, not including realized
capital gains.
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Financial Regulation of Insurers
Risk-Based Capital Requirements
The NAIC has adopted risk-based capital requirements for life, health and property and casualty insurance companies. Refer to
Item 1A. “Risk Factors” for details of these requirements.
NAIC Insurance Regulatory Information System Ratios
The NAIC has developed a set of financial relationships or tests known as the Insurance Regulatory Information System, or
IRIS, to assist state regulators in monitoring the financial condition of U.S. insurance companies and identifying companies
requiring special attention or action. IRIS consists of a statistical phase and an analytical phase whereby financial examiners
review insurers’ annual statements and financial ratios. The statistical phase consists of 12 key financial ratios based on year-
end data that are generated from the NAIC database annually; each ratio has a “usual range” of results. For IRIS ratio purposes,
APIC submits data annually to state insurance regulators who then analyze our data using prescribed financial data ratios. A
ratio falling outside the prescribed “usual range” is not considered a failing result. Rather, unusual values are viewed as part of
the regulatory early monitoring system. In many cases, it is not unusual for financially sound companies to have one or more
ratios that fall outside the usual range. As of December 31, 2018, APIC had four such ratios outside the usual range, relating to
net premiums written to surplus, change in policyholders’ surplus, and investment yield.
Regulators may investigate or monitor an insurance company if its IRIS ratios fall outside the prescribed usual range. The
inquiries made by state insurance regulators into an insurance company’s IRIS ratios can take various forms. In some instances,
regulators may require the insurance company to provide a written explanation as to the causes of the particular ratios being
outside the usual range, management’s actions to produce results that will be within the usual range in future years and what, if
any, actions the insurance company’s domiciliary state insurance regulators have taken. Regulators are not required to take
action if an IRIS ratio is outside the usual range, but, depending on the nature and scope of the particular insurance company’s
exception, regulators may request additional information to monitor going forward and, as a consequence, may take additional
regulatory action.
Insurance Guaranty Associations, Residual Markets, Wind Pools and State-specific Reinsurance Mechanisms
Most jurisdictions in which we operate have laws or regulations that require insurance companies doing business in the state to
participate in various types of guaranty associations or other similar arrangements designed to protect policyholders from losses
under insurance policies issued by insurance companies that become impaired or insolvent. Typically, these associations levy
assessments, up to prescribed limits, on member insurers on the basis of the member insurer’s proportionate share of the
business in the relevant jurisdiction in the lines of business in which the impaired or insolvent insurer is engaged. Some
jurisdictions permit member insurers to recover assessments that they paid through full or partial premium tax offsets, usually
over a period of years.
Some states in which APIC operates have residual markets, wind pools or state reinsurance mechanisms. The general intent
behind these is to provide insurance to individuals and businesses that cannot find appropriate insurance in the private
marketplace. The intent of state-specific reinsurance mechanisms generally is to stabilize the cost of, and ensure access to,
reinsurance for admitted insurers writing business in the state. Historically, APIC has had minimal financial exposure to
guaranty associations, residual markets, wind pools and state-specific reinsurance mechanisms; however there is no guarantee
that these items will continue to be of low financial impact to APIC.
Federal Initiatives
The U.S. federal government generally does not directly regulate the insurance business. From time to time, various regulatory
and legislative changes have been proposed in the insurance industry. Among the proposals that have in the past been, or are at
present may be under consideration, are the possible introduction of federal regulation in addition to, or in lieu of, the current
system of state regulation of insurers. There have also been proposals in various state legislatures (some of which have been
enacted) to conform portions of their insurance laws and regulations to various model acts adopted by the NAIC. The NAIC
has undertaken a Solvency Modernization Initiative focused on updating the U.S. insurance solvency regulation framework,
including capital requirements, governance and risk management, group supervision, accounting and financial reporting and
reinsurance. The NAIC Amendments are a result of these efforts. Additional requirements are also expected.
8
In July 2010, the Dodd-Frank Wall Street Reform and Consumer Protection Act (Dodd-Frank Act) established a Federal
Insurance Office within the U.S. Department of the Treasury. The Federal Insurance Office initially is charged with monitoring
all aspects of the insurance industry (other than health insurance, certain long-term care insurance and crop insurance),
gathering data and conducting a study on methods to modernize and improve the insurance regulatory system in the United
States. It is not possible to predict whether, in what form or in what jurisdictions any of these proposals might be adopted, or
the effect federal involvement in insurance will have, if any, on us.
Privacy and Data Collection Regulation
There are numerous federal, state and foreign laws regarding privacy and the protection of member data. The regulatory
environment in this area for online businesses is very unsettled in the United States and internationally and new legislation is
frequently being proposed and enacted.
In the area of information security and data protection, many states have passed laws requiring notification to users when there
is a security breach for personal data or requiring the adoption of minimum information security standards. In addition, our
operations subject us to certain payment card association operating rules, certification requirements and rules, including the
Payment Card Industry Data Security Standard, a security standard for companies that collect, store or transmit certain data
regarding credit and debit cards, credit and debit card holders and credit and debit card transactions.
Despite our efforts to protect our proprietary rights, unauthorized parties may attempt to copy or obtain and use our technology
or data to develop products that may compete with our offerings. Policing unauthorized use of our technology or data is
difficult. The laws of other countries in which we operate may offer little or no effective protection of our proprietary
technology. Our competitors could also independently develop technologies equivalent to ours, and our intellectual property
rights may not be broad enough for us to prevent competitors from selling products incorporating those technologies.
Companies in our industry and in other industries may own a large number of patents, copyrights and trademarks and may
frequently request license agreements, threaten litigation or file suit against us based on allegations of infringement or other
violations of intellectual property rights. From time to time, we face, and we expect to face in the future, allegations that we
have infringed the trademarks, copyrights, patents and other intellectual property rights of third parties, including our
competitors. As we face increasing competition and as our business grows, we will likely face more claims of infringement.
Corporate Information
We were founded in Canada in 2000 as Vetinsurance Ltd. In 2006, we effected a business reorganization whereby Vetinsurance
Ltd. became a consolidated subsidiary of Vetinsurance International, Inc., a Delaware corporation. In 2007, we began doing
business as Trupanion. In 2013, we formally changed our name from Vetinsurance International, Inc. to Trupanion, Inc. Our
principal executive offices are located at 6100 4th Avenue South, Seattle, Washington 98108, and our telephone number is
(855) 727-9079. Our website address is www.trupanion.com. Information contained on, or that can be accessed through, our
website is not incorporated by reference, and you should not consider information on our website to be part of this Annual
Report on Form 10-K.
Available Information
We are required to file annual, quarterly and other reports, proxy statements and other information with the Securities and
Exchange Commission (SEC) under the Securities Exchange Act of 1934, as amended (Exchange Act). We also make
available, free of charge on the investor relations portion of our website at investors.trupanion.com, our annual reports on Form
10-K, quarterly reports on Form 10-Q, current reports on Form 8-K, and amendments to those reports filed or furnished
pursuant to Section 13(a) or 15(d) of the Exchange Act as soon as reasonably practicable after they are filed electronically with
the SEC. The SEC also maintains an Internet website at www.sec.gov where you can obtain our SEC filings. You can also
obtain paper copies of these reports, without charge, by contacting Investor Relations at InvestorRelations@Trupanion.com.
Investors and others should note that we may announce material financial information to our investors using our investor
relations website, SEC filings, our annual stockholder meeting, press releases, public conference calls, investor conferences,
presentations and webcasts. We use these channels, as well as social media, to communicate with our members and the public
about our company, our services and other issues. It is possible that the information we post on these channels, such as social
media, could be deemed to be material information.
9
Item 1A. Risk Factors
Investing in our common stock involves a high degree of risk. You should carefully consider the risks and uncertainties
described below, together with all of the other information in this report and in our other filings with the SEC, in evaluating
our business and before investing in our common stock. The risks and uncertainties described below are not the only ones
we face. Additional risks and uncertainties that are not expressly stated, that we are unaware of, or that we currently believe
are not material, may also become important factors that affect us. If any of the following risks occur, our business may
suffer and you could lose part or all of your investment.
Risks Related to Our Business and Industry
We have incurred significant cumulative net losses since our inception and may not be able to achieve or maintain
profitability in the future.
We have incurred significant cumulative net losses since our inception. We have funded our operations through equity
financings, borrowings under a revolving line of credit and term loans and, more recently, positive cash flows from operations.
We may not be able to achieve or maintain profitability in the future. Our recent growth, including our growth in revenue and
membership, may not be sustainable or may decrease, and we may not generate sufficient revenue to achieve or maintain
profitability. Additionally, our expense levels are based, in significant part, on our estimates of future revenue and many of
these expenses are fixed in the short term. As a result, we may be unable to adjust our spending in a timely manner if our
revenue falls short of our expectations. Accordingly, any significant shortfall of revenue in relation to our estimates could have
an immediate negative effect on our financial results.
We have made and plan to continue to make significant investments to grow our member base. Our average pet acquisition cost
and the number of new pets we enroll depends on a number of factors and assumptions, including the effectiveness of our sales
execution and marketing initiatives, changes in costs of media, the mix of our sales and marketing expenditures and the
competitive environment. Our average pet acquisition cost has in the past significantly varied and in the future may
significantly vary period to period based upon specific marketing initiatives. We also regularly test new member acquisition
channels and marketing initiatives, which often are more expensive than our traditional marketing channels and generally
increase our average acquisition costs. We plan to expand the number of Territory Partners we use to reach veterinarians and
other referral sources and to engage in other marketing activities, including direct to consumer advertising, which are likely to
increase our acquisition costs.
We also expect to continue to make significant expenditures relating to the acquisition of new members, including the increase
of inside account managers retention of our existing members and development and implementation of our technology
platforms. These increased expenditures may not be effective and may make it more difficult for us to scale or even remain
profitable. If we are unable to achieve or maintain profitability or otherwise invest in our growth, we may not be able to
execute our business plan, our prospects may be harmed and our stock price could be materially and adversely affected.
We base our decisions regarding our member acquisition expenditures primarily on the projected lifetime value of the pets
that we expect to acquire and the projected internal rate of return on marketing spend. Our estimates and assumptions may
not accurately reflect our future results, we may overspend on member acquisition, and we may not be able to recover our
member acquisition costs or generate profits from these investments.
We invest significantly in member acquisition. We spent $23.7 million on sales and marketing to acquire new members for the
year ended December 31, 2018. We expect to continue to spend significant amounts to acquire additional members. We utilize
Territory Partners, who are paid fees based on activity in their regions, to communicate the benefits of our subscription to
veterinarians through in-person visits. Veterinarians then educate pet owners, who visit our website or call our contact center to
learn more about, and potentially enroll in, our subscription. We also invest in other third-party referrals and direct to consumer
member acquisition channels, though we have limited experience with some of them.
We base our decisions regarding our member acquisition expenditures primarily on the lifetime value of the pets that we project
to acquire. This analysis depends substantially on estimates and assumptions based on our historical experience with pets
enrolled in earlier periods, including our key operating metrics described in “Management’s Discussion and Analysis of
Financial Condition and Results of Operations-Key Operating Metrics.”
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If our estimates and assumptions regarding internal rate of return and the lifetime value of the pets that we project to acquire
and our related decisions regarding investments in member acquisition prove incorrect, or if our calculation of internal rate of
return and lifetime value of the pets that we project to acquire differs significantly from that of pets acquired in prior periods,
we may be unable to recover our member acquisition costs or generate profits from our investment in acquiring new members.
Moreover, if our member acquisition costs increase or we invest in member acquisition channels that do not ultimately result in
any or an adequate number of new member enrollments, the return on our investment may be lower than we anticipate
irrespective of the lifetime value of the pets that we project to acquire as a result of the new members. If we cannot generate
profits from this investment, we may need to alter our growth strategy, and our growth rate and operating results may be
adversely affected.
If we are unable to maintain high member retention rates, our growth prospects and revenue will be adversely affected.
We have historically experienced high average monthly retention rates. For example, our average monthly retention rate
between 2010 and 2018 was 98.5%. If our efforts to satisfy our existing members are not successful or if new marketing
initiatives result in enrolling more pets that inherently have a lower retention rate, we may not be able to maintain our retention
rates. Members we obtain through aggressive promotions or other channels that involve relatively less meaningful contact
between us and the member may be more likely to terminate their subscription. In the past, we have experienced reduced
retention rates during periods of rapid member growth, as our retention rate generally has been lower during the first year of
member enrollment. Members may choose to terminate their subscription for a variety of reasons, including perceived or actual
lack of value, delays or other unsatisfactory experiences in how we review and process veterinary invoice payments,
unsatisfactory member service, an economic downturn, increased subscription fees, loss of a pet, a more attractive offer from a
competitor, changes in our subscription or other reasons, including reasons that are outside of our control. Our cost of acquiring
a new member is substantially greater than the cost involved in maintaining our relationship with an existing member. If we are
not able to successfully retain existing members and limit terminations, our revenue and operating margins will be adversely
impacted and our business, operating results and financial condition would be harmed.
The prices of our subscriptions are based on assumptions and estimates and may be subject to regulatory approvals. If our
actual experience differs from these assumptions and estimates or if we are unable to obtain any necessary regulatory
pricing approvals, our revenue and financial condition could be adversely affected.
The pricing of our subscriptions reflects amounts we expect to pay for a pet's medical care derived from assumptions that we
make regarding a number of factors, including a pet’s species, breed, age, gender and location. Factors related to pet location
include the current and assumed changes in the cost and availability of veterinary technology and treatments and local
veterinary practice preferences. The prices of our subscriptions also include assumptions and estimates regarding our own
operating costs and expenses. We monitor and manage our pricing and overall sales mix to achieve target returns. Profitability
from new members emerges over a period of years depending on the nature and length of time a pet is enrolled, and is subject
to variability as actual results may differ from pricing assumptions. If the subscription fees we collect are insufficient to cover
actual costs, including veterinary invoice expense, operating costs and expenses within anticipated pricing allowances, or if our
member retention rates are not high enough to ensure recovery of member acquisition costs, then our gross profit could be
adversely affected, and our revenue may be insufficient to achieve or maintain profitability. Conversely, if our pricing
assumptions differed from actual results such that we overpriced risks, our competitiveness and growth prospects could be
adversely affected. Further, even if our pricing assumptions are accurate, we may not be able to obtain the necessary regulatory
approvals for any pricing changes that we may determine are appropriate based on our pricing assumptions, which could
prevent us from obtaining sufficient revenue from subscriptions to cover our costs, including veterinary invoice expense,
processing costs, pet acquisition costs and other expenses in any such jurisdiction unless and until such regulatory approvals are
obtained in appropriate amounts.
The anticipated benefits of our analytics platform may not be fully realized.
Our analytics platform draws upon our proprietary pet data to price our subscriptions. The assumptions we make about breeds
and other factors in pricing may prove to be inaccurate and, accordingly, these pricing analytics may not accurately reflect the
expense that we will ultimately incur. Furthermore, if any of our competitors develop similar or better data systems, adopt
similar or better underwriting criteria and pricing models or receive our data, our competitive advantage could decline or be
lost.
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Our actual veterinary invoice expense may exceed our current reserve established for veterinary invoices and may adversely
affect our operating results and financial condition.
Our recorded reserve for veterinary invoices is based on our best estimates of the amount of veterinary invoices we expect to
pay, inclusive of an estimate for veterinary invoices we have not yet received, after considering known facts and interpretations
of circumstances and the estimated cost to process and pay those veterinary invoices. We consider internal factors, including
data from our proprietary data analytics platform, experience with similar cases, actual veterinary invoices paid, historical
trends involving veterinary invoice payment patterns, patterns of receipt of veterinary invoices, seasonality, pending levels of
unpaid veterinary invoices, veterinary invoice processing programs and contractual terms. We may also consider external
factors, including changes in the law, court decisions, changes to regulatory requirements and economic conditions. Because
reserves are estimates of veterinary invoices that have been incurred but are not yet submitted to us, the establishment of
appropriate reserves is an inherently uncertain and complex process that involves significant subjective judgment. Further, we
do not transfer or cede our risk as an insurer and, therefore, we maintain more risk than we would if we purchased reinsurance.
The ultimate cost of paying veterinary invoices and the related administration may vary materially from recorded reserves, and
such variance may result in adjustments to the reserve for veterinary invoices, which could have a material effect on our
operating results.
We rely significantly on Territory Partners, veterinarians and other third parties to recommend us.
We rely significantly on Territory Partners and other third parties to cultivate direct veterinary relationships and build
awareness of the benefits that we offer veterinarians and their clients. In turn, we rely on veterinarians to introduce and
recommend Trupanion to their clients. We also rely significantly on other third parties, such as existing members, online and
other businesses, animal shelters, breeders and veterinary affiliates, including veterinarian purchasing groups and associations,
to help generate leads for our subscription. Veterinary referred leads represent our largest member acquisition channel. In the
year ended December 31, 2018, approximately 73% of our enrollments came from referrals from veterinarians and existing
members, as well as people adding pets to their existing subscription.
Many factors influence the success of our relationships with these referral sources, including:
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the continued positive market presence, reputation and growth of our company and of the referral sources;
the effectiveness of referral sources;
the decision of any such referral source to support one or more of our competitors;
the interest of the referral sources’ customers or clients in our subscription;
the relationship and level of trust between Territory Partners and veterinarians, and between us and the referral source;
the percentage of the referral sources’ customers or clients that submit applications or use trial certificates to enroll
through our website or contact center;
our ability to implement or maintain any marketing programs, including trial certificates, in any jurisdiction; and
our ability to work with the referral source to implement any changes in our marketing initiatives, including website
changes, infrastructure and technology and other programs and initiatives necessary to generate positive consumer
experiences.
In order for us to implement our business strategy and grow our revenue, we must effectively maintain and increase the number
and quality of our relationships with Territory Partners, veterinarians and other referral sources, and continue to scale and
improve our processes, programs and procedures that support them. Those processes, programs and procedures could become
increasingly complex and difficult to manage. We expend significant time and resources attracting qualified Territory Partners
and providing them with complete and current information about our business. Their relationship with us may be terminated at
any time, and, if terminated, we may not recoup the costs associated with educating them about our subscription or be able to
maintain any relationships they may have developed with veterinarians within their territories. Sometimes a single relationship
may be used to cover multiple territories so that a terminated relationship could significantly impact our company. Further, if
we experience an increase in the rate at which Territory Partner relationships are terminated, we may not develop or maintain
relationships with veterinarians as quickly as we have in the past. If the financial cost to maintain our relationships with
Territory Partners outweighs the benefits provided by Territory Partners, or if they feel unsupported or undervalued by us and
terminate their relationship with us, our growth and financial performance could be adversely affected.
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The success of our relationships with veterinary practices depends on the overall value we can provide to veterinarians. If the
scope of our subscription is perceived to be inadequate or if our process for paying veterinary invoices is unsatisfactory to the
veterinarians' clients because, for example, a service is not included in our subscription, member requests for reimbursement
are denied or we fail to timely settle and pay veterinary invoices, veterinarians may be unwilling to recommend us to their
clients and they may encourage their existing clients who have subscribed to stop or to purchase a competing product. If
veterinarians determine our subscription is unreliable, cumbersome or otherwise does not provide sufficient value, they may
terminate their relationship with us or begin recommending a competing product, which could negatively impact our ability to
increase our member base and grow our business.
If we fail to establish or are unable to maintain successful relationships with Territory Partners, veterinarians and other referral
sources, or experience an increase in the rate at which any of these relationships are terminated, it could negatively impact our
ability to increase and retain our member base and our financial results. If we are unable to maintain our existing member
acquisition channels and/or continue to add new member acquisition channels, if the cost of our existing sources increases or
does not scale as we anticipate, or if we are unable to continue to use any existing channels or programs in any jurisdiction,
including our trial certificate program, our member levels and sales and marketing expenses may be adversely affected.
Territory Partners are independent contractors and, as such, may pose additional risks to our business.
Territory Partners are independent contractors and, accordingly, we do not directly provide the same direction, motivation and
oversight over Territory Partners as we otherwise could if Territory Partners were our own employees. Further, Territory
Partners may themselves employ or engage others; we refer to these partners and their associates, collectively, as our Territory
Partners. We do not control a Territory Partner’s employment or engagement of others, and it is possible that the actions of their
employees and/or contractors could create threatened or actual legal proceedings against us.
Territory Partners may decide not to participate in our marketing initiatives and/or training opportunities, accept our
introduction of new solutions or comply with our policies and procedures applicable to them, any of which may adversely
affect our ability to develop relationships with veterinarians and grow our membership. Our sole recourse against Territory
Partners who fail to perform is to terminate their contract, which could also trigger contractually obligated termination
payments or result in disputes, including threatened or actual legal or regulatory proceedings.
We believe that Territory Partners are not and should not be classified as employees under existing interpretations of the
applicable laws of the jurisdictions in which we operate. We do not pay or withhold any employment tax with respect to or on
behalf of Territory Partners or extend any benefits to them that we generally extend to our employees, and we otherwise treat
Territory Partners as independent contractors. Applicable authorities or the Territory Partners have in the past questioned and
may in the future challenge this classification. Further, the applicable laws or regulations, including tax laws or interpretations,
may change. If it were determined that we had misclassified any of our Territory Partners, we may be subjected to penalties
and/or be required to pay withholding taxes, extend employee benefits, provide compensation for unpaid overtime, or otherwise
incur substantially greater expenses with respect to Territory Partners.
Any of the foregoing circumstances could have a material adverse impact on our operating results and financial condition.
Our member base has grown rapidly in recent periods, and we may not be able to maintain the same rate of membership
growth.
Our ability to grow our business and to generate revenue depends significantly on attracting new members. For the year ended
December 31, 2018, we generated 87% of our revenue from subscriptions. In order to continue to increase our membership, we
must continue to offer a superior value to our members. Our ability to continue to grow our membership will also depend in
part on the effectiveness of our sales and marketing programs. Our member base may not continue to grow or may decline as a
result of increased competition or the maturation of our business.
We may not maintain our current rate of revenue growth.
Our revenue has increased quickly and substantially in recent periods. We believe that our continued revenue growth will
depend on, among other factors, our ability to:
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improve our market penetration through efficient and effective sales and marketing programs to attract new members;
convert leads into enrollments;
• maintain high retention rates;
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increase the lifetime value per pet to, in turn, enable us to spend more on sales and marketing programs;
• maintain positive relationships with veterinarians and other referral sources;
• maintain positive relationships with and increase the number and efficiency of Territory Partners;
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continue to offer a superior value with competitive features and rates;
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accurately price our subscriptions in relation to actual member costs and operating expenses and achieve required
regulatory approval for pricing changes;
provide our members with superior member service, including timely and efficient payment of veterinary invoices,
and by recruiting, integrating and retaining skilled and experienced personnel who can appropriately and efficiently
review veterinary invoices and process payments;
generate new and maintain existing relationships and programs in our other business segment;
recruit, integrate and retain skilled, qualified and experienced sales department professionals who can demonstrate our
value proposition to new and existing members;
react to changes in technology and challenges in the industry, including from existing and new competitors;
increase awareness of and positive associations with our brand; and
successfully respond to any regulatory matters and defend any litigation.
You should not rely on our historical rate of revenue growth as an indication of our future performance.
Our use of capital may be constrained by risk-based capital regulations or contractual obligations.
Our subsidiary, American Pet Insurance Company, is subject to risk-based capital regulations that require us to maintain certain
levels of surplus to support our overall business operations in consideration of our size and risk profile. We have in the past and
may in the future fail to maintain the amount of risk-based capital required to avoid additional regulatory oversight, which was
$53.4 million as of December 31, 2018. To comply with these regulations and our related contractual obligations, we may be
required to maintain capital that we would otherwise invest in our growth and operations, which may require us to modify our
operating plan or marketing initiatives, delay the implementation of new solutions or development of new technologies,
decrease the rate at which we hire additional personnel and enter into relationships with Territory Partners, incur indebtedness
or pursue equity or debt financings or otherwise modify our business operations, any of which could have a material adverse
effect on our operating results and financial condition.
We are also subject to a contractual obligation related to our reinsurance agreement with Omega General Insurance Company
(Omega). Under this agreement, we are required to fund a Canadian Trust account in accordance with Canadian regulations. As
of December 31, 2018, the account held CAD $3.5 million.
Unexpected increases in the number or amounts of veterinary invoices received, or that we expect to receive, may negatively
impact our operating results.
Unexpected changes in the number or amounts of veterinary invoices received, or that we expect to receive, may negatively
impact our operating results. Rising costs of veterinary care and the increasing availability and usage of more expensive,
technologically advanced medical treatments may increase the amounts of veterinary invoices we receive. Increases in the
number of veterinary invoices we receive could arise from unexpected events that are inherently difficult to predict, such as a
pandemic that spreads through the pet population, tainted pet food or supplies or an unusually high number of serious injuries
or illnesses. We may experience volatility in the number of veterinary invoices we receive from time to time, and short-term
trends may not continue over the longer term. The number of veterinary invoices may be affected by the level of care and
attentiveness an owner provides to the pet, the pet’s breed and age and other factors outside of our control, as well as
fluctuations in member retention rates and by new member initiatives that encourage an increase in veterinary invoices and
other new member acquisition activities. A significant increase in the number or amounts of veterinary invoices could increase
our cost of revenue and have a material adverse effect on our financial condition.
Our success depends on our ability to review, process, and pay veterinary invoices timely and accurately.
We must accurately evaluate and pay veterinary invoices timely in a manner that gives our members high satisfaction. Many
factors can affect our ability to do this, including the training, experience and skill of our personnel, our ability to reduce the
number of payment requests made for services not included in our subscription, the department’s culture and the effectiveness
of its management, our ability to develop or select and implement appropriate procedures, supporting technologies and systems,
and changes in our policy. Our failure to fairly pay veterinary invoices, accurately and in a timely manner, or to deploy
resources appropriately, could result in unanticipated costs to us, lead to material litigation, undermine member goodwill and
our reputation, and impair our brand image and, as a result, materially and adversely affect our competitiveness, financial
results, prospects and liquidity.
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We may not identify fraudulent or improperly inflated veterinary invoices.
It is possible that a member, or a third-party actually or purportedly on behalf of the member, could submit a veterinary invoice
which we would then pay that appears authentic but in fact does not reflect services provided or products purchased for which
the member paid. It is also possible that veterinarians will charge insured customers higher amounts than they would charge
their non-insured clients for the same service or product. Such activity could lead to unanticipated costs to us and/or to time and
expense to recover such costs. They could also lead to strained relationships with veterinarians and/or members, and could
adversely affect our competitiveness, financial results and liquidity.
Changes in the foreign exchange rates may adversely affect our revenue and operating results.
We offer our subscription in Canada, and in the future may offer it in other countries, which exposes us to the risk of changes in
currency exchange rates. For the year ended December 31, 2018, approximately 19% of our total revenue was generated in
Canada. Fluctuations in the relative strength of the US dollar has in the past and could in the future adversely affect our revenue
and operating results.
We are and will continue to be faced with many competitive challenges, any of which could adversely affect our prospects,
operating results and financial condition.
We compete with pet owners that self-finance unexpected veterinary invoices with savings or credit, as well as traditional "pet
insurance" providers and relatively new entrants into our market. The vast majority of pet owners in the United States and
Canada do not currently have medical insurance for their pets. We are focused primarily on expanding our share of the overall
market, and we view our primary competitive challenge as educating pet owners on why our subscription is a better alternative
to self-financing.
Additionally, there are traditional insurance companies that provide pet insurance products, either as a stand-alone product or
along with a broad range of other insurance products. In addition, new entrants backed by large insurance companies have
attempted to enter the pet insurance market in the past and may do so again in the future. Further, traditional "pet insurance"
providers may consolidate or take other actions to mimic the efficiencies from our vertically-integrated structure or create other
operational efficiencies, which could lead to increased competition.
Some of our current and potential competitors have longer operating histories, larger customer bases, greater brand recognition
and significantly greater financial, technical, marketing and other resources than we do. Some of our competitors may be able
to undertake more extensive marketing initiatives for their brands and services, devote more resources to website and systems
development and make more attractive offers to potential employees, referral sources and third-party service providers.
To compete effectively, we will need to continue to invest significant resources in sales and marketing, in improving our
member service levels, in the online experience and functionalities of our website and in other technologies and infrastructure.
Failure to compete effectively against our current or future competitors could result in loss of current or potential members,
subscription terminations or a reduction in member retention rates, which could adversely affect our pricing, lower our revenue
and prevent us from maintaining profitability. We may not be able to compete effectively for members in the future against
existing or new competitors, and the failure to do so could result in loss of existing or potential members, increased sales and
marketing expenses or diminished brand strength, any of which could harm our business.
If we are not successful in cost-effectively converting visitors to our website and contact center into members, our business
and operating results would be harmed.
Our growth depends in large part upon growth in our member base. We seek to convert consumers who visit our website and
call our contact center into members. The rate at which consumers visiting our website and contact center considering
enrollment in our subscription are converted into members is a significant factor in the growth of our member base. A number
of factors have influenced, and could in the future influence, the conversion rates for any given period, some of which are
outside of our control. These factors include:
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the competitiveness of our subscription, including its perceived value, simplicity, and fairness;
changes in consumer shopping behaviors due to circumstances outside of our control, such as economic conditions
and consumers’ ability or willingness to pay for our product;
the quality of and changes to the consumer experience when speaking with us on the phone or using our website;
regulatory requirements, including those that make the experience on our website cumbersome or difficult to navigate
or that hinder our ability to speak with potential members quickly and in a way that is conducive to converting leads,
enrolling new pets, and/or resolving member concerns;
system failures or interruptions in the operation of our abilities to write policies or operate our website or contact
center; and
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changes in the mix of consumers who are referred to us through various member acquisition channels, such as
veterinary referrals, existing members adding a pet and referring their friends and family members and other third-
party referrals and direct-to-consumer acquisition channels.
Our ability to convert consumers into members can be impacted by a change in the mix of referrals received through our
member acquisition channels. In addition, changes to our website or contact center, or other programs or initiatives we
undertake, may adversely impact our ability to convert consumers into members at our current rate, or at all. These changes
may have the unintended consequence of adversely impacting our conversion rates. A decline in the percentage of members
who enroll in our subscription on our website or by calling our contact center also could result in increased member acquisition
costs. To the extent the rate at which we convert consumers into members suffers, the growth rate of our member base may
decline, which would harm our business, operating results and financial condition.
We have made and plan to continue to make substantial investments in features and functionality for our website and training
and staffing for our contact center that are designed to generate traffic, increase member engagement and improve new and
existing member service. These activities do not directly generate revenue, however, and we may never realize any benefit from
these investments. If the expenses that we incur in connection with these activities do not result in sufficient growth in
members to offset the cost, our business, operating results and financial condition will be adversely affected.
If we are unable to maintain and enhance our brand recognition and reputation, our business and operating results will be
harmed.
We believe that maintaining and enhancing our brand recognition and reputation is critical to our relationships with existing
members, Territory Partners, veterinarians and other referral sources, and to our ability to attract new members, new Territory
Partners, additional supportive veterinarians and other referral sources. We also believe that the importance of our brand
recognition and reputation will continue to increase as competition in our market continues to develop and mature. Our success
in this area will depend on a wide range of factors, some of which are out of our control, including the following:
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the efficacy and viability of our sales and marketing programs;
the perceived value of our subscription;
quality of service provided, including the fairness, ease and timeliness of reviewing and paying veterinary invoices;
actions of our competitors, Territory Partners, veterinarians and other referral sources;
positive or negative publicity, including regulatory pronouncements and material on the Internet or social media;
regulatory and other government-related developments; and
litigation-related developments.
The promotion of our brand may require us to make substantial investments, and we anticipate that, as our market becomes
increasingly competitive, these branding initiatives may become increasingly difficult and expensive. Our brand promotion
activities may not be successful or yield increased revenue, and to the extent that these activities result in increased revenue, the
increased revenue may not offset the expenses we incur and our operating results could be harmed. If we do not successfully
maintain and enhance our brand, our business may not grow and our relationships with veterinarians and other referral sources
could be terminated, which would harm our business, operating results and financial condition.
Furthermore, negative publicity, whether or not justified, relating to events or activities attributed to us, our employees, our
strategic partners, our affiliates, or others associated with any of these parties, may tarnish our reputation and reduce the value
of our brands. Damage to our reputation and loss of brand equity may reduce demand for our services and have an adverse
effect on our business, operating results, and financial condition. Moreover, any attempts to rebuild our reputation and restore
the value of our brands may be costly and time consuming, and such efforts may not ultimately be successful.
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Our business depends on our ability to maintain and scale the infrastructure necessary to operate our technology platform
and could be adversely affected by a system failure.
Our business depends on our ability to maintain and scale the infrastructure necessary to operate our technology platform,
which includes our analytics and pricing engine, systems for managing veterinary invoice payments, customer relationship
management system, billing system, contact center phone system and website. We use these technology frameworks to price
our subscriptions, enroll members, engage with current members and pay veterinary invoices. Our members review and
purchase subscriptions through our website and contact center, and we receive and pay veterinarian invoices directly through
our software. Our reputation and ability to acquire, retain and serve our members depends on the reliable performance of our
technology platform and the underlying network systems and infrastructure, and on providing best-in-class member service,
including through our contact center and website. As our member base continues to grow, the amount of information collected
and stored on the systems and infrastructure supporting our technology platform will continue to grow, and we expect to require
an increasing amount of network capacity, computing power and information technology personnel to develop and maintain our
technology platform and service our departments involved in member interaction.
We have made, and expect to continue to make, substantial investments in equipment and related network infrastructure to
handle the operational demands on our technology platform, including increasing data collection, software development, traffic
on our website and the volume of calls at our contact center. The operation of the systems and infrastructure supporting our
technology platform is expensive and complex and could experience operational failures. In the event that our data collection,
member base or amount of traffic on these systems grows more quickly than anticipated, we may be required to incur
significant additional costs to increase the capacity in our systems. Any system failure that causes an interruption in or
decreases the responsiveness of our services could impair our revenue-generating capabilities, harm our business and operating
results and damage our reputation. In addition, any loss or mishandling of data could result in breach of confidence,
competitive disadvantage or loss of members, and subject us to potential liability. Any failure of the systems and infrastructure
that we rely on could negatively impact our enrollments as well as our relationship with members. If we do not maintain or
expand the systems and infrastructure underlying our technology platform successfully, or if we experience operational failures,
our reputation could be harmed and we could lose current and potential members, which could harm our operating results and
financial condition.
We have made, and expect to continue to make, significant investments in new solutions and enhancements to our
technology platform. These new solutions and enhancements may not be successful, and we may not recognize the expected
benefits.
We have a team of product and engineering professionals dedicated in part to enhancing our technology platform and
developing new solutions. We have made, and expect to continue to make, significant investments in these new solutions and
enhancements. For example, we have made significant investments in our software, which is designed to facilitate the direct
payment of invoices to veterinary practices. These development and implementation activities may not be successful, and we
may incur delays or cost overruns or elect to curtail our currently planned expenditures related to them. Further, if or when
these new solutions or enhancements are introduced, they may not be well received by veterinarians or by new or existing
members, particularly if they are costly, cumbersome or unreliable. Even if they are well-received, they may be or become
obsolete due to technological reasons or to the availability of alternative solutions in the marketplace. If new solutions and
enhancements are not successful on a long-term basis, we may not realize benefits from these investments, and our business
and financial condition could be adversely affected.
If we fail to effectively manage our growth, our business, operating results and financial condition may suffer.
We have recently experienced, and expect to continue to experience, significant growth, which has placed, and may continue to
place, significant demands on our management and our operational and financial systems and infrastructure. We expect that our
growth strategy will require us to commit substantial financial, operational and technical resources. It may also result in
increased costs, including unexpected increases in our underlying costs (such as member acquisition costs or increases in the
number or amounts of veterinary invoices received) generated by our new business, which could prevent us from remaining
profitable and could impair our ability to compete effectively for business. Additionally, we have in the past, and may in the
future, experience increases in terminations as our membership grows, which negatively affects our retention rate. If we do not
effectively manage growth at any time, our financial condition could be harmed and the quality of our services could suffer.
In order to successfully expand our business, we need to hire, integrate and retain highly skilled and motivated employees. We
also need to continue to improve our existing systems for operational and financial management. These improvements could
require significant capital expenditures and place increasing demands on our management. We may not be successful in
managing or expanding our operations or in maintaining adequate financial and operating systems and controls. If we do not
successfully implement improvements in these areas, our business, operating results and financial condition will be harmed.
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Our operating results may vary, which could cause the trading price of our stock to fluctuate or decline, make period-to-
period comparisons less meaningful, and make our future results difficult to predict.
We may experience fluctuations in our revenue, expenses and operating results in future periods. Our operating results may
fluctuate in the future as a result of a number of factors, many of which are beyond our control. These fluctuations may lead
analysts to change their long-term models for valuing our common stock, cause us to face short-term liquidity issues, impact
our ability to retain or attract key personnel or cause other unanticipated issues, all of which could result in declines in our
stock price. Moreover, these fluctuations may make comparing our operating results on a period-to-period basis less
meaningful and make our future results difficult to predict. You should not rely on our past results as an indication of our future
performance. In addition, if revenue levels do not meet our expectations, our operating results and ability to execute on our
business plan are likely to be harmed. In addition to the other factors listed in this “Risk Factors” section, factors that could
affect our operating results include the following:
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our ability to retain our current members and grow our member base;
the level of operating expense we elect to incur related to sales and marketing and technology and development
initiatives that are discretionary in nature;
the effectiveness of our sales and marketing programs;
our ability to improve veterinarians’ and other third-parties’ willingness to recommend our subscription;
the timing, volume and amount of veterinary invoices and the adequacy of our related reserve;
our ability to accurately price our subscription and achieve required regulatory pricing approvals;
regulatory limitations or other constraints on our ability or our willingness to implement pricing changes;
the level of demand for and cost of our subscription or competing products;
fluctuations in applicable foreign currency exchange rates;
the perceived value of our subscription to veterinarians and pet owners;
spending decisions by our members and prospective members;
our costs and expenses, including pet acquisition costs and costs to pay and process veterinary invoices;
our ability to expand the scope and efficiency of our Territory Partner group;
our ability to effectively manage our growth;
the effects of increased competition in our business;
our ability to keep pace with changes in technology and our competitors;
the impact of any security incidents or service interruptions;
costs associated with defending any regulatory action or litigation or with enforcing our intellectual property,
contractual or other rights;
the impact of economic conditions on our revenue and expenses; and
changes in government regulation affecting our business.
Seasonal or periodic variations in the behavior of our members also may cause fluctuations in our financial results. Enrollment
in our subscription tends to be discretionary in nature and may be sporadic, reflecting overall economic conditions, budgeting
constraints, pet-buying patterns and a variety of other factors, many of which are outside our control. For example, we expect
to experience some effects of seasonal trends in visits to veterinarians in the fourth quarter and in the beginning of the first
quarter of each year in connection with the traditional holiday season. While we believe seasonal trends have affected and will
continue to affect our quarterly results, our growth may have overshadowed these effects to date. We believe that our business
will continue to be subject to seasonality in the future, which may result in fluctuations in our financial results.
Due to these and other factors, our financial results for any quarterly or annual period may not meet our expectations or the
expectations of investors or analysts that follow our stock and may not be meaningful indications of our future performance.
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Our vertical integration may result in higher costs.
We manage all aspects of our business, including operating our own insurance subsidiary, implementing our own national
independent referral group of Territory Partners, pricing our subscriptions with our in-house actuarial team, processing and
paying veterinary invoices, operating our own contact center and owning our own brand. While we believe this vertically
integrated approach reduces frictional costs and enhances members' experiences, third-party providers may, now or in the
future, be able to replicate this model, partially or entirely, on a more efficient and effective basis. If our in-house services are
or become less efficient or less effective than the same services provided by a third party, we may not realize the related cost
savings and may be unable to provide a superior membership experience, which may have an adverse effect on our operating
results.
Medical insurance for cats and dogs is an evolving industry, which makes it difficult to evaluate our near- and long-term
business prospects.
Medical insurance for cats and dogs continues to develop as an industry, and it is difficult to assess the future of the industry,
including future penetration rates. As an evolving industry, the marketplace is subject to significant challenges and new
competitors, and as a result the future revenue, income and growth potential of our business is uncertain.
Mergers or other strategic transactions in the animal health industry or among our competitors could adversely affect our
ability to compete effectively and harm our results of operations.
It is probable that the veterinary industry will experience further consolidation in the future, which could result in more
veterinarians’ practices regarding communicating with pet owners about medical insurance being determined at a group level.
Such consolidation could negatively impact our business. In addition, the animal health industry in general could experience
future consolidation, which could negatively impact our relationships with participants in the industry. Moreover, some of our
competitors may enter into new alliances with each other, or may establish or strengthen cooperative relationships with industry
participants. Any of these developments could adversely affect our ability to compete effectively and lead to pricing pressure
and our loss of market share and could result in a competitor with greater financial, technical, marketing, service and other
resources, all of which could harm our business, financial condition, cash flows and results of operations.
Our forecasts of market growth may prove to be inaccurate, and even if the market for medical insurance for cats and dogs
in North America achieves the forecasted growth, our business may not grow at similar rates, if at all.
Growth forecasts are subject to significant uncertainty and are based on assumptions and estimates, which may not prove to be
accurate. Although we believe that the North American market for pet medical insurance will grow over time if consumers are
offered a high-value product, the market in North America has been historically growing slowly, if at all, and may not be
capable of growing further. Even if this market experiences significant growth, we may not grow our business at similar rates,
or at all. For example, the market for medical insurance for cats and dogs in North America has been highly fragmented and
competitive and may become even more so in the future. Our growth is subject to many factors, including our success in
implementing our business strategy and maintaining our position in a highly competitive market, which are subject to many
risks and uncertainties.
We depend on key personnel to operate our business and, if we are unable to retain, attract and integrate qualified
personnel, our ability to develop and successfully grow our business could be harmed.
Our success depends to a significant extent on the continued services of our current management team, including Darryl
Rawlings, our founder and Chief Executive Officer. The loss of Mr. Rawlings or several other key executives or employees
within a short time frame could have a material adverse effect on our business. We employ all of our executive officers and key
employees on an at-will basis, and their employment can be terminated by us or them at any time, for any reason and without
notice, subject, in certain cases, to severance payment rights. We maintain no “key man” insurance. Additionally, if we were to
lose a large percentage of our current employees in a relatively short time period, or our employees were to engage in a work
stoppage or unionize, we may be unable to hire and train new employees quickly enough to prevent disruptions in our
operations, which may result in the loss of members, Territory Partners or referral sources.
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Our success also depends on our ability to attract, retain and motivate additional skilled management personnel. We plan to
continue to expand our work force, which we believe will enhance our business and operating results. We believe that there is
significant competition for qualified personnel with the skills and knowledge that we require. Many of the other companies
with which we compete for qualified personnel have greater financial and other resources than we do. They also may provide
more diverse opportunities and better chances for career advancement. Some of these characteristics may be more appealing to
high-quality candidates than those we have to offer. In order to retain valuable employees, in addition to salary and cash
incentives, we have provided and in the future expect to provide stock options and restricted stock that vest over time and may
in the future grant equity awards tied to company performance. The value to employees of stock options and restricted stock
that vest over time will be significantly affected by movements in our stock price that are beyond our control and may at any
time be insufficient to maintain their retention benefit or counteract offers from other companies. If we are unable to attract and
retain the necessary qualified personnel to accomplish our business objectives, we may experience constraints that will
significantly impede the achievement of our business objectives and our ability to pursue our business strategy. New hires
require significant training and, in most cases, take significant time before they achieve full productivity. New employees may
not become as productive as we expect, and we may be unable to hire or retain sufficient numbers of qualified individuals. If
our recruiting, training and retention efforts are not successful or do not generate a corresponding increase in revenue, our
business will be harmed.
If we cannot maintain our corporate culture as we grow, we could lose the innovation, teamwork and focus that contribute
crucially to our business.
Our culture is fundamental to our success and defines who we are and how we operate our business. We were founded on a
deep appreciation of the special relationship between pet owners, their beloved pets and their trusted veterinarians. We have
invested substantial time, energy and resources in developing a culture that fosters teamwork, innovation, creativity and a focus
on providing value for our members as well as for Territory Partners and veterinarians. As we develop our infrastructure while
we grow, we may find it difficult to maintain these valuable aspects of our corporate culture. Any failure to preserve our culture
could negatively impact our future success, including our ability to attract and retain personnel, encourage innovation and
teamwork and effectively focus on and pursue our corporate objectives.
We depend on relationships with strategic partners, and our inability to maintain our existing and secure new relationships
with strategic partners could harm our revenue and operating results.
A portion of our revenue is attributable to a variety of different types of strategic partnership arrangements. These partnerships
involve various risks, depending on their structure, including the following:
• we may be unable to maintain or secure favorable relationships with strategic partners;
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our strategic partners may not be successful in creating leads;
• we may be unable to convert leads from our strategic partners into enrolled pets;
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our strategic partners could terminate their relationships with us;
• we may not experience a consistent correlation between revenues and expenditures related to the partnership, and
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bad publicity and other issues faced by our strategic partners could negatively impact us.
Our business and financial condition is subject to risks related to our writing of policies pursuant to contractual
relationships with unaffiliated third parties.
Our other business segment generally includes revenues and expenses involving contractual relationships with unaffiliated third
parties and marketing to enterprises. We have relatively limited experience in writing policies for unaffiliated third parties. This
business is not expected to grow at the same rate as our core business and may have different financial and operational impacts.
Changes to this business may be volatile due to the nature of the relationships. Further, this business historically has had, and
we expect it to continue to have, lower margins than our core business. As a result of this line of business, we are subject to
additional regulatory requirements and scrutiny, which increase our costs, risks and may have an adverse effect on our
operations. Further, administration of this business and any similar business in the future may divert our time and attention
away from our core business, which could adversely affect our operating results in the aggregate.
For example, we have written pet insurance policies for general agents since 2012. These policies are subject to materially
different terms and conditions than our subscription. Further, the unaffiliated general agents administer these policies and
market them to consumers. For the year ended December 31, 2018, premiums from these policies accounted for 11% of our
total revenue. These relationships can be terminated by either party and, if terminated, would result in a reduction in our
revenue to the extent we cannot enter other relationships and generate equivalent revenues with different general agents. In
addition, the general agents control trust accounts they maintain on our behalf. If the general agents make operating decisions
that adversely affect its business or brand, our business or brand could also be adversely affected.
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In Canada, our medical plan is written by Omega General Insurance Company. If Omega were to terminate its
underwriting arrangement with us, our business could be adversely affected.
In Canada, our medical plan is written by Omega, and we assume all premiums written by Omega and the related veterinary
invoice expense through an agency agreement and a fronting and administration agreement. These agreements may be
terminated by either party with one year’s prior written notice. If Omega were to terminate our agreement or be unable to write
insurance for regulatory or other reasons, we may have to terminate subscriptions with our existing members, or suspend
member enrollment and renewals, in Canada until we entered into a relationship with another third party to write our
subscription, which may take a significant amount of time and require significant expense. We may not be able to enter into a
new relationship, and any new relationship would likely be on less favorable terms. Any delay in entry into a new relationship
or suspension of member enrollment and renewals could have a material adverse effect on our operating results and financial
condition.
We may operate multiple insurance subsidiaries, which may complicate our business and harm our results of operations.
Currently, American Pet Insurance Company (APIC), our wholly owned subsidiary, underwrites subscriptions for our U.S.
product, and Omega underwrites subscriptions for our Canadian product. In the future, we may set up and operate additional
wholly-owned insurance companies in the U.S., Canada, or a different country. These efforts may require investment of
resources and we may not achieve any or all of the anticipated benefits. In addition, we may require additional capital to meet
our risk-based capital requirements for the new insurance subsidiaries and could be subject to additional regulatory scrutiny in
the jurisdictions in which the insurance subsidiary is formed and operates.
If we are unable to implement and maintain effective internal control over financial reporting in the future, investors may
lose confidence in the accuracy and completeness of our financial reports and the market price of our common stock may
be negatively affected.
We are required to maintain internal control over financial reporting and to report any material weaknesses in such internal
control. Section 404 of the Sarbanes-Oxley Act of 2002 (the Sarbanes-Oxley Act) requires that we evaluate and determine the
effectiveness of our internal control over financial reporting and provide a management report on the internal control over
financial reporting, which must be attested to by our independent registered public accounting firm.
We may not detect errors on a timely basis and our financial statements may be materially misstated. We have had in the past,
and may have in the future, material weaknesses and significant deficiencies in our internal control over financial reporting. No
evaluation of assessment of controls can provide absolute assurance that misstatements due to error or fraud will not occur or
that all control issues and instances of fraud, if any, have been detected. Over time, controls may become inadequate because
of changes in circumstance. If we or our independent registered public accounting firm identify future material weaknesses in
our internal control over financial reporting, we are unable to comply with the requirements of Section 404 in a timely manner,
we are unable to assert that our internal control over financial reporting is effective or our independent registered public
accounting firm is unable to express an opinion as to the effectiveness of our internal control over financial reporting, investors
may lose confidence in the accuracy and completeness of our financial reports and the market price of our common stock could
be negatively affected. We could also become subject to investigations by the stock exchange on which our securities are listed,
the SEC or other regulatory authorities, which could require additional financial and management resources.
If our security measures are breached and unauthorized access is obtained to our data, including our members’ data, we
may lose our competitive advantage, our systems may be perceived as not being secure and we may incur third-party
liability.
Our data repository contains proprietary information that we believe gives us a competitive advantage, including data on
veterinary invoices received and other data with respect to members, Territory Partners, veterinarians and other third parties.
Security breaches could expose us to a risk of loss of our data and/or disclosure of this data, either publicly or to a third party
who could use the information to gain a competitive advantage. In the event of a loss of our systems or data, we could
experience increased costs, delays legal liability, and reputational harm, which in turn may harm our financial condition,
damage our brand and result in the loss of members. Such a disclosure also could lead to litigation and possible liability.
In the course of operating our business, we may store and/or transmit our members’ confidential information. Security breaches
could expose us to a risk of loss of this information, litigation and possible liability. Our payment services may be susceptible
to credit card and other payment fraud schemes, including unauthorized use of credit cards, debit cards or bank account
information, identity theft or merchant fraud.
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If our security measures are breached as a result of third-party action, employee error, malfeasance or otherwise, and, as a
result, someone obtains unauthorized access to our data, including data of our members, our reputation may be damaged, our
business may suffer and we could incur significant liability. Because techniques used to obtain unauthorized access or to
sabotage systems change frequently and generally are not recognized until launched against a target, we may be unable to
anticipate these techniques or implement adequate preventative measures. If an actual or perceived breach of our security
occurs, the public perception of the effectiveness of our security measures could be harmed and we could lose members, which
would adversely affect our business.
Any legal liability, regulatory penalties or negative publicity we encounter, including based on the information on our
website or that we otherwise distribute or provide, directly or through Territory Partners or other referral sources, could
harm our business, operating results and financial condition.
Any legal disputes or regulatory penalties involving us may be publicly announced, which could materially harm our reputation
and adversely affect our business. We also provide information on our website, through our contact center and in other ways
regarding pet health, the pet insurance industry in general and our subscription, including information relating to subscription
fees, benefits, exclusions, limitations, availability and medical plan comparisons. A significant amount of both automated and
manual effort is required to maintain the information on our website. Separately, from time to time, we use the information
provided on our website and otherwise collected by us to publish reports designed to educate consumers. For example, we
produce a significant amount of marketing materials regarding our subscription. If the information we provide on our website,
through our contact centers or otherwise is not accurate or is construed as misleading, or if we improperly assist individuals in
purchasing subscriptions, our members, competitors or others could attempt to hold us liable for damages, our relationships
with veterinarians and other referral sources could be terminated and regulators could attempt to subject us to penalties, revoke
our licenses to transact business in one or more jurisdictions or compromise the status of our licenses to transact our business in
other jurisdictions, which could result in our loss of revenue. In the ordinary course of operating our business, we may receive
complaints that the information we provided was not accurate or was misleading. These types of claims could be time-
consuming and expensive to defend, could divert our management’s attention and other resources and could cause a loss of
confidence in our business. As a result, whether or not we are able to successfully resolve these claims, they could harm our
business, operating results and financial condition.
We are subject to a number of risks related to accepting automatic fund transfers and credit card and debit card payments.
We accept payments of subscription fees from our members through automatic fund transfers and credit and debit card
transactions. For credit and debit card payments, we pay interchange and other fees, which may increase over time. An increase
in the number of members who utilize credit and debit cards to pay their subscription fees or related credit and debit card fees
would reduce our margins and could require us to increase subscription fees, which could cause us to lose members and
revenue, or suffer an increase in our operating expenses, either of which could adversely affect our operating results.
If we, or any of our processing vendors or banks have problems with our billing software, or if the billing software
malfunctions, it could have an adverse effect on our member satisfaction and could cause one or more of the major credit card
companies or banks to disallow our continued use of their payment products. In addition, if our billing software fails to work
properly and, as a result, we do not automatically charge our members’ credit cards on a timely basis or at all, or a bank
withdraws the incorrect amount or fails to timely transfer the correct amount to us, we could lose revenue and harm our
member experience, which could adversely affect our business and operating results. Moreover, a vendor could fail to process
payments, or could process payments in the wrong amounts, which could result in us failing to collect premiums, could result
in increased cancellations and could adversely affect our reputation.
We are also subject to payment card association operating rules, certification requirements and rules governing electronic funds
transfers, including the Payment Card Industry Data Security Standard (PCI DSS), a security standard applicable to companies
that collect, store or transmit certain data regarding credit and debit cards, holders and transactions. In the past we may not have
been and in the future we may not be, fully or materially compliant with PCI DSS, or other payment card operating rules. Any
failure to comply fully or materially with the PCI DSS now or at any point in the future may violate payment card association
operating rules, federal and state laws and regulations, and the terms of our contracts with payment processors and merchant
banks. Such failure to comply fully or materially also may subject us to fines, penalties, damages and civil liability, and may
result in the loss of our ability to accept credit and debit card payments. In addition, there is no guarantee that PCI DSS
compliance will prevent illegal or improper use of our payment systems or the theft, loss or misuse of data pertaining to credit
and debit cards, credit and debit card holders and credit and debit card transactions.
If we fail to adequately control fraudulent credit card transactions, we may face civil liability, diminished public perception of
our security measures and significantly higher credit card-related costs, each of which could adversely affect our business,
operating results and financial condition.
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If we are unable to maintain our chargeback rate at acceptable levels, our credit card fees for chargeback transactions, or our
fees for many or all categories of credit and debit card transactions, credit card companies and debit card issuers may increase
our fees or terminate their relationship with us. Any increases in our credit card and debit card fees could adversely affect our
operating results, particularly if we elect not to raise our subscription fees. The termination of our ability to process payments
on any major credit or debit card would significantly impair our ability to operate our business.
We have no experience owning an office building and may face unexpected costs.
We used $55 million of the net proceeds from the June 2018 follow-on public offering to help fund the purchase of our home
office building, which closed in August 2018. Before then, we leased our current home office since July 2016, and we had no
experience owning an office building. While we believe our home office building is in reasonable condition, it is difficult to
predict all costs associated with maintaining the building and ensuring it is suitable for our use and that of other tenants. It is
possible that the other current tenants in the building may decide to move to newer facilities, wind up operations, or otherwise
cease to rent space in the building, which would decrease rental income we expect to receive from them. Tenants may also
negotiate tenant improvements, requiring capital expenditures that may adversely impact our financial position. In addition, we
may identify structural defects or other conditions, or we may determine that remodeling or renovations are necessary given our
business operations and objectives. Managing tenants, maintaining the building, and otherwise facing the costs and
responsibilities of being the owner of a building may be a distraction from our core business and cause our performance to
suffer.
Our building acquisition may not result in a meaningful or long-term ability to increase our cash.
We acquired our home office building because a portion of the value of the building may be used as an admitted asset on the
balance sheet of American Pet Insurance Company (APIC). Over time, if APIC continues to grow its operations and increase its
admitted assets, this percentage of admitted assets may result in an increasingly larger dollar amount being invested in our
home office building. While the New York Department of Financial Services (NY DFS) approved the use of up to 10% of
APIC's admitted assets to own the building, the NY DFS is not prevented from subsequently reducing the percentage of
admitted assets that we may use or completely withdrawing its approval. Any such action could reduce the percentage of
APIC’s admitted assets that could be invested in our home office building to between 1% and 5%, according to current
regulations. If the amount of admitted assets invested in our home office decreases, we may be required to meet our risk-based
capital obligations using other forms of capital that we would otherwise invest in our growth and operations. This may require
us to modify our operating plan or marketing initiatives, delay the implementation of new initiatives and solutions or
development of new technologies, decrease the rate at which we hire additional personnel and enter into relationships with
Territory Partners, incur additional indebtedness or pursue equity or debt financings or otherwise modify our business
operations, any of which could have a material adverse effect on our operating results and financial condition.
Failure to adequately protect our intellectual property could substantially harm our business and operating results.
We rely on a combination of intellectual property rights, including trade secrets, patents, copyrights, trademarks and domain
names, as well as contractual restrictions, to establish and protect our intellectual property. Despite our efforts to protect our
proprietary rights, unauthorized parties may attempt to copy our digital content, pricing analytics, technology, software,
branding and functionality, or obtain and use information that we consider proprietary. Moreover, policing our proprietary
rights is difficult and may not always be effective. If we continue to expand internationally, we may need to enforce our rights
under the laws of countries that do not protect proprietary rights to as great an extent as do the laws of the United States, which
may be expensive and divert management’s attention away from other operations.
Our Trupanion Express software is protected by patents. These patents may not be sufficient to maintain effective product
exclusivity because patent rights are limited in time and do not always provide effective protection. Furthermore, our efforts to
enforce or protect our patent rights may be ineffective, could result in substantial costs and diversion of resources and could
substantially harm our operating results. Even where our patents rights are enforced, legal remedies available for harm caused
to us by infringing products may be inadequate to make us whole. Further, our successful assertion of our patent against one
competing product is not necessarily predictive of our future success or failure in asserting the same patent against a second
competing product. In addition, patents have a limited lifespan. In the United States, the natural expiration of a patent is
generally 20 years after it is filed. Various extensions may be available however the life of a patent, and the protection it
affords, is limited. Once the patent life has expired for our software, our competitors will be able to use our patented
technology.
Our digital content is not protected by any registered copyrights or other registered intellectual property. Rather, our digital
content is protected by statutory and common law rights, user agreements that limit access to and use of our data and by
technological measures. Compliance with use restrictions is difficult to monitor, and our proprietary rights in our digital content
databases may be more difficult to enforce than other forms of intellectual property rights.
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We currently hold several registered trademarks, including “Trupanion”. Trademark protection may not always be available, or
sought by us, in every country in which our subscription is available. Competitors may adopt names similar to ours, or purchase
our trademarks and confusingly similar terms as keywords in Internet search engine advertising programs, thereby impeding
our ability to build brand identity and possibly confusing members. Moreover, there could be potential trade name or trademark
infringement claims brought by owners of other registered trademarks or trademarks that incorporate marks similar to our
trademarks.
We may take action, including initiating litigation, to protect our intellectual property rights and the integrity of our brand, and
these efforts may prove costly, ineffective and increase the likelihood of counterclaims against us.
We currently hold the “Trupanion.com” Internet domain name and numerous other related domain names. Domain names
generally are regulated by Internet regulatory bodies. If we lose the ability to use a domain name in the United States, Canada
or any other country, we may be forced to acquire domain names at significant cost or, in the alternative, be forced to incur
significant additional expenses to market our subscription, including the development of a new brand and the creation of new
promotional materials, which could substantially harm our business and operating results. The regulation of domain names in
the United States, Canada and in other foreign countries is subject to change. Regulatory bodies could establish additional top-
level domains, appoint additional domain name registrars or modify the requirements for holding domain names. As a result,
we may not be able to acquire or maintain the domain names that utilize the “Trupanion” name in all of the countries in which
we currently intend to conduct business.
We seek to control access to our proprietary technology, software and documentation by entering into confidentiality and
invention assignment agreements with our employees and partners, confidentiality agreements or license agreements with third
parties, such as service providers, vendors, individuals and entities that may be exploring a business relationship with us, and
terms of use with third parties, such as veterinary hospitals desiring to use our technology, software and documentation. These
agreements may not prevent disclosure of intellectual property, trade secrets and/or other confidential information, and may not
provide an adequate remedy in the event of misappropriation of trade secrets or any unauthorized disclosure of trade secrets
and other confidential information. In addition, others may independently discover trade secrets and confidential information
and, in such cases, we may not be able to assert any trade secret rights against such parties. Costly and time-consuming
litigation could be necessary to enforce and determine the scope of our intellectual property rights and related confidentiality,
license and nondisclosure provisions, and failure to obtain or maintain trade secret protection, or our competitors being able to
obtain our trade secrets or to independently develop technology similar to ours or competing technologies, could adversely
affect our competitive business position.
Litigation or proceedings before the U.S. Patent and Trademark Office or other governmental authorities and administrative
bodies in the United States and abroad may be necessary in the future to enforce our intellectual property rights, to protect our
domain names and to determine the validity and scope of the proprietary rights of others. Our efforts to enforce or protect our
proprietary rights may be ineffective, could result in substantial costs and diversion of resources and could substantially harm
our operating results.
Assertions by third parties of infringement or other violation by us of their intellectual property rights could result in
significant costs and substantially harm our business and operating results.
Third parties have in the past and may in the future claim that our services infringe or otherwise violate their intellectual
property rights. We may be subject to legal proceedings and claims, including claims of alleged infringement by us of the
intellectual property rights of third parties. Any dispute or litigation regarding intellectual property could be expensive and time
consuming, regardless of the merits of any claim, and could divert our management and key personnel from our operations.
If we were to discover or be notified that our services potentially infringe or otherwise violate the intellectual property rights of
others, we may need to obtain licenses from these parties in order to avoid infringement. We may not be able to obtain the
necessary licenses on acceptable terms, or at all, and any such license may substantially restrict our use of the intellectual
property. Moreover, if we are sued for infringement and lose the lawsuit, we could be required to pay substantial damages or be
enjoined from offering the infringing services. Any of the foregoing could cause us to incur significant costs and prevent us
from selling or properly administering subscriptions or performing under our other contractual relationships.
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We rely on third parties to provide intellectual property and technology necessary for the operation of our business.
We utilize intellectual property and technology owned by third parties in developing and operating our technology platform and
operating our business. From time to time, we may be required to renegotiate with these third parties or negotiate with other
third parties to include or continue using their intellectual property or technology in our existing technology platform or
business operations or in modifications or enhancements to our technology platform or business operations. We may not be able
to obtain the necessary rights from these third parties on commercially reasonable terms, or at all, and the third-party
intellectual property and technology we use or desire to use may not be appropriately supported, maintained or enhanced by the
third parties. If we are unable to obtain the rights necessary to use or continue to use third-party intellectual property and
technology in our operations, or if those third parties are unable to support, maintain and enhance their intellectual property and
technology, we could experience increased costs or delays, which in turn may harm our financial condition, damage our brand
and result in the loss of members.
Our technology platform and our data are also hosted by a third-party service provider. The terms under which such third-party
service provider provides us services may change and we may be required to renegotiate with that third party. If we are unable
to renegotiate satisfactory terms, we may not be able to transition to an alternative service provider without interrupting the
availability of our technology platform and any interruption could materially and adversely affect our business. Additionally, if
our third-party service provider experiences any disruptions, outages or catastrophes, or if it ceases to conduct business for any
reason, we could experience an interruption in our business, which in turn may damage our brand, result in a loss of members
and harm our financial condition.
The outcome of litigation or regulatory proceedings could subject us to significant monetary damages, restrict our ability to
conduct our business, harm our reputation and otherwise negatively impact our business.
From time to time, we have been, and in the future may become, subject to litigation, claims and regulatory proceedings and
inquiries, including market conduct examinations and investigations by state insurance regulatory agencies and threatened or
filed lawsuits by, among others, government agencies, employees, competitors, current or former members, or business
partners.
We cannot predict the outcome of these actions or proceedings, and the cost of defending such actions or proceedings could be
material. Further, defending such actions or proceedings could divert our management and key personnel from our business
operations. If we are found liable in any action or proceeding, we may have to pay substantial damages or fines, or change the
way we conduct our business, either of which may have a material adverse effect on our business, operating results, financial
condition and prospects. There may also be negative publicity associated with litigation or regulatory proceedings that could
harm our reputation or decrease acceptance of our services. These claims may be costly to defend and may result in assessment
of damages, adverse tax consequences and harm to our reputation.
Covenants in the credit agreement governing our revolving line of credit may restrict our operations, and if we do not
effectively manage our business to comply with these covenants, our financial condition could be adversely affected.
The credit agreement governing our revolving line of credit contains various restrictive covenants, including restrictions on our
ability to dispose of our assets, change the name, location, office or executive management of our business, merge with or
acquire other entities, incur other indebtedness, incur encumbrances, pay dividends or make distributions to holders of our
capital stock, make investments, engage in transactions with our affiliates, permit withdrawals from APIC (with certain
exceptions) and conduct operations in certain of our Canadian subsidiaries. Our credit agreement also contains certain financial
covenants, including having APIC maintain statutory capital and surplus at all times of not less than the greater of the amount
required by regulatory statute or 110% of the highest amount of statutory capital and surplus required in any state in which
APIC is licensed; maintaining a minimum cash balance of $1.4 million in our account at Western Alliance Bank (WAB) and/or
WAB affiliates and other cash or investments of $2.1 million in our accounts at Pacific Western Bank (PWB); maintaining all
of our depository and operating accounts at PWB and/or WAB; maintaining certain investment accounts at PWB and/or PWB
affiliates; achieving certain quarterly revenue levels and claims ratio thresholds; maintaining greater than negative $1.0 million
net total of operating cash flow and capital expenditures quarterly; and remaining within certain monthly maximum EBITDA
loss levels. EBITDA is defined as earnings, plus an amount equal to the sum of (i) tax, plus (ii) depreciation and amortization,
plus (iii) interest and non-cash expenses, plus (iv) any non-cash stock-based compensation expense, plus (v) (gain)/loss from
equity method investments. Our ability to meet these restrictive covenants can be affected by events beyond our control, and
we have been in the past, and may be in the future, unable to do so. In addition, our failure to maintain effective internal
controls to measure compliance with our financial covenants could affect our ability to take corrective actions on a timely basis
and could result in our being in breach of these covenants. Our credit agreement provides that our breach or failure to satisfy
certain covenants constitutes an event of default. Upon the occurrence of an event of default, our lenders could elect to declare
any future amounts outstanding under our credit agreement to be immediately due and payable. If we are unable to repay those
amounts, our financial condition could be adversely affected.
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Any indebtedness we incur could adversely affect our business and limit our ability to expand our business or respond to
changes, and we may be unable to generate sufficient cash flow to satisfy any of our debt service obligations.
As of December 31, 2018, we had $13 million outstanding indebtedness under our revolving line of credit. We may incur
indebtedness in the future, including any additional borrowings available under our revolving line of credit. Any substantial
indebtedness and the fact that a substantial portion of our cash flow from operating activities could be needed to make
payments on this indebtedness could have adverse consequences, including the following:
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reducing the availability of our cash flow for our operations, capital expenditures, future business opportunities and
other purposes;
limiting our flexibility in planning for, or reacting to, changes in our business and the industries in which we operate,
which could place us at a competitive disadvantage compared to our competitors that may have less debt;
limiting our ability to borrow additional funds; and
increasing our vulnerability to general adverse economic and industry conditions.
Our ability to borrow any funds needed to operate and expand our business will depend in part on our ability to generate cash.
Our ability to generate cash is subject to the performance of our business, as well as general economic, financial, competitive,
legislative, regulatory and other factors that are beyond our control. We may also need to use operating funds to support risk-
based capital requirements and borrow additional funds to support our growth. If our business does not generate sufficient cash
flow from operating activities or if future borrowings are not available to us, under our revolving credit facility or otherwise, in
amounts sufficient to enable us to fund our liquidity needs, our operating results, financial condition and ability to expand our
business and meet our risk-based capital requirements may be adversely affected.
Our financial results may be negatively affected if we are required to pay income tax, premium tax, transaction tax or other
taxes in jurisdictions where we are currently not collecting and reporting tax.
We currently pay income tax, premium tax, transaction tax and other taxes in certain jurisdictions in which we do business. A
successful assertion by one or more jurisdictions that we should be paying income, premium, transaction or other taxes on our
income or in connection with enrollment or intercompany services, or the enactment of new laws requiring the payment of
income, premium, transfer or other taxes in connection with our business operations, including enrollment or intercompany
services, could result in substantial tax liabilities.
We may have additional tax liabilities.
We are subject to income tax and other taxes in the U.S. and foreign jurisdictions. Significant judgment is required in
determining our provision for income taxes. In the ordinary course of our business, there are many transactions and calculations
where the ultimate tax determination is uncertain. Further, we often make elections for tax purposes which may ultimately not
be upheld. Although we believe our tax estimates are reasonable, the final determination of tax audits and any related litigation
in the jurisdictions where we are subject to taxation could be materially different from our historical income tax provisions and
accruals. The results of an audit or litigation could have a material effect on our consolidated financial statements in the period
or periods in which that determination is made.
If consumer acceptance of the Internet as an acceptable marketplace for our subscription does not continue to increase, our
growth prospects will be harmed.
Our success depends in part on widespread consumer acceptance of the Internet as a marketplace for the purchase of medical
insurance for cats and dogs. Internet use may not continue to develop at historical rates, and consumers may not continue to use
the Internet to research, select and purchase insurance. In addition, the Internet may not be accepted as a viable resource for a
number of reasons, including lack of security of information or privacy protection, possible disruptions, computer viruses or
other damage to Internet servers or to users’ computers, and excessive governmental regulation.
Our success will depend, in large part, on third parties maintaining the Internet infrastructure to provide a reliable network
backbone with the speed, data capacity, security and hardware necessary for reliable Internet access and services.
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If we do not prominently appear in Internet search engine results, third party sites or other Internet resources, our new
member growth could decline, and our business and operating results could be harmed.
We derive a significant amount of traffic to our website from consumers who search for pet medical insurance through Internet
search engines, such as Google, Bing and Yahoo!. A critical factor in attracting consumers searching for pet medical insurance
on the Internet to our website is whether we are prominently displayed in response to an Internet search relating to pet
insurance. Algorithmic search result listings are determined and displayed in accordance with a set of formulas or algorithms
developed by the particular Internet search engine, which may change from time to time. If we are listed less prominently in, or
removed altogether from, search result listings for any reason, the traffic to our websites would decline and we may not be able
to replace this traffic, which in turn would harm our business, operating results and financial condition. If we decide to attempt
to replace this traffic, we may be required to increase our sales and marketing expenditures, including by utilizing paid search
advertising, which would also increase our pet acquisition costs and harm our business, operating results and financial
condition.
Changes in the economy may negatively impact our business, operating results and financial condition.
Our business may be affected by changes in the economic environment. Medical insurance for cats and dogs is a discretionary
purchase, and members may reduce or eliminate their discretionary spending during an economic downturn, resulting in an
increase in terminations and a reduction in the number of new member enrollments. We may experience a material increase in
terminations or a material reduction in our member retention rate in the future, especially in the event of a prolonged
recessionary period or a downturn in economic conditions. Conversely, consumers may have more income to pay veterinary
costs out-of-pocket and less desire to purchase our subscription during a period of economic growth. In addition, media prices
may increase during a period of economic growth, which could increase our sales and marketing expenses. As a result, our
business, operating results and financial condition may be significantly affected by changes in the economic environment.
We have and may continue to create, invest in or acquire businesses, products and technologies, which could divert our
management’s attention, result in additional dilution to our stockholders, otherwise disrupt our operations or harm our
operating results.
We have and may continue to create, invest in or acquire businesses, products and technologies. Our ability to successfully
evaluate and manage investment opportunities, or make and integrate acquisitions or products, is unproven. The pursuit of
potential new products, investments or acquisitions may divert the attention of management and cause us to incur various
expenses in identifying, investigating and pursuing suitable opportunities, whether or not they are consummated. Further, even
if we successfully invest in or acquire additional businesses or technologies, we may not achieve the anticipated benefits from
the transaction. The investment or acquisition may also expose us to additional risks, including from unknowingly inheriting
liabilities that are not adequately covered by indemnities. Acquisitions or investments could also result in dilutive issuances of
equity securities or the incurrence of debt, which could adversely affect our operating results. If an investment or acquisition
fails to meet our expectations, our business, operating results and financial condition may suffer.
Our ability to use our net operating loss carryforwards and certain other tax attributes may be limited.
As of December 31, 2018, we had U.S. federal net operating loss carryforwards of approximately $121.1 million that will begin
to expire in 2027. Under Sections 382 and 383 of the Internal Revenue Code of 1986, as amended (the Code), if a corporation
undergoes an “ownership change,” the corporation’s ability to use its pre-change net operating loss carryforwards and other
pre-change tax attributes, such as research tax credits, to offset its post-change income and taxes may be limited. In general, an
“ownership change” generally occurs if there is a cumulative change in our ownership by “5-percent stockholders” that exceeds
50 percentage points over a rolling three-year period. Similar rules may apply under state tax laws. Pursuant to Sections 382
and 383 of the Code, annual use of our net operating loss carryforwards and credit carryforwards may be limited if we
experience an ownership change. We believe the utilization of approximately $0.5 million of net operating losses are subject to
limitation as a result of prior ownership changes based on our Section 382 study performed as of September 30, 2018. We note
subsequent ownership changes may have already and may further affect the limitation in future years.
We are expanding our operations internationally, and we may therefore become subject to a number of risks associated with
international expansion and operations.
As part of our growth plan, we have explored, and expect to continue to explore, opportunities to expand our operations
internationally. We are in the process of entering the Australian market and we may launch similar processes in other countries.
We have no history of marketing, selling, administrating and supporting our subscription for consumers outside of the United
States, Canada and Puerto Rico. International sales and operations are subject to a number of risks, including the following:
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regulatory rules and practices, foreign exchange controls, tariffs, tax laws and treaties that are different than those we
operate under in the United States, Canada and Puerto Rico and that carry a greater risk of unexpected changes;
the costs and resources required to modify our technology and sell our subscription in non-English speaking countries;
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the costs and resources required to modify our subscription appropriately to suit the needs and expectations of
residents and veterinarians in such foreign countries;
our data analytics platform may have limited applicability in foreign countries, which may impact our ability to
develop adequate underwriting criteria and accurately price subscriptions in such countries;
increased expenses incurred in establishing and maintaining office space and equipment for our international
operations;
technological incompatibility;
fluctuations in exchange rates between the U.S. dollar and foreign currencies in markets where we do business;
difficulties in attracting and retaining personnel with experience in international operations;
difficulties in modifying our business model in a manner suitable for any particular foreign country, including any
modifications to our Territory Partner model to the extent we determine that our existing model is not suitable for use
in foreign countries;
our lack of experience in marketing to consumers and veterinarians, and encouraging online marketing, in foreign
countries;
our relative lack of industry connections in many foreign countries;
difficulties in managing operations due to language barriers, distance and time zone differences, staffing, cultural
differences and business infrastructure constraints, including difficulty in obtaining foreign and domestic visas;
application of foreign laws and regulations to us, including more stringent or materially different insurance,
employment, consumer and data protection laws;
the uncertainty of protection for intellectual property rights in some countries;
greater risk of a failure of foreign employees to comply with applicable U.S. and foreign laws, including antitrust
regulations, the U.S. Foreign Corrupt Practices Act and any trade regulations ensuring fair trade practices; and
general economic and political conditions in these foreign markets.
These factors and other factors could harm our ability to gain future international revenue and, consequently, materially impact
our business and operating results. The expansion of our existing international operations and entry into additional international
markets will require significant management attention and financial resources, detracting from management attention and
financial resources otherwise available to our existing business. Our failure to successfully manage our international operations
and the associated risks effectively could limit the future growth of our business and could have an adverse effect on our
operating results and financial condition.
A downgrade in the financial strength rating of our insurance company may have an adverse effect on our competitive
position, the marketability of our subscription, and/or on our liquidity, access to and cost of borrowing, operating results
and financial condition.
Although we do not believe that the financial strength rating of APIC is material for customers or to understand our business
beyond what is already publicly available, financial strength ratings can be important factors in establishing the competitive
position of insurance companies and generally have an effect on an insurance company’s business. On an ongoing basis, rating
agencies review the financial performance and condition of APIC and could downgrade or change the outlook on its ratings due
to, for example, a change in its statutory capital, a change in the rating agency’s determination of the amount of risk-based
capital required to maintain a particular rating or a reduced confidence in management or its business strategy, as well as a
number of other considerations that may or may not be under our control. The insurance financial strength rating of APIC is
subject to quarterly review, and APIC may not retain the current rating. A downgrade in this or any future ratings could have a
material effect on our sales, our competitiveness, the marketability of our subscription, our liquidity, access to and cost of
borrowing, operating results and financial condition.
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Our business is subject to the risks of earthquakes, floods, fires and other natural catastrophic events and to interruption by
man-made problems such as computer viruses or terrorism.
Our systems and operations are vulnerable to damage or interruption from earthquakes, human error, intentional bad acts,
hurricanes, floods, fires, power losses, telecommunications failures, hardware and system failures, terrorist attacks, acts of war,
break-ins or similar events. For example, our corporate headquarters and facilities are located in Seattle, Washington near
known earthquake fault zones and are vulnerable to significant damage from earthquakes. In addition, cyber-attacks or acts of
terrorism could cause disruptions in our business or the economy as a whole. Our servers and systems may also be vulnerable
to computer viruses, break-ins and similar disruptions from unauthorized tampering with our computer systems, which could
lead to interruptions, delays, loss of critical data or the unauthorized disclosure of confidential member data. We currently have
limited disaster recovery capability, and our business interruption insurance may be insufficient to compensate us for losses that
may occur. Such disruptions could negatively impact our ability to run our business, which could have an adverse effect on our
operating results and financial condition.
Risks Related to Compliance with Laws and Regulations
We may not maintain the amount of risk-based capital required to avoid additional regulatory oversight, which may
adversely affect our ability to operate our business.
Memberships in our U.S. subscription are written by APIC. APIC is an insurance company domiciled in the state of New York
and licensed by the New York Department of Financial Services. Regulators in the states in which we do business impose risk-
based capital requirements on APIC that generally are approved by the National Association of Insurance Commissioners to
ensure APIC maintains reasonably appropriate levels of surplus to protect our members against adverse developments in
APIC’s financial circumstances, taking into account the risk characteristics of our assets, liabilities and certain other items.
Generally, the NY DFS will compare, on an annual basis as of December 31 or more often as deemed necessary, an insurer’s
total adjusted capital and surplus against what is referred to as an “Authorized Control Level” of risk-based capital that is
calculated based on a formula designed to estimate an insurer’s capital adequacy. There generally are five outcomes possible
from this comparison, depending on the insurer’s level of risk-based capital as compared to the applicable Authorized Control
Level.
• No Action Level: Insurer’s total adjusted capital is equal to or greater than 200% of the Authorized Control Level.
• Company Action Level: Insurer’s total adjusted capital is less than 200% but greater than 150% of the Authorized
Control Level. When at this level, an insurer must prepare and submit a financial plan to the NY DFS for review and
approval. Generally, a risk-based capital plan would identify the conditions that contributed to the Company Action
Level and include the insurer’s proposed plans for increasing its risk-based capital in order to satisfy the No Action
Level. The failure to provide the NY DFS with a risk-based capital plan on a timely basis or the inability of the NY
DFS and the insurer to mutually agree on an appropriate risk-based capital plan could trigger a Regulatory Action
Level outcome, subject to the insurer’s right to a hearing on the issue.
• Regulatory Action Level: Insurer’s total adjusted capital is less than 150% but greater than 100% of the Authorized
Control Level. When at this level, an insurer generally must provide a risk-based capital plan to the NY DFS and be
subject to examination or analysis by the NY DFS to the extent it deems necessary, including such corrective actions
as the NY DFS may require.
• Authorized Control Level: Insurer’s total adjusted capital is less than 100% but greater than 70% of the Authorized
Control Level. At this level, the NY DFS generally could take remedial actions that it determines necessary to protect
the insurer’s assets, including placing the insurer under regulatory control.
• Mandatory Control Level: Insurer’s total adjusted capital is less than 70% of the Authorized Control Level. At this
level, the NY DFS generally is required to take steps to place the insurer under regulatory control, even if the insurer is
still solvent.
As of December 31, 2018, APIC was required to maintain at least $53.4 million of risk-based capital to satisfy the No Action
Level (the highest of the above levels). As of December 31, 2018, APIC maintained $56.2 million of risk-based capital. The NY
DFS may increase the required levels of risk-based capital in the future, and we anticipate that we will need to maintain greater
amounts of risk-based capital if our pet enrollment continues to grow.
Additionally, if our risk-based capital falls below the Company Action Level, we may be in breach of various contractual
relationships, including, for example, with the unaffiliated general agents for which we write pet insurance policies, which may
give such parties the ability to cancel their contracts with us and/or sue us for damages related to our risk-based capital levels,
which could have a material adverse effect on our financial condition.
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We may require additional capital to meet our risk-based capital requirements, pursue our business objectives and respond
to business opportunities, challenges or unforeseen circumstances. If capital is not available to us at any time, our business,
operating results and financial condition may be harmed.
We may require additional capital to meet our risk-based capital requirements, operate or expand our business or respond to
unforeseen circumstances. Additional funds may not be available when we need them, on terms that are acceptable to us, or at
all. If we raise additional funds through the issuance of equity or convertible securities, the percentage ownership of holders of
our common stock could be significantly diluted and these newly issued securities may have rights, preferences or privileges
senior to those of holders of our common stock. Further, volatility in the credit or equity markets may have an adverse effect on
our ability to obtain debt or equity financing or the cost of such financing. Similarly, our access to funds may be impaired if
regulatory authorities or rating agencies take negative actions against us. If a combination of these factors were to occur, our
internal sources of liquidity may prove to be insufficient and, in such case, we may not be able to successfully obtain additional
financing on favorable terms. If funds are unavailable to us on reasonable terms when we need them, we may be unable to meet
our risk-based capital requirements, train and support our employees, support Territory Partners, maintain the competitiveness
of our technology, pursue business opportunities, service our existing debt, pay veterinary invoices or acquire new members,
any of which could have an adverse effect on our business, operating results and financial condition.
If we fail to comply with the numerous laws and regulations that are applicable to the sale of medical insurance for cats and
dogs, our business and operating results could be harmed.
The sale of medical insurance for cats and dogs, which is considered a type of property and casualty insurance in most
jurisdictions, is heavily regulated by each state in the United States, in the District of Columbia, in Puerto Rico and by
Canadian federal, provincial and territorial governments. In the United States, state insurance regulators are charged with
protecting policyholders and have broad regulatory, supervisory and administrative powers over our business practices.
Because we do business in all 50 states, the District of Columbia, all Canadian provinces and territories and Puerto Rico,
compliance with insurance-related laws, rules and regulations is difficult and imposes significant costs on our business. Each
jurisdiction’s insurance department typically has the power, among other things, to:
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grant and revoke licenses to transact insurance business;
conduct inquiries into the insurance-related activities and conduct of agents and agencies and others in the sales,
marketing and promotional channels;
require and regulate disclosure in connection with the sale and solicitation of insurance policies;
authorize how, by which personnel and under what circumstances insurance premiums can be quoted and published
and an insurance policy sold;
regulate which entities or individuals can be incentivized and the circumstances under which this may occur;
regulate the content of insurance-related advertisements, including web pages, and other marketing practices;
approve policy forms, require specific benefits and benefit levels and regulate premium rates;
impose fines and other penalties; and
impose continuing education requirements.
While the U.S. federal government does not directly regulate the insurance industry, federal legislation and administrative
policies can also affect us. Congress and various federal agencies periodically discuss proposals that would provide for federal
oversight of insurance companies. We cannot predict whether any such laws will be enacted or the effect that such laws would
have on our business. We also do business in all ten provinces and three territories of Canada. The provincial and territorial
insurance regulators have the power to regulate the market conduct of insurers and insurance intermediaries, and the licensing
and supervision of insurance agents, and brokers, along with enforcement rights, including the right to assess administrative
monetary penalties in certain provinces.
Insurance companies are also regulated at the federal level in Canada, and the Insurance Companies Act prohibits a foreign
entity from insuring risks in Canada unless it is authorized by an Order made by the Superintendent of Financial Institutions
(Canada) permitting it to do so.
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Due to the complexity, periodic modification and differing interpretations of insurance laws and regulations, we have not
always been, and we may not always be, in compliance with them. New insurance laws, regulations and guidelines also may
not be compatible with the manner in which we market and sell subscriptions in all of our jurisdictions and member acquisition
channels, including over the Internet. Failure to comply with insurance laws, regulations and guidelines or other laws and
regulations applicable to our business could result in significant liability, additional department of insurance licensing
requirements, the revocation of licenses in a particular jurisdiction or our inability to sell subscriptions, which could
significantly increase our operating expenses, result in the loss of our revenue and otherwise harm our business, operating
results and financial condition.
Moreover, an adverse regulatory action in one jurisdiction could result in penalties and adversely affect our license status or
reputation in other jurisdictions, including due to the current requirement that adverse regulatory actions in one jurisdiction be
reported to other jurisdictions. Even if the allegations in any regulatory or other action against us ultimately are determined to
be unfounded, we could incur significant time and expense defending against the allegations, and any related negative publicity
could harm consumer and third-party confidence in us, which could significantly damage our brand.
In addition, we have received, and may in the future receive, inquiries from regulators regarding our marketing and business
practices. These inquires may include investigations regarding a number of our business practices, including the manner in
which we market and sell subscriptions, the manner in which we write policies for any unaffiliated general agent, and whether
any amounts we pay to hospitals or hospital groups is appropriate. Any modification of our marketing or business practices in
response to regulatory inquiries could harm our business, operating results or financial condition and lead to reputational harm.
A regulatory environment that limits rate increases may adversely affect our operating results and financial condition.
Many states, including New York, have adopted laws or are considering proposed legislation that, among other things, limit the
ability of insurance companies to effect rate increases or to cancel, reduce or not renew existing policies, and many state
regulators have the power to reduce, or to disallow increases in premium rates. Most states, including New York, require
licensure and regulatory approval prior to marketing new insurance products. Our practice has been to regularly reevaluate the
price of our subscriptions, with any pricing changes implemented at least annually, subject to the review and approval of the
state regulators, who may reduce or disallow our pricing changes. Such review has often in the past resulted, and may in the
future result, in delayed implementation of pricing changes and prevent us from making changes we believe are necessary to
achieve our targeted payout ratio, which could adversely affect our operating results and financial condition. In addition, we
may be prevented by regulators from limiting significant pricing changes, requiring us to raise rates more quickly than we
otherwise may desire. This could damage our reputation with our members and reduce our retention rates, which could
significantly damage our brand, result in the loss of expected revenue and otherwise harm our business, operating results and
financial condition.
In addition to regulating rates, certain states have enacted laws that require a property-casualty insurer, which includes a pet
insurance company, conducting business in that state to participate in assigned risk plans, reinsurance facilities, joint
underwriting associations (JUAs), Fair Access to Insurance Requirements (FAIR) plans and wind pools. In these markets, if the
state reinsurance facilities, wind pools, FAIR plans or JUAs recognize a financial deficit, they may in turn have the ability to
assess participating insurers, adversely affecting our operating results and financial condition if we are a part of such state
reinsurance facilities, wind pools, FAIR plans or JUAs. Additionally, certain states require insurers to participate in guaranty
funds for impaired or insolvent insurance companies. These funds periodically assess losses against all insurance companies
doing business in the state. Our operating results and financial condition could be adversely affected by any of these factors.
Regulations that require individuals or entities to be insurance licensed may be interpreted to apply to our business more
broadly than we expect them to, which could require us to modify our business practices, create liabilities, damage our
reputation, and harm our business.
We may not interpret and apply regulations requiring insurance licenses in the same manner as all applicable regulators, and
even if we have, the requirements or regulatory interpretations of those requirements may change. Insurance regulations
generally require that each individual or entity who sells, solicits or negotiates insurance business on our behalf, or who
receives an insurance commission, must maintain a valid license in one or more jurisdictions. Regulations may also require
certain individuals who process claims to be licensed. These requirements are subject to a variety of interpretations between
jurisdictions. Regulators have in the past and may in the future determine that certain individuals or entities who have
relationships with us were required to be licensed but were not. If such persons were not in fact licensed in any such
jurisdiction, we could face liability, including the imposition of significant monetary penalties or other sanctions. We would
also likely be required to modify our business practices and/or sales and marketing programs, or license the affected
individuals, which may be impractical or costly and time-consuming to implement. Any modification of our business or
marketing practices in response to regulatory licensing requirements could harm our business, operating results or financial
condition.
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We are subject to numerous laws and regulations, and compliance with one law or regulation may result in non-compliance
with another.
We are subject to numerous laws and regulations that are administered and enforced by a number of different governmental
authorities, each of which exercises a degree of interpretive latitude, including, in the United States, state insurance regulators,
state securities administrators, state attorneys general and federal agencies including the SEC, Internal Revenue Service and the
U.S. Department of Justice. Consequently, we are subject to the risk that compliance with any particular regulator’s or
enforcement authority’s interpretation of a legal issue may not result in compliance with another’s interpretation of the same
issue, particularly when compliance is judged in hindsight. In addition, there is risk that laws and regulations or any particular
regulator’s or enforcement authority’s interpretation of a legal issue may change over time to our detriment, or that changes in
the overall legal environment may, even absent any particular regulator’s or enforcement authority’s interpretation of a legal
issue changing, cause us to change our views regarding the actions we need to take from a legal risk management perspective,
thus necessitating changes to our practices that may, in some cases, increase our costs and limit our ability to grow or to
improve the profitability of our business. Further, in some cases, these laws and regulations are designed to protect or benefit
the interests of a specific constituency rather than a range of constituencies. For example, state insurance laws and regulations
generally are intended to protect or benefit purchasers or users of insurance products, not holders of securities, which generally
is the jurisdiction of the SEC. In many respects, these laws and regulations limit our ability to grow or to improve the
profitability of our business.
Regulation of the sale of medical insurance for cats and dogs is subject to change, and future regulations could harm our
business and operating results.
The laws and regulations governing the offer, sale and purchase of medical insurance for cats and dogs are subject to change,
and future changes may be adverse to our business. For example, if a jurisdiction were to increase our risk-based capital
requirements or alter the requirements for obtaining or maintaining an agent’s license in connection with the enrollment of a
member, it could have a material adverse effect on our operations. Some states in the United States have adopted, and others
are expected to adopt, new laws and regulations related to the insurance industry. It is difficult to predict how these or any other
new laws and regulations will impact our business, but, in some cases, changes in insurance laws, regulations and guidelines
may be incompatible with various aspects of our business and require that we make significant modifications to our existing
technology or practices, which may be costly and time-consuming to implement and could also harm our business, operating
results and financial condition.
Failure to comply with federal, state and provincial laws and regulations relating to privacy and security of personal
information, and civil liabilities relating to breaches of privacy and security of personal information, could create liabilities
for us, damage our reputation and harm our business.
A variety of U.S. and Canadian federal, state and provincial laws and regulations govern the collection, use, retention, sharing
and security of personal information. We collect and utilize demographic and other information from and about our members
when they visit our website, call our contact center and apply for enrollment. Further, we use tracking technologies, including
“cookies,” to help us manage and track our members’ interactions and deliver relevant advice and advertising. Claims or
allegations that we have violated applicable laws or regulations related to privacy and data security could in the future result in
negative publicity and a loss of confidence in us by our members and our participating service providers, and may subject us to
fines by credit card companies and the loss of our ability to accept credit and debit card payments. In addition, we have posted
privacy policies and practices concerning the collection, use and disclosure of member data on our website. Several Internet
companies have incurred penalties for failing to abide by the representations made in their privacy policies and practices. In
addition, our use and retention of personal information could lead to civil liability exposure in the event of any disclosure of
such information due to hacking, viruses, inadvertent action or other use or disclosure. Several companies have been subject to
civil actions, including class actions, relating to this exposure.
We have incurred, and will continue to incur, expenses to comply with privacy and security standards and protocols for
personal information imposed by law, regulation, self-regulatory bodies, industry standards and contractual obligations. Such
laws, standards and regulations, however, are evolving and subject to potentially differing interpretations, and federal, state and
provincial legislative and regulatory bodies may expand current or enact new laws or regulations regarding privacy matters. We
are unable to predict what additional legislation, standards or regulation in the area of privacy and security of personal
information could be enacted or its effect on our operations and business.
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Laws and regulations regarding phone solicitation, the Internet, email and texting could adversely affect our business.
The laws governing general commerce on the Internet remain unsettled and it may take years to fully determine whether and
how existing laws such as those governing insurance, intellectual property, privacy and taxation apply to the Internet. In
addition, the growth and development of the market for electronic commerce and Internet-related pet insurance advertisements
and transactions may prompt calls for more stringent consumer protection laws that may impose additional burdens on
companies conducting business and selling subscriptions over the Internet. Any new laws or regulations or new interpretations
of existing laws or regulations relating to the Internet could harm our business and we could be forced to incur substantial costs
in order to comply with them, which would harm our business, operating results and financial condition.
Additionally, we use phone solicitation, email and texting to market our services to potential members and as a means of
communicating with our existing members. The laws and regulations governing the use of phone solicitation, email and texting
continue to evolve, and the growth and development of the market for commerce over the Internet may lead to the adoption of
additional legislation. Failure to comply with existing or new laws regarding phone solicitation, text or electronic
communications with members could lead to significant damages. We have incurred, and will continue to incur, expenses to
comply with electronic messaging laws. If new laws or regulations are adopted, or existing laws and regulations are interpreted,
to impose additional restrictions on our ability to send email to our members or potential members, we may not be able to
communicate with them in a cost-effective manner. In addition to legal restrictions on the use of email for commercial
purposes, Internet and email service providers and others attempt to block the transmission of unsolicited email, commonly
known as “spam.” Many service providers have relationships with organizations whose purpose it is to detect and notify the
Internet and email service providers of entities that the organization believes are sending unsolicited email. If an Internet or
email service provider identifies messaging and email from us as “spam” as a result of reports from these organizations or
otherwise, we could be placed on a restricted list that will block our emails to members or potential members. If we are
restricted or unable to communicate by phone, text or email with our members and potential members as a result of legislation,
blockage or otherwise, our business, operating results and financial condition would be harmed.
Applicable insurance laws regarding the change in control of our company may impede potential acquisitions that our
stockholders might consider to be desirable.
We are subject to statutes and regulations of the state of New York that generally require that any person or entity desiring to
acquire direct or indirect control of APIC obtain prior regulatory approval. These laws may discourage potential acquisition
proposals and may delay, deter or prevent a change in control of our company, including through transactions, and in particular
unsolicited transactions, that some of our stockholders might consider to be desirable. Similar laws or regulations may also
apply in other states in which we may operate.
Our segregated account in Bermuda, WICL segregated account AX, could be adversely impacted by regulatory compliance
of a third party.
Wyndham Insurance Company (SAC) Limited (WICL) is a class 3 insurer regulated by the Bermuda Monetary Authority
(BMA). WICL's ability to continue operations and pay dividends could impact the ability of our segregated account to do the
same. WICL's failure to meet regulatory requirements set forth by the BMA could result in our inability to transact business
with WICL segregated account AX. Further, WICL could be limited from allowing dividends to be paid out of segregated
account AX in the event of adverse regulatory actions.
We will continue to incur significantly increased costs and devote substantial management time as a result of operating as a
public company.
As a public company, we incur significant legal, accounting and other expenses that we did not incur as a private company. For
example, we are subject to the reporting requirements of the Exchange Act, and are required to comply with the applicable
requirements of the Sarbanes-Oxley Act, and the Dodd-Frank Wall Street Reform and Consumer Protection Act, as well as
rules and regulations subsequently implemented by the SEC and the stock exchange on which our common stock is listed,
including the establishment and maintenance of effective disclosure and financial controls and changes in corporate governance
practices. Compliance with these requirements has and may continue to increase our legal and financial compliance costs and
will make some activities more time consuming and costly. In addition, from time to time, our management and other personnel
need to divert attention from operational and other business matters to devote substantial time to these public company
requirements. In particular, we have and will continue to incur significant expenses and devote substantial management effort
toward ensuring compliance with the requirements of Section 404 of the Sarbanes-Oxley. We cannot predict or estimate the
amount of additional costs we may incur as a result of being a public company or the timing of such costs.
33
Our reported financial results may be adversely affected by changes in accounting principles generally accepted in the
United States.
Generally accepted accounting principles in the United States are subject to interpretation by the Financial Accounting
Standards Board, the SEC and various bodies formed to promulgate and interpret appropriate accounting principles. A change
in these principles or interpretations could have a significant effect on our reported financial results, could affect the reporting
of transactions completed before the announcement of a change and could affect our compliance with financial debt covenants.
Risks Related to Ownership of Our Common Stock
Our actual operating results may differ significantly from our guidance.
From time to time we have released, and may continue to release, guidance in our quarterly earnings conference call, quarterly
earnings releases, or otherwise, regarding our future performance that represents our management’s estimates as of the date of
release. This guidance, which includes forward-looking statements, has been and will be based on projections prepared by our
management. These projections are not prepared with a view toward compliance with published guidelines of the American
Institute of Certified Public Accountants, and neither our independent registered public accounting firm nor any other
independent expert or outside party compiles or examines the projections. Accordingly, no such person expresses any opinion
or any other form of assurance with respect to the projections.
Projections are based upon a number of assumptions and estimates that, while presented with numerical specificity, are
inherently subject to significant business, economic and competitive uncertainties and contingencies, many of which are
beyond our control and are based upon specific assumptions with respect to future business decisions, some of which will
change. We intend to state possible outcomes as high and low ranges which are intended to provide a sensitivity analysis as
variables are changed but are not intended to imply that actual results could not fall outside of the suggested ranges. The
principal reason that we release guidance is to provide a basis for our management to discuss our business outlook with
analysts and investors. We do not accept any responsibility for any projections or reports published by any such third parties.
Guidance is necessarily speculative in nature, and it can be expected that some or all of the assumptions underlying the
guidance furnished by us will not materialize or will vary significantly from actual results. Accordingly, our guidance is only an
estimate of what management believes is realizable as of the date of release. Actual results may vary from our guidance and the
variations may be material. In light of the foregoing, investors are urged not to rely upon our guidance in making an investment
decision regarding our common stock.
Any failure to successfully implement our operating strategy or the occurrence of any of the events or circumstances set forth
in this report or our other reports filed with the SEC could result in the actual operating results being different from our
guidance, and the differences may be adverse and material.
If securities or industry analysts do not publish research, or publish inaccurate or unfavorable research, about our
business, our stock price and trading volume could decline.
The trading market for our common stock depends in part on the research and reports that securities or industry analysts
publish about us or our business. If one or more of the securities or industry analysts who publish research about us or our
business downgrade our stock or publish inaccurate or unfavorable evaluations of our company or our stock, the price of our
stock could decline. If one or more of these analysts cease coverage of our company, our stock may lose visibility in the
market, which in turn could cause our stock price to decline.
The market price of our common stock has been and is likely to continue to be volatile, and you may be unable to sell your
shares at or above the price at which you purchased them.
The market price of our common stock has been and is likely to continue to fluctuate widely. Factors affecting the market price
of our common stock include:
•
•
•
•
•
variations in our operating results, earnings per share, cash flows from operating activities, and key operating metrics,
and how those results compare to analyst expectations;
forward-looking guidance that we provide to the public and industry and financial analysts related to future revenue
and profitability, and any change in that guidance or our failure to achieve the results reflected in that guidance;
the net increases in the number of members, either independently or as compared with published expectations of
industry, financial or other analysts that cover our company;
changes in the estimates of our operating results or changes in recommendations by securities analysts that elect to
follow our common stock;
announcements of changes to our subscription, strategic alliances or significant agreements by us or by our
competitors;
34
•
•
•
•
•
•
announcements by us or by our competitors of mergers or other strategic acquisitions, or rumors of such transactions
involving us or our competitors;
recruitment or departure of key personnel;
the economy as a whole and market conditions in our industry;
trading activity by a limited number of stockholders who together beneficially own a majority of our outstanding
common stock;
the number of shares of our stock trading on a regular basis; and
any other factors discussed in these risk factors and elsewhere in this report.
In addition, if the market for stock in our industry or the stock market in general experiences uneven investor confidence, the
market price of our common stock could decline for reasons unrelated to our business, operating results or financial condition.
The market price of our common stock might also decline in reaction to events that affect other companies within, or outside,
our industry even if these events do not directly affect us. Some companies that have experienced volatility in the trading price
of their stock have been the subject of securities class action litigation. If we are the subject of such litigation, it could result in
substantial costs and a diversion of our management’s attention and resources.
We do not intend to pay dividends on our common stock and, therefore, any returns will be limited to the value of our stock.
We have never declared or paid any cash dividends on our common stock. We currently intend to retain all available funds and
any future earnings for the development, operation and expansion of our business and do not anticipate declaring or paying any
cash dividends for the foreseeable future. In addition, our ability to pay cash dividends on our common stock is limited by the
terms of our credit agreement, APIC’s ability to pay dividends is limited by New York state insurance laws, and WICL
Segregated Account AX's ability to pay dividends is limited by our agreements with WICL as well as WICL's regulatory
requirements. Any return to stockholders will therefore be limited to the increase, if any, of our stock price.
Our directors and principal stockholders own a significant percentage of our stock and will be able to exert significant
control over matters subject to stockholder approval.
Our directors, five percent or greater stockholders and their respective affiliates beneficially hold a significant amount of our
outstanding voting stock. Therefore, these stockholders have the ability to influence us through this ownership position. These
stockholders may be able to determine all matters requiring stockholder approval. For example, these stockholders may be able
to control elections of directors, amendments of our organizational documents, or approval of any merger, sale of assets, or
other major corporate transaction. This may prevent or discourage unsolicited acquisition proposals or offers for our common
stock that you or other stockholders may feel are in your or their best interest as one of our stockholders.
Provisions in our restated certificate of incorporation, restated bylaws and Delaware law might discourage, delay or prevent
a change in control of our company or changes in our management and, therefore, depress the market price of our common
stock.
Our restated certificate of incorporation and restated bylaws contain provisions that could depress the market price of our
common stock by acting to discourage, delay or prevent a change in control of our company or changes in our management that
the stockholders of our company may deem advantageous. These provisions, among other things:
•
•
•
•
•
•
•
•
•
establish a classified board of directors so that not all members of our board are elected at one time;
permit only the board of directors to establish the number of directors and fill vacancies on the board;
provide that directors may only be removed “for cause” and only with the approval of two-thirds of our stockholders;
require super-majority voting to amend some provisions in our restated certificate of incorporation and restated
bylaws;
authorize the issuance of “blank check” preferred stock that our board could use to implement a stockholder rights
plan (also known as a “poison pill”);
eliminate the ability of our stockholders to call special meetings of stockholders;
prohibit stockholder action by written consent, which requires all stockholder actions to be taken at a meeting of our
stockholders;
prohibit cumulative voting; and
establish advance notice requirements for nominations for election to our board or for proposing matters that can be
acted upon by stockholders at annual stockholder meetings.
35
In addition, Section 203 of the Delaware General Corporation Law may discourage, delay or prevent a change in control of our
company. Section 203 imposes certain restrictions on mergers, business combinations and other transactions between us and
holders of 15% or more of our common stock.
Our restated certificate of incorporation provides that, unless we consent in writing to the selection of an alternative forum,
the Court of Chancery of the State of Delaware shall be the sole and exclusive forum for certain litigation that may be
initiated by our stockholders, which could limit our stockholders’ ability to obtain a favorable judicial forum for disputes
with us or our directors, officers or employees.
Our restated certificate of incorporation provides that, unless we consent in writing to the selection of an alternative forum, the
Court of Chancery of the State of Delaware shall be the sole and exclusive forum for (i) any derivative action or proceeding
brought on our behalf, (ii) any action asserting a claim for breach of a fiduciary duty owed by any of our directors, officers or
other employees to us or our stockholders, (iii) any action asserting a claim arising pursuant to any provision of the Delaware
General Corporation Law, our restated certificate of incorporation or our restated bylaws, (iv) any action to interpret, apply,
enforce or determine the validity of our restated certificate of incorporation or restated bylaws, or (v) any action asserting a
claim against us governed by the internal affairs doctrine. The choice of forum provision may limit a stockholder’s ability to
bring a claim in a judicial forum that it finds favorable for disputes with us or our directors, officers or other employees, which
may discourage such lawsuits against us and our directors, officers and other employees. Stockholders who do bring a claim in
the Court of Chancery could face additional litigation costs in pursuing any such claim, particularly if they do not reside in or
near the State of Delaware. The Court of Chancery may also reach different judgments or results than would other courts,
including courts where a stockholder considering an action may be located or would otherwise choose to bring the action, and
such judgments or results may be more favorable to us than to our stockholders. Alternatively, if a court were to find the choice
of forum provision contained in our restated certificate of incorporation to be inapplicable or unenforceable in an action, we
may incur additional costs associated with resolving such action in other jurisdictions, which could adversely affect our
business and financial condition.
36
Item 1B. Unresolved Staff Comments
None.
Item 2. Properties
Our principal executive offices are located at 6100 4th Avenue South, Seattle, Washington. We purchased the building in
August 2018 and occupy 91,437 square feet. We also occupy 1,600 square feet of office space in Vancouver, British Columbia
pursuant to a lease that expires in March 2022.
Item 3. Legal Proceedings
Information with respect to this item may be found in Note 8 of Item 8, "Financial Statements and Supplementary Data", under
the caption, "Legal Proceedings" which information is incorporated herein by reference.
Item 4. Mine Safety Disclosures
Not applicable.
37
Item 5. Market for Registrant’s Common Equity, Related Stockholder Matters, and Issuer Purchases of Equity Securities
PART II
Market for our Common Stock
Our common stock began trading on the New York Stock Exchange (NYSE) under the symbol “TRUP” on July 18, 2014. Prior to
that time, there was no public market for our common stock. On June 17, 2016, we voluntarily transferred the listing of our
common stock from the NYSE to the NASDAQ Global Market of the NASDAQ Stock Market LLC (NASDAQ) where our
common stock continues to be traded under the symbol “TRUP”.
Dividend Policy
We have never declared or paid cash dividends on our capital stock. We currently intend to retain any future earnings for use in
the operation of our business and do not intend to declare or pay any cash dividends in the foreseeable future. Any further
determination to pay dividends on our capital stock will be at the discretion of our board of directors, subject to applicable laws
and restrictions in our outstanding credit agreement, and will depend on our financial condition, results of operations, capital
requirements, general business conditions and other factors that our board of directors considers relevant.
Holders of Record
As of February 7, 2019, there were 44 stockholders of record of our common stock. The actual number of stockholders is greater
than this number of record holders, and includes stockholders who are beneficial owners, whose shares are held of record by
banks, brokers, and other financial institutions.
Securities Authorized for Issuance under Equity Compensation Plans
The information called for by this item is incorporated by reference to our Proxy Statement for the Annual Meeting of
Stockholders to be held in 2019. See Part III, Item 12 “Security Ownership of Certain Beneficial Owners and Management and
Related Stockholder Matters.”
Stock Performance Graph
The following shall not be deemed “filed” for purposes of Section 18 of the Exchange Act, or incorporated by reference into any
of our other filings under the Exchange Act or the Securities Act, except to the extent we specifically incorporate it by reference
into such filing.
38
This chart compares the stockholder return on an investment of $100 at the close of market on July 18, 2014 for (1) our common
stock, (2) the S&P Small Cap 600 Index, (3) the NASDAQ-100 Technology Sector Index, and (4) the Russell 2000 Index. All
values assume the reinvestment of any dividends; however, no dividends have been declared on our common stock to date. The
stockholder return on the following graph is not necessarily indicative of future performance.
7/18/2014
12/31/2014
12/31/2015
12/31/2016
12/31/2017
12/31/2018
Trupanion Inc.
S&P Small Cap 600 Index
$
$
100.00
100.00
NASDAQ-100 Technology Sector Index $
100.00
Russell 2000 Index
$
100.00
$
$
$
$
60.79
104.67
108.80
104.61
$
$
$
$
85.61
101.16
106.25
98.63
$
$
$
$
136.14
126.19
131.81
117.85
$
$
$
$
256.75
140.99
180.16
133.34
$
$
$
$
223.33
127.24
170.27
117.10
Use of Proceeds from Registered Securities
In June 2018, we completed a follow-on public offering whereby we sold 2,090,909 shares of common stock at a price to the
public of $33.00 per share. We received aggregate net proceeds of $65.7 million, reflecting gross proceeds of $69.0 million,
reduced by underwriting discounts and commissions and offering expenses payable by us. The shares sold in the follow-on public
offering were registered under the Securities Act pursuant to a registration statement on Form S-3 (File No. 333-225760), which
became effective immediately upon filing with the SEC on June 20, 2018 (the "Registration Statement"). The proceeds were
primarily used to purchase real estate consisting of properties in use as our home office. In August 2018, we issued additional
303,030 shares of common stock via a private placement under Section 4(a)(2) of the Securities Act to an accredited investor as a
portion of the purchase price for the real estate.
39
Item 6. Selected Financial Data
The selected statements of operations, balance sheet, and other data presented below should be read with “Management’s
Discussion and Analysis of Financial Condition and Results of Operations” and our consolidated financial statements and
related notes included elsewhere in this report. The selected statements of operations and balance sheet data are derived from
our audited consolidated financial statements included elsewhere in this report and our previously audited financial statements
that are not included herein. Our historical results are not necessarily indicative of the results to be expected in any future
period.
Consolidated statements of operations data:
Revenue:
Subscription business
Other business
Total revenue
Cost of revenue:
Subscription business(1)
Other business
Total cost of revenue
Gross profit:
Subscription business
Other business
Total gross profit
Operating expenses:
Technology and development(1)
General and administrative(1)
Sales and marketing(1)
Total operating expenses
Operating loss
Interest expense
Other (income) expense, net
Loss before income taxes
Income tax (benefit) expense
Net loss
Year Ended December 31,
2018
2017
2016
2015
2014
(in thousands)
$
263,738
$
218,354
$
173,356
$
133,406
$
103,502
40,218
303,956
24,313
242,667
14,874
188,230
13,557
146,963
12,408
115,910
215,992
36,598
252,590
176,883
22,734
199,617
141,321
13,621
154,942
109,428
12,306
121,734
47,746
3,620
51,366
9,248
18,164
24,999
41,471
1,579
43,050
9,768
16,820
19,104
32,035
1,253
33,288
9,534
15,205
15,247
23,978
1,251
25,229
11,215
15,558
15,231
52,411
(1,045)
1,198
(1,309)
(934)
(7)
(927) $
45,692
(2,642)
533
(1,244)
(1,931)
(428)
(1,503) $
39,986
(6,698)
218
(58)
(6,858)
38
(6,896) $
42,004
(16,775)
325
(9)
(17,091)
114
(17,205) $
$
85,169
10,867
96,036
18,333
1,541
19,874
9,899
14,312
11,608
35,819
(15,945)
6,726
(1,487)
(21,184)
(7)
(21,177)
(1) Includes stock-based compensation expense as follows:
Year Ended December 31,
2018
2017
2016
2015
2014
Cost of revenue
Technology and development
General and administrative
Sales and marketing
(in thousands)
$
$
927
209
2,304
1,335
$
594
216
1,887
722
$
275
246
1,893
532
$
263
404
1,889
446
Total stock-based compensation expense
$
4,775
$
3,419
$
2,946
$
3,002
$
315
461
2,755
553
4,084
40
Consolidated balance sheet data:
Cash and cash equivalents
Short-term investments
Working capital
Total assets
Current and long-term debt
Total liabilities
Common stock and additional paid-in capital
Accumulated deficit
Total stockholders' equity
Other operational data(1):
Total pets enrolled (at period end)
Total subscription pets enrolled
Monthly average revenue per pet
Lifetime value of a pet (LVP)
Average pet acquisition cost (PAC)(2)
Average monthly retention
December 31,
2018
2017
2016
2015
2014
(in thousands)
$
26,552
$
25,706
$
23,637
$
17,956
$
54,559
54,773
37,590
40,692
207,510
105,859
12,862
78,337
219,838
(83,711)
129,173
9,324
57,425
134,511
(82,784)
48,434
29,570
34,729
82,345
4,767
37,630
129,574
(81,281)
44,715
25,288
30,016
70,917
—
25,561
122,844
(74,385)
45,356
53,098
22,371
62,111
98,306
14,900
39,031
119,045
(57,180)
59,275
Year Ended December 31,
2018
2017
2016
2015
2014
521,326
430,770
54.34
710
164
$
$
$
423,194
371,683
52.07
727
152
$
$
$
343,649
323,233
47.82
631
123
$
$
$
291,818
272,636
45.04
591
132
$
$
$
232,450
215,491
44.14
591
121
$
$
$
98.60%
98.63%
98.60%
98.64%
98.69%
(1) For more information about how we calculate total pets enrolled, total subscription pets enrolled, monthly average revenue per pet, lifetime value of a
pet, average pet acquisition cost and average monthly retention, see “Management’s Discussion and Analysis of Financial Condition and Results of
Operations—Key Operating Metrics.”
(2) Average pet acquisition cost is calculated in part based on net acquisition cost, a non-GAAP financial measure. For more information about net
acquisition cost and a reconciliation of sales and marketing expenses to net acquisition cost, see “Management’s Discussion and Analysis of Financial
Condition and Results of Operations—Non-GAAP Financial Measures.”
41
Item 7. Management’s Discussion and Analysis of Financial Condition and Results of Operations
Overview
We provide medical insurance for cats and dogs throughout the United States, Canada and Puerto Rico. Our data-driven,
vertically-integrated approach enables us to provide pet owners with what we believe is the highest value medical insurance for
their pets, priced specifically for each pet’s unique characteristics. Our growing and loyal member base provides us with highly
predictable and recurring revenue. We operate our business similar to other subscription-based businesses, with a focus on
maximizing the lifetime value of each pet while sustaining a favorable ratio of lifetime value relative to pet acquisition cost,
based on our desired return on investment.
We operate in two business segments: subscription business and other business. We generate revenue in our subscription
business segment primarily from subscription fees for our medical insurance, which we market to consumers. Fees are paid at
the beginning of each subscription period, which automatically renews on a monthly basis. We generate revenue in our other
business segment writing policies on behalf of third parties, where we do not undertake the marketing, and have more of a
business-to-business relationship. Our other business segment consists of companies or organizations that choose to provide
medical insurance for cats and dogs as a benefit to their employees or members, and contracts include multiple pets. The
policies in our other business segment may be materially different from our subscription business. Our ultimate goal is to build
the Trupanion brand by continuing to offer the highest value proposition in the industry and maintain strong alignment with the
veterinary community. We believe our activities in our other business segment benefit the overall market for pet medical
insurance by expanding upon product options and distribution models within other market niches.
We generate leads for our subscription business through both third-party referrals and direct-to-consumer acquisition channels,
which we then convert into members through our website and contact center. Veterinary practices represent our largest referral
source. We engage our Territory Partners to have face-to-face visits with veterinarians and their staff. Territory Partners are
dedicated to cultivating direct veterinary relationships and building awareness of the benefits of our subscription to
veterinarians and their clients. Veterinarians then educate pet owners, who visit our website or call our contact center to learn
more about, and potentially enroll in, Trupanion. We pay Territory Partners fees based on activity in their regions. We also
receive a significant number of new leads from existing members adding pets and referring their friends and family members.
Our direct-to-consumer acquisition channels serve as important resources for pet owner education and drive new member leads
and conversion. We continuously evaluate the effectiveness of our member acquisition channels and marketing initiatives based
upon their return on investment, which we measure by comparing the ratio of the lifetime value of a pet generated through each
specific channel or initiative to the related acquisition cost.
Key Operating Metrics
The following tables set forth our key operating metrics for our subscription business and total enrolled pets for the periods
ended December 31, 2018, 2017 and 2016, and for each of the last eight fiscal quarters.
Total pets enrolled (at period end)
Total subscription pets enrolled (at period end)
Monthly average revenue per pet
Lifetime value of a pet (LVP)
Average pet acquisition cost (PAC)
Average monthly retention
Year Ended December 31,
2018
521,326
430,770
54.34
710
164
$
$
$
2017
423,194
371,683
52.07
727
152
$
$
$
2016
343,649
323,233
47.82
631
123
$
$
$
98.60%
98.63%
98.60%
42
Total pets enrolled (at period
end)
Total subscription pets
enrolled (at period end)
Monthly average revenue per
pet
Lifetime value of a pet
(LVP)
Average pet acquisition cost
(PAC)
Dec. 31,
2018
Sept. 30,
2018
Jun. 30,
2018
Mar. 31,
2018
Dec. 31,
2017
Sept. 30,
2017
Jun. 30,
2017
Mar. 31,
2017
Period Ended
521,326
497,942
472,480
446,533
423,194
404,069
383,293
364,259
430,770
416,527
401,033
385,640
371,683
359,102
346,409
334,909
$ 55.15
$ 54.55
$ 53.96
$ 53.62
$ 53.17
$ 52.95
$ 51.47
$ 50.50
$
$
710
186
$
$
714
155
$
$
732
150
$
$
727
165
$
$
727
184
$
$
701
151
$
$
654
143
$
$
637
128
Average monthly retention
98.60%
98.61%
98.64%
98.63%
98.63%
98.61%
98.57%
98.58%
Total pets enrolled. Total pets enrolled reflects the number of subscription pets or pets enrolled in one of the insurance
products offered in our other business segment at the end of each period presented. We monitor total pets enrolled because it
provides an indication of the growth of our consolidated business.
Total subscription pets enrolled. Total subscription pets enrolled reflects the number of pets in active memberships at the end
of each period presented. We monitor total subscription pets enrolled because it provides an indication of the growth of our
subscription business.
Monthly average revenue per pet. Monthly average revenue per pet is calculated as amounts billed in a given period for
subscriptions divided by the total number of subscription pet months in the period. Total subscription pet months in a period
represents the sum of all subscription pets enrolled for each month during the period. We monitor monthly average revenue per
pet because it is an indicator of the per pet unit economics of our subscription business.
Lifetime value of a pet. Lifetime value of a pet (LVP) is a business operating metric that we believe reflects the lifetime value
we might expect from a new subscription pet enrollment. We calculate LVP based on gross profit from our subscription
business segment for the 12 months prior to the period end date excluding stock-based compensation expense related to cost of
revenue from our subscription business segment, sign-up fee revenue and the change in deferred revenue between periods,
multiplied by the implied average subscriber life in months. Implied average subscriber life in months is calculated as the
quotient obtained by dividing one by one minus the average monthly retention rate. We monitor LVP to assess how much
lifetime value we might expect from new pets over their implied average subscriber life in months and to evaluate the amount
of sales and marketing expenses we may want to incur to attract new subscription pet enrollments, based on our targeted
internal rate of return.
Average pet acquisition cost. Average pet acquisition cost (PAC) is calculated as net acquisition cost divided by the total
number of new subscription pets enrolled in that period. Net acquisition cost, a non-GAAP financial measure, is calculated in a
reporting period as sales and marketing expense, excluding stock-based compensation expense and other business segment
sales and marketing expense, offset by sign-up fee revenue. We exclude stock-based compensation expense because the amount
varies from period to period based on number of awards issued and market-based valuation inputs. We offset sign-up fee
revenue because it is a one-time charge to new members collected at the time of enrollment used to partially offset initial setup
costs, which are included in sales and marketing expenses. We exclude other business segment sales and marketing expense
because that does not relate to subscription enrollments. We monitor average pet acquisition cost to evaluate the efficiency of
our sales and marketing programs in acquiring new members and measure effectiveness using the ratio of our lifetime value of
a pet to average pet acquisition cost, based on our desired return on investment.
Average monthly retention. Average monthly retention is measured as the monthly retention rate of enrolled subscription pets
for each applicable period averaged over the 12 months prior to the period end date. As such, our average monthly retention
rate as of December 31, 2018 is an average of each month’s retention from January 1, 2018 through December 31, 2018. We
calculate monthly retention as the number of pets that remain after subtracting all pets that cancel during a month, including
pets that enroll and cancel within that month, divided by the total pets enrolled at the beginning of that month. We monitor
average monthly retention because it provides a measure of member satisfaction and allows us to calculate the implied average
subscriber life in months.
43
Non-GAAP Financial Measures
We believe that using net acquisition cost to calculate and present certain of our other key metrics is helpful to our investors
and an important tool for financial and operational decision-making and evaluating our operating results over different periods
of time. Measuring net acquisition cost by removing stock-based compensation expense and other business segment sales and
marketing expense offset by sign-up fee revenue provides for a more comparable metric across periods.
This measure, which is a non-GAAP financial measure, may not provide information that is directly comparable to that
provided by other companies in our industry. In addition, this measure excludes stock-based compensation expense, which has
been, and is expected to continue to be for the foreseeable future, a significant recurring component of our sales and marketing
expense. The presentation and utilization of non-GAAP financial measures is not meant to be considered in isolation or as a
substitute for the directly comparable financial measures prepared in accordance with GAAP.
The following tables reflect the reconciliation of net acquisition cost to sales and marketing expense (in thousands):
Sales and marketing expense
Net of sign-up fee revenue
Excluding:
Stock-based compensation expense
Other business segment sales and marketing expense
Net acquisition cost
Year Ended December 31,
2018
2017
2016
$
$
$
24,999
(2,587)
$
19,104
(2,169)
(1,335)
(377)
20,700
$
(722)
(218)
15,995
$
15,247
(2,073)
(532)
(218)
12,424
Sales and marketing
expense
Net of sign-up fee
revenue
Excluding:
Stock-based
compensation expense
Other business
segment sales and
marketing expense
Dec. 31,
2018
Sept. 30,
2018
Jun. 30,
2018
Mar. 31,
2018
Dec. 31,
2017
Sept. 30,
2017
Jun. 30,
2017
Mar. 31,
2017
Period Ended
$
6,994
$
6,365
$
5,702
$
5,938
$
5,781
$
4,862
$
4,372
$
4,089
(655)
(693)
(624)
(616)
(550)
(558)
(517)
(544)
(355)
(358)
(349)
(273)
(172)
(165)
(198)
(187)
(102)
(99)
(88)
(87)
4,962
$
(56)
5,003
$
(51)
4,088
$
(63)
3,594
$
(48)
3,310
Net acquisition cost
$
5,882
$
5,215
$
4,641
$
Components of Operating Results
General
We operate in two business segments: subscription business and other business. Our subscription business segment includes
revenue and expenses related to monthly subscriptions for pet medical insurance, which we market to consumers. When we do
not directly market and sell to consumers, we classify the related revenue and expenses in our other business segment.
Revenue
We generate revenue in our subscription business segment primarily from subscription fees for our pet medical insurance. Fees
are paid at the beginning of each subscription period, which automatically renews on a monthly basis. In most cases, our
members authorize us to directly charge their credit card, debit card or bank account through automatic funds transfer.
Subscription revenue is recognized on a pro rata basis over the monthly enrollment term. Membership may be canceled at any
time without penalty, and we issue a refund for the unused portion of the canceled membership.
We generate revenue in our other business segment primarily from writing policies on behalf of third parties where we do not
undertake the direct consumer marketing. This segment includes the writing of policies that may be materially different from
our subscription.
44
Cost of Revenue
Cost of revenue in each of our segments is comprised of the following:
Veterinary invoice expense
Veterinary invoice expense includes our costs to review veterinary invoices, administer the payments, and provide
member services, and other operating expenses directly or indirectly related to this process. We also accrue for
veterinary invoices that have been incurred but not yet received. This also includes amounts paid by unaffiliated
general agents, and an estimate of amounts incurred and not yet paid for our other business segment.
Other cost of revenue
Other cost of revenue for the subscription business segment includes direct and indirect member service expenses,
Territory Partner renewal fees, credit card transaction fees and premium tax expenses. Other cost of revenue for the
other business segment includes the commissions we pay to unaffiliated general agents, costs to administer the
programs in the other business segment and premium taxes on the sales in this segment.
Operating Expenses
Our operating expenses are classified into three categories: technology and development, general and administrative, and sales
and marketing. For each category, the largest component is personnel costs, which include salaries, employee benefit costs,
bonuses and stock-based compensation expense.
Technology and Development
Technology and development expenses primarily consist of personnel costs and related expenses for our technology
staff, which includes information technology development and infrastructure support and third-party services, as well
as depreciation of hardware and capitalized software.
General and Administrative
General and administrative expenses consist primarily of personnel costs and related expenses for our finance,
actuarial, human resources, regulatory, legal and general management functions, as well as facilities and professional
services.
Sales and Marketing
Sales and marketing expenses primarily consist of the cost to educate veterinarians and consumers about the benefits
of Trupanion, to generate leads and to convert leads into enrolled pets, as well as print, online and promotional
advertising costs, and employee compensation and related costs. Sales and marketing expenses are driven primarily by
investments to acquire new members.
45
Factors Affecting Our Performance
Average monthly retention. Our performance depends on our ability to continue to retain our existing and newly enrolled pets
and is impacted by our ability to provide a best-in-class value and member experience. Our ability to retain enrolled pets
depends on a number of factors, including the actual and perceived value of our services and the quality of our member
experience, the ease and transparency of the process for reviewing and paying veterinary invoices for our members, and the
competitive environment. In addition, other initiatives across our business may temporarily impact retention and make it
difficult for us to improve or maintain this metric. For example, if the number of new pets enrolled increases at a faster rate
than our historical experience, our average monthly retention rate could be adversely impacted, as our retention rate is
generally lower during the first year of member enrollment.
Investment in pet acquisition. We have made and plan to continue to make significant investments to grow our member base.
Our net acquisition cost and the number of new members we enroll depends on a number of factors, including the amount we
elect to invest in sales and marketing activities in any particular period in the aggregate and by channel, the frequency of
existing members adding a pet or referring their friends or family, effectiveness of our sales execution and marketing initiatives,
changes in costs of media, the mix of our sales and marketing expenditures and the competitive environment. Our average pet
acquisition cost has in the past significantly varied, and in the future may significantly vary, from period to period based upon
specific marketing initiatives and the actual or expected relationship to LVP and estimated rates of return on pet acquisition
spend. We also regularly test new member acquisition channels and marketing initiatives, which may be more expensive than
our traditional marketing channels and may increase our average acquisition costs. We continually assess our sales and
marketing activities by monitoring the ratio of LVP to PAC and the return on PAC spend both on a detailed level by acquisition
channel and in the aggregate.
Timing of initiatives. Over time we plan to implement new initiatives to improve our member experience, make modifications
to our subscription plan and find other ways to maintain a strong value proposition for our members. These initiatives will
sometimes be accompanied by price adjustments, in order to compensate for an increase in benefits received by our members.
The implementation of such initiatives may not always coincide with the timing of price adjustments, resulting in fluctuations
in revenue and gross profit in our subscription business segment.
Geographic mix of sales. The relative mix of our business between the United States and Canada impacts the monthly average
revenue per pet we receive. Prices for our plan in Canada are generally higher than in the United States (in local currencies),
which is consistent with the relative cost of veterinary care in each country. As our mix of business between the United States
and Canada changes, our metrics, such as our monthly average revenue per pet, and our exposure to foreign exchange
fluctuations will be impacted.
Other business segment. Our other business segment primarily includes revenue and expenses related to policies written on
behalf of third parties. This segment includes the writing of policies that may be materially different from our subscription. Our
relationships in our other business segment are generally subject to termination provisions and are non-exclusive. Accordingly,
we cannot control the volume of business, even if a contract is not terminated. Loss of an entire program via contract
termination could result in the associated policies and revenues being lost over a period of 12 to 18 months, which could have a
material impact on our results of operations. We may enter into additional relationships in the future to the extent we believe
they will be profitable to us, which could also impact our operating results.
46
Results of Operations
The following tables set forth our results of operations for the periods presented both in absolute dollars and as a percentage of
total revenue for those periods. The period-to-period comparison of financial results is not necessarily indicative of future
results.
Year Ended December 31,
2018
2017
2016
(in thousands)
$
263,738
$
218,354
$
173,356
40,218
303,956
215,992
36,598
252,590
47,746
3,620
51,366
9,248
18,164
24,999
24,313
242,667
176,883
22,734
199,617
41,471
1,579
43,050
9,768
16,820
19,104
52,411
(1,045)
1,198
(1,309)
(934)
(7)
(927) $
45,692
(2,642)
533
(1,244)
(1,931)
(428)
(1,503) $
14,874
188,230
141,321
13,621
154,942
32,035
1,253
33,288
9,534
15,205
15,247
39,986
(6,698)
218
(58)
(6,858)
38
(6,896)
Year Ended December 31,
2018
2017
2016
(in thousands)
927
209
2,304
1,335
4,775
$
$
$
594
216
1,887
722
3,419
$
275
246
1,893
532
2,946
$
$
$
Revenue:
Subscription business
Other business
Total revenue
Cost of revenue:
Subscription business(1)
Other business
Total cost of revenue
Gross profit:
Subscription business
Other business
Total gross profit
Operating expenses:
Technology and development(1)
General and administrative(1)
Sales and marketing(1)
Total operating expenses
Operating loss
Interest expense
Other income, net
Loss before income taxes
Income tax (benefit) expense
Net loss
(1) Includes stock-based compensation expense as follows:
Cost of revenue
Technology and development
General and administrative
Sales and marketing
Total stock-based compensation expense
47
Revenue
Cost of revenue
Gross profit
Operating expenses:
Technology and development
General and administrative
Sales and marketing
Total operating expenses
Operating loss
Interest expense
Other (income) expense, net
Loss before income taxes
Income tax (benefit) expense
Net loss
Subscription business revenue
Subscription business cost of revenue
Subscription business gross profit
Comparison of the years ended December 31, 2018, 2017, and 2016
Revenue
Year Ended December 31,
2018
2017
2016
(as a percentage of revenue)
100 %
100 %
100 %
83
17
3
6
8
17
—
—
—
—
—
82
18
4
7
8
19
(1)
—
(1)
(1)
—
82
18
5
8
8
21
(4)
—
—
(4)
—
— %
(1)%
(4)%
Year Ended December 31,
2018
2017
2016
(as a percentage of subscription revenue)
100%
82
18%
100%
81
19%
100%
82
18%
Revenue:
Subscription business
Other business
Total revenue
Percentage of Revenue by Segment:
Subscription business
Other business
Total revenue
Year Ended December 31,
Change
2018
2017
2016
2018 vs. 2017
2017 vs. 2016
(in thousands, except percentages, pet and per pet data)
$
$
263,738
40,218
303,956
$
$
218,354
24,313
242,667
$
$
173,356
14,874
188,230
21%
65
25
26%
63
29
87%
13
100%
90%
10
100%
92%
8
100%
343,649
323,233
47.82
98.60%
23
16
4
23
15
9
Total pets enrolled (at period end)
Total subscription pets enrolled (at period end)
521,326
430,770
423,194
371,683
Monthly average revenue per pet
Average monthly retention
$
54.34
$
52.07
$
98.60%
98.63%
48
Year ended December 31, 2018 compared to year ended December 31, 2017. Total revenue increased by $61.3 million to
$304.0 million for the year ended December 31, 2018, or 25%. Revenue from our subscription business segment increased by
$45.4 million to $263.7 million for the year ended December 31, 2018, or 21%. This increase in subscription business revenue
was primarily due to a 16% increase in total subscription pets enrolled as of December 31, 2018 compared to December 31,
2017, and increased average revenue per pet of 4% for the same period. Increases in pricing were due to the increased cost and
utilization of veterinary care. Revenue from our other business segment increased $15.9 million to $40.2 million for the year
ended December 31, 2018, or 65%, due to an increase in enrolled pets in this segment.
Year ended December 31, 2017 compared to year ended December 31, 2016. Total revenue increased by $54.4 million to
$242.7 million for the year ended December 31, 2017, or 29%. Revenue for our subscription business segment increased by
$45.0 million to $218.4 million for the year ended December 31, 2017, or 26%. This increase in subscription business revenue
was primarily due to a 15% increase in total subscription pets enrolled as of December 31, 2017 compared to December 31,
2016, and increased average revenue per pet of 9% for the same period. Increases in pricing were due to the increased cost of
veterinary care and more accurately pricing to our cost-plus margin structure by subcategory. Revenue from our other business
segment increased $9.4 million to $24.3 million for the year ended December 31, 2017, or 63%, due to an increase in enrolled
pets in this segment.
Cost of Revenue
Cost of Revenue:
Subscription business:
Veterinary invoice expense
Other cost of revenue
Total cost of revenue
Gross profit
Other business:
Veterinary invoice expense
Other cost of revenue
Total cost of revenue
Gross profit
Percentage of Revenue by Segment:
Subscription business:
Veterinary invoice expense
Other cost of revenue
Total cost of revenue
Gross profit
Other business:
Veterinary invoice expense
Other cost of revenue
Total cost of revenue
Gross profit
Year Ended December 31,
Change
2018
2017
2016
2018 vs. 2017
2017 vs. 2016
(in thousands, except percentages, pet and per pet data)
$
191,051
$
155,554
$
124,636
23%
25%
24,941
215,992
47,746
23,488
13,110
36,598
3,620
21,329
176,883
41,471
14,568
8,166
22,734
1,579
16,685
141,321
32,035
8,898
4,723
13,621
1,253
17
22
15
61
61
61
129
28
25
29
64
73
67
26
72%
71%
72%
9
82
18
58
33
91
9
10
81
19
60
34
94
6
10
82
18
60
32
92
8
Total pets enrolled (at period end)
Total subscription pets enrolled (at period end)
521,326
430,770
423,194
371,683
343,649
323,233
Monthly average revenue per pet
$
54.34
$
52.07
$
47.82
23
16
4
23
15
9
49
Year ended December 31, 2018 compared to year ended December 31, 2017. Cost of revenue for our subscription business
segment was $216.0 million, or 82% of revenue, for the year ended December 31, 2018, compared to $176.9 million, or 81%,
of revenue for the year ended December 31, 2017. This $39.1 million increase in subscription cost of revenue was primarily the
result of a 23% increase in veterinary invoice expense. As a percentage of revenue, these costs increased to 72% for the year
ended December 31, 2018 from 71% for the year ended December 31, 2017, due to the increases in monthly average revenue
per pet lagging slightly behind increases in veterinary invoice expense increases. Cost of revenue for our other business
segment increased $13.9 million to $36.6 million for the year ended December 31, 2018, due to an increase in enrolled pets in
this segment.
Year ended December 31, 2017 compared to year ended December 31, 2016. Cost of revenue for our subscription business
segment was $176.9 million, or 81% of revenue, for the year ended December 31, 2017, compared to $141.3 million, or 82% of
revenue, for the year ended December 31, 2016. This $35.6 million increase in subscription cost of revenue was primarily the
result of a 15% increase in subscription pets enrolled, resulting in a 25% increase in veterinary invoice expense and related
internal processing costs. As a percentage of revenue, these costs decreased to 71% for the year ended December 31, 2017 from
72% for the year ended December 31, 2016, due to the increase in monthly average revenue per pet outpacing the cost of
veterinary care for certain subcategories as we more accurately priced those subcategories. Cost of revenue for our other
business segment increased $9.1 million to $22.7 million for the year ended December 31, 2017, due to an increase in enrolled
pets in this segment.
Technology and Development Expenses
Year Ended December 31,
Change
2018
2017
2016
2018 vs. 2017
2017 vs. 2016
(in thousands, except percentages)
Technology and development
$
9,248
$
9,768
$
9,534
(5)%
2%
Percentage of total revenue
3%
4%
5%
Year ended December 31, 2018 compared to year ended December 31, 2017. Technology and development expenses
decreased $0.5 million, or 5%, to $9.2 million for the year ended December 31, 2018. This decrease was partially due to a $0.1
million decrease in amortization expense and a $0.1 million decrease in infrastructure-related costs compared to the same
period in the prior year. In addition, more resources were dedicated to capital projects, resulting in a higher proportion of costs
being capitalized in 2018.
Year ended December 31, 2017 compared to year ended December 31, 2016. Technology and development expenses increased
$0.2 million, or 2%, to $9.8 million for the year ended December 31, 2017. This increase was primarily due to a $0.5 million
increase in amortization expense related to projects placed in service in late 2016. This was offset by a $0.3 million decrease in
infrastructure related costs compared to the same period in the prior year.
General and Administrative Expenses
Year Ended December 31,
Change
2018
2017
2016
2018 vs. 2017
2017 vs. 2016
(in thousands, except percentages)
General and administrative
Percentage of total revenue
$
18,164
$
16,820
$
15,205
8%
11%
6%
7%
8%
Year ended December 31, 2018 compared to year ended December 31, 2017. General and administrative expenses increased
$1.4 million, or 8%, to $18.2 million for the year ended December 31, 2018. This increase was primarily due to increases of
compensation expense by $1.0 million and professional service fees by $0.6 million, partially offset by lower expenses as a
result of owning our corporate headquarters building. General and administrative expenses decreased from 7% to 6% as a
percentage of revenue for the year ended December 31, 2018, as we experienced scale in our support functions.
Year ended December 31, 2017 compared to year ended December 31, 2016. General and administrative expenses increased
$1.6 million, or 11%, to $16.8 million for the year ended December 31, 2017. This was primarily due to an increase of $1.0
million related to higher rent and occupancy costs after our move to a new building in the third quarter of 2016. General and
administrative expenses decreased from 8% to 7% as a percentage of revenue for the year ended December 31, 2017, as we
experienced scale in our support functions.
50
Sales and Marketing Expenses
Sales and marketing
Subscription Business:
Total subscription pets enrolled (at period
end)
Average pet acquisition cost (PAC)
$
$
Year Ended December 31,
Change
2018
2017
2016
2018 vs. 2017
2017 vs. 2016
(in thousands, except pet and per pet data)
24,999
$
19,104
$
15,247
31%
25%
430,770
164
$
371,683
152
$
323,233
123
16
8
15
24
Year ended December 31, 2018 compared to year ended December 31, 2017. Sales and marketing expense increased $5.9
million, or 31%, to $25.0 million, while gross subscription new pets increased 20%, to 126,182, and PAC increased 8% for the
year ended December 31, 2018. The increase in expense consisted primarily of an additional $3.5 million in compensation
expense, due to a 27% increase in headcount, and $2.0 million related to new marketing initiatives.
Year ended December 31, 2017 compared to year ended December 31, 2016. Sales and marketing expenses increased $3.9
million, or 25%, to $19.1 million for the year ended December 31, 2017. PAC increased 24% from December 31, 2016, to $152
for the year ended December 31, 2017, as a result of $1.8 million in additional testing of new marketing initiatives.
Additionally, compensation and related expenses increased by $2.0 million due to a 21% increase in headcount in the year
ended December 31, 2017.
Total Other (Income) Expense, Net
Interest expense
Other income, net
Total other (income) expense, net
Year Ended December 31,
2018
2017
2016
(in thousands)
$
$
$
1,198
(1,309)
(111) $
$
533
(1,244)
(711) $
218
(58)
160
Year ended December 31, 2018 compared to year ended December 31, 2017. Total other (income) expense, net decreased by
$0.6 million primarily due to a $1.0 million gain related to the sale of our equity method investment during prior year, partially
offset by higher interest expense in the year ended December 31, 2018, primarily due to higher average debt balances.
Year ended December 31, 2017 compared to year ended December 31, 2016. Total other (income) expense, net improved by
$0.9 million due to a $1.0 million gain related to the sale of our equity method investment in the second quarter of 2017.
51
Income Tax (Benefit) Expense
Year Ended December 31,
2018
2017
2016
Income tax (benefit) expense
Effective tax rate
$
(in thousands, except percentages)
(7)
0.8%
(428)
22.2%
$
$
38
(0.6)%
Year ended December 31, 2018 compared to year ended December 31, 2017. In December 2017, the U.S. government enacted
the Tax Cuts and Jobs Act (the Tax Act). The Tax Act makes broad and complex changes to the Code, including reducing the
corporate tax rate to 21% effective January 1, 2018. As a result, we recorded a decrease of $0.6 million to our net deferred tax
liability recorded on our consolidated balance sheet, with a corresponding adjustment to income tax benefit for the year ended
December 31, 2017. No additional adjustments were made to our net deferred tax liability as a result of finalizing our analysis
of the impact of the Tax Act in 2018. As such, the effective tax rate for 2018 is the result of maintaining a full valuation
allowance on our reported U.S. federal deferred tax assets.
Year ended December 31, 2017 compared to year ended December 31, 2016. As a result of the Tax Act, we recorded a
decrease of $0.6 million to our net deferred tax liability recorded on our consolidated balance sheet, with a corresponding
adjustment to income tax benefit for the year ended December 31, 2017. This tax benefit represents our best estimate of the
impact of the Tax Act in accordance with our understanding of the Tax Act and available guidance as of our date of filing.
The Tax Act makes additional significant changes to the Code, such as, (1) imposing a mandatory one-time tax on accumulated
earnings of foreign subsidiaries and transitioning U.S. international taxation from a worldwide tax system to a territorial system
with base erosion rules; (2) imposing changes on the utilization of net operating losses; (3) other general changes to the
taxation of corporations, including changes to cost recovery rules, changes to the deductibility of interest expense, and
elimination of the performance-based compensation exception for executive compensation. The overall impact of the Tax Act
on our future results of operations is uncertain at this time. We intend to continue to reinvest all of our foreign earnings
indefinitely outside of the U.S.
52
Quarterly Results of Operations
The following tables contain selected quarterly financial information for the years ended December 31, 2018 and 2017. The
unaudited quarterly information has been prepared on a basis consistent with the audited consolidated financial statements and
includes all adjustments that we consider necessary for a fair presentation of the information shown. These quarterly operating
results for any fiscal quarter are not necessarily indicative of the operating results for any full fiscal year or future period.
Consolidated Statements of
Operations Data:
Three Months Ended
Dec. 31,
2018
Sept. 30,
2018
Jun. 30,
2018
Mar. 31,
2018
Dec. 31,
2017
Sept. 30,
2017
Jun. 30,
2017
Mar. 31,
2017
(in thousands)
Revenue:
Subscription business
$
70,933
$
67,421
$
63,867
$
61,517
$
58,991
$
56,493
$
52,641
$
50,229
Other business
Total revenue
Cost of revenue:
Subscription business(1)
Other business
Total cost of revenue
Gross profit:
Subscription business
Other business
Total gross profit
Operating expenses:
Technology and
development(1)
General and administrative(1)
Sales and marketing(1)
11,707
82,640
57,892
10,543
68,435
13,041
1,164
14,205
2,487
4,922
6,994
10,743
78,164
54,753
9,667
64,420
12,668
1,076
13,744
2,299
4,174
6,365
9,525
73,392
52,333
8,706
61,039
8,243
69,760
51,014
7,682
58,696
7,554
66,545
47,831
6,977
54,808
6,625
63,118
45,215
6,096
51,311
5,634
58,275
42,591
5,333
47,924
11,534
10,503
11,160
11,278
10,050
819
561
577
529
301
12,353
11,064
11,737
11,807
10,351
Total operating expenses
14,403
12,838
12,610
2,298
4,610
5,702
2,164
4,458
5,938
12,560
(1,496)
219
(140)
2,572
4,546
5,781
12,899
(1,162)
163
(5)
(198)
311
(238)
906
336
(628)
(257)
332
(303)
Operating (loss) income
Interest expense
Other income, net
(Loss) income before income
taxes
2,471
4,017
4,862
2,322
4,245
4,372
11,350
10,939
457
124
(99)
432
26
(588)
109
(1,112)
415
4
Income tax expense (benefit)
4
(7)
91
(95)
(482)
(271)
1,198
(286)
(1,575)
(1,320)
Net (loss) income
$
(275) $
1,205
$
(377) $
(1,480) $
(838) $
406
$
411
$
(1,482)
(1) Includes stock-based compensation expense as follows (in thousands):
Dec. 31,
2018
Sept. 30,
2018
Jun. 30,
2018
Mar. 31,
2018
Dec. 31,
2017
Sept. 30,
2017
Jun. 30,
2017
Mar. 31,
2017
Three Months Ended
(in thousands)
Cost of revenue
$
230
$
249
$
252
$
197
$
162
$
170
$
149
$
Technology and development
General and administrative
Sales and marketing
Total stock-based
compensation expense
42
595
355
58
634
358
60
625
349
49
449
273
50
471
172
57
503
165
59
482
198
$
1,222
$
1,299
$
1,286
$
968
$
855
$
895
$
888
$
781
53
4,500
54,729
41,246
4,328
45,574
8,983
172
9,155
2,403
4,012
4,089
10,504
(1,349)
137
(28)
(1,458)
24
113
50
431
187
Dec. 31,
2018
Sept. 30,
2018
Jun. 30,
2018
Mar. 31,
2018
Dec. 31,
2017
Sept. 30,
2017
Jun. 30,
2017
Mar. 31,
2017
Period Ended
Other Financial and
Operational Data(2):
Total pets enrolled (at period
end)
Total subscription pets enrolled
(at period end)
Monthly average revenue per
pet
Lifetime value of a pet (LVP)
Average pet acquisition cost
(PAC)(3)
521,326
497,942
472,480
446,533
423,194
404,069
383,293
364,259
430,770
416,527
401,033
385,640
371,683
359,102
346,409
334,909
$
$
$
55.15
710
186
$
$
$
54.55
714
155
$
$
$
53.96
732
150
$
$
$
53.62
727
165
$
$
$
53.17
727
184
$
$
$
52.95
701
151
$
$
$
51.47
654
143
$
$
$
50.50
637
128
Average monthly retention
98.60%
98.61%
98.64%
98.63%
98.63%
98.61%
98.57%
98.58%
Revenue
Cost of revenue
Gross profit
Operating expenses:
Technology and
development
General and administrative
Sales and marketing
Total operating expenses
Operating income (loss)
Interest expense
Other (income) expense, net
Income (loss) before income
taxes
Income tax benefit
Net income (loss)
Three Months Ended
Dec. 31,
2018
Sept. 30,
2018
Jun. 30,
2018
Mar. 31,
2018
Dec. 31,
2017
Sept. 30,
2017
Jun. 30,
2017
Mar. 31,
2017
(as a percentage of revenue)
100 %
100%
100 %
100 %
100 %
100%
100%
100 %
83
17
3
6
8
17
—
—
—
—
—
82
18
3
5
8
16
1
—
(1)
2
—
83
17
3
6
8
17
—
—
—
—
—
84
16
3
6
8
18
(3)
—
—
(2)
—
82
18
4
7
9
19
(2)
—
—
(2)
(1)
81
19
4
6
8
18
1
—
—
1
—
82
18
4
7
8
19
(1)
—
(2)
1
—
83
17
4
7
7
19
(2)
—
—
(3)
—
— %
2%
(1)%
(2)%
(1)%
1%
1%
(3)%
Dec. 31,
2018
Sept. 30,
2018
Jun. 30,
2018
Mar. 31,
2018
Dec. 31,
2017
Sept. 30,
2017
Jun. 30,
2017
Mar. 31,
2017
(as a percentage of subscription revenue)
Three Months Ended
Subscription business revenue
100%
100%
100%
100%
100%
100%
100%
100%
Subscription business cost of
revenue
Subscription business gross
profit
82
81
82
83
81
80
81
82
18%
19%
18%
17%
19%
20%
19%
18%
54
Liquidity and Capital Resources
The following table summarizes our cash flows for the periods indicated (in thousands):
Net cash provided by operating activities
Net cash used in investing activities
Net cash provided by financing activities
Effect of exchange rates on cash and cash equivalents
Net change in cash, cash equivalents, and restricted cash
Year Ended December 31,
2018
2017
2016
$
$
12,680
(81,451)
71,229
(812)
1,646
$
$
$
9,666
(13,056)
5,081
378
2,069
$
5,006
(6,508)
7,672
111
6,281
Our primary sources of liquidity are cash provided by operations and available borrowings on our line of credit. In June 2018,
we increased the borrowing capacity on our line of credit from $30.0 million to $50.0 million. In addition, we completed the
June 2018 follow-on public offering, raising aggregate net proceeds of $65.7 million, primarily to fund the purchase of our
home office building. Our primary requirements for liquidity are paying veterinary invoices, funding operations and capital
requirements, investing in new member acquisition, investing in enhancements to our member experience, and servicing debt.
As of December 31, 2018, we had $81.1 million of cash, cash equivalents, and short-term investments and $36.6 million
available under our line of credit, which excluded $0.4 million reserved for ancillary services. Most of the assets in APIC and
WICL Segregated Account AX are subject to certain capital and dividend rules and regulations prescribed by jurisdictions in
which they are authorized to operate. As of December 31, 2018, total assets and liabilities held outside of our insurance entities
totaled $107.3 million and $26.7 million, respectively. This included $16.0 million of cash and cash equivalents that are
segregated from other operating funds and held in trust for the payment of veterinary invoices on behalf of our subsidiaries.
We believe our cash and cash equivalents, short-term investments and line of credit are sufficient to fund our operations and
capital requirements for the next 12 months. As we continue to grow, however, we may explore additional financing to fund our
operations or to meet capital requirements. Financing could include equity, equity-linked, or debt financing. Additional
financing may not be available to us on acceptable terms, or at all.
Operating Cash Flows
We derive operating cash flows from the sale of our subscription plans, which is used to pay veterinary invoices and other cost
of revenue. Additionally, cash is used to support the growth of our business by reinvesting to acquire new pet enrollments and
to fund projects that improve our members' experience. Cash provided by operating activities was $12.7 million for the year
ended December 31, 2018 compared to cash provided by operating activities of $9.7 million for the year ended December 31,
2017. The increase in cash provided by operating activities of $3.0 million was primarily driven by higher operating income, as
well as timing differences between collections from members and payments of veterinary invoices and payments to vendors.
Cash provided by operating activities was $9.7 million for the year ended December 31, 2017 compared to cash used in
operating activities of $5.0 million for the year ended December 31, 2016. The increase in cash provided by operating activities
of $4.7 million was primarily due to the $4.1 million decrease in operating loss, drive by higher revenue and decreased
operating expenses as a percentage of revenue as we increased scale in our technology and general and administrative
departments.
Investing Cash Flows
Net cash used in investing activities for the year ended December 31, 2018 was primarily related to the purchase of the
corporate headquarters in August 2018. Other major investing activities for each of the periods presented were primarily related
to the net purchase of investments to increase our statutory capital. As of December 31, 2018, we had $58.1 million in short-
term and long-term investments in our insurance entities, APIC and WICL Segregated Account AX. These investments are held
to satisfy statutory requirements and we anticipate that we will need to maintain greater amounts of risk-based capital if our pet
enrollments continue to grow.
Financing Cash Flows
Cash provided by financing activities was $71.2 million and $5.1 million for the years ended December 31, 2018 and 2017,
respectively. The increase of $65.3 million was primarily due to net proceeds of $65.7 million received from the June 2018
follow-on public offering.
Cash provided by financing activities for the year ended December 31, 2016 was $7.7 million. For the year ended December
31, 2017, cash provided by financing activities decreased by $2.6 million primarily due to a decrease of $1.2 million in
proceeds from exercises of stock options. We also paid an additional $0.5 million for tax withholding on restricted stock.
55
Long-Term Debt
Pacific Western Bank Loan and Security Agreement
We have a syndicated loan agreement with Pacific Western Bank (PWB) and Western Alliance Bank (WAB), which we
amended in June 2018 to increase the borrowing capacity from $30.0 million to $50.0 million and extend the maturity date to
June 2021. The required restricted cash increased to $1.4 million. We refer to this line of credit as our PWB credit facility. The
maximum amount available to us under the PWB credit facility, inclusive of any amounts outstanding under the revolving line
of credit, is the lesser of $50.0 million or the total amount of cash and securities held by our insurance entities, less amounts
outstanding relating to other ancillary services and letters of credit, totaling $0.4 million as of December 31, 2018. Interest on
the PWB credit facility accrues at a variable annual rate equal to the greater of 4.5% or 1.25% plus the prime rate (6.75% at
December 31, 2018).
The PWB credit facility requires us to maintain certain financial and non-financial covenants, including maintaining a
minimum cash balance of $1.4 million in our account at WAB and/or WAB affiliates and other cash or investments of $2.1
million in our accounts at PWB. As of December 31, 2018, we were in compliance with each of the financial and non-financial
covenants.
Our obligations under the PWB credit facility are secured by substantially all of our assets and a pledge of certain of our
subsidiaries’ stock. As of December 31, 2018, we had $13.0 million in aggregate borrowings outstanding under the PWB credit
facility.
Contractual Obligations
We enter into long-term contractual obligations and commitments in the normal course of business, primarily debt obligations
and non-cancellable vendor service agreements. For enforceable and legally binding contracts, our contractual cash obligations
as of December 31, 2018 are set forth below (in thousands):
Long-term debt obligations(1)
Capital and operating lease obligations
Other obligations(2)
Total
Total
Less Than
1 Year
1-3 Years
3-5 Years
More Than
5 Years
$
$
13,000
$
— $
13,000
$
— $
202
6,196
148
2,886
54
510
19,398
$
3,034
$
13,564
$
—
336
336
$
—
—
2,464
2,464
(1) Consists of our revolving line of credit. Excludes interest of the greater of 4.5% or 1.25% plus the prime rate (6.75% at December 31, 2018).
(2) Consists of contractual obligations from non-cancellable vendor service agreements.
Critical Accounting Policies and Significant Estimates
Our discussion and analysis of our financial condition and results of operations is based upon our consolidated financial
statements, which have been prepared in accordance with GAAP. The preparation of these consolidated financial statements
requires us to make estimates and judgments that affect the reported amounts of assets and liabilities and the disclosure of
contingent assets and liabilities as of the date of the consolidated financial statements, as well as the reported revenue and
expenses during the reporting periods.
Critical accounting policies and estimates are those that we consider the most important to the portrayal of our financial
condition and results of operations because they require our most difficult, subjective or complex judgments, often as a result of
the need to make estimates about the effect of matters that are inherently uncertain. Generally, we base our estimates on
historical experience and on various other factors that we believe to be reasonable under the circumstances. Actual results may
differ from these estimates.
Reserve for Veterinary Invoices
The reserve for our subscription business represents our estimate of the future amount we will pay for veterinary invoices that
are dated as of, or prior to, our balance sheet date. The reserve also includes our estimate of related internal processing costs. To
determine the accrual, we make assumptions based on our historical experience, including the number of veterinary invoices
we expect to receive, the average cost of those veterinary invoices, the length of time between the date of the veterinary invoice
and the date we receive it, and our expected cost to process and administer the payments. As of each balance sheet date, we
reevaluate our reserve and may adjust the estimate for new information.
56
For the year ended December 31, 2018, we paid $10.1 million for veterinary invoices dated on or before December 31, 2017,
including related processing costs. Our reserve estimate for these expenses was $11.1 million as of December 31, 2017. As of
December 31, 2018, we reevaluated the remaining reserve for those periods prior to December 31, 2017 and recorded an
adjustment to our income statement to increase it by $0.4 million. As of December 31, 2018, our reserve was $13.9 million,
consisting of $12.5 million for the amount we expect to pay in the future for veterinary invoices dated between January 1, 2018
and December 31, 2018, inclusive of related processing costs, and a reserve of $1.3 million for periods prior to 2018.
Similarly, for the years ended December 31, 2017 and 2016, we adjusted our reserve for prior periods, reducing it by $0.1
million and increasing it by $0.8 million, respectively. These adjustments were recorded in our income statement for each
respective year.
Income Taxes
We determine our deferred tax assets and liabilities based on the differences between the financial reporting and tax basis of
assets and liabilities. The deferred tax assets and liabilities are measured using the enacted tax rates that will be in effect when
the differences are expected to reverse. A valuation allowance is recorded when it is more likely than not that the deferred tax
asset will not be recovered. We apply judgment in the determination of the consolidated financial statement recognition and
measurement of a tax position taken or expected to be taken in a tax return. Although we believe our assumptions, judgments
and estimates are reasonable, changes in tax laws or our interpretation of tax laws and the resolution of any tax audits could
significantly impact the amounts provided for income taxes in our consolidated financial statements.
Stock-Based Compensation
Compensation expense related to stock-based transactions, including employee and non-employee stock option awards,
restricted stock awards, and restricted stock units, is measured and recognized in the financial statements based on fair value.
The fair value of stock options is estimated on the measurement date using the Black-Scholes option-pricing model that
requires management to apply judgment and make estimates, including:
• Expected volatility —We estimate the expected volatility based on the historical volatility of a representative group of
publicly traded companies with similar characteristics to us, and our own historical volatility;
• Expected term for awards granted to employees —We have based our expected term for awards issued to employees
on the simplified method, as permitted by the SEC Staff Accounting Bulletin No. 110, Share-Based Payment, as we
have insufficient historical information regarding our stock options to provide a basis for an estimate;
• Risk-free interest rate—The risk-free interest rate is based on the yields of U.S. Treasury securities with maturities
similar to the expected term of the options; and
• Expected dividend yield—We have never declared or paid any cash dividends and do not presently plan to pay cash
dividends in the foreseeable future. Consequently, we use an expected dividend yield of zero.
Stock-based compensation expense for stock options, restricted stock awards, and restricted stock units is recognized on a
straight-line basis over the requisite service period, which is generally the vesting period of the respective award. We recognize
forfeitures when they occur.
57
Item 7A. Quantitative and Qualitative Disclosures About Market Risks
We are exposed to market risks in the ordinary course of business, primarily related to interest rate sensitivities and foreign
currency exchange risk.
Interest Rate Risk
We are exposed to interest rate risk as a result of our debt and our investment activities. Our revolving line of credit with PWB
and WAB bears interest at the rate of the greater of 4.5% or 1.25% plus the prime rate. As of December 31, 2018, our aggregate
outstanding indebtedness was $13.0 million. The primary objective of our investment activities is to maintain principal and the
majority of our investments are short-term in nature. A 10% change in market interest rates would not be expected to have a
material impact on our consolidated financial condition or results of operations.
Foreign Currency Exchange Risk
We generate approximately 19% of our revenue in Canada. As our operations in Canada or the United States grow on an
absolute basis and/or relative to one another, our results of operations and cash flows will be subject to fluctuations due to
changes in foreign currency exchange rates. A 10% change in the Canadian currency exchange rate could have a material
impact on our consolidated financial condition or results of operations. A hypothetical change of this magnitude would have
increased or decreased our total revenues by approximately $5.8 million, total expenses by approximately $4.1 million, and
have a net impact of $1.7 million of income or loss for the year ended December 31, 2018. To date, we have not entered into
any material foreign currency hedging contracts although we may do so in the future.
58
Item 8. Financial Statements and Supplementary Data
Trupanion Inc.
Index to Consolidated Financial Statements
Report of Independent Registered Public Accounting Firm
Consolidated Statements of Operations
Consolidated Statements of Comprehensive Loss
Consolidated Balance Sheets
Consolidated Statements of Stockholders' Equity
Consolidated Statements of Cash Flows
Notes to Consolidated Financial Statements
Page
60
61
62
63
64
65
66
59
Report of Independent Registered Public Accounting Firm
To the Stockholders and the Board of Directors of Trupanion, Inc.
Opinion on the Financial Statements
We have audited the accompanying consolidated balance sheets of Trupanion, Inc. (the Company) as of December 31, 2018
and 2017, the related consolidated statements of operations, comprehensive loss, changes in stockholders' equity and cash flows
for each of the three years in the period ended December 31, 2018, and the related notes and the financial statement schedule
listed in the Index at Item 15(a) (collectively referred to as the “consolidated financial statements”). In our opinion, the
consolidated financial statements present fairly, in all material respects, the financial position of the Company at December 31,
2018 and 2017, and the results of its operations and its cash flows for each of the three years in the period ended December 31,
2018, in conformity with U.S. generally accepted accounting principles.
We also have audited, in accordance with the standards of the Public Company Accounting Oversight Board (United States)
(PCAOB), the Company's internal control over financial reporting as of December 31, 2018, based on criteria established in
Internal Control-Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission
(2013 framework), and our report dated February 14, 2019 expressed an unqualified opinion thereon.
Basis for Opinion
These financial statements are the responsibility of the Company’s management. Our responsibility is to express an opinion on
the Company’s financial statements based on our audits. We are a public accounting firm registered with the PCAOB and are
required to be independent with respect to the Company in accordance with the U.S. federal securities laws and the applicable
rules and regulations of the Securities and Exchange Commission and the PCAOB.
We conducted our audits in accordance with the standards of the PCAOB. Those standards require that we plan and perform the
audit to obtain reasonable assurance about whether the financial statements are free of material misstatement, whether due to
error or fraud. Our audits included performing procedures to assess the risks of material misstatement of the financial
statements, whether due to error or fraud, and performing procedures that respond to those risks. Such procedures included
examining, on a test basis, evidence regarding the amounts and disclosures in the financial statements. Our audits also included
evaluating the accounting principles used and significant estimates made by management, as well as evaluating the overall
presentation of the financial statements. We believe that our audits provide a reasonable basis for our opinion.
/s/ Ernst & Young LLP
We have served as the Company’s auditor since 2012.
Seattle, Washington
February 14, 2019
60
Trupanion, Inc.
Consolidated Statements of Operations
(in thousands, except per share data)
Revenue
Cost of revenue:
Veterinary invoice expense
Other cost of revenue
Gross profit
Operating expenses:
Technology and development
General and administrative
Sales and marketing
Total operating expenses
Operating loss
Interest expense
Other income, net
Loss before income taxes
Income tax (benefit) expense
Net loss
Net loss per share:
Basic and Diluted
Weighted average shares of common stock outstanding:
Basic and Diluted
Year Ended December 31,
2018
2017
2016
$
303,956
$
242,667
$
188,230
214,539
38,051
51,366
170,122
29,495
43,050
133,534
21,408
33,288
9,248
18,164
24,999
52,411
(1,045)
1,198
(1,309)
(934)
(7)
(927) $
9,768
16,820
19,104
45,692
(2,642)
533
(1,244)
(1,931)
(428)
(1,503) $
9,534
15,205
15,247
39,986
(6,698)
218
(58)
(6,858)
38
(6,896)
(0.03) $
(0.05) $
(0.24)
31,961,192
29,588,324
28,527,602
$
$
61
Trupanion, Inc.
Consolidated Statements of Comprehensive Loss
(in thousands)
Net loss
Other comprehensive income (loss):
Foreign currency translation adjustments
Net unrealized gain (loss) on available-for-sale debt securities
Other comprehensive income (loss), net of taxes
Comprehensive loss
Year Ended December 31,
2018
2017
2016
(927) $
(1,503) $
(6,896)
(642)
(19)
(661)
(1,588) $
277
8
285
(1,218) $
79
46
125
(6,771)
$
$
62
Trupanion, Inc.
Consolidated Balance Sheets
(in thousands, except share data)
Assets
Current assets:
Cash and cash equivalents
Short-term investments
Accounts and other receivables
Prepaid expenses and other assets
Total current assets
Restricted cash
Long-term investments, at fair value
Property and equipment, net
Intangible assets, net
Other long-term assets
Total assets
Liabilities and stockholders’ equity
Current liabilities:
Accounts payable
Accrued liabilities and other current liabilities
Reserve for veterinary invoices
Deferred revenue
Total current liabilities
Long-term debt
Deferred tax liabilities
Other liabilities
Total liabilities
Stockholders’ equity:
Common stock: $0.00001 par value per share, 100,000,000 shares authorized at December 31,
2018 and December 31, 2017, 34,781,121 and 34,025,136 shares issued and outstanding at
December 31, 2018; 30,778,796 and 30,121,496 shares issued and outstanding at December 31,
2017
Preferred stock: $0.00001 par value per share, 10,000,000 shares authorized at December 31,
2018 and December 31, 2017, and 0 shares issued and outstanding at December 31, 2018 and
December 31, 2017
Additional paid-in capital
Accumulated other comprehensive loss
Accumulated deficit
Treasury stock, at cost: 755,985 shares at December 31, 2018 and 657,300 shares at December
31, 2017
Total stockholders’ equity
Total liabilities and stockholders’ equity
63
December 31,
2018
2017
$
26,552
$
54,559
31,565
5,300
117,976
1,400
3,554
69,803
8,071
6,706
25,706
37,590
20,367
2,895
86,558
600
3,237
7,868
4,972
2,624
$
$
207,510
$
105,859
2,767
$
11,347
16,062
33,027
63,203
12,862
1,002
1,270
78,337
—
—
219,838
(753)
(83,711)
(6,201)
129,173
2,716
7,660
12,756
22,734
45,866
9,324
1,002
1,233
57,425
—
—
134,511
(92)
(82,784)
(3,201)
48,434
$
207,510
$
105,859
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Trupanion, Inc.
Consolidated Statements of Cash Flows
(in thousands)
Operating activities
Net loss
Adjustments to reconcile net loss to cash provided by operating activities:
Depreciation and amortization
Stock-based compensation expense
Gain on sale of equity method investment
Other, net
Changes in operating assets and liabilities:
Accounts and other receivables
Prepaid expenses and other assets
Accounts payable, accrued liabilities, and other liabilities
Reserve for veterinary invoices
Deferred revenue
Net cash provided by operating activities
Investing activities
Purchases of investment securities
Maturities of investment securities
Purchases of other investments
Acquisition of lease intangibles, related to corporate real estate acquisition
Proceeds from sale of equity method investment
Purchases of property and equipment
Other
Net cash used in investing activities
Financing activities
Proceeds from public offering of common stock, net of offering costs
Proceeds from exercise of stock options
Shares withheld to satisfy tax withholding
Proceeds from debt financing, net of financing fees
Repayment of debt financing
Other financing
Net cash provided by financing activities
Effect of foreign exchange rate changes on cash, cash equivalents, and
restricted cash, net
Net change in cash, cash equivalents, and restricted cash
Cash, cash equivalents, and restricted cash at beginning of period
Cash, cash equivalents, and restricted cash at end of period
Supplemental disclosures
Income taxes paid
Interest paid
Noncash investing and financing activities:
Issuance of common stock for cashless exercise of warrants
Issuance of common stock for acquisition of corporate real estate
Purchases of property and equipment included in accounts payable
and accrued liabilities
Property and equipment acquired under capital lease
65
Year Ended December 31,
2017
2016
2018
$
(927) $
(1,503) $
(6,896)
4,512
4,775
—
(240)
(11,248)
(2,628)
4,531
3,440
10,465
12,680
(52,862)
35,413
(3,000)
(2,959)
—
(56,936)
(1,107)
(81,451)
65,671
3,601
(1,839)
13,431
(10,000)
365
71,229
(812)
1,646
26,306
27,952
$
$
216
1,019
3,000
9,640
106
—
4,232
3,419
(1,036)
(383)
(10,219)
(179)
3,019
3,149
9,167
9,666
(31,920)
23,372
—
—
1,402
(3,131)
(2,779)
(13,056)
—
2,545
(1,170)
4,400
—
(694)
5,081
378
2,069
24,237
26,306
177
333
—
—
390
689
$
3,846
2,946
—
104
(1,830)
48
1,164
3,226
2,398
5,006
(31,616)
27,247
—
—
—
(1,941)
(198)
(6,508)
—
3,745
(662)
4,988
—
(399)
7,672
111
6,281
17,956
24,237
19
153
600
—
104
559
Trupanion, Inc.
Notes to Consolidated Financial Statements
1. Nature of Operations and Summary of Significant Accounting Policies
Description of Business
Trupanion, Inc. (collectively with its wholly-owned subsidiaries, the Company) provides medical insurance for cats and dogs
throughout the United States, Canada and Puerto Rico. The Company believes its data-driven, vertically-integrated approach
makes its subscription the highest value for pet owners, with pricing specific to each pet’s unique characteristics. The Company
strives to operate the business similar to other subscription-based businesses, with a focus on maximizing the lifetime value of
each pet while sustaining a favorable ratio of lifetime value relative to pet acquisition cost, based on the Company's desired
return on investment.
Basis of Presentation
The consolidated financial statements have been prepared in accordance with U.S. generally accepted accounting principles
("GAAP") and include the accounts of the Company and its wholly-owned subsidiaries. All intercompany accounts and
transactions have been eliminated in consolidation.
Use of Estimates
The preparation of consolidated financial statements in conformity with U.S. GAAP requires management to make estimates
and assumptions that affect the reported amounts and related disclosures. Actual results could differ from such estimates.
Cash, Cash Equivalents and Restricted Cash
The Company considers all highly liquid investments with an original maturity of three months or less to be cash equivalents.
At times, cash on deposit may be in excess of the applicable federal deposit insurance corporation limits.
The Company considers any cash account that is contractually restricted to withdrawal or use to be restricted cash. The
Company is party to a financing agreement requiring a restricted cash balance. As of December 31, 2018, the Company was in
compliance with all requirements.
Accounts and Other Receivables
Receivables are comprised of trade receivables and other miscellaneous receivables. Accounts and other receivables are carried
at their estimated collectible amounts.
Deferred Acquisition Costs
The Company incurs certain costs, including premium taxes, fees and enrollment-based bonuses, and referral fees that directly
relate to the successful acquisition of new or renewal customer contracts. These costs are deferred and are included in prepaid
expenses and other assets on the consolidated balance sheet and amortized over the related policy term to the applicable
financial statement line item, either sales and marketing expense or other cost of revenue. Deferred acquisition costs as of
December 31, 2018 and December 31, 2017 were $1.3 million and $1.0 million, respectively. Amortized deferred acquisition
costs classified within sales and marketing amounted to $2.1 million, $1.7 million, and $1.4 million and amortized deferred
acquisition costs classified within other cost of revenue amounted to $15.9 million, $13.2 million, and $10.7 million, as of
December 31, 2018, 2017, and 2016, respectively.
Investments
The Company invests in investment grade fixed income securities of varying maturities. Long-term investments are classified
as available-for-sale and reported at fair value with unrealized gains and losses included in accumulated other comprehensive
loss. Short-term investments are classified as held-to-maturity and reported at amortized cost. Premiums or discounts on fixed
income securities are amortized or accreted over the life of the security and included in interest income. There have been no
realized gains and losses on sales of fixed income securities.
The Company evaluates whether declines in the fair value of its investments below book value are other-than-temporary. This
evaluation includes the Company's ability and intent to hold the security until an expected recovery occurs, the severity and
duration of the unrealized loss, as well as all available information relevant to the collectability of the security, including past
events, current conditions, and reasonable and supportable forecasts, when developing estimates of cash flows expected to be
collected.
66
Fair Value of Financial Instruments
The Company is required to disclose information on all assets and liabilities reported at fair value that enables an assessment of
the inputs used in determining the reported fair values. The fair value hierarchy prioritizes valuation inputs based on the
observable nature of those inputs. The fair value hierarchy applies only to the valuation inputs used in determining the reported
fair value of the investments and is not a measure of the investment credit quality. The hierarchy defines three levels of
valuation inputs:
Level 1 - Quoted prices in active markets for identical assets or liabilities
Level 2 - Inputs other than quoted prices that are observable for the asset or liability, either directly or indirectly
Level 3 - Unobservable inputs that reflect the Company's own assumptions about the assumptions market participants
would use in pricing the asset or liability
The Company's financial instruments, in addition to those presented in Note 7, Fair Value, include cash and cash equivalents,
accounts receivable, accounts payable, and accrued liabilities. The carrying amounts of accounts receivable, accounts payable,
and accrued liabilities approximate fair value because of the short-term nature of these instruments.
Property and Equipment
Property and equipment primarily consists of building, land and land improvements, office equipment, internally-developed
software related to the Company’s website, and internal support systems, capitalized during the application development stage
of the project. Property and equipment is recorded at cost and depreciated using the straight-line method over the estimated
useful life of the respective asset:
Land
Land improvements
Building
Software
Office equipment
Intangible Assets
Not depreciable
10 years
39 years
3 to 5 years
3 to 5 years
Acquired finite-lived intangibles are amortized on a straight-line basis over the estimated useful lives of the assets. Indefinite-
lived intangible assets are not amortized. The Company reviews these assets for impairment at least annually or if indicators of
potential impairment exist.
Asset Impairment
Long-lived assets, including property and equipment, are reviewed for impairment when events or changes in circumstances
indicate that the carrying amount of an asset may not be recoverable. Should an impairment exist, the impairment loss would be
measured as the amount the asset's carrying value exceeds its fair value. The Company has recognized no impairment loss on
long-lived assets for the years ended December 31, 2018, 2017, and 2016.
Reserve for Veterinary Invoices
Reserve for veterinary invoices is an estimate of the future amount the Company will pay for veterinary invoices that are dated
as of, or prior to, its balance sheet date. The reserve also includes the Company's estimate of related internal processing costs.
To determine the accrual, the Company makes assumptions based on its historical experience, including the number of
veterinary invoices it expects to receive, the average cost of those veterinary invoices, the length of time between the date of
the veterinary invoice and the date the Company receives it, the member's chosen deductible, and the Company's expected cost
to process and administer the payments.
Deferred Revenue
Deferred revenue consists of subscription fees received or billed in advance of the subscription services within the Company's
subscription business, and the unexpired term of premiums related to the Company's unaffiliated general agents within the
other business segment.
67
Revenue Recognition
The Company generates revenue primarily from subscription fees and through underwriting policies for unaffiliated general
agents. Revenue is recognized pro-rata over the terms of the customer contracts.
Veterinary Invoice Expense
Veterinary invoice expense includes the Company’s costs to review veterinary invoices, administer the payments, and provide
member services, and other operating expenses directly or indirectly related to this process. The Company also accrues for
veterinary invoices that have been incurred but not yet received. This also includes amounts paid by unaffiliated general agents,
and an estimate of amounts incurred and not yet paid for the other business segment.
Other Cost of Revenue
Other cost of revenue for the subscription business segment includes direct and indirect member service expenses, Territory
Partner renewal fees, credit card transaction fees and premium tax expenses. Other cost of revenue for the other business
segment includes the commissions the Company pays to unaffiliated general agents, costs to administer the programs in the
other business segment and premium taxes on the sales in this segment.
Technology and Development
Technology and development expenses primarily consist of personnel costs and related expenses for the Company's technology
staff, which includes information technology development and infrastructure support and third-party services, as well as
depreciation of hardware and capitalized software.
General and Administrative
General and administrative expenses consist primarily of personnel costs and related expenses for the Company’s finance,
actuarial, human resources, legal, regulatory, and general management functions, as well as facilities and professional services.
Sales and Marketing
Sales and marketing expenses consist of costs to educate veterinarians and consumers about the benefits of Trupanion, to
generate leads, and to convert leads to enrolled pets, as well as print, online and promotional advertising costs, and employee
compensation and related costs.
Other (Income) Expense, Net
Other income was $1.3 million for the year ended December 31, 2018. Interest income of $0.9 million, $0.2 million, and $0.1
million was recorded in other income for the years ended December 31, 2018, 2017, and 2016, respectively. Other income in
the year ended December 31, 2017 included a gain of $1.0 million from the sale of the Company's equity method investment.
Advertising
Advertising costs are expensed as incurred, with the exception of television advertisements, which are expensed the first time
each advertisement is aired. Advertising costs amounted to $6.3 million, $4.9 million and $4.0 million, in the years ended
December 31, 2018, 2017 and 2016, respectively.
68
Stock-Based Compensation
Compensation expense related to stock-based transactions, including employee and non-employee stock option awards,
restricted stock awards, and restricted stock units, is measured and recognized in the financial statements based on fair value.
The fair value of restricted stock awards and restricted stock units is the common stock price as of the measurement date. The
fair value of stock options is estimated on the measurement date using the Black-Scholes option-pricing model that requires
management to apply judgment and make estimates, including:
• Expected volatility —The Company estimates the expected volatility based on the historical volatility of a
representative group of publicly traded companies with similar characteristics to the Company, and its own historical
volatility;
• Expected term for awards granted to employees —The Company has based its expected term for awards issued to
employees on the simplified method, as permitted by the SEC Staff Accounting Bulletin No. 110, Share-Based
Payment, as the Company has insufficient historical information regarding its stock options to provide a basis for an
estimate;
• Risk-free interest rate—The risk-free interest rate is based on the yields of U.S. Treasury securities with maturities
similar to the expected term of the options; and
• Expected dividend yield—The Company has never declared or paid any cash dividends and does not presently plan to
pay cash dividends in the foreseeable future. Consequently, the Company uses an expected dividend yield of zero.
Stock-based compensation expense for stock options, restricted stock awards, and restricted stock units is recognized on a
straight-line basis over the requisite service period, which is generally the vesting period of the respective award. The Company
recognizes forfeitures when they occur.
Income Taxes
The Company uses the asset and liability approach for accounting and reporting income taxes. Deferred tax assets and
liabilities are recognized for future tax consequences attributable to differences between the financial statement carrying
amounts of existing assets and liabilities, and their respective tax bases, operating loss, and tax credit carryforwards.
Deferred tax assets and liabilities are measured using enacted tax rates expected to apply to taxable income in the years in
which those temporary differences are expected to be recovered or settled. The effect of a tax rate change is recognized in the
period that includes the enactment date. Valuation allowances are provided for when it is considered more likely than not that
deferred tax assets will not be realized.
The Company recognizes the effect of income tax positions only if those positions are more likely than not of being sustained.
Recognized income tax positions are measured at the largest amount that is greater than a 50% likelihood of being realized.
Penalties and interest are classified as a component of income taxes.
Foreign Currency Translation
The Company’s consolidated financial statements are reported in U.S. dollars. Assets and liabilities denominated in foreign
currencies were translated to U.S. dollars, the reporting currency, at the exchange rates in effect on the balance sheet date.
Revenue and expenses denominated in foreign currencies were translated to U.S. dollars using a weighted-average rate for the
relevant reporting period. Cumulative translation adjustments of $0.7 million, $0.1 million, and $0.4 million were recorded in
accumulated other comprehensive loss as of December 31, 2018, 2017, and 2016, respectively.
Insurance Operations
Effective January 1, 2015, the Company formed a segregated account in Bermuda as part of Wyndham Insurance Company
(SAC) Limited (WICL), and entered into a revised fronting and reinsurance arrangement with Omega General Insurance
Company (Omega) to include its newly formed segregated account. The Company maintains all risk with the business written
in Canada and consolidates the entity in its financial statements. Dividends are allowed subject to the Segregated Accounts
Company Act of 2000, which allows for dividends only to the extent that the entity remains solvent and the value of its assets
remain greater than the aggregate of its liabilities and its issued share capital and share premium accounts.
69
For the Company’s Canadian business, all plans are written by Omega and the risk is assumed by the Company through a
fronting and reinsurance agreement. Premiums are recognized and earned pro rata over the terms of the related customer
contracts. Revenue recognized from the agreement in 2018, 2017, and 2016 was $57.4 million, $47.1 million and $36.5
million, respectively, and deferred revenue relating to this arrangement at December 31, 2018 and 2017 was $2.1 million and
$1.8 million, respectively. Reinsurance revenue was 19% of total revenue in 2018, 2017, and 2016. Cash designated for the
purpose of paying claims related to this reinsurance agreement was $3.9 million and $2.8 million at December 31, 2018 and
2017, respectively. In addition, as required by the Office of the Superintendent of Financial institutions regulations related to
the Company’s reinsurance agreement with Omega, the Company is required to fund a Canadian Trust account with the greater
of CAD $2.0 million or 115% of unearned Canadian premium plus 15% of outstanding Canadian claims, including all incurred
but not reported claims. As of December 31, 2018, the account balance was CAD $3.5 million and the Company was in
compliance with all requirements.
The Company has not transferred any risk to third-party reinsurers.
Concentrations of Credit Risk
Financial instruments, which potentially subject the Company to concentration of credit risk, consist primarily of cash and cash
equivalents and investments. The Company manages its risk by investing cash equivalents and investment securities in money
market instruments and securities of the U.S. government, U.S. government agencies and high-credit-quality issuers of debt
securities.
Follow-on Common Stock Offerings
In June 2018, the Company completed a follow-on public offering (the June 2018 follow-on public offering) whereby the
Company sold 2,090,909 shares of common stock at a price to the public of $33.00 per share. The Company received aggregate
net proceeds from the June 2018 follow-on public offering of $65.7 million, after deducting underwriting discounts and
commissions and offering expenses payable by the Company. The proceeds were primarily used to purchase real estate
consisting of properties in use as the Company's home office. In addition, in August 2018, the Company issued 303,030 shares
of common stock via a private placement to an accredited investor as a portion of the purchase price of the real estate. See Note
12, Real Estate.
Acquisition of Real Estate
The Company’s real estate acquisition was determined to be an asset acquisition, with the purchase price allocated based on
relative fair value of the assets acquired. Additionally, acquisition-related expenses were capitalized as part of the purchase
price.
The Company assessed fair value on the date of the acquisition based on Level 3 inputs within the fair value framework, which
included estimated cash flow projections that utilized appropriate discount rates, capitalization rates, renewal probability and
available market information, which included market rental rates and market rent growth rates. Estimates of future cash flows
were based on a number of factors including historical operating results, known and anticipated trends, and market and
economic conditions.
The fair value of tangible assets of the acquired property considers the value of the property as if it were vacant. The fair value
of acquired “above- and below-” market leases was based on the estimated cash flow projections utilizing discount rates that
reflected the risks associated with the leases acquired. The amount recorded was based on the present value of the difference
between (i) the contractual amounts to be paid pursuant to each in-place lease and (ii) management’s estimate of fair market
lease rates for each in-place lease, measured over a period equal to the remaining term of the lease for above-market leases and
the initial term plus the extended term for any leases with below-market renewal options. Other intangible assets acquired
included amounts for in-place lease values that were based on the Company’s evaluation of the specific characteristics of each
tenant’s lease. Factors considered include estimates of carrying costs during hypothetical expected lease-up periods, market
conditions and costs to execute similar leases. In estimating carrying costs, the Company included estimates of lost rents at
market rates during the hypothetical expected lease-up periods, which were dependent on local market conditions. In estimating
costs to execute similar leases, the Company considered leasing commissions, legal and other related costs.
The results of operations related to our ownership of the building are included in the Company’s Consolidated Statements of
Operations from the date of acquisition.
70
Rental Income
The Company leases a portion of its building to third parties and records related rental income within general and
administrative expense in the Consolidated Statements of Operations. The Company recorded rental income of $0.9 million for
the year ended December 31, 2018.
The following table summarizes the Company's future rental payments to be received from non-cancellable leases in place as of
December 31, 2018 (in thousands):
Year ending December 31:
2019
2020
2021
2022
2023
Thereafter
Total rental payments
$
$
2,129
1,224
1,210
1,173
1,210
3,238
10,184
Recent Accounting Pronouncements
In February 2016, the Financial Accounting Standards Board (FASB) issued an Accounting Standards Update (ASU) amending
the lease presentation guidance. The ASU requires organizations that lease assets to recognize the rights and obligations created
by those leases on the consolidated balance sheets. This ASU is effective for fiscal years beginning after December 15, 2018,
including interim periods within that reporting period, with early adoption permitted. The Company will adopt this guidance as
of January 1, 2019 using the modified retrospective transition method, and will elect all applicable practical expedients upon
the adoption. Based on the lease portfolio as of December 31, 2018, the Company does not expect the adoption of this guidance
to have a material impact on its consolidated financial statements.
In June 2016, the FASB issued an ASU amending the measurement of credit losses on financial instruments. The ASU requires
the measurement and recognition of expected credit losses for financial assets held at amortized cost. This replaces the existing
incurred loss impairment model with an expected loss methodology, which will result in more timely recognition of credit
losses. This ASU is effective for annual reporting periods, and interim periods within those years, beginning after December 15,
2019. The Company is currently in the process of evaluating the impact the adoption of this ASU will have on its consolidated
financial statements.
In August 2018, the FASB issued an ASU that eliminates certain disclosure requirements for fair value measurements, requires
new disclosures regarding significant unobservable inputs used to develop Level 3 fair value measurements, and modifies
certain existing disclosure requirements for Level 3 fair value measurements. This ASU is effective for fiscal years beginning
after December 15, 2019, including interim periods within that reporting period, with early adoption permitted. The Company
is currently evaluating the impact the adoption of this ASU will have on its consolidated financial statements.
2. Net Loss per Share
Basic net loss per share is computed using the weighted-average number of shares of common stock outstanding during the
period. Diluted net loss per share is calculated using the weighted-average number of shares of common stock plus, when
dilutive, potential common shares outstanding using the treasury-stock method. Potential common shares outstanding include
stock options, unvested restricted stock awards and restricted stock units, and warrants.
The following potentially dilutive equity securities were not included in the diluted earnings per common share calculation
because they would have had an antidilutive effect:
Stock options
Restricted stock awards and restricted stock units
Warrants
As of December 31,
2018
2,621,503
451,160
480,000
2017
4,006,399
256,842
810,000
2016
4,123,023
352,996
810,000
71
3. Property and Equipment, Net
Property and equipment, net consisted of the following (in thousands):
Land and improvements
Building and improvements
Software
Office equipment and other
Property and equipment, at cost
Less: Accumulated depreciation
Property and equipment, net
December 31,
2018
2017
$
15,833
$
46,561
20,338
2,772
85,504
(15,701)
69,803
$
$
—
—
17,221
3,022
20,243
(12,375)
7,868
Depreciation expense related to property and equipment, inclusive of assets purchased on capital lease, was $4.3 million, $4.2
million and $3.8 million for the years ended December 31, 2018, 2017 and 2016, respectively.
4. Intangible Assets
The following table presents the detail of intangible assets for the periods presented (in thousands):
December 31, 2018:
Licenses
Patents and trademarks
Leases
Total Intangibles
December 31, 2017:
Licenses
Patents and trademarks
Leases
Total Intangibles
Gross Carrying
Value
Accumulated
Amortization
Net Carrying Value
$
$
$
$
4,773
$
743
2,959
8,475
4,773
373
—
$
$
5,146
$
— $
(191)
(213)
(404) $
— $
(174)
—
(174) $
4,773
552
2,746
8,071
4,773
199
—
4,972
The Company acquired an insurance company in 2007, which originally included licenses in 23 states. These licenses were
valued at $4.8 million. The Company is currently licensed in all 50 states, the District of Columbia and Puerto Rico. Most
licenses are renewed annually upon payment of various fees assessed by the issuing state. Renewal costs are expensed as
incurred. This is considered an indefinite-lived intangible asset given the planned renewal of the certificates of authority and
applicable licenses for the foreseeable future.
The lease-related intangible assets relate to in-place lease agreements associated with the building acquisition in August 2018
and will be amortized over a weighted-average useful life of 5.1 years.
Amortization expense associated with intangible assets for the year ended December 31, 2018 was $0.2 million, and is
expected to be approximately $0.5 million in each of the five succeeding years.
72
5. Investments
The amortized cost, gross unrealized holding gains and losses, and fair value of long-term and short-term investments by major
security type and class of security were as follows as of December 31, 2018 and 2017 (in thousands):
As of December 31, 2018
Long-term investments:
Foreign deposits
Municipal bond
Short-term investments:
U.S. Treasury securities
Certificates of deposit
U.S. government funds
As of December 31, 2017
Long-term investments:
Foreign deposits
Municipal bond
Short-term investments:
U.S. Treasury securities
Certificates of deposit
U.S. government funds
Amortized
Cost
Gross
Unrealized
Holding
Gains
Gross
Unrealized
Holding
Losses
Fair
Value
$
$
$
2,573
1,000
3,573
6,645
437
47,477
— $
—
— $
— $
—
—
54,559
$
— $
— $
(19)
(19) $
(3) $
—
—
(3) $
2,573
981
3,554
6,642
437
47,477
54,556
Amortized
Cost
Gross
Unrealized
Holding
Gains
Gross
Unrealized
Holding
Losses
Fair
Value
$
$
$
2,237
1,000
3,237
5,783
690
31,117
37,590
$
— $
—
— $
— $
1
—
1
$
— $
—
— $
(4) $
—
—
(4) $
2,237
1,000
3,237
5,779
691
31,117
37,587
$
$
$
$
$
$
$
$
Maturities of debt securities classified as available-for-sale were as follows (in thousands):
Available-for-sale:
Due after one year through five years
December 31, 2018
Amortized
Cost
Fair
Value
3,573
3,573
$
3,554
3,554
$
The Company evaluated its securities for other-than-temporary impairment and considers the decline in market value for the
securities to be primarily attributable to current economic and market conditions. For debt securities, the Company does not
intend to sell, nor is it more likely than not that the Company will be required to sell, the securities prior to maturity or prior to
the recovery of the amortized cost basis.
73
6. Other Investments
Investment in Variable Interest Entity
In July 2018, the Company purchased $3.0 million in preferred stock of a privately held corporation with a complementary
business line. The Company does not have power over the activities that most significantly impact the economic performance
of the variable interest entity and is, therefore, not the primary beneficiary. The Company's investment in preferred stock is
accounted for as an available-for-sale debt security. Through January 2020, the Company has agreed to purchase an additional
$4.0 million in preferred stock of the variable interest entity, contingent upon the exercise of this option by the variable interest
entity. The Company has the option to purchase the variable interest entity on the fifth anniversary of the initial preferred stock
purchase. Additionally, the Company has extended a $2.5 million revolving line of credit to the variable interest entity. The
Company's investment and amounts loaned under the line of credit are recorded in other long-term assets on the consolidated
balance sheet. As of December 31, 2018, outstanding loan balance under the line of credit was $0.6 million. The Company has
also entered into a series of agreements to provide ancillary services to the variable interest entity at cost. The Company
provided $0.6 million of these services for the year ended December 31, 2018, which were recorded against its operating
expenses.
Investment in Joint Venture
In September 2018, the Company acquired a non-controlling equity interest in a joint venture, whereby it has committed to
licensing certain intellectual property and contributing up to $2.2 million AUD upon the achievement of specific operational
milestones over a period of at least four years from the agreement execution date. As of December 31, 2018, the Company has
contributed $0.3 million AUD.
74
7. Fair Value
The following table summarizes, by major security type, the Company's assets that are measured at fair value on a recurring
basis, and placement within the fair value hierarchy (in thousands):
Assets
Restricted cash
Money market funds
Fixed maturities:
Foreign deposits
Municipal bond
Investment in variable interest entity
Total
Assets
Restricted cash
Money market funds
Fixed maturities:
Foreign deposits
Municipal bond
Total
As of December 31, 2018
Fair Value
Level 1
Level 2
Level 3
$
1,400
$
1,400
$
2,010
2,010
— $
—
2,573
981
3,000
2,573
—
—
—
981
—
$
9,964
$
5,983
$
981
$
—
—
—
—
3,000
3,000
As of December 31, 2017
Fair Value
Level 1
Level 2
Level 3
$
600
$
600
$
— $
5,167
5,167
2,237
1,000
2,237
—
—
—
1,000
$
9,004
$
8,004
$
1,000
$
—
—
—
—
—
The Company measures the fair value of restricted cash, money market funds, and foreign deposits based on quoted prices in
active markets for identical assets. The fair value of the municipal bond is based on either recent trades in inactive markets or
quoted market prices of similar instruments and other significant inputs derived from or corroborated by observable market
data. The estimated fair value of the Company's investment in the variable interest entity is a Level 3 measurement, and is
based on market interest rates, the assessed creditworthiness of the entity, and the estimated fair value of the entity's common
stock. As of December 31, 2018, the Company estimates that the purchase price approximates the fair value. Short-term
investments are carried at amortized cost and the fair value is disclosed in Note 5, Investments. The fair value of these
investments is determined in the same manner as for available-for-sale securities and is considered a Level 1 measurement.
Fair Value Disclosures
The Company's other long-term assets balance included notes receivable of $3.0 million and $2.5 million as of December 31,
2018 and 2017, respectively, recorded at their estimated collectible amount. The Company estimates that the carrying value of
the notes receivable approximates the fair value. The estimated fair value represents a Level 3 measurement within the fair
value hierarchy, and is based on market interest rates and the assessed creditworthiness of the third party.
The Company estimates the fair value of long-term debt based upon rates currently available to the Company for debt with
similar terms and remaining maturities. This is a Level 3 measurement. Based upon the terms of the debt, the carrying amount
of long-term debt approximated fair value at December 31, 2018 and December 31, 2017.
75
8. Commitments and Contingencies
The following summarizes the Company's contractual commitments as of December 31, 2018 (in thousands):
Long-term debt obligations(1) $
Capital and operating leases
Other obligations(2)
148
2,886
Total
$
3,034
$
Year Ending December 31,
2019
2020
2021
2022
2023
Thereafter
Total
— $
— $
13,000
$
— $
— $
— $
13,000
24
325
349
24
185
$
13,209
$
6
168
174
$
—
168
168
—
2,464
202
6,196
$
2,464
$
19,398
(1) Consists of a revolving line of credit. Excludes interest of the greater of 4.5% or 1.25% plus the prime rate (6.75% as of December 31, 2018).
(2) Consists of contractual obligations from non-cancellable vendor service agreements.
The Company had a lease agreement for its headquarters building located in Seattle, Washington until the Company purchased
the building in August 2018. Minimum rent payments under operating leases are recognized on a straight-line basis over the
term of the lease. Rental expense for operating leases was $1.4 million, $1.8 million and $1.2 million for the years ended
December 31, 2018, 2017 and 2016, respectively.
Legal Proceedings
Certain insurance regulators in the United States have contacted the Company regarding whether employees who had helped
prospective members enroll by telephone in prior years were required to have an insurance license to conduct such telephone
conversations. To date, the Company has resolved each of these matters in non-material amounts and believes it is compliant
with the applicable regulations. The Company is currently engaged with a limited number of state insurance regulators to
resolve this same legacy issue and believes it has adequately reserved for these matters.
In addition, from time to time the Company is or may become subject to various legal proceedings arising in the ordinary
course of business, including proceedings against members, other entities or regulatory bodies. Estimated liabilities are
recorded when it is both probable that a liability has been incurred and the amount of the loss can be reasonably estimated. In
many instances, the Company is unable to determine whether a loss is probable or to reasonably estimate the amount of such a
loss and, therefore, the potential future losses arising from a matter may exceed the amount of estimated liabilities the
Company has recorded in the financial statements covering these matters. The Company reviews its estimates at least quarterly
and makes adjustments to reflect negotiations, estimated settlements, rulings, advice of legal counsel, and other information
and events pertaining to a particular matter.
9. Reserve for Veterinary Invoices
The reserve for veterinary invoices is an estimate of the future amount the Company will pay for veterinary invoices that are
dated as of, or prior to, its balance sheet date. The reserve also includes the Company's estimate of related internal processing
costs. The reserve estimate involves actuarial projections, and is based on management's assessment of facts and circumstances
currently known, and assumptions about anticipated patterns. The reserve is made for each of the Company's segments,
subscription and other business, and are continually refined as the Company receives and pays veterinary invoices. Changes in
management's assumptions and estimates may have a relatively large impact to the reserve and associated expense.
76
Reserve for veterinary invoices
Summarized below are the changes in the total liability for the Company's subscription business segment (in thousands):
Subscription
Reserve at beginning of year
Veterinary invoice expense during the period related to:
Current year
Prior years
Total veterinary invoice expense
Amounts paid during the period related to:
Current year
Prior years
Total paid
Non-cash expenses
Reserve at end of period
Year Ended December 31,
2018
2017
2016
$
11,059
$
8,538
$
5,384
190,642
409
191,051
177,418
10,130
187,548
687
155,623
(69)
155,554
144,802
7,777
152,579
454
$
13,875
$
11,059
$
123,823
813
124,636
115,314
5,832
121,146
336
8,538
The Company's reserve for the subscription business segment increased $2.8 million from $11.1 million at December 31, 2017
to $13.9 million at December 31, 2018. This change was comprised of $191.1 million in expense recorded during the period
less $187.5 million in payments of veterinary invoices. This $191.1 million in veterinary invoice expense incurred included an
increase of $0.4 million to the reserves relating to prior years, which was the result of ongoing analysis of recent payment
trends. The Company's adjustments to prior year reserves were a reduction of $0.1 million and an increase of $0.8 million as a
result of analysis of payment trends in the years ended December 31, 2017 and 2016, respectively.
Summarized below are the changes in total liability for the Company's other business segment (in thousands):
Other Business
Reserve at beginning of year
Veterinary invoice expense during the period related to:
Current year
Prior years
Total veterinary invoice expense
Amounts paid during the period related to:
Current year
Prior years
Total paid
Non-cash expenses
Reserve at end of period
Year Ended December 31,
2018
2017
2016
$
1,697
$
983
$
890
23,784
(296)
23,488
21,615
1,383
22,998
—
14,739
(171)
14,568
13,053
801
13,854
—
$
2,187
$
1,697
$
9,027
(129)
8,898
8,048
757
8,805
—
983
The Company’s reserve for the other business segment increased $0.5 million from $1.7 million at December 31, 2017 to $2.2
million at December 31, 2018. This change was comprised of $23.5 million in expense recorded during the period less $23.0
million in payments of veterinary invoices. This $23.5 million in veterinary invoice expense incurred included a reduction of
$0.3 million to the reserves relating to prior years, which was the result of ongoing analysis of recent payment trends. The
Company's adjustments to decrease prior year reserves were $0.2 million and $0.1 million as a result of analysis of payment
trends in each of the years ended December 31, 2017 and 2016, respectively.
77
Veterinary invoice expenses
In the following tables, the cumulative number of veterinary invoices represents the total number received as of December 31,
2018, by year the veterinary invoice relates to, referred to as the year of occurrence. If a pet is injured or becomes ill, multiple
trips to the veterinarian may result in several invoices. Each of these veterinary invoices is included in the cumulative number,
regardless of whether the veterinary invoice was paid. Information for years 2015 through 2017 is provided as required
supplementary information. Amounts in these tables are presented on a constant currency basis to remove the impact of
changes in the foreign currency exchange rate on development. The cumulative expenses as of the end of each year are
revalued using the currency exchange rate as of December 31, 2018.
The following table summarizes the development of veterinary invoice expense, on a constant currency basis, for the
Company's subscription business segment by year of occurrence (in thousands, except for cumulative number of veterinary
invoices data):
Subscription
Year of Occurrence
2015
2016
2017
2018
Cumulative veterinary invoice expenses
Reserve
Cumulative
number of
veterinary
invoices
As of December 31,
As of December 31,
2015
2016
2017
2018
2018
2018
(unaudited)
(unaudited)
(unaudited)
$
94,138
$
94,691
$
94,749
$
94,797
$ 123,202
$ 122,990
$ 123,072
$ 154,209
$ 154,497
$ 188,825
$ 561,191
$
$
$
$
$
72
271
995
12,537
13,875
479,172
595,563
715,375
800,074
The following table summarizes the development of veterinary invoice expense, on a constant currency basis, for the
Company's other business segment by year of occurrence (in thousands, except for cumulative number of veterinary invoices
data):
Other Business
Year of Occurrence
2015
2016
2017
2018
Cumulative veterinary invoice expenses
Reserve
Cumulative
number of
veterinary
invoices
As of December 31,
As of December 31,
2015
2016
2017
2018
2018
2018
(unaudited)
(unaudited)
(unaudited)
$
7,973
$
$
7,845
9,027
$
$
$
7,849
8,842
14,735
$
$
$
$
$
7,857
8,855
14,417
23,775
54,904
$
$
$
$
$
2
4
12
2,169
2,187
46,950
59,493
105,171
160,393
Cumulative paid veterinary invoice expense
In the following tables, amounts are by year the veterinary invoice relates to, referred to as the year of occurrence. Amounts in
these tables are presented on a constant currency basis to remove the impact of changes in the foreign currency exchange rate.
The cumulative amounts paid as of the end of each year are revalued using the currency exchange rate as of December 31,
2018. Information for years 2015 through 2017 is provided as required supplementary information.
78
The following table summarizes the amounts paid for veterinary invoices, inclusive of related internal processing costs and
reported on a constant currency basis, for the subscription segment (in thousands):
Subscription
Year of Occurrence
2015
2016
2017
2018
Year Ended December 31,
2015
2016
2017
2018
(unaudited)
(unaudited)
(unaudited)
$
88,808
$
$
94,406
115,045
$
$
$
94,621
122,461
143,958
Total amounts unpaid and recorded as a liability
$
$
$
$
$
$
94,725
122,802
153,502
176,288
547,317
13,875
The following table summarizes the amounts paid for veterinary invoices, inclusive of related internal processing costs and
reported on a constant currency basis, for the other business segment (in thousands):
Other Business
Year of Occurrence
2015
2016
2017
2018
10. Debt
Year Ended December 31,
2015
2016
2017
2018
(unaudited)
(unaudited)
(unaudited)
$
7,085
$
$
7,841
8,048
$
$
$
7,849
8,831
13,050
Total amounts unpaid and recorded as a liability
$
$
$
$
$
$
7,855
8,851
14,405
21,606
52,717
2,187
In June 2018, the Company amended its credit agreement, increasing its borrowing capacity from $30.0 million to $50.0
million, extending the maturity date to June 2021, and increasing the required amount of restricted cash. The facility is secured
by any and all interests in the Company's assets that are not otherwise restricted. Interest on the revolving line of credit is
payable monthly at the greater of 4.5% or 1.25% plus the prime rate (6.75% at December 31, 2018). The credit agreement
includes other ancillary services and letters of credit of up to $4.5 million, and requires a deposit of restricted cash of $1.4
million. As of December 31, 2018, the Company was in compliance with all financial and non-financial covenants required by
the credit agreement.
Borrowings on the revolving line of credit were limited to the lesser of $50.0 million or the total amount of cash and securities
held by the Company's insurance subsidiaries (American Pet Insurance Company and Wyndham Insurance Company (SAC)
Limited Segregated Account AX) as of December 31, 2018 and 2017. As of December 31, 2018, available borrowing capacity
on the line of credit was $36.6 million, with an outstanding balance of $0.4 million for ancillary services and letters of credit,
and borrowings under the facility of $13.0 million, recorded net of financing fees of $0.1 million.
79
11. Stock-Based Compensation
Stock-based compensation expense includes stock options, restricted stock awards, and restricted stock units granted to
employees and non-employees and has been reported in the Company’s consolidated statements of operations depending on the
function performed by the employee or non-employee. Stock-based compensation expense recognized in each category of the
consolidated statement of operations for the years ended December 31, 2018, 2017 and 2016 was as follows (in thousands):
Veterinary invoice expense
Other cost of revenue
Technology and development
General and administrative
Sales and marketing
Total stock-based compensation
Year Ended December 31,
2018
2017
2016
$
$
571
356
209
2,304
1,335
$
355
239
216
1,887
722
$
4,775
$
3,419
$
234
41
246
1,893
532
2,946
As of December 31, 2018, the Company had 475,368 unvested stock options and 451,160 unvested restricted stock awards and
restricted stock units. Total stock-based compensation expense of $3.1 million related to unvested stock options and $7.8
million related to unvested restricted stock awards and restricted stock units is expected to be recognized over a weighted-
average period of approximately 1.9 years and 2.6 years, respectively.
Stock Options
The grant date fair value of stock option awards are estimated on the date of grant using the Black-Scholes option-pricing
model. The Company did not grant any stock options during the year ended December 31, 2018. For the years ended
December 31, 2017 and 2016, valuation assumptions are presented in the following table:
Valuation assumptions:
Expected term (in years)
Expected volatility
Risk-free interest rate
Expected dividend yield
Year Ended December 31,
2017
6.25
2016
5.04-6.25
37.1%-39.8% 37.6%-42.1%
1.8%-2.2%
1.1%-2.0%
—%
—%
80
The following table presents information regarding stock options granted, exercised and forfeited for the periods presented:
Outstanding as of January 1, 2016
Granted
Exercised
Forfeited
Outstanding as of December 31, 2016
Granted
Exercised
Forfeited
Outstanding as of December 31, 2017
Granted
Exercised
Forfeited
Outstanding as of December 31, 2018
Number
of
Options
Weighted Average
Exercise
Price per Share
Aggregate
Intrinsic
Value
(in thousands)
4,871,949
$
3.71
$
29,644
666,664
(1,119,367)
(296,223)
4,123,023
657,339
(670,823)
(103,140)
4,006,399
—
(1,292,037)
(92,859)
2,621,503
13.37
3.35
8.14
5.06
17.74
3.80
12.25
7.16
—
2.82
15.36
9.01
—
11,980
—
43,185
—
10,392
—
88,578
—
36,625
—
43,136
Exercisable at December 31, 2018
2,146,135
$
7.46
$
38,642
As of December 31, 2018, stock options outstanding and stock options exercisable had a weighted average remaining
contractual life of 5.6 years and 5.0 years, respectively.
The weighted-average grant date fair value per share and the fair value of options vested were as follows for the years ended
December 31, 2018, 2017, and 2016:
Year:
2016
2017
2018
Weighted Average
Grant Date Fair
Value per Share
Fair Value
of Options
Vested
(in thousands)
$
$
$
5.64
7.25
$
$
— $
4,645
6,313
2,665
81
Restricted Stock Awards and Restricted Stock Units
The below table summarizes the Company’s restricted stock award and restricted stock unit activity for the years ended
December 31, 2018, 2017 and 2016:
Unvested shares as of January 1, 2016
Granted
Vested
Forfeited
Unvested shares as of December 31, 2016
Granted
Vested
Forfeited
Unvested shares as of December 31, 2017
Granted
Vested
Forfeited
Unvested shares as of December 31, 2018
12. Real Estate
Number of
Shares
Weighted Average
Grant Date
Fair Value per
Share
467,508
$
—
(116,877)
—
350,631
23,659
(116,877)
(571)
256,842
375,313
(149,213)
(31,782)
451,160
$
4.77
—
4.77
—
4.77
30.19
4.77
30.19
4.77
28.10
9.74
28.57
22.16
In August 2018, the Company purchased real property that houses the company headquarters located at 6100 Fourth Avenue
South, Seattle, Washington. The purchase price was $65.2 million, consisting of $55.0 million in cash, 303,030 shares of
common stock with an estimated fair value of $9.6 million, and transaction costs totaling $0.6 million. The issued shares are
subject to a lock-up period that continues to and includes June 25, 2020. The fair value of the issued shares was estimated as of
the closing date for the real estate acquisition using the Black-Scholes option pricing model and the following assumptions:
August 9, 2018
Fair Value
2.5%
36.72%
1.88
—%
46,379
15,833
2,959
65,171
Assumptions
Risk free interest rate
Expected volatility
Expected life (years)
Expected dividend yield
The purchase price was allocated to the following assets based on estimates of their relative fair value (in thousands):
Building and improvements
Land and improvements
Lease-related intangible assets
Total purchase price
$
82
13. Stockholders’ Equity
As of December 31, 2018, the Company had 100,000,000 shares of common stock authorized and 34,025,136 shares of
common stock outstanding. Holders of common stock are entitled to one vote on each matter properly submitted to the
stockholders of the Company except those related to matters concerning possible outstanding preferred stock. At December 31,
2018, the Company had 10,000,000 shares of undesignated shares of preferred stock authorized for future issuance and did not
have any outstanding shares of preferred stock. The holders of common stock are also entitled to receive dividends as and when
declared by the board of directors of the Company, whenever funds are legally available. These rights are subordinate to the
dividend rights of holders of all classes of stock outstanding at the time. The Company is unable to pay dividends to
stockholders as of December 31, 2018 due to restrictions in its credit agreements.
Warrants
During the year ended December 31, 2018, 330,000 of the Company's outstanding warrants were exercised. Warrants to
purchase 480,000 shares of the Company's common stock at $10.00 per share remained outstanding at December 31, 2018,
which expire in 2019.
14. Segments
The Company has two segments: subscription business and other business. The subscription business segment includes
monthly subscription fees related to the Company’s medical insurance which is marketed directly to consumers, while the other
business segment includes all other business that is not directly marketed to consumers.
The chief operating decision maker uses two measures to evaluate segment performance: revenue and gross profit.
Additionally, other operating expenses, such as sales and marketing expenses, are allocated to each segment and evaluated
when material. Interest and other expenses and income taxes are not allocated to the segments, nor included in the measure of
segment profit or loss. The Company does not analyze discrete segment balance sheet information related to long-term assets.
Revenue and gross profit of the Company’s segments were as follows (in thousands):
Revenue:
Subscription business
Other business
Veterinary invoice expense:
Subscription business
Other business
Other cost of revenue:
Subscription business
Other business
Gross profit:
Subscription business
Other business
Technology and development
General and administrative
Sales and marketing:
Subscription business
Other business
Operating loss
Year Ended December 31,
2018
2017
2016
$
263,738
$
218,354
$
173,356
40,218
303,956
191,051
23,488
214,539
24,941
13,110
38,051
47,746
3,620
51,366
9,248
18,164
24,622
377
24,313
242,667
155,554
14,568
170,122
21,329
8,166
29,495
41,471
1,579
43,050
9,768
16,820
18,886
218
24,999
(1,045) $
19,104
(2,642) $
$
14,874
188,230
124,636
8,898
133,534
16,685
4,723
21,408
32,035
1,253
33,288
9,534
15,205
15,029
218
15,247
(6,698)
The following table presents the Company’s revenue by geographic region of the member (in thousands):
United States
Canada
Total revenue
Year Ended December 31,
2018
2017
2016
$
$
246,280
57,676
303,956
$
$
195,297
47,370
242,667
$
$
151,361
36,869
188,230
Substantially all of the Company’s long-lived assets were located in the United States as of December 31, 2018 and 2017.
84
15. Dividend Restrictions and Statutory Surplus
The Company’s business operations are conducted through subsidiaries, one of which is an insurance company domiciled in
New York, American Pet Insurance Company, and one of which is a segregated cell business, Wyndham Segregated Account
AX, located in Bermuda. In addition to general state law restrictions on payments of dividends and other distributions to
stockholders applicable to all corporations, insurance companies are subject to further regulations that, among other things,
may require such companies to maintain certain levels of equity and restrict the amount of dividends and other distributions
that may be paid to their parent corporations.
New York law restricts the ability of the Company's insurance subsidiary in New York to pay dividends to its holding company
parent. These restrictions are based in part on the prior year’s statutory income and surplus. In general, dividends up to
specified levels are considered ordinary and may be paid without prior approval, and dividends in larger amounts, or
extraordinary dividends, are subject to approval by the New York State Department of Financial Services, the subsidiary's
primary regulator. An extraordinary dividend or distribution is defined as a dividend or distribution that, in the aggregate in any
12-month period, exceeds the lesser of (i) 10% of surplus as of the preceding December 31 or (ii) the insurer’s adjusted net
investment income for such 12-month period, not including realized capital gains. Under regulatory requirements at
December 31, 2018, the amount of dividends that may be paid by the Company’s insurance subsidiary in New York to the
Company without prior approval by regulatory authorities was $0.7 million. This insurance subsidiary did not pay dividends to
the Company during the years ended December 31, 2018, 2017, and 2016.
The Company's insurance subsidiary in Bermuda is regulated by the Bermuda Monetary Authority. Under the Bermuda
Companies Act of 1981, as amended, a Bermuda company may not declare or pay a dividend or make a distribution out of
contributed surplus if there are reasonable grounds for believing that: (a) the company is, or would be after the payment, unable
to pay its liabilities as they become due; or (b) the realizable value of the company’s assets would thereby be less than its
liabilities. The Segregated Accounts Company Act of 2000 further requires that dividends out of a segregated account can only
be paid to the extent that the cell remains solvent. The value of its assets must remain greater than the aggregate of its
liabilities, issued share capital, and share premium accounts. Per our contractual agreements with Wyndham Insurance
Company (SAC) Limited, the allowable dividend is equivalent to the positive undistributed profit attributable to the shares.
This insurance subsidiary paid the Company a dividend of $2.2 million and $2.7 million during the years ended December 31,
2018 and 2017, respectfully. No dividends were paid during the year ended December 31, 2016.
The statutory net income for 2018, 2017 and 2016 and statutory capital and surplus at December 31, 2018, 2017 and 2016, for
the Company’s insurance subsidiary in New York were as follows (in thousands):
Statutory net income
Statutory capital and surplus
As of December 31,
2018
2017
2016
$
11,021
$
7,507
$
56,244
37,190
4,081
30,451
As of December 31, 2018, the Company’s insurance subsidiary in New York maintained $56.2 million of statutory capital and
surplus which was above the required amount of $53.4 million of statutory capital and surplus to avoid additional regulatory
oversight. The increase in statutory capital and surplus as of December 31, 2018 was due to the Company having sufficient
history for its average historical loss and loss adjustment expense ratio to be used in the risk-based capital calculation. In prior
periods, this calculation used industry average ratios due to having less than ten years of historical data.
As of December 31, 2018, the Company had $6.7 million on deposit with various states in which it writes policies.
16. Income Taxes
Loss before income taxes was as follows for the years ended December 31, 2018, 2017 and 2016 (in thousands):
United States
Foreign
Year Ended December 31,
2018
2017
2016
$
$
(1,054) $
120
(934) $
(1,965) $
34
(1,931) $
(6,906)
48
(6,858)
85
The components of income tax (benefit) expense were as follows (in thousands):
Current:
U.S. federal & state
Foreign
Deferred:
U.S. federal & state
Foreign
Income tax (benefit) expense
Year Ended December 31,
2018
2017
2016
$
$
(10) $
37
27
(32)
(2)
(34)
(7) $
183
$
15
198
(620)
(6)
(626)
(428) $
25
13
38
—
—
—
38
On December 22, 2017, the Tax Cuts and Jobs Act of 2017 (the “Tax Act”) was signed into law making significant changes to
the Internal Revenue Code, including, but not limited to, a corporate tax rate decrease to 21% effective January 1, 2018. In
accordance with Staff Accounting Bulletin No. 118 ("SAB 118"), the Company recorded a $0.6 million income tax benefit in
the prior year as an estimate in relation to remeasurement of its deferred tax liabilities. The Company has now finalized its
analysis of the Tax Act's impact and no change to the estimated income tax benefit recorded at December 31, 2017 is required.
A reconciliation of income tax expense at the statutory federal income tax rate and income taxes as reflected in the financial
statements is presented below:
Federal income taxes at statutory rate
U.S. state income taxes
Equity compensation
Change in valuation allowance
Meals and entertainment
Other, net
Change in federal tax rate
Credits
Effective income tax rate
Year Ended December 31,
2018
2017
2016
21.0%
4.6
828.5
(857.4)
(5.4)
(10.7)
—
20.2
0.8%
34.0%
(9.5)
189.1
(229.6)
(3.0)
2.0
32.1
7.1
22.2%
34.0 %
(0.6)
7.7
(40.5)
(0.9)
(0.3)
—
—
(0.6)%
86
The principal components of the Company’s deferred tax assets and liabilities were as follows (in thousands):
Deferred tax assets:
Deferred revenue
Accruals and reserves
Net operating loss carryforwards
Depreciation and amortization
Equity compensation
Credits
Other
Total deferred tax assets
Deferred tax liabilities:
Deferred costs
Intangible assets
Total deferred tax liabilities
Total deferred taxes
Less deferred tax asset valuation allowance
Net deferred tax liability
Year Ended December 31,
2018
2017
$
1,371
$
475
26,566
346
1,690
397
180
31,025
(279)
(1,002)
(1,281)
29,744
(30,701)
$
(957) $
966
606
18,211
317
1,024
208
270
21,602
(183)
(1,002)
(1,185)
20,417
(21,419)
(1,002)
At December 31, 2018, the Company had federal net operating loss carryforwards of $121.1 million and federal credits of $0.4
million. Use of the carryforwards is limited based on the future income of the Company. The federal net operating loss
carryforwards currently would begin to expire in 2027. Pursuant to Sections 382 and 383 of the Internal Revenue Code, annual
use of the Company’s net operating loss carryforwards and credit carryforwards may be limited if the Company experiences an
ownership change. As of December 31, 2018, the utilization of approximately $0.5 million of net operating losses are subject to
limitation as a result of prior ownership changes; however, subsequent ownership changes may further affect the limitation in
future years.
A valuation allowance is required to reduce the deferred tax assets reported if, based on the weight of available evidence, it is
more likely than not that some portion or all of the deferred tax assets will not be realized. After consideration of all the
evidence, both positive and negative, the Company has recorded a full valuation allowance against its U.S. Federal deferred tax
assets as of December 31, 2018 and 2017 because the Company’s management has determined that it is more likely than not
that these assets will not be fully realized.
The Company intends to reinvest all foreign earnings indefinitely outside of the U.S.
The Tax Act implemented a new tax on foreign subsidiary income referred to as the Global Intangible Low-Taxed Income
(“GILTI”). The Company is recording GILTI on a current basis and not booking deferred taxes related to GILTI.
The Company is open to examination by the U.S. federal tax jurisdiction for the years ended December 31, 2015 through 2018.
The Company is also open to examination for 2007 and forward with respect to net operating loss carryforwards generated and
carried forward from those years in the United States. The Company is open to examination by the Canada Revenue Agency for
the years ended December 31, 2014 through 2018 for all corporate tax matters, and open for the years ended December 31,
2011 through 2018 for transactions with non-arm’s length non-Canadian residents.
The Company accounts for uncertain tax positions based on a two-step process of evaluating recognition and measurement
criteria. The first step assesses whether the tax position is more likely than not to be sustained upon examination by the taxing
authority, including resolution of any appeals or litigation, on the basis of the technical merits of the position. If the tax position
meets the more-likely-than-not criteria, the portion of the tax benefit greater than 50% likely to be realized upon settlement
with the relevant tax authority is recognized in the financial statements. No significant changes in uncertain tax positions are
expected in the next twelve months.
87
A reconciliation of the beginning and ending amount of gross unrecognized tax benefits is as follows (in thousands):
Balance, beginning of year
Increases (decreases) to tax positions related to prior periods
Increases to tax positions related to the current year
Balance, end of year
17. Employee Benefits
Year Ended December 31,
2018
2017
2016
$
$
$
327
(243)
5
89
$
120
$
91
116
327
$
80
—
40
120
The Company has a 401(k) plan for its U.S. employees. The plan allows employees to contribute a percentage of their pretax
earnings annually, subject to limitations imposed by the Internal Revenue Service. The plan also allows the Company to make a
matching contribution, subject to certain limitations. To date, the Company has made no contributions to the 401(k) plan.
18. Quarterly Financial Information (Unaudited)
The following table contains quarterly financial data for the years ended December 31, 2018 and 2017 (in thousands, except per
share data). The unaudited quarterly information has been prepared on a basis consistent with the audited consolidated financial
statements and includes all adjustments that the Company considers necessary for a fair presentation of the information shown.
The operating results for any fiscal quarter are not necessarily indicative of the operating results for a full fiscal year or any
future period and there can be no assurances that any trend reflected in such results will continue in the future.
Dec. 31,
2018
Sept. 30,
2018
Jun. 30,
2018
Mar. 31,
2018
Dec. 31,
2017
Sept. 30,
2017
Jun. 30,
2017
Mar. 31,
2017
Three Months Ended
Total revenues
$
82,640
$
78,164
$
73,392
$
69,760
$
66,545
$
63,118
$
58,275
$
54,729
Gross profit
Net (loss) income
Net (loss) income per share:
Basic
Diluted
14,205
(275)
13,744
1,205
12,353
(377)
11,064
(1,480)
11,737
(838)
11,807
406
10,351
411
(0.01)
(0.01)
0.04
0.03
(0.01)
(0.01)
(0.05)
(0.05)
(0.03)
(0.03)
0.01
0.01
0.01
0.01
9,155
(1,482)
(0.05)
(0.05)
Weighted-average common shares outstanding:
Basic
Diluted
33,716,975
33,129,416
30,721,037
30,246,585
29,847,574
30,037,282
29,510,907
29,254,681
33,716,975
36,385,360
30,721,037
30,246,585
29,847,574
33,113,981
32,734,624
29,254,681
88
Item 9. Changes in and Disagreements with Accountants on Accounting and Financial Disclosure
None.
Item 9A. Controls and Procedures
Evaluation of Disclosure Controls and Procedures
Our management, with the participation of our Chief Executive Officer and Chief Financial Officer, has evaluated the
effectiveness of our disclosure controls and procedures (as defined in Rules 13a- 15(e) and 15d- 15(e) under the Exchange Act),
as of the end of the period covered by this Annual Report on Form 10-K. Based on such evaluation, our Chief Executive
Officer and Chief Financial Officer have concluded that as of such date, our disclosure controls and procedures were effective.
Management’s Report on Internal Control over Financial Reporting
Our management is responsible for establishing and maintaining adequate internal control over financial reporting, as such term
is defined under Rule 13a-15(f) and 15d-15(f) under the Exchange Act. Management has assessed the effectiveness of its
internal control over financial reporting as of December 31, 2018 based on the criteria established in Internal Control -
Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission (2013 framework).
As a result of this assessment, management concluded that, as of December 31, 2018, its internal control over financial
reporting was effective in providing reasonable assurance regarding the reliability of financial reporting and the preparation of
financial statements for external purposes in accordance with U.S. generally accepted accounting principles. Ernst & Young has
independently assessed the effectiveness of the Company's internal control over financial reporting and its report is included
below.
Changes in Internal Control
There were no changes in our internal control over financial reporting identified in management’s evaluation pursuant to Rules
13a-15(d) or 15d-15(d) of the Exchange Act during the quarter ended December 31, 2018 that materially affected, or are
reasonably likely to materially affect, our internal control over financial reporting.
Limitations on Effectiveness of Controls and Procedures
In designing and evaluating the disclosure controls and procedures, management recognizes that any controls and procedures,
no matter how well designed and operated, can provide only reasonable assurance of achieving the desired control objectives.
In addition, the design of disclosure controls and procedures must reflect the fact that there are resource constraints and that
management is required to apply judgment in evaluating the benefits of possible controls and procedures relative to their costs.
89
Report of Independent Registered Public Accounting Firm
To the Stockholders and the Board of Directors of Trupanion, Inc.
Opinion on Internal Control over Financial Reporting
We have audited Trupanion, Inc.’s internal control over financial reporting as of December 31, 2018, based on criteria
established in Internal Control-Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway
Commission (2013 framework) (the COSO criteria). In our opinion, Trupanion, Inc. (the Company) maintained, in all material
respects, effective internal control over financial reporting as of December 31, 2018, based on the COSO criteria.
We also have audited, in accordance with the standards of the Public Company Accounting Oversight Board (United States)
(PCAOB), the consolidated balance sheets of the Company as of December 31, 2018 and 2017, the related consolidated
statements of operations, comprehensive loss, changes in stockholders’ equity and cash flows for each of the three years in the
period ended December 31, 2018, and the related notes and the financial statement schedule listed in the Index at Item 15(a)
and our report dated February 14, 2019 expressed an unqualified opinion thereon.
Basis for Opinion
The Company’s management is responsible for maintaining effective internal control over financial reporting and for its
assessment of the effectiveness of internal control over financial reporting included in the accompanying Management’s Report
on Internal Control over Financial Reporting. Our responsibility is to express an opinion on the Company’s internal control
over financial reporting based on our audit. We are a public accounting firm registered with the PCAOB and are required to be
independent with respect to the Company in accordance with the U.S. federal securities laws and the applicable rules and
regulations of the Securities and Exchange Commission and the PCAOB.
We conducted our audit in accordance with the standards of the PCAOB. Those standards require that we plan and perform the
audit to obtain reasonable assurance about whether effective internal control over financial reporting was maintained in all
material respects.
Our audit included obtaining an understanding of internal control over financial reporting, assessing the risk that a material
weakness exists, testing and evaluating the design and operating effectiveness of internal control based on the assessed risk, and
performing such other procedures as we considered necessary in the circumstances. We believe that our audit provides a
reasonable basis for our opinion.
Definition and Limitations of Internal Control Over Financial Reporting
A company’s internal control over financial reporting is a process designed to provide reasonable assurance regarding the
reliability of financial reporting and the preparation of financial statements for external purposes in accordance with generally
accepted accounting principles. A company’s internal control over financial reporting includes those policies and procedures
that (1) pertain to the maintenance of records that, in reasonable detail, accurately and fairly reflect the transactions and
dispositions of the assets of the company; (2) provide reasonable assurance that transactions are recorded as necessary to permit
preparation of financial statements in accordance with generally accepted accounting principles, and that receipts and
expenditures of the company are being made only in accordance with authorizations of management and directors of the
company; and (3) provide reasonable assurance regarding prevention or timely detection of unauthorized acquisition, use, or
disposition of the company’s assets that could have a material effect on the financial statements.
Because of its inherent limitations, internal control over financial reporting may not prevent or detect misstatements. Also,
projections of any evaluation of effectiveness to future periods are subject to the risk that controls may become inadequate
because of changes in conditions, or that the degree of compliance with the policies or procedures may deteriorate.
/s/ Ernst & Young LLP
Seattle, Washington
February 14, 2019
90
Item 9B. Other Information
On February 11, 2019, the Leadership Development and Compensation Committee of the Board of Directors of Trupanion
(Committee), adopted the Compensation Clawback Policy, the On-Going Severance Policy for CEO and Key Senior Leaders
(Ongoing Severance Policy) and the Change of Control Policy for Select Officers and Key Leaders (Change of Control Policy).
The Compensation Clawback Policy covers all employees as determined by the Committee. If such employees receive any
bonus, equity-based awards or other incentive compensation, and the Committee determines that a triggering event has
occurred, the Committee may require the employee to forfeit, return or adjust incentive compensation. Triggering events
generally include an accounting restatement due to material noncompliance with financial reporting requirements; an
extraordinary financial loss, reputational damage or other adverse impact as a result of actions made by the employee; and the
award or receipt of covered compensation based on significantly incorrect financial calculations.
The Ongoing Severance Policy and the Change of Control Policy both provide certain economic benefits to specified members
of management (Key Senior Leaders) in the event their employment is terminated by the Company without cause (Qualifying
Termination). Under the On-Going Severance Policy, in the event of a Qualifying Termination and subject to the Key Senior
Leader’s execution of a valid separation agreement, including a full and unconditional release of claims, a Key Senior Leader
would receive six months of salary continuation and earned bonuses, and six months of welfare benefits.
Under the Change of Control Policy, in the event of a Qualifying Termination six (6) months prior to or twenty-four (24)
months following a Change of Control and subject to the applicable Key Senior Leader’s execution of a valid separation
agreement, including a full and unconditional release of claims, a Key Senior Leader would receive a lump sum payment equal
to the Key Senior Leader’s base salary for 12 months; a lump sum payment equal to the Key Senior Leader’s bonus; the cash
value of an equity earned but not yet issued; acceleration of all unvested time based equity awards; and welfare benefits for 12
months.
In addition, under the Change of Control Policy, a Key Senior Leader who is not subject to a covered termination will either
have their equity awards earned but not yet issued replaced by substantially similar awards issued by the acquirer or receive the
cash value of such awards.
The foregoing description is a summary of the material terms of the Compensation Clawback Policy, the On-Going Severance
Policy and the Change of Control Policy, does not purport to be complete, and is qualified in its entirety by reference to the
policies, which are filed as Exhibit 10.22, 10.23, and 10.24 to this Form 10-K and are incorporated by reference herein.
91
Item 10. Directors, Executive Officers and Corporate Governance
PART III
Information required by this item is incorporated herein by reference to our Proxy Statement with respect to our 2019 Annual
Meeting of Stockholders to be filed with the SEC within 120 days of the end of the fiscal year covered by this Annual Report.
Item 11. Executive Compensation
Information required by this item is incorporated herein by reference to our Proxy Statement with respect to our 2019 Annual
Meeting of Stockholders to be filed with the SEC within 120 days of the end of the fiscal year covered by this Annual Report.
Item 12. Security Ownership of Certain Beneficial Owners and Management and Related Stockholder Matters
Information required by this item is incorporated herein by reference to our Proxy Statement with respect to our 2019 Annual
Meeting of Stockholders to be filed with the SEC within 120 days of the end of the fiscal year covered by this Annual Report.
Item 13. Certain Relationships and Related Transactions and Director Independence
Information required by this item is incorporated herein by reference to our Proxy Statement with respect to our 2019 Annual
Meeting of Stockholders to be filed with the SEC within 120 days of the end of the fiscal year covered by this Annual Report.
Item 14. Principal Accountant Fees and Services
Information required by this item is incorporated herein by reference to our Proxy Statement with respect to our 2019 Annual
Meeting of Stockholders to be filed with the SEC within 120 days after the end of the fiscal year covered by this Annual
Report.
92
Item 15. Exhibits, Financial Statement Schedules
(a)(1) Financial Statements
PART IV
We have filed the financial statements listed in the Index to Financial Statements as a part of this Annual Report on Form 10-K.
(a)(2) Financial Statement Schedules
Schedule I Condensed Financial Information of Registrant
No other financial statement schedules have been provided because the information called for is not required or is shown either
in the financial statements or notes thereto.
(a)(3) Exhibits
The list of exhibits included in the Exhibit Index to this Annual Report on Form 10-K is incorporated herein by reference.
Item 16. Form 10-K Summary
None.
93
Pursuant to the requirements of Section 13 or 15(d) of the Securities Exchange Act of 1934, the registrant has duly caused this
report to be signed on its behalf by the undersigned, thereunto duly authorized, in the city of Seattle, state of Washington, on
this 14th day of February, 2019.
SIGNATURES
TRUPANION, INC.
By:
/s/ Darryl Rawlings
Darryl Rawlings
Chief Executive Officer and President
POWER OF ATTORNEY
KNOW ALL PERSONS BY THESE PRESENTS, that each person whose signature appears below hereby constitutes and
appoints Darryl Rawlings, Tricia Plouf and Asher Bearman, and each of them, as his or her true and lawful attorneys-in-fact,
proxies and agents, each with full power of substitution, for him or her in any and all capacities, to sign any and all
amendments to this Annual Report on Form 10-K, and to file the same, with all exhibits thereto and other documents in
connection therewith, with the Securities and Exchange Commission, granting unto said attorneys-in-fact, proxies and agents
full power and authority to do and perform each and every act and thing requisite and necessary to be done in connection
therewith, as fully for all intents and purposes as he or she might or could do in person, hereby ratifying and confirming all that
said attorneys-in-fact, proxies and agents, or their or his or her substitute or substitutes, may lawfully do or cause to be done by
virtue hereof.
Pursuant to the requirements of the Securities Exchange Act of 1934, this report has been signed below by the following
persons on behalf of the registrant and in the capacities and on the dates indicated.
94
Date: February 14, 2019
Date: February 14, 2019
Date: February 14, 2019
Date: February 14, 2019
Date: February 14, 2019
Date: February 14, 2019
Date: February 14, 2019
Date: February 14, 2019
Date: February 14, 2019
Date: February 14, 2019
/s/ Darryl Rawlings
Darryl Rawlings
Chief Executive Officer and President
(Principal Executive Officer)
/s/ Tricia Plouf
Tricia Plouf
Chief Financial Officer
(Principal Financial and Accounting Officer)
/s/ Murray Low
Murray Low
Chairman of the Board of Directors
/s/ Chad Cohen
Chad Cohen
Director
/s/ Jacqueline Davidson
Jacqueline Davidson
Director
/s/ Michael Doak
Michael Doak
Director
/s/ Robin Ferracone
Robin Ferracone
Director
/s/ Dan Levitan
Dan Levitan
Director
/s/ H. Hays Lindsley
H. Hays Lindsley
Director
/s/ Howard Rubin
Howard Rubin
Director
95
The following exhibits are filed as part of this Annual Report on Form 10-K or are incorporated herein by reference.
EXHIBIT INDEX
Exhibit Description
Form
File No.
Exhibit
Incorporated by Reference
Filed/
Furnished
Exhibit Filing Date Herewith
Exhibit
Number
3.1
3.2
3.3
4.1
4.2
Restated Certificate of Incorporation of the
Registrant.
10-Q
001-36537
Certificate of Amendment to the Restated
Certificate of Incorporation of the Registrant.
8-K
001-36537
Restated Bylaws of the Registrant.
10-Q
001-36537
Form of Common Stock Certificate.
Third Amended and Restated Registration
Rights Agreement, dated October 25, 2011, by
and among the Registrant and certain of its
stockholders, as amended.
333-196814
333-196814
3.1
3.1
3.2
4.1
4.4
8/28/2014
6/3/2016
8/28/2014
6/16/2014
6/16/2014
10.1+
Form of Indemnity Agreement.
10.2+
10.3+
2007 Equity Compensation Plan and forms of
stock option agreements and exercise notices,
restricted stock notice agreement and restricted
stock agreement thereunder.
2014 Equity Incentive Plan and forms of stock
option award agreement, restricted stock
agreement and restricted stock unit award
agreement thereunder.
10.4+
2014 Employee Stock Purchase Plan.
10.5+
10.6+
10.7+
10.8+
10.9
10.10
10.11
10.12
10.13
Amended and Restated Employment
Agreement, dated April 20, 2007, by and
between the Registrant and Darryl Rawlings.
Consulting Agreement, dated May 5, 2014, by
and between the Registrant and Howard Rubin.
First Amendment to Consulting Agreement,
dated January 1, 2016, by and between the
Registrant and Howard Rubin.
Second Amendment to Consulting Agreement,
dated January 1, 2017 by and between the
Registrant and Howard Rubin.
Senior Credit Facility Loan and Security
Agreement, entered into as of December 16,
2016 between Pacific Western Bank, Western
Alliance Bank and the Registrant.
First Amendment to Senior Credit Facility
Loan and Security Agreement, dated March 31,
2017 between Pacific Western Bank, Western
Alliance Bank and the Registrant.
Second Amendment to Senior Credit Facility
Loan and Security Agreement, dated
September 28, 2017 between Pacific Western
Bank, Western Alliance Bank and the
Registrant.
Real Estate Purchase and Sale Agreement,
dated June 19, 2018, between the Registrant
and Benaroya Capital Company, L.L.C.
Third Amendment to Senior Credit Facility
Loan and Security Agreement, dated June 28,
2018, between Pacific Western Bank, Western
Alliance Bank and the Registrant.
S-1
S-1
S-1
S-1
333-196814
333-196814
10.1
10.2
6/16/2014
6/16/2014
S-1
333-196814
10.3
6/16/2014
S-1
S-1
333-196814
333-196814
10.4
10.6
6/16/2014
6/16/2014
S-1
333-196814
10.8
6/16/2014
10-Q
001-36537
10.2
5/5/2016
10-K
001-36537
10.13
2/15/2017
10-K
001-36537
10.15
2/15/2017
10-Q
001-36537
10.1
5/2/2017
10-Q
001-36537
10.1
11/2/2017
8-K
001-36537
10.1
6/20/2018
10-Q
001-36537
10.1
8/3/2018
96
10.14
10.15
10.16
10.17
10.18
10.19
Joinder to Loan and Security Agreement and
Amendment and Restated Revolving Note,
dated August 6, 2018, between Pacific Western
Bank, Western Alliance Bank, Trupanion
Managers USA, Inc. and Trupanion-APIC,
LLC.
Agency Agreement between Omega General
Insurance Company and Trupanion Brokers
Ontario, Inc., effective January 1, 2015.
Fronting and Administration Agreement
between Wyndham Insurance Company (SAC)
Limited and Omega General Insurance
Company, effective January 1, 2015.
Quota Share Reinsurance Agreement between
Wyndham Insurance Company (SAC) Limited
and Omega General Insurance Company,
effective January 1, 2015.
Quota Share Reinsurance Agreement between
Wyndham Insurance Company (SAC) Limited
and Omega General Insurance Company,
effective January 1, 2018.
Quota Share Reinsurance Agreement between
Wyndham Insurance Company (SAC) Limited
and Omega General Insurance Company,
effective January 1, 2019.
10.20+
Compensation Program for Non-Employee
Directors of Trupanion, Inc, as amended on
December 27, 2018.
10.21+
Compensation Clawback Policy, effective
February 11, 2019.
10.22+
On-Going Severance Policy for CEO and Key
Senior Leaders, effective February 11, 2019.
10.23+
Change of Control Policy for Select Officers
and Key Leaders effective February 11, 2019.
21.1
23.1
24.1
31.1
31.2
32.1*
32.2*
Subsidiaries of the Registrant.
Consent of independent registered public
accounting firm.
Power of Attorney (reference is made to the
signature page hereto).
Certification of Principal Executive Officer,
pursuant to Rule 13a-14(a)/15d-14(a), as
adopted pursuant to Section 302 of the
Sarbanes-Oxley Act of 2002.
Certification of Principal Financial Officer,
pursuant to Rule 13a-14(a)/15d-14(a), as
adopted pursuant to Section 302 of the
Sarbanes-Oxley Act of 2002.
Certification of Chief Executive Officer,
pursuant to 18 U.S.C. Section 1350, as adopted
pursuant to Section 906 of the Sarbanes-Oxley
Act of 2002.
Certification of Chief Financial Officer,
pursuant to 18 U.S.C. Section 1350, as adopted
pursuant to Section 906 of the Sarbanes-Oxley
Act of 2002.
101.INS XBRL Instance Document - the instance does
not appear in the Interactive Data File because
its XBRL tags are embedded within the Inline
XBRL document.
10-Q
001-36537
10.2
11/9/2018
10-K
001-36537
10.13
2/24/2015
10-K
001-36537
10.14
2/24/2015
10-K
001-36537
10.15
2/24/2015
10-K
001-36537
10.20
2/14/2018
97
X
X
X
X
X
X
X
X
X
X
X
X
X
101.SCH XBRL Taxonomy Extension Schema
Document.
101.CAL XBRL Taxonomy Extension Calculation
Linkbase Document.
101.DEF XBRL Taxonomy Extension Definition
Linkbase Document.
101.LAB XBRL Taxonomy Extension Label Linkbase
Document.
101.PRE XBRL Taxonomy Extension Presentation
Linkbase Document.
X
X
X
X
X
+ Indicates a management contract or compensatory plan or arrangement.
† Registrant has omitted portions of the referenced exhibit pursuant to a request for confidential treatment under Rule 24b-2
promulgated under the Exchange Act. The omitted portions of this exhibit have been filed separately with the SEC.
* This certification is deemed not filed for purpose of section 18 of the Exchange Act or otherwise subject to the liability of
that section, nor shall it be deemed incorporated by reference into any filing under the Securities Act or the Exchange Act.
98
Schedule I - Condensed Financial Information of Registrant
Trupanion, Inc.
Condensed Statements of Comprehensive Loss
(Parent Company Only, in thousands)
Expenses:
Veterinary invoice expense
Other cost of revenue
Technology and development
General and administrative
Sales and marketing
Total expenses
Operating loss
Interest expense
Other (income) expense, net
Loss before equity in undistributed earnings of subsidiaries
Income tax benefit
Equity (loss) in undistributed earnings of subsidiaries
Net loss
Other comprehensive income (loss), net of taxes:
Other comprehensive income (loss) of subsidiaries
Other comprehensive income (loss)
Comprehensive loss
Year Ended December 31,
2018
2017
2016
$
$
$
$
571
357
512
4,879
1,355
7,674
(7,674)
1,184
(2,557)
(6,301)
4,042
1,332
(927) $
(661)
(661)
(1,588) $
$
354
239
528
4,204
889
6,214
(6,214)
529
(4,101)
(2,642)
5,302
(4,163)
(1,503) $
285
285
(1,218) $
269
41
531
3,627
871
5,339
(5,339)
218
23
(5,580)
—
(1,316)
(6,896)
125
125
(6,771)
99
Trupanion, Inc.
Condensed Balance Sheets
(Parent Company Only)
(In thousands, except share data)
Assets
Current assets:
Cash and cash equivalents
Accounts and other receivables
Prepaid expenses and other assets
Total current assets
Restricted cash
Property and equipment, net
Intangible assets, net
Other long-term assets
Advances to and investments in subsidiaries
Total assets
Liabilities and stockholders’ equity
Current liabilities:
Accounts payable, accrued liabilities, and other current liabilities
Total current liabilities
Long-term debt
Deferred tax liabilities
Other liabilities
Total liabilities
Stockholders’ equity:
Common stock: $0.00001 par value per share, 100,000,000 shares authorized at December 31,
2018 and December 31, 2017, 34,781,121 and 34,025,136 shares issued and outstanding at
December 31, 2018; 30,778,796 and 30,121,496 shares issued and outstanding at December 31,
2017
Preferred stock: $0.00001 par value per share, 10,000,000 shares authorized at December 31,
2018 and December 31, 2017, and 0 shares issued and outstanding at December 31, 2018 and
December 31, 2017
Additional paid-in capital
Accumulated other comprehensive loss
Accumulated deficit
Treasury stock, at cost: 755,985 shares at December 31, 2018 and 657,300 shares at December
31, 2017
Total stockholders’ equity
Total liabilities and stockholders’ equity
December 31,
2018
2017
$
2,133
$
$
$
2,094
661
4,888
1,400
568
5,076
6,515
125,475
143,922
$
$
885
885
12,862
1,002
—
14,749
—
—
219,838
(753)
(83,711)
(6,201)
129,173
$
143,922
$
1,105
2,261
295
3,661
600
661
4,795
2,488
47,209
59,414
654
654
9,324
1,002
—
10,980
—
—
134,511
(92)
(82,784)
(3,201)
48,434
59,414
100
Trupanion, Inc.
Condensed Statements of Cash Flows
(Parent Company Only, in thousands)
Operating activities
Net loss
Adjustments to reconcile net loss to cash provided by (used in) operating
activities:
(Income) loss attributable to investments in subsidiaries
Depreciation and amortization
Stock-based compensation expense
Gain on sale of equity method investment
Other, net
Changes in operating assets and liabilities
Net cash provided by (used in) operating activities
Investing activities
Proceeds from sale of equity method investment
Purchases of property and equipment
Advances to and investments in subsidiaries
Other investments
Net cash used in investing activities
Financing activities
Proceeds from public offering of common stock, net of offering costs
Proceeds from exercise of stock options
Taxes paid related to net share settlement of equity awards
Proceeds from debt financing, net of financing fees
Repayments of debt financing
Other financing
Net cash provided by financing activities
Effect of foreign exchange rate changes on cash, cash equivalents, and
restricted cash, net
Net change in cash, cash equivalents, and restricted cash
Cash, cash equivalents, and restricted cash at beginning of period
Cash, cash equivalents, and restricted cash at end of period
Supplemental disclosures
Interest paid
Noncash investing and financing activities:
Property and equipment acquired under capital lease
Cashless exercise of common stock warrants
Issuance of common stock for acquisition of corporate real estate
Year Ended December 31,
2018
2017
2016
$
(927) $
(1,503) $
(6,896)
(1,332)
436
4,775
—
108
(97)
2,963
—
(164)
(67,884)
(4,237)
(72,285)
65,671
3,601
(1,839)
13,430
(10,000)
287
71,150
—
1,828
1,705
4,163
697
3,419
(1,036)
(380)
743
6,103
1,402
(135)
(12,168)
(2,668)
(13,570)
—
2,545
(1,170)
4,400
—
(604)
5,170
—
(2,297)
4,001
$
3,533
$
1,705
$
1,007
—
3,000
9,640
333
471
—
—
1,316
251
2,946
—
58
1,742
(583)
—
1
(9,333)
—
(9,332)
—
3,745
(662)
4,988
—
(195)
7,876
—
(2,039)
6,040
4,001
153
—
600
—
101
1. Organization and Presentation
The accompanying condensed financial statements present the financial position, results of operations and cash flows for
Trupanion, Inc. These condensed unconsolidated financial statements should be read in conjunction with the consolidated
financial statements of Trupanion, Inc. and its subsidiaries and the notes thereto (the Consolidated Financial Statements).
Investments in subsidiaries are accounted for using the equity method of accounting. Trupanion, Inc. received cash dividends
from a subsidiary of $2.2 million and $2.7 million for the years ended December 31, 2018 and 2017, respectively. These cash
dividends were recorded within Trupanion, Inc.'s other income and were eliminated within the consolidated financial
statements of Trupanion, Inc.
Additional information about Trupanion, Inc.’s accounting policies pertaining to intangible assets, commitments and
contingencies, debt financing, stock-based compensation, stockholders’ equity, and income taxes are set forth in Notes 4, 8, 10,
11, 13, and 16, respectively, to the Consolidated Financial Statements.
102
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