value and opportunity

The (short) history of Insurtech so far:

Just a few years ago, “Insuretech” was one of the hottest sectors within Fintech and VC. As in other sectors like retailing or travel, “Digital Insurance” companies were supposed to disrupt this old and slow industry. Listening to VCs and founders was mostly about how easy it would be to take market shares and profits from the old Dinosaurs.

Lemonade was the first Insurtech that went public in July 2020 and its 139% increase on the first day clearly set the scene. The share price went up further and peaked in February at around 170 USD.

Of course this triggered a certain feeding frenzy and a couple of other Insurtechs went public either via IPO or SPAC in the following months, like Root, Oscar, Metromile etc.

However, now, roughly 18 months after Lemonades IPO, things look a lot different. Here is an overview of the “Chainsaw massacre” that happened (in the order off going public):

Name	Type of going Public	Date	IPO Price	ATH	Current price	Market cap	vs. IPO	vs. high
Lemonade	IPO	01.07.2020	29	171,56	29,94	1854	3,24%	-82,55%
Root	IPO	28.10.2020	27	23,8	1,73	436	-93,59%	-92,73%
Clover Health	SPAC	08.01.2021	15,3	28,85	2,63	1271	-82,81%	-90,88%
Metromile	SPAC	10.02.2021	17,2	22,69	1,54	197	-91,05%	-93,21%
Oscar Health	IPO	04.03.2021	39	37	6,84	1440	-82,46%	-81,51%
Bright Health	IPO	23.06.2021	18	17,93	3,1	1950	-82,78%	-82,71%
Hippo	SPAC	02.08.2021	10	15,05	1,93	1083	-80,70%	-87,18%

Only Lemonade, the “Ur-Insuretch” ist trading above its IPO price, but down -83% from its peak. All other Insurtechs are at least down -80% from their IPO price or more than -90% from their peaks.

In Metromile’s case this is especially interesting as they have received a takeover offer from Lemonade in November.

The big question of course now is of course: Is there any value in these stocks right now or is it all utter crap ?

General comments

Net cash in an Insurance context

A lot of the companies above have raised a lot of cash and still have cash on their balance sheets.

Most investors now have understood, that cash on a balance sheet that is not required to run a business, can be deducted from Enterprise value. However what few investors understand (among them many Berkshire investors) that cash on an insurance balance sheet has to be treated differently.

Insurance is a regulated business and the regulators prescribe what amount of “net equity” is required to get or keep the insurance license. In practise, this means one has to to the follow calculations for a typical Property & Casualty company:

1. Add all “hard financial assets” such as cash and investments plus insurance receivables
2. Deduct all financial debt and insurance liabilities  from the financial assets
3. Estimate and deduct the required additional Solvency capital required

Step 3 is clearly the most difficult one. A rule of thumb for US P&C insurers is usually to assume that Solvency capital is at least 30% of premium or a similar amount of gross reserves. However for fast growing, loss making insurers it is important to understand, that the regulator wants to see the capital upfront, i.e. at the end of the year your Solvency capital must cover next year’s premium AND next years losses already.

The whole thing gets even more complicated because of Reinsurance and other “shenanigans”, but assuming the 30% rule mentioned above is a good guide.

Unfortunately, for Life & Health Insurance companies, these calculations do not work one one has to rely on regulatory reports. For US Insurance companies this is often very difficult as US insurers usually are not required to report consolidated Solvency numbers. In any case, I’ll use more conservative numbers

Reinsurance

A lot of Insurtechs use significant amounts of reinsurance which makes the accounts often hard to read when losses are high. As a general rule of thumb, Reinsurance contracts over time will only accept “normal” loss ratios and “normal” expense ratios. So even if in some years. losses can be transferred to Reinsurers, these will normally need to be paid back at some point in time.

Although Reinsurance takes away some profits, it can be a very effective surrogate of equity especially early on when capital is much cheaper for Reinsurers than primary insurers. Nevertheless, gross written premiums and “gross” losses are the best basis for valuing P&C insurance companies.

Health Insurance players

To be honest, the whole US health system including insurance is far out of my circle of competence. Therefore it makes little sense for me to look at Oscar, Clover and and Bright in more detail. Oscar seems to have become a rather big Health Insurer with even bigger losses,  Clover is ~50% of the size of Oscar but equally loss making. Bright has Oscar’s size, both in premium and losses and just seem to have lost their CEO. Simply “too hard”.

Property & Casualty players

At least for me, property & casualty players are easier to understand. The valuation drivers here are gross written premium, loss ratios and of course cost, which hopefully scale with volume.

Here is a “valuation” overview based on conservative “excess cash estimates” and gross premium:

	Annual Run rate gross premium Q3	Growth yoy	Loss ratio	“Net cash”	Market cap	EV	Implied EV/premium
Metromile	111	7%	81%	160	500	340	3,1
Hippo	516	94%	128%	500	1083	583	1,1
Root	818	24%	91%	250	436	186	0,2
Lemonade	320	86%	77%	750	1854	1104	3,5

For Metromile, I used the price of the Lemonade bid from November last year.

Now drawing the conclusion that Root as the cheapest stock would be the best investment might be a little bit too early. Root is growing slower and only does car insurance, which is extremely competitive. By coincidence, Root is a strategic partner of Carvana, however Carvana is deeply underwater on its 130 mn USD investment.

Hippo in contrast shows the highest loss ratio, but their core product, homeowner insurance is supposed to be quite sticky and they grow quite significantly. Lemonade in contrast, has diversified already from its core renter product to pets and international and now into car insurance with the Metromile acquisition.

As a teaser for a deeper dive into these companies, here how the metrics from above  for growth investor’s darling Trupanion and market leader Progressive:

	Annual Run rate gross premium Q3	Growth yoy	Loss ratio	“Net cash”	Market cap	EV	Implied EV/premium
Trupanion	726,8	40%	85%	0	3610	3610	5,0
Progressive	47600	15%	76%	0	62140	68140	1,4

Trupanion, the US pet insurer looks much more expensive than the Insurtechs. Even compared to Lemonade they are masters in marketing. Their quarterly report doesn’t mention insurance terms like premiums or claims, only “subscription revenues”.

For Progressive, the most interesting part is that even they had to suffer a loss ratio of 76%, with a higher loss ratio for “personal lines”. So the loss ratios of the insurtechs don’t look that bad in comparison.

So overall, there could be (some) value in these “fallen Angels”, therefore I will look deeper into them at some point in the future.

To be continued ….