Insurance technology company Lemonade (LMND 0.45%) has been a highly debated stock on Wall Street over the past few years. It's bringing a new business model to the insurance industry, and investors have grappled with how to value the stock.
But with the company carrying a $1 billion market valuation today and trading 91% off its highs, it may not matter whether Lemonade is a technology or insurance stock. And the company's recent performance shows Lemonade's long-term arrow is pointing up.
Here is why investors should consider buying shares of Lemonade for the long term.
A new approach that resonates with customers
Insurance is a highly competitive yet massive industry worth more than $1 trillion in annual insurance premiums in the United States alone each year. Lemonade has faced an uphill battle jumping into an established sector and facing off against deep-pocketed competitors.
The company is doing some things differently to stand out. To get a traditional insurance quote, you call an agent. Lemonade uses artificial intelligence chatbots to handle customer service and claims through a smartphone app. Users can sign up for a policy or file a claim in a few minutes. Additionally, Lemonade takes a percentage of premiums after it pays claims and donates extra money to charitable causes.
The combination of charitable work and a convenient user experience resonates with customers. Lemonade has grown its customer base from just over 1 million at the end of 2020 to 1.8 million as of Q1 2023, nearly doubling in just over two years. As an industry newcomer, Lemonade must pull customers from the industry's biggest names, and it's succeeding.
Operating metrics are pointing in the right direction
All insurance companies must analyze risk effectively to survive, and Lemonade is no different. Be too conservative and you'll price yourself out of winning customers. Get too aggressive and you could suffer catastrophic losses if claims are too high. Insurance companies use the loss ratio, which is calculated as a ratio of claims paid to premiums earned, to measure how well they're doing. The lower this ratio is, the better.
You can see below that Lemonade's loss ratio is shrinking as it grows, gathers more data, and better analyzes risks when writing policies. However, Lemonade is still tiny compared to the mainstream insurance names, so a catastrophic weather event (CAT) could skew the loss ratio. Ideally, these events will impact Lemonade less over time, but you can see its underlying ratio is rapidly improving -- a sign that it's getting better at writing policies.
Image source: Lemonade.
Effective policy writing will be vital in turning the business profitable over time. Lemonade isn't there yet, posting net losses of $66 million in Q1. However, with about $1 billion of cash and short-term investments, the business looks well-funded for the foreseeable future.
The stock is cheap no matter how you view it
Wall Street gave Lemonade a valuation appropriate for a technology stock in 2021, but it trades more like an insurance company today. To be frank, 2021 was a time of extreme optimism in the market; investors should temper expectations and look at Lemonade as an insurance stock moving forward.
LMND Price to Tangible Book Value data by YCharts
The good news is that Lemonade is still really cheap under that lens. The stock trades at a price-to-book ratio of 1.4 compared to 2.5 for Allstate and 4.9 for Progressive. While these companies are safer investments today, Lemonade is growing faster than both. If Lemonade keeps putting up good numbers and the market re-rates it to be closer to its peers, investors could see significant share price growth from today's prices.
