Lemonade (LMND 1.64%) has been a popular stock for growth investors ever since it went public in 2020. The insurance start-up has touted its asset-light artificial intelligence (AI) approach to insurance, hoping to disrupt the legacy players with modern digital tools and lower rates for things like renters and car insurance. It now has 2 million active customers in less than nine years after its founding in 2015, making it one of the fastest-growing companies of the last decade.
But its stock price hasn't reflected this growth. After reaching a market cap of $10 billion in early 2021, Lemonade has fallen hard and is now below $20 a share and off 90% from all-time highs.
It continues to grow quickly but can't seem to generate a profit. Should investors finally take the leap and buy the stock at these depressed prices? Or is this company headed for the dustbin of history? Let's take a closer look.
Fast growth, powered by AI
If you read Lemonade's shareholder letters, management will tout its AI tools and bring out complicated terms like "in-force premium" and "annual dollar retention." A lot of these terms might go over the head of someone who doesn't follow the insurance industry closely.
But insurance is simple to understand. You try to bring in more in customer premiums than what you pay out each year for claims, minus overhead corporate costs and investment income.
This is encapsulated in the combined ratio, which takes an insurer's costs and divides them by its earned premiums. A combined ratio below 100 means an insurer is profitable before any investment income it earns. A combined ratio above 100 means it is unprofitable. Lemonade's combined ratio is well above 100.
The company has done quite well to grow its premiums. Its net earned premium was $315 million in 2023, up from $172.4 million in 2022 and $77 million in 2021. It is growing quickly and will need to continue to grow its earned premiums in order to reach enough scale to get above its fixed-cost base.
However, there is one problem with this growth: Management is achieving it with minimal efficiency and what looks like poor underwriting standards.
Where are the profits?
As I mentioned above, there are two sides to a successful insurance operator. You need to grow premiums but also do so while pricing your policies for profit. Otherwise, the company is simply destroying shareholder value.
Unfortunately, Lemonade continues to struggle with this key part of the insurance equation. Let's go through the 2023 numbers to see how deep a hole it has dug for itself.
Last year, Lemonade generated $429.8 million in total revenue, which includes investment income from cash held on its balance sheet. It had $280 million in loss expenses, $59.2 million in "other" expenses, $101.9 million in marketing costs, $88.8 million in technology development costs, and $129.3 million in general overhead costs.
Add these together and you get a net loss of $229.8 million on $429.8 million in revenue, or a net loss margin of 53%. This is a horrendous figure and shows how Lemonade continues to destroy shareholder value.
Looking at this year, it doesn't seem like its financials will get much better, either. Lemonade is planning to double its growth expenses but doesn't expect its top-line premiums earned to grow as quickly. This is a recipe for more losses.
LMND book value per share; data by YCharts.
Only one thing matters at the end of the day
Insurers are different than a traditional business. Instead of generating cash flow through selling products, an insurer is trying to grow its capital base by adding more and more equity value to its balance sheet.
Building equity means growing book value. For investors, you want to look at growth on the basis of book value per share, as that tells you Lemonade's net worth as an insurer per each share you own, and also the trajectory of its growth (or decline) in net worth for each share you own.
Lemonade's book value per share continues to move in the wrong direction. It has seen this metric decline every quarter for the last three years, heading from over $18 to just above $10 today. And it still trades at a premium to a declining book value at a price of $17.42 as of this writing.
Add it all together, and Lemonade looks like a bad bet for investors. Avoid this stock even with shares down 90% from all-time highs.
