TRUPANION, INC. 10-K

Item 1. Business Our Mission Our mission is to help loving, responsible pet owners budget and care for their pets. Company Overview We provide medical insurance for cats and dogs throughout the United States, Canada, Europe, Puerto Rico, and Australia. Through our data-driven, vertically-integrated approach, we develop and offer high value medical insurance products, priced specifically for each pet’s unique characteristics and coverage level. We operate in two business segments: subscription business and other business. We generate revenue in our subscription business segment primarily by subscription fees from direct-to-consumer products. We operate our subscription business segment similar to other subscription-based businesses, with a focus on achieving a target margin prior to our pet acquisition expense and acquiring as many pets as possible at our targeted average estimated internal rate of return. Our other business segment is comprised of revenue from other product offerings that generally have a business-to-business relationship and different margin profiles than our subscription segment, including revenue from writing policies on behalf of third parties and revenue from other products and software solutions. Our Business It is very difficult for pet owners to budget for veterinary expenses when their pets become sick or injured. Pet owners do not know whether their pet’s health will be “average,” “lucky,” or “unlucky.” Over the life of a pet, veterinary expense for a lucky vs. unlucky pet can vary from $500 to more than $50,000. Even if a pet ends up being “average” over its life, the timing of accidents or illnesses may not align with the owner’s budgeting approach. Further, many pet owners do not know how to budget for the “average” cost of medical care for their pets. Average veterinary expenses often greatly exceed the expectations of the pet owner and vary dramatically based on a multitude of factors, including the availability of care by region and the types of treatments advisable for specific pet breeds. Consequently, self-insuring is not an effective solution for many individual pet owners. Our monthly subscription products, priced specifically for each pet’s unique characteristics and coverage level, help pet owners budget for unforeseen medical expenses. Through our high quality medical insurance products, pet owners are able to ensure the best care for their pet, and avoid decisions being made due to financial constraints. Our monthly subscription business model provides us with high quality predictable and recurring revenue. Our subscription business’s cost-plus model is designed to spread the risk evenly within each category of pets so our members can budget for unexpected veterinary costs. We have been collecting comprehensive pet health data for over 20 years. We believe our data and approach to pricing is unmatched and provides us with a greater understanding of anticipated veterinary costs. We leverage this to price our subscription plan for each pet based on their specific circumstances such as breed, age (at enrollment), geography, desired deductible or co-payment and coverage level, so that, in aggregate, the amounts paid by owners of lucky pets helps to cover the veterinary costs incurred by unlucky pets. We believe our actuarial team, working with our granular data, is able to price our subscription plan much more accurately than other players in the industry, enabling us to provide our members with the highest value proposition relative to coverage level. Our core “Trupanion” product was designed by veterinarians to enable them to practice the best medicine – thus recommending the optimal treatment for the pet. As a result, we believe our Trupanion product enables veterinarians to establish stronger ties and better alignment with their clients. Trupanion members tend to visit their veterinarian more frequently and spend more money on the best course of treatment for their pet. This results in better health outcomes for pets, which we believe creates a flywheel effect that has been the key driver of growth for our subscription business. Through the use of our proprietary, patented software designed to communicate directly with a veterinary hospital’s practice management software, we are able to offer a differentiated experience to pet owners. Using our software, veterinary hospitals can receive payment from us directly for approved invoices in seconds, with their clients (our members) only paying their deductible or co-payment of covered treatments. We believe this unique solution, which is offered free to veterinarians and pet owners, transforms the insurance experience. 3 Our other business segment is comprised of other product offerings that generally have a business-to-business relationship and different margin profiles than our subscription segment. These include providing pet insurance policies on behalf of the Veteran Affairs program, employer sponsored programs, and underwriting policies on behalf of third parties that do not carry reference to the Trupanion brand. Additionally, our other business segment includes the sale of software solutions. Our target markets are large and under-penetrated, as measured by insured pets: North America 1 Continental Europe Australia Household dogs and cats (in thousands) 200,000 139,000 8,900 Market penetration 2.0 % 5.6 % 11.2 % 1 According to Insurance Information Institute and Canadian Animal Health Institute, there are approximately 200 million household dogs and cats in the United States and Canada. North American Pet Health Insurance Association estimates that the penetration rate for medical insurance for cats and dogs in North America is approximately one to two percent. We believe that over the long-term, the North American penetration rate can reach levels comparable to the U.K., where, according to Global Market Insights, approximately one in four cats and dogs has medical insurance. Our total enrolled pets grew from 31,207 pets on January 1, 2010 to 1,537,573 pets on December 31, 2022, which represents a compound annual growth rate of 35%. As a result, our revenue has grown from $19.1 million in 2010 to $905.2 million in 2022. Our Strategy We are focused on attracting and retaining members by providing a best-in-class value and member experience. In particular, we are focused on the following: Increasing the leads from veterinary hospitals. We intend to increase the number of veterinary hospitals that help their clients learn about high quality medical insurance, and to increase the rate at which active veterinary hospitals refer leads to us by leveraging our Territory Partners. Increasing the number of referrals from members. We seek to grow the number of existing members that add a pet or refer their friends and family to Trupanion. We do so by focusing on improving the member experience, including increasing the percentage of veterinary invoices that are processed rapidly at checkout and paid directly to veterinarians through our patented, proprietary software. Improving conversion. We are investing to increase the rate at which we convert pet owners receiving quotes for our subscription plan into enrolled members. Improving retention, particularly in the first year of enrollment. Member retention is a key part of our strategy. Historically, members in their first year of membership have the lowest retention rate. We are investing in the education process and improving initial customer communication and experiences in order to increase our retention rates. 4 Automating the payment of veterinary invoices. We use artificial intelligence and machine learning to leverage data so we can automate the payment of veterinary invoices. We intend to increase the percentage of veterinary invoices paid without human intervention with the goal of ensuring that we can process veterinary invoices in seconds and do so without reducing the quality of our decision making on a case-by-case basis. Growing additional member acquisition channels. We are growing new member acquisition channels including employee benefits, point-of-sale, retail and direct-to-consumer, for the sale of our pet medical insurance products. We also intend to pursue new channels that we believe could, over time, deliver our desired return on investment. Aligning with strategic partners. We seek partnerships with players who are leaders in their field, have long-term alignment, and recognize the value of our brand and expertise. Expanding internationally. While the majority of our revenue is derived from the sale of insurance products in the U.S. and Canada, we have operations in Europe and operate in Australia through a joint-venture. We continue to explore other international expansion opportunities. Expanding our product offering. We intend to introduce additional monthly subscription products, maintaining what we believe to be the highest value pet medical insurance, but with varying levels of coverage. Pursuing other non-insurance revenue offerings. We intend to continue pursuing opportunities to provide pet owners with complementary products and services. For example, we have invested in a pet food initiative to explore whether pets on a calorie-controlled, high-quality diet have improved health outcomes that can justify a decrease in the cost of their medical insurance. We also sell software solutions to third parties. Sales and Marketing (New Pet Acquisition) We generate leads through a diverse set of member acquisition channels, which we then convert into members primarily through our contact center, website and other direct-to-consumer activities. These channels primarily include leads from third-parties such as veterinarians, strategic partners and referrals from existing members. We build awareness of our core Trupanion product predominately through the veterinary community, engaging our team of “Territory Partners." Our Territory Partners are independent contractors who market our product and are paid fees based on activity in their regions. Their role is to create meaningful, long-term relationships with veterinarians and to educate those veterinarians about the benefits of high quality medical insurance. We believe this structure aligns our interests and provides a platform that we can leverage over time. Our Territory Partner approach is unique and unmatched in our industry. We believe that it would be extremely difficult, costly and time consuming for a competitor to replicate. Competition We compete primarily with pet owners who choose to self-fund their veterinary costs, mainly via credit cards, as well as new and existing pet insurance brands. We view our primary competitive challenge as educating pet owners on why high-quality medical insurance for pets is a better alternative to self-insuring. The vast majority of pet owners in the markets in which we operate do not currently have medical insurance for their pets and there is very little movement from one insurance company to another due to pre-existing conditions. As a result, we are focused primarily on expanding the overall size of our markets by providing pet owners with high value, transparent medical coverage designed for each pet's unique characteristics and coverage level. We have been competing against at least 20 brands at any given time in our operating history. In our experience, competing pet insurance companies generally fall into one of two segments: (a) traditional providers with low target price points and narrow coverage that is unlikely to cover things most likely to go wrong, like congenital and hereditary conditions, and (b) higher-value providers that provide some form of an annual plan designed to increase the cost of the plan as the pet ages. We believe that we have competitive advantages that position us favorably. These include: • broader coverage and a superior value proposition due, in part, to our vertically integrated structure that reduces frictional costs, • a unique member acquisition strategy that leverages the relationships our Territory Partners have developed in the veterinary community, • a proprietary database containing over 20 years of comprehensive pet health data enabling us to be more precise in our pricing and pet acquisition expense, and • our patented, proprietary software which allows us to pay veterinary invoices directly at time of treatment. 5 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 and, in some cases, exclusive 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. utility patents and one U.S. design patent related to our proprietary software, and we have multiple 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 our failure to do so may adversely impact our business. Human Capital Resources Our Team We are a mission driven organization with a diverse team united by a shared passion for pets. Our team members are our greatest asset, and we focus on attracting great people to our team and offering high-quality experiences to all team members. As of December 31, 2022, we employed 1,187 people across the U.S., Canada and Europe. Our team is further supported by 158 field sales Territory Partner business owners and their associates who represent Trupanion. We also contract with team members in the Philippines through a third-party service provider, and we operate in Australia through a joint venture. Our team is increasingly global with team members working in our Seattle headquarters in the United States, in the U.K. office, and virtually across the U.S., Canada, and Europe. Our Seattle headquarters office is pet friendly. Benefits We offer each team member the same benefits, regardless of role or level in the organization. We also recognize the importance of family and design our benefits plans to support the physical, financial, and emotional wellbeing of team members and their families. The benefits available to all team members regardless of role include: • Childcare & Support for Parents – We understand the importance of family and offer benefits to support working parents. Most notably, we offer onsite childcare at our Seattle headquarters. Trupanion pays 100% of the tuition costs for one child per Trupanion team member, when space is available. • Resources for Wellbeing – We offer a variety of benefits to support wellness at and away from work, including free access to our onsite gym and an Employee Assistance Program for confidential support to navigate life's challenges. We also offer to our team members globally a virtual healthcare concierge service through a leading third-party provider specializing in the field of virtual medicine. • Sabbatical - For every five consecutive years of service at Trupanion, team members are eligible for a paid five-week sabbatical. • Paid Volunteer Time – The TruGiving Volunteer Program offers one paid work day per year to volunteer with an organization of each team member's choice. • Paid Time Off – At least four weeks of paid time off is granted to team members each year in January, and increases with tenure. • Medical Insurance for You – Trupanion pays 100% of the premiums for team members’ medical, dental, and vision coverage and offers options to enroll eligible family members. • Medical Insurance for Your Pet – Team members have the option to enroll one dog or cat in 100% company paid Trupanion medical insurance at the highest coverage level we offer. • Health Savings Account – Team members enrolled in our eligible medical plan have access to a Trupanion funded Health Spending Account. • Flexible Spending Dollars – Team members receive flexible spending dollars each year on benefits of their choice, including contributions to dependent premiums, fitness and nutrition, childcare, and personal development. 6 • Leave of Absence & Salary Continuation – We provide all team members that are too ill or injured to work with access to time off through leave of absence at a reduced percentage of their salary through our disability pay programs. • Severance and Change in Control Policy – We have a Severance and Change in Control policy that applies equally to all team members, regardless of their role at Trupanion. Diversity, Equity, Inclusion, and Belonging We believe that diversity, equity, inclusion, and belonging (DEIB) is critical to supporting our fellow team members and enhancing our ability to fulfill our mission and achieve our goals. We strive to foster an environment where diversity of people with different perspectives and backgrounds can thrive. A core tenet of Trupanion is that we offer a work experience that applies equally to all team members, regardless of role, as noted for example with respect to our Benefits offerings. This approach extends throughout the way we work together; for example, team members that come into any of our offices work in an open environment where the size of working space is the same for everyone regardless of role or seniority. We have multiple employee-led resource groups that celebrate aspects of our team’s diversity and help foster a welcoming and safe space for support, education, professional development, and networking. We have a large representation of women at Trupanion including 59% of leadership positions. As part of our strategic plan, we have also set a goal to increase the representation of underrepresented groups on our teams beginning with underrepresented races and ethnicities. To achieve this goal we are taking specific actions to hire, retain, and develop people from underrepresented groups, and further a culture of inclusion at Trupanion. For example, among other steps we have taken, we have expanded the number of employee resource groups, developed a DEIB curriculum that is required for all team members, continue to develop accessibility enhancements to both our physical and digital spaces, and set department-level representation goals linked to compensation. Trupanion is committed to paying equitably for equal work, regardless of gender or race/ethnicity, and conducts pay equity analyses as part of our efforts in furtherance of this commitment. Career Development At Trupanion we are committed to helping everyone grow and thrive along with the company. We are proud to continually see about 23% of our team members transition to new roles within Trupanion each year. Team members have access to ongoing development designed to help them succeed in their roles today, develop skills for the future, and build a career at Trupanion. A sampling of our development opportunities include: • TruUniversity (TruU) – All team members participate in TruU company orientation to learn about our history, culture, product, business model, and operations. • Mentorship – Our TruMentor program creates connection across departments, so team members can learn from and support each other in their development. • Professional skills – Our continuing education course catalogue includes a wide variety of topics related to our business, the animal health industry, and professional skills. • Leadership Development – Our Leadership Unleashed curriculum offers specific leadership development programs both for new managers leading for the first time and for more experienced leaders leading teams of other leaders. Safety We prioritize the safety of all members of our team. For example, when the COVID-19 pandemic emerged, we were one of the first Seattle-area public companies to transition to fully virtual work, doing so before it was required. Since then we have kept our culture alive with more frequent all hands meetings and office hours with leadership, and converted many of our office events, like the annual Pet Pageant, to virtual formats. Since June 2021, we have offered hybrid work arrangements. We also offer complimentary COVID testing available 24/7 at our Seattle office for team members and their loved ones. Regulation United States Regulations U.S. federal law and the laws and regulations of each United States state, territory and possession apply to companies licensed to transact insurance business in these jurisdictions. While our insurance subsidiary and underwriter, 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 also currently licensed to do business in all 50 states, Puerto Rico and the District of Columbia. As such, APIC is also subject to comprehensive regulation and supervision under laws and regulations of each U.S. state, territory, and possession. 7 Because APIC is domiciled in New York, APIC is subject to laws governing insurance holding companies in New York. These laws, among other things, require that we file periodic information reports with the NY DFS, including information concerning our capital structure, ownership, financial condition and general business operations; limit our ability to enter into transactions between APIC and our other affiliated entities; restrict the ability of any one person to acquire certain levels of our voting securities without prior regulatory approval; and restrict APIC’s ability to pay dividends to its holding company parent. Other state 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. Regulators may perform market conduct examinations by visiting our facilities for a period of time to identify potential regulatory violations, discuss and correct identified violations, or to obtain a better understanding of how we operate in the marketplace. Further, U.S. state insurance laws and regulations require APIC to file financial statements with state insurance regulators in each state where it is licensed and its operations and accounts are subject to examination at any time. 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. When 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 state of domicile. The financial statements included in this document are prepared in accordance with U.S. generally accepted accounting principles. The values for assets, liabilities and equity reflected in these financial statements are usually different from those reflected in financial statements prepared under SAP. In 2021, we established two new wholly-owned insurance subsidiaries, ZPIC Insurance Company (ZPIC) and QPIC Insurance Company (QPIC), domiciled in Missouri and Nebraska, respectively. We have funded required statutory capital to these new subsidiaries, however, neither subsidiary has begun underwriting insurance policies. U.S. federal law generally does not directly regulate the insurance industry. However, from time to time, various federal regulatory and legislative changes have been proposed. 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. 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 was charged with monitoring all aspects of the insurance industry (with exceptions for certain types of 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. Industry Regulations The NAIC adopted risk-based capital requirements for life, health and property and casualty insurance companies . APIC is subject to these risk-based capital requirements that require us to maintain certain levels of surplus, specifically $142.4 million as of December 31, 2022, to support our overall business operations in consideration of our size and risk profile. If we fail to maintain the amount of risk-based capital required, we will be subject to additional regulatory oversight. To comply with these regulations, we may be required to maintain capital that we would otherwise invest in our growth and operations. Refer to Item 1A. “Risk Factors” for additional details of these requirements. Further, NAIC 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. As of December 31, 2022, APIC had three IRIS ratios outside the usual range, relating to net premiums written to surplus, change in adjusted policyholders’ surplus, and investment yield. While a ratio outside the usual range is not considered a failing result, regulators may investigate or monitor an insurance company if its IRIS ratios fall outside the prescribed usual range . ZPIC and QPIC will be subject to similar regulations after they begin underwriting insurance policies. Other Jurisdictions Regulations In Canada, our insurance is written by an unaffiliated Canadian-licensed insurer, Omega General Insurance Company (Omega). Under the terms of our agreements with Omega, we retain any financial risk associated with our Canadian business. Omega’s Canadian insurance operations are supervised and regulated by Canadian federal, provincial and territorial governments and Omega is a fully licensed insurer in all of the Canadian provinces and territories in which we do business. In addition, we are required to fund a Canadian trust account in accordance with Canadian regulations. As of December 31, 2022, the account held CAD $10.4 million. 8 We have a segregated cell business called Wyndham Segregated Account AX (WICL), located in Bermuda. WICL is regulated by the Bermuda Monetary Authority (BMA). Insurance companies with a presence in Bermuda are subject to 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. In addition, BMA has the authority to supervise and, in certain circumstances, investigate and intervene in the affairs of insurance companies. Most significantly, Bermudan law restricts WICL’s ability to declare or pay dividends and the value of WICL’s assets must remain greater than the aggregate of its liabilities, issued share capital, and share premium accounts. 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 to Trupanion, Inc. Our principal executive offices are located at 6100 4th Avenue South, Seattle, Washington 98108, USA, and our telephone number is +1 (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 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