Lemonade's mounting losses - what is really going on?

Lemonade is the darling of the insurtech world. 

The New York start-up has raised over $180m as it promises to shake up the way insurance is sold.

The company’s world-famous author and behavioural chief, Dan Ariely, has delivered a damning verdict on the insurance industry and promised to deliver something so much better.

“If you tried to create a system to bring out the worst in humans, it would look a lot like the insurance of today,” he says.

Yet for all its talk, market watchers are now wondering whether the crushing reality of running an insurance firm is already catching up with Lemonade.

Underwriting losses revealed

Latest accounts filed in the US, seen by Insurance Times, show a $1.5m underwriting loss in the first three months of this year.

Its first full-year accounts reveal an underwriting loss of $15.8m in 2017.

This is on the back of just  $8.3m in net written premiums covering renters and homeowners insurance.

It is widely accepted start-ups can take around three years to start turning a profit.

But some wonder whether Lemonade is making the right strategic decisions. 

Nick Lamparelli, an insurance veteran and tech author, has watched Lemonade closely since it launched in September 2016, when it promised to pay any premium left over after claims to the non-profit organisations of the customer’s choice.

”I think regulators are probably a bit nervous or sceptical” - Nick Lamparelli, reThought Insurance

The reThought Insurance chief underwriting officer believes Lemonade is not following the usual beaten track for start-ups, instead shouldering much of the cost itself. 

“They are building everything themselves. All the technology: the underwriting systems, the distribution systems, all the claims systems. And that is a significant burden for a start-up to try to shoulder. Most other start-ups don’t do that. They outsource CIM, the underwriting system.”

Unnecessary extra cost is also evident elsewhere in the business. 

The start-up’s decision to launch in New York surprised Lamparelli, due to the hefty costs and burden associated with the regulatory hoops. 

New York is just one of 28 states in which Lemonade now holds a licence.

Unlike Europe, which has one regulator per country, the US has a regulator for each state. 

State regulators watch new entrants closely, something which makes it notoriously challenging for start-ups and foreign insurers to gain market share.

“As much as state regulators welcome lower rates, their rates are so unusually low, now coupled with massive underwriting losses, I think regulators are probably a bit nervous or sceptical,” Lamparelli says.

The pressing question over Lemonade, which aims to become a major carrier, is when the big bucks will arrive. 

Lemonade needs time

Market watchers stress it will take time for Lemonade to turn a corner to on profits, and the foundations are being laid. 

“Because the size of the book is so small at the moment, you’d expect a significant volatility” - Sam Evans, Eos Venture Partners

Lemonade spent $7.7m on advertising spend last year – equivalent to 93% of net written premium. 

That spend will help put the brand before customers’ eyes, with the US its target market. 

It has dropped 10 states from its licenses, according to the annual report, but still held 26 state licences overall by the end of 2017, leaving plenty of room for expansion across the country.

The successful $120m investment round led by SoftBank will help pay for the US expansion.

As for the underwriting losses, Eos Venture Partners partner Sam Evans, who is launching a $100m insurtech fund, believes there is nothing alarming. 

“I think some of the criticism is a little bit unfair to be honest,” says Evans, “Because the size of the book is so small at the moment, you’d expect a significant volatility. It’s not surprising that they have significant underwriting losses” 

As the start-up picks up more customers, there should be signs that things are stabilising as larger claims become embedded in a bigger pot, says Lamparelli.

Another major benefit for Lemonade is it is starting from a blank piece of paper, unlike many insurers laden with prehistoric IT systems and siloed staff with old-school mindsets.

It means Lemonade’s enthusiastic staff can learn and invest in latest technology, such as its state-of-the art artificial intelligence fraud detection and claims bot.

Research firm Tällt believes the Lemonade AI will get smarter and smarter as more data flows into the business from fresh customers.

It is all encouraging stuff and will please reinsurers who carry the risk while Lemonade takes its 20% commission cut and bypasses the broker.

The start-up has $25m in assets, which will provide further reassurance.

Ultimately though, the idea of fast growth and big profits in insurance, doesn’t convince everyone.  

Lamparelli says: “The question really is whether you can you transfer a business model from technology to insurance.

“There’s been a lot of scepticism over whether that can be done. I think insurance is insurance for a reason.

“It’s a 300-year-old business. Fast growth almost never works in insurance. It looks like this is a similar case. You just can’t grow that rapidly without having all kinds of problems. It’s not conducive.” 

Only time will tell if Lemonade can shake off its underwriting losses and deliver on the hype. 

In the meantime, the market will watch with keen interest to see whether the Lemonade story keeps its fizziness, or like other much hyped tech start-ups, eventually goes flat.