Editors' Note: This is the transcript of our podcast from Tuesday on Trupanion (NASDAQ:TRUP). We focused on trying to understand both bull and bear cases, building on a recent article by a new author. We're going to be following up with at least one guest, and if you have anyone you want to hear from about Trupanion, let us know below. We hope you find this transcript helpful.
Introduction
Daniel Shvartsman: On this week's behind the idea, we're talking pet insurance, as we visit Trupanion, a heated financial world battleground. Our questions this time around are pretty fundamental. Mike wonders what the end result is of a successful growing pet insurance industry.
Mike Taylor: Does this actually make anyone better off, or is it just stimulative of more transactions and stimulative of the pet healthcare economy?
DS: We all spend a lot of time figuring out whether Trupanion should be valued like other insurance companies, or whether it's somehow deserves the software-as-a-service multiple it gets from the market. I use their recent headquarters decision to reach a tentative conclusion,
An insurance company is a financial company. And so you would expect decent capital allocation of a financial company, because that's what they do, they deal with numbers. And maybe that's ultimate proof that Trupanion is not an insurance company, because that seems like a crazy capital allocation decision.
A high multiple fast-growing stock, that attracts consistent attention from both bulls and bears in 2019 is prone to lead to a polarized debate. Is there any middle ground between Trupanion as a smoke and mirrors business and Trupanion as an investor's best friend? We try to figure out on Behind the Idea.
Podcast
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DS: Welcome to Behind the Idea. I'm Daniel Shvartsman.
MT: And I'm Mike Taylor.
DS: Today we're looking at our best friends and the growing amount of money they cost us, pets. We're talking pets. Trupanion, ticker symbol, TRUP is a battleground stock. The pet insurance company is either a first mover in a burgeoning field or a souped-up insurance company that is pushing regulatory boundaries and terribly overvalued. Which is it?
New Seeking Alpha author, Simple But Not Easy, restates the Trupanion bear case by taking the bull case and working backwards. They say that a bull case is already more than fully priced into the stock and that the company won't achieve that bull case. Does it make sense and does this focus on the right parts of the Trupanion story, we discuss.
Behind the Idea is the podcast that looks at what makes great investment analysis work, based on ideas from the Seeking Alpha ecosystem. Nothing on this podcast should be taken as investment advice, and neither of us have any positions in stocks held, though Mike has a dog and I have two cats.
DS: I'd also like to make a couple of quick shout outs. We got a new review on iTunes from Renee JJ. Here's what Renee had to say. Love this podcast. You ask the guests super insightful questions. I really like when you interview a bull and a bear on a particular company. I like that you both don’t act like “know it alls.” It’s a casual open-minded, intelligent conversation. Keep up the good work!
MT: Yeah, great.
DS: That's really.
MT: It's really -- Yes. I like that you both don't act like know it alls, at least room for -- at least one of us to be acting like a know it all, and so. Thanks Renee JJ for being nice to Daniel about that.
DS: Well, we have a -- it's like the No Homers joke from Simpsons. We have a know, know it all quota here. So only one at a time. We also had Adrian reached out to me on LinkedIn and said he was a fan of our Amazon episode with Prof. Damodaran. You and me, both Adrian. He also said that any episode, where you cover a single stock name is of interest to me. I'll listen. Most finance podcast just have broad market macroeconomic dissertations. That's what we're going for. We're really trying to get deep dives on stocks. So glad it's hitting the mark.
The last review, I don't think we've called this out before, and if we have you'll have to forgive us. But not all of our reviews are good. And we are an equal opportunity review shout out program here. We got a review from Jane, please focus! though I think that name is related to another podcast.
And here's what they said. Try the PCG episode. Alexandra, the guest seemed really knowledgeable but the dude interviewing her sounded like he was tweaking out. Do yourself a favor and write-down your questions, so you can use your words. Content seems like it could be good, if they prepared a bit better.
MT: We're trying to -- we tweak out every episode. We're tweaking out right now. I think sometimes we just let our guard down and it comes through the mics a little bit more. But we're both super tweaking, right this very minute. I'm not sure how much we can really do about that. But Alexandra as a true professional, and I think of course that's why that's shown through. It was really more the contrast. We'll get more guests that are also tweaking out and then you won't be able to tell.
DS: I was going to go with the raise the bar mentality, but fair enough like, fair enough.
MT: Dilute it. This is the dilution podcast.
DS: Okay. Let's get into Trupanion. Mike, what's the story here?
MT: Wow, did you write that question down? That was really straight ahead.
DS: I am learning.
MT: What's the story? Okay, so there are sort of three different pillars to the short thesis. And the first one is one that authors have come back to on Trupanion multiple times. I know that Seeking Alpha author The Capitolist, who I work with fairly closely has been all over this case and kind of, has been reporting the story periodically for months now. The main anchor of The Capitolist thesis, and the main one, I think of most people who are looking at Trupanion is that Trupanion sells pet insurance, but it's valued like a tech start-up or like a really high value software- as-a-service company. And the tension there is that or the claim at least by the short side of the argument is that insurance is really boring.
Insurance companies are measured at some multiple of their book value on their balance sheet, and generally not valued based on their sales, and certainly not valued for astronomical growth. Because although insurance is regulated, it's fairly competitive as an industry, and the products eventually become pretty undifferentiated. Life insurance is more or less the same, wherever you get it, lives and health are -- health are kind of insured in all the same way.
So the argument is basically, if you pull back the curtain on Trupanion, which has this kind of cuddly and tech savvy and start-up image to it, what you end up at the end of the day with is something that's a lot more like, a company like State Farm, which is -- there's nothing really new about a company like State Farm. They may be a very good business, but they certainly don't deserve this kind of valuation that suggests that they're going to just have a really well protected business, that's going to grow into perpetuity, something like a Salesforce or a Workday, one of these technology-driven companies that really do have a kind of software-as-a-service model. So I think that's the first argument. I find incredible. What do you think, Daniel?
DS: I think the -- I'm trying to think of why the category specifically matters. And I was trying to like why -- I get the point that's being made, right that valuing something like a SaaS company instead of an insurance company, I understand that they have different characteristics. But I just -- I was trying to break apart what literally the dynamic is -- of calling, because it's interesting, I think it's this article where he makes the point, the author makes the point that the subscriptions are really just insurance premiums, which are actually sort of more or less the same thing. We call one thing as subscription, and the other premium, but you sort of subscribe to your health insurance whatever else. And you choose whether to stick around or not. So I think it's…
MT: I choose whether to stick around or not. You mean with the insurer, not…?
DS: Yes.
MT: And not with your life.
DS: That's a little deep here.
MT: Yes, that's a little deep, yes. Let's back up. Okay.
DS: So, yeah. But so -- but you get into these things and I'm just what -- and I think that's where it's actually a really interesting breakdown, because you get to the slide that they have, which they actually go in their next point. The author gets to the next point from Trupanion's side, but it's really an interesting model to breakdown, because you have cost of goods, which in insurance companies you call, I think that's the loss ratio.
And then you have variable expenses, fixed expenses, which is why you're paying people within your organization. And then there's also an acquisition costs, which is what you're actually trying to -- if you're trying to sell these policies to somebody you have to -- that costs some money somewhere, commission to sales or whatever else. And when we talk about subscription business, you talk of cost of acquisition or customer acquisition, you talk about lifetime value, churn, retention, all of these things.
And so it's interesting to me. I -- to me, it's sort of seems like a side point. It's a fair point, I think, to restate that this is an insurance company. But I think that's actually not that important to this, because I think we more want to get into the pet industry, pet insurance industry, and what the prospects for that are and whether true painting can achieve that sort of industry dominance of the sort that you've talked about a couple weeks ago, when we're talking about Lyft and Uber, for example, like, does that make sense? That's the only thing that really matters here to me, not what we call it.
MT: Yes, I'm trying to get out what might be the distinction. Basically, you're saying how -- are we sure that these are really two different business models, which is attacks the basic premise of this first leg of the short thesis, which is, it should be valued as this one type of business that's distinct from this other type of business. So it should be valued like an insurer, because that's what it really is. But it is valued like a SaaS business.
Those two things are different. It should be valued, like one or the other. And your point is kind of -- well, are they really that different? I'm going to try and sort of think of a way that they are different. And one thing that comes to mind is the customer relationship between the SaaS businesses versus the customer relationship with insurers.
My impression is that you got -- you work with Salesforce and you got an enterprise software installed at your company. And there are many stakeholders in using that same enterprise software. So the customer relationship becomes more sticky. It's harder to switch than it is -- if you don't like your insurance, you can just got different insurance and that's fine. So that's one thing.
And then another is I wonder if the liabilities actually stack up the same way. And I don't have a fully formed thought on that.
DS: So yes, I -- when you starting with the liabilities, I think about something else. When you were talking about insurance companies, what do you actually think about with insurance companies? You think about a lot of float. You think that they essentially collect premiums, that they have to payout in a high degree at some point, and this is an area where I'm sympathetic to this being somewhat different than an insurance company, because, Trupanion, a lot of the sort of fuzzier parts of the story are around Trupanion really solving a need for a lot of customers in terms of a phrase that comes up and all the Bo theses I read.
And I read -- I'll shout out a couple of the Bo theses I read one was from Travis Wiedower, who is a Seeking Alpha author and FinTwit participant. So shout out to Travis. And then also @Intrinsic Investing, I think is their handle, and Ensemble Capital, who does some really interesting stuff on their blog and on FinTwit as well. And the economic euthanasia is a term that comes up a lot, is something that Trupanion solves, which is essentially that you get to a point with your animal where the cost it would take to operate on them to keep them healthy, whatever else becomes prohibitive.
And you just have to put them down, because you can't afford to do that. And what Trupanion does, it sort of controls that cost for the customer. It provides some predictability. And for the vets, the way they describe it, the bulls describe it, this as a three-way win-win-win. The pet stays alive and their owners' happy, the vet gets to deliver good care and Trupanion delivers the strong result for the customer.
And so I think about that, and I think about another sort of -- I don't know if everybody's making a pun when they say this. But people will talk about how there's less of a long tail risk with Trupanion, which I didn't say, I'm quoting it.
MT: Okay.
DS: But they talk about this within the context of the pet costs are not going to spiral out, you're not going to have a hurricane Michael of pet costs, right. Like, even given you might solve this economic euthanasia problem. And even given another one of the bull points, which is that pet care costs are going to rise 6% year-over-year for a long time. We can get into that in a second, but I do think that there's some dynamics of the pet insurance industry that I buy as being different than your humdrum casualty and what I'm forgetting the category name. But your humdrum fire -- fire insurance or whatever else.
And so I guess I'm not justifying, but when I -- I think we again, that's where I say. All right, let's look back at the metrics. There isn't a ton of flow in Trupanion business. They have net cash, they have short-term investments, but it's not like some crazy amount, it's growing. But I don't know, I just -- that's something that I sort of think about as a why these categories might matter and how to break them down.
MT: Yes, so next we think of a couple of things. One is the range maybe. So yes, it's basically health insurance, right? Health insurance for people, that's got to be kind of -- have the closest to home demand characteristics. People are most emotional about themselves and their loved ones. And then pet insurance is probably in some middle range where pets are increasingly part of the family, if you sort of buy that narrative. But they're not like yourself or your spouse. And then -- or your children, if you have children or your siblings, you got the idea.
So that's one thing that I think it's like, in terms of the emotional need to have security and to provide, there is some degree -- there is some affinity with health insurance that way. But I don't know if that necessarily connects into the idea of like, people love their pets. And so there's going to be tons of demand for this. So I don't know.
Then the second thing I thought of was, are we sure that this is a good business. Is this just going to create a situation where insurance actually just stimulates demand by itself? Because if you paid for the insurance you've already paid for the procedure in advance.
What I'm curious about is I think insurance actually is simulative of demand. And that's true, or at least I wonder about that. I wonder if one of the reasons health insurance and health costs are going up so much is because it's easier to make a purchase decision if you feel like you've already paid for the service ahead of time, or that you're covered by insurance. So I don't know I feel like that thought crosses my mind occasionally, like, if my washing machine were to break down, I would have homeowners insurance, I would just feel like well just like call the homeowners insurance company up and then I'll get a replacement washing machine.
So is that actually going to -- that goes to this virtuous triangle, like does this actually make anyone better off? Or is it just simulative of more transactions and simulative of the pet healthcare economy? Instead of actually like, I don't know-- I guess that's the same sort of moral catch 22 you get into when you talk about the healthcare industry. But I just think it's I don't know if it's necessarily any kind of virtuous exogenous factor entering this marketplace.
DS: This is like, I feel like we're just on the cusp of unlocking all the questions about modern economics right there. What is the purpose of increased transactions? Do we really need this stuff we buy Mike?
MT: Well, we -- right, we're -- everyone's better off when we transact, right. That's the sort of… But that's -- can that be true? Yeah, we got to get back on track, we’re spiraling up out of control.
DS: No, but I think here's where -- here's where I think this is important. That's why I'm so Trupanion, the author's next point is that if you take the company's bull case and work backwards, the company is trading at 23 times 2022 net income, right? And then the author will get -- their third point is that they're not going to get there for various reasons and then there are a few other things in there. But what I think is interesting here is that or what we're hitting on is nobody likes their insurance provider as a health -- health insurance. And health we're entering the election cycle, health insurance is going to be a big topic, et cetera. Like, nobody wants health insurance companies do well, except the health insurance companies and maybe some people who recognize that you need the health insurance companies to succeed to the…
MT: Talk to him at cocktail hour, or a woman I guess.
DS: But so with the pet insurance companies, you think about who your target is for pet insurance and I go back to the bull cases that are made, and I just think like it hits close to home because you talk about…
MT: As your cats jump outthe window of your apartment?
DS: Well, yeah, but what I mean is that they talk about the secular drivers, about deferring -- having pets and deferring children. They talk about people who feel like petrified of the family. And one of my cats has been dealing with a mild health issue for the past few weeks and…
MT: Window jumping.
DS: My wife is a little -- that was last year and this is maybe a second order repercussion. But he's got just like a saliva gland that's blocked. But I -- my wife has literally said these are our children. And we need to treat them that way. And she's like 95% serious. And so that's like right on the nose and when that's part of the bull case -- and what I'm getting at by this -- so that's where the TAM will grow, the total addressable market. And then point out that in Europe, the numbers of -- the penetration of pet owners having insurance is 5% to 25%, in the U.S. is 1% to 2%.
Pet insurance in the past was kind of shady apparently, and this is kind of professionalizing it, et cetera. But I think what's -- what we're getting at is that on the one hand, you're right, that this is sort of just inflationary, simulative of its own desire. It's growing for the sake of itself, right. And you might have interesting comments to share about this. But like, ultimately, our desire to spend on our pets is reflective of ourselves and our sort of -- it's not fundamental economic need. It's not something that you really -- the satisfaction of taking care of a pet is wonderful, but it's also not something we need to spend on as much as we have.
But the people who do spend on it are more than happy to. And the question is how many people out there would be willing to spend a lot of money on this? And then do you get to the point where they start griping about pet insurance the same way that they do about health insurance like do cost spiral out? And if so, is it in the right part of the market? And I think it won't ever be quite like health insurance, because I don't think it'll ever become something that everybody feels obliged to have. Whether it has negative repercussions…
MT: Single payer health insurance, Medicare for pets
DS: Medicat for All, yeah. The health -- but I think that there could be negative repercussions as it drives up veterinarian's costs because they're used to dealing with pet insurance. One of the bull cases is that Trupanion has this really effective software that locks in veterinarians. And they have a reputation for being quite customer-centric. And we had a good comment from -- on -- I think it was this article, might have been another article that was posted on SA from Volte-Face Investments who's a contributor, also another FinTwit member pointed out just from, like personal experience, Trupanion seems to have a better reputation than some of the peers they are compared to.
And anyway, I just think it's really interesting because it's -- I guess what I'm getting at is this is a totally discretionary thing. And so your discretionary business, you have room to grow, even if it is inflationary, but at some point, it feels you want to get off the carousel. And I guess that's part of the dynamic here that it's worth -- that we're getting at. I don't know. Does that make any sense? I know I rambled.
MT: Yeah, it does. I wonder if it's maybe as there's like a virtuous spiral upward but probably a vicious cycle downward also. Like the inflationary, this sort of self-reinforcing inflationary process is probably good in the short term for investors and you can build a business off of it. But yeah, there's a question about how, what the end state of demand for this product is going to look like? And where -- like the sort of when the marginal customer is going to be sort of tapped out?
And this question between, whether this is discretionary or non-discretionary, I think is really a bull and bear sort of argument. Because the bull side is like, people view pets as family members. And then I have relatives who view pets as like, things. So I think there's some tension there, and we don't really know where that equilibrium is.
DS: So let's get into the numbers a little bit to sort of bring it back and go back to the authors' points, because they're -- so they take the target economics. I sort of mentioned that already in '22, 23 times 2022 net income if everything goes to plan. Yeah, that's probably a pretty -- we could go galaxy brain here and make a case for that. I think you could say that the -- they are going -- it's a growing market and they are going to be the first mover. They have that better reputation. They have these sort of software advantages? They just -- they're sort of professionalizing what seemed to be a quite shady and quite sort of -- guy with the trench coat sort of industry.
And so they're going to reap some advantages from that. They're going to reap some upside from that. And so there's going to -- they're going to grow into that potentially. But yeah, it's an expensive stock. And I don't think I -- even the bull cases, they sort of handle a valuation. They're not really breaking -- they're saying, Here's where it could be X time from now, but they're still using pretty high exit multiples, et cetera. So I think that's -- I like cases that start with the other side of the story and then break down the numbers and why even if that plays out it wouldn't work. And I think they do that effectively here, but then they get into the sort of -- actually we don't think they're going to get there and here's why.
And I thought this was the interesting part. They point out the lifetime value to a customer, acquisition cost, ratio is going down, which is essentially, that sales commissions or whatever else you're paying upfront, how much does that return? What's your ROI on that, and the higher that ratio is the better, but it's dropped significantly, according to the author, and so -- again, if we're dealing with this as a SaaS that's a concern.
And then they do some interesting stuff in terms of breaking down the subscription revenue versus other revenue, which is essentially just revenue that they generate themselves versus revenue that they're, that is -- I think, a third party is selling and then bringing to them. I'm not sure where it which way that third party action works, if that's just somebody who's selling Trupanion policies for them or if they're just underwriting other Trupanion, if they're writing other insurance policies.
But that is the -- that's an interesting argument. Because essentially they're saying that the indirect channel is growing much faster and has worse economics. And so even if you have this growth under the hood, there's something not there. So I don't know. It's, it gets us back to the numbers. And I think that's -- I think the numbers are the easiest part of the bear case and the hardest part of the bull case. And I don't know, what do you think? How do you how do you take that?
MT: I come back to -- yeah, I mean, I think you're right -- galaxy. It's a little bit galaxy brain to look at this business and say we're at 23 times 2022 earnings. 2022 gets closer and closer as time goes by I've noticed, so maybe it's not as wild as it was when you and I first started talking about stocks. But it does seem like a rich valuation. And to me, the issue is kind of, do we really think that there's this -- if you take the bull case as kind of, there's untapped market here, they're going to consolidate this. And they're going to have great branding and great pricing power. And people are going to sort of love this experience of buying health insurance for their pets.
And so they'll stick with it, et cetera. Maybe margins expand as it becomes easier to retain customers than it is to acquire them, whatever.
I think it's shaky. I don't know. I go back to the point earlier about -- I think that there's really strong demand for this product among the early adopters of the product, but I don't know how far out on the distribution you get before people are like, I'm not paying X dollars a month. So my dog -- in case my dog gets sick, I just think that there -- I don't know if we know the limit of the demand side of this. And I think that's really critical is this is going to be a growth driven thesis where the markets under penetrated. That's the shaky part for me.
And so the multiple, I think it's already priced in for a lot of success. And I think that one of the underpinnings of that success, this assumption that the markets really they're just waiting is a shaky one. So I'm not in on this really at all. Just on and that's just on the sort of straightforward basis.
DS: Let me just try to try to go Peter Lynch here and give…
MT: Yeah, by all means.
DS: Some argument for where they -- where you could make a case here, because I think what it ultimately comes down to is what is going to be sustainable, what is going to help the customer? And if it is just -- if insurance just causes an inflationary system that leads to ultimately worse outcomes for more people or like some sort of, essentially taking money from suckers who want to pay for their pets or whatever else. It's sorry pet owners. But I think that -- you get into this sort of -- there is a limit. But if you -- if it's cost controlling, but in an attractive economic package for all people around because it creates cost certainty, it saves the veterinarians credit card fees like there are some other things involved here that sort of our benefits like, then maybe it works.
And so a common staple of the bull case is that in Europe penetration is much higher, Western Europe, anywhere from 5% to 40% according to a Travis Read Hour article. And I don't actually have firsthand experience of having pets in the U.S. for long. We brought ours home to the states for a few months, couple years ago and that's it. But we had quite have pet costs over the last year for one of our cats who fell off our balcony,
MT: Jumped out the window.
DS: Fell off our balcony and survived.
MT: Do you have to defend what was it? What was the questioning like? So it fell out the window or wait you said it jumped off the dog -- which is better, if it jumps or if it falls.
DS: No. It fell, it fell. He was trying to get over to the neighbors balcony and there was a fence pushed back. It was I don't think
MT: It's not funny, Sorry. Sorry.
DS: He survived. He's, he's happy. He's healthy except for mild things. But anyway, there were some costs involved. There was a broken jaw. There was some leg soreness. There's it
MT: Okay, that's not funny. So I apologize for that. It's like a cartoon in my mind. So but this is a real cat with real feelings.
DS: He's okay, like, it's okay. But it cost us some money and you could -- I don't think we would have got an insurance policy because they would have told us you idiots, put nets on your balcony, so your cats don't fall, which we've done since. And if we had done beforehand would have obviated this whole thing and I was always, like this is my fault.
MT: Financialized solution is to buy insurance and then the actual solution is to put nets up. There's some lesson there for finance geeks around the world just put nets up, close the window. You don't need Trupanion. So yeah, the indirect competitor that no one is talking about here, and really the important one is just the netting industry is the real beneficiary of these market dynamics I think…
DS: Long nets, yeah.
MT: Trampolines, the trampoline business.
DS: So I guess -- I just punctured that. But I was going to say that, you could have seen where insurance would have helped us with these costs. But, no, actually my other point was, as we…
MT: And see where it nets, what that will do with your costs.
DS: My point here is that, as we were shucking out all these euros to bring my cat back to more or less full health, my wife kept saying like -- and my wife is less -- like I'm the more thrifty in the relationship. But she kept saying like look, this is way cheaper than it will be in the states. You're kidding, like a surgery to fix a broken jaw would be thousands of dollars or whatever. Like she was throwing numbers at me to try to make me feel good about how much we were spending here.
I don't know if that's true. But I guess that would be your argument that if you're in a market where there is a lot of insurance penetration and yet costs are actually competitive or attractive to the U.S., then maybe this does work for everybody.
So I…
MT: Yeah, I get it now.
DS: We haven't done that research, and so I don't want to overstate that point. But you could start to see where -- let's just make a really ham handed analogy here. The whole premise of the Affordable Care Act was that if you have a mandate, and the healthier people are bought in costs are lower for everybody else. So I don't know, Mike, maybe if we enrolled our healthy animals in this program, then when they jumped from the balcony from time to time,it will be…
MT: Boo’s not jumped from any balconies so far. I guess it's really possible. I'll look into some netting, I'm still not yet a customer of pet insurance. We're pretty far away, are we circling around relevance to the investment case? Where are we here?
DS: Well, I think we're trying to -- I think I had sort of -- there are bunch of otherfun aspects, that we get into this story but I think the fundamentals are; is this a great business, is this a great industry, and is this a great stock at this price. Because I think the valuation is such that the answers to all of that, to the first two have to be yes and to the sec -- the last question it has to be like it's no cape, it's a great company at a good price -- or a fair price or whatever. Like that's -- I think that's the only way you can get into this.
And I think we're both -- I don't want to speak for you too much, but I think we're skeptical that this is a -- I think this is probably a better industry then your humdrum insurance industry as I've said, I don't think it's -- -- I'm skeptical that there's quite the runway thatthe bulls are building into this. And I am skeptical in Trupanion, I can buy the Trupanion is doing this in a better way. How muchof a moat that will build over time. I don't know, but I can buy that part.
But yeah, I think the industry dynamics are what really are going to fundamentally matter as to whether this story will add up over time or not? I don't know, do you. And that's where I think the relevance of our conversation comes in. What’s your view.
MT: I don't view insurance as a particularlyattractive. This is one way that where Warren Buffett and I are on different sides of an idea. I just don't see it as having that greater characteristics. But -- and I don't buy that this is a differentiated type of business model from standard insurance. I think -- it's just a risk redistribution process and -- between the customer and the provider, and while I think they're in a new market, I don't really know howbig the market is. I just do not. Nothing about this is like, yeah, I think definitely want to be in on this and then the valuation just makes it worse.
Iguess I've been reading too much of The Capitolist on this. I just did not in on the -- I don't think the business model is particularly attractive and so the rest of it just kind of falls apart from there. I don't really and maybe that's just too naive, but that's kind of where I'm at with it.
Like where's the economic -- where's the protection against an entrant here. Is it hard for State farmer, Geico or anyone else to create a pet insurance product and just co-sell it across with whatever else they're doing? I'm not sure. They're not in the business already maybe that means something but.
DS: Yeah, that's well. So it's interesting. I feel like I often end up being more bearish than you and so it's interesting that I'msort of trying. I feel a little bit more confident about the industry. But yeah, I hear you. I don't know that -- I would say, I'm still fairly skeptical that this plays out. I think -- I guess I come out the way I do sometimes with these stories that kind of polarize.
Without knowing all the regulatory stories, and I wanted to sort of bring up a couple last bear treats, as the author called them. But I don't think this seems like a fine business. It seems like it's an overvalued business. And that's like, it doesn't have to be much harder than that, it doesn't mean that it's the -- that it's an awful company. And it doesn't mean that it's this brilliant company. And I think that's what's interesting here. One of the things the author raised that you brought up in your notes was about the concept of mission creep, which leads people toonce they take a long or short position, they tend to then see everything through that lens and everything is either good or bad. And I think that's really interesting here because you have, just the dynamics of the story. We're talking about pets. So if you have had this sort of experience, it's very salient. There's immediacy bias. And you can see longs, you could see being comfortable with the long, because you couldn't imagine as a pet owner.
But then also, you've got a founder, you've got like a compelling founder story here, which we've talked about before and which people really love. And then you also have a on the bear side, you have some funny things going on, right? You've got -- well, you've got the regulatory stuff, if I don't know if that's what The Capitolist is talking about. I don't know if you want to go into that, but…
MT: But yeah, just briefly, The Capitolist has catalogued sort of, and I would -- are you. I'm not totally sure that we would call this mission creep because I think basically brick by brick The Capitolist is building the story ofultimately this insurance is going to be regulated in the same way that a lot of other insurance products are. And Trupanion has taken some -- adopted some sales strategies where the rules were somewhat ambiguous or potentially they're just trying to elbow their way into the market. And we're sort of not -- I don't want to say circumventing but erring on the side of aggression with -- this is The Capitolist's argument, erring on the side of aggression with respect to licensing and who needs to have a license and who can recommend insurance and who can't.
And the tenor of this series of posts sort of has this tone of mission creep in the sense that it's like, this is big regulatory issues, and if you catalog them one after the other, it looks big, but I think The Capitolist was reasonably evenkeel about the whole story, just saying not that this is bad or that shareholders are going to eventually be ashamed of themselves for having invested in a company that finds itself on sort of the wrong side of the law. Instead, it was like, it's more expensive to conform to the regulations. They're not conforming to the regulations in all cases, in The Capitolist's opinion, and so the costs are going to go up in the business characteristics are going to be less attractive just for that reason.
So while I think the Capitolist made some headlines around that kind of discussion, I'm not really sure that it was actually that sensational an argument, which I think is interesting.
DS: Okay, fair point. I also think that the headquarters bit is kind of funny just because it's just kind of -- it's just one of those sort of, I don't think it's actually that important, but it is just a because I think the deal was that theydid a issuing, did they doing a secondary offering, anequity offering to buy their headquarters at a really high price. And that's just -- yeah, I don't know, it's just a little bit curious.And maybe that's where we loop back to where we started, that an insurance company is a financial company. And so you would expect decent capital allocation of a financial company because that's what they do. They deal with numbers. And maybe that's ultimate proof that Trupanion is not an insurance company because that seems like a crazy capital allocation decision.
MT: Yeah, let's just quote the article real quick, because I think it’s put in funny terms by our author here.
Okay, here it goes. In June, the company priced a $60 million secondary offering at a 20% discount with the head scratching use of proceeds of buyingitsSeattle headquarters building unlevered at a 3.5% cap rate. Additionally, only 10% of the value of the building can be treated as an admitted assets for insurance company regulatory capital. So management is effectively selling $60 million of stock and investing $10 million of that in investment, that proposed to have a customer lifetime value of 4.5 times customer acquisition costs, et cetera, et cetera, at a yield of 40 basis points over a 10 year treasury bond.
So yeah, basically, like you said, that seems just like poor capital allocation decision making. And I think it ties back into this idea of a charismatic, interesting CEO. I'm on the Trupanion story page right now. Darryl, the CEO, Darryl Rawlings. He tells the story and he says, I had apet. But we didn't have enough money when I was young to save the pet dog, Mitzi, and it broke his heart. And then he tried a bunch of other sort of businesses and career paths,but never felt content.
And at the same time, he had a pet, he was working at his first company, a cigar business when he finally found his true calling, which is to found Trupanion. So I think in that story, I don't hear -- that's not a sort of Warren Buffett type figure orAjit Jain, I want to say from Berkshire.
It's not some sort of Master of Finance and Risk Adjustment and Underwriting. This is a person who has a great story, a compelling narrative and is effective at starting companies. Is that going to be -- that's where this headquarters purchase comes in. That's a different skillset from sort of insurance underwriting, which is dorky and very price-focused and price-sensitive. And I get the sense that this company operates more like a startup. And so if that disconnect is important, and if pet insurance is more like regular insurance than it is like Software-as-a-Service, then that's these capital allocation decisions are going to make a big difference as to how competitive Trupanion is as a business in the long run.
So I think it's a cute story, but I think it also says something kind of about the overall story here, what kind of business is Trupanion.
DS: You know what you can say though, for Darryl Rawlings, really has fur in the game.
MT: We’re leaving that in.
DS: I couldn'tdeliver that without laughing, nuts.All right, I think we should leave it there. They are a SaaS…
MT: I'm not prepared to continue.
DS: There are a SaaS company because they act like a SaaS company and they lose money. I think that's our conclusion.
MT: Wow.Much like your cats were really coming in for a solid landing here.
DS: The thing we learned about with cats is that when they fall from such a height, they spread their legs out, and it's like wings and it kind of slows them down.
MT: Oh my gosh.It's -- I might be having too much fun with that story, but I like it. Okay, so I'm bearish on Trupanion. You're not so sure.
DS: I want to invest in it in at a quarter of the price probably. But I think it's a -- I think there's -- I'm sympathetic to the case that there's a companyhere that has, like I think it'll -- I don't know, I think it'll probably continue to grow. I think it'll the company itself will be fine. I think the stock is overvalued, which you can say about a lot of companies. And so I don't know, it's not, I’m not sure what the catalyst will be for a short case to play out in the near future.
MT: Yeah, that's a good point. And if we buy the sort of thing that it's going to get harder for them, but they may continue to grow, then maybe this is not very much of a short. So all right, I'm updating my base expectation based on this discussion, so that's always good.
All right, Daniel.
DS: All right, Mike.
MT: Have a great weekend, man. I'll talk to you soon.
DS: Thanks.
MT: Bye, bye.
