It has been a scary move this year to bet big on small-cap growth stocks, but careful stock selection has played out well for a few choice names. Amid extreme market volatility, Lemonade (NYSE:LMND) – an insurance company that sells policies exclusively online and is targeted toward younger millennial customers – has surged more than 30% this year.

Gains picked up steam after Lemonade released Q1 results in early May. The company has not made improvements to its losses, but also grew premiums faster than expected and boosted its guidance for the year.

The bull case for Lemonade remains vibrant

I remain incredibly bullish on Lemonade and its prospects as the company looks to upend the insurance industry with its simple policies, low and customizable premiums, and limited corporate overhead.

As a reminder for investors who are newer to this stock, here is what I consider to be the key bullish drivers for Lemonade:

• Enormous growth rates showcase the largesse of its market opportunity. Lemonade is nearly doubling its revenue on a y/y basis. And though the current market is very nonchalant about impressive growth rates, to me, this shows a business that is still very much in its nascency and able to scale to much greater heights.
• Lemonade is the new way to buy insurance. Gone are old-school insurance agencies and insurance agents; nowadays, just like everything else, we buy insurance online. As the new generation of tech-savvy millennials and younger cohorts dominate the consumer base, insurtech vendors like Lemonade will gain market share versus their legacy counterparts.
• Building a full insurance flywheel. When it started out, Lemonade just offered home and renters insurance. Now, the company is also offering bundles with pet insurance and car insurance as well (the latter through its acquisition of Metromile). Perhaps in no other industry is diversification more vital than in insurance, so Lemonade’s ability to continue growing into other insurance streams will be critical to its success.
• Loss ratios are set to improve. Lemonade is already on a positive trajectory for loss ratios, driven by both increased scale as well as efficiency of its AI bot for paying off small, legitimate claims. Progress toward regulatory approval for rate changes will help to accelerate the trajectory of loss ratio improvements as well.

Guidance increase; AI innovation

Other current events that investors would do well to know: first, the company raised its outlook for FY23 alongside its Q1 earnings release:

Revenue is now expected at $392-$396 million (53-54% y/y growth) versus a prior view of $375-$379 million (46-48% y/y growth); while in-force premium is now ranged from $700-$705 million (11-13% y/y), up $5 million from a prior view of $695-$700 million. Perhaps what investors reacted to most positively: adjusted EBITDA losses are now significantly slimmed down to -$205 to -$200 million, a $40 million improvement versus -$245 to -$240 million previously.

The second tidbit investors are reacting positively to: in its Q1 shareholder letter, Lemonade noted that it has already identified hundreds of processes that generative AI would help to automate as part of its business – accenting the notion that Lemonade is leagues ahead of its legacy insurance industry peers and that AI may help to drive down the company’s cost structure over time:

In contrast, Lemonade was built for this moment. Eight years ago, at our founding, we made a bet on chat interfaces, AI and bots. We posited that if we built our company atop these technologies, as they advance, our structural advantage would grow in tandem.

We architected our company accordingly: our pricing is the product of machine learning, our knowledge base is stored in vector databases, our tech stack is API based, ours is an engineering culture, and we sell almost all of our policies and assimilate almost all of our claims, using chat and AI. Generative AI, in short, is not a course change for us – it’s an accelerant along the very course we set at our inception.

As to the impact of generative AI on our business, we will share specifics in time. For now, we want to highlight our assessment that in the coming 18 months we expect to see meaningful savings in our cost structure. We have identified over 100 business processes that generative AI can automate and improve, and prototyped dozens of them already.”

Q1 download

Let’s now go through Lemonade’s latest Q1 results in greater detail. The Q1 earnings summary is shown below:

Revenue grew 115% y/y to $95.2 million, beating Wall Street’s expectations of $88.2 million (+99% y/y) by a wide mile. The company’s key metrics, in turn, are shown in the chart below:

The company added 49k net-new customers sequentially to end at 1.86 million total customers, up 23% y/y. Average premium per customer, meanwhile, has slid up 26% y/y to $352 – a function of Lemonade’s cross-selling “flywheel” continuing to play out as the company bundles its insurance products across home, pet, and car insurance. The company notes that annual dollar-based retention improved five points y/y to 87%, marking a new all-time high for Lemonade.

This, in turn, has helped Lemonade’s in-force premium grow 56% y/y to $653.3 million, a $28 million sequential add (and at this pace, we find it difficult to believe that Lemonade will truly end the year at only $700-$705 million in IFP).

The company has also done a fantastic job at lowering its loss ratios. Gross loss ratio improved to 87% in the third quarter. When excluding all large catastrophic events (“ex-CAT” in the chart below), loss ratios of 72% improved seven points sequentially from Q4:

Lemonade also slimmed down its adjusted EBITDA loss to -$50.8 million, representing a -53% margin versus -130% in the prior-year Q1.

Key takeaways

Soaring revenue and in-force premium, high customer retention and solid customer growth, diminishing losses and the potential for generative AI to automate more processes and improve profitability – it’s clear to see why there has been momentum in Lemonade stock over the past month, and I think there’s more upside ahead. Stay long here.