Trupanion, Inc. (TRUP) Earnings Call Transcript & Summary

Okay. We're going to get started. Good morning, everyone, or afternoon or maybe evening, depending upon where you are joining us from. We have folks registered from all over the world. So that's really cool and exciting. It looks like we have several of you joining us this morning, so thank you. We thought it would be helpful to start today's meeting with a brief history and reminder of the purpose of this meeting. I believe this is our fourth or fifth year hosting an investor Q&A around the Berkshire Hathaway Annual Shareholder Meeting. And while the format of this year's event is a little bit different, the intent is the same, and that is to leverage Berkshire to connect with other like-minded, long-term focused investors. We're excited this year to have additional members of our executive team join us, and I will have them each introduce themselves in a few minutes. But first, I thought it would be helpful to just review a few of the logistics for today's meeting. As in prior meetings, this is an entirely Q&A-focused format. Active Q&A is what helps make this event successful. So we hope you've come prepared with questions. If you do have a question, please raise your hand. You should see a button right in the middle, lower middle portion of your screen, a raised hand. If you can please do use the quick chat function to let us know that you do, in fact, see that raised hand button, that would be super helpful. Great. Perfect. So when you have a question, please raise the hand, then a couple of things will happen at that point. I will upgrade you to a panelist. And what this enables us to do is actually have you share your video onscreen. We would love for you to be able to do that. That will allow us to have somewhat of a face-to-face conversation. Of course, if you don't feel comfortable, no worries. Secondarily, the less preferred option is you can use the Q&A chat box -- or the Q&A box there to ask your question. If you submit a question, I can read it to the executive team. And then for the chat feature, please use that only to make a comment or if you have technical difficulties, you're having trouble hearing one of the participants, but please don't submit your questions there. It's harder to monitor those. A final note on technology, sometimes it works well, sometimes it doesn't work so well. So we thank you in advance for your patience. And I think that sums it up. So with that, let's get started. And we're going to go around the room and have each member of the executive team introduce themselves and tell you a little bit about what they do. And I'm just going to start with the upper right-hand portion of my screen. So Tricia, do you want to go ahead and tell the audience a little bit about what you do at Trupanion.

Hey, everyone. I'm Tricia Plouf. I'm our Chief Financial Officer. So I oversee really all -- everything financial at the company. And specifically, I look after the finance, technology, claims and analytics department.

Great. Margi, can you please let the participants know your role?

Yes. Hello, everyone. Margi Tooth, I'm the Chief Revenue Officer at Trupanion. I look after the activities that really get us into the market. So when we think about our lead generation and reaching the puppies and kittens, how we convert them and then, ultimately, how we service them as members of the company.

Thank you, Margi. Gavin?

Hey, everybody. Gavin Friedman. Thank you for joining us. I lead our legal and regulatory team as well as our human resources function, which we call people operations.

Asher?

Hey, everyone. Asher Bearman. I'm the Chief Strategy Officer, and I run or oversee most of our strategic business initiatives, business development, those types of things.

Darryl?

Hello, everybody. Thanks for joining us. Super glad to have the Berkshire show in a couple of hours. I'm sorry that we didn't get a chance to see it before this so that we could make comments about it but excited that people have logged in. So CEO and Founder of Trupanion and work with these great people to try to bring the dream alive.

Okay. Well, with that, we can open up the Q&A portion of the event. So please go ahead and raise your hand if you have questions. And like I mentioned, we will upgrade you to panelists, and we can start to build the queue. And maybe while we wait, we can start with Darryl. Can you give maybe a quick recap of -- we just reported quarterly earnings, so any highlights from the call.

Yes. So first of all, we've been working remote since about March 2. So we have -- we're a little bit ahead of the curve for a lot of people in North America. We went to remote workplace because pets continue to get sick and injured regardless of economic cycles or what's happening in the world. We know that we need to be able to support them 24/7, 365, and it was really important that our team members were able to service our clients. So we have been kind of living in this world of Zoom. We do a lot of all teams-hands Q&A, and we -- our custom is being able to stare into the screen and wait for questions, so we're hoping this is going to be really interactive. So with that, I'll wait for some Q&A.

And it looks like we have [ Rob ] who has joined us and will ask a question. So [ Rob ], you should be able to go ahead and unmute yourself.

Everyone, thanks very much for doing this. This is awesome. I brought my dog here as well, my research assistant. So I thought it's super interesting in the letter, Darryl, that you wrote about how kind of your spending on conversion has gone from very little to 50% of the marketing spend as of today. I think we all understand where the competitive advantages you have on the lead generation through the Territory Partners and stuff. Maybe you can talk a little bit about whether you see any kind of competitive advantage also on the kind of conversion side of things.

Well, I'll start answering this, and then I'll hand things over to Margi. But we believe that -- a lot of people in the marketplace believe that Google is a lead generator. And I'd like to point out to everybody that the founders at Google have never knocked on the doors of any pet owners and said, "Did you get any new pets this week or this month? Have you thought about getting medical insurance?" They don't -- online is not a lead-generation tool. It is really a conversion tool. Where lead generation really happens is when somebody initiates a conversation or educates a pet owner or a new pet owner about the need to help budget for if and when the pet becomes sick or injured. And we think that we've been really -- with our partnership with veterinarians driving the majority of the lead generation in North America. And we think we've been doing that for a number of years. The lead side of our business is actually quite efficient. If you think about our Territory Partners and the roles that we have and if you look in the shareholder letter how we talk about the number of active hospitals and same-store sales, the number of leads that come in is almost like a group of vending machines. They're quite predictable. I think it's one of the underlying key values of what Trupanion has. But when the leads come in and somebody says, "Yes, I'm interested to learn more about Trupanion," or "I want to learn more about high-quality medical insurance for cats and dogs," and then people will often go into a research mode. The best path is if they call us directly because then we're able to answer the direct questions that a pet owner may have, specifically for their breed or for where they live or if they're first-time pet owner or if they've experienced low-quality pet insurance in the past, whatever their issues are. It also gives us the opportunity to have direct conversations and say who else are you looking at or is there anything else you're interested in, so that we can give pointed answer and comparisons. We are really good at converting on the phone. So we actually have the built-in content to be able to differentiate and communicate the values of Trupanion and why you'd want to get it, not just now for your new puppy and kitten but to keep it for the life of your pet. But when it gets into the mobile arena, when people start looking online or on their cell phones or their iPads, that is where there's a bigger challenge because all of our competitors have a page that has a bunch of checkmarks that say they're great. And nobody is going through and actually reading people's policy wordings. So it is our job to kind of be able to articulate the reasons why somebody wants to enroll with us. And we think that strategically, that's a very important role for us for the coming years, and we've been investing more and more money into it over the past 3 years. The underlying -- how does somebody win in this area? If you're the company that has, on average, the highest ARPU, and you've got consistent margins because you're pricing accurately, that you're at full operating scale and that you keep people longer than others, then you're going to have a larger stream of cash flow. And that larger stream of cash flow is what you can spend against to get your internal rates of return. We believe that our model, and particularly the scale that the company has generated over the last 4 or 5 years, allows us to invest a greater allowable PAC spend while getting very high internal rates of return. And that gives us a position for me to hand a bigger money or bigger budgets to Margi so she can build out teams to say how can we go after and convert as many pets that we're able to. And I think the company that has the highest allowable spend there is ultimately going to have a big advantage. Margi, do you want to add some color?

Yes. I would just -- I mean you said everything. Well done, Darryl, you said everything that I would say. Now the -- I think when we think overall about -- [ Rob ], sorry, it's good to see you. The competitive nature of kind of where we have the head-and-shoulders advantage over many in the need space, definitely, that helps us when we do dovetail into the conversion side of things just because those needs are coming to us with the puppies and kittens. It's an easier message to frame. Sales teams, to Darryl's point, are exceptionally good, better than anything that I saw in the U.K. as well in terms of the conversion rates there in an even more heavily penetrated market. I think the other advantage that we have in the lead and the conversion coming together is we can see where we can put in more of those conversion tactics that Darryl mentioned. So if we're thinking about TV, we're thinking about PPC, we can overlay them with a lot more of a granular level of detail than many others because we can see that full visibility of the lead coming through, too, which will help us to drive more efficiency through those channels. So we're getting a lot better at conversion. And to Darryl's point, we're certainly testing an awful lot more than we need to test in the need space. But our fine sales team is really kind of the key to what we're seeing there in terms of growth at the moment.

So is it fair to say then that a large part of the spend on conversion is through the phone sales as opposed to kind of remarketing on Facebook or other sort of online channels?

No. It's really about how do you make it compelling enough to get the conversation happening over the phone because most people -- you've got to give them a reason to do it. And it's very easy. I think kind of a lot of it's around content, relevancy of content. Yes, there's still all of the usual channels that everybody else uses, but it's about making the most of that lead as it comes through the software to ensure that we're able to capture them at the right time. So it's across a myriad of tactics, some of which should be online, some off-line and a little bit into our phone sales team, but that channel is really efficient for us.

Thanks, [ Rob ]. Reminder, please raise your hand if you have questions or you can also leverage the Q&A box.

All right, everybody. I know you're logged in, so ask your questions.

Okay. The next question is going to come from the line of Josh Tarasoff. Josh, you can go ahead and ask your question.

Josh, I think you're on mute.

Great to see everyone. I'm just curious about our TPs. Like, how are they doing? How are they responding to this? How has their lives changed? And what can we do to support them?

Well, the Territory Partners -- over the last 20 years, I've made over 1 million face-to-face visits with veterinarians. In a typical year, they're going to have a call cycle of 5 to 6 visits per hospital per year. And with COVID, that's probably going to be deducted by 1 or 2 visits. But because they've had such long-term relationships, particularly with our active hospitals, they were very easy to kind of convert or switch to phone, e-mail, text, Zoom, lunch and learns. We have the ability to upload and train our software remotely. We've been able to do that for several years. So I think it's just a little bit of a change in behavior. Obviously, we will be thrilled when they're able to make the face-to-face visits because, as we know, you can't duplicate it. But I don't think -- the first couple of weeks, the veterinarians were not really answering their phones because they were trying to figure out their staffing, how to move to curbside check-ins. But what we've seen over the last 3 or 4 weeks is they've really started to normalize. They've realized that pet owners, sick, injured or wellness, need to come to the veterinarian. They've always been a central service, and they're just starting to get into the rhythm and the flow. So I think it's been super helpful. On the flip side, I think it's given the Territory Partners a better appreciation of what our account managers are doing. So our account managers are basically inside sales, and they're contacting the veterinary hospitals multiple times between a Territory Partner visit. And I think there's been a good appreciation there. I mean I think like all of humanity around the world, we're all figuring out some of the pros and cons of being quarantined, and there's a bunch of each. We all know that our neighbors are more engaging when we walk down the street now. We all know that although there might be some getting used to having family members around so much, that we're all sharing things in a different way. And I think the Territory Partners and the account managers are able to increase the dialogue. So I think there'll be a lot of learnings that will come out of this. I was talking to a Territory Partner yesterday who had some real remote clinics, and I said, "You're going to still keep driving 5 hours to a few of those remotes, so you're going to incorporate some more Zoom calls because they are being quite effective."

That's good to hear. Are you hearing any -- what are you hearing from their perspective? I mean I could imagine that they just have a great sort of access to the front lines on what's happening in hospitals and clinics. And I'm just curious about the intelligence that we can glean from that.

Margi, do you want to handle that?

Yes. Josh, good to see you. So yes, we're hearing a lot of the -- we're knowing early when people are opening back up again. So they've got -- to the point of that trusted relationship, they're being called on to help with some of the administrative tasks that would otherwise be happening in the hospital when vet techs or receptionists have gone off sick or they're worried about they've got family, they can't deal with it. So it kind of -- it's really strengthened the bond and relationship between some Territory Partners and their associates in hospitals. And then they're just kind of giving us more of an indication of what are the types of cases that are coming through. They're getting that -- they're having that conversation daily. They're looking at how can we help facilitate and make it easy for them when they're doing curbside pickup when their pets really kind of -- you don't know what's happening to your pet. It's gone into the hospital, and you're left there within the car. So really kind of helping there with messaging and supporting us when we get that type of data, what do we do differently, what's our price is going to look like. So they're eyes and ears on the ground for us as always. It was very interesting, to Darryl's point, initially in the first 2 weeks, they couldn't deal with phone calls. They wanted to have text messages. They still wanted to hear from us. And now they're really appreciative of the fact that when -- in areas where clients are not able to afford, they're really struggling with their finances now, that veterinarians are really starting to understand and appreciate the value of something like direct pay. For them, it's kind of -- there's been a lot of lightbulb moments that have gone off recently with people suddenly acknowledging, actually, my client now cannot be out of pocket, there's no question of it. So that's kind of the early stages of what we're starting to hear now that they're opening back up again, is kind of the ramifications of what does it mean with that person out of work for so long, which is really good. And I think kind of the appreciation of that account management and Territory Partner, it helps to just really keep that flow going in communications. So we're looking at adjusting some of the things that we would otherwise be doing or saying to dovetail into the market based on the insight that we get from them.

And I think there's another area that we should kind of bring up, which is when we started to bring in account managers, it was -- one of the goals was to really speed up our ability to communicate to the entire veterinary world in North America quickly. Years ago, if we wanted to get a message out, we had a product advancement change or a feature or a new level of service. In essence, it would probably take about 3 months, start to finish. We'd have to have some moment of being able to let the Territory Partners know, train the Territory Partners. They go through their call cycle, and we would -- 90 days later, ready and able to communicate to all our hospitals. When we started bringing in account managers, one of the goals was is that we could communicate quickly. And what COVID has taught us is really not only to be able to leverage account managers but to be starting to do more kind of video chat and webinar content. We've had about 3 webinar contents that was brought together by Steve Weinrauch, and he -- well, we were early on communicating about are we seeing anything in our data about COVID or is this going to affect the pets, and we were trying to work with veterinarians. Well, we were getting -- Margi can tell me if I get the numbers wrong, but we were getting 12,000, 14,000 veterinarians logging on to our webinars. If you think about historically, and if we went to a trade show, we would be thrilled if 100 veterinarians walk into a conference room. I mean that would be an amazing success. To be able to talk to 12,000 at times and then do another follow-up and get 14,000 a week later, it's really kind of an area of learning. So we are definitely in lemonade mode with COVID, we are squeezing them and adding sweetener, and there's a lot of good learnings.

Yes. I will answer that as well, Darryl. One of the things kind of to really show that mushroom effect to the relationships we've got because the hospitals are desperate for content and they're desperate for content that's relevant and current today. And with the market changing so quickly, when we have that information cycle that comes through from TP nation, we're able to put that into effect very quickly. So our latest webinar, I think it's got 170,000 people who have viewed it. When we push that out to the hospitals, to show the snowball effect, you went from 28,000 views to 72,000 views with a 12 -- within a 12-hour window. And that's based on the fact that our hospitals are getting that content, and they are sharing it everywhere. They need that content for their clients. And that wasn't even about facing one, but they're leveraging Trupanion because they know that we've got the level of data that they need that no one else has got. And Steve has done a fantastic job of really corralling the industry together to create a forum that isn't just our voice, it's a voice that everyone needs to hear that's giving them facts and data that isn't otherwise available. So that's been a really helpful part of this process for us, too.

Okay. We have the Q&A box building, so I'm going to take a few questions from the box there. However, to encourage you to raise your hand and join us on camera. People who raise their hands will be given priority. So with that, we'll take a question from [ Chris Ballard ]. [ Chris ] asked what sort of pandemics have taken place in the past with animals, whether in the wild, domestic or livestock, and what sort of animal-based pandemic would give you the most fear and what sort of chance would you give Trupanion on being able to survive such a scenario.

Great question. I'm going to answer the pandemic part of it in kind of twofold. One is if there was a mass pandemic that caused death to all pets, we're not life insurance, we cover accident and illness. If we played out a scenario where COVID had the type of effect that it's had on humans to pets, I would have told you that this would have been the biggest time for this company to shine. The ability for us to actually respond to the clients to be able to pay for them quickly, to pay in seconds, none of these would have been preexisting conditions, we would have been using our ability to pay directly. We would have been -- if you think about Katrina, most insurance companies were running the other direction, and there were a few that were running to it and saying we're here to support you, that is the role for Trupanion. In the very early days, we were saying let's get ourselves ready. One of the reasons that we moved to a remote work on March 2 is we wanted to make sure if there was a surge of concern that we were able to support the members. If it was an extra $20 million, $30 million, $40 million of payout, it would pale in comparison to the branding and PR that we would have gotten if this became a pandemic that really affected pets. If you look at the pure numbers on the human side, on the human side, in North America, for example, I think we just passed 70,000 deaths. And if you look at that compared to the 300 million people and if you look at the total number of people that have been hospitalized and the treatment plans, it is actually a relatively small medical impact. I'm going to give you another example, which is not a pandemic, but it was the closest thing that we've seen in the last 20 years, which was, in 2007, there was a big pet food scare. And there was melamine that was getting into the raw ingredients for pet food being manufactured in China, which, at the time, was a big percentage of the food. It had a very, very minimal impact on the total costs that we're paying out. It's something -- when you think about Trupanion, our clients, our pets, are geographically dispersed. They're of all ages, they're of all breeds. People are eating different types of foods. So if we were to see something like a pandemic become a big issue, I think we could just be leading from the front and saying we're here to support all of them. I think we would be on the front pages of newspapers. We would be on talk shows. We'd be getting the message across. And I think the team has done an amazing job with COVID so far in that it hasn't turned out to have any material impact. I think there's been 6 or 7 pets worldwide that have been tested positive with COVID and with very little medical concerns related to it. But maybe the incubation period is longer, maybe we'll see more of that show up in the next couple of months. And if that happens, we'll be here for the members.

Great. A question from [ Dennis O'Kane ], how has telehealth capabilities been utilized during the stay-at-home environment by your vet partners? And what does that mean for Trupanion? And do you see this as being relevant for the future?

Well, telehealth is interesting. And I've had -- there's been quite a number of conversations about it. I would tell you that telehealth for veterinary medicine was, prior to COVID, being very slowly adopted. I think the adoption rate has definitely increased because of COVID, and I think that is a very good thing for consumers and for veterinarians. But I don't think it's going to have the same impact as it will on humans. When we use telemedicine to talk to our doctors, we are able to articulate to them what's wrong. And for veterinarians, that's a much bigger challenge. I think for rechecks, for an ACL recheck to make sure that the dog is walking okay, they can watch it on video. I think there can be a lot more client communication. We are seeing more of an uptick of it. The clients seem to be loving it. The veterinarians seem to be loving it. But I don't think it's going to be able to replace the veterinarians being able to get their hands on the pet. The reason that veterinary medicine has a very higher need for diagnostics is because vet -- our pets can't communicate as well as we can. One of the few things they can't do as well as we can. So I would say coming out of this, we'll see more of it. It is really efficient in the delivery. But we're not here to ever dictate to veterinarians how they treat their clients. We're here to just make sure that we understand how to budget and pay for it.

I'll just add to that as well, Darryl. When we're looking at a lot of the hospitals, we're working with the partners, they're talking to us about how it's been becoming a very helpful tool. Many of them are using Zoom, so they haven't got sophisticated, say, medicine setups in their hospitals because they were caught off-guard with this like so many. And they're using it as a way to get that pet back in the door if they need to. So they're telling people, "My door is closed. I'm here if there's an emergency." And sometimes the pet owner is just isn't sure, "My pet seems drowsy. My pet seems a little bit off color. Can you have a look at it and tell me if I should come in." And 9 out of 10 times, they're saying come in. But just to kind of give their clients that reassurance. They're trying to do what they can for their clients at times when they have to have social distancing. So it's been a really useful tool. And the couple of vets that I've spoken to over the -- several vets that I've spoken to over the last few weeks, they're not necessarily inclined to continue to use it because they want to have that fine interaction, but they love the fact they can keep their client relationship strong during times when they need it.

Okay. We have a question from anonymous. And it's a rather detailed question about the DCF, so I'll read it slowly. It seems growth in subscription pet number has slowed to 15% from about 30%-plus 5 years back. In your annual letter, there is the DCF model out to the year 2023. The pet number and the DCF assumption grow at quite a healthy rate out to 2023. What allows us the confidence to believe that subscription pet growth will stabilize here at 15% and not continue to decrease especially once ARPU starts to get over $70 a month. Thank you, support you guys.

Well, thank you, person with the very long name. One of the underlying areas that give us confidence of being able to have sustained and consistent growth is the fact that ARPU does increase. The cost of veterinary care is trending -- has been trending 5% to 6% year-over-year, which is outstripping the ability for people's savings. So general inflation is much lower rate. The demand and the need to budget has been increasing because it's outstripping the earnings or the take-home or discretionary income that people have. They certainly are able to budget for it with us, and we've seen nothing from our retention rates or our conversion rates that people have any unique price sensitivity. But the higher ARPU, when you're maintaining a consistent margin means that streams of cash flow that we generate become larger and larger. Tricia has done a really good job transitioning our financials to be showing our lifetime value minus our fixed expenses. So it's much more wholesome, and you'll see year-over-year how that's been expanding. That's the underpinnings of how much we -- the cash flow that we're going to generate in the future from a client. And when we're able to invest more, and we're able to invest more than we think our competitors are able to do consistently, and we have a very stable and consistent lead source, and our value proposition is not going down but, if anything, going up to the consumer, and our customer experience of being able to pay directly, those are all the underpinnings that, I believe, we can grow consistently in the future. We also have the opportunity, as the category has grown in the last couple of years consistently, that other channel opportunities are being presented to us. So when we consider subscription, we're talking about today the Trupanion brand and where we bill a consumer directly. There will be opportunities in the future for us to be able to have non-Trupanion brands maybe on low-ARPU or medium-ARPU products that we can distribute maybe online or in other places to the consumer. They certainly won't have the same retention rates. They certainly won't have the same ability for us to spend the amount -- same amount of money as we would on Trupanion subscription because of retention and ARPU, but I think we've got a lot of levers for growth. As a reminder -- and hopefully, the shareholder letter and the DCF kind of outlines the levers that we have, but the number of active hospitals recommending us is our first lever. That's been our growth lever for years. The second lever we have is same-store sales. And you can see in the last couple of years, we're starting to make progress there. That's mainly been driven around getting our software and the account managers. The third area for us is the ability for us to add similar-type products into the marketplace, not under the Trupanion brand but under other names. The next lever is to be adding noninsurance products to the mix of our existing clients. And then the last one is almost kind of a refresh from the beginning, and that's adding international expansion where we increase the universe of the addressable market. So between the fact that we can spend more money, the cost of veterinary care is going up, we have very high retention rates, we're able to pay the hospitals directly, those are all the underpinnings. To do that -- I've got great confidence in the team. We will have years sometimes where we grow a little faster; in other years, we grow a little slower. Ultimately, a lot of people really concentrate just on pet. We're looking at active stores. We're looking at a number of pet owners. We're looking on revenue and cash flow. You can't spend the PAC to grow the business. You have to spend the margin. So we feel confident. Trish, I don't know if you have anything that you want to add to that or anybody else.

No. But I think Darryl covered all of the key points. The thing I would maybe reemphasize is back to [ Rob's ] question at the beginning of this, which is the thing that gives us more confidence when we're building out DCF or looking at opportunities, I mean we lend out our model so that everyone would understand the levers. Internally, we do a lot of scenario testing with the model, looking at different ways to deploy capital and help make -- if all things are equal, except these 2 different options, how could we weigh that into our decision-making process because things we do today with the recurring revenue model has impacts for up to 20 years the pet can stay with us. So we feel the model is very helpful in that regard in addition to the overall valuation. But getting back to what I was going to say earlier, in working up the numbers and stress testing them and figuring out if they're reasonable, having allowable PAC that grows each year, which allows us to capture more opportunities out there, gives us a higher level of confidence that we could achieve those numbers. As we were scaling PAC in the outer years and then putting forth higher PAC numbers, I think the confidence is -- I, personally, and I would think others, would have less confidence that that's achievable as we want to go and expand what we're doing. So that is one of the things we looked at when we were modeling out PAC assumptions because PAC spend and revenue and PAC growth is obviously very linked.

Let me just add another kind of layer on top of it. People ask me frequently what keeps me awake at night. It's not the size of the market. It's not the strategy. It's not our positioning. What keeps me awake at night is our ability to execute, which is does -- do we have the right team, do they have the right resources. And let me just kind of hone into an area that Margi was talking about and talked about with Trish is we don't want to pay people market rates at Trupanion, we want to be able to pay people the most we can afford to pay. If we have somebody in the contact center that is answering sales calls and is really good at conversion and has very good retention, and let's say market rates for somebody in the call center was to pay them $50,000, but because of our allowable PAC, that person, these rock stars, these superstars are able to earn double that, we've just increased the likelihood that we're able to execute in the future. We're able to attract and retain the best talent. And that makes the managers' jobs easier. It increases the likelihood of success. And if you think about it on over a 5-, 10-year period of time, we've worked really hard to get margin expansion, to get to operating scale, so that we would be able to let people free to hire the best people, to manage in a way to give the appropriate compensation model, and that's really difficult to compete against. And it's not something that's obvious unless you really kind of dig into things.

Yes. Can I just add to that? An interesting stat that I always think -- that I think is a real testament to that fact is the way that -- we have a contact center of sales professionals, they convert really high. We have not lost one of those members of the sales team. They're in the contact center for over 2 years. And I've worked with a lot of sales teams. That's really, really unusual. And it's because we're able to continue to recognize the value of the individual and kind of what they're contributing across the board, not just that initial acquisition but also at the lifetime of that pet. So that's a good marker for me to know that we're getting some of this really right.

So my question is on return on capital, both of the other business and the subscription business. So I think that in your letter, you highlighted how the -- I think you reasoned about how the other business has a certain return on capital if you compare its margin to the reserved amount, and you had some comments about the attractiveness of vet. So the first piece of my question would be, are we at sort of steady state in terms of the return on capital of vet business? Or is there something more to come for vet business to come to scale? I ask this because I've seen that there was a significant improvement between 2018 and 2019 in this metric. And the second part of my question would be, is it -- would it be meaningful to make a similar analysis about the return on capital of a subscription business? And what would be the lead one to conclude in terms of attractiveness of these 2 sides of the business?

Thanks for the question. I'll hit it from kind of the top and then hand it over to Trish. But the Trupanion value creation and growth has been driven from not a balance sheet but from a P&L. It's based on cash flow generated and then reinvesting that cash flow at very high rates of return and being able to do it consistently year after year after year. The only reason we even had a balance sheet part of our business or own an insurance entity was because we wanted to have the lowest frictional cost we possibly could to enable the foundation of our subscription business, so we could give the consumer a better value proposition. And we're doing that, paying out right now $0.72 on the dollar. The balance sheet side, the other side of our business, shows up in a few ways. And I'm going to give you 2 examples where we have different goals. So we are doing employee benefits. On one side of employee benefits, we would like to be getting maybe a 10% or 12% bottom line margin. And that would be where we are going to a small-, medium- or large-sized business, and that business is paying for or offering Trupanion to their members -- sorry, to their employees. And I think maybe with some time that, that business, we might be able to get to those margins. We have another section of employee benefits, which has a completely different goal, and that is where a group of small businesses, they're called veterinary hospitals, wanted to be able to offer Trupanion to their employees, which are vet technicians and doctors, and they wanted to be able to do it in a way so those clients, their employees would not have a challenge budgeting for their pets. And as we all know, people inside veterinarians' offices are not earning the wages they deserve. Average veterinarian is making $70,000, $75,000 a year, and vet techs are making $20,000 to $40,000 a year. And these are people that love pets. We wanted to be able to help them budget. Now in that scenario, we don't need to make money off of them. I would be absolutely thrilled if every employee of every veterinarian had Trupanion for their own pets, and we broke even because I think it's the right thing to do. I think it's good for business. And in that scenario, we're looking at running at a 0% margin. Now I can't go in that business and subsidize it. So I can't be losing money. But in our other revenue, you've got 2 different sides with different margin goals. We have another part of the business where we deal with the federal government. That actually has good margins in it. It's similar to our subscription business. And then the last part, and the part of our business that's been growing the fastest over the last number of years of being the company behind other brands, and that is kind of your old, boring traditional insurance stuff. It is leveraging your balance sheet and your expertise, so people can go to market. And in that business, I would not say there is a good outcome for really strengthening that part of the business from a margin standpoint. I think it is a very lean margin business. I don't think it's very exciting. I -- on its own, it's not something that I would want to invest in. But when you add it on to what we are doing to the foundation of the company, it makes sense. It helps right now leverage our fixed expenses. We are making money off of it, although it's a tiny margin. It gives us more access to data. It allows us to stay focused on having the highest-quality product with the highest value proposition and not get distracted, and it gives us insight into what's happening in the industry so that we can see where we may want to expand and when we're going to other countries or expand other product offerings in the future. So that was a long-winded answer, but Trish, do you have anything to add to that?

I don't have anything new to say, but maybe I'll just high-level summarize. Within the 2 businesses, when we're thinking about profitability, the subscription business, our adjusted operating income, which is essentially EBITDA before sales and marketing, we're targeting the 15%, and we're at 13%. So we're really trying to drive 2% more scale long term and, obviously, hoping to do that as quickly as we can through pricing more accurately and then a little bit more scale in fixed expenses and then, obviously, being very disciplined in pet acquisition when we look at the overall returns when we factor in what we spend in sales and marketing. But when we think about profitability and returns and where can we drive scale, that's what we're focused on. In the other business segment, as Darryl mentioned, it's a little bit of a mix of business as well. So we're looking at things separately: some things in there that we expect to have a 10% profitability margin; in some, there will be less. One of the bigger pieces in that business right now is the underwriting of others. And that's based more on a net profit contract that we have, which are net profit -- as revenues grow, our net profit percentage decreases. So the margin overall has been trending down the last couple of years but still profitable for us. Underlying the other business segment is a lot of strategy. So there's profitability, and there's also learnings and strategies that go along with that, but that's how we think of the 2.

Okay. We'll take another question from the Q&A box. And this is from [ Nick Martin ]. Darryl, really appreciated the DCF intrinsic value illustration in the letter this year. When you think about the assumptions used, which ones do you think there is more uncertainty about, either positively or negatively? Which variables are you most focused on improving? And what are the key drivers of bringing down your assumed growth rate?

All right. Might need you to remind me with that multi-point questions. So let's start with what assumptions are in the model that have higher probability of going better or worse. I think at the core, a lot of the underpinnings on the growth is adding more active hospitals. And I think the trend rate over the last 3 years had been about 10%, 11% a year, something like that. I think that one has variability in it. I would tell you that March and April were probably not great months for us to be adding new hospitals. I think our Territory Partners and our account managers were doing a great job interacting with our existing ones, but it's hard to walk through the doors in the quarantine section. Do I think about that long term as being a challenge? Not particularly. We've seen many markets where we've been in the market for 12, 15 years where 70% to 80% of hospitals are actively recommending us, so we know that we can achieve that with time. We're currently -- active hospitals is a little over 10 -- around 10,000. We're visiting right now 22,000. We will be soon, within the next couple of years, visiting about 25,000. And based on historical growth rates of adding active hospitals, we know that we can get to, let's call it, 18,000. If we can get to 18,000, we've got a number of years of 10% growth ahead of us in just North America. We then have looked at expanding into Australia. So that's the first market where we've added potentially about another 2,500 hospitals. Right now, we're only testing in about 10. But I think we certainly have the long-term opportunity, and I'm not concerned about year-over-year growth of active hospitals in 3- to 5-year chunks, but there will be years where we grow faster or slower. Same-store sales is, I think, our biggest upside. I don't think -- I think we're just barely scratching the surface. I think we can go a long ways. But I will tell you it is the hardest thing to do. I think there's a huge amount of opportunity. So I would say those are kind of the 2 biggest areas on -- from a growth standpoint. I'd say the other challenge that we've had, and being frank, is we've done a very good job scaling our variable and our fixed expense, and we have done less of a great job pricing accurately to our target. Several years ago, when we were running about a 7% or 8% margin, being 1% or 2% off of our target really didn't have much effect on our margin, trying to get to 15%. We're now at a point where 70% of our miss to getting to our target is our ability to price accurately. And the challenge there, and I've outlined in the letter is, on one side, I really want to stay at that target. On the other side, I'm throwing headwinds to the company. We're putting in more of the software. We're doing more claims automation. We're -- we've got a lot of factors that make it difficult, and we also want to price more accurately and more granular. So I would say that, that one is probably the one that we have the risk of being -- moving the slowest. Now in the DCF model, it doesn't assume that we get better. The DCF model, we don't get credit for it until we get better. So you will see -- if you made an assumption, if you've made your own DCF model and you assumed in 2 to 3 years, we are at a 15% margin, you would see the value of the company go up dramatically. And I would say that not only would the value go up dramatically but it would mean that we would have more money to spend on PAC. And that increases the likelihood of us to grow faster. So one of our biggest inhibitors of growth is getting our margin. And as we've said before, on spending more on conversion and paying the teams appropriately, we see that as a competitive advantage. So I think that's the first part of the question, and Laura, I forgot the next one.

Yes. The second part of the question dovetails. You mentioned a lot of factors, but which are you most focused on. And then the last part of the question is what assumptions -- what are the key drivers of bringing down your assumed discount rate.

Okay. So Trish, I'll hand the discount rate to you. And Margi, maybe you can just kind of -- our DCF model has the building blocks to Nirvana. But Margi, why don't you just talk a little bit about our focus on Nirvana this year and particularly, as we saw the quarantine come up, how we've shifted.

Yes. I mean in terms of -- like you say, Nirvana is -- just to make sure everyone is coming from the same page, I'm sure you are, but when we think about our churn being offset by the ability to add pets through our friend referrals or through our existing members, acquiring new puppies and kittens, which is happening at a loving rate at the moment. So we really have focused on how can we adjust that today. This is something that's very much within our control. So looking at that overall member experience to ensure when someone is calling us with a question or someone has a concern, typically, it's related to a claim. When you have our software and it's paying directly to the veterinarian, that doesn't happen. So that is Nirvana. It's not a natural assumption to make that it helps Nirvana, but it's the biggest impact to it because it means then you remove any hassle for both the customer, the member, as well as the veterinarian. So that's a huge area of focus on one side of the business. The other side is looking at how do we ensure that when that person does come to us, they come to us in a way that they want to. So most of them want to call. But if they don't want to call, if they want to text, if they want to e-mail, they want to chat online, we're creating a number of different avenues where we can create -- we can provide the service in the hands of a member themselves rather than us dictating that. But answering the phone within 5 seconds, actually picking up the phone and saying hello, that doesn't happen very often in a member experience. That's an integral part of that, a really seamless member experience. Ensuring that we're providing lifestyle guidance with an amount of data that we have, we can really help people very specifically with their pet throughout their life. So looking at building out that from a catalog of your first month, your first 3 months with Trupanion, all the way through to the end-of-life stages, so ensuring that we're looking at every element of the Nirvana journey, say, from beginning to end, how can we segment it, how can we target messaging, how do we make sure that we are effectively understanding who is likely to cancel, who is likely to have a question about their coverage at any given point in time, using the people who are the brains behind our software in a different way to help us try and predict, through our intelligence teams, where do we see some needs for us to really focus. So we've increased our overall kind of ability to flex that muscle over the last 2 years, specifically in the last 6 months, a year to 6 months, we started to really ramp up our energy. The teams across the business are looking at how do we improve the member experience from a data perspective as well as from a systems point of view as well as content and everything that goes in between. So refer a friend, absolutely, always focusing on that. We know that there's no end to how many people you're speaking with. Especially today, ironically, in an environment where you're not actually physically with somebody, you're telling people, in situations like this, more avidly about Trupanion, it would seem, or anything. You're having more dialogues with people across the world that you would not be having typically. So that, for us, has been a big focus: adding pets, ensuring that the team is taking care of the pet owners, and the members are continuing to ask about puppies and kittens and then looking at their experience when they need us most. So it's kind of across the board for Nirvana. We've really amped up our focus and then renewal as well. I'd go to the point Darryl made a little while ago, people are not price-sensitive when they understand the value of the product that they're buying. One thing that I think we're starting to really get our arms around is when that rate renewal comes in, if there's an increase in their premium and they don't understand why, it's a great opportunity for us to reiterate that value to the member and doing it in advance of that notification going out as well. So we're working with the contact center teams to ensure that people have a dialogue, they understand it, which really helps because they bought the product in the first place with the confidence of knowledge that that's a good thing to do. And then when you can explain again why it's still a good thing, they understand it. They appreciate it. They're not looking for cheap. They're looking for value. And being able to really reinforce that through messaging and content is where we've been focusing.

I think everybody that's on this Zoom meeting is here because of the large underpenetrated market and the ability for a company to grow consistently with strong internal rates of return. One of the keys to our growth is people get so fixated on 2 terms: how many new pets did you enroll this month and what was the cost dollar amount for that -- each of those pets? And it's just a wrong math equation. At least looking at those numbers are interesting and you should track them, but what's most important is what is the total number of pets enrolled? It's -- because if you have the people staying with you, if you get to a Nirvana state, your ability -- first of all, the stream of cash flow gets longer. And if it gets longer, you could spend more money, and it helps you grow faster. And it's not the new pet. It's the net pet growth that really matters. And the only thing that offsets and scales is refer and add a pet, which grows as a percentage of book of business. Everything else and every other of our competitors have models where there is a finite amount of leads and what we're trying to do is to figure out how to consistently grow lead volume by adding stores and increasing the lead volume per store and have a bunch of tactics there. But Nirvana really is the underpinnings to have sustained growth rates over long periods of time. Trish, I think the other part of the question was discount rates.

Yes, I'll just touch on it briefly because I know we have quite a few questions. At a high level, we're careful about making changes to our discount rate. As I'm sure all of you know, small changes in discount rates can have very large changes on intrinsic value, so we don't want to be making changes. We're very careful about changes that add a lot more volatility to our model. That being said, we built up our discount rate using a weighted average cost of capital calculation, mainly cost of equity as the main component. And the one variable in there, there's about a 1.7% increase to the discount rate as due to small company risk. So over a period of time, that is one that would likely come down as the company grew, but I would expect the rest to be pretty consistent.

I would say, hopefully, one of the things that people should have seen over the last quarter, and I don't normally talk in quarters, but if you want to talk about the resilience of a company, is if you got a large underpenetrated market, what do you do in good and bad times? So I think many will see over the next year or 2 that, that blue chart that we often show in the beginning of the shareholder letter that has quarter-over-quarter growth, if you believe that, that is -- has a lot of resilience in it, then that should affect your own discount rate. We don't really care what the discount rate is because our goal of our DCF model is not to pick a value. What matters for us is based on a number of initiatives, what is the year-over-year change in value to make sure that we are adding 15%, 20%, 25% year-over-year growth in value to -- on a per share basis to our shareholders. So it doesn't matter what number spits out based -- we can lower the discount rate. It matters if we maintain it and keep it consistent, what's the year-over-year value that's created. And we'll leave it to the investors to make their own decision on what discount rate they believe is appropriate for the company. The other one that gets brought up is terminal rate. We have a terminal rate in there of 5%. I actually don't think it's justifiable. I think it's too low. If the goal of the terminal year is to have a flat pet growth, meaning, if we get to 5 million pets, we stay at 5 million forever, the rate of inflation with veterinary medicine is higher. You would actually have to be decreasing the amount of pets you have to only grow at 5% a year. So to me, the perpetual growth rate realistically should be at the rate of inflation with veterinary medicine, which has historically been 5.5% or 6%. And I would suspect over the next couple of years, probably would go out a little higher than that.

Thanks, Darryl. The next question comes from [ John Young ]. John, you can go ahead and ask your question.

I love your backgrounds. I have 2 quick questions. I'll ask the first one first. So according to your newest competitor, Pumpkin, their recent claim data shows that less than 1% of the customers who are filing over $10,000 a year for dog claim and $7,000 for cat claim. Do you also -- do you agree with this type of data? And if so, does it make sense to have a policy that is cheaper but has some kind of annual coverage limit?

It's a tricky question because if it was true that nobody needed it, then it wouldn't actually be cheaper. If you're saying that very few people go over $10,000, then making a $10,000 limit would not make the monthly cost cheaper. If it did make the monthly cost cheaper, it means that you -- the clients really need it. So I think they're looking at it from the wrong point of view. What happens when people enter the space is they have a set of assumptions of what a consumer is going to want. Our job with conversion is to educate people on what's important. It's educate that regardless what we are charging you for your pet, whatever breed you have or wherever you live, you're going to get the same underlying value proposition, and the value proposition you're going to get from Trupanion is higher than anybody else in a sustainable way. Now in the event that you want to offer a cheaper product, and it's something that I think there's a high probability that we will be testing with on a nonbranded, so non-Trupanion-branded way, in the future is how do you do it in a transparent way? The reason this one is half the price to Trupanion or to something that has good coverage is because it has these limitations. And if you as a pet owner are happy to accept these limitations and you go into it being fully aware, then you can make that educated choice. And if you choose to get it, that's fine. I can tell you that if we do, do kind of low coverage or medium coverage in the future, our goal will be doing it at the same value proposition of Trupanion, doing it in a way where the underlying value is still high, $0.70 on the dollar, but that we are able to transparently tell people why one is more expensive than the other and then let the consumer make their own choices. I will tell you our experience time after time after time is when somebody makes an educated choice, they don't want to have the limitations. The -- I've had a lot of people come up to me in the last little while and say, "I'm really surprised on the level of retention from Trupanion going in with COVID." And I said -- and they said, "You're one of the most expensive products in the marketplace. I thought you'd be hit the hardest." It's completely the opposite. The people who are choosing to buy the cheapest product, those are the ones who are most likely to cancel because they don't deem it to be really important to them or to their pet. They think about it as discretionary. But when you were saying this is really important, they are a family member, I want to make sure I want to have the coverage, and I want to choose the best, not a rip-off, but at the best value proposition, that is where you get the stickiest clients.

And can I add to that as well? John, just very quickly. When we think about the value proposition for the pet owner, when we look at the data currently with the average bill being under $10,000, one thing that a high value proposition allows you to do is not to have to come down to the financial choice. It's what's best for the pet. And that's what's different with a product that's actually got that high value is that you're not worrying about should I have an MRI, should I have a CT scan, what's best for my pet. Just like what's best for your family member on 2 legs rather than 4, you want to do the right thing. And so that data is taking less than 2% of penetrated people that don't have the option because they don't understand it. They don't realize it exists yet. So it's not like-for-like. If you look at the higher penetrated markets in the world, you'll see that, that number does increase because people can suddenly have their pets treated and hopefully live longer because they've got the access to that care. The cap doesn't give you that access to that care. It doesn't change -- you can put that on a credit card.

It's really interesting. When you think about people making buying decisions today for their puppy or their kitten and they might say, "Having a $10,000 limit is acceptable for my pet." Their pet may live for 15 years. Does anybody portend to know what the cost of veterinary medicine is going to be 15 years from now? If a $10,000 limit would have solved the needs for 95% of pet owners, fast forward in 15 years and that $10,000 may be only supporting the needs of 40% of pet owners. It's really important that -- this is not car insurance that somebody can change year by year. You need to make a decision and then keep it for the life of the pet. When people are going to change because they've been disappointed, it's too late. They now have preexisting conditions. So there are ways to create cheaper products, and the most important way is to do it in a transparent way. And that doesn't yet happen in the marketplace, and that's something that we will be working on in the future. We want to clearly provide swim lanes for the consumer to decide: do you want to be in the fast lane, the middle lane or the slow lane and you pick what's right for you? With Trupanion, we want to be in the lane that veterinarians want to recommend and for a responsible, loving pet owner, the one they would obviously choose if they had the information.

And my second question is Trupanion's -- they pay roughly $0.72 on a dollar. In your latest conference call, you spoke about the average industry of $0.53 on the dollar. If you look at your closest top competitors nationwide with Healthy Paws, do you think their payout ratio is closer to what you guys are paying? Or is it closer to the industry average?

It's an interesting question because often when you see companies that are growing quickly, it is because they're dramatically underpriced, and they might be temporarily paying out $1.10 on the dollar or $0.95 on the dollar, but it's not their desire. In this category, you should be very wary of a company that grows too quickly. Is it sustainable? So I -- my answer to your 2 examples would be different. I would say some of our fastest growers in the past have been paying out $0.80, $0.90, $1 on the dollar. And by the time their underwriter figured it out, they had to make dramatic changes by either limiting coverage, disappointing clients or going back and making dramatic rate changes. And we've seen that you can go through the list in the last 15 years of companies that were really aggressive growing quickly, and they last for 3 to 5 years, and you see them tail off. The other company you mentioned has been in the marketplace, and they've been kind of consistent and steady. And I would suspect that's just more lower loss ratio.

And Darryl, can I just jump in with something there? I mean, the fact that, John, you asked that question, Darryl, I think is one of the illustrations, why the -- what we call the model law that's been contemplated by different states, it's one of the benefits to that being enacted in the past, which we're a strong supporter of. Because if you think about it, right now, Trupanion is the only company where everybody, like you, you have complete visibility into the most basics of our performance, how much we're writing, how much claims we're paying, what the loss ratio is. And it's a big gap from a regulatory perspective as well as others. And I think if that law passes, everybody would -- you would know the exact answer to your question, and it's an interesting sort of benefit to that law passing. It's one of the reasons we support it.

And our next question is going to come from the line of [ Ben Seltzer ]. [ Ben ], go ahead.

So my question has -- it's basically 3 parts, but they're all around what happens when a member payment fails. Can you just generally describe what goes on there? Can you review why you kind of changed that cancellation when you actually cancel that policy from -- in Q4 and then you changed it back in Q1? And kind of the last part is just what's the kind of magnitude of bill payments been recently? Have you seen an uptick? And how might that play out into retention going forward?

Thanks, [ Ben ]. I'll let Tricia start and go from there.

Yes. I'll give a high level, and Margi can also chime in as well. This process kind of spans both of our teams, the finance and the customer care team. And I'm sorry to hear a screaming child in the background. My husband's starting to get nap time done by himself. So at a high level, when a payment fails, which is typically a credit card as most of our claims pay by credit card, there's a small percentage that pay through the bank account every month. When it fails through their credit card, it goes through a process of credit card retries every few days. Sometimes it fails through the expiration and those get automatically updated. And then we do some member outreach mostly via phone. We're experimenting a little bit with tech. And then right before we cancel the policy, if we haven't been able to collect it, we send sort of a final communication of, "Your policy will be canceled in this amount of time. Reach out to us if you want to continue." So to your point, first of, this had been in the past a 60-day process, and in Q4, we changed it to a 30-day process. And the main reason that we changed it to a 30-day process is because when we had a team, we added some people to really focus on this in 2019. And they really saw that the main time when a lot of the collection happened was on that final call to action, that final call of, "You are going to be canceled in 2 days, and here's the reason why you should stay with us." And so we found that a call to action at 30 days -- well, our theory was a call to action at 30 days when there's only one payment past due would be more effective than that final call to action at 60 days when there's 2 months past due. And so we believe that there would be improvements to our retention as a result of that. And so we put that process in place in Q4, and that's how we entered and essentially spent all of Q1. They're partially at our own desire, but partially because some states -- actually this is common. We've seen it before when there were -- has been wild fires in California for a period of time, that regulators will reach out in certain states and ask for more leniency on failed payments. And the majority asked for -- some ask for 30 days because that -- you can cancel bill payments actually quicker than that if you desire. Some ask for 60 days. There's a couple that asked for a little bit longer. We made a decision to extend that to 60 days. That happened at the very beginning of April. So going from 30 to 60 days, really, you'll see that kind of that first -- we'll see that first sort of come through during the quarter, so we won't necessarily have it standing multiple quarters. But I would say at a high level, I mentioned on the call that we saw about 500 incremental cancellations where people specifically mentioned COVID as their cancellation reason at the very end of Q1. We've adjusted our messaging, and we've seen strong retention entering Q2. When we look at our failed payments, we aren't seeing more failures on a daily basis than we would normally expect. I think the one thing that we're monitoring, and there's a bit of a range of outcomes, but none of them will go really unusual so far as we go through the credit card retry process, are we going to see more not be successful than we would normally expect. But we're not seeing anything overly significant there as of right now. So that [indiscernible] touched on all your questions, but that's the high-level overview.

Our next question is going to come from the line of Henry.

I just want to follow on, on something you discussed earlier, which is the change in the way you're working in a COVID-19 environment, the bigger take-up you've seen on your webinars, with the fact that your sales forces had to find a different way to engage with your customers. Am I right in saying that there are some cost benefits or efficiency improvements that you're seeing as a consequence? And if I am right, what are the chances going forward that costs may be removed or efficiency maybe improved on your way of working in the future once we've -- in other words, the lessons learned during this period is absorbed into the business, into your cost line and/or efficiency going forward.

Can I break that into kind of 2 buckets? I think there's the costs that are above our adjusted operating margin level, and they kind of go into 3 buckets. There is what we're paying back to the consumer, what it costs for us to service the consumer in a great way in our variable expenses and then our fixed expenses. It behooves us as a company to get as much efficiency on the fixed expenses and the variable expenses as we can, while providing a great experience to the consumer. And that, in turn, would allow us to target a higher payout rate while still hitting our margin targets. And as a reminder, margin targets 15% for the subscription. We're currently at 13%. I think we have definitely found ways with COVID, and I'll let Trish kind of go into this, where in our variable and fixed expenses, we are running a little bit more efficiently and you're seeing an example right now. We didn't fly to Oklahoma or Omaha, and we're not renting hotels. So I think that's another area. The other part of the question is efficiencies for our pet acquisition costs, and I'll let Margi talk about that after. But our goal is not to be more efficient and have lower pet acquisition costs. Our goal is to get roughly a 35% internal rate of return. And of course, we want to allocate those dollars as efficiently as we can and give them and share them in all the right places, but we're not trying to get that aggregate dollar down. We obviously -- if going to a trade show is a waste of money and we can do it through another method, we will deploy it more efficiently, but we're not trying to -- our goal is not to drive that dollar down. We're not trying to get a 50% internal rate of return. We don't think us being that greedy is helpful for growing the category or in building moats around our business. We think anywhere between a 30% and 40% internal rate of return. So with that teed up, Trish, you want to talk about variable and fixed expenses? And then maybe, Margi, you can talk some things about PAC and what we've learned with COVID.

Yes. I mean, I would say if there's 2 buckets of efficiencies and whatnot, one is the specific bucket. And there's things like, yes, I would expect probably in the future one thing I think we've learned is travel for a 1-hour meeting, we can do more effectively in formats like this. And there's a lot of little things like that, little learnings that I think will help us be more cost effective. But I think one of the bigger things that I've seen, and I think it's what when we all talked about how proud we are of the team, that we -- I think it will also manifest itself in our results longer term and we can carry it forward, is I think we're all making much more of an effort to stay connected in this type of world. A lot more teams are meeting frequently. Even our leadership team is meeting more frequently. I have never felt more connected to everyone on this call and everyone kind of leading my teams and then leading their teams. And so we are able, I think, to move even more quickly when we -- when it comes to processing cancellation requests or saving those customers or when it comes to processing claims and really doing those more efficiently and effectively than we have in the past and keeping up with our volumes. And I just think that connectedness that we've learned from this, I think it will -- and everyone moving in the same direction more and knowing what we're trying to do as opposed to trying to guess, I think, ultimately, that will naturally manifest itself in better results and lower costs over time. So that's the thing that I think I would highlight more as a benefit than the -- more so long term than the discrete travel expenses and things like that, although I imagine there will be some of that.

Gavin, do you want to just add and give people a little bit of color on, kind of from a people ops standpoint, some of the things that we've learned?

Yes, totally agree with what Tricia just said. At a super high level, as Darryl mentioned, we were a very early mover. I think that manifested -- the benefits of that showed in a lot of different ways, and we were able to spend a very short amount of time at the beginning, focusing on how to do it, and we quickly transitioned to how to do it well. We already had a substantial group of people who are working from home. And for us to extend that to the whole company, we -- I think we did it quickly, and we did it well. And I think Tricia hit on it when she said, everybody feels really connected to the company. We do weekly all-team-member meetings, and we get unsolicited feedback, just dozens and dozens of people every week saying how connected they feel, how they feel this pride in working for our company, how hard they're working, and they are. Everybody is working really hard. And I think that will show up in lower turnover numbers, the turnover we care about. It will show up in higher fulfillment scores. And I think those are the benefits that very difficult to quantify, but nonetheless, extremely significant.

In short, we have -- if we think about efficiencies, we've kind of made one full turn on our level of communications. So what used to be monthly is weekly, what used to be weekly is daily, from skip levels to group meetings to all hands. Now if you're going to have more meetings, you need to do them quicker. So what used to be 1-hour meeting is often 15 minutes now or 20 minutes. And we've learned a lot. Margi, do you want to kind of touch on some of your learnings? And we need to get Asher, with a funny-looking cat staring at us, involved as well. So as we kind of move into kind of some of our downwind further future strategic things, we'll bring Asher.

Good thing we had some questions coming out.

Okay. Well, I won't be able to do that with the efficiency of PAC spend. Sorry, Asher and your funny-looking cat. So yes, just very quickly, because I know that we have got questions in the wing. So from an efficiency perspective, we've definitely seen a bit of wiggle in wiggling going on within the channels and the attribution that we would typically expect. So the overall efficiency, if you will, or kind of the ability to enroll more pets regardless of whether we find those channels, that has changed, and we've seen some flex, which you'd expect. So the market is there. You've got a market waiting. Many people are sitting around on their phones, on their laptops and probably slightly distracted during the day. Yes -- and so we're able to reach more eyeballs than we may otherwise normally reach. The teams have done a really good job of pivoting there and finding some really nice sweet spots of communication and being able to help. It's very much on the conversion side as opposed to a lead side still typically. So the lead, our overall vet channel, the noise in the world has definitely put some pressure on the exam days. The exam day, obviously, that means we get through the vet channel. They are down and Darryl talked about that earlier in the week. And so when we're getting those leads through, we can do an awful lot more to communicate with them. The webinars that you touched on, [ Henry ], at the beginning, that's really helped us there to reinforce the fact that we're a credible brand that is able to access this information. So from a conversion point of view, we're seeing that be more efficient in that regard. And then really, it's just a case of looking at other channels that we can start testing that we wouldn't be testing normally and getting people to do things in a kind of think differently in terms of messaging and communication and testing has really amped up. The benefit of having the account managers and Territory Partners working together really means that they're solidifying their messaging. So it's a shorter window for a hospital to raise their hand for our software because you've got that kind of that real dual effort and effect there. So there have been some brilliant efficiencies we weren't expecting to find and being able to multi -- you've got teams that can multitask. Our sales team became a retention team for a good period of time at the back end of March. What a fantastic discussion when you've got someone who sells all day long is effectively selling in a, inarguably, a harder position and learning from one another. So I think we've got some efficiency there. And Darryl touched on this briefly earlier, but when we drive hard to look at the call, if the phone is ringing, we've got to pick up the phone and get on to the next one. The beauty of having slightly less phone traffic means that you can really hone how long is that perfect call, how long does it take to get the right balance with that member. And what we're seeing is our net promotion scores, as a result of that extra retention, have gone up, which, again, in terms of efficiencies, moves around to refer a friend and add a pet. So we see a really good value in continuing to communicate with our members as an acquisition tool. Even more so, we've been doing more and more of it, but that for us has been another win. That wasn't very brief, sorry.

Thanks, [ Henry ]. Okay. The next question comes from the line of [ Jeremy ]. Darryl, can we get an update on how you're thinking about succession? I believe it was last year, you mentioned you are interested in the idea of stepping down as CEO in about 5 years, yet remaining in an Executive Chairman role. Is your current successor someone internal? Would you ever consider an external hire for the right candidate?

Well, I think that's kind of a nice timely question because I was just enjoying listening to some of my teammates answer and thought that I was going to bring up -- I'm excited, I think, in half an hour, we're going to be able to see Warren and Charlie. And like many of you who have been going to Omaha and watching the 2 of those, and year after year, I've been saying it's great to listen to these super-wise individuals, but I'd like to hear more from their team. I'd like to hear more of the people that are closer to the execution. And today is an example where we said, if it was in Omaha or not, everybody on this call was going to be here to answer the questions. And at our shareholder meeting, it's not going to be just this group of people, it is actually the people that own the initiatives and are actually driving them. So there'll be access to about another 20 or 25 people, and I think it is really important. So last year was not the first time I talked about going from CEO to Chairman. I actually first announced it before going public. In 2007, I said that at 2025, when my youngest son finishes high school, that will be a time that I hope to repay my wife back for the years of travel and work and work less. So I still plan on doing that by 2025. But the part that really excites me about it is when you found -- when you start a business, you do it with the goal of making an impact. And I think this year, we've had some amazing milestones. We paid $1 billion in veterinary invoices. We've -- we're paying hospitals in under 10 seconds. We're doing a whole bunch of milestones, crossing 10,000 active hospitals. When you look at all of that, those are things that make me proud. I mean, I don't -- I didn't start this business to go out and make money. I started the business to be able to help pets. The more pets we're helping, the better we are. But if this company requires me to be in my desk, 40, 60, 80 hours a week for the company to succeed, I didn't build a company, I built a job. And that's not the goal. The goal is to build something that can continue to grow 20, 30, 40 years. So my transition of desiring to go from CEO to then becoming Chairman probably for 10 years and then, at some point, not becoming Chairman is something I've been planning for a long time. The goal for me is not about who the individual successor is. The goal for me is to have such a strong team in place that regardless who has the title CEO, they're going to be successful because of the team around them.

Okay. Great. Our next question comes from the line of [ So Young Li ]. In your shareholder letter, you discussed the churn in the first year in 2018 and 2019 and how that's higher than in year 2-plus. What are some strategies that you have to reduce the first year churn?

Margi?

Yes, sorry, I was muted. I couldn't get my mouse to work. Thank you for the question. So yes, when we're looking at churn, we have a whole -- we're breaking down the life cycle. If you think about -- we think about leads and we think about conversion when we're acquiring pets, it's a similar kind of thing when you think about the cancellations and potential churn. So how many leads are going into that funnel and how many do we have to convert, i.e., keep? When we're looking at the main volume, it's true that the bulk of the -- the area that we think we have the biggest improvement is those under the 2-year mark. So the -- in the 90-day window, that's where we really have to make sure that we're reinforcing that they don't have buyer's remorse and they understand what they've got, why they've got it. We've made a lot of changes in the last 6 months, I would say, in terms of looking at that overall sales process, making sure that when you're speaking to someone on the phone, they understand what they're buying. We're really kind of -- we've honed the approach to that sales techniques. So we're thinking about the lifetime value, as we talked about a couple of times now on the call. It's not just about the acquisition in that first day. It's what is the benefit for the pet owner and for the business longer term. And we've really given our agents an awful lot of understanding of what that means for them as well. So thinking about the -- bringing in the element of birthday pricing and helping people understand that we don't increase their rates because their pet is -- just because their pet's aging and kind of helping them understand that more. So we've really honed the messaging there. We've also looked at what we can do from a welcome perspective. So in the first 30 days, 60 days, 90 days, ensuring that we've got outreach to that member to really reinforce the value of our software in the hospital to help them understand that they have the ability to have -- to not have to pay the bill, and therefore, no reimbursement. So continuously reinforcing that through the life cycle. We've introduced a nurture program. So tactics where we're calling people just to do a check-in, just say, "Hey, how are you doing? How's Fluffy? We're here if you need us for anything. Do you have any questions?" That's got some really good responses as well. And then looking at a number of different tactics involving communications with whether it's letters or texts, like a physical mailer or a text, or, again, going to the area where a member wants to be spoken to as opposed to we're giving them a one-way communication street. And then the final thing is look at our online experience from a member-to-member communication point of view. So that's building a community to ensuring that we have a hub where people can get the information they need and then looking at other ways that we can continue to increase those revenues over time. So it's been a big area of focus for the teams and helping the sales areas understand the lifetime value has been one of the biggest drivers of that. As always, it's about the understanding and the why. And knowing that a team is not just there for one role, but it's for the overall pad. And everyone at Trupanion, I think you can see by our pictures, but they are pet lovers, they want to do the right thing. And knowing it's not the right thing to -- [indiscernible] a high deductible. That may have been a tactic that you could use because it's cheaper, and it comes back to the words cheaper, best, it's not. So they've really honed that with selling the value of the product rather than, well, can it fit within your budget today? And they're really honed at doing that. So that helps kind of hook those people in. We still have a lot of work to do, but I would say that we've made really promising progress and knowing what we have coming up this year and next year will help to reinforce that member experience overall.

As we're getting closer to the end of our time on this Zoom call, hopefully, we'll leave enough nuggets that everyone wants to join us in the shareholder meeting. So I would definitely be asking the questions around Nirvana to the people who are driving the initiatives. The -- and I just wanted to -- this is about communication and content. That's how you improve first year retention. And when we are doing that, just so that everyone knows where that falls on the P&L, that is showing up in our pet acquisition cost. So as we're spending more on our initial client communication, it shows up in our pet acquisition cost.

Okay. Thanks. Next question from an anonymous participant. Can you please touch on the noninsurance product lever to cross-sell insurance customers?

Asher. So just we -- what we think we're good at as a company is data, relationships with veterinarians and helping pet owners understand how to budget and care for their pet during the life of the pet. And if you think about that, monthly subscription, data, veterinarian are where we think our sweet spot is. And we've got ideas of bringing in some other products. We've talked about an investment in food and some other ones. So Asher, do you want to just kind of give a little bit of a high level?

Yes. I'll do a high level, although I agree that this is a good topic for us to reraise at the shareholder meeting, where we can get into it in more detail. But we're not investing yet in self-walking pets or anything like that. Our goal is to try to come out with products that are complementary to our core business. And one of the things that Margi is driving the business on the adjusted operating income side has enabled us to do is to just carve off small pieces of that to test into smaller initiatives. And sometimes -- and hopefully, those grow over time in a way that's complementary to what she's doing on the core growth side. So the 2 easiest examples that I would give you are we've been working for a couple of years on a technology to solve the lost pet problem, which is a tracking device. So that's something that we're in testing, and we've been talking about it for a while, but it's still early days. So we don't have any expectation necessarily that this is going to be successful, but it's something that we're working on. So I would put it in the test bucket in the same way that Margi is doing a lot of testing on her side. And then similarly, we talked about this last year at the shareholder meeting, we've been investing in a pet food initiative, and for the same reason. The goal there would be if pets are getting better health outcomes on food that we can provide to them because we know that they're getting the right kinds of nutrients and they're getting the right number of calories, then if that improves the health outcomes, then that actually makes our product cheaper, and so it's self perpetuating. So that would be the purpose of that. But I think beyond that, I'd probably leave the details for a month from now.

I'll just add one last part is if you look at the aggregate share of wallet per pet, what people are spending on their health is a pretty small percentage. It's about 1/3, a little bit less than 1/3. What they're spending on food is the biggest percentage of wallet, and then it gets to services. And when you look at lifetime value of a pet, and right now, let's say it's $60 or $65 a month and keeping them 71 months on average, if we can figure out how to take it to $150 a month and 80 months average, that it really drives what we could spend to acquire a pet. And so everything that we're looking in these areas are to increase lifetime value, retention rates, differentiate and create more moats around our business.

Yes. I guess I would add one other thing, which is also that a bit of a transition for the company over the past few years is, I think, the industry has started to recognize what we're doing. And so outside of the insurance space, we're developing much better relationships than we had circling back 4, 5 years ago. And so some of these projects are now possible because we have these extra relationships. So wouldn't have been -- we didn't have the cash to invest previously, but we also didn't have the partners to make the project successful.

Thanks, Asher. Okay. We have a 2-part question from [ Ari ], so I'm going to start with the first one. Can you give us an update on your views of the changes in the competitive landscape? For example, the recent MetLife acquisition of PetFirst and an update of what you believe Trupanion's share of new pet policies written for 2019.

Yes. So the press in this space is always interesting because I often hear people say, "Oh, it's getting more competitive." The reality is a number of brands that the consumers had a choice from has been consistent for all 20 years that we've been in business. There's never been a time when we've competed with less than 15 brands. And we have never competed with more than 25 in North America. Margi's competed with more than 25 in the U.K. before. But the number of brands, the number of consumer choices has not. The companies behind them and who they are, they tend to ebb and flow. And you -- they ebb and flow around distribution channels. So our people just trying to pick up people that are typing in pet insurance online, so they focus on online acquisition. Do they have another method of distribution on top of it where there's some type of list of pets that they have coming into them and they try to convert them? Employee benefits, which is what you mentioned with MetLife, I think, has been an area that the category -- has helped the category grow in the last 2 years. As unemployment rates were getting very low, it was an accelerant. So it wasn't taken away from other market share, it was adding to the total pet growth. And there's one company, VPI Nationwide, which had pretty much a monopoly on that area. I think it was maybe 50% to 60% of their total pet growth for the last 5 or 6 years. And that space started to get a little bit more crowded. We've invested more in that area. Partners, we've had have invested more in that area. And early in Q1, we saw a big spike of enrollments. So more HR departments have been contacting us and others in the last couple of years, and it was looking pretty exciting. I'm going to tell you, post COVID, now that we've gone from record low unemployment to one of the fastest surges to unemployment, I'm confident that the HR departments are going to be busy. It doesn't mean that we're not going to focus on this area. I think this is going to be a time because we have our own engine that we can really make sure that we get it right. There are still a lot of learnings to do, and we'll come out the back end well positioned. But that's kind of been the biggest change in the landscape in the competitive marketplace, I'd say, over the last 10 years, is there's been additional growth. And it might have been maybe 20% of the category's growth for the last 3 or 4 years from employee benefits. Because we haven't been a huge participant, it's hard for us to see. And then the next question was what percentage of the category's growth do we think that we have done? The way the question was asked was by number of new pets being added. And kind of going back to my Nirvana question or my net pets. To me, the most important question is what percentage of new revenue was generated by Trupanion. And for the last 2 years, we suspect we were either leading in #1 position or very close #2 position for the revenue growth and probably somewhere between around 25% of the revenues growth with about 20 different brands. So that's about where we see ourselves positioned.

Thanks, Darryl. And then the second part of [ Ari's ] question is, why is this not a 15% to 20% IRR business longer term instead of the lower end of the target range of 30% IRR that management believes after the growth tailwinds dissipate, it has been beneficial to all in the industry? What type of IRRs do you think your competitors are earning today?

I need to try to answer this question without coming across smug. If I look at companies that are good at subscription, and there's a lot of public companies, most of those companies omit a bunch of the expenses in that calculation. If you go back to my first shareholder letter, we talked about we're going to do an LVP to PAC ratio, but we noted it did not include our fixed expenses, and we would move to an internal rate of return calculation as soon as we had some scale. I'm the -- most of our competitors have an ARPU -- our ARPU right now is about $65 a month. Most of our competitors' ARPU is $45-ish a month. The best insights I have on the industry is the average competitor is keeping a client probably around between 30 and 35 months. And if you believe that they might have the same operating scale as us and the same margins, it would mean that they would have half of the cash flow -- or less than half of the cash flow than we would. When you have half the retention rate in a smaller dollar amount, the same margins. So for me, if we have a $500 lifetime value after fixed expenses, and most of our competitors might have between a -- probably around a $200 lifetime value, I find it really hard that they can have sustainably internal rates of return similar to us. It's one of the reasons why having broader coverage and higher ARPU actually helps our engine. So that being said, I don't think the granularity that we do, anybody else is looking at it by breed, by geography. Remember, we have to be understanding these internal rates of return calculations not as a group of pets enrolling in a quarter. How we report it, we have to be looking at it by breed, by geography, by distribution channel. And I just think we have been working on this for a long time, and it will be hard for others to catch.

Great. Thanks, Darryl. Okay. A question from [ Yuval ]. Good evening from Israel, and thanks for the Q&A. Can you divide the PAC to growth CapEx and maintenance CapEx?

Yes. So I'm going to kind of ask you to kind of go back and look at the most recent shareholder letter. And in that shareholder letter, we talk about how to build the DCF model and what happens in the terminal year. And in the terminal year, we make what I believe were actually conservative assumptions around what it would take to maintain the same pet growth, which would mean that we would have approximately a 5% to 6% or 7% year-over-year increase in revenue. And we detail it out there, and because we only got a couple of minutes left, I won't kind of get into it. But take a look at it and then bring up maybe more of those questions at the shareholder meeting.

Perfect. Next question from the line of [ David Ravil ]. Thanks for doing this. Good to see you all. Installing more software is one area highlighted in your letter as important to improving your gross profit percentage. You mentioned earlier that you can remotely install your software. Can you talk about how much training is normally provided after installation and how it is delivered pre COVID? And then what, if any, changes have been made? And then if sheltering in place remains in place longer in some areas, how big of an impact might that have on your ability to get more software out there?

I'll take this one. David, thanks for the question. So when we're looking at our install, it can be installed and downloaded much like this thing. It's just an iPhone. You can't see it because it's out of the picture. But it's very intuitive. It doesn't take a lot of training. Someone can pop it onto their system, actually press the button, downloads it within 10 minutes, and essentially, they can work through the workflow. We like to give people a walk-through. And what we have done is we have not only got our team of people who are specialists, kind of remote salespeople, if you will, specifically to download it, we've encouraged our account managers to be part of that process as well. So we've increased that pool significantly during COVID to allow us to get access whenever we can to talk to that decision maker. And so we'll download it now for you, we'll go through the process. So we've really speeded that up. Because they don't have a huge amount of time, most hospitals are running on a skeleton staff. Most hospitals only have 1 or 2 doctors there when they would typically have a receptionist and RBT. The benefit of that is that you get that decision maker straight away on the phone. So for us, we're actually able to have that conversation we otherwise may not be able to have. And then because the download is so simple, we've simplified it even more and move further steps in how they get access to it. We're trying to streamline it as much as possible. And then looking at how we continue to do that, as we've said before, people are raising their hands now for the software that they -- because now they understand the value of the payment direct to them as opposed to their client being out of pocket. So COVID for the fact that we've got this set up, and we've been doing this now for about 18 months with a really seamless process, we continue to evolve and iterate it to make it even less friction. We can go through this a lot more at the shareholder letter -- shareholder meeting as well. But specifically, the teams have really been looking at how do we reduce the friction, how do we get it out there quickly. If the demand is coming up, then how do we make sure that we can fulfill every single request as quickly as possible, and we don't see any issues with COVID hurting that. And we've been able to use the staff and the teams around those -- around the veterinary teams to help that as well. And our TP nation not being physically there, need to be physically in the hospital to download it, they can also give them the phone and do some of the remote installs, too.

Yes. So I think, technically, we have all the capabilities to do it, but the number one -- I'm often asked, "Why doesn't everyone have the software?" And I beat my head against the wall because it doesn't make sense to me. The biggest hurdle we have to get over is veterinarians are running very small businesses, and they're busy. And it's trying to get to the top of the priority, and they're running off their feet right now. So although the need for our software is as great as ever, we still have the big challenge that they're running off their feet and trying to get prioritized. So we technically can do it. We haven't yet flipped to the point where that's been accelerated over the next couple of months. Hopefully, we can make that happen. But we haven't overcome that challenge of we're busy.

Great. We have one final question and just a couple of minutes left, so this will be our last question. In the current environment that may be pressuring some subscriber finances, how are you thinking about providing payment relief? Pausing payments, for example, on the short term versus having to reacquire a customer that may be more costly long term? Is this something that you have thought about? And does the company have the balance sheet to do so?

So we have thought about it. But I'll -- first off, I don't think there's a need to. We -- if you look at the retention we had in Q1, and we've made significant statements that we're seeing strong retention week-over-week in April as well, our clients don't think of this as disposable or discretionary. We are here to help them budget, and there's a greater need for it than ever when people have financial insecurity. We are not -- our #1 job is to make sure that we're here for our clients. We're already doing it the highest value proposition. And we've detailed on this call, we haven't yet hit our target of paying out 71. We've been 1 or 2 points higher than that. We're not going to be able to serve our clients if we take on liability; meaning, a whole bunch of people can have free insurance and when their pets get sick or injured, we're going to continue to pay them. Our job is to be there sustainably for our members, and we can't do that unless we're being responsible. So we are not looking at going out and saying anybody can get things for free. We're telling them they need to keep it, they need to figure out how to do it, and that's extending from 30 to 60 days, gave them a window that if they lost their job and they were getting -- had to move through unemployment or getting government checks, that they had a little bit of flexibility. But, a, we haven't seen the need. We have looked at it, but we need to think about the stability of all of our members, not just a small percentage of a few.

Thanks, Darryl. Well, that brings us to time, and I know the Berkshire event is about to get started. So we're going to end the meeting here. But we want to remind you -- well, first, thank you for participating, and thank you for asking all the great questions. And second, remind you that the Annual Shareholder Meeting on June 11 is another great opportunity to speak not only to the faces on the screen today, but also the teams behind them. We have incorporated feedback from prior events into this year to make it even better. So we hope to have you join us. There will be more information coming out next week to each and every one of you. But if you have -- if you'd like to attend, please reach out, and I will make sure that we get you on the invite list. So with that, thank you so much. Hope you're all well.

Everybody, [ let's go's to ] Berkshire meeting. See you. Thank you.