Greetings and welcome to the Trupanion, Inc. Fourth Quarter 2021 Earnings Conference Call. At this time, all participants are in a listen-only mode. A question-and-answer session will follow the formal presentation. As a reminder, this conference is being recorded. I would now like to turn the conference over to your host, Laura Bainbridge, Investor Relations.

Good afternoon and welcome to Trupanion’s fourth quarter and 2021 financial results conference call. Participating on today’s call are Darryl Rawlings, Chief Executive Officer; and Drew Wolff, Chief Financial Officer. Similar to prior earnings calls, Margi Tooth and Tricia Plouf will be available for the Q&A portion of today’s call. Before we begin, I would like to remind everyone that during today’s conference call, we will make certain forward-looking statements regarding the future operations, opportunities, and financial performances of Trupanion within the meaning of the Safe Harbor provision of the Private Securities Litigation Reform Act of 1995. These statements involve a high degree of known and unknown risks and uncertainties that could cause actual results to differ materially from those discussed. A detailed discussion of these and other risks and uncertainties is included in our earnings release, which can be found on our Investor Relations website, as well as the company’s most recent annual report on Forms 10-K and 8-K filed with the Securities and Exchange Commission. Today’s presentation contains references to non-GAAP financial measures that management uses to evaluate the company’s performance, including without limitation, fixed expenses, variable expenses, adjusted operating income, acquisition costs, internal rate of return, adjusted EBITDA, and free cash flow. When we use the term adjusted operating income or margin, it is intended to refer to our non-GAAP operating income or margin before new pet acquisition. Unless otherwise noted, margins and expenses will be presented on a non-GAAP basis, which excludes stock-based compensation expense and depreciation expense. These non-GAAP measures are in addition to, and not a substitute for, measures of financial performance prepared in accordance with U.S. GAAP. Investors are encouraged to review the reconciliations of these non-GAAP financial measures to the most directly comparable GAAP results, which can be found in today’s press release or on Trupanion’s Investor Relations website under the Quarterly Earnings tab. Lastly, I would like to remind everyone that today’s call is also available via webcast on Trupanion’s Investor Relations website. A replay will also be available on the site. With that, I will hand the call over to Darryl.

Thanks, Laura. 2021 wraps up the first 12 months of our 60-month plan. By all accounts, it was a strong year for Trupanion. Total revenue increased 39% to $699 million. We ended the year with over 1.1 million total enrolled pets. Within our subscription business across multiple brands, we had over 704,000 pets at year-end, on average staying with us for 79 months. Lifetime value per pet was $717, up 10% year-over-year. Our gap to TruTopia, which measures the difference between members adding pets or referring friends and pets turning off, was 0.29, a 17 basis point improvement over 2020. I am extremely proud of this performance. But what I’m most focused on is the growth in our adjusted operating income. Adjusted operating income represents the funds generated from our existing pets in a given period and is the single most important metric to understand and evaluate our performance. It also serves as a proxy for value creation. In 2021, adjusted operating income grew 37% over the prior year. This performance is exceptional and well ahead of our 25% target we laid out in our 60-month plan. Our outperformance was a result of us doing three things really well: accelerating pet growth, sustaining high levels of retention, and maintaining scale within our subscription business. In short, the team fired on all cylinders. Within our large and under-penetrated market, we want to deploy as much of our adjusted operating income within our targeted internal rates of return as possible. As we grow and scale, we’re seeing more opportunities, and the team is doing a great job putting our capital to work against them. In 2021, we were able to deploy 56% more capital year-over-year and estimate an internal rate of return of 36%. We do this while operating at scale. In fact, Q4 marks the fourth quarter in the last eight where we were within 100 basis points of our 15% adjusted operating margin target for our subscription business. I know we will not hit 15% every quarter as we did in Q4. But I am encouraged by the narrowing of the range around our target. To me, in light of all the talk around inflation, it shows very strong execution; well done team. Hitting scale, or the size in which we operate efficiently while maintaining our margin targets, is hard and takes discipline. Doing so has taken us over 20 years as we move forward, and we do so with a commitment to remaining the industry’s low-cost operator and to reinvesting any future cost efficiencies back into the value proposition we offer to pet owners. I outlined our plans to do so further in our 60-month plan, which can be found in our most recent shareholder letter on our IR website. One great benefit of being the low-cost operator and building the Trupanion brand into what it is today is that we attract the interest of potential new strategic partners and distribution channels. We’re humbled and excited when we can find partners who are leaders in their field, have long-term alignment, and recognize the value of our brand, scale, and expertise. State Farm, Aflac, and our most recent partnership with Chewy are perfect examples. Later this quarter, our Aflac powered by Trupanion employee benefits products will be made available to select Aflac brokers, who will begin selling this new insurance offering to worksites across North America. We are excited to grow this channel through our strategic alliances with Aflac, a partnership that increases our reach and is a key component of our 60-month plan. In short, 2021 was an exceptionally strong year overall. We came out of the gate flying but saw growth slow in the fourth quarter. In Q4, we enrolled approximately 4,000 fewer pets than in Q3. We believe this was driven by the introduction of the Delta and Omicron variants, providing some industry challenges. So far this quarter, we’re seeing activity rebound to Q3 levels. Results under Margie and Tricia’s leadership have been humbling, to say the least. Years such as 2021 are not the standard by which we measure our success. I’ll reiterate our goal remains to grow adjusted operating income by 25% every year for the remaining 48 months of our 60-month plan. We believe this is the right target for our large under-penetrated market. As we work towards our 60-month plan, we want to ensure we remain organized in a way that is most effective. Ultimately, we’re a growth company, and we continue to align the organization to provide clarity of the direction around this mandate. As part of this, Tricia recently assumed the role of Chief Operating Officer, and Margie has remained President responsible for leading the execution of our 60-month plan. While much of the day-to-day responsibilities remained the same, I expect these changes to drive greater clarity, transparency, and accountability within our organization. With that, I’ll hand the call over to Drew.

Thanks, Darryl. I will mainly discuss our fourth quarter results today and provide an outlook for both 2022 and our 60-month plan. Before that, I’d like to share some insights on our 2021 performance. It was another outstanding year of growth. With the strategic investment from our long-term partner Aflac, 2021 was the first full year we weren’t constrained by our operating cash flow guardrails. This allowed us to invest for returns, deploying more capital at strong internal rates of return, which significantly benefited our shareholders. It also enabled us to expand our total addressable market by introducing new products and entering new geographies, including launches set for this year. In summary, it was a strong year, and I feel privileged to be part of this incredible growth over the past year. Regarding our fourth quarter results, total revenue reached $194.4 million, reflecting a 36% year-over-year increase. Our strong performance was driven by robust pet additions and sustained high levels of monthly retention in our subscription business, along with continued growth in our other business segment. Within our subscription business, revenue was $134.1 million, up 26% from last year. Adjusted for foreign exchange, subscription revenue would have been $134.4 million for the quarter. Total enrolled subscription pets increased by 22% year-over-year to around 704,000 as of December 31. Average monthly retention, based on a trailing 12-month basis, was 98.74%, up from 98.71% in the prior year. We recorded year-over-year improvement across all three categories we measured and are especially pleased with first-year retention given our accelerated growth. Improvement in this metric allows us to invest more in growth and focus on the highest sustainable lifetime values in the industry. As our pet portfolio increases in size, the value created from our high retention rates grows as well. Monthly average revenue per pet was $63.89, up 3% year-over-year, and this growth outpaced the 1.9% increase in veterinary invoice costs. Now that we are operating within a reasonable range of our target margin, our focus is on competing and winning with the best value proposition in the industry, which involves pricing accurately to our 71% value proposition across our subcategories, including making necessary price adjustments. For instance, in the fourth quarter, we reduced prices for 16% of pets in our portfolio. Year-over-year growth in average revenue per user reflects this dynamic and our broad distribution. As in previous quarters, we saw the highest net pet growth in areas where we priced most accurately to our 71% target. This will be an ongoing focus, especially considering the growing discussions about inflation in veterinary medicine and the necessity for veterinarians to adjust pricing. As a percentage of subscription revenue, variable expenses slightly increased to 10% of revenue, reflecting our investments in member experience, while fixed expenses remained consistent at 5% of revenue. After accounting for the cost of veterinary invoices, variable expenses, and fixed expenses, we arrived at our adjusted operating income. As mentioned, our subscription adjusted operating margin was 15%, reaching our target. It's encouraging to have achieved our target margin alongside a 3% increase in average revenue per user for the quarter. This reinforces our cost-plus approach, with average revenue per user being a consequence of pricing to our 71% value proposition. In dollar terms, our subscription business generated adjusted operating income of $20.3 million, a 30% increase year-over-year. It's important to emphasize that the majority of Trupanion's intrinsic value comes from our core subscription business, which is highly recurring and allows for accurate forecasting. This quarter, our subscription segment represented 91% of our total adjusted operating income. Now, I will briefly discuss our other business segment, which includes revenue from various products and services with a B2B component that have different margin profiles than our subscription business. Total revenue for this segment was $60.3 million, marking a 66% year-over-year increase due to more pets enrolled in the segment and a one-time revenue boost from our software acquisition at the end of 2020. Adjusted operating income for this segment was about $2.1 million; despite lower margins, our other business provides scale, data, and fixed expenses, with virtually no acquisition costs. Consequently, our total adjusted operating income rose 35% from the previous year to $22.4 million. During the quarter, we invested $17.6 million, which is 28% more year-over-year, to acquire roughly 54,000 new subscription pets. Gross pet additions were up year-over-year but down sequentially as COVID temporarily dampened industry leads; however, there is a recovery underway. This led to a pet acquisition cost of $306, translating to an estimated 32% internal rate of return per average pet. We also invested $0.9 million in the quarter and around $4 million for the entire year in development costs primarily related to product and international expansion, which we believe will further strengthen our competitive position. This resulted in adjusted EBITDA of $3.5 million, compared to $2.2 million in the same quarter last year. Depreciation and amortization costs were $2.8 million, up by $0.5 million year-over-year, largely due to the amortization of assets from our software acquisition in Q4 2020. This acquisition was strategic, aiming to enhance our backend processes while adding new products, geographies, and talent. Total stock-based compensation amounted to $6.8 million, leading to a net loss of $7 million, or a loss of $0.17 per share, compared to a net loss of $3.5 million, or a loss of $0.09 per share in the previous year. Year-over-year, the rise in stock-based compensation affected net loss by $0.10, while increased depreciation and amortization impacted it by $0.01. Turning to our balance sheet, we concluded the year with over $213 million in cash, cash equivalents, and short-term investments, with no debt. In terms of cash flow, operating cash flow for the year ending December 31, 2021, was $7.5 million, down from $21.5 million in 2020. Capital expenditures totaled $12.4 million in 2021, resulting in a free cash flow of negative $4.9 million for the year. At Trupanion, we prioritize long-term objectives, particularly our 60-month plan. We strive to maintain a high level of transparency regarding our financial metrics and our business modeling. Regarding our guidance as we enter the new year, we are adjusting how we discuss our outlook and want to provide forward-looking information aligned with our business management. Therefore, in line with our 60-month plan, we aim to increase our intrinsic value per share by 25% annually, driven by growth in adjusted operating income. We are highly confident in achieving 25% growth in subscription adjusted operating income in 2022. For our other business segment, we anticipate adjusted operating income to remain largely flat, as we’ve decided not to pursue revenue growth from our software acquisition made in Q4 last year. Given this large and under-penetrated market, we intend to allocate as much of our adjusted operating income as possible, acknowledging that the timing of cash flows and added value may not be reflected in profits for specific periods. Conversely, if our growth slows, our profitability metrics will improve. We see this trade-off as worthwhile for long-term value creation. We are well positioned in a large under-penetrated market and have consistently demonstrated success in this industry quarter after quarter. Additionally, we expect that rising veterinary care costs will provide substantial growth opportunities for Trupanion. We have a solid track record; indeed, by our calculations, Trupanion is the only company in the S&P 600 to have achieved revenue growth over 20% annually for every single year in the past decade. We look forward to updating you on our progress. Now, I will hand it back to Darryl.

Thanks, Drew. Before we open it up for Q&A, I want to highlight our upcoming investor outreach activity. In the coming weeks, we’ll be participating in the Raymond James annual growth conference, William Blair’s BMX Q&A, as well as several non-deal road shows. For those of you who are new to the story, these are good opportunities to learn more. For those looking to do a deeper dive into our business, I’ll point your attention to our two marquee investor-facing events that will take place in 2022. First, on April 30, Margie, Trish, and I will be hosting our annual Q&A to follow the Berkshire Hathaway annual shareholder meeting in Omaha. Over the years, we have found this to be a great event to connect with like-minded investors in an informal questions environment. We’re planning for in-person participation this year in Omaha. Second, on June 8, we will be hosting our annual shareholder meeting in person at our Seattle headquarters. Our annual shareholder meeting is the venue to provide updates on the initiatives in our 60-month plan and to connect with leaders of the business including Margie and Trish. We are optimistic that this year will allow for in-person attendance, and we intend to design the event around the live experience. Those looking for opportunities to engage in Q&A and connect in real-time with the team are encouraged to travel to Seattle. We hope to see you there. And with that, we’ll open the call up for questions.

Thank you. At this time, we will be conducting a question-and-answer session. The first question is from John Barnidge with Piper Sandler. Please go ahead.

Thank you. Thank you for the opportunity. Vet service inflation was 5.1% January CPI. Can you talk about the spread between vet invoice increases and then price increases? I think you talked about it last quarter as well and then your outlook for that in 2022?

John, this is Tricia. I’ll start your question, and I’m sure others may want to add a little bit of color because there are multiple facets to it. In general, when we think about our pricing, it’s based on what we’re seeing come through in our invoices and targeting that 71% value proposition. So that’s what’s driving our rates, and we’re staying on top of it very frequently. For the total year, we saw the cost of our vet invoices at about a 4.6% increase, and our pricing for the full year was a 5.3% increase. Now, that did soften a little bit, as you can see in the fourth quarter, where we saw about a 1.9% cost of that invoices coming through to us, and our pricing was about 3%. What we’re trying to do is stay ahead of it, stay on top of it, but at a very granular level. So, you heard on the call, we actually decreased prices in some areas where we needed to do that to get closer to our 71% value proposition. But there are some cities, like one example is Palm Springs, where we saw a 13% cost of goods in vet invoices coming through and then others were lower. So the point is, we’re looking at it on a very granular basis. And we’re targeting the 71%. You mentioned January; we’ve been looking at our January data that we’re seeing coming through. I would say so far, we are not seeing much of a different trend than we’ve seen the past couple of quarters. But early February data is starting to see a tick up. So we’ll be monitoring that not only in totality, but at a very granular neighborhood level to make sure we can stay on top of it, we can get the pricing through that we need. The good news is, I think we’re doing a good job in terms of, as you can see from our results, targeting that 71 % consistently.

Yes, so I’ll just emphasize what Tricia is saying is, we’re pricing for increases. Now, that’s math a little bit by us refining our pricing and actually decreasing price on part of our portfolio, and also, in prior quarters, we’ve mentioned a change in mix as we broaden distribution. We’re growing in lower-cost areas, and you see that come through our pricing. But looking forward, we don’t see, based on what we know now, those trends changing. But if we do, we will continue to, as we’ve shown, we will continue to price for it.

And John, if I can, it’s Margie. If I can just add to this. In terms of Trupanion overall, we believe vets need to increase their rates. We believe that they’re currently under-priced for all the services that they offer. They are highly stressed, stretched by challenges in the industry. The best thing they can do is to ensure that their pricing is appropriate. Tricia and Drew both mentioned they’re looking at our pricing at a very granular level. So we feel confident we can stay on top of that, but for the good of the industry, and also to increase the demand for Trupanion, it’s better that they increase the rates because they need to.

And then maybe my follow-up question. I believe adjusted operating income is now the guidance you’re talking about. I didn’t hear anything on revenue. Can you maybe talk about that shift in, maybe how the new partnerships you’re launching with Chewy and Aflac fit within that shift?

Sure, this is Drew. Yes, so what we’ve done is evolve our approach, consistent with how we’ve given long-term guidance in the 60-month plan. Specifically for 2022, we want to focus on a bottom-line metric like adjusted operating income because that’s what we manage to. As we rollout initiatives, we are targeting similar margins and adjusted operating income. So that’s why we thought it was a better way to guide to, and with consistent margins now that we’re at scale, you can back into other metrics and the IRRs that we’re targeting. So we’re just evolving from starting at the top line and going down to starting at the bottom line and going up. But embedded in our guidance are all the initiatives that we’ve already talked about, and that will ramp up slowly during the year and then more meaningfully impact 2023.

I’ll just add a little more here because we know this is a bit of a shift and evolution. In general, we have always provided a lot of transparency, whether it’s on the calls or in the shareholder letter, and we don’t intend for our philosophy around transparency to change. But we also want to make sure we’re speaking in a way that is very consistent with how we’re looking at the business, running the business, and metrics that we’re targeting as we have more products and more geography. As Drew mentioned, by honing in on the adjusted operating income and our target margins, which we’re very close to achieving, we can really back into the 25%, then on the overall top line as well. I think these new initiatives, while they haven’t launched yet, we don’t have great visibility into them. They’ll ramp up likely slowly as the year goes on. Longer term, they give us more and more confidence that our 25% growth rate that we’ve talked about in the 60-month plan is achievable because that level of growth year-after-year is not easy; it takes good execution. And we’re focused on that. So hopefully, that helps to add a little bit of color to how we’re thinking about it.

It does. Thank you.

Thank you. The next question is from Shweta Khajuria with Evercore ISI. Please go ahead.

Okay, thank you. Let me try two, please. Chewy partnerships possible to, please provide some context on how we should think about framing that opportunity, basically the meaning and magnitude of that opportunity, as you think about this year and just next 48 months I guess? And then the second question is on the marketing environment. Could you please provide some context on what you saw, just generally, in terms of the marketing environment, whether it was a crowded market? And in particular, were there any channels that worked really well for you? And/or were there some channels that were a disappointment or a negative surprise, and which ones were those? And then same question for Q1, now that we are off the holiday season, what’s the marketing environment looking like right now? Thank you.

Shweta, you kept layering on questions there at the end, but I’m going to answer. That’s okay. I’ll hand over all the details to Margie. But when we’re thinking about bringing on new partnerships, new distribution channels, new products, expanding geography, all of the things that we’re looking at, come down to a single focus: how is it that we can inform and educate pet owners or households when they get a new pet in the household? All of our partnerships are meant to be a way for us to initiate conversations from people that have strong authority, being veterinarians or breeders, or Chewy as an online retailer or Aflac for worksite benefits, etc. It’s really about us being at the front of lead generation and educating consumers on why it’s important to have high-quality medical insurance to help them budget. And that’s kind of the lens that we’re looking for. That’s a lot of it in the 60-month plan. But I’ll hand it over to Margie to give you more details.

Yes, hi, Shweta. So just to finish off on the Chewy partnership, obviously, we’re very excited to be and honestly humbled to be their partner. In terms of the magnitude for 2022, we’re going to start off fairly slowly and controlled throughout the beginning of the midpoint of the year. Then throughout the year, we will grow and expand that at a pace that we feel comfortable with together. We are well-aligned partners with them, and I think we have some great opportunities in front of us. To Darryl’s point, it’s a great opportunity to start to connect with people in an online environment that has the partnership and support of a fantastic brand like Chewy. In terms of the marketing environment, your second question, there are a couple of questions in there. What are we seeing in the quarter in Q4? A couple of things happened. We went into the quarter pretty aggressively with our spend, and we had a solid start in terms of lead volume. The lead volume was up as we continued to be up throughout the last year. It started to slow a little bit; we saw a pocket of Omicron and really the pandemic starting to hit as the world saw at the back end of that quarter. We saw that coming; we saw it happening. We saw the softening, and we made a very deliberate decision that unlike at the beginning of the pandemic when we weren’t really sure what was going to happen, we didn’t really continue to be aggressive with our spend in a space to really help drive through the pandemic that we saw happening and also to give us a really good start to the year in 2022. In terms of channels, we saw a very similar trend across all of our channels; there wasn’t one that was performing particularly badly, and there wasn’t one that was performing particularly well. I will say that there was a challenge we had in terms of conversion, which we noticed in terms of execution through the quarter. We were able to rectify that. We spotted the problem. Execution, we’ve always said, is challenging, and it’s great when we can identify where there are issues and we can fix them. I’m happy to say we have fixed them. So moving into Q1, we’re back up to the levels that we saw in Q3 in terms of growth rate. I’m seeing that overall; it’s time to sharpen up my face. So I think we have a positive strong start to Q1 as well.

Okay, thanks, Darryll. Thanks, Margie.

Thank you. The next question is from Jonathan Block with Stifel. Please go ahead.

Hi, guys, thanks and good afternoon. Maybe the first one is just to start the gross adds. I think they were down Q-over-Q for the first time since the fourth quarter of 2019, and I get it you talked about specific COVID headwinds. But do you have a way of quantifying what that was when we think about the impact to gross adds? I don’t know, 4,000 or 5,000 if you want to throw a number out there. And then how do we think about that coming back into the queue? In other words, does it all come back and like 1Q, 2022? You mentioned a good start to the year and then normalize. I'm just trying to think about that cadence of gross adds, which you can step down in 4Q how we think about it, starting the year in 2022 and then subsequently in the quarters after?

Yes, Hi, John. It’s Margi. I’ll kick off, and obviously others can add. So in terms of, you are right, 4,000 was about what we thought was the difference between what we were anticipating and the impact of the COVID headwind. In terms of recovery, we’ve seen since the midpoint of January; we started to see that really come back. One of the key things that we look at when we’re going into any month; we don’t typically think about it quarter-over-quarter, we’re thinking on a monthly basis, especially in times of the pandemic when you’ve got such variability, we look at the overall market opportunity for us in a given period of time. So we use Google data, we use all the data that’s available to us. We can see how many people are searching for the term pet insurance. People don’t typically look for pet insurance unless they are in the market at the time. So what we found is, at the beginning of the pandemic back in 2020, so March-April 2020, the volume of people searching really came down. There was a time when I’m sure you remember, we doubled down, focused on what we could control, which is a member experience. We really started to pull back on our spend because we weren’t sure where it was going to go. When we hit similar periods, so in Q4, we were looking at the same search volume, which had recovered since Q1 and Q2 of 2020, and it dipped to the same level at the beginning of the pandemic. So for us, that told us that the market was a lot softer than it had been. And we made a very conscious decision to push hard, and we wanted to push hard to add aggressively, not only so we could keep our brand front of mind from a pet and veterinarian perspective but also because we were confident it was going to return. We also have immense confidence in the team’s ability to turn levers on and off that we need to; we’ve gotten really sharp at doing that. As a result of that, we’ve seen some really good growth coming in, as I mentioned at the top half of the year so far. We’re happy with the lead volume. We’re happy with the conversion rate. We’ve corrected some issues we had from an execution point of view. I’m sure there will be other issues that we will have from an execution point of view, but right now, I feel confident in where we’re going and seeing that momentum come back up to the levels we would expect it to be at, and I think overall happy with the February performance so far. Darryl anything to add?

I mean just context: Q4 of 2021, we grew net pet new growth of 11% over a huge comp of Q4 of 2020 and all of that with the challenges in the marketplace that have rebounded. So I think the team did great, and I’m looking forward to seeing a strong 2022.

Okay, that's helpful. Thanks for the color. The second question might have a couple of different parts to it, maybe the most recalled—just on the Chewy partnership, how that is structured. In other words, is there an equity component when we think about the compensation going at Chewy from sort of a pack perspective? Again a joint equity component added to that. And then just backing up for a second, you know guys I'm all inundated with emails saying questions around the guidance. So can you just help me out here for a second? You are very clear that the adjusted operating income of 25% of subscription is flat on the other. Did you commit to an adjusted IRR number? Is that still expected to be 30% to 40%? And then, maybe just with all due respect, you were just talking about how you're one of the few companies in the S&P 600 to have this revenue growth rate in your rare breed. The most straightforward numbers are revenue number, not in adjusted operating income numbers. So can you just sort of any better explain why at this point in time you decided to back away from providing the revenue number?

Well, the first question was about Chewy. We think we got greater alignment; as a reminder, it's meant to run on the same type of margins and the same type of internal rates of return as our core subscription business. We have mentioned earlier that Chewy would have the option of taking some of that when otherwise will be tax spend in stock if they choose up to a certain cap. So we think we've got great long-term alignment. Your other areas of questions, why are we talking about adjusted operating income, because adjusted operating income is more meaningful to shareholders when they understand the cash flow of our business. If our margins are relatively stable, it's very easy for somebody to do the math to figure out what the impact of revenue is. Lot of companies can give revenue guidance but without giving guidance down to a contribution margin or the margins, you are able to spend, it doesn’t give investors as much opportunity. The other part is internal rates of return. And we are committed to staying between our guardrails of 30% to 40%.

Perfect. Thank you.

Thank you. The next question is from Maria Ripps with Canaccord. Please go ahead.

Great. Thanks for taking my questions. I just wanted to follow up on the Chewy partnership and just maybe expanding on some of Shweta's questions. So if we look at their customer base of about 20 million, do you have a sense of sort of what portion of that could be a more admitted addressable opportunity for you see here in the near term? Anything maybe you can share around the pet base by age, etc. And sort of what would you consider to be a successful outcome here let’s say four or five years from now in terms of mix of two customers taking out one of this plans? Just trying to understand if this partnership could potentially sort of accelerate the option of pet insurance across this space.

Yes, sure. Hi Maria, it's Margi here. So in terms of the Chewy 20 million base, I mean, the point that it's really critical for us, they are a partner that we are working with to help educate and inform pets about the benefits of having high-quality medical insurance. In terms of what is our immediate addressable opportunity, we have reason to believe that they don’t have any more or less penetration rate than the average population. So we’re excited to work with them to bring to light something that we believe every pet owner should be aware of, and every pet owner should have the information available to make an informed decision on whether they are insuring their pet. That's something that Chewy is very eager to do as well. We believe together, we're hopeful that we can increase awareness and education, but hopefully adoption and drive more insured clients into the veterinary part just to get on the care they need. A successful outcome for us is honestly making sure that there is increased awareness. We believe a 2% penetration means we're fully under-penetrated; there's a lot of market to take. Together, we're hopeful that we can do that, and the alignment we have is a great starting point that we’ll be able to share once we get into the market with the product.

Got it, that's very helpful. Thank you, Margi. And then secondly, can you share any color around your launches of PHI Direct and Furkin in Canada last year? Is there an updated timeline for the U.S. at this point?

Yes, still to say on PHI Direct and Furkin now about six months in from the launch in the Canadian market. We're happy to see that overall in terms of lead volume we’re looking really healthy. We're definitely reaching pet centers in the right way. The area that we're still continuing to focus on is to work on our conversion rates. We operate within the same IRR guardrails for PHI Direct and Furkin as we do for the core subscription business, the Trupanion product. For us, it’s really a case of refining that conversion journey and making sure that we're not just paying for leads but then converting them. When we get back to a level we feel comfortable with within our 30% to 40%, that’s when we will trigger and move into the U.S. market. We're not going to do that without having the opportunity to really know we can refine this service like we can with our core subscription business. The timeline is still to be determined, but the teams are working hard on refining that process and looking forward to them coming to the U.S. hopefully in the not-too-distant future.

Audio Gap

Thanks. Good afternoon. First question, I want to ask about the upward trend in the variable cost of revenue within the subscription business. Obviously, just relatively small increments, but it keeps getting closer and closer to this 10% level because it was 9.8% in the quarter and for the full year. Just trying to get a little bit better sense of sort of what's driving that upward progression, is it retention cost or is there something else in there? Is it possible to say that there is a ceiling on that, or are there some level at which you think that metric is going to hold, or is there a possibility that we will actually see this move above the 10% mark?

Sure, hi. This is Tricia. Yes, we did see this variable expense, which as a reminder, is really the cost associated with servicing our members through customer care retention efforts particularly after the first year and other strategic initiatives designed at our member experience. We did make a strategic decision early on in 2021 to invest more heavily here particularly on retention initiatives that we had in mind to help improve our retention rates, which we’re very successful during the year this we see from our retention metrics. I would say overall I wouldn’t expect it to go beyond 10%. We are looking, as with anything, to maintain the metrics that we’ve been able to drive but scale them longer-term because our ultimate goal is to give as much back to the member in terms of that invoice payments as possible. This was a worthwhile investment, and we continue throughout the year as we saw the results play out in retention.

And this is Drew. I'd add that the bigger our portfolio gets, each basis point the retention is worth more, so with the good investment. I would also add that we're targeting a 15% adjusted operating margin. So in the quarter, even when it was at 10%, we delivered that. So that's how our running the business is going forward.

Okay, thanks. And maybe just a little bit more of a macro question. Obviously, the route that we so started to the year in terms of vet clinic visits and see some of the services suggesting numbers are down year-over-year. Just curious how that has impacted overall total lead volumes whether or not there's been any impact on the conversion rates within your different lead channels?

Hi, it's Margi. In terms of that vet visits, the launch visits that we're still being suppressed the back half of '21, that’s definitely rebounding. When we think about serving, people having to make appointments for themselves many vet recognize some weeks and months out, but they're happily, we're seeing the volume, lead volume is up so mainly picking back up again across all of our channels, not just have been vet. The vet oversees the one that really joins the markets for us and for the industry. In terms of conversion rates, conversion rates also improving; I mentioned before that we made some adjustments from the way we're managing conversion process; we noticed issues that we have corrected, but still get about three instant ones. It doesn’t mean that the work stops there, we've got a lot ourselves to do, but still happy about the momentum we have going into the rest of the quarter.

Okay. And just the last question. With respect to your overall debt inflation levels out there, I'm not sure how much variation you're seeing by market but wondering if you're seeing any noticeable changes in terms of the buckets that you sort of highlighted previously in terms of distribution and how price increases may in fact impact your business. When we basically look and see if there may be perhaps there's been a disproportionate increase in the pricing bucket with greater than 20% overall inflation?

Yes, this is Tricia. I would say in general, like I mentioned, behind the scenes there is overall, which is the large variation in cost of care prices coming through, utilization of care and then also there's been some of the COVID impacts in certain areas more than others. So, we do see variability. Also, like I mentioned, we’ve had certain areas where we haven’t been priced accurately as we could have been and we’ve pushed through decreases to get closer to our value proposition which then settles out for more equal increases if an increase is needed in the future. The good news is, I think we’re getting better not as many members needing to fall into the very large price increase bucket as we get more and more granular. That being said, as we're targeting that 71% value proposition at a neighborhood breed agile enrollment level. We’re treating every day knowing what we're looking at and are evolving with that.

Yes. I can answer that as well. When we think about specific markets in Tricia's point, we’re keenly aware of it across the whole business; we take a very granular level from end-to-end in that journey from pricing to sale to retention and the whole member experience. There is no difference in the price point; if you look at $5 amount, the key thing is, as Tricia mentioned, the 71% value proposition is critical. The ability for our teams to sell our product and the people to appreciate the value is good, and it doesn’t make a difference what that price point is so long as the value is there in the product and people understand what they're getting. So there isn’t a price sensitivity, we don’t see that shifting by market. It's all about making sure the product is doing what we set out to do and solving that problem. And if we price accurately, we know it can do.

Yes, I'll add just one more bit of color. So we have one market, for example, that is double-digit inflation. In that market, we got a high percentage of hospitals that we're paying directly. That market is in the state of TruTopia, meaning referral and added pets are greater than cancels. In that market, over 40% of new enrollments are coming from referrals, and the growth rate in that market is greater than 30% year-over-year and is a mature market. So when we have a value proposition right and we got the right customer experience, we have a perpetual growth machine because we've got such low penetration rates, and that's super exciting to see those things.

We're ready for our next question.

Thank you. So the next question is from Ryan Tunis with Autonomous Research. Please go ahead.

Hi, thanks. Good evening. First couple of questions on the Chewy deal. From an ARPU perspective, is that expected to be more kind of the like the $44 per month other pet or closer to $63 that we're seeing in subscription? That’s one. And then also, I guess in anticipation of the Chewy partnership launching in the spring, is there should we assume we're going to hold back some pack spend potentially for the back half of the year? Thanks.

Hi, Ryan, it's Margi. So I can kick off this on to say the Chewy products that's designed is especially for Chewy. The teams are refining the product to come with the different value proposition, the kind of overall product stats. There will be similar products in there but would be ready to share that more as we go closer to launch. In terms of holding back, we're not and when we think about the way — the margins and the way the business is changing, we’re not holding back anything here; I think it’s going to run similarly to how we would run any other products at the growth side of the business, thinking about core Trupanion products we think of like Chewy that we will run within the same IRR guardrails as we have been with the other products.

This is Drew. Yes, we think that would be a good problem to have. We're investing for growth; we have a strong balance sheet and as the returns are there, we will invest in money.

Got it. And then, my follow-up is just on the guidance you gave for adjusted operating income. Does that contemplate any contribution from Chewy or any aspects of the multi-year plan?

Yes, embedded in that guidance are all the initiatives that we've keyed up. It just gives us greater confidence around hitting 25% this year and also into our 60-month plan. As we mentioned, it will ramp up slowly during the year and really impact 2023.

Thank you.

Thank you. The last question is from Greg Gibas with Northland Securities. Please go ahead.

Hey, thanks for taking the questions. I think in your prepared comments you talked about the Aflac partnership beginning the target worksites across North America. I'm wondering if you could just expand on maybe the timeline of that deployments of the initiative there and when we might begin to see a financial impact from it.

Yes. So hi Greg. So I'll pick up here; it’s Margi. In terms of the Aflac timing, so we’re excited to be launching that within this quarter. We are rolling out a small number of authorized brokers initially just to begin to make sure that we're controlled—that everything that we have built out is really effective and honing—and then we will slowly build on that throughout the rest of this year. We don’t expect or anticipate any meaningful contribution in 2022. As a reminder, the employee benefits phase typically has enrollment periods, the first in July and the second in January. Launching at this point in time allows us to really build through that and ensure that we’re all feeling confident. Aflac remains an incredibly well-aligned partner. They are a shareholder of Trupanion's and an alignment that really does help make sure we’re checking other boxes in the right way. They've helped hold our hand through the environments and worksite perspective. We’re running ahead of plan and we say it’s become very smoothly so far, and we’re excited to see where it goes.

Great, that's helpful, Margi. Regarding the increased variable expenses related to investments in the member experience that you mentioned, should we anticipate those to be recurring or more of a one-time nature in Q4?

Yes. I would say, I mean that's our current run rate with the initiatives that we're seeing working well. Obviously, we don’t want to stop doing those initiatives, but anywhere that we can drive or scale moving forward will be—we'll hope to do so.

I just want to reemphasize, in Q4 we hit our 15% target margin pretty much right on line. In the event that we get any additional savings, we are going to be planning on giving those savings back to the consumer and having a better value proposition. For those modeling the business, what's most important to model is that 15% margin, and the higher percentage we can give back to the consumer is only going to help retention rates, referral rates, and our lifetime value of the pets, which then allows us to spend more money to acquire a pet. So we're not trying to get margin expansion from 15% to 16%. We said years ago that was our target. We said in our opening remarks that we've been narrowing around that four of the last eight quarters. In Q4, at a time when people were concerned about inflation, we hit it perfectly. We balance between customer experience, paying hospitals directly 24/7, and trying to give as much back to the customer as we can.

Great, helpful Darryl. I guess if I could sneak in a last one. I know which you didn’t address your pet food offering. Any developments there along that initiative?

We're still testing. We are excited about it; we think it could be a great initiative, and the data that we have around our business we think can be very supportive. But we're still trying to fine-tune things; where we're not doing any product launches, we're not doing anything with consumers yet. So it's all behind the scenes.

Thank you. Ladies and gentlemen, we have reached the end of the question and answer session. This concludes today's conference. You may disconnect your lines at this time. Thank you for your participation.