Earnings Call Transcript - TRUP Q1 2022

Operator, Operator

Greetings, and welcome to the Trupanion, Inc. First Quarter 2022 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, Trupanion Inc. Please go ahead.

Laura Bainbridge, Investor Relations

Good afternoon. And welcome to Trupanion’s first quarter 2022 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, President; and Tricia Plouf, Chief Operating Officer, 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 are 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 the US 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.

Darryl Rawlings, CEO

Thanks Laura, and good afternoon, everyone. Earlier this week, we published my annual shareholder letter. Outside of our annual meeting, my letters are intended to be the best source of information to educate yourself on Trupanion. It explains the way we think about and run our business. I'll touch on a few of the highlights today, but I would encourage you to read it in its entirety. Turning to Q1, the year is off to a strong start as shown in our financial results. Adjusted operating income, or the funds generated from our existing portfolio of pets, increased 29% to approximately $22 million. You've heard me say this before but it's worth repeating. The vast majority of Trupanion’s intrinsic value is derived from our core subscription business. In the quarter, approximately 90% or $20 million of our adjusted operating income was generated from our subscription business. This represents growth of 26% year-over-year. As a percent of our subscription revenue, adjusted operating income expanded 40 basis points year-over-year to 14%. In our large underpenetrated market, pet acquisition remains the primary use of our adjusted operating income. In the quarter, we were able to deploy approximately 14% more funds year-over-year or $19 million within our subscription business at a 34% estimated internal rate of return. In the quarter, we added nearly 60,000 new subscription pets in line with our expectations, another all-time high. Members with our Trupanion branded products are staying with us longer than ever before on average 80 months. This highlights our exceptional member experience and continues to be especially impressive in light of our accelerated growth. Improvement in our trailing 12 month retention, coupled with expansion in our subscription adjusted operating margin, drove a 7% increase in lifetime value of a pet, which topped $730 in the quarter. In short, performance was strong and we are optimistic about the road ahead. With many of the COVID disruptions of the past two years hopefully behind us, we are excited to get back in front of veterinarians and their staff. In my shareholder letter, I shared key metrics around the veterinary channel. Active hospitals totaled 14,700 at the end of 2021. Since then, that number has continued to grow to over 15,600 at the end of the first quarter. Though face-to-face visits have been lower over the past two years, growth in active hospitals continues to benefit from the strength of our brand. As the penetration rate of Trupanion members continues to increase within individual veterinary clinics, in some markets, we are beginning to witness a flywheel effect where our value proposition and customer experience increases the confidence and trust of our product to both new pet owners, veterinarians and their staff. With veterinarian doors opening again and territory partners back in the field, we are excited to continue to build on the momentum of this key metric. On a trailing 12 month basis, our TruTopia gap was 30 basis points. TruTopia provides the pathway to self-sustaining growth with its minimal acquisition spend. For additional details on TruTopia, please refer to our shareholder letters. Achieving a state of TruTopia is a key component of our 60 month plan as are new products, international markets and distribution channels, including through our partnerships with Aflac and Chewy. While it’s early days, we are excited to see how both of these key strategic partnerships will play out. Long term initiatives, such as these, increase the odds of us growing at sustainably higher rates for longer periods of time. For companies that are constantly reinvesting in growth, tracking value creation can be difficult. At Trupanion, we want to maximize value creation, while at the same time, making it easy for all of our constituents to track our progress in a very transparent way. In my recent shareholder letter, I provide more thoughts around value creation, including laying out the ways we intend to fund our growth. At our annual shareholder meeting, we provide a high degree of transparency into our business through an extensive Q&A with the team members directly responsible for the execution of our 60 month plan. This year, our annual shareholder meeting will be held on June 8th at our Seattle headquarters. This event is optimized for in-person attendance and I would highly encourage those that are looking to better understand our business, our strategy and our culture to attend. With that, I'll hand it over to Drew.

Drew Wolff, CFO

Thanks, Darryl, and good afternoon, everyone. Total revenue for the quarter was $206 million, up 33% year-over-year, driven by strong pet additions and continued high levels of retention in our subscription business along with continued growth within our other business. Within our subscription business segment, revenue was $139.8 million, up 23% over last year. Total enrolled subscription pets increased 21% year-over-year to over 736,500 pets. Average monthly retention, which is calculated on a trailing 12 month basis, was 98.75% compared to 98.73% in the prior year period. Given our accelerated growth, we're especially pleased to see first year retention continue to improve on a year-over-year basis. Continued expansion of our average monthly retention rate means we're able to invest more in our growth and target the highest sustainable lifetime value in the industry. As the size of our pet portfolio grows, so too does the value created from our high retention rates. Monthly average revenue per pet was $64.21, an increase of 2% year-over-year, and growing ahead of our cost of veterinary invoices, which increased 0.8% over the same time period. This is probably not intuitive given the headlines around inflation. Let me explain why. As a reminder, ARPU is an output of pricing accurately to our value proposition. And in the quarter, we delivered on our value proposition of 71%. While we hit our target in aggregate, we continue to refine our approach across over 1 million subcategories, including increasing or decreasing prices as necessary. Over the past year, we've worked hard to optimize pricing, leading to more growth in some areas where our loss ratio was previously too low and less growth in some areas where it was too high. This is positively impacting the overall mix of our business. For example, we are seeing higher rates of growth within the category of younger pets. Year-over-year growth in ARPU reflects this dynamic, as well as our broadened geographic distribution. As a percentage of subscription revenue, variable expenses were 10%, reflecting investments in our member experience. We believe the benefit of this investment, as well as pricing accurately to our value proposition, is reflected in our increased retention. Fixed expenses were consistent with last year at 4.9% of revenue. After the cost of veterinary invoices, variable expenses and fixed expenses, we calculated our adjusted operating income. Our subscription adjusted operating margin was 14% for the quarter, up from 13.6% in the prior year period and within 100 basis points of our target margin. We expect to continue to see scale in our variable and fixed expenses over the next 12 months, resulting in our adjusted operating margin being closer to our 15% target on an annual basis. In dollars, our subscription business delivered adjusted operating income of $19.5 million, an increase of 26% over the prior year period. In the quarter, our subscription business accounted for 90% of our total adjusted operating income. Now, I'll turn briefly to our other business segment, which is comprised of revenue from other products and services that generally have a B2B component and different margin profiles than our subscription business. Total revenue was $66.2 million. Compared to the prior year quarter, this is an increase of 60% year-over-year, reflecting an increase in pets enrolled within this segment. Adjusted operating income for the segment was approximately $2.1 million. While lower margin, our other business provides scale and data and fixed expenses, and we incur virtually no acquisition spend within the segment. As a result, our total adjusted operating income was up 29% over the prior year period to $21.6 million. During the quarter, we were able to invest 14% more year-over-year or $19.2 million to acquire nearly 60,000 new subscription pets. This resulted in a pet acquisition cost of $301 and an estimated 34% internal rate of return for a single average pet. As a reminder, our pet acquisition cost is fully loaded, meaning it includes marketing, sales, call center and IT personnel that work on pet acquisition, as well as marginal advertising and promotion spend. We provide the details of how we calculate our IRR in the financial supplemental tables that can be found on our IR website. I'll reinforce that unlike some other consumer financial products, where customer acquisition costs are amortized over the life of that customer, based on the niche of our monthly recurring policy, we recognize our acquisition spend upfront. We recoup these costs over the duration of a pet's life with Trupanion. We also invested $1.3 million in the quarter on development costs. These are primarily related to new products, channels and international expansion, which we expect to deepen our competitive moats. We continue to expect development expense of approximately 0.5% of revenue for the year. This resulted in an adjusted EBITDA of $1.2 million compared to an unadjusted EBITDA loss of $1.1 million in the prior year quarter. While we have ample growth opportunities ahead, we are often asked about steady state, and what this business looks like if we were keeping pet count flat? I'll provide an illustrative example. But first, it's important to highlight our TruTopia dynamic or the growing portion of Trupanion’s book that comes from cost effective referrals, pet owners adding pets or friend referrals. Of the 1.25% of pets we lose among, approximately 95 basis points or 76% of that is being replaced by these lead sources. We refer to this frequently as our gap to TruTopia. As our book grows our brand and its reputation also grows and with it, the number of pets rolling through word of mouth. When we are in TruTopia, these sources of pet enrollments entirely offset those that churn, delivering steady state or neutral pet count. In the first quarter, if we were to enroll just enough pets to offset churn, excluding our other business segment, we would estimate standstill EBITDA would've been around 10% of subscription revenue. This also assumes our current variable and fixed expense ratios and reflects the powerful referral dynamic in our portfolio. However, today with our large and underpenetrated market of just 2%, we are making a strategic decision to invest for growth and increase the embedded cash flow generation of our business, deploying greater sums of capital at a rate of return well in excess of our cost of capital over long periods of time is what drives value creation in this business. We provide additional thoughts around value creation, including the effect of growing adjusted operating income and deploying compounding amounts at high internal rates of return in Darryl's most recent annual shareholder letter. Total stock-based compensation expense was $7.4 million, in line with our expectations. This expense includes the initial amortization of our 2021 annual performance grants in February, which relate to the year-over-year growth in our estimated intrinsic value for 2021. We estimate that we increased intrinsic value by 41%. And after adjusting for cash usage, we shared approximately 1.5% of this increase with the team. We believe this level of dilution is appropriate given the value creation. I'll reiterate that the majority of our share-based compensation is performance driven. If the company doesn't grow intrinsic value by over 10%, there would not be any expected annual performance grants. We expect stock-based compensation to be around $9 million per quarter for the remainder of this year. As a result, net loss was $8.9 million or a loss of $0.22 per basic and diluted share compared to a net loss of $12.4 million or a loss of $0.31 per basic and diluted share in the prior year period. Turning to our balance sheet. We ended the quarter with over $259 million in cash, cash equivalents and short term investments. Prior to quarter end, we entered into a five year $150 million debt facility with an initial draw of $60 million. Furthermore, through my previous comments on capital allocation, the facility provides us a lower-cost alternative to fund our growth, including offsetting amounts held for regulatory capital requirements. With initiatives like Aflac and Chewy coming to market, we're thrilled to have additional flexibility and allow for the allocation of our discretionary income to areas where we can earn our targeted 30% to 40% estimated rates of return. We approximate the cost to services debt at less than 1% of revenue. In terms of cash flow, operating cash flow was negative $3.6 million in the quarter compared to negative $1.7 million in the prior year period. Capital expenditures totaled $3.6 million in the quarter. And as a result, free cash flow was a negative $7.1 million. Following the first quarter of 2022, I'll reiterate that we continue to target growing subscription adjusted operating income by 25% for the year. We plan to continue deploying as much capital as we are able to within our IRR guardrails of 30% to 40%. We continue to be on track to ramp up several of the initiatives in our 60 month plan that if successful would begin to manifest in our results in the second half of '22, but more meaningfully so in 2023. We look forward to keeping you apprised of our progress. With that, I'll hand it back over to Darryl.

Darryl Rawlings, CEO

Thanks Drew. Before we open it up for questions, I want to remind you of a few upcoming Investor Relations events. This weekend, Margi, Tricia, Drew, and myself will be hosting our annual Q&A in Omaha. This is a great venue to connect with like-minded investors. We hope to see you there. And as I mentioned earlier, but worth repeating, our annual shareholder meeting will be held on June 8th. We are excited to once again host shareholders and guests at our headquarters in Seattle. I encourage you to visit in person if you are so able and to register as soon as possible on our Investor Relations website. With that, we'll open it up for questions.

Operator, Operator

We have a first question from Shweta Khajuria with Evercore ISI.

Shweta Khajuria, Analyst

Let me start with two questions. On page 15 of your shareholder letter, there's a table showing active hospitals, which Darryl mentioned in his prepared remarks. My first question is about your current active hospital penetration of approximately 52%. With 28,000 hospitals across three countries and your current count at 14.7k, what do you foresee as the potential growth in this area? Additionally, for the 1.26 in new pets per active hospital, how should we view its growth potential? My second question pertains to your subscription revenue or subscription pets for the quarter—how do you believe your performance aligns with your internal expectations?

Darryl Rawlings, CEO

The active hospitals are a crucial topic. Looking back at how we developed our ETF model for intrinsic value, the primary factors are the number of active hospitals and same-store sales. We ended the year with approximately 14,700 active hospitals, although I mentioned earlier we were around 15,600. In certain markets where we have established a longer presence, it seems possible for us to achieve a scenario where 80% to 90% of hospitals in those areas actively recommend us, which will be our focus moving forward. Regarding same-store sales, I believe we have not yet reached the peak of that metric. Many of our A-rated hospitals are achieving over 10 pets in same-store sales monthly. However, it's too early to determine what percentage of hospitals can reach that level. I anticipate year-over-year improvements, but I'm not in a position to speculate on its growth over the next five to ten years. Now, I'll pass it over to Margi to discuss revenue expectations.

Margi Tooth, President

In terms of overall pets and our performance in the first quarter, we previously discussed the momentum we experienced last quarter, and that momentum has carried through to the end of the quarter and continues into April. Our expectations are being met, and we are performing well. The team is well aligned, and we have seen strong communication, contributing to a positive momentum. Overall, we are in line with our expectations and encouraged about the continuation of this momentum.

Operator, Operator

We have the next question from the line of Maria Ripps with Canaccord Genuity.

Maria Ripps, Analyst

First on your annual scorecard this year, you rate your member experience as B while your sort of monthly retention rate continues to improve year after year. I guess, what are some areas where you think you can still improve? And if your member experience is at an optimal level, where would you like to see your retention level versus 98.75% that you just reported?

Darryl Rawlings, CEO

Well, this year in my shareholder letter, Margi and Trish drove the scorecards. So I'll let them answer the question.

Margi Tooth, President

As a reminder, Trish and I viewed this through the lens of our 60-month roadmap, focusing on the first 12 months and how it aligns with our expectations for the entire plan. Our expectation of a B is based on solid performance, and we're pleased with it so far. The retention rates have been encouraging, and we're excited about the ongoing trends. We see a clear opportunity to enhance the penetration rate of our software and increase its usage in hospitals. As we observe more frequent use, we believe the overall retention rate will improve. Our members are having a better experience, leading to fewer inquiries about claims, and the vets are satisfied as well. Overall, this represents a significant opportunity for us. The teams are successfully ensuring clarity around coverage, which results in a more favorable member experience and encourages referrals. Our retention goal for the 60-month plan is 99%, which is incredibly close to being perfect. Some areas have even exceeded 99%, which is beyond an A plus, and we are pleased with that. However, we are still aiming for 99%. While we cannot guarantee that each pet will live their full lifespan, we believe that achieving the remaining 1% is feasible. Trish, do you have anything to add?

Maria Ripps, Analyst

And maybe my second question is, can you maybe update us on your progress with Chewy and Aflac partnerships? And any call you can share on how close you are to launching with Chewy, and whether there are any states that were already launched?

Margi Tooth, President

So if I take Chewy first. So Chewy, really well aligned partner, both actually Chewy and Aflac are very well-aligned partners. For Chewy, we are commencing imminently our phased launch. We are very excited and we remain excited about the potential there with that partnership. Our core businesses continue to perform strongly well. Behind the scenes, we've had both teams with Chewy, Aflac and Trupanion, all of them working hard to basically get ready for these product launches. So we are really excited to see that coming to fruition very soon. In terms of Aflac, the Phase I launch is in March. As a reminder, the work site cycle and sales cycle takes a long time. So anything that we would expect to come from the launch wouldn't hit until 2023 realistically. And just talking about what a launch means, it really means that we are starting to work with the brokers, with the Aflac team, who have been partnering with us to introduce us to the brokers, to have the conversations and start that pipeline opening up, which has been encouraging to begin with.

Operator, Operator

We have the next question from the line of Elliot Wilbur with Raymond James.

Elliot Wilbur, Analyst

First question is just with respect to sort of the trends in overall vet clinic visit volumes as we've seen year-to-date. I guess, just given some of the services they are reporting a deceleration or actually decline in overall vet visits. Wondering if that has impacted your deployment of discretionary capital at all between lead generation and conversion strategies.

Darryl Rawlings, CEO

So let me get Trish to answer the first part of it with kind of the data that we are seeing on the claim side and visit patterns, and then Margi can follow up.

Tricia Plouf, COO

In general, we have seen some of those industry details as well and we are not seeing that same trend in our data. We are seeing an overall increase in frequency. So kind of the frequency of invoices that come in was up a little bit over the quarter, and we are active in an illness coverage. So we are happy that when we’re here for our members, when they need to use the product, they are using it. We are here for them; we are paying the claims. We are actually paying claims now faster than we ever have before, which is helping with that member experience. So our overall data trends within our membership base are not following that. Another data point that I'll give that looks at longer periods of time: because things have kind of moved around the past two years with COVID impacts in particular at the vet hospital. When we look back to 2019 Q1 pre-COVID, our average frequency, the number of invoices that we get as well as the average dollar amounts per invoice are actually up compared to 2019. So we're seeing the trends, we're seeing the usage and we're encouraged by that and obviously continue to then price to our value proposition. I’ll let Margi speak to kind of the lead side of it.

Margi Tooth, President

So in terms of the leads overall and the impact on discretionary spend. So one of the things we mentioned in the last quarter call was the fact that our territory partners can get back out in the field, and existing hospitals, and they’re rebuilding those relationships. And we saw that in Q1, we've seen a tremendous uplift in our lead channel that's coming from the vet channel specifically. So when we talk about vet traffic that certainly has a new effect on metrics, and the vet channel for us is the hotline of everything that we do. So as we think about the benefit to the business, that means that we have a more efficiently sourced and the conversion then is that is also more efficient, because we know that we can convert at the higher rate. Ultimately then allows us to think about other areas that we'll be investing other discretionary capital. Overall, it's looking very healthy from that perspective and really pleased to see the impact of having territory partners back in the field and having conversations with hospitals.

Elliot Wilbur, Analyst

Your comments lead into my next question regarding table '19 in Darryl’s letter, particularly about the metrics related to vet hospitals. If we consider the number of high-frequency hospitals that you're visiting every 60 to 90 days, this metric is still down around 20% compared to 2019, even though the number of hospitals you’re contacting has grown. This means that, overall, the number of face-to-face visits has gone up. How should we think about the recovery in call patterns concerning the hospitals you visit every 60 to 90 days and its impact on your overall business? I'm trying to understand how crucial it is to regain those higher-frequency visits compared to simply increasing the total number of hospitals you're reaching out to.

Tricia Plouf, COO

I mean, I think you said it very well yourself. In terms of the impact to the business, it's incredibly impactful. So when we're thinking about 2019, 2020, ‘21 and now where we are in 2022 with the first quarter behind us, our visit pattern has got back up to 2019 levels, which is what we were aiming for. And it obviously came back a little quicker than I think any of us were expecting. So people are really excited to have the territory partners back in hospitals. The territory partners are very excited to have them going back in. The impact overall to the business is throughout the performance of the business. It helps from a lead generation perspective and conversion, because the introduction is that much stronger, people understand the benefits of high-quality medical insurance. Ultimately from a retention perspective, member experience, referral rates, we see all of that coming together to improve the experience, both from a hospital and a member point of view. For us, it's critical that we were getting back in the field as quickly as we could without putting hospitals and territory partners at risk. We now feel confident about that and I think just seeing the momentum that we've had over the last three months and now carried on into April will tell you just how critical that is for us at the moat, and how deep that moat is because it's continuing to help us grow that lead volume. I think in terms of the number of hospitals that we address, we're always looking at making sure that we can go what we internally would refer to going wide. So as many sources as we possibly can, but also going deep. We're looking at, as Darryl mentioned a moment ago, how do we get that standstill sales number up, how do we build a habit, how do we help people and to understand that that repeat conversation about insurance is really critical and it helps get greater frequency of care, greater numbers going into the hospitals and perhaps having the treatment that they need, which reinforces the value of Trupanion. Does that answer your question?

Elliot Wilbur, Analyst

I have one last question for Drew. I would like to understand what is causing the increase in subscription variable expenses. It seems that this cost has risen by about a hundred basis points as a percentage of subscription revenue since the end of 2020. I would appreciate more details on the additional investments being made, whether they are focused on improving member experience or if this is simply a natural development due to higher retention costs associated with a growing customer base. I'm trying to gauge when this cost might stabilize, what types of investments are temporary, and when we might see the expense ratio level off.

Drew Wolff, CFO

Our target 15% margin is an annual target and it does fluctuate quarter to quarter. Q1 tends to be a heavier quarter for us, just as seasonality of some of our expenses. But specifically, we invested in retention this quarter. And we'll get into specifics of what those initiatives were. But I would say that Q1 is always a harder quarter for retention and we put up our best Q1 retention number ever specifically in first year retention. So we saw the value of making that investment and dialing it up. There's interplay between fixed and variable. And between the two, we expect those to scale down and march down throughout the year as a percentage of revenue. So we expect to land the year between 14% and 15% margin. But we do expect to get scale; this is probably the high point.

Operator, Operator

Your next question is from the line of Josh Shanker with Bank of America.

Josh Shanker, Analyst

I guess, Drew for the first question. And I joined a few minutes late. You might have mentioned it. It looks like there were a lot of prepaid expenses to that bill, accounts payable and prepaid expenses broadly in the quarter that hit cash flow in 1Q. Wondering what's going on, is there some seasonal information there, or does that have a true-up later in the year?

Drew Wolff, CFO

Q1 is typically a stronger quarter for us. We have some prepaid licenses that are recognized during this time. Historically, this quarter has been seasonally busy, and we anticipate a decrease in that pace as a percentage of revenue throughout the year.

Josh Shanker, Analyst

And so the drag we're seeing in free cash from the first quarter, that should be recurring in 1Q and reverses as the year goes on?

Drew Wolff, CFO

Yes, I will divide it into two parts. The first half of the year typically sees a more negative cash flow, while we generally experience more positive flows in the second half.

Josh Shanker, Analyst

And obviously refer a friend and recurring customers are becoming a bigger and bigger portion of the business. It suggests that the acquisition costs per pet gain through other channels is even higher than what you published. When you are thinking about spending on acquiring new pets, to what extent do you think acquisition dollars are being spent at this point versus experimentation in trying to find new ways that may or may not be successful in acquiring pets, but worth it as long as you keep the IR profile intact?

Darryl Rawlings, CEO

I’ll allow Margi to address the main part of that question. I just want to mention that the growth rate is the most significant factor affecting our cash flow and the internal rate of return. However, I will leave the specifics regarding the internal rate of return to Margi.

Margi Tooth, President

So Darryl hit the nail on the head on IRR. When we think about different channels, the most cost-efficient are, as you pointed out, refer a friend and recurring customers, i.e., word of mouth, which is fantastic for a brand. It allows us to really see the difference a member experience makes. But when we're thinking about our spend and which channels we are investing in, we are looking across a gamut of different features and metrics of a specific environment. For example, we know that if we have a high lifetime value, we have more opportunity to spend more in that space. So if you're looking at the pure dollar amount, you are going to see that go up, but the IRR is going to be consistent. So we don't just take an overall look at IRR. The IRR is coming in at day 34. We are looking at what does it mean for this particular cohort. So the teams are much like our pricing team. They are looking in a very granular level of detail. They are looking at geography, they are looking at breed, they are looking at species. They are looking at every type of element we can to get really specific with the way we are marketing. That allows us to have some areas that, to your point, are experimental. We are not looking at a set percentage every month but if we find that there are areas we can test in that we haven't otherwise tried before, we will go there. That may be a lead test, it may be a conversion test. The beauty of it is that we know what we are testing; when we're testing, and we track the results so we can get better over time. You can see consistently quarter-over-quarter, our goal is to be between 30% to 40% IRR, and the teams are very good at and very disciplined the way they do that. When we are thinking about that number that dollar, it's not about focusing on the dollar amount, it's about focusing on the IRR and that's what we're doing specifically for every pet that we are enrolling.

Josh Shanker, Analyst

One quick one, in another quarter with better persistency. How far away are you from reasonable perfection in persistency?

Darryl Rawlings, CEO

I think you've dialed in a little bit late, but Margi answered the question before that, in our 60-month plan, our 99% monthly retention or persistency is our long-term goal. And she mentioned that in some areas and regions, we've already achieved that; getting any higher is really difficult with pet death.

Operator, Operator

We have the next question from the line of Jon Block with Stifel.

Jon Block, Analyst

Drew, maybe the first one, the modest 2% ARPU. I thought you explained that pretty well, talking about repricing some plans. But why the invoice growth of less than 1% year-over-year? I mean, we just hear about the inflationary environment about your increasing prices. I think Trish said earlier that the number of invoices were going up. So sort of been a good explanation on why the ARPU somewhat muted, but let's just stick with the invoice growth. Why are you guys seemingly one of the only parts where we're just seeing such a modest climb, less than 1% this quarter, I think it was actually less than 2% last quarter. If you could expound upon that that'd be very helpful.

Drew Wolff, CFO

I would reiterate. I mean, we're seeing the cost of veterinary services in line with what the rest of the market is seeing. Whereas it's just masked by this powerful mix dynamic and we are pricing to our value proposition. Aligning that ARPU with that overall cost of claims, and pricing is just foundational in this business. So as we optimize, and I'm talking across a million subcategories, so breed, neighborhood, age. So as we're doing that, we're aligning our ARPU with our cost of care that we're seeing. So in any specific one, we are seeing pretty typical, but we're just growing now where we're getting the value proposition a lot more aligned. You can see in the quarter we hit 71% in aggregate, which is what we were shooting for.

Margi Tooth, President

And if I can add to that as well, Jon, when we think about the way the business is operating, and I mentioned it a second ago. The way everyone is communicating, if you think of pricing as the brain of the company, what the pricing team is doing is giving the rest of the team information as to where we should be targeting. Whereas before, if we were to take a broad brush approach, maybe in that broad brush approach, we would be targeting people that weren't hitting value proposition that would be changing that ARPU mix a little bit more. But now we’re going after pets; we now are being priced at 71%. When we go after those specifically you're going to see that mixed influence directly by that.

Jon Block, Analyst

I guess I could follow up offline. I don't fully get it. I mean, you're saying the pets you are going after, your install base is so big. You're not growing that fast, so it's just hard to offset it that much because again, your base is so big. I can't see that completely being offset by the 50,000 or 60,000 pets that you're bringing on every quarter, but I could follow up offline on that. And maybe it's just a sort of a segue into my next question. Margi, last quarter you talked about conversion rates and you said you had some challenges in the fourth quarter of '21. I don’t know if you want to touch on what those challenges were; maybe more importantly, were those challenges resolved? I think you slightly beat our gross ad number. But if you go ahead and you normalize sort of 4,000 pets that didn't occur in the fourth quarter because of COVID, your sequential step-up in gross ads from 4Q to 1Q was actually below trend line historically. Usually, you see a little bit of a high single-digit bump, and it was more maybe a low a to mid. And so maybe you can just talk on again, conversion rates, what the challenges were where the company is trying to resolve some of those past issues.

Margi Tooth, President

So from a conversion perspective, we're making progress. When we think about our growth, we think about it from two angles: we think about lead generation, so how do we actually make sure pet owners are aware of us, and then we think about the conversion space. Our lead generation is outpacing in terms of progress than our conversion. Both of them are moving forward. So we have four momentum in both areas, which is what we want to see. Phone conversions are trending really well. The area that we mentioned last time was web conversion. We are making improvements. We are adjusting and have resolved the issues that we have within our website. That said, there's a tremendous opportunity there. And when we think about the fact that we can grow our leads at the pace that we're growing, if we can get our conversion rate to move in the same direction, the same pace, we're going to be significantly growing even faster than we are today. So it's really about thinking how do we take our new distribution channels that we've really started to open up over the last two years, make sure that we are tailoring our journeys appropriately to those specific pet owners. So we're thinking about the journeys in a slightly different way, and being able to say the right thing at the right time to help pull people through the funnel. I will say in terms of the progress we're making, we are positively, but what's particularly exciting was just hired two folks that will be joining the team at the back end of this quarter in June, that will be driving specifically a focus on conversion. They come with a ton of experience and excited to have them in place so we can really start to make the most of that opportunity in front of us.

Operator, Operator

We have the next question from the line of John Barnidge with Piper Sandler.

John Barnidge, Analyst

You were talking about international growth aspirations, and I believe it was 0.5% of revenue with development spend. Can you maybe expound upon that? The products are more developed overseas, so I assume you'd be going to market with a unique offering.

Darryl Rawlings, CEO

So in our 60-month plan, we're trying to look at over a long period of time doubling our addressable market. So if you look in the shareholder letter, you can see that we're now in three countries and we have about 28,000 hospitals that we think is the addressable market. Over a long period of time, we'd like to get that number closer to 50,000. That allows us to not only have a growth lever with same-store sales but to continue to add a number of active hospitals. And those two drivers have been the growth engine of this company. We have other areas where we're adding distribution channels to different products as additional growth levers. But international is really about increasing the size of our addressable market. And we are in early stages of trying to determine when and where we're going to be going. We hired Simon Wheeler, who joined the company in the last 12 months, and we're making some pretty decent progress, looking forward to being more of a global player.

John Barnidge, Analyst

And then my follow-up question, if I could. When we had this call in February, you gave us the kind of the rate of growth in the early weeks of the quarter, had reverted similar to the third quarter. I know you're holding the call a little bit early, so you can have the Omaha. So could you maybe refresh us on what is the growth rate so far in the early weeks of April and in the second quarter, and how does that maybe compare to the first quarter's rate of growth on subscription pets?

Margi Tooth, President

We are experiencing significant momentum. In the first quarter, January started strong compared to last year. February improved even more, and March showed a substantial increase, driven by the contributions from territory partners and hospital visits, as well as strong lead generation from the vet channel. This trend continued into April, where we are seeing well over double-digit growth in leads year over year. We are thrilled with these developments and feel the team's strong execution is yielding positive results. We are eager to see how this momentum will carry us through the remainder of the quarter, and the signs so far are very encouraging.

Operator, Operator

We have the next question from the line of Greg Gibas with Northland Securities.

Greg Gibas, Analyst

First, now that the newer low and mid-level offerings have been out for a while. Are you seeing any movements between those offerings, either pets moving up or down?

Margi Tooth, President

So I think you are referring to Furkin and PHI Direct. So there are low and mid-tier products. So we are testing in Canada. The last time we discussed them, we were talking about how we are able to continue to generate new volume, which is lovely. We need to look at the other side of that, which is the conversion rate. We are making improvement on conversion rate actually. We are happy with the way that that's progressing. We're probably about halfway to where we want to be, which is nice to see. So every month, we are getting better. We are increasing the team size and focus and dedication there, and we think that it's performing nicely.

Greg Gibas, Analyst

And regarding your comments on having the chance to rebuild old relationships with vets, now that your territory partners can kind of revisit a lot more frequently and in person. Could you kind of discuss the improvements that you are seeing, maybe it's in terms of vet channel leads or conversions as a result of that?

Margi Tooth, President

So our lead traffic, our offers are significantly up. When we think about our lead channels, we are looking at them in terms of where does the conversation originate from. And while that has continued to be strong for us for several quarters, it always is our strongest channel, we have seen that really pick up in the last three to four months. Having the territory partners back in the hospitals allows them to have the conversation, help to remind the team why it's important to talk about high-quality medical insurance, introduce the concept of insurance and just really get people thinking about it. The other difference is that because curbside is starting to pull back and people are getting back into that typical workflow, it's a lot more normal for the team to start thinking about those conversations again. The vet helps us from every single element of that journey and the benefit of having high-quality insurance for them means that they can treat those pets far more efficiently and effectively, and do the jobs that they have been training so hard to do. For us, it really is the foundation of what we are trying to do with the business and just helps everything be more effective.

Greg Gibas, Analyst

And I guess you guys have really good visibility in terms of your vet partners' veterinary costs. Are you at all surprised that maybe the cost side of that isn't increasing at a faster rate, especially when we think about inflation? If we do think about maybe your premiums catching up with that. I know you're kind of perfecting the value proposition, that 71%. But do you kind of see premiums increasing at a faster rate than historically going forward?

Tricia Plouf, COO

It's obviously something that we keep our eye on. We're looking at pricing from over a million different categories and making sure we're pricing as accurately as possible based on the data that we're seeing. Now I will say, and Drew mentioned this earlier, what we're reporting is our consolidated numbers. When we disaggregate them, we are seeing costs going up in many of the areas in line with inflation like you would expect. As we price those neighborhoods, breeds, categories, we're reflecting that in the pricing that we're pushing through and maintaining that pricing accuracy. The one thing we've been doing, and it hasn't just been in a single quarter, we've been doing it for the last couple of years, and you're kind of really seeing it in our numbers more, is really a conscious effort at that very disaggregated level to see price as accurately as possible. And we've seen a lot of movement there, even if sometimes that means we're decreasing the price. We talked about that more on the last couple of calls. We've decreased prices in some areas where we weren't hitting 71%; we were hitting 65% instead of 71%. We were not returning as much value to the member as we should have, and we've updated that. As Margi said before, we've given that information to her team and they have been deploying more capital in those areas to drive growth as well, because we're more accurately priced. To get back to your initial question, we're monitoring it; we do see it at a disaggregated level, but you've got the mix going on. If we do see the claims data start to move, we continue to then update our pricing, which could cause premiums to go up. It's a cost-plus model. So it's a continuous process.

Operator, Operator

We have the next question from the line of Ryan Tunis with Autonomous Research.

Ryan Tunis, Analyst

I might have missed it, if I did I apologize. But just on the Chewy launch, you mentioned that's launching imminently. Could you maybe give us a little more color on what is going to be the geographic reach of that when we meet again in three months? Is it five states, ten states, is it slower than that?

Margi Tooth, President

At the moment, we are in a soft launch phase. When discussing our launches, we are implementing them gradually, as we usually do. We want to ensure that everything is performing as anticipated. While we won't disclose specific geographic details, I can confirm that the launch will progress slowly throughout the year. We will roll it out state-by-state and collaborate with Chewy to ensure we are all aligned on the roadmap. The pace is satisfactory for both of us, and we will continue to move forward while managing the launch appropriately.

Ryan Tunis, Analyst

In your annual letter, I noticed you gave yourself a couple of Cs, which seemed quite critical. Could you elaborate on the reasoning behind that, particularly regarding the new product segment where you assigned yourself a C?

Margi Tooth, President

I can speak to that. So I don’t if you heard earlier, Darryl, Trish and I said that on the call. When we're thinking about new products just to be more specific about what that entails. That's looking specifically at ARPUs initiative and our GPS initiative. So the new products that are outside of the typical insurance space that we exist in. Just to recap again, as I mentioned earlier, when we think about giving ourselves a score within our 60-month plan, but for the first 12 months, we're looking at where would we expect to have been from January to December of 2021 for that first 12 months. What do we feel good about? Getting a C isn't horrible; it's fine and fine is never the best, but it's certainly not the worst. We think about a C; the reason we didn't score higher was because honestly, it would've liked to have made more progress in both of these products. But I think in general, we've learned a ton. These are, as I said, different from insurance. We're going into spaces that we have to do a lot of deep dives, a lot of research, and make sure that it's in keeping with everything that we said to do in the 60-month plan. They're difficult to do. We like difficult; we like hard. It means when we get there, it will be worth it and it's hard to replicate. All in all, we're happy with the progress. We didn't expect to kind of come at the getting As and A pluses for everything, and frankly, if we were, we would've been sandbagging. I think, in general, we feel good about a C. We've got a lot of work to do. We've still got about 43 months to go of our 60-month plan and we've set up well to make progress to get that a little bit higher next year.

Ryan Tunis, Analyst

So it didn't include the lower ARPU products, and I'm curious, what grade would you have given yourself for those for Furkin?

Margi Tooth, President

So PHI and Furkin are included in our additional insurance products. So we gave them a B minus. So above our new products but not as good as a member experience and our intrinsic value and revenue. Overall, they're doing well. I mean, we talk about the lead and convert side of them. The areas that we're looking to improve and conversion. We want to be able to operate that within the same guardrails as we operate our core business. We're learning all the time and making improvements all the time. I would say that since we put the scorecard together, we've taken another step forward, which is what we want. We’re probably about halfway to where we would like to be before we feel good about bringing that into the US market, but they're in Canada, lots of good stuff happening. Again, another score that I suspect, if we continue with the momentum we're seeing today with those two products, we'll be getting a much higher score than B minus for 2023.

Operator, Operator

Thank you. Ladies and gentlemen, that was the last question and that concludes today's conference. You may disconnect your lines at this time. Thank you for your participation.