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Why I’m Betting Against Lemonade

I’m betting against Lemonade, the highly publicized insurtech startup.

I’m not betting against its ability to make money. The venture capitalists who have invested $60 million in the company are better at assessing the company’s financial chances than I am. Lemonade’s backers are in it to get rich—or richer—and not to make insurance “delightful,” as the company’s slogan goes, and they may well succeed.

I’m betting against Lemonade’s claim that it is “transforming the very business model of insurance.” Apps, bots and a giveback to charity just aren’t enough. Lemonade says it doesn’t operate like a traditional insurance company in many respects. Let’s test that proposition by measuring Lemonade against a standard of how customer-friendly insurers should operate.

The standard is set by the Essential Protections for Policyholders, a project of the Rutgers Center for Risk and Responsibility at Rutgers Law School, which I co-direct, in cooperation with United Policyholders. (https://epp.law.rutgers.edu/) The Essential Protections provide a roadmap for states to follow in regulating homeowners insurance and a scorecard to evaluate states’ current systems of regulation. Although the Essential Protections are directed at regulators, they also can be used to measure how well an insurance company like Lemonade measures up. Here are some examples.

See also: The Story Behind the Lemonade Hype  

Buying Insurance

Homeowners generally don’t know much about the policies they are buying except for the basics—policy limits, deductible, price, maybe a few essential terms. Lemonade has made a start at improving this process; it offers customers a copy of the policy before they pay for it, and the company issues transparency reports with some information about claims. But more is needed, and the Essential Protections suggest further steps that Lemonade can take.

First, Lemonade should post its policies online, with easy-to-understand explanations of key provisions and comparisons to terms in other commonly used policies, like the Summary of Benefits and Coverages under the Affordable Care Act.

Second, Lemonade has made a preliminary report on its claims (only six were filed in 2016). When it accumulates more claims, it should do what no other insurer does and give statistics on those claims: number of claims opened, closed with payment, and closed without payment, including amounts. How many claims were disputed? How long did it take to resolve major claims? Then consumers can begin to evaluate Lemonade on quality as well as price.

Premiums and Renewals

A big problem in homeowners insurance is what policyholder advocates describe as “Use It and Lose It.” A homeowner who has paid premiums for years suffers a loss and files a claim; the insurance company responds by dramatically raising the homeowners’ premium or even refusing to renew the policy altogether.

Is Lemonade’s underwriting algorithm going to employ Use It and Lose It? Lemonade claimed (probably accurately) a world record when its claim bot, A.I. Jim, paid policyholder Brandon’s claim for a lost coat in three seconds. But what happens to Brandon when the policy comes up for renewal? Will Lemonade renew his policy? Will it raise his premium, now $5 a month?

If Lemonade wants to transform insurance, it should commit to the Essential Protections standard by pledging not to non-renew or raise a premium because a policyholder submits a single claim in a three-year period. Some states require adherence to the standard by law, but as Lemonade goes national it can promise to treat all its policyholders at least this well.

Claims Process

Processing a claim for a stolen coat by bot is great, but people mostly buy insurance for protection against major losses. Lemonade hasn’t disclosed how it will process those claims. Does it have a claims staff who will go out and inspect a fire-damaged home or will it hire third-party adjusters? How will those people be compensated? What does their claims manual look like? Lemonade should tell us.

Essential Protections suggest other standards Lemonade should follow. It should provide policyholders a clear explanation of all of their rights and obligations, copies of relevant state laws, and every piece of information that Lemonade uses in evaluating the claim. Their policies should give claimants at least two years to file suit if necessary and advance notice that any deadline is expiring. Policies also should have lots of other details often subject to dispute, including, for example, adequate Additional Living Expense, matching of undamaged to damaged property, and more. (Go to the Essential Protections website for details.)

See also: Why I’m Betting on Lemonade

Lemonade hopes that the claim process will always be problem-free. But often there will be disputes about coverage or scope of loss. Lemonade should provide for fair appraisal, mediation, and arbitration provisions. And if a policyholder is required to sue Lemonade because it has acted unreasonably and the policyholder wins, Lemonade should agree to pay the policyholder’s attorneys fees in addition to damages, so the policyholder is made whole.

Conclusion

For now, I’m betting against Lemonade transforming what policyholders care about most in insurance—having enough information to make good choices in buying insurance, being treated reasonably, and having their claims paid promptly and fairly. I hope I lose the bet, because if Lemonade does a good job and attracts customers, the market will force other insurers to do the same. So far, Lemonade hasn’t provided enough evidence to show that will happen.

Time to End the Market for Ignorance

Insurance is mostly sold on the basis of ignorance, not information. Innovative insurers have an opportunity to change that dynamic.

Recently, I bought a small television for my bedroom. At $229 for a modest luxury, the purchase was not a life-changing event, and though I’m not entirely happy (the sound is a little tinny) the consequences of the disappointment are minor.

I was able to make a wiser buying decision about that TV than about my homeowners insurance, which cost much more and for which the consequences of a bad decision could be catastrophic, if I had a major loss and bought the wrong coverage from an unreliable company. My lack of knowledge about my homeowners insurance is because insurers market ignorance — presenting a major opportunity for innovative insurers to devise systems that enable consumers to make better buying decisions.

Three factors entered into my TV buying decision: product features, price and quality. 32-inch or 40-inch screen? 1080p or 720p? Smart TV or traditional? For each of those features, how much would I have to pay? And how reliable was the TV likely to be: Samsung vs. Sony vs. LG? Online and brick-and-mortar retailers gave me all the relevant information about product and price, and Consumer Reports and other review sites told me a lot about quality.

See also: Innovation — or Just Innovative Thinking?  

Now think about buying homeowners insurance. Few if any legacy insurers provide a sample policy — the full description of product features — prior to purchase. Some will provide a summary, but the summaries tend to be sketchy at best and don’t provide an adequate basis for comparing policies between insurers. Information about company quality is mostly provided by the warm and fuzzy feeling generated by television commercials; what empirical data exist — Consumer Reports again and state insurance department consumer complaint data — is of limited value.

There are many reasons why insurers don’t provide adequate product or quality information, but the important questions are whether insurers, particularly innovative insurers, will change this situation and, if they don’t, what else can be done in response?

Some innovative insurers and intermediaries are making inroads. Lemonade, for example, promises a summary of coverage and sample policy after a customer applies but before he or she pays, and it gives some information on loss ratios, though, as a start-up, of course it has no claims history so far. Getmargo.com offers an insurance advocate to explain policy terms, something good agents always have done but something that has declined with disintermediation. If those efforts demonstrate a market for information, other companies may follow suit.

But those efforts just scratch the surface. As long as personal lines insurance markets are dominated by ignorance rather than information, there needs to be another type of response that does not depend on the market: better regulation.

That’s one part of the Essential Protections for Policyholders, a project of the Rutgers Center for Risk and Responsibility in cooperation with United Policyholders. For example, the Affordable Care Act requires a summary of benefits and coverage answering questions such as “What is the overall deductible?” and “Do I need a referral to see a specialist?” The same kind of form could be required for homeowners insurance and published on state insurance department websites.

At the other end of the process, most states collect claims data — the proportion of claims closed without payment, the median time to payment of a claim, and so on. Those figures also could be made publicly available as a tool for comparing the reliability of different companies.

See also: The Future of Insurance Is Insurtech  

Insurance is a market commodity, but there are significant failures in the market for insurance information. Innovative insurers have an opportunity here, but until they act, better non-market solutions through regulation are needed.