Root Inc

ROOT, INC. AND SUBSIDIARIES

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS - UNAUDITED

1. NATURE OF BUSINESS

Root, Inc. is a holding company which, directly or indirectly, maintains 100% ownership of each of its subsidiaries, including, among others, Root Insurance Company and Root Property & Casualty Insurance Company, both Ohio-domiciled insurance companies, and Root Reinsurance Company, Ltd., a Cayman Islands-domiciled reinsurance company, together with Root, Inc., “we,” “us” or “our.”

We were formed in 2015 and began writing personal auto insurance in July 2016. We are a technology company operating primarily a direct-to-consumer model with the majority of our personal insurance customers acquired through mobile apps. We offer auto and renters insurance products underwritten by Root Insurance Company and Root Property & Casualty Insurance Company.

2. BASIS OF PRESENTATION AND SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES

Basis of Presentation—In our opinion, all adjustments necessary for a fair presentation of the condensed consolidated financial statements have been included. All such adjustments are of a normal and recurring nature. These condensed consolidated financial statements are unaudited and, accordingly, should be read in conjunction with the consolidated financial statements and related notes included in the Annual Report on Form 10-K for the year ended December 31, 2023 filed with the Securities and Exchange Commission, or SEC, on February 21, 2024.

Basis of Consolidation—The unaudited condensed consolidated financial statements include the accounts of Root, Inc. and its subsidiaries, all of which are wholly owned. These financial statements have been prepared in accordance with accounting principles generally accepted in the United States, or GAAP. All intercompany accounts and transactions have been eliminated.

Use of Estimates—The preparation of the unaudited condensed consolidated financial statements requires management to make certain estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the unaudited condensed consolidated financial statements and the reported amounts of revenue and expenses during the reporting period. Actual results could differ from those estimates. Significant estimates reflected in our unaudited condensed consolidated financial statements include, but are not limited to, reserves for loss and loss adjustment expense, or LAE, valuation allowances for income taxes and allowance for expected credit losses on premium receivables and reinsurance recoverables.

Legal and Other Contingencies—From time to time, we are party to litigation and legal proceedings relating to our business operations. We consider legal actions relating to claims made in the ordinary course of seeking indemnification for a loss covered by the insurance policy in establishing loss and LAE reserves. In the ordinary course of business, we also face certain lawsuits that seek damages beyond policy limits, or extra-contractual claims.

We continually evaluate potential liabilities and reserves for litigation and other matters using the guidance issued in the Financial Accounting Standards Board, or FASB, Accounting Standards Codification, Topic 450, Contingencies. Under this guidance, we may only record reserves for a loss if as of the date the financial statements are issued or available to be issued, the likelihood of occurrence is deemed probable and we can reasonably estimate the amount of the loss. When disclosing litigation, claims or other matters where a material loss is judged to be reasonably possible, we will disclose an estimated range of loss or state that an estimate cannot be made. We consider each matter using this guidance and record reserves for losses as warranted by establishing a reserve in loss and loss adjustment expense reserves for extra-contractual claims and other liabilities for class action, other non-claims related lawsuits and other matters in our condensed consolidated balance sheets. Any non-reinsurance related recoveries are recognized as other assets in our condensed consolidated balance sheets. We record amounts within loss and loss adjustment expenses for extra-contractual claims and general and administrative for class action and other non-claims related lawsuits in our condensed consolidated statements of operations and comprehensive income (loss). For other recoveries, we record these amounts in the same account as the initial expense in our condensed consolidated statements of operations and comprehensive income (loss). Further details are discussed in Note 11, “Commitments and Contingencies.”

Cash, Cash Equivalents and Restricted Cash—The following table provides a reconciliation of cash, cash equivalents and restricted cash reported within the condensed consolidated balance sheets that sum to the total of the same such amount in the condensed consolidated statements of cash flows:

Deferred Policy Acquisition Costs—The following table provides a reconciliation of the beginning and ending deferred policy acquisition costs, net of accumulated amortization, reported in other assets within the condensed consolidated balance sheets as of September 30, 2024 and 2023:

Earnings (Loss) Per Share—Earnings (loss) per share, or EPS, results are a key indicator of the overall performance relative to each share of our outstanding common stock. Basic earnings per share is calculated using the two-class method. Undistributed earnings are allocated to participating securities based on the extent to which each class may share in earnings as if all the earnings for the period have been distributed. Basic earnings per share is calculated by dividing net income attributable to common shareholders by the weighted-average number of common shares outstanding for the period. Common shares, when contingencies, such as vesting requirements, exist and have not been satisfied, are excluded from basic earnings per share.

Our Class A and Class B common stock are entitled to the same liquidation and dividend rights and therefore earnings are allocated equally. Our redeemable convertible preferred stock and nonvested shares subject to repurchase are considered to be participating securities because they participate in dividends that are non-forfeitable and distributions with common stock.

Diluted EPS for both Class A and Class B common stock includes all the components of basic EPS, plus the dilutive effect of common stock equivalents, but excludes those common stock equivalents from the calculation of diluted EPS when the effect of inclusion, assessed individually, would be anti-dilutive. The dilutive effect of stock options, nonvested shares subject to repurchase, restricted stock units, or RSUs, performance-based restricted stock units, or PSUs, and warrants are calculated using the treasury stock method. The dilutive effect of redeemable convertible preferred stock is calculated using the if-converted method.

For periods in which we operate at a loss, the conversion of common stock equivalents would increase the denominator of the diluted earnings per share calculation and create a lower loss per share. Therefore, these common stock equivalents are considered antidilutive and diluted EPS is equal to basic EPS. Participating securities do not participate in losses and therefore losses are not allocated in the two-class method. Further details are discussed in Note 12, “Earnings (Loss) Per Share.”

Upcoming Accounting Pronouncements—In November 2023, the FASB issued Accounting Standards Update, or ASU, No. 2023-07, Segment Reporting (Topic 280): Improvements to Reportable Segment Disclosures. This ASU looks to provide improvements to the segment disclosure by providing users with more decision-useful information about reportable segments in a public entity. The main provisions require a company to disclose, on an annual and interim basis, significant expenses included within each reported measure of segment profit or loss, an amount for other segment items by reportable segment, a description of its composition and the title and position of the Chief Operating Decision Maker, or CODM, with an explanation of how the CODM uses the reported measure(s) of segment profit or loss in assessing segment performance and deciding to allocate resources. It also requires all annual disclosures about a reportable segments’ profit or loss and assets to be reported on an interim basis. Although we operate in onlyone reporting segment, we are still required to provide all the disclosures required by this ASU and all existing segment disclosures in Topic 280.

This ASU is to be applied retrospectively to all prior periods presented in the financial statements with an effective date for all public entities for fiscal years beginning after December 15, 2023, and interim periods within fiscal years beginning after December 15, 2024. Early adoption is permitted. We will adopt this ASU in the fourth quarter of 2024 on a retrospective basis. We have currently identified the Chief Executive Officer as our CODM and net income (loss), as reported on the condensed consolidated statement of operations and comprehensive income (loss), as our reported measure of segment profit or loss. We are currently evaluating the other impacts of this ASU.

In December 2023, the FASB issued ASU No. 2023-09, Income Taxes (Topic 740): Improvements to Income Tax Disclosures. This ASU looks to enhance the transparency and decision usefulness of income tax disclosures primarily related to the rate reconciliation and income taxes paid information. The main provisions to the rate reconciliation disclosure require public entities on an annual basis to: disclose specific categories in the rate reconciliation and provide additional information for reconciling items that meet a quantitative threshold. The main provisions to the income taxes paid disclosure require that all entities disclose on an annual basis: the amount of income taxes paid disaggregated by federal, state and foreign taxes and the amount of income taxes paid disaggregated by individual jurisdictions in which income taxes paid meets a quantitative threshold. This ASU also requires all entities to disclose income (loss) from continuing operations before income tax expense (benefit) disaggregated between domestic and foreign and income tax expense (benefit) from continuing operations disaggregated by federal, state and foreign.

This ASU is to be applied on a prospective basis with an effective date for all public entities for annual periods beginning after December 15, 2024. Early adoption is permitted. This ASU only requires additional disclosure, will not have an impact on our results of operations or financial condition, and is not expected to have a material impact on the Notes to Condensed Consolidated Financial Statements.

3. INVESTMENTS

The amortized cost and fair value of short-term investments and available-for-sale fixed maturity securities at September 30, 2024 and December 31, 2023 are as follows:

Management reviewed the available-for-sale securities at each balance sheet date to consider whether it was necessary to recognize a credit loss as of September 30, 2024 and December 31, 2023. We do not intend to sell the securities and it is not more likely than not that we will be required to sell the securities before recovery. Management concluded that the available-for-sale securities’ unrealized losses were due to non-credit related factors and, therefore, there was no allowance for credit loss as of September 30, 2024 and December 31, 2023.

The following tables reflect the gross unrealized losses and fair value of short-term investments and available-for-sale fixed maturity securities, aggregated by investment category and length of time that individual securities have been in a continuous unrealized loss position at September 30, 2024 and December 31, 2023:

Other Investments

As of September 30, 2024 and December 31, 2023, other investments related to our private equity investments were $4.4 million. There wereno realized or unrealized gains and losses or impairment losses recognized on private equity investments for the three and nine months ended September 30, 2024 and 2023.

There were no realized gains or losses on short-term investments, available-for-sale fixed maturities and other investments for the three and nine months ended September 30, 2024 and 2023.

The following table sets forth the amortized cost and fair value of short-term investments and available-for-sale fixed maturity securities by contractual maturity at September 30, 2024:

The following table sets forth the components of net investment income for the three and nine months ended September 30, 2024 and 2023:

The following tables summarize the credit ratings of short-term investments and available-for-sale fixed maturity securities at September 30, 2024 and December 31, 2023:

4. FAIR VALUE OF FINANCIAL INSTRUMENTS

The following tables provide information about our financial assets measured and reported at fair value as of September 30, 2024 and December 31, 2023:

We estimate the fair value of all our different classes of Level 2 fixed maturities and short-term investments by using quoted prices from a combination of an independent pricing vendor or broker/dealer, pricing models, quoted prices of securities with similar characteristics or discounted cash flows. All significant inputs were observable in the active markets.

Fair Value of Long-Term Debt

The carrying amount of long-term debt is recorded at the unpaid balance, net of discount and debt issuance costs. The fair value of outstanding long-term debt is classified within Level 2 of the fair value hierarchy. The fair value is based on a model referencing observable interest rates and spreads to project and discount cash flows to present value. As of September 30, 2024 and December 31, 2023, the carrying amounts and fair values of these financial instruments were as follows:

The carrying amounts of other short-term financial instruments approximates their fair value due to their short-term nature.

5. LOSS AND LOSS ADJUSTMENT EXPENSE RESERVES

The following provides a reconciliation of the beginning and ending reserve balances for loss and LAE, net of reinsurance:

Incurred losses and LAE attributable to prior accident years was a decrease of $7.9 million and $0.6 million for the nine months ended September 30, 2024 and 2023, respectively. For the nine months ended September 30, 2024, the development of incurred losses and LAE related to prior periods was primarily driven by lower-than-expected reported losses and LAE from accident year 2023 on both liability and physical damage coverages. For the nine months ended September 30, 2023, the development of incurred losses and LAE related to prior periods was a result of lower-than-expected reported losses on injury coverages, partially offset by losses on commutations of certain reinsurance agreements and higher-than-expected LAE in prior accident periods.

6. REINSURANCE

The following table reflects amounts affecting the condensed consolidated statements of operations and comprehensive income (loss) for reinsurance for the three and nine months ended September 30, 2024 and 2023:

In the event that all or any of the reinsuring companies might be unable to meet their obligations under existing reinsurance agreements, we would be liable to the policyholder for such defaulted amounts.

7. LONG-TERM DEBT

In January 2022, we entered into a $300.0 million five-year term loan, or Term Loan, with the principal amount due and payable upon maturity on January 27, 2027. Interest is payable quarterly and determined on a floating interest rate currently calculated on the Secured Overnight Financing Rate, or SOFR, with a 1.0% floor, plus 9.0%. The Term Loan can be repaid at anytime through the maturity date without a prepayment premium, provided that we give at least three business days’ written notice.

The following summarizes the carrying value of long-term debt and warrants as of September 30, 2024 and December 31, 2023:

In September 2024, we entered into the first amendment to the Term Loan, which among other things, provides greater flexibility for investments in future insurance subsidiaries.

In October 2024, we entered into the second amendment to the Term Loan, or Amended Term Loan, which extinguished and modified portions of the Term Loan, including the interest rate, while also providing for new borrowings. For additional information refer to Note 14, “Subsequent Events.”

8. INCOME TAXES

The consolidated effective tax rate waszero for the three and nine months ended September 30, 2024 and 2023. The difference between these rates and the U.S. federal income tax rate of 21% was primarily due to a full valuation allowance on our U.S. deferred tax assets.

As of September 30, 2024 and December 31, 2023, we did not have any unrecognized tax benefits for uncertain tax positions and had no interest or penalties related to uncertain tax positions.

9. RESTRUCTURING COSTS

Beginning in 2022, we conducted strategic initiatives to reduce operating costs, improve efficiency, and increase focus on our strategic priorities. These initiatives resulted in restructuring actions that included a reduction in workforce levels, contract terminations, and, in certain instances, a reduction in office space. These restructuring actions include the following costs:

Employee costs—consist of severance, benefits, share-based compensation, and employee compensation expense dependent upon continuous employment for certain employees and related employee costs.

Real estate exit costs—consist of real estate exit costs primarily related to accelerated amortization of right-of-use assets, leasehold improvements and furniture and fixtures.

Other costs—primarily consist of contract termination costs incurred as part of our efforts to improve efficiency and reduce operating costs and accelerated expense for software that no longer has economic benefit.

As of September 30, 2024, we do not expect to incur any additional material expenditures in future periods related to restructuring actions that have occurred.

The following table displays restructuring costs recorded in general and administrative expenses on the condensed consolidated statements of operations and comprehensive income (loss):

The following table displays a rollforward of the accrual for restructuring costs recorded in accounts payable and accrued expenses on the condensed consolidated balance sheets:

10. SHARE-BASED COMPENSATION

Warrants

In October 2021, we issued Carvana eight tranches of warrants, comprised ofthree tranches of “short-term warrants” andfive tranches of “long-term warrants,” with the opportunity to purchase a maximum of 7.2 million shares of Class A common stock.

As of June 30, 2024, all of the short-term warrants have vested and all of the respective compensation cost has been recognized. While the short-term warrants are vested and outstanding, it is not a possible outcome for the long-term warrants to also vest, so they are considered not probable of vesting. We recognized warrant compensation expense related to these equity-classified warrants based on policies originating through the integrated automobile insurance solution for Carvana’s online buying platform. All of these warrants are out-of-the-money and therefore have no intrinsic value as of September 30, 2024.

We recognized warrant compensation expense ofzero and $5.0 million for the three months ended September 30, 2024 and 2023, respectively. We recognized warrant compensation expense of $3.8 million and $13.3 million for the nine months ended September 30, 2024 and 2023, respectively. Warrant compensation expense is recorded in other insurance expense in the condensed consolidated statements of operations and comprehensive income (loss).

Employee Share-Based Compensation

We maintain an equity incentive plan, or the Plan, for the issuance and grant of equity awards (restricted stock, restricted stock units, or RSUs, performance-based restricted stock units, or PSUs, and incentive and nonqualified stock options) to our officers, directors, employees and certain advisors. As of September 30, 2024, we had 1.9 million common shares available for issuance under the Plan.

When these RSU and PSU awards vest, we fund the related payroll tax withholding and remittance obligations by either (i) withholding shares of our Class A common stock that would have otherwise been issued with respect to such awards and pay the relevant tax authorities in cash to satisfy such tax obligations or (ii) allowing holders of such awards to pay us an amount in cash, via a broker, sufficient to cover the applicable tax withholding obligations. We recognize the related tax withholding liability for employee taxes on the date of the event triggering the measurement and payment of the tax to the taxing authority, which is the vesting date. The obligation to satisfy the employee portion of tax withholding in the event of net share settlement is reflected as a reduction of additional paid-in capital in our condensed consolidated balance sheets.

The following table displays share-based compensation expense recorded in the condensed consolidated statements of operations and comprehensive income (loss):

The following table provides total share-based compensation expense by type of award:

As of September 30, 2024, there was $0.6 million, $21.6 million, and $1.2 million of unrecognized compensation cost related to unvested stock options, RSUs, and PSUs, respectively. The remaining costs are expected to be recognized over a period of approximatelytwo years for unvested stock options, andthree years for RSUs and PSUs.

Restricted Stock Units and Performance-Based Restricted Stock Units

A summary of RSU and PSU activity for the nine months ended September 30, 2024 is as follows:

Stock Options

A summary of option activity for the nine months ended September 30, 2024 is as follows:

11. COMMITMENTS AND CONTINGENCIES

From time to time, we are party to litigation and legal proceedings relating to our business operations. While the outcome of all legal actions is not presently determinable, except as disclosed below, we do not believe that we are party to any current or pending legal action that if concluded adversely could reasonably be expected to have a material adverse effect on our financial condition or results of operations and cash flow.

On March 19, 2021, a purported class action complaint was filed against the Company and certain of its current and former officers and directors in the U.S. District Court for the Southern District of Ohio (Case No. 2:21-cv-01197) on behalf of certain Root shareholders. The complaint alleged that defendants made false or misleading statements and omissions of purportedly material fact, in violation of Sections 10(b) and 20(a) of the Exchange Act and Rule 10b-5 thereunder, and of Sections 11 and 15 of the Securities Act in connection with and following the Company’s initial public offering. The complaint sought unspecified damages. The defendants’ motion to dismiss the claims set forth in the complaint was granted and the lawsuit was dismissed with prejudice on March 31, 2023, which dismissal was affirmed on April 29, 2024, by the United States Court of Appeals for the Sixth Circuit. The plaintiffs filed a petition for a writ of certiorari on August 28, 2024 with the United States Supreme Court, which defendants have opposed. The Company intends to continue to vigorously defend against the allegations. We cannot predict the outcome or estimate the likelihood or magnitude of our possible or potential loss contingency.

We are contingently liable for possible future assessments under regulatory requirements for insolvencies and impairments of unaffiliated insurance companies.

12. EARNINGS (LOSS) PER SHARE

The following table displays the computation of basic and diluted EPS for both Class A and Class B common stock for the three and nine months ended September 30, 2024 and 2023:

For the three and nine months ended September 30, 2023, we operated at a loss and therefore, the conversion of common stock equivalents would increase the denominator of the diluted EPS calculation and create a lower loss per share. Therefore, these common stock equivalents are considered anti-dilutive and diluted EPS is equal to basic EPS.

We excluded the following potentially dilutive common stock equivalents, presented based on amounts outstanding at each period end, from the computation of diluted EPS attributable to common shareholders for the periods indicated because including them would have had an anti-dilutive effect:

13. GEOGRAPHICAL BREAKDOWN OF GROSS PREMIUMS WRITTEN

Gross premiums written by state is as follows for the three and nine months ended September 30, 2024 and 2023:

14. SUBSEQUENT EVENTS

In October 2024, we entered into the Amended Term Loan that resulted in extinguishment of $237.1 million of the Term Loan, modification of $62.9 million of the Term Loan, and new borrowings of $137.1 million from new BlackRock funds. The resulting principal amount under the Amended Term Loan is $200.0 million and has a maturity date of October 29, 2030. Interest is variable and calculated quarterly between SOFR plus 5.25% and SOFR plus 6.00%, with a SOFR floor of 1.00%, based upon the debt-to-capital ratio payable quarterly, in cash.

In connection with the Amended Term Loan, during the fourth quarter of 2024 we expensed approximately $5.5 million of unamortized debt discount and issuance costs related to the extinguishment; and we incurred approximately $3.0 million of debt discount and issuance costs related to the new borrowings, most of which will be capitalized and amortized over the life of the Amended Term Loan.