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Analysis EO
May 13, 2020 06:18 pm ·

Into a More Open Chinese Market: MSCI’s 2020 Semi-annual Index Review

► MSCI has added 56 Chinese companies into MSCI China All Shares Index and 61 into MSCI China A Onshore Index. ► As China's A-share market gets more open, MSCI has shown its optimism amid the continued pandemic. Deemed as the compass for many international investors, MSCI often reflects the updates of global markets and has a good nose for landscape shifts in dynamic economies.  In the most updated semi-annual review in 2020, this index provider has made substantial changes in their indexes constitution, compared to the last quarterly adjustments. This time, 137 securities will be newly added to and 181 securities deleted from MSCI SCWI Index, including Offcn Education (002607:SZ) and China Feihe (6186:HKSE) as the largest-market value additions in the MSCI Emerging Markets Index. Contrarily, MSCI February Quarterly Review only saw seven companies added into its Global Standard Indexes, including six Chinese companies: three A-share listed, one red-chip stock and two Chinese ADRs. MSCI ACWI Index, considered as one flagship global equity index, started to capture Chinese A-shares since 2018 and has given more weights to Chinese shares (China All Shares including A-shares, B-share, H-shares, P-shares), reaching up to 5% as of November 2019.  The MSCI series index rebalancing typically takes place quarterly or semi-annually in a review relative to the market or the determined strategies, with prime objectives of representativeness, replicability and efficiency.  This semi-annual review amid the continued pandemic seems to be attracting the attention of global investors even more than in usual times. The COVID-19 'black swan' event has disrupted the global market, leaving a tough situation for institutional investors. This result seems to be a robust reference after the world experienced the pains from the turbulence. Another highlight is the set of China companies listed overseas, especially on the US stock market. Within two months after MSCI’s inclusion of Luckin Coffee (LK:NASDAQ) in its first quarterly review, it shocked the global market with a sensational fraud. This scandal has even caused a rippling effect on other US-listed Chinese companies, regardless of industries. GSX Tech Edu (GSX:NYSE) saw its share price dwindling after being accused of revenue fraud – even though its Q1 financial report shows a 336% increase in net profits. However, the two well-known Chinese US listings will have their different comings. Luckin Coffee will be deleted from MSCI China All Shares Index, while GSX Edu will be added into this glory list. A focus on Chinese shares In an exclusive look at Chinese companies, MSCI has established many relevant indexes to track the performances of Chinese shares. Their actual businesses, together with the mainland market, can be reflected by the following indexes. MSCI China All Shares Index: it captures large and mid-cap representation across China A‐shares, B‐shares, H‐shares, Red‐ chips, P‐chips and foreign listings (e.g., ADRs), namely Chinese shares listed in Hong Kong, Shanghai, Shenzhen and outside of China.  MSCI China A International Index: it includes the China A-share constituents of the MSCI China All Shares Index, a subset of MSCI China All Shares Index from an international QFII/RQFII investor’s perspective. MSCI China A Onshore Index: it reflects large and mid-cap representation across China securities listed on the Shanghai and Shenzhen stock exchanges, which additionally covers B-shares in contrast with China A International Index. The Chinese A-share market has come under the spotlight since the first inclusion into MSCI’s star index – ACWI index and Emerging Market Index in 2018. In the volatile move of May 2020 Semi-Annual Review, 45 out of 56 are Chinese A-shares.  “China A-shares equities suffered a sharp drawdown in March as global equities plunged into a bear market amid surging COVID- 19 cases worldwide and slumping oil prices,” as noted in the Morgan Stanley’s China A-shares Fund monthly commentary on March 2020. “The MSCI China A-shares Onshore Index declined -8.22% but outperformed the MSCI All Country Asia ex-Japan Index and MSCI Emerging Markets Index, which returned -12.05% and -15.40%, respectively.”  The Star Market, Chinese Nasdaq-like stock exchange, also attracts the attention of the index provider who bids the long-term future of rising Chinese sciences and technology. Even though the MSCI index considered Chinese Star Market as the index candidate pool, it did not take further actions immediately until the February Quarterly Review this year when it added the very first Star Market-listed company, Beijing-based Kingsoft Office (688111:SH), into MSCI China All Shares Index and China A-shares Index.  It hasn't yet made it into the Global Standard Indexes - it takes time for internationally recognizable index providers to fully realize the value of the Star Market. More investability The world-class financial research juggernaut has always been showing its interest in the fastest-growing emerging markets. As early as in 2015, MSCI started to incorporate two Chinese foreign listings into its MSCI China and MSCI China All Shares: Alibaba (BABA:NYSE) and Baidu (BIDU:NASDAQ). Later in October 2019, MSCI showed its intention to include the Star Market-listed stocks into its two indices, the MSCI China and MSCI China All Shares, as reported. Indeed, the Chinese public market has been growing into an ignorable economic force during the last decade. As informative as MSCI, it has tracked three major sectors based on the Global Industry Classification Standard (GICS®) and formulated three indexes respectively, selecting constituents from China All Shares portfolio against a policy of 10/40 concentration constraints.  In a comparative look into these three indexes, Consumer Staples sector has outperformed the other two sectors since the beginning of 2019 in a continued up-swinging trend, diverging from others. Even Consumer Discretionary, with the lowest net return by far, beat MSCI All China Shares by 11.31 points higher, according to the MSCI factsheet (as of April 2020). For the annual performance, the MSCI China All Share Consumer Discretionary 10/40 had 43.34% annualized net return in 2019, 56.85% higher than the China All Share Index. A noteworthy remark about the healthcare Index shown above is the idiosyncratic slump in 2020 early Spring which dragged it down to a recent bottom below 1250. It later caught up very aggressively and kept narrowing the gap between the leading one. This quarter-long sprint indicates a boom in China’s healthcare industry, represented by several impressive investments deals and wide-sprawling new healthcare businesses – such as online healthcare. Apart from these Chinese shares-specific MSCI indexes, their corresponding Exchange-Traded Funds (ETFs) are even more dynamic and favorable to some long-term investors. See more about China Shares-focused Indexes and their US-listed ETFs in an EqualOcean in-depth article published this week. Currently, the world is still shrouded by the hovering COVID-19 pandemic. The reality that many cross-border businesses being trapped in stagnant, international companies struggling with cutoff operations and markets set into slumps - has once again reminded the world that every economy is tightly interlinked in a global community of shared future. Last but not least, the mainland China market has made a more fundamental reform towards openness. Last week, the People’s Bank of China (PBoC) and the State Administration of Foreign Exchange (SAFE) canceled the investment quota restrictions for ‘Qualified Foreign Institutional Investors’ (QFII) and ‘Renminbi Qualified Foreign Institutional Investors’ (RQFII). The government has realized the inappropriate disparity of investment fund constitution in China A-share market, with just 2% total market value represented by foreign investment accounts. As Fang Xinghai, the vice-chairman of the China Securities Regulatory Commission (CSRC), said, “we need to open it up further.”

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Analysis EO
Apr 18, 2020 01:25 am ·

Replaying Luckin’s Financials and Strategies: What Went Wrong? Part 2/2

In the previous article, we analyzed the status quo of Luckin Coffee in 2019 after adjustment for its CNY 2.2 billion misconduct. This chapter will discuss the harmonization of coffee with a ‘cash burn’ aggressive expansion strategy in the Chinese market for now. Luckin vs. other players on the table With the existing data that can be considered reliable, the average effective selling price of Luckin’s products was generally slightly lower than CNY 10 up to the third quarter of 2019. After its chain formed an initial scale (after the first quarter of 2018), its store-level average items sold per day tended to wax and wane with its net selling price. The figure was slightly lower than 300 in the six months starting from April 2018, and reached a peak of 361 units in the fourth quarter of 2018 due to a price drop, then decreased to around 250 units for the nine months starting from January 2019. Here are the explanations on the data and relevant assumptions: # About the price: data up to the first quarter of 2019 is taken from its audited prospectus. Data reported in its second quarter and the third report of 2019 cannot be used anymore as the result of the misconduct, but fortunately, we may get a taste of it from the short-side report published on Muddy Waters Researches – wherein it is claimed that Luckin inflated its effective selling price by 12.3% in the third quarter of 2019. In this case, we can estimate its average selling price during the quarter by deducting 12.3% on its reported figure of CNY 11.2, which gives us a number of CNY 9.8. As the misconduct on turnovers of Luckin started from the second quarter of 2019, we assume its effective selling price as reported in its second-quarter 2019 report was also manipulated. We assume the degree of this inflation to be similar to that of the third quarter of 2019, so we also applied the 12.3% taken from the report published on Muddy Waters Researches, where the number was obtained from the serious due diligence conducted by its authors. It has to be mentioned that this is only a rough projection as we didn’t separate out its snacks and tea drinks (which launched in the second quarter of 2019) from coffee. So for coffee alone, the actual price charged would be slightly higher; but anyway, as coffee is the main product of Luckin, and its selling price for other categories does not deviate much from coffee, the difference should not be significant. # About the quantity: Data up to the first quarter of 2019 is taken from its audited prospectus. As for data for the second and the third quarters of 2019, we first take the adjusted total revenue from products, and divide it by the adjusted average selling price per item, as we just explained above. For the adjusted revenue from products, we assume the inflated percentages in revenue are the same for all the three quarters subjected to the misconduct. Luckin’s inflated total revenue during the nine months is calculated as the number reported in its existing quarterly report for the second quarter (CNY 909.1 million) and the third quarter (CNY 1.54 billion) plus the number for the fourth quarter (CNY 2.1 – 2.2 billion) projected by its board in its third-quarter earnings call, which adds up to CNY 4.6 billion. The misconduct accounts for the CNY 2.2 billion according to its announcement on April 2. Therefore, the percentage is 47.81%. We have obtained ‘quasi-accurate’ data regarding Luckin’s historical store-level operating figures. So how were Luckin’s results, as a coffee chain store? To answer this question, we have to compare its figures with its peers. ►Luckin vs. Starbucks China: 1/3 average selling price, about 60% items sold per store per day. Before we move on, it has to be the first mentioned that it is, in fact, not so easy to compare Luckin against Starbucks. The only aspect that is truly similar is that they are both coffee chains in which fresh-brewed drinks are the main product category. Luckin targets affordability and convenience, while Starbucks emphasizes branding and experience. They are in two different niches in the market, and furthermore, they are probably going to be more and more differentiated from each other. However, Luckin’s board has always been (almost madly) over-focused on Starbucks China – especially after the company went public. This can be easily observed from their remarks during the conferences at the company. Therefore, hereby we compare the store-level operating performance of the two to investigate if Luckin truly has the potential to beat the American giant in the Chinese market. The average net selling price of Luckin was about CNY 10, which is approximately one-third of that of Starbucks China, and meanwhile, with a slogan of “we don’t have to pay for space,” Luckin offers convenient in-store pickup and delivery services rather than a cozy environment. Considering the position of the two, and the fact that Luckin’s store-level numbers of items sold surpassed those of Starbucks China to a certain extent, we can say that its operations can be considered as satisfactory. However, as Luckin was in its massive expanding stage, the ramp-up period of the new stores would negatively affect its overall performance, so we leave it with some room to compensate for this effect. But anyway, to indicate that Luckin did a decent job on daily operations under a comparable approach, its store-level numbers of items sold should not have a huge gap from that of Starbucks China. The results for Luckin were sad. Its store-level number of items sold was only about 60% of Starbucks China, under an average net selling price is only one-third of that of the latter. The only thing that Luckin caught up quickly in compared to Starbucks China was the number of stores; however, the bigger network did not empower it with the capabilities to compete against Starbucks in terms of demand. ►Luckin vs. convenience stores and fast food restaurant chains: Is Luckin really cheap? In fact, from our perspective, to continue to emphasize the comparison with Starbucks China was a trick used by the board of Luckin to lure the market into looking away from other players in the field that also emphasizes affordability and convenience. The relevant field includes convenience store chains like FamilyMart (Par Coffee), fast food store chains like McDonalds (McCafe), and coffee store chains that are similar to Luckin Coffee like Manner Coffee. These players – which already have a certain scale and customer base – also offer fresh-brewed coffee with net selling prices that range from CNY 8 to CNY 15. Therefore, it is actually hard to say that a highly affordable price can contribute to a major competitive advantage for Luckin Coffee. Is coffee truly a decent category in which to employ a ‘cash burn’ strategy in the Chinese market now? Based on the following points, the answer to the question is probably a no: ►The user base acquired with heavy subsidies in China is yet to be proven to have rigid demand for coffee. China has a strong culture of tea, while coffee, as an exotic product, has yet to become a daily essential among the majority of people. According to the prospects of Luckin coffee, the annual per capita coffee consumption in China was only 6.2 cups in 2018. Even if we only consider the urban population aged between 15-60, this number was only about 20.3, which is far lower than the 400 cups level in Japan and South Korea, where people tend to have similar cultures around diet. As long as there is still not a rigid demand for coffee among the general population, it is hard for a coffee brand that does not have a strong brand and decent taste to simply employ aggressive marketing strategies to attract users with solid retention. Customers that are not coffee lovers themselves but simply attracted by the highly affordable price tend to switch to other substitutes when the price increases. This is reflected in Luckin’s store-level average number of products sold, which has waxed and waned with its net selling price, as well as the fact that its intrinsic growth (revenue per store) in 2019 was significantly lower than its extrinsic growth (number of stores). Therefore, for a market whose demand has not yet been proven to be rigid enough among the general population, the aggressive marketing strategy that takes scale as the first place can hardly be efficient. A better path might be to open new stores gradually to test the demand. ►Using the growth strategy of an Internet company cannot help a coffee chain store to avoid the high marginal costs in serving additional users. Employing the model of an Internet company brought Luckin the capability to get a large user base rapidly. However, this model could not help an Online-to-Offline (O2O) business – where the products are made and delivered to the customer in offline scenarios – to cut expenditure on infrastructures and operations. However, is Luckin’s idea of offering highly affordable and convenient coffee with a technology-driven model a fundamentally flawed proposition? Not really, for this reason. The dilemma of Luckin is the combination of coffee – an asset-heavy industry without rigid demand among the majorities in China at present – with a ‘cash burning’ marketing strategy which considers aggressive expansion as the first priority. However, talking about either side – its highly standardized and digitalized approach in operations and productions or China’s coffee market – there is nothing to blame the founders for in wanting to grow in these fertile areas.

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Apr 18, 2020 01:20 am ·

Replaying Luckin’s Financials and Strategies: What Went Wrong? Part 1/2

On April 2, Luckin Coffee (LK:NASDAQ) confirmed that its sales numbers were inflated by a total of CNY 2.2 billion (USD 310 million) in 2019. This number represents approximately 45% of its projected final sales. As we will demonstrate in this article, the fact that the company failed to make decent growth in terms of average cups sold per day and average effective selling price is coming to the surface. In the wake of the incident, we will replay its existing financial statements to find answers for the following questions: Part 1/2: Did the Luckin’s cash burning approach achieve its aims? We approach this via analysis of its store-level operation figures, adjusted for misconduct. Part 2/2: Is coffee a proper category to employ a ‘cash burning’ strategy in exchange for scale in the Chinese market? To answer this question, we will compare the store-level operating figures of Luckin Coffee with its peers, either those doing similar business or adopting a similar marketing model. What kind of company is Luckin Coffee? Before we move on, we should make it clear what kind of company Luckin really is. Many regard it as a coffee chain store; however, this is more or less something on the surface. Simply put, the underlying idea of Luckin Coffee, at least in the very beginning, was to be an ‘Internet company.’ No matter whether one thinks this term is still positive or not, it implies that the goal of Luckin was to digitalize and standardize the production and operation of the offline retail business using a technology-enhanced approach, rather than a being a traditional coffee retailer. In other words, for Luckin, coffee was only a category that it chose to cut into the market and start its business, and combine this with the classic cash burn strategy of Chinese Internet startups to quickly acquire users and scale-up. If it succeeded in this first stage, it could then expand to cover more product categories; and finally, gain the potential to become an integrated channel for daily consumption. However, how this business idea – which sounds attractive – really works in practice can be a very different story. Measuring its tremendous misconduct through its inflated turnover data, we can better examine whether its aggressive marketing strategy did bring the company a fruitful return in the first place. Luckin hardly achieved store-level internal growth from 2Q 2019 The ‘Cash burn’ strategy – aka, pour money into heavily subsidized and aggressive expansion in exchange for users and scale – is commonly used by the new generation of Internet companies in helping them realize a beautiful growth rate, and raise more funds from the investors. So far, some have tasted blood; the huge money they invested did bring them decent growth in terms of revenue and profitability. Meituan-Dianping (3690:HKEX), Pinduoduo (PDD:NASDAQ), and Didi are examples of this. Some have suffered, meanwhile, like Uber (UBER:NYSE), WeWork and ofo. So how about Luckin? Unfortunately, evidence suggests the cash burn marketing strategy of the company can hardly be respected as effective in 2019, after CNY 2.2 billion of revenue was shaved off following the revealed misconduct. Its huge offline chain store system under construction didn’t induce people to buy more. Using the figures for the first quarter of 2019 as a benchmark, we can check the per-store level growth rate of Luckin over the next three quarters in 2019. Our results show that the average number of stores operating during the quarter (extensive growth) of Luckin Coffee increased by 38.43%, from 2,222 in 1Q 2019 to 3,076 in 4Q 2019. Its growth in average daily store-level revenue (intensive growth) was only 7.02%. The explanation for data, assumptions, and calculations are as follows: # About the reliability of data in the first quarter of 2019: There is no evidence so far that can prove the company manipulated figures in its results for the first quarter of 2019. According to the available evidence, its financial misconduct started in the second quarter of 2019; also, its first-quarter results are reported in its prospectus, which was audited by Ernst & Young. So we consider all the operating figures in the period that can be directly taken or derived from its prospectus reliable. # About data on the number of stores: Luckin reported the number of stores that it had by the end of each quarter in its quarterly results (2,370 for 1Q 2019, 2,963 for 2Q 2019, 3,680 for 3Q 2019). As this figure is not compromised by the misconduct, according to the company’s announcement, and as it is hard to manipulate data regarding this aspect, we adopt the data reported. As for the fourth quarter of 2019, we use the number estimated by the board during its third-quarter earnings call, which was 4,507. The average number of stores operating in a single quarter is estimated by taking the arithmetical average of the number by the end of the last quarter (Q-1) and that of the quarter in question (Q0). # About the inflated and adjusted revenue for the second quarter to the fourth quarter of 2019: The inflated revenue of the second quarter to the fourth quarters of 2019 was calculated as the number reported in the quarterly results of the second quarter (CNY 909 million) and the third quarter (CNY 1.54 billion), plus the board’s estimate of CNY 2.1 – 2.2 billion for the fourth quarter in its third-quarter earnings call. The adjusted revenue of the second quarter to the fourth quarter of 2019 was the inflated one minus the CNY 2.2 billion misconduct figure during the period. Potential reasons that caused Luckin to lack in store-level revenue growth The poor store-level growth in general, potentially provides us a window to glimpse some of Luckin’s situation in terms of daily operations. Meanwhile, however, it has to be mentioned that these inferences are deduced from the common logic of the retail business, but do not have solid data to support them, as we are lacking in accurate and detailed data on its former operations. 1. The ramp-up period for Luckin’s new stores to attract users and get orders might have been too long, and the retention rate of users in its old stores might have been too low. This may imply that Luckin has had problems with location selection and brand image building. 2. The demand for Luckin Coffee among Chinese consumers tends to be elastic. In other words, the average number of items sold per store waxes and wanes with the average selling price, but the two are hard to raise simultaneously. Reliance on external growth alone is not totally unfeasible if the current items have a margin or rigid demand, but unfortunately, Luckin is not eligible for this scenario for now If the current products of Luckin Coffee have an inelastic and considerable large demand, then theoretically it’s doable to first account on the scale and then improve the products and increase the price. If the current products can bring margins to the company, then it is also fine to put forward extrinsic growth as the first priority. However, up to now, the products of Luckin Coffee apparently do not lie in each of these two categories. For the first case, we have already shown the fact that Luckin’s products don’t meet the conditions. We discuss the potential reasons for it falling into this intrinsic growth dilemma in Part 2/2. Here we focus on talking about the second one. Historically, Luckin Coffee has never achieved positive operating cash flow, and the company mainly relies on financing activities to smooth operations. Similarly, it also did a poor job in terms of operating profitability. The ratio was lower than -100% up to the first quarter of 2019, and raised straight up to -76% and -38% after the second quarter of 2019 – which to a large extent, was because of the misconduct in revenue and expenditures. Although coffee is considered as a category with a reasonable gross margin (about 60%, in general) and a standardized production process that can lead to good economics of scale, the not ideal average selling price and the average number of items sold per store (Luckin’s effective selling price is 1/3 of Starbucks, while its average daily item sold per store is only 60% of Starbucks) made little room to cover the costs of rentals and marketing – this problem is hard to reduce, as therein lies the soul of Luckin’s marketing model. In the following article of this series, we will discuss the harmonization of coffee with a ‘cash burn’ aggressive expansion strategy in the Chinese market for now.

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Nov 18, 2019 05:50 pm ·

Luckin Coffee: On the Track to Profitability?

Shares of Luckin Coffee (LK: NASDAQ) surged 13.07% on November 13 after the company released its financial results for the third quarter ended September 30, 2019. With store-level profitability of 12.5%, the chain hit the milestone of breaking even at the store-level during the quarter. The result is in line with the aim that Charles Lu (陆正耀) – Luckin’s co-founder and chairman – shared with investors during its second-quarter 2019 earnings call. The firm reported a three-month revenue of CNY 1.49 billion (USD 208.9 million), representing a year-on-year increase of 557.6%, which exceeds the CNY 1.47 billion average of analysts’ estimates. The net loss was CNY 531.9 million (USD 74.4 million), which was an increase compared to CNY 491.1 million in the third quarter of 2018. However, this figure improved considerably compared to CNY 681.3 million (USD 99.2 million) in the second quarter of 2019, also beyond analysts’ unanimous expectation. The Xiamen-based company, founded in October 2017, took only 15 months to be listed on NASDAQ in May 2019. The firm accounted for only 2.1% of the coffee brewing market in China in 2018. However, it has already grown to the second-largest participant, and is expected to take over Starbucks as the top player in China by the end of this year in numbers of stores, according to Reinout Schakel, CFO and CSO of Luckin Coffee. The stores began to make money Luckin Coffee realized CNY 186.3 million (USD 26.1 million) in store-level operating profit in the third quarter of 2019, representing 12.5% of net revenues from products. The number in the third quarter of 2018 was a loss of CNY 126.0 million. Unwrapping this 12.5% store-level operating profit margin, Luckin Coffee calculates the number from its quarterly business revenue of CNY 1493.2 million (USD 208.9 million), deducting the costs of materials at CNY 721.1 million (USD 100.9 million), the store rental and other operating costs of CNY 477.3 million (USD 66.8 million), and depreciation expenses of CNY 108.5 million (USD 15.2 million). This means that, according to Luckin’s approach, all expenses incurred on marketing, administration, and store preopening were attributed to the corporate level. Nevertheless, reaching this break-even point strongly suggests that the coffee chain has taken a big step in improving its fundamentals and structure of operations, which could be due to the following revenue and the cost aspects: Breakneck expansion, remarkable increase in active consumers and selling price contribute to significant sales growth According to Luckin, 717 new stores were opened between July to September; the chain had 3,680 stores in operations as of September 30, 2019. Its continuous expansion in terms of new stores has brought the company with a sustainable source of new customers and sales growth. The company aims to have 4,500 stores as of the end of 2019, which means that it may prepare 820 new stores in the fourth quarter. Based on its incredible growth rate, this is an achievable goal, given Luckin’s vast resources and rich relevant experience. Apart from its massive expansion in the number of stores, the average monthly total items sold ratio also rose considerably – the number surged 470% year-on-year and 60% quarter-on-quarter, to reach 44.2 million. The main reason for this lies in Luckin's continuous improvement in its product structure. Xiaolucha (小鹿茶), a separate tea-drinking brand that was launched during the quarter, targets a complementary market, along with various SKUs in coffee and light food – together these advanced the total sales volume of the firm to a large extent. Non-coffee products accounted for 22% of total sales volume in this quarter, contributing 45% of total revenue; both figures saw a remarkable increase from the same period last year and the previous quarter. This suggests the expansion of its product category effectively improved the output capacity and operational efficiency of the stores. The average net selling price of all its products has risen to CNY 11.3 per item in the third quarter of 2019. Fresh-brewed coffee recorded a unit price of CNY 11, while the average net price charged on other products – tea and light food – was CNY 12.1, which was the highest level since the start-up of the coffee chain. According to Mr. Schakel, its key drivers lie in the improvement of Luckin’s user structure. This could be broken down to two aspects: 1. the proportion of new users and users whose consumption behavior is strictly triggered by free gifts is decreasing continuously, and the number of effective users, on the other hand, has been gradually increasing at the same time; 2. an increase in the number of users who pay at the normal price level. “This trend already occurred in the second quarter of 2019, we saw that it has been continuing in the third quarter, and will be maintained in the forthcoming one,” said Mr. Schakel during the earnings call. “The average selling price is expected to be around CNY 16 to CNY 17 in the long-run, and we will proceed to take action to boost the effective unit price.” Better cost controls brought by economies of scale and higher operating efficiency The third quarter of 2019 is the first time the average per cup cost of Luckin’s fresh-brewed drinks was fully covered by its per item net selling price. The number was CNY 9.7, representing a 40% year-on-year narrowing down. This is considered to be a very important trigger of Luckin's store-level profitability. The lower cost of raw materials and higher operating efficiency, owing to economies of scale, along with enhanced bargaining power and management, contributed to this remarkable improvement in cost control to a large extent. Xiaolucha injects new energy into the business  Xiaolucha– the tea branch of the company that was split into a separate brand this July, only three months after its unveiling in April – complemented the coffee chain's business by entering the tea-based beverages market in this traditionally tea-drinking country. Targeting lower-tier cities, the hand-brewed tea brand is designed to help the company to cover more areas, and to educate people from the lower-tier markets in forming the habits of consuming java. Although it is less than three months since Xiaolucha was launched, the brand accounts for 20% of Luckin's total product sales. With a growth rate that far exceeds its coffee drinks, this means that the momentum of the coffee chain will be largely shaped by the development of its tea business over the next few quarters. During its third quarter’s earnings call, Mr. Lu claimed that he believes hand-brewed tea will contribute more than 50% of the company’s revenue in the future. Unlike its coffee business, via open direct stores, in order to shift part of the expenses, Luckin adopts a partnership model operating its tea branch. Partners are responsible for renting, renovating and operating the store, while Luckin shares its brand image and provides supply chains. Although the franchise model may contain certain operational and management risks, Mr. Lu said that the company still prefers to operate its tea business with an asset-light strategy – to export its technical systems and methodologies rather than go down the road of cash-burning. Cash-burning marketing campaign – headwinds still at play Despite Luckin breaking even at store-level in the third quarter of 2019, its corporate net loss continued to expand year-on-year. The primary reason lies in its cash-burning marketing strategy. In that quarter, sales and marketing expenses for the coffee chain increased by 147.6% year-on-year to CNY 557.7 million (USD 78.0 million), mainly due to increases in advertising expenses as the company entered into new cities and launched Luckin Tea as an independent brand. According to its financial report, this does not include all promotions and coupons provided to customers other than free product promotion expenses. At present, marketing is still an important driving force for Luckin's business growth.“Brand building is very important for our long-term development. Our marketing expenses will be at a relatively high level from the second quarter of 2019 going into the second quarter of 2020,” said Qian Zhiya (钱治亚), CEO of Luckin Coffee, during its second-quarter earnings call, “Starting from the third quarter of 2020, this part of expenditures will return to a normal level.” Moreover, as the company is still expanding at a high speed, the preopening fee for the 820 stores that it expects to open in the fourth quarter is another cost that cannot be underestimated. This suggests that the relevant expenditures will further increase in the fourth quarter. Therefore, although Luckin realized store-level profitability through sales growth and cost control, its core problem of 'sacrificing profit for scale' still remains unresolved. A large proportion of expenditures still lie in marketing and store preopening activities. These two factors, however, are the key driver of the company's sales growth at the same time. In this case, how to reach a balance between growth and costs could be a sticking point as it goes on pursuing the break-even point at the corporate level. What's next? The IPO lockup period for Luckin Coffee expired on November 13, which has been seen as a negative signal suggesting that the stock price will stumble afterwards. However, with the release of its third-quarter results on the same date, the company is showing the market a very different path. With its strong third-quarter results released on the same date, its stock price popped incredibly – and this momentum has been carried to the following trading days of the week. This suggests investors’ optimism regarding the future of the Chinese coffee chain, which is on the track in taking over Starbucks to be the number one player in China’s coffee beverage market. The good news is that Luckin has taken over part of its costs while the business expands at a high speed, and realized store-level profitability. However, on the bottom line, there was still CNY 531.9 million net loss on its books– on the way to achieve corporate level breaking even, its ability to balance marketing and store preopening expenses with sales growth becomes extremely important.

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Apr 19, 2019 03:57 pm ·

Will Blackrock's USD 125 Million Investment in Luckin Coffee Brew Success?

Under the great doubt and pressure from the public, Luckin Coffee announced that it has finished its series B+ round of financing of USD 150 million, Blackrock, the leading asset management company lead the funding. After the funding, the latest valuation of this coffee magnate was USD 2.9 billion, which is about CNY 19.4 billion. People are surprised by the fortunate of Luckin Coffee, which could always receive extra money while keeping a staggering speed of losing money and expansion. EqualOcean wants to analyze the possible investment logic of Blackrock, and predict what will happen in the future.  Blackrock invested Luckin Coffee, which is a competitor of Starbucks A valuation of CNY 19.4 billion is larger than 80% of the Chinese A-share listed companies. According to the latest statistics from Shanghai and Shenzhen Stock Exchange, there are only 576 of 3604 listed companies have a valuation larger than CNY 19.4 billion. Luckin lost more than CNY 800 million to open the stores and sell coffee. In early April, there even a rumor that Luckin would mortgage its coffee machine to pay for the debt. BlackRock, the world’s largest asset management institution, invested USD 125 million in the series B+ financing of Luckin. As the second largest institutional holder of Starbucks, BlackRock owns 820 million shares of Starbucks, representing 6.6% of the total share. The latest share price of Starbucks is USD 75.12. From that, the total valuation of the Starbucks shares that held by Black Rock is about USD 6.2 billion, which equals to CNY 41.2 billion. BlackRock began to invest Starbucks before 2012. In 2012, the total Starbucks shares held by BlackRock was only 6.4 million. However, BlackRock kept longing more shares and in 2014, this asset management magnate held more than 40 million Starbucks’ shares and became the largest shareholder of Starbucks at that time. Starbucks was listed in Nasdaq in 1992. During the past 26 years, Starbucks’ stock made a great return for investors. Blackrock focuses on long-term investment. As the largest asset management company in the world, Blackrock manages USD 6 trillion. Headquartered in New York City, Blackrock has 74 offices in 26 countries and its customers come from 60 countries. According to Laurence Fink, the CEO of Blackrock group, China has become one of the most important markets of Blackrock, and in the future, China owns lots of potentials. Blackrock pays more attention to the Chinese market It is worth noting that on April 17, 2019, Blackrock appointed TANG Xiaodong (汤晓东) as the chairman of Blackrock China business. TANG Xiaodong would be in charge of the management and development of the Blackrock’s long-term strategy in China. TANG will directly report to Geraldine Buckingham the chairman of Blackrock Asia-Pacific area. TANG said that China has the determination to further open its asset management business industry. Meanwhile, the investors have increasing requirements of the better management of their assets, which provide great opportunities for Blackrock. Currently, with the diversified investment platform,  the advantages in information technology and the perfect building of portfolio, Blackrock is well prepared to offer service to the Chinese investors. TANG used to work in the derivatives department of J.P. Morgan for several years. After that, TANG worked as the managing director of RBS Greenwich Capital. After going back to China, TANG used to work in the international department of China Security Regulatory Commission (CSRC) and Guangfa Securities. With his abundant working experience in both the U.S. and China, TANG is an ideal candidate for Blackrock to work as the chairman in charge of China area. Blackrock has more than 13 thousand employees all over the world and it has already established a private equity fund in China. According to the Asset Management Association of China (AMAC), Blackrock has established two investment management companies in Shanghai, and offer QDII products to investors. The recent appointment of TANG might be a signal that Blackrock would pay more attention to the Chinese market. Possible logic of Blackrock’s investment on Luckin coffee According to statistics from Euromonitor, in 2017, the total market size of Chinese coffee industry was CNY 102.4 billion and the CAGR of this industry was 13% from 2011 to 2017. In the future, with the development of people’s consumption level and the penetration rate of the coffee culture, the market size will keep increasing. Meanwhile, caffeine can easily lead to addiction, which would generate a larger market requirement. What attracts the capital is always the return ratio. For Blackrock, investing Luckin may not be in conflict with Starbucks investment. After all, the dividends from Starbucks’ stock can almost cover the investment to Luckin. According to Tiger Securities, Blackrock has thousands of funds that focus on different strategies and are operating in different areas. In addition, Blackrock also has a specific fund for the Asia-Pacific area and developing-market. The fund invested Luckin was a PE fund, and that is mutually independent of the fund that invested Starbucks. In terms of compliance, because of the existence of the Chinese wall, the hedge fund would give some research supports to the private equity fund, but they would not join in the decision process of investment. As a long-term investor, Blackrock would never put all of the eggs in one basket. Comparing the Blackrock’s USD 6.2 billion investment in Starbucks with the USD 125 million investment in Luckin, Blackrock may want to testify that whether the business model of Luckin is doable in China. Starbucks offers brick-and-mortar experience, while Luckin has advantages on the last-mile coffee delivery service. Although Luckin has its own store, it’s used for people to pick up the coffee instead of enjoying it. All of Luckin’s stores are not as big as that of Starbucks and those small stores are targeting busy white-collars. Blackrock’s investment in Luckin is a kind of like sitting on the fence. Whether the Luckin coffee’s business model succeed in the future, Blackrock would not face a great loss. The potential IPO of Luckin Coffee may be another factor that attracts the investment of Blackrock. According to Reuters, Luckin has already invited investment banks to prepare its possible IPO, including Credit Suisse, Goldman Sachs, and Morgan Stanley. In March, people familiar with the matter said to Reuters that LU Zhengyao (陆正耀), the director of Luckin, used to ask for a loan of USD 200 million from Goldman Sachs and Morgan Stanley. Blackrock, however, has a lot of great and perfect investment strategies in the secondary market. Once Luckin coffee has been listed, Blackrock could make use of its transaction techs in the stock market to guarantee its return. The pre-IPO investment also shows the confidence of Blackrock on Luckin. Starbucks has successfully educated Chinese market and customers. For Blackrock, the best way to share the Chinese coffee market is by investing more Chinese coffee brands. According to the statistics data, the average number of annual coffee consumption per people in China is less than 10 cups, which is far less than that of developed countries, 200-400 cups. The huge distance shows the great potential of the Chinese coffee market. Although Starbucks has been successful in the industry, more and more other scenarios are waiting to be explored. According to the statistics, Luckin coffee though entered the market in the late time, its store numbers ranked 2nd place. Meanwhile, in the top 5 players of coffee market share, Luckin has the lowest unit price of coffee. Comparing with the consumer structure of Starbucks, Luckin has a younger consumer group. Around 48% of Luckin’s consumers are people under 24. Plus, Luckin’s stores are mainly located in the CBD area. In conclusion, the fundamental reason why Blackrock invested Luckin is that Blackrock agrees with the Luckin’s Internet + coffee business model, and has confidence in the Chinese coffee market in the long-term. The rapid expansion of Luckin coffee could make it easy to find the targeting consumers – white collars that are always busy and need coffee to be refreshed. Luckin would greatly promote the convenience of coffee orders with the combination of the logistics service. Luckin Coffee’s strategy: Endless occupying of the coffee market Luckin spent almost all of its financings on the expansion of its stores. With the subsidy policies and a low-price strategy, Luckin keeps losing money. From Jan 2018 to Sep 2018, the total revenue of Luckin coffee was CNY 375 million, while the net loss of Luckin was CNY 857 million. We could simply do some calculations to judge the loss of Luckin. In the first 9 months of 2018, Luckin sold 85 million cups of coffee which generated CNY 375 million revenue. In this way, after the subsidy policy, the average price of Luckin coffee would be CNY 4.4 per cup. On the other hand, the total cost of Luckin coffee is CNY 27.3, which means that Luckin lost almost CNY 23 by selling one cup of coffee. On the other hand, Luckin spent a lot of money on opening more stores. According to Luckin, it would open more than 2,500 stores in 2019, and the total store number would be more than 4,500. Then Luckin would be the largest coffee brand in China. On Apr 10, 2019, Luckin published “Xiaolu Tea”, a tea sub-brand of Luckin. The “Xiaolu Tea” is regarded as an important strategy for Luckin to beat Starbucks in the Chinese market. According to the annual report of Starbuck, by the end of Sep 2018, Starbucks has 3,521 stores in China, while in the world, Starbucks has 15,341 stores. With Luckin’s endless expansion, the Chinese coffee market would be occupied by Luckin quickly. Currently, Luckin is in a stage of rapid development which requires a large amount of money. With the successful completion of its series B+ financing, Luckin got a strong prop which could support its expansion. Once Luckin opens more than 4,500 stores, the scale effect may bring huge financial profits to Luckin. In this way, the series B+ round of financing is of vital importance to Luckin. Future: Blackrock, Luckin coffee, and coffee industry The importance of the series B+ financing of USD 150 million is not only the money itself but also the endorsement from the mainstream investors in the U.S. Though Luckin keeps losing money, but this company becomes more and more active in the U.S. society. The Chinese coffee market has great potential. With its great yearly increasing rate, it is expected that by 2025, the Chinese coffee market would be more than CNY 1 trillion. Pepsi Cola’s experience proves that the entering of another giant player may not split the market but promote it. The increasing coffee market brings a bright future for both Luckin and Starbucks, and we assume that is one of the reasons why Blackrock invested. Luckin might be the most suitable target for Blackrock to invest. Luckin has a high-efficiency execution team which provides great convenience to the customers. Luckin officially started its business on May 8, 2018. However, with the support of capitals, Luckin has more than 2,000 stores all over the country currently, which let the company exceeded Costa and ranks 2nd place of China. A strong execution team means a lot, especially for start-ups. Meanwhile, after the investment, Blackrock could help both Starbucks and Luckin to improve the efficiency and lower the cost with the better of the upstream and downstream of the supply chain of the coffee industry. After the B+ round of financing, Luckin still has a long way to go. For one thing, Luckin needs to control the quality of its products and always take users' experience into consideration. For another, it becomes increasingly hard to manage more and more stores. Hence, the operation management of Luckin must be promoted, including the training of new employees, the increasing workload for managing teams, etc. Luckin’s development changed the situation that Starbucks dominates the Chinese coffee market. Although there’s a great potential of the Chinese coffee market, more and more competitors are entering into this industry, including Hey tea, NAYUKI, and even Red Book. With the competition in the coffee market and more and more different coffee brands, people’s requirements of coffee in different scenarios, different channels, different consumption levels would be met. According to ZHU Danpeng (朱丹蓬), the industrial analyst in China Foods, it is estimated that after 5 years, the Chinese coffee market might enter a relatively stable stage.

Analysis
Analysis · 1
Analysis
Apr 9, 2019 05:08 pm · yicai

What is Luckin Coffee that expanding crazily?

Analysis EO
Analysis · 2
Analysis EO
Apr 8, 2019 05:25 pm ·

Has Luckin Coffee Already Lost Too Much Steam?

Luckin Coffee is determined to find “new profit growth points” to not only boost their questionable business model but also increase word-of-mouth marketing, according to 36Kr. In addition to beverages, the Chinese coffee start-up has been pushing light snacks and lunch menus targeted at white-collared workers. However, these new products’ discounted prices are the original costs of their other commodities. For example, the “boss lunch” series goes between CNY 23 to CNY 26 after discount. Sandwiches, muffins, and other similar items are approximately CNY 8 to CNY 17. Small snacks such as chocolate, biscuits, and the like are roughly CNY 8 to CNY 22. This is made possible due to subsidies, a strategy that allows Luckin Coffee to be burning money. Below is a brief breakdown of the differences between Luckin Coffee and Starbucks. To be cost-effective, TechNode discovered that “most shops are small” but still “give way to the main business coffee.” However, the addition of these products has reduced the proportion of coffee products in Luckin’s menus. It can be argued that the coffee start-up introduced a lunch and snack menu to maintain its competitive advantage over Starbucks who announced days earlier its partnership with Alibaba to offer delivery services. Luckin’s competition with Starbucks has been covered and discussed immensely. While the Chinese coffee start-up is cheaper, cover more ground in the number of stores and delivery distance, and is seeing success in their lunch menu, Luckin’s advantages may be a double-edged sword for the following reasons. Supply Chain Waste By the end of 2019, Luckin Coffee aims to open 4500 stores in China, an 125% increase from 2018. Unlike Starbucks, the start-up’s shops are a mix of “pickup kitchens,” delivery stations, and lounge-like outlets. However, a huge part of Luckin Coffee’s business model is its fast delivery service. In December 2018, the start-up teamed up with Chinese delivery service, Meituan, to offer extensive delivery services. In essence, in addition to placing orders on Luckin Coffee’s own app, users will be able to order on Meituan Waimai “in more than 20 cities in China.” While this is great news for users, this also produces a lot of waste. Pickup bags and cardboard cup holders are only some of the waste produced. As Luckin also offers attractive discounts for bulk buying, this simultaneously creates more costs in the supply chain to provide these necessities. Additionally, rapid expansion can also imply fast consumption and waste patterns. As each additional store results in additional supply, this may also indicate more waste produced on both the supply and consumer side. According to cafespaces, the “rising prevalence of takeaway coffee cup culture in countries with increasing numbers of coffee shops” will likely lead to issues surrounding the number of disposable cups. As Luckin Coffee also spends heavily on marketing, it can lead to a hefty unnecessary loss. According to the 2018 China Advertising Market Review Report, in addition to celebrity endorsement, Luckin’s primary promotional channels are elevator posters and cinema videos. This accounted for 73.5% of its total marketing spending. How the Chinese start-up may save in both marketing and supply chain waste is through a reusable cup system similar to the Freiburg Cup. Luckin Coffee could also sell a reusable thermos or mug with its logo and offer discounts to those who buy a coffee with its thermos instead of banking on excessive discounts made possible through subsidies. As Luckin advocates and actively brings convenience to its customers, many do not switch to using reusable cups due to inconvenience. Therefore, behaviour change is “necessary to reduce the number of disposable coffee cups being used.” Disposable coffee cups contribute to only part of the supply chain waste problem. As such, it’s important to consider and implement broader sustainable practices throughout the entire supply chain to reduce as many unnecessary costs as possible. Offline Customer Experience As mentioned above, Luckin’s shops are a mix of three types: delivery stations, “pickup kitchens”, and lounge-like outlets. While delivery stations and “pickup kitchens” aren’t as large and pricy compared to their larger counterpart, Luckin may fare better if they begin to allocate more spending to building outlets that provide customer experience. Customers are currently attracted to Luckin Coffee’s low prices. “Thanks to a high-profile presence with significant subsidies, Luckin Coffee witnessed substantial growth in its user base during the summer,” according to Technode and a report by JIGUANG. However, raises the question of how these consumers’ behaviour will change after the subsidies wear off. It’s likely that prices will shoot back up which ultimately makes them substitutes to Starbucks. According to Deloitte’s customer loyalty report, “Chinese customers are becoming increasingly demanding with respect to customer experience; however, consumer and retail companies are failing to keep pace with rising expectations.” Some e-commerce platforms such as NetEase Yeation and JD.com have opened brick-and-mortar stores to provide customers with an offline experience as well as testing their products before and after purchase. In Luckin Coffee’s case, the Chinese new retail start-up may benefit from driving effective loyalty programs to keep customers after their money burnout. Pricing and discounts are discovered to be no longer key drivers of first or repeat purchases. Deloitte’s study found “that over 77% of respondents believe that loyalty program will encourage them to purchase more.” Additionally, 73% prefer to enroll in loyalty programs in store. While a simple and straightforward program is obviously preferred, the study also revealed that customers preferred a real person to “explain the program details and guide them through the enrollment process at the point of sale.” As Luckin Coffee implements a new retail strategy, it can also integrate a customer data infrastructure to drive ROI of loyalty programs. However, while China falls slightly below average in loyalty programs compared to other countries, it highlights that there’s room for improvement for Chinese companies to revamp their programs and use it to their full advantage. Has Luckin Coffee Already Lost Too Much Steam? Perhaps. The Chinese start-up seems confident in its losing strategy as it continues burning investors’ money. However, before its subsidy burnout, if it can provide solutions to how it plans to continue its current progress, its current and future investors may be more convinced.

Analysis EO
Analysis · 2
Analysis EO
Mar 25, 2019 07:40 pm ·

Luckin Coffee Is Running Out Of Luck

Luckin Coffee (瑞幸咖啡) has been giving Starbucks a run for its money since the Chinese coffee start-up opened its doors in 2017. While targeting similar consumers to its global counterpart, Luckin Coffee began offering delivery services and attractive discounts in hopes to quickly tap into China’s coffee market. However, saw an overwhelming loss in the first quarter of 2018. Reuters reported the firm recorded a CNY 800 million loss last year, and a Chinese report indicated a loss of CNY 850 million in the first quarter of 2018. This raises the question of why Luckin Coffee is deciding to pursue an IPO at this stage and why the company shows and voices no concerns over their continuous losses. Additionally, the company is seeking a USA IPO at USD 3 billion in 2019, according to Seeking Alpha. In exchange for the IPO, it’s also seeking a USD 200 million loan from banks such as Goldman Sachs and Morgan Stanley, according to Reuters. Why Luckin Coffee's Losing Steam The argument is that Luckin Coffee can afford to lose the money as it “already raised hundreds of millions of dollars in venture capital,” according to The Motley Fool. Perhaps the motives behind Luckin Coffee’s loss strategy persistence is that it’s confident in long-term returns. By relying on subsidies, hefty marketing investments, and rapid expansions, it hopes to build and sustain a network effect and establish dominance in China’s coffee market. However, while it may stick in minds of consumers and investors, its persistence in charging lower prices than its global counterpart, Luckin Coffee won’t be able to upgrade its brand and differentiate itself from other coffee brands besides being the first that comes to mind. In turn, this will substantially harm its brand in the long-run as the company continuously burns money without investing in effective long-term strategies. Subsidy Reliance Luckin Coffee’s reliance on subsidies is concerning. With subsidies, Luckin Coffee is able to price its products lower than Starbucks. It’s also able to do excessive promotions such as frequent discounts and the “buy-one-get-one-free” model to drive growth. According to Reuters, Luckin Coffee’s chief marketing officer, said, “there’s no point talking about profit. He also told Reuters that part of the firm’s strategy is to use subsidies to lure in users for the next few years. While it’s normal business operations to engage in promotional activities once in a while to award loyal customers or boost advertising, it doesn’t help in long-term loyalty as there’s no incentive for consumers to buy from Luckin Coffee as its quality isn’t far from smaller coffee brands. Therefore, when subsidies run out, Luckin Coffee’s prices will increase which consumers will turn toward cheaper substitutes or better-quality products. In addition, with tea brands such as HeyTea (喜茶) also looking to get a slice of China’s coffee market (see more in this article), it’s getting increasingly competitive to lure and enhance user stickiness. Brand Image To enhance its brand image, Luckin Coffee spends a hefty amount on marketing. Last year, they used TANG Wei (汤唯) and ZHANG Zhen (张震) as spokespeople. While these two influential stars aren’t as pricy as other celebrities like FAN Bingbing (范冰冰), the endorsement fee isn’t a small number. By associating its brand with such celebrities, Luckin Coffee is arguably boosting their brand instead of focusing on their products. In essence, they intend to use a psychological effect to lure white-collared workers. TANG Wei endorsement. PHOTO: Credit to Luckin Coffee Ofo, the Chinese bike-sharing start-up used a similar strategy with LU Han (鹿晗), a popular Chinese celebrity amongst the younger generation. However, Ofo is on the edge of bankruptcy. While promotions likely weren’t the direct cause and were only a contributor to Ofo’s financial trouble, it’s not a secret that the company paid a large amount for the endorsed posters that used to be splattered on billboards across Chinese cities. In essence, regardless of how much promotions Ofo did or even celebrity endorsement, it clearly wasn’t enough to boost any user loyalty nor provide any long-term business benefits. Rapid Expansion As more businesses adopt the O2O (online to offline) business model, the number of offline coffee shops in China have increased significantly throughout the last decade.  According to Reuters, Luckin’ Coffee claimed its strive to open 2,500 new stores this year. The company also plans to exceed Starbucks in store count and number of cups sold. Part of Luckin’ Coffee’s strategy is the rapid expansion, a strategy that may cause more harm than good. While Luckin Coffee’s stores are relatively small compared to Starbucks, it still incurs fixed logistics costs: supply chain management, packaging, equipment, and renovation costs are a couple of examples. According to a Chinese report, Luckin’ Coffee quietly raised its limit for free delivery charges from CNY 35 to CNY 55 in Beijing and Shanghai. If consumer consumption fails to reach this threshold, a CNY 6 delivery fee will be charged. This is an example that logistics costs are expenses new retail cannot bypass. Luckin's motive behind its rapid expansion is to cover more ground in delivery and walking distance. Each store can serve up to 2km for delivery. Additionally, each store is comfortably within walking distance (5 minutes), is what the company aims for in its rapid expansion. Bopai, a Chinese O2O auto service company, that went bankrupt in 2016 and YUM China are two examples of how overexpansion can backfire. According to South China Morning Post, GU Ying, a graduate from the City University of Hong Kong, mentioned “Bopai was overly ambitious in attempting to expand its market share to too many cities. It burned out too much cash in subsidies to attract users.” While YUM China saw an initial growth of 21% in 2011 that turned to a 13% drop in 2013, according to Nikkei Asian Review. Currently, Luckin’s stores outnumber Starbucks across most cities in China, according to CBN Data. Luckin Coffee's Foggy Future In Dec 2018, Luckin completed its CNY 200 million Series B financing and has a post-investment valuation of CNY 2.2 billion. This comes 400 days after their first store opened in Oct 2017. EqualOcean also conducted a valuation analysis (see more in this article) on Luckin and predicts it has a valuation range of CNY 20.1 billion to CNY 54.2 billion in 2021.  Luckin Coffee appears to be pretty confident in their lose-now-profit-later strategy as they believe their continued losses will be profitable in the long-run. Despite their continued losses, their ambition to go for a U.S. IPO and to borrow more money is concerning when the company is already burning enough money as it is. Relying on short-term strategies while neglecting product improvement will cement Luckin as a coffee chain second to Starbucks.

Analysis EO
Analysis · 2
Analysis EO
Mar 1, 2019 02:57 pm ·

Analysis about The Valuation of Luckin Coffee

After two rounds of financing, the valuation of Luckin Coffee is highly controversial. With the analysis of the current operation data of Luckin Coffee, EqualOcean estimates the operation situation of Luckin Coffee in the year of 2019, 2020 and 2021 to explain what’s the necessary conditions Lucian should meet in order to worth its valuation, USD 2.2 billion. Besides, EqualOcean also gives the possible valuation interval of Luckin in the future. Before the forecast of Luckin’s revenue and profit, we should take some basic variables into consideration, including the number of stores, the coffee’s unit price, the coffee’s unit cost, and the sales volume of each store. Besides, we should also concern the adjustment of the production structure in the future, and whether these adjustments would affect the profiting ability. While forecasting the operation revenue and valuation, Starbucks (China) has the greatest reference significance to Luckin Coffee. Starbucks entered China 20 years ago, its business model and operation data are relative mature and stable. On the other hand, Luckin is in a period of rapid growth. In this way, EqualOcean regards the data of Starbucks (China) as the reference coordinate system of the future development of Luckin, and thus forecasts Luckin’s sales volume of each store, revenue, valuation, potential and market share in the future. What Data Could We Calculate with The Luckin’s Operation Data Known? We have known the operation data of Luckin from Jan 2018 to Sep 2018, and Luckin’s number of stores and sales volume of coffee till the end of 2018. With these data we estimate that Luckin is at a loss. In the following calculation, in order to get the more realistic and more accurate single-store sales, EqualOcean introduces the meaning of “number of stores that operates effectively”, which means the number of stores that converted from actual revenue and profit, in stead of the number of stores in physical meaning. Luckin Coffee is in a period of rapid expansion and opens 2,073 stores in one year. However, the unit sales volume of a store opens in 1st, Dec 2018 cannot compare with a store opens in Jan 2018 or May 2018. We cannot get an accurate number of a unit sales volume if we use the gross sales volume of coffee divided by the number of stores. The actual value must be higher than the data we get with the wrong method. Set the month as the smallest unit, it is assumed that the number of stores opens at a linear growth rate during the period between two adjacent time points. On Jan 1st 2018, opens 2 stores for trail operation; From Feb to Apr, the number of new stores per month: (500-20)/3=160; From May to Sep, the number of new stores per month: (1300-500)/4=160; From Oct to Dec, the number of new stores per month: (2073-1300)/3≈258. In this way, we could conclude that the number of effective stores in Jan is 2, the number of effective stores in Feb is 160*11/12≈147; the number of effective stores in Mar is 160*10/12≈133. And so on, we could reckon that the number of effectively operating stores of Luckin Coffee is 950 in the year 2018. By calculating the number of effectively operating stores, the data that EqualOcean wants to restore most is the actual sales volume for a single store of Luckin Coffee—94 thousand cups per store in 2018. Scenario Calculation of The Operation of Luckin Coffee in 2019 Number of stores: The official of Luckin announced that in 2019, the number of new stores is 2000 and by the end of 2019, Luckin Coffee would have 4,500 stores. We assume that Luckin could achieve its goal; Annual sales volume for a single store: Set the 94 thousand annual sales volume for a single store as a medium selling situation in 2019, and juding from the real saling situation, we giver 3 hypothesis. We use the data we got from 2018, as the normal sales volume in 2019, and we set it is the medium selling situation. We set the high selling situation qual to 1.3 * the medium one, while the low one equal to 0.8 * medium one; set the probability of the appearance of a high selling situation for 30%, medium for 50% and low for 20%, that is, the weighted average=0.3*the number of stores under high selling situation+0.5*the number of stores under medium selling situation+0.2*the number of stores under low selling situation; Unit price of coffee:  After the subsidy in 2018, the unit price of coffee is CNY 10.2 (USD 1.53).  The official of Luckin Coffee announces that the subsidy would continue in 2019. According to the actual unit price of coffee (more than USD 1.53), we found that Luckin is carrying out a stepped price increase. EqualOcean assumes the unit price of coffee is CNY 10.5 (USD 1.6), which is 30% of the average unit price of Starbucks’ coffee—CNY 35 (USD 5.2); Production Structure: The income structure of Starbucks is 73% on-store drinks (mostly is fresh ground coffee), 27% other productions (ready-to-drink coffee, instant coffee, light food, cups, etc.). Luckin Coffee can hardly reach the same income structure as Starbucks in one year. However, through the current dynamics of the introduction of light foods and other productions by Luckin, we found that it has adjusted its production structure intentionally. EO Intelligence assumes that the revenue-contribution ratio of coffee/non-coffee would be 90%:10% in 2019; Unit cost of coffee: After the sales increase, the cost can be diluted to CNY 17.6 (USD 2.6). Under the above conditions, in the year 2019, Luckin Coffee would still lose money. However, if the annual sales volume of Luckin could reach 440 million cups, it could be the competitor of the annual sales volume of Starbucks (China)—which is around 400 million cups. Scenario Calculation of The Operation of Luckin Coffee in 2020 Number of stores: We suppose that in 2020, there will be 1,000 new stores and by the end of 2020, there would be 5,500. Annual sales volume for a single store:  High selling situation=1.3 * medium selling situation of 2020E Medium selling situation=99 thousand cups, the weighted average of 2019E Set the low selling situation=0.8 * medium selling situation of 2020E Set the probability of the appearance of a high selling situation for 30%, medium for 50% and low for 20%, that is, the weighted average=0.3*the number of stores under high selling situation+0.5*the number of stores under medium selling situation+0.2*the number of stores under low selling situation; Under these conditions, we could conclude that the annual sales volume for a single store in 2020 would be 104 thousand cups. Referring to the sales data of Starbucks (China), we believe that Luckin could achieve this volume; Unit price of coffee: In 2019, we suppose the unit price of coffee is CNY 10.5 (USD 1.6); in 2020, if Luckin Coffee want to make revenue, it has to improve the unit price of coffee. We suppose the unit price of coffee in 2020 is CNY 17 (USD 2.5), which is about half of the average unit price of Starbucks—CNY 35 (USD 5.2). Production Structure: Luckin Coffee would increase the variety and number of light foods and other productions. EqualOcean suppose that  in 2020, the contribution ratio of coffee/non-coffee would be about 85%:15%; Unit cost of coffee: We still setthe cost can be diluted to CNY 17.6(USD 2.6). Under the above conditions, in the year 2020, Luckin Coffee would still lose money. However, if the annual sales volume of Luckin could reach 570 million cups, while the sales volume of a single store could reach 104 thousand cups,  Luckin could be almost equal to the annual sales volume of Starbucks (China)—which is around 400 million cups, and the annual sales volume of a single store—which is 113 thousand cups. Scenario Calculation of The Operation of Luckin Coffee in 2021 Number of stores: We suppose that in 2021, there will be 1,000 new stores and by the end of 2020, there would be 6,500. In this year, the total number of Luckin’s stores would exceed the Starbucks’ 6,000 stores plan which aims to be achieved by then end of Sep 2022. Judging from the expansion speed and operation ability, EqualOcean believes Luckin could have more stores than Starbucks in 2011; Annual sales volume for a single store: High selling situation=1.3 * medium selling situation of 2021E Medium selling situation=99 thousand cups, the weighted average of 2020E Set the low selling situation=0.8 * medium selling situation of 2021E Set the probability of the appearance of a high selling situation for 30%, medium for 50% and low for 20%, that is, the weighted average=0.3*the number of stores under high selling situation+0.5*the number of stores under medium selling situation+0.2*the number of stores under low selling situation; Under these conditions, we could conclude that the annual sales volume for a single store in 2020 would be 109 thousand cups. Referring to the sales data of Starbucks (China), we believe that Luckin could achieve this volume; Unit price of coffee: In 2019, we suppose the unit price of coffee is CNY 10.5 (USD 1.6); in 2020, Luckin Coffee increases its price into CNY 17(USD .2.5). In 2021, we suppose that in order to improve the loss situation, Luckin would continue to improve its unit price step by step. EqualOcean assumes 4 unit-prices: CNY17.6(USD 2.6) which is the same with the cost, CNY 20 (USD 3.0), CNY 24 (USD 3.9), which is 70% of the unit price of a Starbucks coffee. Production Structure: Luckin Coffee would keep increasing the variety and number of light foods and other productions. EqualOcean suppose that in 2021, the contribution ratio of coffee/non-coffee would be about 80%:20%; Unit cost of coffee: We still setthe cost can be diluted to CNY 17.6(USD 2.6). Under the above conditions, in the year 2021, Luckin Coffee would make money. With a positive net profit, we could use the PE value to give Luckin Coffee a valuation.   When the unit price of coffee is settled to USD 2.6, which is close to the cost of coffee: We found that the net profit would be around USD 68.8 million. When the unit price of coffee is settled to USD 3.0, the net profit would definitely increase: In this case, the final net profit of Luckin Coffee would reach USD 270.4 million. How to Determine The Reasonable PE Value of Luckin Coffee? EqualOcean believes that the growth ability and liquidity of a firm are two significant factors to determine its PE value. The growth ability reflects the growth rate of a firm’s performance, development level, and the growth potential in the future; the liquidity reflects the operation efficiency to a large degree. We use the revenue growth rate and the net profit margin to measure these two abilities separately. We hope these two indicators could roughly frame the current location and business potential of listed companies in catering industry and use this as a reference coordinate system for the development of the PE value of Luckin Coffee. In 2018, Luckin Coffee was in a stage of rapid expansion, and opens 2,073 stores in one year.  In the store-opening period, the mainstream is to gain more user traffic with the subsidy and cultivate users’ consumption habit. The instant delivery and low-cost strategies account for a large portion of the cost, and the cost structure has not reached a reasonable state. In 2019, it is estimated that the number of Luckin’s stores would be 4,500, exceeding that of Starbucks. In terms of revenue, stores opened in 2018 have consistently contributed incremental revenues. In addition, with the increase of market share, and the cultivation of consumption habit, we may consider optimizing the cost structure or adding other productions with high-margin (own-brand juice, light food, light meal, etc.), which is expected to better the financial situation. Luckin Coffee is a growing enterprise, and it’s expected that Luckin’s performance grows rate would stay in a good situation. Besides, Luckin announces that it does not pursuit profitability at the current stage. Although the cost is very heavy, Luckin’s profit margin is increasing in the following 3 years. Under the expectation of increasing large potential for growth, the PE value of Luckin should be higher than that of Starbucks, 28. At the same time, referring to the companies that develop well in recent times, wing café (PE value is 62) and Haidilao (PE value is 71.6), EqualOcean limits the PE value of Luckin Coffee to 30. Taking the data we got from the table, and combine with the PE range we gave that from 28 to 30, we could get a valuation range of Luckin Coffee—from USD 1.9 billion to 8.1 billion. Taking the current valuation of Luckin, which is USD 2.2 billion, we believe that the reasonable valuation of Luckin Coffee would be USD 3 billion to USD 8.1 billion by 2021. On Feb 28, 2018, according to Reuters, Luckin Coffee is meeting with investment banks such as Credit Suisse, Goldman Sachs, and Morgan Stanley, and plans to IPO in the U.S. with a valuation about USD 3 billion. However, the PR director of Luckin Coffee, ZHAO Yanyan(赵艳艳) states that Luckin has no idea about this information. EqualOcean believes if Luckin Coffee is listed, the reasonable prediction range of its PE value would between 28 and 30. According to the calculation logic of EqualOcean, under the condition that all the conditions mentioned above are met, the PE valuation method is adopted. In 2021, Luckin Coffee has a relatively complete and feasible valuation variable range of CNY20.1 billion - CNY 54.2 billion (USD3 billion – USD8.1 billion).

Analysis EO
Analysis · 2
Analysis EO
Jan 13, 2019 08:34 pm ·

Exclusive Luckin Coffee Seeks Initial Public Offering in Hong Kong

Jan 13, 2019/EqualOcean/- Investment bank has begun preparing listing materials for Luckin Coffee regarding an initial public offering (IPO) on The Stock Exchange of Hong Kong Limited ("SEHK"), EqualOcean was told by people familiar with this matter on Sunday. Founded in October 2017, starting trial operation in Jan 2018, Luckin has ambitions to challenge Starbucks in China, whose comparable store sales in China up 1% in Q4 FY 2018 (see this article). The company raised two rounds funding of USD 400 million, gaining a valuation of USD 2.2 billion after raising USD 200 million in the latest series B funding round on Dec 12, 2018. The company chases after scale and speed, and emphasises on delivery and tech-centric users values. Luckin has opened 2,073 stores in China, covering all the core business districts, and aims to open 2,500 shops in 2019, adding up to 4,500 in total. CNY 1 billion (USD 158 million) has been burned into subsidies and to educate the customers as of July 2018(see more in this article). The Seattle-based behemoth coffee chain Starbucks has opened 585 new stores in China in the past 2018 fiscal year, adding up to over 3,600 stores in the country. Luckin recorded a loss of CNY 857 million (USD 128.55 million) for the first three-quarters last year. Disclosed numbers of Luckin also showed that average price per cup was CNY 10.21 (USD 1.53) and average cost per cup (excludes administrative costs and marketing costs) was CNY 22 (USD 3.3). The company estimated the revenue in 2018 should be CNY 763 million (USD 114.45 million), and its target revenue in 2021 is CNY 18.5 billion (USD 2.78 billion). Luckin claimed that in less than one year, the company has sold more than 85 million cups of coffee to 12 million customers as of Dec 2018. Luckin is backed by two lead investors including Singapore sovereign wealth fund GIC Pte Ltd and China International Capital Corp Ltd. There are two capitals we need to address among Luckin’s pool of investors, Legend Capital (君联资本) and Centurium Capital (大钲资本), who has the deep connection with DiDi Chuxing’s rival UCAR (神州优车, NEEQ:838006). Centurium Capital has invested in Ucar Capital in 2017 and Legend Capital has participated in investment for CAR Inc, UCAR’s parent company, reported by Sohu. As we discussed before, LU Zhengyao (陆正耀), one of the investors of the company’s angel round funding, is the Chairman and CEO of UCAR. QIAN Zhiya (钱治亚) was the former COO of UCAR. Luckin is headquartered in Xiamen, a southern city in China, and UCAR lent an area in its new building for Luckin there. Public relation department of UCAR is in charge of Luckin’s PR. “There is no point talking about profit,” said YANG Fei (杨飞), the company’s chief marketing officer, replying to all the question noise outside. “I don’t have a timeline for profit,” QIAN told Reuters at the firm’s Beijing headquarters as she sipped her third Luckin coffee of the day. “For us, what we care about now is the number of users and if they are coming back to us, whether they recognize us, whether we can take market share.” It's true, the coffee selling company aims at something beyond coffee, for instance, traffic pool. Luckin is deeply rooted with UCAR. UCAR currently operates four main product lines: Car Inc, its Hong Kong-listed car rental arm, Shenzhou Zhuanche, chauffeured car services, as well as an online car marketplace and a car loan service. The ride-hailing UCAR has led CNY 2.2 billion (USD 320 million) investment in electric car maker Xpeng Motors. Relying on Xpeng’s EVs and Luckin’s current millions of customers, and also huge imaginary space for the connection of EVs and autonomous driving, we can assume UCAR is building a Mobility-as-a-Service ecosystem to confront DiDi. Legend Capital is a subsidiary of Lenovo (previous name: Legend), which has led numbers of investments and released its original solutions in healthcare and education industry. Luckin’s data, for someday, can be not only used in the coffee selling process like product design, distribution of stores, order prediction, but more on education, mobility, and healthcare scenarios. Going public is not a battle against Starbucks for Luckin, even the company has claimed to overtake Starbucks in China, but more competitors. Winning in coffee business is not the ultimate mission, more customers and turning data into money is the mission, instead.

Analysis EO
Analysis · 2
Analysis EO
Jan 3, 2019 07:44 pm ·

Starbucks China Sales Rebounded, Where Should Luckin Coffee Go

Starbucks China/CAP (China/Asia-Pacific) segment has contributed 18.09% of the total Starbucks net revenue. It is estimated to contribute up to 20% of the total revenue by FY 2019. But it seems to lose the buzz recently. Starbucks's revenue from China fell quarter-on-quarter in the Q4 FY2018 for the first time in three quarters. EqualOcean: Starbucks Revenues in China/Asia Pacific( USD in millions) Luckin Coffee(瑞幸咖啡), Beijing-based startup is positing itself as mass-market alternative to Starbucks, which has seen sales in China drop in its third quarter of fiscal 2018 (quarter ended on July 1). The dropping trend started from the time Luckin Coffee entered the market.  It is noticeable that comparable sales number includes only Starbucks company-operated stores open 13 months or longer, which means they don't count new store sales. comparable store sale in Q2 and Q3, for new stores often saturate existing stores customers, especially in areas with high distribution density, like tier 1 and tier 2 cities. In Q4 FY2018, China comparable store sales up 1% in Q4, improved from -2% reported in Q3. EqualOcean: Starbucks Comparable Store Sales Growth Rate A culprit is that in the past 2018 fiscal year, Starbucks has opened new 585 stores in 17 China cities. However, John Culver, group president, International, Channel Development and Global Coffee & Tea of the company claimed that most of revenue in China is coming from new stores so the company will keep bidding on expansion in the region. Second, Starbucks has increased prices partly, 3% worldly and 2% in CAP in the whole fiscal year. Third, delivery, Starbucks debuts first-of-its-kind virtual Starbucks store in China with Alibaba partnership beginning September 2018. The company announced Starbucks Delivers has reached 2,000 stores across 30 cities in China since launching three months ago in the 2018 Q4 investor Conference. Interestingly, Starbucks plan to expand delivery in American and Japan, working with Uber Eats. We see little change this strategy leveraged in China store sales yet because it is a bit of risk to say Starbucks' competitive response has helped to bring up the same-store sales growth to 1% in Q4 from previously -2% in Q3 2018. Simply looking at the delivery fee and user experience, we must say it might not be a good business for Starbucks. Luckin Coffee has cooperated with food delivery platform Meituan Dianping in December, aiming to add more delivery capacity on its original SF-Express channel.  Starbucks charges CNY 9 (USD 1.35) for delivery fee while Luckin Coffee for CNY 6 (USD 0.9), not even mention discounts and coupons the company offers every week.   The enterprise is built on heavy subsidies, instead of brand name or quality, not yet at least. Despite Luckin's spiel on its high-quality beans and blending by the WBC Champions team, bad tasting comments are commonly seen. QIAN Zhiya(钱治亚), CEO of Luckin Coffee once claimed CNY 1 billion (USD 158 million) has been burned into subsidies and to educate the customers in July 2018, and according to the company's plan, this strategy will keep on in exchange for market share. According to data provided by Luckin Coffee, coffee consumption per capita in mainland China is only five or six cups per year, reported by Panda Daily. Starbucks educated its customers in the past 19 years, is responsible for popularizing today's mainstream coffee culture. It's time for Luckin Coffee to bring up its own customers as well. Dec 18, 2018, Luckin opened the first API (Application Programming Interface) for outside businesses for employee welfares and business gifts. With a low price and high frequency, coffee consumption is the best solution for companies to buy coupons and gave out according to needs. LI Jun, VP of Luckin, claimed that the company aims to increase customer stickiness and platform daily Active Users (DAU), enable customers to change digital rights into real consumption on third-parties platform. It also helps to touch more customers for Luckin. The company already won its first partners, including China Construction Bank Corporation, China Merchants Bank, Shanghai Pudong Development Bank and SF Express. Imagine the day all employees from these leading companies are drinking Luckin: coffee will be gifts, not goods. 

Analysis EO
Analysis · 2
Analysis EO
Jan 3, 2019 07:00 pm ·

Luckin Coffee Plans to Increase Store Numbers and Coffee Sales in 2019

Iyiou.com believes Luckin, which already received considerable recognition, will continue to expand its traffic through cooperation with other enterprises, and enlarge available coffee type options to possess more application scenarios. On Jan 3rd, Luckin Coffee (瑞幸咖啡) held a press conference in Beijing, released sales data for 2018 and the development plans for 2019, and also responded to questioning voices emerged recently. Luckin Coffee CEO QIAN Zhiya (钱治亚) made an explosive announcement that the company plans to surpass Starbucks in store numbers and coffee sales, to become China's No.1 coffee chain brand, also, to provide coffee enthusiasts with high class, and delectable coffee under a fairly low budget, with the ultimate convenience.  The rapid growth rate attracted enormous attention for Luckin Coffee. Luckin Coffee disclosed a USD 125.1 million loss in the first nine months of the year at the end of December 2018, which once put Luckin Coffee on Weibo hot search list and was suspicious of being the next OFO (See more on "Luckin coffee the next OFO, MEI Tuan Dian Ping would be the final winner") . In the press conference held on January 3, 2019, founder and CEO QIAN Zhiya of Luckin Coffee clarified that the current status quo is in line with expectations. "A large amount of money spent in marketing is extremely beneficial for rapid acquisition of customers, this is our strategy of winning recognition and market share, and we believe it is more than worthwhile to do so". At the same time, QIAN said that the strategy would be in effect also in the next three to five years. Luckin Coffee has just completed Series B financing; sufficient funds received will be mainly used for opening new stores, new product R&D, digital technology strengthening, and subsidizing users to increase its market share. Increase in Store Numbers and Coffee Sales QIAN mentioned Luckin Coffee plans to open 2500 new stores nation-wide in 2019, the number of stores in total exceeds 4500. It hopes to surpass Starbucks in terms of store numbers and coffee sales, and become the No.1 Chain Coffee brand in China. Also, continuously indulge its customers with cost-effective, high convenience and quality coffee. According to data from Luckin Coffee, by the end of 2018, it has opened 2073 stores. Among them, stores with complex decorations, offer eat-in space and delivery services are called You Xiang (悠享, means enjoy the coffee slowly) Store; While the ones with minimum decorations and do not offer eat-in space are called Kuai Qu (快取, means fast pickup) Store. The number of these two types of stores adds up together is 1897; There is also another type, the number of stores mainly serve as kitchens for delivery guys to pick up coffee and send them off to people ordered them is 176. The first two types of stores accounted for more than 90% of the total store numbers. Luckin Coffee stated all the core commercial areas are covered. Consumers placed the orders and 61% of them show up in the stores and pick them up by themselves. The CMO of Luckin Coffee, YANG Fei (杨飞) told iyiou Food & Drinks "most of the stores now located in office buildings, mainly in first-tier cities." He believes there is still ample room to play in these population intensive cities. Furthermore, customers yearn for convenience in this brisk-paced life, hence high convenience would be a great advantage of Luckin Coffee when competing with its rivals. He also mentioned reducing the price per cup of coffee to subsidy the consumers more. Subsidies will Continue for 3 to 5 Years More Subsidies are continuously boosting customer volume. According to QIAN, a whopping 89,680,000 cups of Luckin Coffee were sold by the end of 2018, customer numbers totaled 12,540,000 while repeat purchase rate under 3 months exceeded 50%. The outcome is possibly due to the cooperation partnerships with Meituan (美团) and Tencent (腾讯). Also according to data from Luckin Coffee, in September, 2019, right after the partnership being established between Tencent and Luckin, the latter earned approximately 50,000 orders per day. QIAN proudly added up, this number is the highest in the industry, and Meituan, being an app platform for food and drinks delivery, will be their exclusive partner in that aspect. Entering into the second year after Luckin Coffee's born, the company's subsidy policy is changing. Since 1st of Jan 2019, the previous benefits of "Buy two get one for free" and "Buy five get five for free" had been reduced to only retaining the former. The free delivery barrier rose up to every order higher than 55 yuan. The 50% discounts on all snacks announced on 1st August till the end of the year now has changed into 33%. Currently, according to YANG, the juice and snacks are also contributing to the company's balance book. It is picturing a future of an open platform bridging more well-recognized bakeries, such as Tous Les Jours and snack suppliers to offer more varied combinations of coffee and snack. YANG also mentioned a large portion of the marketing effort made previously benefited from the exchange of resources, not through heavy investment as people believe. Luckin Coffee will not focus too much on introducing more flavors or offer more cup sizes in 2019, but to switch their attention to snacks offered as sides.  

Analysis EO
Analysis · 2
Analysis EO
Jan 2, 2019 10:33 am ·

China 2018 Retail Industry Annual Review

China's Gross Domestic Product slows to 6.5%(YoY) in the third quarter, marking China's weakest growth figure since the first quarter of 2009 during the global financial crisis. Weaker industrial output and trade tensions have started to weigh on China's retail market. Retail sales rose 8.1% in November, the data from the National Bureau of Statistics was below many analysts' expectations for a 8.8% rise. There were some signs and signals. Auto sales( in the seventh paragraph), as the first one to be hit by the fragile consumer sentiment, have been declining since May. The worst time is coming? At least JD.com(京东) and Alibaba(阿里巴巴) has implied it in their fiscal reports. To hold or to sell? JD.com & Alibaba JD.com reported its net revenues of CNY 104.8 billion (USD 15.3 billion), growing 25.1% from the same period in 2017, but still missed analysts’ forecasts for CNY 106.09 billion. Even the company’s rival Alibaba posted stronger-than-expected second-quarter earnings in its latest fiscal report, cautioned that 2019 revenues would be weaker than what had been originally forecasted before, for "fluid macro-economic conditions." The two E-commerce giants in China are highly exposed to macroeconomics and geopolitical strife. And all numbers seem to echo the same fact, 2019 will not be any better than this year. But does it really true? Let's take a look at what the opinions toward the two stocks from critic Wall Street analysts first. Bank of America Merrill Lynch maintained a Buy rating and USD 37 price target and UBS with a USD 28 target. JD.com is more than an E-commerce platform, which has businesses in logistics, warehouse, financing and investment, etc. As the improvement and mature of logistics, growing revenue from third-parties in 2019, commercial business will release more margins. “We still expect pressure on margins as the topline slows down, while we think cost measures will likely take time to yield.” said analyst Eddie Leung from BofA Merrill Lynch commenting JD.com. Alibaba's numbers were very much alike. The company has been endured a fall in profit of more than 30% the fourth quarter of 2018 fiscal year mainly because a heavy spending on Alibaba's businesses outside of e-commerce, including cloud computing and brick-and-mortar retail, the company call it as “new retail”. Online or brick-and-mortar? JD.com & Alibaba Hema Xiansheng(盒马鲜生), Alibaba's lavish, high tech supermarkets selling fresh food, has seen rapid growth in the number of shops from 13 to 65 in July 2017 and August 2018, respectively. Alibaba has a logistics arm called Cainiao(菜鸟) which is deploying 700 robots to build the largest smart robotic smart warehouse in China. The two divisions costing huge investment aside, Alibaba's cloud-computing divisions, the market leader Aliyun in China, has seen the sales soared 90.5% in the latest quarter. The two companies have been leading digital trend in China’s retail market, also the ones to usher in the New Retail era, or what JD called it as Retail as a Service. China's offline retail market is worth around USD 4.5 trillion. To build, to buy or partner are common ways to pursue the offline chance, however, core competitive will always lie on how to solve big problems and removing inefficiencies, according to a report from consulting firm PwC.  An alternative for Starbucks? Luckin & Starbucks Luckin(瑞幸) grew from nobody to a company valued at USD 2.2 billion after its latest funding round of USD 200 million in one year. The company wins customers by offering a relatively low price compared to that of Starbucks, which approximately is 20% below, encouraging users to invite friends to order via social networks and get discounts and promising to deliver products in 30 minutes. Starbucks has sensed threatens, even the company is estimated to have a 70% of the market and planned to nearly double the 3,400 stores in 2020. Starbucks worked with Alibaba subsidiary Ele.me to pilot delivery services. Burning cash strategy cannot make sure living long and prosperous for a company. DiDi did win the battle against Uber China, but we must notice where it stand, an existing car-hailing market and a bunch of customers who highly require the needs, what DiDi does just change the form and optimize users values. It is not the same way where Luckin going, which lures people who are reluctant to buy coffee before to buy their coffee, one day, the real triumph will come if they could lure a whopping number of customers from Starbucks someday, but not yet, with its loss of CNY 857 million in the first nine months 2018. Subsidy policy will eventually phase out, after all, as what already happened in China's NEV market.  Copy or not? Naixue's Tea & Heytea Luckin is creating its customers, Naixue's Tea(奈雪的茶) and Heytea(喜茶) creating a new tea beverage market in China. The two companies help to shape the market phase and had some fights meanwhile. PENG Xin(彭心), the founder of Naixue's Tea, accused Heytea is copying her original product in Oct. Heytea also gave out aggressive feedback implying the company will not produce replications. Starbucks is less emphasized on the core of the disputes, whose enterprise is built upon a lifestyle for a specific group of people but not the hype innovation. 

Analysis EO
Analysis · 2
Analysis EO
Dec 22, 2018 11:19 pm ·

Luckin Coffee the Next Ofo, Meituan Dianping Woud Be The Final Winner

Luckin Coffee announced on Dec 12 to obtain the company’s Series B Financing of USD 200 million, valued at USD 2.2 billion. With a rapid expansion powered by capitals, Luckin Coffee is now seen as a strong competitor to the Starbucks in China and forced the “big brother” to take a series of measures to meet the challenge in China local market. Dec 14, Starbucks launched its virtual stores in partnership with Alibaba, to provide products and services to fans of Starbucks as well as Alibaba, not only on Starbucks app and ele.me, but also new channels like Alibaba Tmall and Alipay, etc. Furthermore, consumers do not need to purchase the member card to join the membership anymore, and could simply become a member by registering with a cellphone number. As to the offline sales channel, Starbucks announced to expand the company’s network to 6000 stores in 230 cities in 4 years. However, there’re also a bunch of negative comments about this emerging coffee startup. Critics doubt that Luckin Coffee’s business strategy of “crazily burning money” could be sustainable, by which Luckin Coffee provide similar products with a price near 1/3 of the Starbucks. Some authors in China even claimed Luckin Coffee would be the next ofo, one of the biggest station-free bike-sharing platform operated via an online mobile application, recently was suspected to be impoverished, that over 10 million consumers are waiting to get their deposit refunds of CNY 99 or 199 per user. Dec 21, according to the business plan of Luckin Coffee’s Series B Financing, which was learned by financial job search and training service provider CareerIn, the cumulative sales income of Luckin Coffee was CNY 375 million and the net loss was CNY 857 million, in the first nine months of 2018, with a gross margin of CNY -433 million, and a gross profit rate of -115.5%. How should Luckin Coffee be evaluated? Why does the venture capitals have confidence in this company? Would it face a huge decline after stopping subsidies? LIU Erhai (刘二海), the Founding and Managing Partner of Joy Capital joined Luckin Coffee’s board of directors, with continuous investment. Joy Capital, as the lead investor of Luckin Coffee’s Series B Financing, had also taken part into the Series A in May of this year. According to an article from iyiou.com, LIU Erhai accepted an interview with Sina Technology, answered several questions about “Buring money” and “subsidy”, and shared the perspective of Luckin Coffee as well. The secret for Luckin Coffee’s rapid growth: In LIU Erhai’s opinion, Luckin Coffee’s rapid expansion of 1,700 stores in 21 big cities had benefited from the rich experience of the founding team. The founder of Luckin Coffee QIAN Zhiya (钱治亚) used to be the COO of UCAR (神州优车, NEEQ:838006), which is a chauffeured car service provider committed to guaranteeing safe and standardized chauffeur services for its customers. And one of Angel Round investor LU Zhengyao (陆正耀) is also Chairman and CEO of UCAR. The experience of the operation of UCAR, is highly correlated with Online to Offline business, which can be used in operation of Luckin Coffee, to connect huge while dispersive consumer needs for coffee with Luckin Coffee shops all over the cities, through the Internet, and driven by data. LIU Erhai believes that coffee is becoming a mass market from the niche market it used to be. Built on a highly developed internet infrastructure, “digital coffee” will become the mainstream of the future coffee market, that most cups of coffee will be related with data, not only delivery will be data-driven, the product design, distribution of stores, consumer experiences, etc. would all be driven and enhanced with data. LIU Erhai claimed Luckin Coffee to be such a digital coffee company, which can use technology to improve the quality and experience with proper prices that consumers can afford. Responses to several doubts and challenges: For Concerning of subsidies cannot last for long, which helped Luckin Coffee a lot to obtain consumers quickly, for now, LIU Erhai believes that “burning money” is actually an investment for entering minds of consumers. What if other competitors quickly copy and follow up? LIU Erhai said that Luckin Coffee will do revolution before others catching up, by expanding its product categories, from coffee to juice, and light meal. When talking about the ability of management, LIU Erhai admitted it to be a big challenge, that Luckin Coffee used to pay a lot for the commitment of “Free if the delivery costs over 30 mins”, while the management is getting better. The real challenge for Luckin Coffee is far from coming: In the author’s opinion, Luckin Coffee will face at least two big challenges, one is Brand Equity of the company, another is the trap of this Nonrigid Demand Market. Compared with Starbucks, Luckin Coffee is just a new player in the market, the Brand Equity of this company is much lower than the old brands. By Brand Equity, the author means Brand Awareness, Reputation, Association, Relevance, etc. Lower Brand Equity means a serious Public Relations Crisis might be a disaster to the brand, for example, a food safety issue would have much more negative influences on Luckin than Starbucks. As to the trap of Nonrigid Demand Market, in the author’s opinion, Luckin Coffee would definitely need to face a sales decline without subsidies, and the business model is not similar with Uber or Didi in China, consumers’ needs for coffee in China, could be met with a large number of alternative products. Coffee of another brand, Tea, Milk Tea could all be the challengers. In the end, maybe food delivery platforms like Meituan Dianping would be the final winner. According to information on Dec 18, Luckin Coffee is planning a tie-up with Meituan Dianping, China's leading e-commerce platform for on-demand services, to deliver coffee and other food products through Meituan Dianping's delivery network in China. - Author: ZHANG Fan; SONG Ning contribued to the article; Write to ZHANG Fan at ZhangFan@EqualOcean.com

Analysis EO
Analysis · 2
Analysis EO
Nov 16, 2018 06:16 pm ·

Before Excavating Luckin Coffee’s Underlying Logic, Drop the Luck Behind First

Some commented that Luckin Coffee’s competition strategy is heavily relied on VC, but this saying is not objective enough. However, what can be assured is that Luckin Coffee(瑞幸) would be in a great demand of series of funding. In a relatively long period, Luckin Coffee is destined to splurge money on its operation. Luckin Coffee is born with slogan of Anti-Starbucks. Apparently, the benefit from such a high-profile catchphrase is that it could attract people’s attention quickly and gain some bargain chips when absorbing capitals. Yet, the logic behind Luckin Coffee’s market expansion is not competing for Starbucks customer stock but altering those who are not fans of coffee to turn into it. The former is the stock and the stock battle is unquestionably a red ocean kill. From all perspectives, Luckin Coffee is not the stake holder in the game. Those who used to purchase Luckin coffee did not sense any uniqueness from the coffee’s taste but were attracted by its ads. Speaking of the truth, general customers do not care about Luckin Coffee’s taste comparing to Starbucks’. A few bucks less and delivery service are not stimulating enough for consumers and are not a powerful move to steal existing customer stock from Starbucks. Luckin Coffee’s blue ocean strategy is attracting new customers. Revealed from current data, the pool of Chinese coffee consumer is yet to be expanded. Doubling, tripling, quintupling or even decupling current market size is definitely achievable. Occupying the blue ocean consumer pool, Luckin Coffee is seemed to compete with Starbucks-alike giants from the same starting line. On Dec. 13 2017, Meituan Senior Vice CEO, WANG Huiwen, presented an interesting fact on EO Innovator Conference: Dated back in 2013, when Meituan initiated its take-out delivery business, the whole traditional takeout delivery market size just met 100 thousand deliveries per day. If Meituan were to compete for the pre-existed market, there would be nothing to be told now. Referring to Huiwen Wang, Meituan is not doing the business of “interneting” takeout delivery but the takeout delivery itself. Thus, the takeout delivery market has reached the million size, daily. Similarly, if Luckin Coffee is doing the business of “interneting” or “deliverifying” coffee, what could be pictured is significantly constrained and limited, though current coffee consumer market is times larger than the one of 2013’s traditional takeout delivery. From the logic of incremental market, sizable actions that Luckin Coffee took is giving a lark to catch a kite in a long run. The message that Luckin Coffee sent may not be how good its coffee is, but it is no doubt that Luckin Coffee is a marketing master, which most people want to learn lessons from. In fact, the team of Luckin Coffee that worships the theory of product orientation give itself an ambiguous product orientation. Ucar (almost the same team behind)’s ads, “Beat U”, distinguished itself from competitors by emphasizing safety. The strategy was proper and executable for a red ocean market at that time. But this time, “This cup, who doesn’t love”, is far from expectation. A benefit of competing with Strabucks is substantially eye-catching, but that is not enough. Comparing with Starbucks, current Luckin Coffee’s products cannot be called “Better”, and lightyears away from being “Different” or “Change”. It would be better for Luckin Coffee to make changes onto its strategy. Otherwise, the new customers it attracted and cultured will finally turn into Starbucks’ arms. Low price as a competing means is a paradox under the category of close-sociability commodity. Close-sociability commodity satisfies customer’s vanity and demand of social acceptance. However, low price leads to an opposite. For instance, you received Luckin coffee, while your friend got one from Starbucks (though Starbucks is not a high-end coffee, either), and you would tend to feel inferior than this Starbucks friend.  Considering from the angle of brand marketing, Xiaomi employed slogans of “The first smart phone for the young” and “The first smart TV for the young” associating with low price and let numerous less-affordable people obtain their first smart phones and smart TVs. Though, Xiaomi users gradually became more-affordable and then switched to Huawei and Apple cells, Xiaomi is upgrading its products with high quality matched with high price to win back consumers’ hearts. The road was filled with thorns, but Xiaomi carried on and now it is at a sound status. For Luckin Coffee, the way that Xiaomi played in its initial status is still worth learning. Despite of product orientation and marketing, what Luckin Coffee needs to excavate is that what value improvements could be made onto Luckin Coffee, comparing with the traditional coffee market. Speed and on-time delivery could have been extremely valuable. However, these two has become standard requirements. Additionally, Luckin Coffee could not satisfy above two requirements on its own solely. The cooperator Shunfeng, who provides speedy and on-time delivery service, is definitely the winner in this game, while the profitability of Luckin Coffee is still a mystery. At a broader strategic angle, Luckin Coffee has become the training field for Shunfeng and Ucar to construct their instant logistics. Instant logistics is the cornerstone infrastructure of new commerce: Meituan knocked the door of ridesharing business through its takeout service products; Didi got the entry tickets into takeout business through its ridesharing operation. Though it seems that Meituan and Didi are involved in an ugly fight, the truth is that the loser might be neither of them but the third party, Shunfeng and Ucar. Standing on above perception, Luckin Coffee’s front end is QIAN Zhiya, and the back end is LU Zhengyao. Either define the new category, or the new methodology. So far, Luckin Coffee is the later. What it needs to do is to employ new strategy and find new customers. Luckin Coffee adopts a combination of “classified retail store locating + online and off-line connected for advertising + speedy and on-time delivery” as the new strategy. Comparing with traditional Starbucks, it is hard to predict that the customer experience would be improved and/or the cost of the combination would be less. Afterall, Starbucks has the pricing power and is at advantage in cost control. Capturing customers online might not be less costly than off-line. Or we could put it another way – only is marketing a means, the product and the value are the ultimate pursue. New customers are the most critical part for Luckin Coffee to concern about. Beta and gamma cities will take over the alpha cities, or the otherwise. The selection is difficult to be made. Past group purchase and takeout market players were at great losses in alpha cities due to branding purpose but competed and made profitable gains in betta and gamma cities. Luckin should reflect on itself that if it is worthy to have an ugly alley fight with Starbucks in Shanghai, where it has opened more than 600 stores. No matter the future is bright or dim in a long run, it is commonly acknowledged that the integral strength of Luckin Coffee is above average, which caught attentions widely; the market values would rise at all probabilities, and it has the potentials of becoming the unicorn-to-be. After series of funding, Luckin Coffee should optimistic. Leading and cultivating followers to open and develop the incremental market is the only chance for Luckin Coffee to grow and become a matched competitor in the game with Starbucks. In the end, there are two free suggestions for Luckin Coffee. First, keep “Luckin” and drop “Coffee”. Since “Coffee” will be dropped in all probability, making it happen now does no harm. Second, swap the “Luckin”, with any other word, when LUCK is the least thing that could be counted on in doing business. ——Author: YuanPu; Editors: Yingwei. Write to YuanPu at YuanPu@EqualOcean.com 

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