LK - Luckin Coffee

[valueinvestor]

Down 75%.

 

Coffee is a great beverage. China is a great market. Put them together in a conducive manner and you can have a great investment.

 

I was observing Luckin Coffee ever since I've been to China, and heard great things from friends who are there. I have no position at the moment, and still don't foresee having a position unless more information come to light. The way I valued it at the time was figuring out how many stores they will be able to open, and applying a range of comparable FCF margin such as Dunkin or Starbucks.

 

So far you can see the company doing 100M to 350M in FCF with 3500 stores and growing (back of envelope calculation). Unfortunately there's an accounting scandal and downside is $0, if the accounting is as pervasive as Enron. However upside can be multibagger, because the business is real (stores are real and busy at the time) and was growing ridiculously, and in my mind it is not worth $0.

 

Again it's too risky for me at the moment, but I'll provide updates whenever I have a chance to delve deeper, but I thought I could add as much value as I can to do the board, while I'm sitting at home by providing fresh ideas.

 

Thought I could start a conversation with my fellow CoBFers.

[johnny]

Isn't it more of the COBF way to get invested in these Chinese companies before we're definitively told there's been fraud?

[meiroy]

Down 75%.

 

Coffee is a great beverage. China is a great market. Put them together in a conducive manner and you can have a great investment.

 

I was observing Luckin Coffee ever since I've been to China, and heard great things from friends who are there. I have no position at the moment, and still don't foresee having a position unless more information come to light. The way I valued it at the time was figuring out how many stores they will be able to open, and applying a range of comparable FCF margin such as Dunkin or Starbucks.

 

So far you can see the company doing 100M to 350M in FCF with 3500 stores and growing (back of envelope calculation). Unfortunately there's an accounting scandal and downside is $0, if the accounting is as pervasive as Enron. However upside can be multibagger, because the business is real (stores are real and busy at the time) and was growing ridiculously, and in my mind it is not worth $0.

 

Again it's too risky for me at the moment, but I'll provide updates whenever I have a chance to delve deeper, but I thought I could add as much value as I can to do the board, while I'm sitting at home by providing fresh ideas.

 

Thought I could start a conversation with my fellow CoBFers.

 

1. If there's a fraud, all numbers are meaningless.

2. If a company is operating in an environment that is non-transparent, all numbers are suspect and the discount rate should be considerably higher compared to an American company operating in the USA.

3. What is "growing ridiculously"? The number of stores? Easy enough if you get access to easy money because you provided false numbers. Customers? Again, easy enough if you open a massive amount of stores because you got that easy money.

4. "and applying a range of comparable FCF margins such as Dunkin or Starbucks".  Why? Does it have the same operational efficiency and background as these two companies?

5. If there is a fraud, can you go and sue whomever for damages in the home country?

 

 

[valueinvestor]

Isn't it more of the COBF way to get invested in these Chinese companies before we're definitively told there's been fraud?

 

Let's see if we could do that - only thing that's holding the trigger is the fact that's in China and the rules are different there.

 

If we can say that it costs $200-300K US to build a coffee shop, I'll assume $100K because their shops are smaller and built differently, then we can say cost to build network of 3500 coffee shop is $350,000,000 USD, while they also have $800,000,000 in cash.

 

We can carefully peg the business liquidation value @ 1,150,000 USD. Only question is share dilution, they heavily increased share count from 2018 to 2019 and they have convertible debt that can be turned into preferred shares - but that's up for debate.

 

Let's use the current shares outstanding of 1.29B in 2019 from 381M in 2018 for now, we can say liquidation value is around 0.89.

 

This zeros out proprietary technology, branding, and all other tangible/intangible assets.

 

Unless more information or a veteran coffee entrepreneur comes to light to justify an 6.40 per share, then I do I'm just going to wait for it too go lower.

 

Down 75%.

 

Coffee is a great beverage. China is a great market. Put them together in a conducive manner and you can have a great investment.

 

I was observing Luckin Coffee ever since I've been to China, and heard great things from friends who are there. I have no position at the moment, and still don't foresee having a position unless more information come to light. The way I valued it at the time was figuring out how many stores they will be able to open, and applying a range of comparable FCF margin such as Dunkin or Starbucks.

 

So far you can see the company doing 100M to 350M in FCF with 3500 stores and growing (back of envelope calculation). Unfortunately there's an accounting scandal and downside is $0, if the accounting is as pervasive as Enron. However upside can be multibagger, because the business is real (stores are real and busy at the time) and was growing ridiculously, and in my mind it is not worth $0.

 

Again it's too risky for me at the moment, but I'll provide updates whenever I have a chance to delve deeper, but I thought I could add as much value as I can to do the board, while I'm sitting at home by providing fresh ideas.

 

Thought I could start a conversation with my fellow CoBFers.

 

1. If there's a fraud, all numbers are meaningless.

2. If a company is operating in an environment that is non-transparent, all numbers are suspect and the discount rate should be considerably higher compared to an American company operating in the USA.

3. What is "growing ridiculously"? The number of stores? Easy enough if you get access to easy money because you provided false numbers. Customers? Again, easy enough if you open a massive amount of stores because you got that easy money.

4. "and applying a range of comparable FCF margins such as Dunkin or Starbucks".  Why? Does it have the same operational efficiency and background as these two companies?

5. If there is a fraud, can you go and sue whomever for damages in the home country?

 

 

 

Obviously, I agree with you - this is my way of finding out if I am wrong. However it makes no sense to assume it's a zero off the bat, it may be close to it, but not a zero.

 

I'm looking at this the way Ray Kroc would have saw McDonald's as a concept (not that I'm Ray Kroc), they have a legitimate concept, 12M users (if we take their word on it) and technology that would require resources and time to perfect. Hence, I need more time and further research to really deem this a zero.

 

Edit: FWIW, I love looking at stocks that no one will not touch with a ten-foot pole, but in no way I'm saying that this is an amazing investment. I would love to figure that out, and provided this so people can figure out themselves.

[valueinvestor]

Forgot to link the anonymous report that shed a light at Luckin Coffee.

 

https://drive.google.com/file/d/1LKOYMpXVo1ssbWQx8j4G3-strg6mpQ7F/view

[kab60]

I once invested in a Chinese Company after they found accounting irregularities. They sold bathroom amenities and traded way below net cash. I figured it was a simple business and that even if some shady employees had taken a truck and filled it up with Company cash, the business would still be viable. Even then, I only dared to invest because a Japanese PE firm took a stake, and I figured they did their due dilligence and at least made sure the cash was there. Company went bankrupt two weeks later. I have no idea whether LK will go BK, but if the COO is involved there's no chance in hell the CEO isn't involved as well. Considering many fine businesses are selling at a fat discount, I wouldn't go near a Chinese fraud.

 

 

 

 

 

[Spekulatius]

There have been plenty of Chinese frauds (actually even net nets ) where even the cash wasn’t real. I think as a group, these net nets lost money. Unless one has some boots on the ground and can at least verify some of the numbers (like Store traffic, store count, cash etc), it’s just a gamble and not one with good odds based on the history of Chinese frauds.

 

It’s remarkable how every economic crisis reveals fraudulent companies.

[rb]

If 800 million in cash isn't there, what good does foot traffic do for you?

[coc]

This board can be shocking sometimes. A detailed report was written showing how they were making up the numbers and that the business model doesn't work. Then the company announces that, indeed, the numbers are made up. Now we're wondering if it's a value play?

 

How would you know? The numbers are made up!

[Castanza]

Why would anyone waste their time with this when we are in the middle of a 30+ percent off sale for the broader market?

[keerthiprasad]

no one knows what the thing is worth. the short paper is an interesting read. pretty classic groundwork.

[longlake95]

What a great read. I think the SEC has to hit back hard against the Chinese frauds/companies. How about the Chairman/CEO/ et al. Having to post a fidelity bond in the U.S. in real USD's, if you want to list on a US exchange. You have to hold their feet very close to the fire until, or if ever, the rule of law and the shareholder mean something in China.

[Pondside47]

What a great read. I think the SEC has to hit back hard against the Chinese frauds/companies. How about the Chairman/CEO/ et al. Having to post a fidelity bond in the U.S. in real USD's, if you want to list on a US exchange. You have to hold their feet very close to the fire until, or if ever, the rule of law and the shareholder mean something in China.

 

As a Chinese I always tell my American friends to stay away from Chinese companies traded on American exchanges... It's just not worth the brain cells... Lunkin coffee is great, you don't have to try your luck in the stock...

[BG2008]

My advice for anyone looking to invest in companies that cook their numbers is to ponder the following

 

"If your girlfriend cheats on you, would you want to marry her?"

[mcliu]

I’ve invested in a Chinese fraud before and learned my lesson. When it seems too good to be true, it is. So many great companies in US, why bother with these frauds.

 

It would be nice to see an aggregate over last 10 years of capital raised by a Chinese firms in US vs capital returned by Chinese firms. Would probably be enlightening.

[5xEBITDA]

Oh all the things to do in the market right now...why even give this the time of day?

[Patmo]

I got lucky that a few well meaning cobf members saved me a few grand when I started investing, trying to invest in this and that Chinese company because that is where all the disdain was. The thing is, the disdain is more than warranted. Hell, even my Chinese friends that I talked investing with at the time warned me.

 

Do. Not. Invest. In. Chinese. Companies. Full stop. That is my well meaning advice and I hope to save somebody a few grand with it. By far the most +EV play you can make with any sino business is to indiscriminately throw them all into the bin.

[valueinvestor]

I got lucky that a few well meaning cobf members saved me a few grand when I started investing, trying to invest in this and that Chinese company because that is where all the disdain was. The thing is, the disdain is more than warranted. Hell, even my Chinese friends that I talked investing with at the time warned me.

 

Do. Not. Invest. In. Chinese. Companies. Full stop. That is my well meaning advice and I hope to save somebody a few grand with it. By far the most +EV play you can make with any sino business is to indiscriminately throw them all into the bin.

 

For anyone who is thinking about investing, even though I CLEARLY said I don't see myself investing now or in the future, and this could be a scenario like Enron or Sino-forest - then I'm not sure what to do.

 

This was to put an idea out there and see if anyone had a different perspective.

 

As mentioned, I've been a customer, they have a unique offering that was different from Starbucks and more tech-focused, which is why I was spending more time on it and seeing if anyone has a different insight from the usual - "it's a fraud".

 

I hope people have not invested because of this - looking at my post - I'm not sure why you would? I made no detailed analysis, it's full of holes, and makes a lot of assumptions.

 

 

[valueinvestor]

My advice for anyone looking to invest in companies that cook their numbers is to ponder the following

 

"If your girlfriend cheats on you, would you want to marry her?"

 

Not that I disagree with you, but in this case, she was never our girlfriend in the first place.

 

Either way, this was really funny - thank you. :)

[Spekulatius]

LK is more like a fling that gives you Herpes. Yuck. The US should just not allow listing companies with a VIE structure and we would be done

[whiterose]

I will not defend the company or thesis nor can I confirm their overall numbers obviously. Just my 2 cents from visiting China (8 major cities) multiple times during 2019:

- the stores are real and in general experience steady customer flow aka are packed during peak hours

- the coffee tastes good, on Starbucks level, but 30-40% cheaper before discounts

- they also have snacks/sandwiches/pastries

- I guess at least 50% is takeout/delivery

- huge discounts (approx. up to 50%) and coupons available through their own app or third party apps (not sure who pays in this case, could be partially Alibaba/Tencent as parents of the delivery apps)

 

In general I would also not invest in -any- chinese company though.

 

[BG2008]

LK is more like a fling that gives you Herpes. Yuck. The US should just not allow listing companies with a VIE structure and we would be done

 

Oh Boy

[coc]

I will not defend the company or thesis nor can I confirm their overall numbers obviously. Just my 2 cents from visiting China (8 major cities) multiple times during 2019:

- the stores are real and in general experience steady customer flow aka are packed during peak hours

- the coffee tastes good, on Starbucks level, but 30-40% cheaper before discounts

- they also have snacks/sandwiches/pastries

- I guess at least 50% is takeout/delivery

- huge discounts (approx. up to 50%) and coupons available through their own app or third party apps (not sure who pays in this case, could be partially Alibaba/Tencent as parents of the delivery apps)

 

In general I would also not invest in -any- chinese company though.

 

Just want to comment on these kinds of arguments. (And I recognize you’re not arguing in favor.)

 

It’s all true. But Enron really owned power plants, Valeant really produced drugs and so on. Every fraud has a real element to it. Throw enough capital at a business and you’ll produce some real coffee in real stores. That doesn’t mean the business is worth anything - or that there is a viable business model at all. All those discounts draw in business but incinerate capital. Same as Grubhub, DoorDash, etc. (Not frauds but certainly terrible businesses.)

 

A fraud doesn’t have to be a total Potemkin village to be a fraud.

[Guest roark33]

LK was burning cash before this, how are they going to raise money in the future...just seems unlikely. 

[whiterose]

Throw enough capital at a business and you’ll produce some real coffee in real stores. That doesn’t mean the business is worth anything - or that there is a viable business model at all. All those discounts draw in business but incinerate capital. Same as Grubhub, DoorDash, etc. (Not frauds but certainly terrible businesses.)

 

Agreed.

Another point, I wouldn't be surprised if their volume per store is noticeable higher, but then competitors could just copy the delivery-only concept as well.

In the end, it comes down to: LK trying to compete with the established players (Starbucks, Costa, Pacific Coffee, McCafe) on price. Imagine launching a Starbucks competitor in the US where your USP is "-20% cheaper" which brings you to 0% net margin. Good luck finding a VC for that.