LKNCY - Luckin Coffee: Q1 2023 New Store Opening Updates

2023-04-17 16:36:41 ET

Summary

• The total store count of Luckin Coffee reached approximately 9,381 at the end of 1Q 2023 and should be able to surpass 10,000 during 2Q 2023 at the current pace.
• Luckin Coffee opened on average 13 new stores per day during 1Q 2023, reaching a historic high.
• The company officially kicked off its international expansion by opening two new stores in Singapore during 1Q 2023 though it remains to be seen whether it could work the magic.
• Our investment thesis remains unchanged that a relisting onto the main exchange is imminent and will eventually unlock significant upside of the stock.

Stock Up 3.7% YTD 2023

As of April 14, 2023, Luckin Coffee Inc. ( LKNCY ) stock was up 3.7% year to date, trailing Yum China Holdings ( YUMC ), Starbucks Corp ( SBUX ) and S&P Index ( SPY ), but outperforming Global X MSCI China Consumer Discretionary ETF ( CHIQ ) (see chart below).

LKCNY vs SPY, CHIQ, SBUX and YUMC

Given its solid financial and operating results, we believe the underperformance of LKNCY stock was unwarranted. Our investment thesis remains unchanged that LKNCY stock price could have 3x to 5x upside from its level in April 2022 and an imminent relisting onto the main exchange will be the key catalyst to unlock the move. Additionally with the accelerated pace of store openings in China and the confirmed expansion into international markets, investors could continue to be surprised to the upside during 2023.

Total Store Count Reached 9,381 in 1Q 2023 and Could Surpass 10,000 in 2Q 2023

Based on the weekly updates from its WeChat channel, LKNCY opened 1,167 new stores during the first quarter of 2023, pushing its total store count to 9,381, up 14% from year end 2022 (see charts below). At this pace, LKNCY could surpass the milestone of 10,000 stores sometime during the second quarter of 2023, less than 6 years after the company was founded. To put this store count in perspective, Starbucks, the second largest coffee chain in China by store count, operated 6,090 stores in China as of January 1, 2023 and planned to open up to 9,000 stores in China by 2025. In the United States, its largest market, Starbucks has "only" 15,952 stores at the beginning of 2023, however, it took the company 52 years to achieve that store count.

Luckin Coffee Quarterly New Store Openings

Luckin Coffee Quarter End Store Count Since 1Q20

As of 4Q 2022, the store mix of the new openings remained consistent with 2Q and 3Q 2022, i.e. the company self-operated stores accounting for 69% while the partnership stores (i.e. franchised stores) 31%. Over the past two and half years, the share of the partnership stores had increase from 10% to over 30% (see chart below).

Partnership Stores as % of Total Stores

We expect that the share of the partnership stores continues to increase during 2023 and will not interpret the store mix data in 4Q 2022 as a slowdown or plateau of the partnership stores expansion. During the 4Q 2022 earnings call , LKNCY management seemed to verify our assessment by making the following comments about relaunching the recruitment of partnership stores:

At the end of 2022, we restarted the first round of recruitments, covering 41 cities in nine provinces. At the end of January 2023, we expanded the scope of recruitment to 80 cities in 15 provinces. We received enthusiastic feedback and applications from a large number of partners. Our self-operated store model and partnership store model are highly complementary. Most of our self-operated stores are located in Tier 1 and Tier 2 cities, and our partnership stores are mainly located in the lower-tier cities.

Even though the store opening data from LKNCY's WeChat channel does not break down the mix of self operated and partnership stores, we do believe that the new round of recruitment of partnership stores at the end of 2022 could have contributed, at least partially, to the significant surge of new store openings during 1Q 2023.

P ace of New Store Openings Hit Historic High during 1Q 2023

The average new store openings per day is the key metric to measure LKNCY's pace of opening new stores. As illustrated in the chart below, the pace of new store openings during first quarter 2023 had reached a historic high of 13 stores per day, and more than doubled the full year average of 6.4 per day in 2022.

Average New Store Openings per Day 1Q23

Weekly New Store Openings

Luckin Coffee Monthly New Store Openings

We believe that the escalation of store openings was due primarily to two factors:

1) Deferred openings from 4Q 2022. Most retail business in China was severely disrupted first by COVID lockdowns in October and November 2022, and then by surging infections after the abrupt removal of Zero Covid policy in December. LKNCY might not be immune from these negative impact and likely had to postpone some of its planned store openings from 4Q 2022 to 1Q 2023.

2) Successful recruitment of partnership stores. As discussed earlier, LKNCY relaunched its recruitment of partnership stores at the end of last year, which could partially contribute to the robust store opening statistics during 1Q 2023.

We would pay close attention to 2Q 2023 new store opening data as they would most likely clarify whether the strong 1Q 2023 data is a one-off jump or a sustainable new normal for LKNCY.

New Store Openings on the Map

In the fourth quarter earnings presentation, LKNCY included a store map showing its network coverage and density as of December 31, 2022. We added an overlay on this map with the new store openings during 1Q 2023 (store count highlighted in red).

Our observations are as follows:

1) During 1Q 2023, LKNCY opened new stores across all the provinces that it already had presence. However, the growth continued to be density focused with high density provinces getting more new stores;

2) Four provinces with more than 500 stores (dark blue) at year end of 2022 saw new stores opening at the pace of more than 1 store per day with Guangdong the highest at almost 2 new stores per day; and

3) In the nine provinces with 201 to 500 stores (sapphire) at year end of 2022, the pace of new store opening is roughly half of that of those four tier one provinces.

A Pleasant Surprise: International Expansion

During March 2023, LKNCY opened two new stores in Singapore, officially kicking off its international expansion in Southeast Asia. Based on the company's Instagram and WeChat posts (see screenshots below), one store is pick-up format while the other is relax format. Apparently LKNCY is testing both formats in this new market.

Instagram Posts of Luckin Coffee Singapore

Source: Company Instagram account and WeChat channel.

Per media report s, LKNCY planned to open 10 stores in the region by April and was also holding talks with potential franchise partners in Thailand.

Choosing Southeast Asia as the first stop for international expansion makes great strategic sense for a variety of reasons:

1) Southeast Asian countries collectively have close to 700 million population, the third largest consumer market in Asia;

2) The total GDP of the region was over $3 trillion, the world 5 th largest economy after the US, China, EU and Japan;

3) Before COVID outbreak, over 27 million Chinese tourists visited Southeast Asian countries every year. LKNCY could certainly benefit from this special group that has already had deep rooted brand awareness of Luckin Coffee.

That said, we would remain cautious about the financial impact of the overseas expansion on LKNCY's top line and bottom line as the potential challenges could be equally daunting:

1) Southeast Asian countries have a much longer coffee drinking history than Mainland China and the local consumers could be more demanding in terms of taste and product innovation;

2) The coffee shop market in Southeast Asia is extremely competitive and LKNCY will not only compete with the global brands (e.g. Starbucks), the regional chains (e.g. the Flash Coffee, Ya Kun Kaya Toast), but also the local coffee shops (e.g. the kopitiam) that already existed for over two centuries;

3) LKNCY's business model could face significant challenges as, unlike China, Southeast Asian countries are very fragmented in terms of adopting social media, mobile payment and food delivery platforms. These challenges could potentially have negative impact on the unit economics and company financial results.

We would hope that during the 1Q 2023 earnings call, LKNCY management could elaborate in details on how they assess the potential opportunities and challenges in the international markets and to what extent the overseas market could become a meaningful growth driver.

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