China’s Luckin Coffee (OTCMKTS:LKNCY) has proven to be the ultimate cautionary tale for American investors. The high-flying coffee chain exploded onto the scene in 2017, had opened 1300 locations in China by 2018, and Luckin stock was listed on the Nasdaq exchange in 2019.
To kick off 2020, the company announced it had passed Starbucks (NASDAQ:SBUX) as the largest coffee chain in China. And then all hell broke lose. It wasn’t the novel coronavirus pandemic that kicked the legs out from under Luckin stock. It was the disclosure that the company had been fudging its numbers.
With Luckin Coffee losing its Nasdaq listing, and shares down 95% from January highs, is it worth taking a risk on LKNCY?
The Crisis That Crippled Luckin Coffee
Luckin stock was flying high in January, despite an escalating pandemic response in China. On January 17, it topped $50, setting a record high.
The coffee chain was on fire, with the number of locations now topping 3600 — putting Luckin Coffee over Starbucks in the Chinese market. Its third-quarter results were impressive. Luckin said revenue was up 557.6% year-over-year. Net revenue per store on products increased 79.5% YOY, indicating that growth was being accelerated by increased popularity.
It’s little wonder that those Q3 results (released last November) resulted in a big payday for investors. Shares in Luckin Coffee took off. Within three months they were up 163%.
All of this seemed plausible in the backdrop of a coffee market that was rocketing in China. In 2016, the BBC reported that coffee consumption in the traditionally tea-drinking country had tripled over the past three years.
That’s when the story turned ugly. Accusations of fraud were raised on Twitter (NYSE:TWTR). It was suggested that Luckin had significantly inflated numbers, misleading investors. Luckin stock began to slide amid the ugly rumors.
In April, Luckin admitted that its COO had fabricated 2019 sales to the tune of $319 million. Considering that the coffee chain had previously said that its sales for the first three quarters of 2019 were $413 million, this was far from a minor fudging of numbers.
The admission caused shares in Luckin to fall off a cliff. They bottomed out at $1.39 in May. The company fired both its COO and CEO, but the damage was done. On June 29, Luckin stock was de-listed from the Nasdaq exchange.
Can the Company Recover?
With LKNCY shares now trading in the $2.55 range, is this an historic buying opportunity? Or, is any investment in Luckin Coffee doomed to become worthless?
Ultimately, it comes down to whether you think China has an appetite for takeout coffee and whether the black mark against Luckin Coffee will result in consumers avoiding the brand for competition like Starbucks.
The appetite for coffee in China is solid. There’s a reason why Starbucks and Dunkin Brands Group Inc (NASDAQ:DNKN) have been pursuing aggressive expansion into the market. So the question really becomes whether Luckin coffee will overcome the scandal. Ongoing legal costs and expansion will result in the company continuing to burn cash as it seeks profitability.
Bottom Line on Luckin Stock
Several InvestorPlace contributors offer contrasting takes on whether Luckin Coffee is investment material at this point.
Josh Enomoto notes that young, emerging Chinese consumers have been embracing coffee culture and Luckin is positioned to take full advantage of this trend. However, he ultimately recommends avoiding LKNCY, pointing out the inability to trust the numbers released by Luckin Coffee.
Luke Lango thinks that a combination of debt and new equity will give Luckin the cash needed to survive the current crisis and continue expansion. If things go right, Luckin Coffee could fulfill its initial billing to become the Starbucks of China by 2030. And that would mean huge upside for investors.
There are wildly varying takes on what the future holds for the scandal-ridden company. The only thing that’s certain at this point is that investing in Luckin stock is a gamble.
As of this writing, Brad Moon did not hold a position in any of the aforementioned securities.