Free Coffee And An App Won’t Help Luckin Beat Starbucks

Food & Drink

Photographer: Gilles Sabrie/Bloomberg

© 2019 Bloomberg Finance LP

Free cups of coffee, fast store openings, and technology will help Luckin Coffee burn a great deal of investor money, but it won’t turn the Chinese start-up into another Starbucks.

Since its inception two years ago, Luckin Coffee seems to have a clear mission: to beat Starbucks, both in store count and in cups of coffee sold to customers.

To beat Starbucks in store counts, Luckin has been opening stores at a feverish pace– one store every 15 hours, according to Statista.com.

That’s how Luckin Coffee reached 2000 by January 2019, and is expected to reach 4500 by the end of the year, beating Starbucks which is expected to have 4,121 stores.

To beat Starbucks in coffee cups count, Luckin has been using technology to streamline its operations and analyze consumer preferences. Also, it has been giving a lot of cups of coffee away.

These are costly strategies. But money isn’t the problem these days. Pretty soon, Luckin will launch a US IPO, which will give a boost to the company’s chest of funds for further store openings.

But beating Starbucks takes more than store openings, technology, and free cups of coffee. It takes an understanding of Starbucks’ business model and strategy.

Starbucks rode the baby boomer trend in the 1990s, the growing ranks of mid-age professionals that raised the need for a “third place,” an “affordable luxury” away from work and home, where people could share and enjoy a cup of coffee with friends and colleagues. The franchise chain has inserted itself into the American urban landscape more swiftly and craftily than any retail company in history, and has radically changed the way Western companies market themselves to consumers — with a three-fold strategy:

  1. Right market segmentation. The company has targeted the upper-scale of the coffee market, competing on comfort and amenity rather than speed and convenience, which is the case with its closest competitors, McDonald’s and Dunkin’.
  1. Execution. The company continues to focus on its original product package that includes good coffee, quality service, and a nice environment to hang around.
  1. Innovation. Starbucks continues to come up with innovative products to keep the hype for the brand alive.

Meanwhile, equity analysts are already concerned with Luckin’s valuation. John Zolidis is one of them.  “We had a chance to go through the company’s F-1 filing (equivalent of an S-1), says Zolidis.  “If we are doing the math right, the company is seeking a $3.5-$3.9B valuation with last year’s revenues of only $125M and a full-year EBIT loss of $238M,” he said. “We get that LK has super-fast unit growth and it using promos to drive trial, get downloads for its app, and sign-ups for the loyalty program.”

That would certainly help the company burn a great deal of cash, but it won’t make it profitable. “Our initial conclusion is that it will difficult for this company to turn the current operating model into a profitable and cash generating business,” adds Zolidis. And while it won’t help it compete against Starbucks,  “in the near-term LK will still be a thorn in the side for Starbucks (SBUX).”

Still, Luckin could bring Starbucks in a place doesn’t want to be: price competition.

And that’s a nightmare scenario for Starbucks and its stockholders accustomed to high profit margins, as was discussed in a previous piece here.

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