business

Luckin to Feel the Heat as Competition Intensifies

December 4, 2020
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a group of people walking in front of a store: Outside view of a Luckin (LKNCY) shop in Wuhan, China.

© Source: Keitma / Shutterstock.com
Outside view of a Luckin (LKNCY) shop in Wuhan, China.

A lot of time has passed since we last heard from Luckin Coffee (OTCMKTS:LKNCY) stock. After a scandal-ridden 2020, perhaps the company felt it best to keep a low profile. However, I don’t think that it’s a recipe for success for Luckin stock.



a store front at day: Outside view of a Luckin (LKNCY) shop in Wuhan, China.

© Provided by InvestorPlace
Outside view of a Luckin (LKNCY) shop in Wuhan, China.

People are hungry for news. In July, the company appointed Alvarez & Marsal as its provisional liquidator. Thereafter, we haven’t heard a peep regarding the restructuring process. The “light touch” provisional liquidation allows breathing space to implement a restructuring without displacing management and ultimately continue as a going concern.

Normally, the lack of news is not a cause for concern. But we’re talking about a company that was caught cooking the books. Investors need clarity on these matters. A prolonged silence is not a good sign, especially when you can’t rely on the financials for accurate information.

On top of that, competition in China is ramping up. Two of the world’s biggest companies – McDonald’s (NYSE:MCD) and Starbucks (NASDAQ:SBUX) – are making inroads into the market. So, as Luckin licks its wounds, other more significant players are taking away valuable market share.

Clash of the Titans

What a difference a year can make. In 2019, co-founder and (now ex-) chairman Charles Zhengyao Lu had plans to surpass Starbucks as the biggest coffeehouse chain in the world’s second-largest economy. Fast forward, and now Starbucks is the lone man standing, and not because of anything it did.

Luckin Coffee shot itself in the foot after a sales fraud scandal emerged that implicated its top executives. An independent investigation found that the Chinese coffee chain’s 2019 sales were inflated to the tune of about $311 million. Unfortunately, that was the tip of the iceberg. As we gained further insight into what was happening behind the scenes, the company was forced to contend with multiple fronts. Executives left, and fines were levied.

Meanwhile, Starbucks consolidated its position. Granted, the novel coronavirus pandemic did a number on Seattle’s best. But if the latest quarterly results are any indicator, the company is recovering well. Although foot traffic remains down, earnings per share came in at 51 cents, adjusted, versus 31 cents expected. Revenue also beat estimates, $6.2 billion versus $6.06 billion expected.

Gallery: 4 of the Biggest Earnings Losers From Q3 (InvestorPlace)

There are investors who believe that quarterly earnings reports get too much attention. Some even believe the reports should be done away with. Indeed, no less an authority than Warren Buffett has highlighted the dangerous incentives quarterly reports provide corporate managers. Meanwhile, it doesn’t take long in the market to question the logic of stocks losing material portions of their value based on how performance in a single quarter matched (or didn’t match) Wall Street expectations. But there is value in these reports at least some of the time. Simply put, some earnings reports matter. They can illuminate changing trends, or show that the market’s existing expectations were incorrect. For these four stocks, earnings mattered — and not in a good way. All four stocks saw big declines after earnings, and for reasons that do have some logic. Each of these names certainly can bounce back, particularly with improved performance. But given both short-term sell-offs and long-term concerns, these four companies look like the biggest losers from earnings season so far: SAP SE (NYSE:SAP) Beyond Meat (NASDAQ:BYND) Limelight Networks (NASDAQ:LLNW) Overstock.com (NASDAQ:OSTK)


4 Earnings Losers: SAP SE (SAP)

Few earnings reports in recent years have seen such a violent sell-off as SAP’s third-quarter release. SAP stock fell 23%, but that figure understates the case. In a single day, SAP lost $41 billion in market capitalization. That’s not the biggest one-day decline in history. Facebook (NASDAQ:FB) earned that title back in 2018 with a loss of $119 billion. But SAP’s plunge is among the biggest, and perhaps the biggest, in the two-plus years since. Even Intel’s (NASDAQ:INTC) stunning fall back in July only erased about $40 billion in market cap. The issue is simple. Like so many legacy software players, SAP is trying to pivot to the cloud. But it’s not working well enough, or fast enough. Guidance for 2020 was cut, and 2023 targets were moved out by two years. SAP is attributing at least some of the pressure to the novel coronavirus pandemic, but investors aren’t buying that explanation. Given the history of similar pivots — IBM (NYSE:IBM) comes to mind, as does Oracle (NYSE:ORCL), if to a lesser extent — it’s not hard to see why. Indeed, SAP kept selling off before a recent rally moved it modestly above where it closed on the day of Q3 earnings. Even that rally seems potentially premature. Coming out of earnings, SAP suddenly looks like a multi-year turnaround story. That’s not what investors thought they were buying before the release — which explains why so many sold it afterward.


Beyond Meat (BYND)

Admittedly, the beauty or ugliness of Beyond Meat’s Q3 lies squarely in the eye of the beholder. BYND stock did fall 17% after the release, but bulls could see that decline as an overreaction, or at least somewhat immaterial, in the long-term scheme of things. After all, Beyond Meat stock now has pulled back 29% from its highs early last month. But those highs followed a similarly furious rally: BYND actually has traded up almost 7% over the last three months. And as for Q3, there were disappointments, particularly on the foodservice side of the business, where sales fell sharply. But the pandemic obviously is a factor on that front, and sales should rebound as normalcy returns. There’s certainly a bullish argument to be made that the post-earnings sell-off was much ado about nothing. That’s not an argument I’d support, however. From here, Q3 looks concerning, a key reason I argued investors should sell BYND stock. The plunge in international foodservice, in particular, obviously is driven by pandemic effects. But in that segment, Beyond Meat also took minimal market share in the quarter, a significant problem for a company priced for years of significant growth even after the pandemic. Even retail growth of 40% looks disappointing. Beyond Meat was supposed to be a pandemic winner, as stuck-at-home consumers tried the product — and became long-term customers. Sharply decelerating growth in that channel suggests caution as well. There are even real questions about the supposed partnership with McDonald’s (NYSE:MCD) on the McPlant burger. Given all those concerns, the fact that BYND stock is back where it was three months ago isn’t a sign that earnings should be ignored. Rather, it’s a sign that the market yet priced in the news.


Limelight Networks (LLNW)

Limelight’s fellow CDN (content delivery network) Fastly (NYSE:FSLY) got most of the headlines before earnings season. An earnings pre-announcement on Oct. 14 ended a monster rally and sent FSLY stock down 27%. But the 32% plunge in LLNW after Limelight earnings looks much more damaging. FSLY, after all, has more than tripled year-to-date. The earnings pre-announcement suggested that the rally had gone too far, but didn’t necessarily undercut the long-term bull thesis. That’s not the case for LLNW stock. Limelight, after years of disappointment (the stock went public at $15 back in 2007), finally looked set to capitalize on its potential. Driven by accelerating trends like video streaming and online gambling, CDN demand was going to inflect sharply higher. And that would make Limelight more profitable, as well as a potential acquisition target for Fastly or industry-giant Akamai Technologies (NASDAQ:AKAM). That’s not how the quarter played out. Revenue growth of 15% simply isn’t good enough. Profitability remains elusive. Guidance for adjusted EBITDA (earnings before interest, taxes, depreciation and amortization) suggests minimal multi-year growth despite multiple industry tailwinds. LLNW stock already had slid after the report, and now actually is just barely positive year-to-date despite explosive growth in its industry. And so the perception now returns to “same old Limelight.” It will be exceedingly difficult for that perception to change any time soon.


Overstock.com (OSTK)

There’s a similar sense to OSTK stock after earnings, though the situation admittedly is nowhere near as dire. Despite a sharp sell-off of late, including a 13.6% decline after earnings, OSTK still has rallied 723% year-to-date. That’s the third-best performance among some 1,800 stocks with a market cap over $2 billion. And Overstock.com did deliver on its potential in Q3. Sales more than doubled. Adjusted EBITDA went from a loss of $18 million the year before to profit of $40 million. Notably, new customer acquisition increased 141% year-over-year, suggesting the pandemic tailwind should help the company even once normalcy returns. So at least to some extent, the selling pressure on OSTK (which now is down by more than half from August highs) comes from the fact that the pre-earnings rally was simply too steep. (Short covering may have played a role.) That said, Q3 doesn’t quite remove the long-running concerns surrounding the business. Overstock.com still has never consistently turned a profit in the more than two decades since its founding. The efforts with cryptocurrency remain unproven. And investors clearly worry that the short-term boost from the pandemic will be exactly that: short-term. It will take time to discover whether those concerns are correct. But, at the least, Overstock’s Q3 wasn’t quite strong enough to dispel them completely. On the date of publication, Vince Martin did not have (either directly or indirectly) any positions in the securities mentioned in this article.  After spending time at a retail brokerage, Vince Martin has covered the financial industry for close to a decade for InvestorPlace.com and other outlets.  

More From InvestorPlace



5/5 SLIDES

In China, Starbucks’ second-largest market, same-store sales dipped by just 3%. The company remains the largest coffeehouse chain globally, with around 4,700 stores in the market after opening 259 shops as per the most recent quarterly results. But it’s about to get some competition.

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McDonald’s Throws Down a Challenge

While homegrown rival Luckin is on the mat, Starbucks must have felt it had a clear path to Chinese supremacy. However, McDonald’s had other plans. It will spend about heavily over the next three years on a major expansion of its store-in-store McCafe in China. If everything goes according to plan, the fast-food giant will have 4,000 McCafes on the Chinese mainland by the end of 2023.

Starbucks, the market leader, charges a premium, with coffee typically averaging approximately 30 yuan per cup. McCafe is a cheaper option for the burgeoning Chinese middle class.

At present, McDonald’s has about 3,600 restaurants in China, meaning less than half have McCafes selling coffees, costing no more than 20 yuan. With cash of $3.68 billion, McDonald’s has a solid war chest to fuel its expansion strategy. As Phyllis Cheung, CEO of McDonald’s China, said, “Our goal is clear: Where there is McDonald’s, there is McCafe.”

What About Luckin Stock?

Coming back to Luckin, there isn’t much to expand what hasn’t already been said. We don’t have any clarification regarding how the coffeehouse chain is faring for some time now. Meanwhile, the fight for supremacy continues in China. With the kinds of resources the companies doing battle have at their disposal, Luckin will be tough to siphon off any market share once it gets back on its feet. A development for which we have no timeline as of yet.

Regardless, the bottom line is this: Luckin stock, even though it’s up 117.8%, is still not a viable option for any investor that values fundamental strength. It is not even a stock that is good for day trading. The major issue to grapple with now is whether the company can continue as a going concern. Considering its books’ fraudulent nature, we can’t rely on the figures given in those documents.



chart, line chart: Chart shows price-to-sales of Starbucks (NASDAQ:SBUX) and McDonald's (NYSE:MCD)

© Provided by InvestorPlace
Chart shows price-to-sales of Starbucks (NASDAQ:SBUX) and McDonald’s (NYSE:MCD)


Source: Chart courtesy of StockRover.com

China is still not a huge coffee drinking market at the moment. But it’s getting there. Market data firm Frost & Sullivan forecasted the market to triple from 2018 to 2023. As of June of the coffee crop year 2019/20, the Chinese population drank roughly 3.25 million 60-kilogram bags of coffee. Even though you can’t compare the numbers to the United States, it’s still a sizeable market.

But if you have to invest in any company, it’s better to put your hard-earned capital in Starbucks, considering it’s a cheaper option than MCD stock. Luckin stock is not an option at this stage.

On the date of publication, Faizan Farooque did not have (either directly or indirectly) any positions in the securities mentioned in this article. 

Faizan Farooque is a contributing author for InvestorPlace.com and numerous other financial sites. He has several years of experience analyzing the stock market and was a former data journalist at S&P Global Market Intelligence. His passion is to help the average investor make more informed decisions regarding their portfolio.

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