To The Moon

Today, a research report on $Luckin Coffee Inc.(LKNCY)$ released by Snow Lake Capital, a $3 billion hedge fund, went viral on the Internet. It's reported that Snow Lake was also the one who did the investigation report of Luckin's financial fraud.

The contrast was a shock to the market and the timing of the release was also interesting.

This research report was launched at the beginning of the year, with extensive field work and an online survey of more than 100,000 Luckin coffee customers. It was originally written on August 14 of this year as an internal Snow Lake Capital investment memo. However, on November 7, the founder of Snow Lake- Sean Ma published it at an investing forum.

Sean Ma said in a media interview that $Luckin Coffee Inc.(LKNCY)$ accounted for 15% of assets under management.

1. Highlights of the 81-page research report

• Snow Lake Capital sees Luckin coffee as a miracle in Chinese business history.
• Luckin coffee target price : $46.25, a 153% upside from current price.
• Luckin coffee is likely to resume listing on the US main board in the first half of next year.
• Based on the comparable company valuation, Luckin coffee has a reasonable valuation of 35pe in 2023 and a 20x forward pe.
• 

• Valuations under different target prices:

2. Shift from bearish to bullish?

Bearish on Luckin coffee in 2020

In 2020, Snow Lake Capital was bearish on Luckin coffee due to the small size of the Chinese coffee market, the inability to retain users by low price discounts, the lack of core competitiveness of the product, and the difficulty of profitability.

This year, the bearish logic is almost reversed, with the core reasons being that Luckin coffee's beveraged coffee has expanded its market size, its explosive products have increased prices and stickiness, and its excellent management has reduced expenses and made profitability a reality.

Bullish on Luckin in 2022

Snow Lake Capital attributes Luckin coffee's miracle of Chinese business history to a number of factors.

1) Right time: pandemic dividend

Luckin coffee's pick-up model was not significantly hindered after the outbreak. Luckin coffee was able to capture more market share than Starbucks' "third space".

2) Right place: expand the target market in China

Luckin coffee launched more coffee products (such as coconut milk latte) that are more suited to Chinese tastes, expanding its target market and sinking smoothly into lower tier cities.

3) Right people: management restructure

Centurium Capital completely restructured Luckin coffee's management and adjusted its business strategy, turning Luckin coffee into a profitable business.

As of August this year, Centurium Capital held 83.5 million ADS of Luckin coffee with an average cost price of $5.21. Based on the share price at the completion of the study, Centurium Capital had a profit of $777 million.

3. Snow Lake's strong bullish reasons

1) Beveraged coffee enlarged the TAM (Total Addressable Market) of China's coffee industry

Snow Lake Capital cites Japanese whiskey consumption as an example:

In the 1920s, high alcohol whiskey was not consumed much in Japan. But Highball's creative combination of soda and whiskey dramatically reduced the alcohol content, which greatly increased the acceptance of users, and whiskey consumption increased dramatically.

In 1955, the consumption of whisky in Japan was less than 50 million liters. By 1983, however, it had reached 400 million liters.

It can also be applied to China's coffee market.

The bitter taste of coffee is hard to be accepted by most users in lower tier cities. But after 2020, Luckin coffee added fruit syrup and fruit juice to coffee, which greatly improved the bitter taste.

Luckin coffee created a number of popular products, which not only increased the price of the product, but also made it possible for Luckin coffee to enter lower tier cities.

2) Beveraged coffee + unique combination of self-operated and franchise model enabled penetration into lower tier cities.

Snow Lake Capital predicts that Luckin coffee will reach 14,000 stores in the next few years.

To justify the 14,000 stores, Snow Lake Capital compared the number of Luckin coffee and Starbucks stores in Tier 1 cities and found that Luckin coffee has 1.5 times the store density of Starbucks.

In addition, based on the ratio of GDP and the number of coffee stores, Snow Lake made a reasonable projection of the number of stores.

3) Strong R&D Capability and Operating Leverage

Luckin coffee has improved the probability of success of pop-up products through its excellent operating model.

Luckin coffee launched 113 and 34 new products in the first quarter of 2021 and 2022 respectively, which is 5-6 times more than Starbucks.

Luckin coffee's strong R&D system coupled with its huge number of stores and sales system allows new products to be quickly validated in sales. The probability of creating pop-up products is greatly increased.

In terms of the number of stores, Luckin coffee has opened 7,195 stores in China, higher than Starbucks' 5,761 stores. Luckin coffee has indeed become a strong rival of Starbucks.

Management has significantly improved profitability by closing inefficient stores, preferring franchisees, and reducing selling expenses.

In Q2 2022, Luckin coffee's selling expenses only accounted 4% of revenue, well below 27% at 2019:.

Risks

Snow Lake Capital sees potential risks for Luckin coffee as tea brands entering the coffee market to increase competition, resumption of main board listing not as expected and adverse impact of the pandemic.

Conclusion

After reading Snow Lake Capital's research report, it is heartwarming to see that Luckin coffee's stock price has increased by 93% in 2022.

Looking at the financial data, Luckin coffee is indeed stronger than it was before the financial fraud, confirming Snow Lake Capital's assessment of the miracle of Chinese business history.

What do you think of Snow Lake Capital's report on Luckin coffee?

Do you think it is an investment opportunity or alluring investors to add?