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Is Luckin Coffee the future of the restaurant business?

The chain became the largest coffee concept in China almost literally overnight with its tech-heavy offering, but fast growth is dangerous, says RB’s The Bottom Line.
Luckin Coffee cup
Photograph: Shutterstock

the bottom line

Arguably the biggest buzz at the ICR Conference in Orlando, Fla., this week came from Luckin Coffee, the fast-growing Chinese chain that is publicly traded in the U.S. and may well represent the future of a large chunk of the restaurant business.

Luckin has quickly become the largest coffee chain in China by store count—not, importantly, by sales. It finished 2019 with 4,500 locations there. Starbucks, by contrast, has 4,300 locations, though each of that chain’s locations do considerably more business than a typical Luckin outlet.

Luckin opened its first location in 2017. That’s a shocking rate of growth, akin to going from zero to Little Caesars in just two years.

That level of growth is indicative of the type of concept Luckin is—more tech company than coffee shop, really, and a well-funded one at that. Like many tech companies, Luckin is buying growth, rapidly expanding in the hopes of creating its own market of ultraconvenient coffee shops.

Perhaps not surprisingly, its latest effort is “unmanned retail,” or vending machines, designed “to bring Luckin Coffee closer to customers” and which promises to make the brand even more ubiquitous.

Those vending machines are also potentially more profitable: The company can potentially generate a margin on a vending machine after its 50th cup of coffee, compared with a threshold of 350 items in one of its physical stores, according to Citi Investment Research.

That’s an important point: Luckin’s growth has come at a steep price. The company reported a $324 million net loss in the first nine months of 2019 as the chain spent heavily on growth and technology to build its customer base.

Still, investors are on board. The company recently raised another $778 million in a secondary stock sale, a remarkably strong fundraising effort, and its stock has hit new highs this week, up another 2% Tuesday. The company went public last year.

The tech-heavy Luckin in some respects could be the future of the coffee business: About 70% of its coffee is consumed outside of the store. It does a lot of delivery—which is probably more important in a country like China than it would be in the less urban U.S.

But the company takes as much work out of the hands of its employees as possible, with a centralized technology system designed to improve operational efficiency. It uses data analytics and artificial intelligence to improve its operations.

It uses delivery-only locations to expose itself to newer markets before it opens larger “relax stores” there.

All of those elements are increasingly important in the restaurant industry. Chains have only recently started tapping into their data capabilities. McDonald’s, for instance, recently boosted the status of two C-level technology executives. Yum Brands is also investing heavily in technology.

And Luckin rival Starbucks has used artificial intelligence and data capabilities to improve operations inside of its more traditional locations. That has helped the chain’s same-store sales improve both in the U.S. and China.

The challenges for Luckin are twofold. First: The coffee business in China is far smaller than it is in the U.S., where consumers drink a lot more of it on average. Luckin is banking at least in part on creating demand for its products by increasing its presence, which is an iffy situation.

Second is the matter of fast growth. As a general rule, it is a good idea to be wary of such amazing growth stories, because it can be difficult to manage that growth. A company can add a lot of locations and suddenly realize the demand for them simply isn’t there.

Most of the super-fast industry growth examples usually come crashing down at some point.

That doesn’t mean the industry shouldn’t take lessons from Luckin’s offering, even if it is taking place on the other side of the world.

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