Starbucks’ China Sales Decline Amidst Intensifying Competition

[Note: Starbucks’ fiscal year 2024 ended October 2, 2024]

Luckin Coffee, China’s coffee chain, has reported impressive sales figures, outpacing its major competitor Starbucks (NASDAQ: SBUX) in the Chinese market. This achievement marks a significant turnaround for Luckin Coffee, which has worked diligently to rebuild its business since addressing fraud concerns and delisting from the Nasdaq in 2020. By offering affordable coffee and leveraging mobile ordering technology, Luckin Coffee is competing for a larger market share in China, Starbucks’ second-largest market after the U.S. In this note, we compare the performance metrics and approaches of both companies.

Stores Comparison

Starbucks is the world’s largest coffee chain. It boasts an extensive network of over 40k global stores in FY’24 (almost twice as much as Luckin), with almost 7.6k (up 12% y-o-y, and 36% of Luckin’s count) located in mainland China. Starbucks’ stores worldwide are company-owned and do not have franchise operations. Instead, it sells licenses to operate. Also, a cup of coffee from Starbucks China usually starts from at least $4.10

Luckin Coffee has solidified its position as China’s leading coffee chain, boasting over 21k stores nationwide. In Q3 which ended September 30, Luckin Coffee opened 1,382 stores, up 7% from Q2 2024. Its total stores landed at 21,343 stores which include 13,936 self-operated stores and 7,407 partnership stores. The company’s first store was launched in Singapore in 2023, and in the third quarter, it added eight new stores, bringing the total to 45 self-operated stores in Singapore. Luckin Coffee’s rapid expansion is driven by its hybrid operating model, leveraging self-operated stores and franchises to minimize capital requirements. This approach enables swift growth and high store density, with locations in nearly every neighborhood. Luckin’s grab-and-go model, facilitated by mobile ordering and in-store pickup, contrasts with Starbucks’ focus on cozy environments for socializing. Additionally, Luckin’s competitive pricing ($1.40-$2.75 per cup), achieved through heavy discounts, and compact store format, further differentiate its strategy.

Quarterly Performance

Luckin Coffee has successfully challenged Starbucks’ dominance in China. It recently reported a strong third quarter with sales rising 41% year over year (y-o-y) to nearly $1.5 billion. Its operating margin came in at 15.3% in Q3 2024 compared to 13.4% in the same period last year. Also, its average monthly transacting customers in the third quarter was 80 million, representing an increase of 36.5% y-o-y. However, the same-store sales growth for self-operated stores in the third quarter was negative 13.1%, compared to positive 19.9% in the same quarter of 2023. The Chinese coffee chain is known for its aggressive deals, unusual flavors, and mobile ordering. Luckin Coffee’s ordering process is entirely mobile-based, with customers using the brand’s app to select and purchase menu items.

On the other hand, Starbucks is actively seeking to revitalize its performance. In its fourth quarter ending September 29, the overall company’s adjusted earnings per share (EPS) of $0.80 was down 25% y-o-y and net revenue of $9.1 billion was down 3% y-o-y. The company faced challenges with a notable 7% decline in global comparable store sales with a 14% drop in China alone. China’s comparable store sales decline was driven by an 8% decline in average tickets and a 6% decline in comparable transactions. Starbucks’ falling revenues are coming at a time when other coffee and beverage chains are seeing visit increases, reinforcing that probably new product innovations aren’t connecting with consumers.

Overall SBUX’s Q4 results highlight the need for strategic adjustments, especially internationally, as operating expenses surged, compressing margins by 380 basis points to 14.4%. Key cost drivers included investments in employee wages and promotional activities. In August, Starbucks appointed Brian Niccol as its new CEO. Niccol has outlined turnaround plans that include faster orders, adding a human touch to the ordering process, and positioning the brand’s outlets as community hubs.

China is a Lucrative Market

China is traditionally a tea-drinking market, but over the last few years, coffee sales have been increasing steadily, especially in urban areas and among younger professionals. China’s overall coffee sales are expected to rise at a 2.1% compound annual growth rate (CAGR) from 2024–2032. China’s coffee market size reached $19.1 billion in 2023.

Luckin’s Comeback

The company had initially enjoyed rapid success, listing on the Nasdaq in May 2019 and achieving a $3 billion valuation less than two years after its launch. However, an internal investigation revealed that the then-Chief Operating Officer had fabricated approximately $314 million in sales in 2019, resulting in his termination along with the former CEO. The scandal led to a $180 million penalty paid to the U.S. Securities and Exchange Commission and the filing of Chapter 15 bankruptcy in February 2021. Following a comprehensive restructuring effort, Luckin Coffee emerged from bankruptcy proceedings in April 2022. Despite its tumultuous past, the company has regained momentum, now surpassing Starbucks within the strategically important China market.

Luckin Coffee’s aggressive pricing and emphasis on technological innovation position it favorably against Starbucks. Luckin Coffee’s Q3 earnings report revealed that the company is currently evaluating potential entry points into the U.S. market, along with other targeted geographic expansions. However, Luckin Coffee’s U.S. expansion may be hindered by Starbucks’ dominance and higher setup costs. That said, Asian markets offer lower expansion costs and better returns, making U.S. growth more challenging. Overall, an escalating competitive landscape is anticipated in the global coffee market.

We have revised our Starbucks’ Valuation to $99 per share, based on a $3.31 expected EPS and a 29.9x P/E multiple for the fiscal year 2025 – almost in line with the current market price. Overall, the performance of SBUX stock with respect to the index over the last 3-year period has been lackluster. Returns for the stock were 11% in 2021, -13% in 2022, and -1% in 2023. In contrast, the Trefis High Quality (HQ) Portfolio, with a collection of 30 stocks, is less volatile. And it has outperformed the S&P 500 each year over the same period.

Why is that? As a group, HQ Portfolio stocks provided better returns with less risk versus the benchmark index; less of a roller-coaster ride as evident in HQ Portfolio performance metrics. Given the current uncertain macroeconomic environment around rate cuts and multiple wars, could SBUX face a similar situation as it did in 2021 and 2023 and underperform the S&P over the next 12 months – or will it see a strong jump?

It is helpful to see how its peers stack up. SBUX Peers shows how Starbucks’ stock compares against peers on metrics that matter. You will find other useful comparisons for companies across industries at Peer Comparisons.

[1] Returns as of 11/14/2024
[2] Cumulative total returns since the end of 2016

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