Luckin Coffee leads China’s coffee market, boasting more than 18,000 stores nationwide. However, the path to success was not easy. In 2020, Luckin faced an accounting scandal that inflated its 2019 sales figures by over $300 million. Due to the fraud charges, it was removed from the Nasdaq exchange and lost $11 billion in market value. The Luckin Coffee scandal and the company’s later restructuring provide key business lessons for entrepreneurs and managers.
At Business2Community, we detailed the key facts of the Luckin scandal and its comeback strategies by analyzing news articles, reports, press releases, and social media posts.
Luckin Coffee Scandal – Key Facts
- Founded in 2017 in China, Luckin Coffee experienced rapid expansion and growth.
- However, behind its success lay an accounting scandal, as the company was found to have inflated its 2019 sales figures by over $300 million.
- By June 2020, Luckin Coffee’s shares dropped by 90% and its market value by $11 billion.
The Story of the Luckin Coffee Scandal
The Luckin Coffee scandal refers to the 2020 incident in which the Chinese coffee company fabricated more than $300 million in sales figures, leading to a major financial and reputational crisis.
About Luckin Coffee
Luckin Coffee is a Chinese coffee chain aiming to make high-quality and affordable food and beverages. It has an app-based business model, where customers place orders using the Luckin app.
The company was founded in 2017 in Beijing, during a period when the world’s biggest coffee companies were aiming to invest in the Chinese market.
Luckin rapidly expanded in the six months after its founding; the number of Luckin Coffee stores in China grew to over 600. After raising millions of dollars worth of investments, Luckin announced its US initial public offering in 2019 at $17 per share and raised $645 million.
As of 2024, the company has more than 16,218 stores in over 240 Chinese cities, outranking the coffee giant Starbucks and other Chinese firms like Cotti Coffee and Jenny X Coffee.
Luckin Coffee Accounting Fraud Scandal
Luckin Coffee’s fast growth and success was not without a scandal.
Due diligence-based equity research firm Muddy Waters Research shared a tweet in January 2020, saying it had received an 89-page anonymous report on how Luckin inflated its number of items per store per day sales. The report alleged that the sales figures were overstated by at least 69% in the third quarter of 2019 and by 88% in the fourth quarter of 2019.
MW is short $LK. We received unattributed 89-page report alleging $LK is a fraud: "number of items per store per day was inflated by at least 69% in 2019 3Q and 88% in 2019 4Q, supported by 11,260 hours of store traffic video" We view the work as credible. https://t.co/N3rXlrvfcZ
— MuddyWatersResearch (@muddywatersre) January 31, 2020
In March 2020, Luckin formed a Special Committee of the Board of Directors to analyze documents and conduct interviews with employees under suspicion of exaggerated sales figures. It publicly announced the internal investigation in a press release dated April 2, 2020.
The investigation revealed that CEO Jenny Zhiya Qian and COO Jian Liu of Luckin’s management, along with certain employees, had indeed fabricated sales transactions. According to the investigation, the fabrication began in April 2019, making the company’s revenue appear to be RMB 2.12 billion (around $291.42 million) more than it actually was.
Luckin’s Shares and Market Capitalization Drop
After Luckin announced the internal investigation in April 2020, it experienced a significant drop in its share price.
By June 2020, the company’s stock had plunged by 90%, wiping out $11 billion of its market value.
Also in June of the same year, the company received a delisting notice from Nasdaq for failure to file its 2019 annual report.
The Securities and Exchange Commission Charges Luckin
In December 2020, the Securities and Exchange Commission charged Luckin with defrauding investors by misstating its revenue, expenses, and net operating loss to achieve rapid growth and meet earning estimates. The company agreed to pay $180 million to resolve the charges.
The SEC’s complaint also alleged that Luckin engaged in fraudulent activities between April 2019 and January 2020, including:
- Intentionally fabricating over $300 million in retail sales through different purchasing schemes
- Hiding the fraud by inflating the company expenses by over $190 million
- Creating a fake operations database
- Altering bank records in line with the false sales
The China Securities Regulatory Commission and the Swiss Financial Market Supervisory Authority assisted the SEC.
Luckin Files for Bankruptcy
In 2021, seven months after Nasdaq delisted the company, Luckin Coffee filed for Chapter 15 bankruptcy in New York. Its retail outlets remained open.
Luckin Settles with Investors
Luckin Coffee agreed to pay $175 million to settle a class-action lawsuit brought by investors who claimed they were misled by the company’s false and misleading statements.
The Consequences of the Luckin Coffee Scandal
Luckin’s downfall had a surprising twist: the company managed a remarkable comeback post-scandal.
In the 2023 fiscal year, Luckin generated RMB 24,903.2 million (US$3,507.5 million) in revenue, representing an 87.3% increase compared to the previous year. This also meant the Chinese coffee chain surpassed its main competitor, Starbucks, in annual sales.
Here is how the consequences of the Luckin Coffee scandal led the company to take action and turn the business around:
Changes to Luckin’s Management and Board
Immediately after the scandal came to surface, Luckin Coffee suspended its CEO Jenny Zhiya Qian and COO Jian Liu, and terminated their employment in May 2020. Luckin’s board also asked Qian and Liu to resign from their roles as board members.
In May 2020, Luckin announced Jinyi Guo as a director to the Board, a Senior Vice President, and the acting CEO.
Private Equity Support and Restructuring
David Li, chairman of Centurium Capital, invested $240 million in 2021 to help Luckin clear legal fees and fines.
Centurium Capital became Luckin’s controlling shareholder in 2022. It made changes to Luckin’s management, store count, and franchise system. Shortly after Centurium took over, Luckin emerged from bankruptcy.
“Luckin Coffee utilized the Chapter 15 process to effectuate the restructuring of its financial indebtedness in the United States. As we have emerged from this process successfully with the support of our creditors, we are confident that Luckin Coffee is well positioned for long-term growth and creation of stakeholder value,” said CEO Jinyi Guo, stating that this was a new beginning for Luckin.
Post-Covid Success and Product Innovation
Luckin’s business model involved app-based orders, contactless payment, and takeouts. This worked very well during and post-Covid in China.
As a part of its business strategy refinement, Luckin released new beverages, such as coconut latte and alcohol-infused Moutai latte. According to Bloomberg, the former made up 70% of sales in some Luckin stores, and the latter sold 5.4 million cups on its first day.
Luckin’s drinks were widely shared on social media platforms like TikTok, both for their interesting ingredients and competitive prices.
https://www.tiktok.com/@eshtonc/video/7332458294755314951?_t=8oHwmrYnJOD&_r=1
What Can We Learn From the Luckin Coffee Scandal?
Misleading investors and falsifying financial statements had drastic consequences for Luckin Coffee, such as a significant drop in its share price and market capitalization. To get back on track, the company had to implement extensive restructuring efforts and internal changes. This highlights a classic business lesson: ethical practices are crucial for maintaining a good reputation.
Luckin took immediate action after the scandal, terminating the employment of its CEO and COO and agreeing to pay $180 million to settle charges. Accountability is another business lesson in the Luckin scandal. However, with ethics, internal compliance systems, and regulations, such scandals can be avoided.
As for the company’s comeback, a 2021 article published in Advances in Economics, Business and Management Research explains it with a post-scandal SWOT analysis:
- Strengths: Luckin’s four main advantages are its competitive prices, Chinese consumers preferring local brands, diverse product offerings, and brand advertisements on various channels. After the scandal, Luckin released more products, offered discounts, and made collaborations with Chinese celebrities to reassure consumers that the brand was still going strong.
- Weaknesses: Besides its damaged reputation, Luckin Coffee’s main weakness post-scandal was its supply chain, which didn’t ensure quality products like its main competitor, Starbucks.
- Opportunities: China’s coffee market is still growing, which gives Luckin a large market potential. The company’s app-based ordering system fits the Chinese market, as ordering food and beverages online is common in the country, especially post-pandemic.
- Threats: More Chinese companies are getting into the coffee and online delivery business, which increases competition for Luckin. Starbucks remains the second most popular coffee brand in China.
Given the SWOT analysis, the 2021 article argued that Luckin used its strengths to overcome the accounting fraud scandal. Companies experiencing similar crisis periods should assess their strengths, refine their business strategies, and more importantly, take accountability for past mistakes.