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Beyond earnings: Can Starbucks China keep pace with local competitors? | Following the yuan
With Starbucks China has made the expected recovery from the pandemic, it's uncertain whether the momentum will carry it through the cutthroat local competition.
If you read my last piece on 3 reasons why Starbucks China may not perform well, you may think I misjudged, as the coffee chain’s China sales largely rebounded from Q1’s dismal -29% in same store sales: Starbucks's Q2 earnings for 2023, which ended on April 2, beat expectations with improved China performance.
In a snapshot: Starbucks reported US$908 million in net earnings in Q2, up 34.7% from the previous year. It’s doing well in the U.S., the biggest market with 16,044 stores, with comparable store sales up 12%. Meanwhile, the China market rebounded after Beijing lifted zero Covid restrictions with 3% of increase in comps driven by a 4% increase in comparable transactions and a 1% decline in average ticket.
But I’d like to insist my grassroots, non-financial-advisor thesis. 🧐
What’s wrong: The stock price fell 5.6% in after hours and continued to slip as the market opened this morning to around US$104.4. Analysts are seemingly disappointed that instead of raising guidance, the company reaffirmed it.
Regarding China, unfortunately, other than the chart below, there is no additional China data available, as I would have loved to dig further into the small ticket decline.
When zooming out, it is worth noting that compared with Q1 2020, the fiscal quarter right before Covid ruined everything, Starbucks China's revenue with 6,243 stores resulted in $763.8 million, which is only around $20 million more. Although back then, there were around 2,000 stores less to worry about in the market.
As Evercore ISI’s Analyst David Palmer pointed out in the call on Tuesday: “your four-year trend versus pre-COVID levels [is] 24% below where China same-store sales would have been in this last quarter… So, the recovery would be stalling out if we just assumed that low- to mid-single-digit comp for the year.”
Starbucks China’s Chairwoman Belinda Wong replied by saying that the recovery in Q2 is only the beginning: “We see strong rebound in traffic … back to our stores for reconnection and the place experience our customers have long craved.” She expects a strong momentum in Q3.
What to watch: As I mentioned previously, what if Starbucks’ experience isn’t unique anymore, when Chinese consumers want a quick caffeine fix, they get Luckin because it’s cheaper and has more options, and when they want novel experience in “the third place”, they go to M Stand, SeeSaw?
It's like taking a break with your partner and assuming they'll still want you afterward. But the reality is, they've moved on because someone else is a better fit for them without all the baggage. And you somehow believe that breadcrumbing along the way still means they'll choose you.
That someone I’m referring to is Luckin Coffee, which is going strong with its store number potentially exceeding 10,000 in China in the next quarter. The formerly disgraced chain has made a comeback with the new management and it has similar number of self-operated stores (6,310 in Q1) as Starbucks China, plus 3,041 partnership stores. The latter, according to Snow Lake Capital, makes more sense in China’s lower-tier cities.
Like Snow Lake, a Beijing-based hedge fund that helped expose Luckin, I wasn't always bullish on the domestic coffee chain. But these days, I've gradually begun to see it in a different light: it's innovative with flavors, strategic with locations, and even won my mom's heart.
I will keep a close eye on Starbucks China, and let’s take another look in Q3 when it’s *almost* pumpkin spice latte season. 👀
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