We now know how Luckin Coffee faked sales

Luckin Coffee Inc. (NASDAQ: LK) was briefly the darling of Wall Street — that is until the China-based coffee chain admitted to the world it has been faking sales.

Background: what happened

Luckin Coffee admitted on April 2 part of its sales were fraudulent and the Nasdaq-listed stock plummeted. Shares started trading near $20 in May 2019 and rose above the $50 per share mark as investors were impressed with the coffee chain’s rapid growth. In fact, Luckin Coffee was outpacing Starbucks Corp. (NASDAQ: SBUX) and showing sales growth which had many to believe it will defy odds and emerge the superior coffee brand in China.

Little was known how Luckin Coffee was able to operate a scheme for so long — until now. The Wall Street Journal reviewed internal documents and public records and was able to conclude what happened behind the scenes.

The scheme

Luckin Coffee sold vouchers good for tens of millions of cups of coffee to entities that had a relationship with the company’s chairman and major shareholder Charles Lu. One example includes Qingdao Zhixuan Business Consulting Co. that bought up to $134,000 worth of coffee vouchers in one order. The company made more than 100 similar purchases throughout the back half of 2019, according to WSJ.

Qingdao is not only linked to a relative of Lu, but an executive at a company Lu previously founded, and to a Luckin Coffee executive. 

Individual Luckin Coffee employees were also part of the scheme which was traces back to before the company’s May 2019 IPO. Employees used individual accounts of customers to buy vouchers for multiple cups of coffee. The employees fabricated the equivalent of $28 million to $42 million in sales.

The documents also pointed to a made-up employee called Ms. Liang who processed more than $140 million of payments for raw materials and human resources services, according to WSJ. Luckin Coffee’s CEO Qian Zhiya personally approved the payments, often checked in on the status, and ensured the payments aren’t seen by the chief financial officer.

What’s next

Lu commented in a public statement his “style may have been too aggressive and the company may have grown too fast, which has led to many problems. But I by no means set out to deceive investors.”

Unfortunately, investors worldwide lost billions of dollars as the stock was once worth more than $12 billion. Now it’s market share is hovering around half a billion dollars.

The U.S. Securities and Exchange Commission is investigating Luckin Coffee and continues to warn investors that Chinese and other emerging market-based companies come with a higher degree of risk, according to WSJ.

Luckin Coffee was notified in mid-May that shares will be delisted from the Nasdaq Exchange, pending results of a hearing. It remains unkown of the COVID-19 pandemic will indefinitly delay said hearing.