Leading investment banks have thrown their support behind Luckin Coffee after it filed a report to the SEC on February 3rd rejecting accusations in a recent short-selling report published by Muddy Waters. In addition, several Chinese media outlets have raised questions about the accuracy of the short-selling report.

Luckin believes that the report is flawed and that the evidence is unsubstantiated. It said the accusations are “unsupported speculations” and “malicious interpretations.” The company intends to adopt measures against false accusations to protect the interests of its shareholders.

Investment banks say there’s no evidence Luckin’s business is fraudulent

Following Luckin’s SEC report, leading Chinese investment banks including China International Capital Corporation (CICC) and Haitong Securities endorsed Luckin, saying the short-seller report had major flaws. The short-seller report, they believe, does not include evidence that proves Luckin’s business is fraudulent. International investment Credit Suisse claimed the accusations are not backed by clear evidence, and it expressed concerns about the impact of the coronavirus on the coffee market.

CICC said the data sample from the survey in the short-seller report is “notably small in terms of the days covered and number of receipts included” and discovered inconsistencies between the data and allegations in the report. Haitong Securities believes the transaction numbers are highly unlikely to be fabricated, as payment platforms like Alipay, WeChat Pay, and UnionPay all track each and every transaction. The three investment banks also believe allegations about inflated advertising expenses are subjective and baseless. Credit Suisse said in its report that Luckin’s response to the short-sell report should ease concerns, but coronavirus remains an issue and may last for a while.

American short sellers don’t understand how Chinese companies operate

Luckin Coffee, Chinese tech-focused website Huxiu believes Luckin attracted the attention of US-based Muddy Waters due to its fast growth rate and high stock prices. As the first-ever unicorn to go public within two years, Luckin has attracted many investors with high hopes. However, Muddy Waters always seeks the opportunity to short-sell companies, taking advantage of the market’s fear of volatile stocks and insufficient knowledge about Luckin.

Muddy Waters primarily targets Chinese public companies. The research firm shorted Chinese sportswear company ANTA Sports in 2019 and Chinese education enterprise TAL Education in 2018.
With the growing number of Chinese companies going public in the US, many short-sellers such as Muddy Waters look to profit from stock price crashes. Short-selling firms constantly look for loopholes in Chinese companies’ operations and financing, and often file damaging reports that drive stocks down. Since the US market often lacks understanding of and confidence in new Chinese companies, they are easily targeted by short-sellers.


What’s missing in the short-selling report

Chinese media had many questions about the anonymous short-sell report. The report claimed to mobilize 92 full-time and 1,418 part-time hires to run the surveillance, collecting about 25,000 receipts and 11,000 or more hours of shop operation video footage. The report accused Luckin inflated its 2019 Q3 sales by 69% and Q4 sales by 88% based on the number of items sold per store per day. Chinese tech blog GPLP01 reported that someone disclosed how the anonymous report organizers hired 100 part-timers online to collect the number of items sold per day in 88 Shanghai-based Luckin shops from December 2 to 3 with daily salary of RMB 100. The accuracy of the data is questionable as the part-timer reveals that the counted number of items sold is not identical with the exact number.


Furthermore, the short-seller report’s non-statistical sampling is not representative enough to guarantee accurate data, as Huxiu’s reporting points out. The possibility that the short-seller report singled out poorly-performing stores can’t be ruled out. A report from Chinese financial media outlet Hexun also questions the sampling methodology’s margin of error and the subjectivity of its conclusions.

Conclusion

The flawed anonymous report hurt Muddy Waters’ shorting plan. According to investment banks and media companies, the allegations are not backed up by evidence, as much of the data is flawed. China’s coffee-drinking market is expanding since the drinking habit is cultivated. Luckin has been stable in its consumption although the average sales price is on the rise.