Follow The Money – July 15, 2025

Political campaign promises unfortunately too often turn out to be pipe dreams. US real GDP was down 0.5% in the first quarter, and too many of the “new jobs” continue to be government provided and/or part time. Sales trends within the restaurant industry, historically better as a leading indicator than the conclusions of hundreds of PHDs at the Federal Reserve similarly provide no tangible sign of better discretionary spending trends. Cost cutting efforts at DOGE uncovered some eye-catching waste, but hope for trillions of annual savings has morphed into a small fraction of that and Elon Musk’s efforts turn out to be a footnote.to fiscal history. After a short-lived surplus in April, the $316B deficit in May was the third largest monthly shortfall in history. Even after a rare surplus of $24B in June (aided by tariffs which are a day to day moving target), the deficit for FY 9/30/25 will still exceed FY ’24 and grow from there. Interest on the debt was $92B in May, on route to $1.2T for FY ’25 and refinancing will take it up by $200-250B next year. All of this is very important because the continuously growing debt (relative to the size of the economy) reduces the prospect of better productivity and growth.

In restaurant land it becomes increasingly clear that “re-invention” is necessary for most publicly held restaurant chains. Part and parcel of that effort is better utilization of “over-sized” physical facilities. With so many meals purchased away from home but consumed outside the restaurant, the best performing chains, among them Wingstop, CAVA, Chipotle, Dutch Bros and Domino’s have small footprints. While best of breed, Darden and Texas Roadhouse, continue to perform well, only Chili’s among 5,000 square foot (and larger) operators has clearly distinguished themselves. More typical are the “work in progress” situations at Dave & Buster’s, Cracker Barrel, Red Robin, Applebee’s, IHOP, Denny’s and Outback Steakhouse. “Hanging On” without noteworthy momentum, are chains such as Cheesecake Factory, El Pollo Loco, First Watch, Kura Sushi, Potbelly and Shake Shack. If these generalizations, seem a bit “harsh”, they are based largely on traffic trends, still mostly flat to negative in the last two categories. Based on the general economic trends we describe above, differentiation of your food service “experience” continues to be the challenge, whether serving a $5 drink by way of a double drive thru, or a full-service seated meal. It is interesting that Darden, which we can all agree sets the “full service” standard, has invested far more time and effort into their off-premise activities than ex-CEO, Gene Lee, suggested was justifiable just a few years ago. Even Darden has to bow to the public’s desire for increased convenience.

China based Luckin Coffee (LKNCY) is arriving in the USA. Founded in 2017, Luckin came public in the US during 2019, ran to almost $40 per share, then collapsed to low single digits in 2020 when the reported results were falsified. We, sadly in retrospect, stopped following what we thought was a lost cause, but under new management Luckin has grown at a truly amazing rate. This technology driven chain of almost entirely self service, aggressively promoted low priced coffee shops has been expanded by thousands of units/year, numbering a cool 24,097 outlets @3/31/25. Of these, 15,598 were self-operated, 8,499 by Partners. Space here does not allow for a full discussion of the fundamentals but the very rapid growth continues. 1,700 locations were opened in Q1’25, bringing the TTM expansion to 5,500 units. The first two USA based locations opened days ago, both in New York City. Our recent visits to both revealed a fairly active pace of business, with “any drink for $1.99” (ordered off the app). Aggressive pricing is clearly Luckin’s answer to providing every day value, and perhaps they can in fact turn into the “low cost provider” while generating an impressive return on corporate capital. As reported: Luckin’s company operated same store sales turned up 8.1% in Q1’25, against (20.3%) in Q1’24, (20.9%) in Q2’24, recovering to (13.1%) and (3.4%) in Q4’24. Average monthly transactions in Q1’25 for company operated stores also improved, +23.9% in Q1’25. It should be noted that these small stores, though store level EBITDA rose 10.1 points (1010 bp) to 17.1% in Q1’25, only annualize at about $250k/yr./store. At the same time, the average capex per store only seems to be $40-50k.  Even at that modest level of sales, with 24,000 locations system-wide, $72M of after-tax earnings was generated in Q1’25, along with $24M of positive cash flow (after capex). Impressive also is the  debt free balance sheet, accompanied by a cash hoard approaching one billion dollars of cash and other short-term investments. LKNCY has already demonstrated company store EBITDA in the low 20s during calendar ’21 through ’23, and  bounced back dramatically in Q1’25 from ‘calendar ’24 when cannibalization and the predictable inefficiencies of opening 8,000 stores system-wide on a base of 10,000 likely took their toll. Most important, free cash flow after capex of $200M was generated in ’24 in spite of the lower operating margins. Still growing very fast but on a bigger base, margins could continue to improve and the cash generation accelerate as well.  We make no judgement here (yet) relative to long term prospects, especially in the U.S.A. where the first two stores are small but full service, in contrast to the self service approach in almost all the Chinese locations. However,  Luckin did not come to the USA to build two stores, and they have more than sufficient resources to attract attention. Whatever their success here, however, they have proven themselves in China where they will  likely grow much larger. From a stock valuation standpoint,  LKNCY sells at about 15x trailing twelve month EBITDA. Their US high growth counterparts such as Dutch Bros, CAVA, Wingstop, etc. sell at much, much higher valuations, and the Chinese “discount” could prove to be unwarranted. We know of no other US based analyst that follows LKNCY but we will be watching closely, along (no doubt) with management at operators including Starbucks, Dutch Bros, Dunkin Donuts, Tim Horton’s and others.

Roger Lipton