Innovative Industrial Properties (NYSE:IIPR) keeps proving the bears wrong, consistently demonstrating impressive top and bottom-line growth in its results. The REIT specializing in industrial properties used for cannabis cultivation has faced substantial criticism from investors in recent years, particularly concerning the sustainability of its dividend. Yet, its performance has proven resilient. While some risks are involved regarding the company’s tenant base, payout coverage remains robust. Thus, I am bullish on the stock.
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Is IIPR’s 8.3% Dividend Yield Safe?
At the heart of Innovative Industrial Properties’ investment case lies a key question: is its 8.3% dividend yield a safe bet? This hefty yield stems from investors continuously selling off the stock over the past two years despite the company consistently posting solid results and boosting its dividend payouts.
Notably, the stock is currently trading at around $87, reflecting a significant 70% dip from its peak of around $288 in November 2021. However, since November 2021, the company has hiked its dividend twice, providing investors with tangible reassurance about its financial resilience.
The bears may present a counterargument based on IIPR’s deviation from its regular September dividend hike, suggesting a potential inadequacy in payout coverage. However, I disagree with this view. While IIPR did miss its customary September increase, it appears to be a prudent move by management in a rising-rates environment.
It’s important to note that the stock already offers a substantial yield. Therefore, the more logical course would be to focus on deleveraging or engaging in accretive acquisitions. Moreover, despite skipping this hike, IIPR maintains its impressive track record of dividend growth, spanning six consecutive years. The current annualized dividend rate of $7.20 tops last year’s dividends paid per share of $7.10, exhibiting the company’s commitment to sustained dividend increases.
Meanwhile, the company continues to deliver robust results, which should instill confidence among investors regarding the stability of the dividend. Notably, in the third quarter, IIPR posted an impressive 10% increase in revenues, which reached a new record of $77.8 million. This upswing can be attributed to increased tenant reimbursements compared to the previous period, heightened activity in acquiring and leasing new properties from prior periods, and contractual rental escalations at specific properties.
Of interest is the fact that this growth surpassed the 8% revenue increase seen in the last quarter, underscoring the enduring positive momentum of the company’s purpose-built industrial cannabis properties.
However, what truly distinguishes the company is its exceptional capacity to grow its AFFO (adjusted funds from operations, a cash-flow metric used by REITs) per share. At a time when many REITs are grappling with declining FFO/AFFO due to rising interest expenses hampering profitability, IIPR stands out by consistently improving its bottom-line metrics.
Specifically, IIPR achieved an impressive 7.5% year-over-year growth rate in AFFO per share, reaching $2.29. Noteworthy is the decrease in IIPR’s interest expenses from $4.5 million to $4.3 million, with management opting to allocate excess funds towards deleveraging rather than increasing dividends, as previously mentioned.
Back to the assessment of dividend coverage, following IIPR’s Q3 results, Wall Street anticipates that AFFO/share for Fiscal 2023 will reach $8.20. This suggests a year-over-year growth rate of about 5.5%, with a forward payout ratio hovering around 88% based on the current annualized dividend rate of $7.20.
While the payout ratio may appear slightly elevated, prompting concerns among investors, it remains well within the company’s historical range of 82% to 90% observed between 2017 and the present. As long as the company continues to demonstrate bottom-line growth and effectively covers its underlying payouts, these figures should not be a major cause for concern.
Tenant Issues Persist, but Rent Collection Remains Robust
While IIPR continues to navigate macroeconomic headwinds with commendable resilience, an aspect deserving of investor scrutiny emerges — the REIT’s encounters with tenant issues. Within the elaborate landscape of the cannabis industry, producers (IIPR’s tenants) face significant challenges when it comes to achieving profitability.
Why, you might wonder? Cannabis production, much like other agricultural commodities, operates within a realm of razor-thin margins. This is primarily attributed to the lack of industry entry barriers. It’s a business that essentially “anyone” can start.
Some producers endeavor to carve out uniqueness through branding, potentially bolstering sales. Yet, securing premium prices in the relentless competition remains an uphill battle. Moreover, the legitimate sector contends fiercely with illicit market players, further constricting profitability. Consequently, a subset of IIPR’s tenants has a history of grappling with rent obligations. This is a risk that even IIPR bulls should keep in mind.
Nevertheless, the company has effectively recovered substantial missed rental payments and replaced bankrupt tenants with new ones. Simultaneously, overall rental collection remains strong, which is evident in Q3’s solid performance and IIPR’s substantial 97% collection rate for the period.
Is IIPR Stock a Buy, According to Analysts?
Looking at Wall Street’s sentiment on the stock, Innovative Industrial Properties features a Hold consensus rating based on one Buy and four Holds assigned in the past three months. At $107.25, the average Innovative Industrial Properties stock forecast implies 22.9% upside potential.
The Takeaway
Innovative Industrial Properties has proven its resilience in the face of market skepticism, showcasing robust financial performance and consistent dividend growth. Despite concerns about its tenant base in the challenging cannabis industry, IIPR has navigated these headwinds adeptly. Moreover, the 8.3% dividend yield, while substantial, appears well-supported by the company’s AFFO.
Investors should monitor tenant issues, but the company’s ability to recover missed payments and maintain a robust rental collection rate in recent quarters should instill confidence. Consequently, my outlook on the stock remains bullish.
