Investing in marijuana stocks can be quite tricky. As cannabis is illegal at the federal level in the U.S., licensed producers don’t have access to traditional sources of finance such as debt. Moreover, the majority of these stocks are traded on the OTC (over-the-counter) market, making them a risky proposition for the average investor.
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But you can gain exposure to the marijuana sector by investing in Innovative Industrial Properties (NYSE:IIPR), a real estate investment trust. Similar to other REITs, IIPR offers shareholders a tasty yield of 7.6%, making it attractive to income-seeking investors.
I am bullish on IIPR stock, given the recent wave of marijuana legalization in the U.S., which should act as a tailwind for the REIT. Additionally, the possibility of multiple interest rate cuts in 2024 should help it strengthen its balance sheet, and its low valuation provides shareholders with a margin of safety, making IIPR a top investment choice right now.
An Overview of Innovative Industrial Properties
Innovative Industrial Properties, also known as IIP, is a REIT that focuses on acquiring, owning, and managing specialized properties leased to licensed cannabis producers. Founded in 2016, IIP currently trades at a market cap of $2.7 billion and is the first publicly-traded company on the NYSE to provide real estate capital to the cannabis sector.
Like other REITs, IIP combines the capital of several investors to acquire income-generating real estate assets. It must also distribute 90% of its taxable income to shareholders via dividends.
Over the years, IIP has focused on specialized industrial real estate assets offered to tenants via a sale-leaseback model. Typically, in a sale-leaseback model, the seller initially owns the property. Once the property is sold, it’s leased back to the first owner for a specified number of years.
This operating model is an attractive alternative to licensed cannabis producers with limited access to legacy financing alternatives. Cannabis producers in the U.S. require mission-critical facilities with specialized buildouts to optimize yields and conform to licensing and other regulatory requirements. So, IIP helps cannabis producers build capacity and focus on core operations while reducing capital expenditures related to property.
An Expanding Addressable Market
IIP is banking on the robust growth of the cannabis sector in the U.S. As of December 2023, 39 states and Washington D.C. have legalized cannabis for medical use, while recreational marijuana is legalized in 21 states and Washington D.C.
According to a BDSA report, cannabis sales in the world’s largest economy are forecast to increase from $26 billion in 2022 to $44.5 billion in 2027, indicating an annual growth rate of 11%.
IIP works closely with its cannabis-focused tenants and is a critical player in the sector’s consistent growth, as it provides them with access to non-dilutive capital.
How Did IIP Perform in Q3 2023?
IIP ended Q3 with 108 properties, up from just 11 in 2018 and 65 in 2020. These properties have a weighted average lease term of 14.9 years, providing IIP with a predictable income stream. With a presence in 19 U.S. states, IIP has invested $2.4 billion to build a portfolio of cash-generating properties.
IIP reported sales of $77.8 million in Q3 2023, an increase of 10% year-over-year. Its adjusted funds from operations, or AFFO, stood at $64.8 million or $2.29 per share, rising by 7.5% compared to the year-ago period.
The REIT paid shareholders a quarterly dividend of $1.80 per share, indicating a payout ratio of less than 80%, which is not too high for this sector. Moreover, these payouts have risen by 51% annually in the last six years, which is exceptional.
A Volatile Macro Environment
IIP has to navigate an uncertain and volatile macro environment due to interest rate hikes, elevated inflation, and lower consumer spending. Until 2019, IIP collected 100% of its rent from tenants, and this figure has fallen to 97% in the last two years as the REIT emphasized that its smaller tenants were facing difficulties.
These headwinds and slowing growth rates have dragged IIPR stock lower by 66% from all-time highs. However, investors shouldn’t be too worried, given that IIPR continues to grow its cash flows and earnings, allowing it to maintain its high dividend payout and interest payments.
With just $302 million of total balance sheet debt and $117 million in cash, IIP’s widening AFFO should allow it to pay investors a dividend, improve its financials, and reinvest in growth.
Is IIPR Stock a Buy, According to Analysts?
Out of the five analysts covering IIPR stock, one recommends a Buy, four recommend a Hold, and none recommend a Sell. The average IIPR stock price target is $107.25, 12.2% above the current price.
Priced at 8.2x forward funds from operations, IIPR stock is not too expensive, given its juicy dividend yield and potential for long-term growth.
The Final Takeaway
IIPR is a beaten-down dividend stock that offers investors a very attractive yield. In addition to a consistent dividend stream, investors can benefit from capital gains when market sentiment improves. Moreover, the potential for cannabis legalization at the federal level in the U.S. may act as a key driver for IIPR stock in the upcoming decade.
