Innovative Industrial Properties: Short-Term Price Loss, Long-Term Potential
Summary
- Despite a huge price loss in the past 7 months, IIPR has generated extraordinarily high returns for its shareholders over the past five years.
- There is a huge shortage of supplies of industrial properties for regulated medical-use of cannabis, and IIPR faces low competition there.
- IIPR has competitive advantages in the form of higher capacity, better access to financing, and longer existing lease contracts.
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Legalized cannabis production and consumption is a growth market. However, numerous legal constraints & federal prohibitions limit the access to traditional banking for the cultivators and distributors of marijuana. Cannabis real estate investment trusts (REITs) have been benefiting from all these and have become the alternative source of capital. As the first publicly traded cannabis REIT on the New York Stock Exchange (NYSE), Innovative Industrial Properties, Inc. (NYSE:IIPR), is uniquely positioned to access public capital markets, and generate enormous growth for its investors.
Listed exactly 5 years back, Innovative Industrial Properties has recorded a remarkable price growth of 534 percent during this period. The stock also generated an average yield of almost 3 percent. Quarterly dividend grew from $0.15 to $1.75. Undoubtedly, IIPR is a lucrative stock for growth seeking investors. However, since the past 7 months, the stock has been in a free fall. From $288 on November 16th, 2021, the price has dropped to $108 at present. There is a need to dig deeper into the growth prospects of this sector and this stock before taking a bullish view.
Innovative Industrial Properties
Innovative Industrial Properties is engaged in the acquisition, ownership, and management of specialized industrial properties leased to state-licensed operators for their regulated medical-use cannabis facilities. The property portfolio of this self-advised Maryland based REIT is spread across the United States. Almost 35 percent of this REIT is owned by the three big investment management firms - BlackRock Inc., Vanguard Group Inc., and State Street Corporation.
It conducts its business through a traditional umbrella partnership REIT (UPREIT) structure, in which properties are owned by Operating Partnership, directly or through subsidiaries. IIPR has carried on various acquisitions of regulated cannabis facilities in states that permit licensed cannabis operations. At present, 38 states and Washington, D.C. have legalized cannabis for medical-use, and 19 states have legalized cannabis for adult-use.
Capacity Building Through Acquisition
Innovative Industrial Properties is on an acquisition spree. The pace of acquisitions entering 2022 remained rather strong as well, with the company purchased six properties this year. It acquired a property from Texas Original for $12 million. Texas Original is expected to complete construction of the 85 thousand square feet industrial and hybrid greenhouse facility, for which IIPR will provide reimbursement of up to $10 million. It also acquired a Maryland property for $25 million.
In another deal, it acquired a property comprising 104 thousand square feet of industrial space in Taunton, Massachusetts, at a price of $40 million. At present, IIPR possesses 8.2 million square feet of rentable space in 110 individual properties. In various other types of REITs (such as healthcare, office, retail, etc.) capacity building doesn’t necessarily lead to higher revenue and funds from operations (FFO). However, as there is a huge demand for industrial property spaces from state-licensed operators for their regulated medical-use cannabis, a higher capacity will surely be beneficial for this REIT.
Growth Potential
Legalized marijuana production is set to grow 25% annually this decade. “States have authorized numerous medical conditions as qualifying conditions for treatment with medical-use cannabis……treatment for cancer, HIV/AIDS, pain, nausea, seizures, muscle spasms, multiple sclerosis, post-traumatic stress disorder (PTSD), migraines, arthritis, Parkinson's disease, Alzheimer's, lupus, spinal cord injuries and terminal illness”.
According to Marijuana Business Daily, U.S. regulated cannabis sales are expected to grow to over $45.9 billion by 2025. Arcview Market Research and BDS Analytics projected that by 2025, all U.S. states will authorize cannabis for medical use and nearly 50% of U.S. states will authorize cannabis for adult-use. IIPR being the oldest listed publicly traded cannabis REIT, stands to gain certain competitive advantages in this segment, such as higher capacity, better access to financing, and longer existing lease contracts.
IIPR acts as a source of capital to these state-licensed operators by acquiring and leasing back their real estate across all product types: cultivation, processing, distribution, and retail. These transactions allow for the opportunity to redeploy the proceeds into core operations, yielding a higher return than they would otherwise get from owning real estate.
There are obvious risks in any business that is related to cannabis. These types of specialty REITs are also very new to the market. So, the long-term prospect is unknown. There is an obvious chance of a downward movement in the leasing rates in case of an oversupply of properties for state-licensed operators of cannabis. Increased regulation and better access to capital may also lead to the operators developing their own facilities.
However, all these, even if they happen, will take time. The remaining players in this field are relatively new and yet to put up any strong competition to IIPR. NewLake Capital Partners, Inc. (OTCQX:NLCP), AFC Gamma, Inc. (AFCG), and Chicago Atlantic Real Estate Finance, Inc. (REFI) have been listed less than a year back. Freehold Properties, Inc. (FHP) is pursuing its initial public offering (IPO). Power REIT (PW), the only established REIT in Cannabis facilities, has recently ventured into this segment. Thus, in my view, Innovative Industrial Properties is not going to face many hurdles from its competitors.
Investment Thesis
In the current economic scenario, industrial and specialized REITs are much safer than any other REITs, because they are less impacted by recession and the tenants usually sign long-term lease contracts. Among the industrialized and specialized REITs, Cannabis REITs are by far the best-performing over the past 5 years. Listed REITs like IIPR and PW generated returns in excess of 200 percent since they started operating in this segment. The short-term price loss has made a course correction in the valuation of Innovative Industrial Properties. With such huge prospects and exceptionally high return over the past five years, this cannabis REIT will generate a strong return for its shareholders.
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Dr Dutta is a retired veterinary surgeon. He has over 40 years experience in the industry. Dr Maiya is a well-known oncologist who has 30 years in the medical field, including as Medical Director of various healthcare institutions. Both doctors are also avid private investors. They are assisted by a number of finance professionals in developing this service.
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