IIPR - Innovative Industrial Properties' Resilience Is Highly Commendable After The Highs And Lows

2023-12-20 09:00:00 ET

Summary

• We have been very wrong about Innovative Industrial Properties indeed, with our previous bearish sentiments preventing us from enjoying the impressive rally observed since the August 2023 bottom.
• The REIT has consistently delivered excellent top and bottom lines, with its tenants similarly reporting improved profitability, thanks to their drastic cost optimizations.
• Cannabis is also expected to be rescheduled in the near-to-intermediate term, likely to accelerate adult recreational and medicinal uses in multiple states.
• Most importantly, IIPR has successfully navigated COVID-19's extreme highs and lows, while emerging stronger with a resilient balance sheet, despite being a cannabis REIT.
• Based on IIPR's rapid break out from the 50/ 100/ 200 moving averages, the stock may sustain its recent recovery, with $90 likely to provide an excellent support level.

We previously covered Innovative Industrial Properties ( IIPR ) in September 2023, discussing its mixed prospects attributed to its tenants' cash flow issues and tightened capital funding as the macroeconomic outlook remained uncertain.

Combined with the uncertain reclassification of cannabis and the stock's lower lows/ lower highs, we had preferred to rate the stock as a Hold then.

In this article, we shall discuss why we are finally rerating the IIPR stock as a Buy, thanks to the promising development surrounding its tenants' profitability, the expanding legalization of cannabis on state level, and its improving balance sheet.

Most importantly, the REIT's dividends appear to be safe, further demonstrated by the recent hike, implying its robust income investment thesis. Combined with its established support level, we believe that the stock currently offers an attractive risk/ reward ratio for income oriented investors.

The IIPR Management Team Has Proven Itself To Be Highly Competent Indeed

Despite our previous bearish stance, IIPR has reported excellent FQ3'23 rental revenues of $77.29M ( +1.8% QoQ / +9.8% YoY ) and AFFO per share of $2.09 (+0.9% QoQ/ +6% YoY).

The expansion in its AFFO per share is excellent indeed, despite the dilutive nature of REITs in general, with its share count still somewhat stable at 28.27M (+0.01M QoQ/ +0.11 YoY).

This implies that the IIPR management has been highly prudent in its dilutive capital raises thus far, with its debt reliance showing a similar restraint at $300.53M (inline QoQ/ YoY).

Combined with the notable improvements in its balance sheet, with a cash/ equivalents balance of $117.03M (+26.3% QoQ/ +52.1% YoY) and a Real Estate Asset value of $2.16B (inline QoQ/ +5.3% YoY) by the latest quarter, it is apparent that the REIT has exceeded our expectations.

This is an impressive feat indeed, despite IIPR serving a speculative market during a time of elevated interest rates and impacted sales from black market cannabis operators.

Most importantly, the REIT's rental collection remains excellent at 97% by the latest quarter ( inline QoQ / YoY ), with the rental escalators and long weighted- average remaining lease term of approximately 14.9 years naturally contributing to its consistently growing top/ bottom lines.

On the one hand, we must still highlight that some of IIPR's tenants are paying their rentals from the applied security deposits of $2.2B (+46.6% QoQ/ -15.3% YoY) by the latest quarter, though this comprises a relatively small portion of its overall rental revenues at 2.8% (+0.9 points QoQ/ -0.8 YoY).

IIPR Top Tenants

On the other hand, the dark clouds may also be lifting for the US cannabis market as a whole, with IIPR reporting ten of its top tenants being profitable on an adj EBITDA basis by the latest quarter.

For example, four of its top tenants, Ascend Wellness Holdings ( OTCQX:AAWH ), Green Thumb Industries Inc. ( OTCQX:GTBIF ), Curaleaf Holdings ( OTCPK:CURLF ), and Trulieve Cannabis ( OTCQX:TCNNF ) have been able to report positive net incomes and/ or Free Cash Flows by the latest quarter.

Much of their tailwinds are attributed to the MSOs' aggressive cost optimizations and moderated productions, while being lifted by the expanded state level cannabis legalizations for recreational uses to 32 states and medical uses to 45 states as of November 30, 2023.

This is compared to 22 and 16 states as of November 2022 , respectively.

In addition, there is an increased likelihood of the DEA rescheduling the cannabis from Schedule I to Schedule III of the Controlled Substances Act, as recommended by the President in October 2022 and the Secretary of Health and Human Services in August 2023.

IIPR and Cannabis Related stocks and ETFs

As a result of these promising developments, we can also understand why multiple cannabis related stocks/ ETFs have rallied since late August 2023, with IIPR similarly lifted by +34.5% since then.

Combined with Powell's dovish stance in the FOMC meeting and the increased likelihood of a pivot in 2024, we believe the lifted market sentiments may contribute to the increasingly optimistic sentiments surrounding cannabis related stocks/ ETFs.

So, Is IIPR Stock A Buy , Sell, or Hold?

IIPR Valuations

Perhaps this is why the IIPR stock's FWD Price/ AFFO valuation has risen to 10.93x, compared to its 1Y mean of 9.33x though still far away from the 3Y pre-pandemic mean of 21.77x.

The Consensus Forward Estimates

While we have failed to ride the recent recovery, we believe that it is better to be late than never in rating the IIPR stock as a Buy, especially given the promising recent developments.

If anything, its dividends likely remain safe as well, attributed to the optimistic consensus forward estimates, with the REIT expected to generate a robust top and bottom line CAGR of +5.6% and +2.9% through FY2025.

Based on the Seeking Alpha Quant system, IIPR is more than capable to service its interest obligations with a TTM Interest Coverage ratio of 9.63x and dividends with a FWD AFFO Payout Ratio of 79.66%, compared to the historical AFFO Payout Ratio of 80.72%.

Most importantly, long-term shareholders may enjoy a more than decent dividend growth at a CAGR of +2.3% through FY2025, with the REIT also raising its quarterly dividends by +1.1% to $1.82, implying an excellent forward yield of 7.4% based on current stock prices.

IIPR 5Y Stock Price

Based on IIPR's rapid break out from the 50/ 100/ 200 days moving averages thus far, we also believe that the stock may be able to sustain its recent recovery, with $90 likely to provide an excellent support level.

Lastly, we have to raise our hats at the highly competent management team, who have successfully navigated the extreme highs and lows of COVID-19, while emerging stronger with a resilient balance sheet, despite being a cannabis REIT.

We are impressed indeed.

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