Innovative Industrial Properties (NYSE:IIPR) carved out for itself a unique opportunity in the marijuana industry: Loaning pot companies money in exchange for taking over management of their real estate through sale-leaseback arrangements.
The real estate investment trust (REIT) has done for cannabis what similarly situated companies have done for residential housing, office space, retail, and even healthcare. Yet Innovative Industrial’s service was even more vital to the industry because banks loaning money to pot stocks is currently illegal.
Yet it’s not all blue skies and, um, green grass for the REIT. Here’s why there’s actually a bearish case for Innovative Industrial Properties alongside the bull thesis.
Image source: Getty Images.
Bear case: Competition could be coming
Keith Speights: Let me first acknowledge that I’m a bull in bear’s clothing when it comes to Innovative Industrial Properties. I personally own the stock and have enjoyed great returns from it. I still view it as a great pick to buy. However, I do think there is a solid bear case to be made against IIP.
The biggest threat for the cannabis REIT is that competition could be coming in a major way. Sure, IIP has rivals already. But the potential of federal cannabis reform could open the door to much more intense competition.
One way this could happen is through changes to federal banking laws. Currently, banks are leery of providing services to cannabis operators because of the restrictive regulations. This makes IIP’s real estate capital an especially attractive alternative for cannabis companies needing capital. But if federal laws are revised, we could see many cannabis operators turn to banks instead of IIP.
It’s also possible that federal decriminalization of marijuana could spur more REITs to enter the market. I suspect that some players that have been reluctant to jump into the fast-growing cannabis industry with marijuana illegal at the federal level could change their tune if the laws are changed.
IIP stock trades at nearly 40 times expected earnings. That’s a premium valuation that assumes continued strong growth. But if competition heats up, the company’s growth could be in jeopardy — and the high-flying stock could lose its momentum.
Image source: Getty Images.
Bull case: Pot stocks will still need access to more money
Rich Duprey: I don’t disagree with my colleague Keith that a solid bear case can be made for marijuana REIT Industrial Innovative Properties, and I agree that of all the risks it faces, federal legalization of cannabis could be the biggest.Â
Yet since we’re pretty much on the same page with both the bull and bear arguments, let’s dig a little deeper into the bearish bugaboo and why investors needn’t be too concerned with legalization or decriminalization.
As my friend notes, because U.S. banks are currently prohibited from loaning money to marijuana stocks because of pot’s classification as a controlled dangerous substance, lifting that stigma could see the spigot of cash from traditional financial institutions turned wide open. Since cannabis companies turn to Innovative Industrial for the funds needed to finance their growth, a wave of rivals throwing money at them could dent the REIT’s growth.
But it won’t. The example I like to use is the casino industry, which has full access to financing from banks and other lending institutions, yet still turns to gaming-focused REITs like Vici Properties, Gaming & Leisure Properties, and MGM Growth Properties for money.
Why? Because casinos, like marijuana growers, aren’t in the business of being real estate moguls; instead, they want to run gambling houses. In the same way, pot stocks don’t want to be in the business of owning and operating the real estate associated with their cultivation and processing facilities, but would prefer keeping their attention on what they know best, producing their branded strains of marijuana.
As the first and foremost REIT targeting marijuana, Innovative Industrial has established relationships with many of the largest multistate operators (MSOs) in the industry, and they will continue to return for more deals in the future.Â
Moreover, smaller cannabis players won’t be able to get all of the money they need from traditional lenders, and they will turn to the REIT for their financial needs beyond what a bank can give them.
Innovative Industrial owns 76 properties across 19 states, equal to some 7.5 million square feet, 100% of which is leased and which has an average lease term of 16.7 years. So even if legalization potentially would cause the REIT’s business to become unwound, it would still have many years of revenue streams ahead of it.
This article represents the opinion of the writer, who may disagree with the âofficialâ recommendation position of a Motley Fool premium advisory service. Weâre motley! Questioning an investing thesis — even one of our own — helps us all think critically about investing and make decisions that help us become smarter, happier, and richer.
Be the first to comment