If you're planning on investing in cannabis stocks, it's important to take the long view. As we've seen this year, most cannabis companies have seen their shares take a hit, though cannabis stocks are hardly alone in that. The real payoff, though, is down the line as more U.S. states gradually open to medical and adult-use cannabis sales, and eventually, federal decriminalization of cannabis happens.
To get to that point, many cannabis companies may have to struggle -- and frankly, looking at their balance sheets, some of them are likely living on borrowed time. So, if one wants to successfully invest in pot companies for the long haul, look for clear survivors, businesses that have healthy balance sheets and know how to make a profit. These companies include Trulieve Cannabis (TCNNF -3.22%) and Innovative Industrial Properties (IIPR 0.28%).
Trulieve: Set up to dominate
Trulieve's shares are down more than 48% so far this year, but the multistate operator (MSO) is well-placed to dominate once cannabis sales grow nationwide. As of the first quarter, it is the largest MSO in the United States in terms of revenue with a reported $318.3 million. It also has the most dispensaries with 168, as of June 7. Its next closest MSO competitor in the United States is Curaleaf, which has 133 dispensaries, and generated $313 million in revenue in the first quarter.
Trulieve has been consistently profitable, with 17 consecutive quarters of positive adjusted earnings before interest, taxation, depreciation, and amortization (EBITDA). It has grown quickly by focusing on three critical markets, where it now has the most retail outlets: Florida, where it has 115 dispensaries, Arizona, where it has 17, and Pennsylvania, where it has 19.
The company's size helps now because it can use certain synergies in equipment, branding, employees, and marketing know-how. What it can't do yet, because of federal law, is transport cannabis products across state lines, but once that changes, it will be even easier for Trulieve to find cost efficiencies.
Unlike most MSOs in the United States, Trulieve has consistently shown positive net income until the fourth quarter of 2021, when costs associated with the purchase of Harvest Health & Recreation were actualized. It's not a big reach to see Trulieve return to earnings profitability soon. In its guidance, the company said it expects annual revenue to be between $1.3 billion and $1.4 billion, up from $938.4 million in revenue in 2021. It also said it expects adjusted EBITDA between $450 million to $500 million, up from $384.6 million in adjusted EBITDA in 2021.
Innovative Industrial Properties wins regardless
Innovative Industrial Properties is a real estate investment trust (REIT) that specializes in buying cannabis companies' properties and renting them back to the same companies, using triple-net leases that put most of the upkeep costs on the properties on the tenants. Marijuana companies do the leasebacks because it gives them cash to operate with -- especially because federal laws regarding cannabis make it difficult to get financing elsewhere.
It's also a pretty good deal for Innovative, because, in return, it gets stable, long-term tenants with an average lease term remaining of 16.4 years, as of May, meaning a predictable cash flow. The growth expected for cannabis means more companies needing to grow facilities and retail locations, and that equals plenty of potential new tenants for Innovative. As of May 16, Innovative owned 110 properties, up from just six properties five years ago.
Innovative's shares have dropped more than 55% this year. That means anyone interested in investing in the company can buy at a discount, and Innovative's dividend yield is now 5.9%. This is great news as long as Innovative's financials are sturdy -- and they are. The company's adjusted funds from operations (AFFO) payout ratio is 85.7%, well within the safety range for a REIT. Since it began offering a dividend in 2017, the company has raised its quarterly dividend every year, for an overall increase of 1,007%.
In the first quarter, the company reported AFFO of $53.8 million, up 40% year over year, and AFFO per share of $2.04, up from $1.47 in the same quarter a year ago. It also hiked its dividend by 17% to $1.75 per quarterly share. It also reported revenue of $64.5 million, up 50% year-over-year, and net income of $34.7 million, up from $25.6 million in the same period a year ago.
Innovative pioneered the space of cannabis leasebacks and although other competitors are coming along, its first-mover status gives it a pretty good-sized financial moat.
Cutting down on the risk
While there's plenty of risk for cannabis stocks, the long-term growth opportunity for the industry is well-known. An estimate by New Frontier Data puts legal cannabis sales at $20.1 billion in 2020, growing to a $40.4 billion market by 2025. Trulieve and Innovative Industrial Properties offer chances to catch a ride on the rise of cannabis without some of the risks that other companies present.
Of the two, Trulieve has more upside, but also more short-term risk because it may struggle to find the synergies to get back to being profitable. Once it does, the company should benefit from brand recognition and economies of scale the larger it gets.
Innovative Industrial Properties appears to be the safer choice for the next few years. But once banks and other traditional lenders are freed of the constraints toward lending to cannabis companies, that might dry up potential new clients, though that's unlikely to happen for some time. There's also the chance that companies will still see leasebacks as the best way to raise capital.
