The stock market hasn't performed well over the past year, and cannabis stocks have been in the crosshairs for bearish investors. The pain has been widespread across the marijuana industry, with the ETFMG Alternative Harvest ETF (MJ 2.81%) having lost more than half its value just since January 2022 and almost 90% since its peak in 2018.
Marijuana stock investors have held out hope that legalization efforts at the federal level in the U.S. could open up a huge new market and bring relief for suppliers that are dealing with gluts of cannabis products. Yet the rapidly changing conditions in the financial markets have had their own implications for those in the cannabis industry, and the latest news from marijuana-focused real estate investment trust Innovative Industrial Properties (IIPR 0.53%) is raising new concerns that weak business conditions could start to have a domino effect in financing as well.
Innovative Industrial stock takes a hit
Shares of Innovative Industrial Properties fell 15% Thursday morning just after the beginning of the regular trading session. The cannabis-focused REIT made an announcement about its operating, investment, and capital markets activity for the fourth quarter and the full 2022 year, and it raised concerns among shareholders about how the business is faring.
As of the end of 2022, Innovative Industrial owned 110 properties across 19 states. The company's portfolio boasted 8.7 million square feet of space, including 1.9 million square feet currently under development or redevelopment. Among the 108 properties in its operating portfolio, 100% are leased, with an average lease length of more than 15 years.
Innovative Industrial has done its best to avoid major concentrations in its client base in an effort to diversify its exposure. No single tenant makes up more than 14% of its portfolio, and the company has limited its exposure to any single state to 16% or less. The vast majority of its tenants are multistate operators, and the marijuana REIT primarily caters to businesses looking to cultivate or process cannabis at their locations.
However, one concern that has arisen as economic conditions have deteriorated is whether Innovative Industrial's clients would be able to keep up their rent payments. The REIT said that it has collected 92% of expected rent for the month of January, and it collected 94% for the three months from October to December 2022. Innovative Industrial's figures for 2022 as a whole came to 97%.
Despite that relatively good news, Innovative Industrial announced several defaults in its release. Three tenants were in default on obligations to pay rent at properties in Pennsylvania, Michigan, and California as of January 18. The REIT has also renegotiated leases to allow tenants to defer base rent payments on a limited basis in exchange for extended lease terms or additional default provisions.
Moreover, Innovative Industrial's challenges with operator Kings Garden have continued. Kings Garden is paying rent for the four California properties it continues to occupy, and Innovative Industrial recovered substantial payments above and beyond ordinary rent in the fourth quarter.
Are producers struggling?
A key benefit of Innovative Industrial's business model is that it saves cannabis producers the capital necessary to obtain their own properties. Given the regulatory challenges involved in operating within the cannabis industry, the REIT's access to properties and expertise in tailoring real estate to tenants' needs are big selling points for would-be partners.
However, cannabis businesses have been under pressure for years. A poor pricing environment has hit margins, and now, rising financing costs will introduce new challenges. That raises the possibility of even more defaults among Innovative Industrial's tenants.
For a long time, Innovative Industrial was able to stand out as a picks-and-shovels play in cannabis, performing well even as marijuana producers struggled. But now, Innovative Industrial's stock has fallen sharply as well, and that suggests the entire industry might be under so much financial pressure that other companies could have trouble carrying on.
