Is This Early-Stage REIT the Next Innovative Industrial Properties?

Growth industries like cannabis are the perfect hunting ground for your next ten-bagger. For instance, if you were farsighted enough to invest in Innovative Industrial Properties (NYSE: IIPR) five years ago, you’d be proudly sitting on a monster gain of nearly 660% today, and a staggering 834% return with dividends re-invested. If you’re like most of us, you missed that boat — but there’s a very similar stock starting its growth journey today that might prove to be a great substitute. 

NewLake Capital Partners REIT (OTC: NLCP), like Innovative Industrial Properties, is a relatively new real estate investment trust (REIT), in case you couldn’t tell from the name. And it’s already accumulating the resources it’ll need to go big. Let’s see if it has what it takes to become the next IIP. 

Image source: Getty Images.

The similarities are striking

Both IIP and NewLake make money by doing sale-leaseback transactions. In sale-leasebacks, the REITs buy cannabis cultivation facilities or retail locations from businesses, and then the property is rented out to the former owner for long periods. The advantage of doing this is that the cannabis companies get a wad of dough that they can use to expand, which, as a result of marijuana prohibition, isn’t possible via more mundane financial solutions like borrowing from a bank. 

For the REITs, sale-leasebacks are a way to trade cash for cash flows. With those cash flows, they can then finance further real estate purchases, return the capital to shareholders via dividends, or make improvements to properties they already own. So, the amount of starting capital is a significant factor in determining how much cash flow the business can ultimately generate, as it can often be increasingly difficult to raise additional funds with debt or stock issuance over time.

On that note, it’s been almost a year since NewLake went public, raising gross proceeds of $102 million, and it currently has nearly $114.8 million in the bank. In the first quarter of 2017, one quarter after going public, Innovative Industrial had around $33.3 million in cash. Therefore, investors should expect the smaller business to be capable of growing faster than Innovative Industrial was, at least for the first few years. 

Right now, NewLake says that it can make a weighted average yield of 12.6% on its properties, which isn’t half bad. Its trailing 12-month revenue is over $33.9 million in contrast to IIP’s sum of more than $226.1 million, which isn’t surprising since it’s much newer. In early 2020, IIP reported an average current yield on invested capital of 13.3%, so its yield is in the same ballpark even after its initial run-up of buying real estate. Both companies share a similarly high profit margin, with Innovative Industrial clocking in at upwards of 54.4% and NewLake with 43.5%. So far, so good for NewLake following IIP’s trajectory.

A lot could go differently

Despite the extensive similarities in the business models and financials of the two REITs, it’s critical to remember that the world is a different place today than when IIP first entered the market. 2021’s cannabis stock boom is long past, and many stocks are (still) falling. Whereas IIP was able to raise plenty of money by issuing stock from 2019 through 2022, there’s little chance that investors will buy so many shares of NewLake to drive its price is high enough to make new issuance as attractive. But the market for cannabis is still growing. 

And that could easily place the two companies in direct competition for lucrative properties in cramped markets where the number of cannabis cultivation facilities is capped by licensing laws, which is a problem that the older of the pair never had. Still, at the moment, NewLake is growing its base of rental income much more rapidly than Innovative Industrial, so it could have an edge.

The other risk is that marijuana banking reform or cannabis legalization could occur in the U.S. in the next few years, which could sharply reduce the demand for the capital both businesses can offer to their tenants. Those changes could, in turn, make it significantly harder for NewLake to scale up to reach IIP’s size. But such a major legislative shakeup appears unlikely at the moment.

In closing, there aren’t any tangible barriers preventing NewLake from being as great of an investment as Innovative Industrial has been over the last few years. Though the market headwinds to its ability to raise capital are real, they might not stick around forever. And if you’re looking for a fast-growing dividend stock to juice your portfolio with some additional income, NewLake might be right up your alley.

Alexander Carchidi has positions in Innovative Industrial Properties. The Motley Fool has positions in and recommends Innovative Industrial Properties. The Motley Fool has a disclosure policy.

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