San Diego, Calif.-based Innovative Industrial Properties, Inc. (IIPR) owns and manages specialized properties leased to state-licensed operators for their regulated medical-use cannabis facilities. IIPR’s stock has gained 161.4% over the past year, driven by a surge of interest in cannabis stocks.

However, over the past three months, it has gained only 1.9%. The stock is currently trading at $190.64, 14.2% below its 52-week high of $222.08.

Since the anticipated repeal of a federal ban on marijuana is expected to be a time-consuming process, IIPR could face hurdles on its growth path. Also, the burgeoning cannabis industry has become crowded with new operators that are battling for market share. Amid this environment, IIPR is trading at a high valuation, which makes it vulnerable to a  pullback in the near term.

Here is what we think could influence IIRP’s performance in the coming months:

Risks Associated with Cannabis Operation

Although the pace at which states have decriminalized marijuana has been swift so far, it continues to be prohibited at the federal level. A full-scale, nationwide, legalization is possibly far away and repealing the marijuana laws could still be a long and tedious process. This suggests that potential political risks associated with the authorized use of cannabis for consumers remain a threat to IIPR’s long-term growth.

At the same time, since IIPR is a REIT, it could face potential tenant risk if there is a decline in interest for cannabis products. As more entrants in the real estate sector try to capitalize on the growing cannabis industry, IIPR might face difficulty in increasing its market share and generating substantial revenues.

Weak Financials

IIPR’s total expenses increased 101.3% year-over-year to $14.23 million in the fourth quarter, ended December 31, 2020. The company’s interest and other income declined 70.5% from its  year-ago value to $338 thousand. Its trailing-12-month cash from operations of $110.81 million is 39.2% lower than the industry average of $182.29 million.

Stretched Valuation

In terms of trailing-12-month EV/EBITDA, IIPR is currently trading at 46.52x, 110.9% higher than the industry average 22.06x. IIPR’s trailing-12-month Price/Sales of 31.71x is 386.8% higher than the industry average 6.51x. Also, the company’s trailing-12-month Price/Cash flow of 41.26x is 146.1% higher than the industry average 16.77x.

Consensus Price Target Reflects Downside

Currently trading at $190.64, Wall Street analysts expect the stock to hit $172 in the near term, which indicates a potential decline of 9.8%.

Unfavorable POWR Ratings

IIPR has an overall D rating, which translates to Sell in our POWR Ratings system. The POWR Ratings are calculated by considering 118 different factors, with each factor weighted to an optimal degree.

Our proprietary rating system also evaluates each stock based on eight different categories. IIPR has a Value Grade of D, given the stock’s premium valuation.

In terms of Growth Grade, IIPR has a C, which is in sync with the company’s inadequate growth prospects.

Also, it has a D grade for Momentum, which is consistent with the stock’s gains over the past three months.

Click here to see the additional POWR Ratings for IIPR (Stability, Sentiment, and Quality).

IIPR is ranked #21 of 22 stocks in the F-rated REITS – Industrial  industry.

There are several top-rated stocks in the same industry. Click here to access them.

Bottom Line

The stock soared 161.4% over the past year, due primarily to  the hype surrounding the potential of the medical-use and recreational cannabis market. However, the political and tenant risks associated with its business could  be a headwind. In fact, as competition grows  in the cannabis space, with more states approving cannabis legalization, IIPR’s expensive valuation might hamper its growth prospects. So, we think it could be wise to avoid the stock now.

IIPR shares were trading at $189.39 per share on Wednesday morning, down $1.25 (-0.66%). Year-to-date, IIPR has gained 4.21%, versus a 10.90% rise in the benchmark S&P 500 index during the same period.

About the Author: Imon Ghosh

Imon is an investment analyst and journalist with an enthusiasm for financial research and writing. She began her career at Kantar IMRB, a leading market research and consumer consulting organization. More...

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