Investing in the cannabis space is intriguing but also risky. With more states legalizing medical and recreational cannabis use, it’s easy to see the vast potential ahead of this industry. On the other hand, cannabis remains federally illegal, making it much harder for businesses to operate and muddying the waters for investors.
2022 stands to be an important year for cannabis with several states poised to begin selling adult-use cannabis during this calendar year. There are several companies who are at the ready to serve this new customer base. Here’s a closer look at two companies I think are smart buys in 2022 and beyond.
Green Thumb Industries
Green Thumb Industries ( GTBIF 0.89% ) is a company that cultivates, processes, and sells medical and adult-use cannabis products in 15 states. With a track record of revenue growth and improving profitability, Green Thumb should be in a great position to pivot from medical to adult-use as laws change in the states in which it operates.
2021 was a strong year for Green Thumb, with revenue reaching $894 million, good for a 61% increase over 2020. Management attributed this revenue growth to sales in Illinois and Pennsylvania. This is interesting to note. While adult-use cannabis has been on sale in Illinois for a little over two years, Pennsylvania still only allows medical use. If Pennsylvania were to legalize adult use, Green Thumb would have a nice foothold in the state to help take advantage of the surge in sales.
The company is also profitable and cash flow positive. Net income for the year was $76 million, compared to $15 million in the year prior. Additionally, the fourth quarter was the sixth consecutive quarter of positive net income and the eighth consecutive quarter of positive cash flow from operations. As Green Thumb has grown its business, it’s been able to keep costs under control, reducing expenses as a percentage of revenue from 36% in 2020 to 31% in 2021.
Innovative Industrial Properties
For investors who want exposure to the cannabis space but may be uncomfortable with the risk associated with investing in pure-play cannabis companies, Innovative Industrial Properties ( IIPR 0.87% ) is worth considering. IIP buys properties that it then leases to cannabis companies. These agreements signed by IIP are triple-net leases, meaning the cannabis companies bear the responsibility for all costs related to the property, thus reducing the risk and expenses for IIP.
Because their product is federally illegal in the U.S., cannabis companies can’t secure financing through traditional means. To help with this, and as an additional revenue stream, IIP provides expansion capital to the companies to which it is leasing its properties. This helps make IIP an attractive choice for cannabis companies looking to lease properties.
This business model has been very successful for IIP. in 2021, revenue grew 75% and adjusted funds from operations increased 78% year over year. The bottom line grew as well, with net income reaching $113 million, a 75% increase over 2020. Because IIP is a real estate investment trust (REIT), it has to pay at least 90% of its taxable income to shareholders. To that end, the company increased its dividend 28% over 2020, and the dividend yield is currently 3.2%, easily beating the S&P 500‘s 1.3%.
Bottom line for investors
I think both of these companies have long-term tailwinds that make them smart investments in 2022. Current valuation makes each business even more compelling. Green Thumb’s price-to-sales ratio (P/S) is four, near its all time low. IIP is more expensive with a P/S of 23, but it’s also more established and a little less risky being that it’s an ancillary play on the cannabis space. Adding both of these stocks to your portfolio will give you smart exposure to that space.
This article represents the opinion of the writer, who may disagree with the “official” recommendation position of a Motley Fool premium advisory service. We’re 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.