Business Overview and History
Chicago Atlantic Real Estate Finance, Inc. (NASDAQ: REFI) has carved out a unique position in the rapidly evolving cannabis industry by taking a disciplined, risk-averse approach to financing state-licensed operators. Founded in 2021, the company has quickly established itself as a leading commercial mortgage real estate investment trust (REIT) focused on providing senior secured loans to cannabis businesses in limited-license markets.
Chicago Atlantic was incorporated in Maryland on March 30, 2021, and elected to be taxed as a REIT commencing with its 2021 taxable year. The company's primary investment objective is to provide attractive, risk-adjusted returns for stockholders over time, primarily through consistent current income dividends and distributions, and secondarily through capital appreciation.
To achieve this objective, Chicago Atlantic originates, structures, and invests in first mortgage loans and alternative structured financings secured by commercial real estate properties, with a focus on the cannabis industry. The company's loan portfolio is primarily comprised of senior loans to state-licensed cannabis operators, secured by real estate, equipment, receivables, licenses, and/or other assets of the borrowers to the extent permitted by applicable laws and regulations.
The company is externally managed by Chicago Atlantic REIT Manager, LLC, a Delaware limited liability company, pursuant to the terms of a management agreement dated May 1, 2021, as amended in October 2021. All of the company's investment decisions are made by the investment committee of the Manager, subject to oversight by the company's board of directors. This management structure provides Chicago Atlantic with access to deep industry expertise and an extensive origination network within the cannabis space.
Chicago Atlantic also lends to and invests in companies or properties that are not related to the cannabis industry if they provide return characteristics consistent with its investment objective. This diversification strategy allows the company to potentially mitigate risks associated with focusing solely on the cannabis sector.
Since its inception, Chicago Atlantic has methodically built a diversified portfolio of 29 loans totaling $362 million as of September 30, 2024, across 13 states. The weighted average yield-to-maturity on the portfolio is 18.3%, with 62.8% of the loans bearing floating interest rates tied to the Prime Rate and the remaining 37.2% carrying fixed rates.
Prudent Underwriting and Portfolio Management
Chicago Atlantic's disciplined approach to underwriting and portfolio management has been a key driver of its success thus far. The company focuses on lending to established, state-licensed cannabis operators in limited-license markets, with an emphasis on collateral quality and downside protection.
Notably, 60% of the company's portfolio is fully secured by real estate, with an average real estate collateral coverage of 1.2x as of September 30, 2024. Additionally, all of Chicago Atlantic's loans are secured by equity pledges of the borrower and all-asset liens, providing further protection.
The company's risk management practices are also reflected in its credit quality metrics. As of the third quarter of 2024, approximately 72% of the portfolio was risk-rated 1 or 2 on the company's 5-point scale, with only one loan on non-accrual status. The reserve for expected credit losses stood at just 1.1% of outstanding principal.
Weathering Market Volatility
Chicago Atlantic's conservative approach has enabled it to navigate the inherent volatility of the cannabis industry. For example, during the third quarter of 2024, the company was able to limit its exposure to interest rate declines by successfully amending certain loans to increase Prime Rate floors or convert them to fixed rates.
Additionally, the company proactively managed its 2024 loan maturities, successfully retaining and extending $89 million of loans through amendments, while repaying $47 million with full recovery of principal and interest. This disciplined approach to portfolio management has resulted in improved credit quality and loan coverage across the portfolio.
Expansion and Funding Initiatives
To capitalize on the growing demand for capital in the cannabis industry, Chicago Atlantic has taken steps to enhance its liquidity and deployment capabilities. In October 2024, the company closed a $50 million unsecured term loan, bearing a fixed interest rate of 9%, to fund future investments.
The company also maintains a $110 million revolving credit facility, with $56 million available as of September 30, 2024. This ample liquidity, combined with a robust $560 million pipeline of potential investment opportunities, positions Chicago Atlantic well to continue growing its portfolio and generating attractive risk-adjusted returns for shareholders.
Financials
Chicago Atlantic's financial performance reflects its disciplined approach to investing in the cannabis industry. The company's focus on high-yield loans to established operators in limited-license markets has resulted in strong returns and consistent income for shareholders. As of September 30, 2024, the company's loan portfolio had a weighted average yield-to-maturity of 18.3%, demonstrating the attractive returns available in this niche market.
For the most recent fiscal year 2023, Chicago Atlantic reported annual revenue of $57.33 million and annual net income of $38.71 million. The company's annual operating cash flow and free cash flow for 2023 both stood at $28.42 million.
In the most recent quarter (Q3 2024), the company reported revenue of $14.46 million and net income of $11.21 million. This represents a year-over-year revenue growth of 4% and net income growth of 12% compared to Q3 2023. The increase in revenue and net income was primarily driven by growth in the loan portfolio, with the average outstanding principal balance increasing from $329.9 million in Q3 2023 to $372.8 million in Q3 2024. This was partially offset by a decrease in portfolio yield from 19.3% to 18.3% over the same period.
Liquidity
The company maintains a strong liquidity position to support its growth initiatives and navigate market uncertainties. With $56 million available on its revolving credit facility and the recent addition of a $50 million unsecured term loan, Chicago Atlantic has ample resources to fund new investments and manage its existing portfolio. This robust liquidity position enhances the company's ability to capitalize on attractive opportunities in the evolving cannabis market.
As of September 30, 2024, Chicago Atlantic reported cash and cash equivalents of $6.76 million. The company's debt-to-equity ratio stood at 0.18, indicating a conservative capital structure. The current ratio and quick ratio were both 628.4, reflecting strong short-term liquidity.
Regulatory Landscape and Outlook
The cannabis industry continues to evolve rapidly, with an increasing number of states legalizing both medical and adult-use cannabis. While the federal legal status of cannabis remains in flux, the company's focus on limited-license markets and conservative underwriting has allowed it to navigate this uncertainty successfully.
Looking ahead, Chicago Atlantic remains cautiously optimistic about the industry's long-term prospects. The company believes that federal rescheduling of cannabis is likely to occur in 2025, which could open up additional investment opportunities. Additionally, the potential for the SAFE Banking Act or other pro-cannabis legislation could further improve the operating environment for the company's borrowers.
The US cannabis industry saw legal sales reach $28.8 billion in 2023, a 10.3% increase from the previous year. The industry is expected to continue growing as more states legalize cannabis for medical and/or recreational use.
Dividend Policy
As a REIT, Chicago Atlantic is required to distribute at least 90% of its annual REIT taxable income to shareholders. During the nine months ended September 30, 2024, the company declared and paid regular quarterly cash dividends of $0.47 per share, for a total of $1.41 per share.
Conclusion
Chicago Atlantic Real Estate Finance has carved out a unique niche in the cannabis financing space by employing a disciplined, risk-averse approach. The company's focus on established, state-licensed operators, coupled with its emphasis on collateral quality and downside protection, has enabled it to generate attractive risk-adjusted returns while navigating the inherent volatility of the industry.
As the cannabis industry continues to evolve and demand for capital grows, Chicago Atlantic appears well-positioned to capitalize on these trends and deliver consistent income and potential capital appreciation to its shareholders. The company's strong financial performance, robust liquidity position, and conservative underwriting practices provide a solid foundation for future growth in this dynamic market.