Cannabis Lending Risks Will Squeeze Future Yields

Key Takeaways

• Potential federal cannabis reform and traditional bank entry threaten the company's high-yield lending niche and long-term profitability.
  
• Exposure to sector concentration, rising rates, and external funding reliance heightens risks to credit quality, earnings stability, and growth prospects.
  
• Evolving cannabis legalization and banking barriers position Chicago Atlantic for sustained growth, high yields, effective risk management, and expanding opportunities as the sector matures.

Catalysts

Chicago Atlantic Real Estate Finance, Inc.

• As the cannabis sector moves toward potential federal legalization or regulatory normalization, large traditional banks may enter the market, severely eroding Chicago Atlantic's high-yield lending niche and leading to significant compression in net interest margins and lower revenue growth.
  
• Persistent inflation and the risk of a sustained high interest rate environment could substantially raise borrowing costs for property owners and diminish demand for new loans, resulting in sluggish loan book growth, weaker earnings, and possible declines in distributable cash flow.
  
• Heavy concentration in the cannabis lending sector exposes the company to industry-specific regulatory interventions, demographic shifts, and volatile asset valuations-any adverse changes could trigger higher default rates, greater credit losses, and impaired collateral, directly harming net income and book value.
  
• Increasing reliance on external funding and leverage leaves the company vulnerable to abrupt credit market tightening or rising debt service costs, which could sharply reduce profit margins, increase interest expenses, and limit reinvestment potential.
  
• Technology-driven competition and shifting investor preferences may compress origination spreads in the mortgage REIT space, undermining Chicago Atlantic's ability to maintain premium yields, grow its customer base, and sustain long-term revenue and earnings trajectories.

Chicago Atlantic Real Estate Finance Future Earnings and Revenue Growth

Assumptions

• This narrative explores a more pessimistic perspective on Chicago Atlantic Real Estate Finance compared to the consensus, based on a Fair Value that aligns with the bearish cohort of analysts.
• The bearish analysts are assuming Chicago Atlantic Real Estate Finance's revenue will decrease by 0.9% annually over the next 3 years.
• The bearish analysts assume that profit margins will shrink from 67.5% today to 64.3% in 3 years time.
• The bearish analysts expect earnings to reach $37.5 million (and earnings per share of $1.73) by about July 2028, down from $38.4 million today. The analysts are largely in agreement about this estimate.
• In order for the above numbers to justify the price target of the more bearish analyst cohort, the company would need to trade at a PE ratio of 11.6x on those 2028 earnings, up from 7.4x today. This future PE is about the same as the current PE for the US Mortgage REITs industry at 11.6x.
• Analysts expect the number of shares outstanding to grow by 6.84% per year for the next 3 years.
• To value all of this in today's terms, we will use a discount rate of 6.4%, as per the Simply Wall St company report.

Chicago Atlantic Real Estate Finance Future Earnings Per Share Growth

Risks

• The ongoing momentum for state-level cannabis legalization and potential U.S. federal rescheduling may significantly boost the addressable market for Chicago Atlantic, leading to increased loan demand, expanded revenue opportunities, and potential long-term earnings growth for the business.
  
• Persistent banking dislocation for cannabis-related businesses ensures that Chicago Atlantic maintains a competitive advantage as a capital provider, supporting strong net interest margins and elevated yields, which could stabilize or grow earnings and revenue.
  
• The company's disciplined, credit-focused approach and historic outperformance versus peers, as well as its underwriting expertise in cannabis, suggest a capacity to mitigate risk, manage credit losses, and sustain distributable earnings over the long term.
  
• A healthy and growing lending pipeline, combined with strong liquidity, low leverage, and robust debt service coverage, positions Chicago Atlantic to capitalize on origination opportunities and potentially drive both revenue and net interest income higher as the industry matures.
  
• Should cannabis rescheduling occur, the elimination of punitive tax rules for borrowers could increase operators' cash flow and creditworthiness, indirectly reducing credit risk for Chicago Atlantic and supporting both portfolio quality and steady or rising earnings per share.

Valuation

• The assumed bearish price target for Chicago Atlantic Real Estate Finance is $14.5, which represents the lowest price target estimate amongst analysts. This valuation is based on what can be assumed as the expectations of Chicago Atlantic Real Estate Finance's future earnings growth, profit margins and other risk factors from analysts on the more bearish end of the spectrum.
• However, there is a degree of disagreement amongst analysts, with the most bullish reporting a price target of $20.0, and the most bearish reporting a price target of just $14.5.
• In order for you to agree with the bearish analysts, you'd need to believe that by 2028, revenues will be $58.3 million, earnings will come to $37.5 million, and it would be trading on a PE ratio of 11.6x, assuming you use a discount rate of 6.4%.
• Given the current share price of $13.6, the bearish analyst price target of $14.5 is 6.2% higher. Despite analysts expecting the underlying buisness to decline, they seem to believe it's more valuable than what the market thinks.
• We always encourage you to reach your own conclusions though. So sense check these analyst numbers against your own assumptions and expectations based on your understanding of the business and what you believe is probable.