Icahn's Next Gamble: Housing
In the Sunshine State

Florida is one of the weakest housing markets in the country. There is a glut of homes for sale, prices are falling in some areas and demand has waned. To make matters worse, a large supply of condominiums is expected to hit the market within the year.

So, naturally, it raised eyebrows on Wall Street when Carl Icahn increased his stake in WCI Communities Inc., a home builder focused heavily on the Sunshine State.

Mr. Icahn, the well-known activist investor, disclosed in a Securities and Exchange Commission filing that he beneficially owns 14.57%, or 6.1 million shares, of the Bonita Springs, Fla., company. Mr. Icahn also said in the Jan. 16 filing that he intends to contact WCI to discuss how to "unlock the inherent value" of its shares.

Mr. Icahn isn't the only big name buying up shares or looking to improve WCI, a relatively small builder with a market value of about $820 million, which is known for its luxurious high-rise condominiums.

The Bill & Melinda Gates Foundation disclosed in a SEC filing on Nov. 14 that it had bought a sizable number of shares. This month, Hotchkis & Wiley Capital Management LLC, a Los Angeles investment firm with more than $35 billion under management, disclosed in an SEC filing that it owned 15.9% of WCI shares. The firm said it wants to have "constructive discussions" with the company about its business.

All this activity has jolted WCI stock. The shares are up about 43% since mid-August when they hit a 52-week low of $13.87. The stock fell about 5% earlier this week after the company said it expected to report a fourth-quarter loss because of land-related write-offs and write-downs, which could total as much as $120 million, and more buyers than expected backed out of their contracts.

In 4 p.m. composite trading yesterday on the New York Stock Exchange, WCI's shares were down $1.05, or 5%, to $19.81.

WCI has an estimated trailing price/earnings ratio of about 7 compared with a P/E of 14.22 for the Dow Jones U.S. Home Construction Index, which includes many large home builders.

At the end of its third quarter, WCI had a book value of about $25 a share, which is a rough measure of what the company would be worth if liquidated, making it enticingly inexpensive.

So far, many analysts who follow the company aren't jumping on the WCI bandwagon. In fact, most have "sell" or "neutral" ratings on the stock, believing that WCI will continue to be hurt by the oversupply of condos in Florida and is more vulnerable than many other builders because of its relatively high debt level.

"When you get a guy like Carl shaking the tree, it can't hurt," said UBS analyst Margaret Whelan, who is generally bullish on home builders but has a sell rating on WCI. "Regardless, you still have a lousy [condo] business, because of the inventory overhang." Ms. Whelan, whose firm does business with WCI, doesn't own shares of the company.

Nonetheless, it is difficult to bet against an investor with a track record such as Mr. Icahn's. His investment in the company is worth considering. Mr. Icahn couldn't be reached for comment, but other investors said their investments in WCI are largely driven by a belief the company's land has significant value. Such value could be realized if WCI is sold for a premium or when the Florida housing market improves.

WCI said it purchased 35% of its land between 1995 and 2000, which is before property prices skyrocketed.

WCI's "land in southwest Florida is irreplaceable," said Josh Spencer, an analyst at T. Rowe Price Group Inc., which owns about 400,000 shares of WCI. "It doesn't matter that the [housing] market is weak now. If you have waterfront property in Naples, Fla., it's like having office space in midtown Manhattan." Mr. Spencer has a "buy" rating on WCI.

Other analysts question the embedded value of WCI's land. Even if the land has long-term value, the company still faces the near-term problem of the dismal Florida condo market.

Analysts and investors betting that the stock price will fall have warned that WCI could suffer a painful fate if a mass of buyers who put down deposits on condos several years ago decide to back out of their contracts at closing time.

WCI warned that the number of defaults in the fourth quarter was higher than it expected. In a pre-earnings announcement, the company said its default rate for all condo towers closed in 2006 will be 7% to 8%, compared with a rate of 5% through the third quarter.

Defaults of condos and cancellations of typical single-family homes, which it also builds, exceeded the total number of orders WCI received for homes in the fourth quarter.

Long-term investors in WCI believe that the company's defaults, while increasing, are still relatively low. WCI also required buyers of condos that are now under construction to put down an average deposit of about 18% on units with an average sale price of $1.2 million. If a buyer walks, WCI typically keeps the deposit -- which helps minimize the company's losses -- and puts the unit back on the market.

"If things go well with the condo closings over the next six to nine months there is possibility for some upside," said JMP Securities analyst Alex Barron, who has downgraded his rating on WCI to the equivalent of sell from hold. "But that is a big if."

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