Philip Falcone, the hedge fund manager who made a fortune betting against subprime mortgages in 2007, has hit a tough patch. His flagship Harbinger Capital Partners Fund and another fund under his control have faced redemption calls from major investors anxious about the funds' investments in a wireless satellite network. Harbinger Capital is also at the center of an investigation by the Securities and Exchange Commission and the Manhattan U.S. Attorney's office over a $113 million loan it gave to Harbinger Capital Partners founder and Chief Executive Officer Falcone to cover a tax bill, according to two people with knowledge of the probe. Falcone, who declined an interview request, said in an e-mail that the loan "was documented and audited by outside accountants and legal advisers."
Despite his troubles, the hedge fund manager has found a way to raise funds in a difficult environment. Falcone, 48, is selling stock and bonds through Harbinger Group (HRG), a publicly traded shell company. On Nov. 15, Harbinger Group raised $350 million by selling five-year debt yielding 11 percent. Falcone plans to use the new capital to buy controlling stakes in industries from agriculture to telecommunications, according to a Nov. 1 filing by Harbinger with the SEC. To back the bonds, Harbinger hedge funds plan to give Harbinger Group most of their majority stake in Spectrum Brands (SPB), a publicly traded company whose products include Rayovac batteries and George Foreman grills, in exchange for additional Harbinger Group stock.
Most hedge funds raise money from institutional investors, such as pension funds, that can withdraw their money under certain circumstances. Owning a publicly traded company allows Falcone to pay for acquisitions by issuing stock. "Our corporate structure provides significant advantages compared to the traditional hedge fund structure for long-term holdings," Harbinger Group said in the Nov. 1 SEC filing.
Redemption calls are a worry now at Harbinger. Goldman Sachs (GS) plans to pull its entire $120 million investment from Harbinger Capital Partners following a 15 percent decline this year through mid-October and the disclosure about the personal loan to Falcone, according to people briefed on Goldman's plans. Other investors such as Advantage Advisers Management, a subsidiary of Oppenheimer Asset Management, have also indicated they want out, according to regulatory filings. Falcone's New York-based firm's overall assets have declined to about $9 billion, as of September, from $26 billion in mid-2008.
Falcone has angered some clients by investing about 90 percent of his flagship Harbinger Capital Partners Fund and more than half his Special Situations Fund in wireless-telecommunications investments, as of September. He is trying to build a multibillion-dollar satellite wireless network that would take on entrenched players such as AT&T (T) and Verizon Communications (VZ) through a company he created called LightSquared.
Falcone is liquidating about 80 percent of the $2 billion Special Situations Fund at the request of clients, investors say. He's been trying since June to raise $1 billion to $1.5 billion for LightSquared from investors who would be willing to commit capital for several years, according to potential investors who have seen marketing documents.
In theory, Falcone could use shares of Harbinger Group, which is listed on the New York Stock Exchange (NYX), to meet redemptions in his hedge funds, says David Guin, head of the U.S. securities practice at law firm Withers Bergman in New York. Harbinger spokesman Jeffrey Zelkowitz says the proceeds of the bond sale won't be used to cover redemptions or finance investments in LightSquared. "Rather, HGI is a permanent capital vehicle to house longer-term controlling equity stakes in companies that operate across a diversified set of industries."
Falcone created Harbinger Group last year, when three of Harbinger's hedge funds paid $74 million to acquire a 51.6 percent stake in Zapata, an oil driller with cash and no operating businesses that was co-founded by President George H.W. Bush. Falcone reincorporated Zapata as Harbinger Group in December and later moved its headquarters to Manhattan from Rochester, N.Y. Having Harbinger Group gives Falcone a degree of freedom he doesn't have now, says Daniel Celeghin, a partner at Casey, Quirk & Associates, a Darien (Conn.)-based consultant to investment advisory firms: "Here is a pool of money you can manage indefinitely, and you don't have to worry about redemptions."
The bottom line: While dealing with investor redemptions, Falcone is raising capital through a public company he took over.