Falcone Agrees to Two-Year Hedge-Fund Ban to Settle SEC LawsuitJoshua Gallu, Katherine Burton and Anthony Effinger
Philip Falcone, who once ran one of the biggest hedge funds in the industry, reached a settlement with regulators that bars him from investing client money for at least two years, while allowing him to run a company modeled on Warren Buffett’s Berkshire Hathaway Inc.
Under the proposed settlement, Falcone’s hedge-fund firm Harbinger Capital Partners LLC would pay about $18 million in disgorgement, interest and penalties to resolve Securities and Exchange Commission claims that he improperly borrowed money from his fund to pay his taxes, according to a public filing today. The agreement, which is subject to approval by SEC commissioners and a U.S. court, would allow him to continue his role as chief executive officer of Harbinger Group Inc., a $1.3 billion public holding company he controls.
Falcone “has already made it clear that the public vehicle is the future for him and the fund is in the past,” said Christopher Mittleman, the chief investment officer of Mittleman Brothers LLC, a Locust Valley, New York-based money-management firm that owned about 1.7 million Harbinger Group shares at the end of last year.
The settlement would end, at least for now, a 12-year career as hedge-fund manager for Falcone, who made billions for investors and himself by betting against subprime mortgages in 2006, only to tie up much of clients’ money in a wireless phone company, LightSquared Inc., that last year filed for bankruptcy. Assets managed by his firm have slumped to $3 billion from a peak of $26 billion in 2008.
Falcone, 50, said previously that he planned to move away from hedge-fund investing, where clients can pull out their money at regular intervals, and instead use Harbinger Group to finance long-term investments.
Falcone’s rollercoaster ride continued this week as Federal Communications Commission Chairman Julius Genachowski said he expects LightSquared to eventually win approval for using its communications airwaves, after it was blocked by regulators on concern they would interfere with global-positioning system signals.
The FCC under Genachowski gave LightSquared a tentative go-ahead in 2011, then blocked it last year after tests showed the proposed high-speed network for as many as 260 million people would interfere with GPS units, including those that help keep aircraft from crashing into mountains.
A positive decision could help revive some of the hopes that made LightSquared, a fledgling Reston, Virginia-based firm, a bold bet for challenging the dominance of Verizon Wireless and AT&T Inc. in the U.S. wireless market. Falcone’s Harbinger Capital Partners had invested about $3 billion and owned about 74 percent of the firm, before it filed for bankruptcy a year ago after failing to get approval.
During the two-year ban from the securities industry, Falcone can’t act as broker, dealer or investment adviser, according to a letter from the hedge-fund firm sent to investors today. Harbinger Capital may not raise new money in that time or make capital calls from existing investors.
The Harbinger funds named in the SEC’s actions must “take all actions reasonably necessary” to satisfy redemption requests from investors, according to the letter. Fund assets tied to LightSquared are exempt from redemptions until the conclusion of Chapter 11 bankruptcy proceedings. An independent monitor, to be chosen by the SEC from five candidates recommended by Falcone, will oversee compliance with the terms of the agreement, according to the letter.
Falcone, reached by e-mail today, declined to comment, as did Robin Roger, general counsel for Harbinger Capital Partners. John Nester, an SEC spokesman, also declined to comment.
“Mr. Falcone’s and Harbinger Capital’s reputation and access to acquisition candidates is important to the execution of our business strategy,” Harbinger Group said in the filing. “While we expect that Mr. Falcone will devote a portion of his time to our business, he is not required to commit his full time to our affairs and will allocate his time between our operations and his other commitments at his discretion.”
Harbinger Group shares fell 0.8 percent today to $9.26. They have gained 90 percent in the past 12 months.
“The fact that he can continue as chairman of Harbinger Group is good for him and the limited partners of his fund,” said Mittleman, whose firm oversees about $200 million in separate accounts for clients. If investors in Falcone’s hedge fund want to pull their money, it may create “some selling pressure,” he said, “but it wouldn’t change” the company’s net asset value.
Mittleman estimates that Harbinger Group’s net asset value, based on its ownership of Spectrum Brands, the Fidelity insurance business, and energy assets, is about $11.50 to $12 a share.
The SEC accused Falcone of misappropriating client assets after he took a $113 million loan from his special situations fund to pay personal taxes when about 60 percent of the fund’s investors had unfulfilled redemption requests. While he knew in April 2009 that he would have a tax bill in the tens of millions of dollars, he continued to spend money on renovations of a $49 million townhouse once owned by Penthouse magazine publisher Bob Guccione.
Under the terms of the loan, Falcone was supposed to pay interest equal to the cost of capital for the fund. At that time, the fund was paying interest of 7 percent on an outstanding loan. Falcone paid 3.66 percent, the SEC said. The existence of the loans was first reported by Bloomberg News in September 2010.
The same year that Falcone took out the loan, he let some large investors withdraw $169 million in return for their vote to approve a plan to restrict client redemptions from a different fund. Harbinger concealed these deals from the independent directors and from fund investors, the SEC said in the lawsuit.
The regulator also accused Falcone and two of his funds of engaging in a short squeeze of MAAX Holdings Inc. bonds, a transaction in which a buyer limits the supply of a security to drive up prices and cause losses for investors betting against the security.
Falcone, who had bought a large position in the bonds in April and June of 2006, was trying to retaliate against a Wall Street firm that was betting against MAAX bonds and encouraged clients to do the same, the SEC said.
“It’s my understanding that those violations, if they occurred, would result in barring from the industry for life and significantly higher fines,” said Brad Balter, head of Balter Capital Management LLC, a Boston-based firm that farms out money to hedge funds and is not a Harbinger client.