Hedge fund chief Philip Falcone is accused of fraudulently using clients' money.
WASHINGTON - Philip Falcone, who rose from Minnesota's Iron Range to run a New York hedge fund and own a piece of the Minnesota Wild, was accused of fraud Wednesday by the U.S. Securities and Exchange Commission.
Falcone built a $26 billion hedge fund, Harbinger Capital Partners, in part on a spectacularly successful bet against subprime mortgages just before the housing market collapsed. Now he stands accused of misappropriating client assets, favoring selected investors and manipulating bond prices.
"Today's charges read like the final exam in a graduate course in how to operate a hedge fund unlawfully," Robert Khuzami, the SEC's enforcement director in Washington, said in a statement. "Clients and market participants alike were victimized as Falcone unscrupulously used fund assets to pay his personal taxes, manipulated the market for certain bonds, favored some clients at the expense of others and violated trading rules intended to prohibit manipulative short sales."
A native of Chisholm, Minn., Falcone, 49, still maintains ties to the state and owns a 30 percent stake in the Wild. The team, which is majority-owned by Craig Leipold, issued a statement Wednesday that said the accusations against Falcone "do not affect the Minnesota Wild in any way."
The lawsuit is the second blow in less than two months for Falcone. Harbinger has suffered $23 billion in losses and withdrawals from its peak, and Falcone is fighting to keep control of his empire. LightSquared Inc., Harbinger Capital's biggest investment, filed for bankruptcy in May.
The SEC is seeking disgorgement of ill-gotten gains, unspecified financial penalties and a bar prohibiting Falcone from serving as an officer or director of any public company, according to the agency. The lawsuit also names Peter Jenson, former chief operating officer of Harbinger.
Falcone declined to comment, according to Lew Phelps, a spokesman for Harbinger.
"The notion propagated by the SEC that investors were harmed by that conduct or any other is not only irresponsible but completely unsupported by any evidence," Matthew Dontzin, an attorney for Falcone, said in a statement, adding that all the charges will be "vigorously defended in the courthouse."
In 2009, Falcone took a $113 million loan from his Special Situations fund to pay personal taxes, according to the SEC, while clients were barred from pulling money.
Falcone took the loan when about 60 percent of the fund's investors had unfulfilled requests to redeem. Falcone didn't seek approval from fund investors for the loan, according to the suit.
Townhouse, private jet
While Falcone 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 publisher Bob Guccione.
He also spent money on a private jet, a security detail and motion picture investments, the SEC said.
Falcone and Jenson disregarded the advice of one law firm about whether to borrow money from the fund.
That company said that "lending money to principals is not part of the fund's investment program," according to the SEC.
The SEC alleged that Jenson misrepresented the facts to a second law firm, which did eventually give Harbinger an opinion letter. The inaccuracies included that the tax liability was unexpected and that Falcone had no other viable source of funding, the suit said. The SEC didn't identify the law firm.
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 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. The regulator said the investors were large banks and investment firms, declining to name them.
Among the large clients were Goldman Sachs Group Inc. and Pacific Alternative Asset Management Co., according to two people with knowledge of the deal.
Aspiring to become Buffett
In an interview in April, Falcone said he was seeking to move away from hedge funds and build a public holding company, much like Warren Buffett's Berkshire Hathaway, that would be better suited for long-term investments.
Shares of Harbinger Group Inc. fell 13 percent, the biggest drop since 1999, after reports emerged Tuesday that the SEC may sue Falcone, who is the company's chief executive and chairman. Falcone would be barred from those roles if the SEC lawsuit succeeds.
Staff writer Michael Russo contributed to this report.