Fund Manager Falcone Is The Center Of A Series Of SEC Actions

Fund Manager Falcone Is The Center Of A Series Of SEC Actions

Well known hedge fund manager Philip Falcone is at the center of a series of cases filed by the SEC. The actions are based on allegations that the adviser executed a short squeeze market manipulation in the bond market to punish other traders and took millions of dollars from a fund for his personal use while disadvantaging other investors. Mr. Falcone has vowed to fight the charges. A separate suit against those who had the authority to halt Mr. Falcon and his manipulation was settled.

The short squeeze: In a tale worthy of a novel the SEC's complaint names Mr. Falcone, Harbinger Capital Partners Offshore Manager, LLC and Harbinger Capital Partners Special Situations GP, LLC as defendants. Mr. Falcone is the co-founder of the Harbinger Master Fund and Harbinger Special Situations Fund. He was the senior managing director of Defendants Offshore Manager and Special Situations which were nominally the investment managers of the Master Fund and the Special Situations Fund, respectively.

The 2006 short squeeze centered on trading in a series of distressed high-yield bonds issued by MAAX Holdings, Inc. Defendants Offshore Manager and Special Situations. In April, May and June 2006 the defendants purchased 108 million MAXX's junior discount bonds, called the MAAX zips, for Harbinger Capital Partners Master Fund I. This represented 63% of the issue. Subsequently, there were rumors that a Wall Street Firm providing prime brokerage to the Master Fund was shorting the bonds and encouraging others to take the same position.

Mr. Falcone, according to the complaint, crafted a scheme to punish the Wall Street Firm by manipulating the market. By late October 2006 Harbinger had purchased more than the available supply of bonds and transferred its MAAX positions from its prime brokerage accounts to a bank in Georgia. This ensured the bonds could not be lent out to cover short positions.

The defendants then demanded that the Wall Street Firm settle its outstanding MAAX positions and deliver the securities without disclosing their controlling position. The price of the securities nearly doubled. Subsequently, the defendants engaged in a series of transactions over a period of months with select short sellers at arbitrary and inflated prices. At the same time their inventory of bonds was values on the books of the funds at a small fraction of the prices charged the shorts. By late November 2008 Harbinger adjusted or cancelled all of its unsettled MAAX trades. The Commission's complaint, which is in litigation, alleges violations of Securities Act Section 17(a) and Exchange Act Section 10(b). SEC v. Falcone, Civil Action No. 12 CIV 5027 (S.D.N.Y. Filed June 27, 2012).

Misappropriation: A second action alleges that Mr. Falcone and Harbinger Capital Partners LLC, aided by Philip Jensen, the one time COO of Harbinger, engaged in two fraudulent schemes regarding the funds they advised. In the first, Mr. Falcone and Harbinger, aided by Mr. Jenson misappropriated $113.2 million from a Harbinger fund. The money was used to pay Mr. Mr. Falcone's taxes. To create the appearance of legality the Defendants sought advise from a law firm. It was not furnished all of the facts. Shareholder approval was not obtained.

In the second, Harbinger Fund and Mr. Falcone granted select large investors favorable redemption and liquidity terms in return for their vote to approve more stringent redemption restrictions on investors. This scheme was concealed from the board. The Commission's complaint, which is in litigation, alleges violations of Securities Act Section 17(a), Exchange Act Section 10(b) and Advisers Act Sections 206(1), 206(2) and 206(4). SEC v. Harbinger Capital Partners LLC, Civil Action No. 12 CIV 5028 (S.D.N.Y. Filed June 27, 2012).

Control person liability: The Commission also brought an action against Harbert Management Corporation, HMC-New York, Inc., and HMC Investors, LLC. Harbert Management is an investment management company that created Master Fund and Special Situations Fund and hired Mr. Falcone to manage its investments. HMC Investors was a managing member of the Master Fund. HMC-New York, Inc. is a managing member of the general partner for the Special Situations Fund. Essentially, the complaint claims that the defendants had the ability to halt the short squeeze executed by Mr. Falcone. The complaint alleges control person liability under Exchange Act Section 20(a). The defendants settled this action, agreeing to pay a civil penalty in the amount of $1 million. The Harbert defendants also consented to the entry of a judgment enjoining them from violations of Exchange Act Section 10(b). SEC v. Harbert Management Corporation, Civil Action No. 12 CIV 5029 (S.D.N.Y. Filed June 27, 2012).

Reg M: A final, settled proceeding was brought against Harbinger Capital Partners LLC. This action centered on the purchase of shares in three public offerings in April and June 2009 after having sold the shares short during the restricted period. This violates Rule 105 of Regulation M which establishes a restricted period prior to an offering during which the shares can not be shorted. Harbinger made profits of $857,950 on the transactions. To resolve the action the Respondent consented to the entry of a cease and desist order based on Rule 105 of Regulation M and a censure. The firm also agreed to disgorge its trading profits, pay prejudgment interest and a civil penalty of $428,975 in addition to adopting certain procedures. In the Matter of Harbinger Capital Partners, LLC, File No. 3-14928 (Filed June 27, 2012).

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