Why Wells Fargo fraud matters

The ethical structure of the financial industry is a vital matter


By Ryan Drohan

Earlier this month, details emerged from Wells Fargo that caused a scandal in the financial world.  The San Francisco-based bank was accused of creating over 2 million deposit accounts and credit cards without customer permission.  On September 8th, the U.S. Consumer Financial Protection Bureau fined Wells Fargo $185 million for their actions in the cross-selling scandal.  The financial news can be difficult to read and understand at times; however, the path Wells Fargo took to this large lawsuit can be easily followed.

Cross-selling can be thought of simply as an attempt by your bank to sell you other products.  For example, if you already have a checking account, your bank, in order to generate more profit, will attempt to sell you credit cards, a mortgage, or wealth management services.  As a thought, the cross-selling promotion sounds like a simple way for banks to bring in more revenue from the same customers.  However, there is significant resistance from customers toward the idea of switching all their money into one bank’s hands.  As Rachel Louise Ensign at the Wall Street Journal puts it, “Customers are resistant to switch lenders and many prefer to spread out their money.”  This hesitance by the customer paired with overwhelming urge from the bank causes a problem for the bank’s employees.  Strict sales goals are defined at banks such as Wells Fargo, and the pressure from higher up the corporate ladder causes employees to stress over promoting cross-sold products.  On top of bottom-line numbers, some banks incentivize employees for cross-selling.  This culture is exactly what brought Wells Fargo to fire 5,300 employees over the past 5 years and refund $2.5 million in fees.

In the end, the 5,300 fired employees were not solely responsible for the 2 million false accounts created by Wells Fargo.  Wells CEO John Stumpf and head of community banking Carrie Tolstedt are set to forfeit their end-of-year bonuses for 2016 as a result.  Many people are also calling for Mr. Stumpf to be fired or to step down.  However, many analysts in the financial world disagree completely.  Mike Mayo, who is a banking analyst and managing director at CLSA, is one of the most highly regarded bank analysts currently in the industry.  In a note to his investors, he mentions his support for the CEO (Stumpf) is “wavering,” but he still believes in Wells Fargo as a whole.  In his interview with CNBC, Mayo had three questions for Wells Fargo:

“Why did it take so long for Wells Fargo to stop the problems? Where are the checks and balances, including from the Board of Directors? What are the repercussions?”

Mayo went on to include his desire to see salary clawbacks for the CEO and head of community banking Tolstedt.  But Mayo also insisted Wells Fargo is still a very well-managed bank, especially in terms of risk. In 9 years under John Stumpf, the stock price of Wells Fargo (WFC) has risen 20% as the average bank stock has fallen 40%, largely in part to Wells outperforming its competition in revenues, risk and return according to Mayo.  He also included how customer resistance to change plays into this aftermath of the scandal.  He mentions how customers largely will not switch from the bank, either because they do not know of the scandal or simply don’t care.  He finished by adding that as a financial event, this scandal is “not a big deal” but is indeed a big deal for public relations.  This can be seen clearly in the 10% drop in Wells Fargo’s stock price since news of the fraud became public.    

In the end, Wells Fargo’s work environment and the pressure to beat goals lead to yet another scandal on Wall Street.  The business proposition of cross-selling led Wells Fargo, along with other large banks, down this road and will undoubtedly continue to occur.  This scandal seems to be isolated to one large bank and, as Mike Mayo said, financially it is a relatively small scandal.  However, the practices and culture of large banks today allows for systematic fraud to be committed for profit, or the illusion of profit, despite regulatory practices from organizations like the Securities and Exchange Commission (SEC) and U.S. Consumer Financial Protection Bureau.