Wry & Dry

So, you think that Australian banks have bad 'culture'?

Readers will have a sense of how W&D feels about banks...  He has the utmost,err, respect for them.

But readers will have noted the problems of a US bank called Wells Fargo*.  Its rampant sales culture led to fraud and cover-ups.  Sound familiar?

Wells Fargo

And now, in the week that Australia's big four bank CEOs front the House Economics Committee, Wells Fargo is in even deeper trouble with US regulators.

For the full story, W&D is pleased to use holus bolus an excellent article by Jonathon Rochford, of Narrow Road Capital, in his September email to his clients.  Jonathon has kindly given consent for its reproduction.

Regulation

With only a few months in the year to go Wells Fargo has hit the lead in the competition for the dumbest financial scandal of the year. Wells Fargo has fired 5,300 employees, 2% of its workforce, for opening over 2 million bank accounts and credit cards without client permission.

It has been hit with $180 million in fines so far, but there’s the potential for more fines as well as compensation claims by customers and former employees. 

A typical financial scandal has three components:

Firstly, a small group of people commits morally grey actions that have the potential for them to earn a large pay-off. The group should be small to limit the possibility of media and regulator attention.

Secondly, the actions shouldn’t be obviously wrong and easily proven, but rather something grey like insider trading or dealing with dubious characters via front companies.

Lastly, the actions should hold out the prospect of a large pay-off to be worthwhile compared to the risks.

The Wells Fargo scandal is so stupid as it fails all three components. 

With 5,300 employees and hundreds of thousands of customers caught up, exposure was inevitable. Systematically firing employees who call the misconduct hotline is another way to guarantee the sham is exposed, the fired employees having nothing to lose and a lot to gain by taking their grievances to the regulator.

Forging signatures on account establishment forms and charging customers for services they declined is criminal, there’s no grey area on that. But strangest of all is that Wells Fargo had no prospect of ever making a profit from the misconduct. 

Wells Fargo employees likely spent over a million hours filling out paperwork for the bank to collect a measly $2.6 million in additional fees. As well as the staff time, there’s the cost of systems, the bank statements and the cards that go with the accounts. The accounts had no money in them and the credit cards had no spending on them so there was no ability to earn net interest margin. 

The reason Wells Fargo staff went to all this effort was to meet a cross-selling goal of eight products per customer.

Why eight products? The CEO decided that number because eight rhymes with great. I understand cross-selling and the concept of increasing your share of the customer’s wallet. However, the aim should be to sell profitable products and not to just load up your customers with things they don’t want that cost you money.

The CEO and the former head of retail banking are giving up $41 million and $19 million in stock based remuneration. The CEO is likely to be fired in the coming weeks and the former head of retail banking left in July. Both will keep far more than they have given up and are arguably the least-worst off. Employees who were fired for the misconduct are suing and the whistleblowers who were fired will most likely end up being compensated, either by the regulator or by settlements with the company.

Wells Fargo has thrown away its halo, no longer able to claim that it is the honest alternative for banking. It’s also lost its place as the largest US bank by market capitalisation after its shares fell after the scandal broke.

Is it any comfort if they win the award for the dumbest financial scandal of the year? 

-   Jonathon Rochford, Narrow Road Capital Pty Ltd.

*Earlier in 2016, Wells Fargo ranked 7th on the Forbes Magazine Global 2000 list of largest public companies in the world.

Yes, Wells Fargo has its roots as the pony express company.  In 1852 Henry Wells and William G. Fargo, separately founders of American Express, formed Wells Fargo & Company to provide mail express and banking services to California.  In 1905 Wells Fargo separated its banking and mail express operations.  The mail express business was forced to merge with other express companies, including American Express, in 1918 as part of war emergency measures.