board-of-directorsAt least he fessed up that it was not the (non) rogue 5,300 employees that were responsible for defrauding Wells Fargo customers. At the Senate Banking Committee hearing, held on Tuesday 20th September, Wells Fargo Chief Executive Officer (CEO) John Stumpf admitted that he was responsible for the failure. (He did, of course, claim he was either misquoted or simply misinterpreted.) As much as I was pleased he owned up to being a leader, I was more than a little bemused when Stumpf admitted that he had known about the scandal since 2013 and the company’s Board of Director’s had known about it since 2014. One might reasonably ask what they did in the intervening two years to stop the illegal activity and remediate? Of course, Wells Fargo has not even suspended the sales compensation plan which led to this fiasco, keeping it open until the end of the year so I guess things move more slowly in the banking sector than in non-financial industries.

As I continue to mine the Wells Fargo scandal for lessons to be learned by the compliance professional, today I want to consider the roles of senior management, a Board of Directors and corporate governance. Unfortunately for Stumpf, it appears his cultural leadership of cross-selling; more cross-selling; and then even greater cross-selling of the bank’s products and services to customers, whether wanted or needed, was in large part the reason for the scandal. Of course, with some 255,000 employees, Stumpf can simply claim (and did) that he cannot be responsible for them all.

This typical CEO misdirection was answered by Susan M. Ochs, in a New York Times (NYT) Op-Ed piece, entitled “At Banks, the Buck Stops Short”, when she articulated three reasons why senior management should be held accountable. First, “illicit behavior involving thousands of people and two million fraudulent accounts cannot be dismissed as the work of a few bad apples”. Second, the systemic Wells Fargo’s “problems here stemmed from “cross-selling” — soliciting customers to buy multiple products — which Wells Fargo has promoted as the cornerstone of its retail business model” and what Stumpf was pushing, pushing, pushing. Third, and finally, having been made aware of the problem, it was on senior management to then prevent further illegal activity and remediate the issues.

Yet the overriding function of senior management is to establish the corporate culture. Even if there were three years of culture and ethics training not to break the law; if an employee’s supervisor was on the back of an employee each afternoon at 3 PM asking about the number of cross-selling calls made that day or your job is on the line, the message is clear. Culture means more than having a robust paper Code of Conduct or even saying we do business the right way; it means you must burn those values into your company. Not that you will be fired for missing your monthly sales quotas.

Ochs wrote, “Culture can feel amorphous, and it is always tempting to blame the systems; they are more tangible and easier to deconstruct. But the impact of corporate culture cannot be overstated. For example, sales targets exist in many industries — the key is how they are met. Intimidation, public shaming and micromanagement — as alleged by Wells Fargo employees — will create a culture of fear in which people think they must deliver at any cost.”

What about the Board? They are far from blameless in this fiasco as well. It turns out they were informed about the illegal activity back in 2014. Although you might wonder why it took CEO Stumpf one year to inform the Board? What did the Board do when it was informed of this issue? Where were the Board’s actions to protect its shareholders? Where was the Board’s audit committee?

These questions have not been answered, as yet, but one thing is certain, the once solid reputation of Wells Fargo now lays in shreds. This reputational risk is the province of the Board and as noted in a Financial Times (FT) lead Op-Ed Piece, entitled “The high cost of Wells Fargo’s sales practices, this matter has demonstrated that “trust is the most precious currency in banking. Without it the system is prone to dry up, with dire consequences for institutions and to the detriment of the public.” The FT piece ended with the following, “Confidence in banking requires boards to accept their responsibilities.”

Interestingly, one of the reasons for the seeming Board inertia is that Wells Fargo’s Board of Directors is older and longer-tenured than other US banks. Could this have played into its seeming inertia when it came to this scandal or simply the fact that the monies generated by the fraud were so small and certainly not material to a $50bn plus sized organization? In another FT piece, entitled “Wells scandal stiffens resolve to end board inertia”, reporters Stephen Foley and Alistair Gray noted, “Wells has some of the oldest and long-serving directors among 17 US banks with more than $100bn in assets” with the tenure of director at 9.7 years and an average age of 64.5 years old.

Another concern raised in the FT piece was that there is one person in both the CEO role and the Chairman of the Board role. One shareholder activist, Gerald Armstrong, said he planned to “resubmit a proposal for an independent chairman at the bank’s annual meeting next spring.” Armstrong, as quoted in the article, said “How can they argue against my proposal now? Where is the board? Where is the audit committee of the board? It appears they go to the meetings, pick up their cheques and they go home.” As CEO Stumpf was also the Chairman of the Board, it might reasonably be asked if the relationship was too cozy and it might well be time to consider Armstrong’s proposal.

The most pressing issue will be of clawbacks. In an article in a Wall Street Journal (WSJ), entitled “Wells Fargo Board Comes Under Fire”, Michael Rapoport and Joann S. Lublin reported that Senate Banking Committee members were very critical of the Wells Fargo Board of Directors. But more than the theater of any major Congressional hearing, investors also expressed frustration that the bank has not “moved aggressively” to remediate the problems at issue. The article noted, “In particular, the board’s oversight of the bank’s compensation is under fire because of an incentive-pay structure that fueled the scandal by rewarding employees for selling more products to existing customers. Some think the board should have realized the bank’s pay incentives would lead to misbehavior.” Jill Fisch, a University of Pennsylvania law professor, was quoted for the following, “You might say the board of directors should have been sensitive to how the compensation structure might have induced them to behave that way.”

In his Senate testimony, Stumpf demurred on questions relating to salary and compensation clawbacks for executives saying that was for the Board to decide. However, with the now former head of the consumer banking group due to retire with a package estimated to be worth up to $127MM, it is clearly a very large question. It is also one of optics, with, at this point, seemingly low level hourly workers terminated over the scandal and no executives terminated, sanctioned or in any manner disciplined. In this Senate testimony, Stumpf could not name one executive who had been in any way disciplined or terminated over this scandal.

Whether you consider Senate hearing political theater or simply theater, John Stumpf and Wells Fargo did not come out looking very good.


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© Thomas R. Fox, 2016