At the beginning of this week, I didn't believe that the recent revelation of a massive fraud that occurred at Wells Fargo (NYSE:WFC) from 2011 through 2015 changed the investment thesis of its stock. Since then, however, more shoes have dropped, leading me to think that maybe it does.
What did Wells Fargo do?
The facts underlying the fraud aren't in dispute. According to a third-party investigation conducted at Wells Fargo's behest, thousands of its branch employees opened as many as 2 million deposit and credit card accounts for customers who neither knew about the accounts nor authorized them. The employees even went so far as to transfer customers' money into these new accounts, causing in many cases the customers' original, authorized accounts to incur overdraft and insufficient-funds fees.
Wells Fargo nevertheless got off with little more than a slap on the wrist. Sure, it paid a $185 million fine to regulators, but that equates to a minuscule percentage of the $5.5 billion it earns each quarter. And while its consent order with the Consumer Financial Protection Bureau requires the bank to "ensure proper sales tactics" by hiring an independent consultant to "conduct a thorough review of its procedures," that's an insignificant burden for a company with Wells Fargo's resources.
The point being, there haven't been many reasons to think that Wells Fargo would be materially affected by the scam's revelation -- until now.
Two more shoes just dropped
On Tuesday, The Wall Street Journal reported that Wells Fargo has instructed its employees to stop cross-selling products, the activity that got it into trouble in the first place. A message to bank employees read: "Please suspend referrals of products or services unless requested by customers until further notice." Chairman and CEO John Stumpf confirmed this in an interview with CNBC's Jim Cramer later in the day.
This cuts to the heart of Wells Fargo's aggressive sales culture that has fueled the bank's emergence as one of the most profitable in its peer group. It's the only big bank that regularly reports its cross-sell ratio -- the number of Wells Fargo products (checking account, credit card, mortgage, etc.) its average retail customer uses. And it refers to its branches as "stores," the implication being that employees are supposed to sell things in them.
That Wells Fargo is dialing back cross-selling makes sense, of course, but that doesn't change the fact that it represents an adjustment to the bank's standard operating procedures. Assuming that this slows account openings at Wells Fargo, it could also reduce the bank's growth rate, which has obvious implications for owners of its stock.
In addition, although Wells Fargo has said that it doesn't expect any more legal actions to materialize from this, we now know that's wishful thinking.
We learned on Wednesday that federal prosecutors in New York and California are in the early stages of an investigation into the sales practices that led Wells Fargo employees to perpetrate the fraud. Not only could this prove costly, assuming a civil or criminal case is indeed brought, but it would also put pressure on the bank to take more dramatic actions -- like replacing Stumpf, who has long been considered one of the best bankers in the United States.
In sum, I certainly wouldn't urge anyone to sell their shares of Wells Fargo, as it remains one of the most prudent and efficient banks in the industry, but I also wouldn't be running out there right now and buying its stock. There may come a time in the near future when that will change, if its shares continue to fall. But we're still a long way from that.