Why Did Wells Fargo's Revenue Fall in Q3?

When Wells Fargo (WFC 1.24%) reported earnings on Friday, it served as a reminder of how deeply the bank's performance has been ravaged by last year's revelations that thousands of its employees spent years opening millions of accounts for customers without customers' approval to do so.

You didn't even need to look past Wells Fargo's top line to see the impact. Revenue at the bank fell in the three months ended Sept. 30 by approximately $400 million compared with the year-ago period, coming in at $21.9 billion.

The biggest decline was in Wells Fargo's biggest unit, its community banking segment. This is also the unit that was responsible for the sales scandal, as it contains the bank's branch operations. Revenue in the unit dropped by 2.6%, or $327 million.

Data source: Wells Fargo. *Wells Fargo's non-operating unit "Other" reported negative revenue of $1.5 billion. 

Wells Fargo's wholesale banking segment also experienced a revenue decline, though of a smaller magnitude. It generated $7.1 billion in net revenue for the quarter, a 0.9% drop from the third quarter of last year.

The only business unit at Wells Fargo that saw its top line increase was its wealth and investment management division, which also happens to be its smallest. It saw revenue increase by 3.6%, or $147 million, buoyed by higher net interest income, asset-based fees, and gains on deferred compensation plan investments.

Given that Wells Fargo's community bank saw the biggest drop in revenue and was also the locus of its sales scandal, it's tempting to think that the two are related. And, in fact, I suspect they are.

I say that because Wells Fargo has seen a sharp drop in new checking and credit card account openings in the wake of the scandal. At one point, the two figures were trending lower on an annual basis by more than 40%.

The Wells Fargo building towers over downtown Denver, Colorado. Image source: Getty Images.

The impetus for the decline in new account openings was Wells Fargo's essentially involuntary decision to eliminate sales quotas and change the incentive compensation structure for branch-based employees. The move will help the San Francisco-based bank avoid similar incidents in the future, but it also cuts to the heart of the bank's once-revered secret sauce -- a high cross-sale ratio.

Nevertheless, in Wells Fargo's earnings release, the bank attributes the drop in revenue in its community bank to other forces: A gain on the sale of a loan portfolio in the prior quarter as well as lower mortgage banking revenue. If you read closely, however, the comparison that Wells Fargo makes is to the second quarter of this year, as opposed to the third quarter of last year. This minimizes the top-line decline because both quarters were weighed down by the scandal, whereas the year-ago quarter largely wasn't.

In sum, while it tends to take a year to 18 months for a scandal like this to wash over, the continued drag on Wells Fargo's performance suggests that a dark cloud continues to loom over the bank.