During the last decade, Wells Fargo (NYSE:WFC) has emerged as one of the most powerful companies in America. Not only has it more than doubled in size since the financial crisis, thanks principally to its 2008 acquisition of Wachovia, but it's also built one of the most robust competitive advantages in the banking industry.
Wells Fargo's strength is grounded first and foremost in a long-demonstrated culture of prudence and thrift known as the "Wells way." While many of its competitors doubled down on subprime mortgages in the lead-up to the crisis of 2008-2009, Wells Fargo chose to cede market share in its bread-and-butter mortgage business rather than succumb to the siren song of short-term profits. And while its competitors built multibillion-dollar skyscrapers in cities across the country, the California-based bank refused to update the long-dated decor in its executive suite.
More important than these critical advantages, however, are the systems that Wells Fargo developed to not only retain customers, but to sell them additional products. "Systems have to be capable of aggregating products and profitability by customer so you know what more to sell to them and what better deals you can give them to incent them to give you more business," the bank's one-time chairman and CEO Richard Kovacevich told former FDIC chairman William Isaac in a 2011 interview.
This emphasis on cross-selling is based on Wells Fargo's philosophy that "money never declines, it just moves." When interest rates go up, for instance, depositors tend to draw down their balances in noninterest-paying checking accounts. But by offering a menu of higher-yielding alternatives, the nation's fourth-largest bank by assets is able to keep those funds within the confines of its holding company.
An additional advantage to cross-selling is that it diversifies Wells Fargo's revenue stream away from originating loans. The net result is to lower the bank's overall risk profile. "If you're only a lender, the only way you grow is by making more loans," said Kovacevich. "But as you do that, you are increasing your risk and your concentration."
Finally, in terms of the cross-selling process itself, cost advantages inevitably emerge along the way, which can then be translated into a pricing advantage for Wells Fargo's products vis-a-vis competitors. As Kovacevich explained:
The cost of selling an incremental product to an existing customer is about 10% of the cost of selling that same product to a new customer. Isn't that intuitive and obvious? You don't open up a new account. You don't advertise. You don't take other risks.
Because the margin is so high, you can actually give some of that margin back to the customer. You can say to the customer: "If you bring over your Treasury management product, your business or personal insurance, your credit card, your 401(k) or whatever, I'm going to give you a better deal than the competitor who is selling you only one product because of the 10% cost versus that 100% cost." So you have the Walmart phenomenon.
The point here is that Wells Fargo has developed a powerful but understated competitive advantage that, absent unforced errors, will help it generate industry-leading returns for years, if not decades, to come.