Compliance Lessons for Executive Leadership from The Wells Fargo Investigation Report

by Thomas Fox
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Thomas Fox - Compliance Evangelist

Introduction

The Independent Directors of the Board of Wells Fargo & Company Sales Practices Investigation Report was issued on April 10, 2017. It is truly one of the most damning reports of complete corporate failures around ethics and culture that has recently been seen. The report leaves aside the company’s current policy of fighting tooth and nail whistleblower awards, so that issue aside, the report is unsparing for every group at the company. Yet buried with the 110 pages are numerous lessons for the compliance practitioner which I will be exploring over the next few days. Today, I will present the executive summary of the report and then discuss the failure in the corporate functions which caused or contributed the catastrophic failure. 

...one of the most damning reports of complete corporate failures around ethics and culture that has recently been seen.

The internal investigation was headed by the law firm of Shearman & Sterling LLP, who were assisted by FTI Consulting, Inc. (FTI). The principal findings were “the root cause of sales practice failures was the distortion of the Community Bank’s sales culture and performance management system, which, when combined with aggressive sales management, created pressure on employees to sell unwanted or unneeded products to customers and, in some cases, to open unauthorized accounts. Wells Fargo’s decentralized corporate structure gave too much autonomy to the Community Bank’s senior leadership, who were unwilling to change the sales model or even recognize it as the root cause of the problem. Community Bank leadership resisted and impeded outside scrutiny or oversight and, when forced to report, minimized the scale and nature of the problem.”

However, with any catastrophic failure, there were numerous other control and human failures leading to the fraud. John Stumpf, the former Chief Executive Officer (CEO), “was too slow to investigate or critically challenge sales practices in the Community Bank. He also failed to appreciate the seriousness of the problem and the substantial reputational risk to Wells Fargo.” There was also a catastrophic failure of the company’s control functions, specifically Human Resources (HR), internal audit and legal. They all apparently had one response to the knowledge something was very wrong: Not My Job!

The decentralized structure of the organization led to a silo mentality. However, it was not around data and information where this silo effect was so detrimental but the deference given the business units. The report went on to state, “a transactional approach to problem-solving obscured their view of the broader context. As a result, they missed opportunities to analyze, size and escalate sales practice issues.” Moreover, this decentralized nature led to a conflict between the business unit which engaged in fraud, Wells Fargo’s Community Bank group and the company’s self-espoused cultural values of not breaking the law. 

Everyone Knew About the Fraudulent Sales

One of the most troubling revelations from the report was that the fraud engaged by the bank did not begin in the 2009-time frame but much earlier, as far back as 2002. The culture in the Community Bank group, headed by now disgraced former bank officer Carrie Tolstedt, to tolerate not only any dissent but even anyone raising questions about the number of bank employees who were caught opening fraudulent accounts and were terminated for their troubles to meet the sales goals. The report stated, “Tolstedt and certain of her inner circle were insular and defensive and did not like to be challenged or hear negative information. Even senior leaders within the Community Bank were frequently afraid of or discouraged from airing contrary views. Tolstedt effectively challenged and resisted scrutiny both from within and outside the Community Bank.” 

Worse for Wells Fargo was that Tolstedt felt empowered and invulnerable enough to outright lie to the Board of Directors as to the scope of the problem. The report stated, with considerable lawyer-speak understatement, Tolstedt’s “written and oral presentations made to the Risk Committee in May 2015 and to the full Board in October 2015 were inadequate.” She even managed to dissemble to the entire Board, as the report noted, “A subsequent report to the entire Board by Tolstedt in October 2015 was widely viewed by directors as having minimized and understated problems at the Community Bank.”

In an amazing admission, the Board was not aware that over 5,300 employees had been terminated for engaging in fraud. The Board was told as late as mid-2016, the number of Wells Fargo employees terminated was under 3,000 and it was not until September 8, 2016 “through settlements with the Consumer Financial Protection Bureau (the “CFPB”), the Office of the Comptroller of the Currency (“OCC”) and the Los Angeles City Attorney, the Board learned for the first time that approximately 5,300 Wells Fargo employees had been terminated for sales practice violations between January 1, 2011, and March 7, 2016.”

There was a corporate culture in the Community Bank group that run absolutely amok. There was no person in that business unit who could or did stand up and say something is wrong here. Indeed, it now appears the business unit was able to effectively circle the wagons and engage in a massive fraud for over 10 years with no person or group within the company investigating the issue of the creation of fraudulent accounts. 

...the business unit was able to effectively circle the wagons and engage in a massive fraud for over 10 years...

One name not mentioned was that of Wells Fargo’s Chief Compliance Officer (CCO), Yvette Hollingsworth Clark. Although perhaps not too surprising given the widespread nature of the fraud and the apparent lack of ability and will to do anything about it. I did find one fact quite telling about how Wells Fargo viewed compliance. On her LinkedIn profile, Clark says she “Direct(s) the enterprise-wide regulatory compliance framework for diversified financial services company with 42 global locations and $1.9 trillion in assets.” To accomplish such a lofty goal, Ms. Clark has a compliance department of seven direct reports. I wonder how the Department of Justice (DOJ) would view that commitment to a culture of compliance?

Cultural Failures

Another interesting facet was the interconnectedness of the Wells Fargo control failures. For the bank, it all started with the decentralized nature of the business units and the control functions which grew up to provide the support for them. The fraudulent conduct engaged in by Wells Fargo was euphemistically called “sales integrity” by the bank and that language was carried over into the investigative report. This decentralized nature did not allow HR to have visibility into the scope and nature of the fraud. This was despite the fact, “Almost all sales integrity cases and issues touched upon some facet of the HR function, including with respect to employee terminations, hiring, training, coaching, discipline, incentive compensation, performance management, turnover, morale, work environment, claims and litigations.” Yet, even within the HR function there was no effort to track or report on the fraud issues. 

The second general issue was the deference given to the business units. Of course, the Community Bank unit was making tons of profit for the company but I am sure that had nothing to do with the fact the entire company seemed to employ an ostrich as its symbol. But it was even worse, as the Report noted, “This culture of deference was particularly powerful in this instance since Tolstedt was respected for her historical success at the Community Bank, was perceived to have strong support from the CEO and was notoriously resistant to outside intervention and oversight.”

Finally, was the ‘transactional’ approach to each issue around the fraud. Every control function managed to focus “on the specific employee complaint or individual lawsuit that was before them, missing opportunities to put them together in a way that might have revealed sales practice problems to be more significant and systemic than was appreciated.” The Report specified that HR had all the relevant information but failed to connect the dots. More pointedly, you cannot connect the dots if you are not looking to do so. 

The problem at HR was two-fold. The first was that corporate HR had no oversight into problems of sales fraud because it had no oversight into the business unit. The Report stated that Community Bank “was not accustomed to involving Corporate HR in its discussions and decisions and was generally protective and defensive in keeping control of HR-related activities within the line of business.” The business unit controlled or cowed the Community Bank HR, even though the business unit HR was well aware of the sales fraud issues, from as far back as 2002 and “participated in efforts to stem the sales practices.” Yet during this entire period they never had the authority or resolve to do anything.

Internal Investigations was also aware of the sales fraud, apparently as far back as 2002. At least Internal Audit (IA) was not cowed by its reporting to the business unit. IA reported to various corporate functions including Audit, corporate HR and corporate Risk. Rather amazingly in 2004, “Internal Investigations was involved in the work of a sales integrity investigations task force, which also included representatives of Community Bank HR, Community Bank management and the Law Department.” Internal Investigations called termed the fraudulent sales practices “gaming” and they prepared a report around their findings. The Internal Investigations report pointed to unrealistic sales goals and that employees felt they could not meet the goals without gaming the system. Presciently, the report “warned of the reputational risks for Wells Fargo, specifically, “[i]f customers believe that Wells Fargo team members are not conducting business in an appropriate and ethical manner, it will result in loss of business and can lead to diminished reputation in the community.”” Recall this Internal Investigations report was issued in 2004. 

The report also specified there was an “incentive to cheat based on the fear of losing their jobs for not meeting performance expectations.” Internal Investigations also identified another data point which was disregarding. Demonstrating how the bank viewed terminated and departed employees, the company actively fought ex-employee attempts to obtain state of California employment benefits. The Internal Investigations report stated, “Wells Fargo had been losing unemployment insurance cases involving sales integrity terminations, in which judges “made disparaging comments” about the sales incentive system.” Finally, the report even benchmarked competitors which “significantly reduced their sales incentive employee terminations after revising their sales incentive programs.” The report ended by recommending “that Wells Fargo consider similarly reducing or eliminating sales goals for employees and removing the threat of employee termination if goals were not met.”

Internal Investigations did not fail as a control but when their report was forwarded to the then head of the unit, the Chief Auditor, he buried it. While he did report raw numbers to more senior management, he did not include any information on the root cause of the problem. Think about this final point in the context of the Department of Justice’s (DOJ) recently released Evaluation of Corporate Compliance Programs and its emphasis on root cause analyses. 

IA comes in for discussion as this corporate function was (1) well aware of the problem, (2) did not believe it to be “an urgent problem” requiring IA to do anything, and most amazingly (3) thought the internal controls in place were working as they were turning up problems which were not the problem of IA to address. IA viewed controls as detect only, not to prevent or provide data to remediate. 

The Report stated, “Audit witnesses also said that, as the third line of defense, Audit’s job was to ensure that the control environment established by the first (business) and second (Risk) lines of defense was appropriate. Audit personnel indicated that their focus was on testing the operation of specific processes and the processes’ effectiveness at managing the risks they were designed to control, but that they did not generally investigate root causes of risks; according to the witnesses, that task rests with the business, which they said has greater familiarity with the risk environment, better access to operational data and both proximity to and responsibility for its employees’ actions.”

If it seems like the inmates were running the asylum, remember those folks over in the Community Bank business unit were making money hand over fist for the bank. But the Report also demonstrates the interconnectedness of not only the sales fraud but its actual knowledge by multiple corporate functions with Wells Fargo. As none of these functions took responsibility for doing anything it appears the true culture of the bank was NMP as in Not My Problem.

Legal Department Failures

The legal department suffered from the same decentralization as the other corporate control functions. As the Report noted, the law department had three periods of involvement with the fraudulent sales issue. The first, prior to 2013, related to “the Employment Law Section of the Enterprise Services Division encountered sales integrity issues as they worked with Human Resources personnel on terminations”. The second was between the LA Times expose in 2013 and Los Angeles country’s lawsuit against the bank in May 2015. The third was post lawsuit filing, “Litigation & Workout Division of the Law Department attempted to assess and manage Well Fargo’s exposure, including by engaging PwC to quantify the scope of the issues in terms of customer harm and potential damages.”

In the period up to mid-2013, the legal department work with the Human Resources (HR) group in “an advisory capacity in investigations, decisions regarding terminations and discussions regarding the application of Wells Fargo’s fidelity bond’s proscription against “dishonest acts.”” While the law department was not brought into to every termination, the group was part of cross-functional teams “set up to address sales integrity issues, and, in that context, lawyers identified and conveyed concerns about “reputational risk” to the Section head.” Later, groups in which law department personnel participated included one around the banks’ fidelity bond, obviously impacted by the fraudulent sales issue (which was at one time called ‘gaming’). The Report noted, “task force decided to “better educate our team members about gaming … and then hold them strictly accountable.” Its work led to the roll out of a new sales integrity training program and a reaffirmed understanding that manipulation and dishonesty were inconsistent with Wells Fargo’s core values, and compromised Wells Fargo’s integrity as an institution entrusted with its customers’ assets.”

In 2011, another “recurrence of sales integrity events led employment lawyers to recognize sales pressure in the Community Bank environment as a root cause of gaming cases. Lawyers in the Employment Law Section and the Deputy General Counsel responsible for the Section also began to recognize the existence of significant reputational risk to Wells Fargo arising out of sales integrity issues, particularly mass gaming cases.” Another bank task force was convened to review the sales integrity issue. The Report stated, “Again in this context, members of the Law Department recognized reputational concerns.” Think about this sentence for a minute, even the lawyers recognized the reputational risk. 

In the period between publication of the LA Times exposure on the fraudulent accounts and the City of Los Angeles lawsuit, the legal department “conveyed to the Risk Committee and the Board in 2014 as a ‘noteworthy risk’” but for some reason the legal department did not identify legal risks to the bank, including, “a cascade of civil litigation, regulatory action from a host of federal and state agencies and the resulting serious harm to Wells Fargo’s reputation.” However, the information was so damaging that the Bank’s General Counsel (GC) was briefed, together with the Bank’s Chief Risk Officer (CRO). Yet after this briefing the GC did not escalate the issue any further. 

After the City of Los Angeles filed its lawsuit, the legal department did what legal departments are best at, it went into full defensive mode and circled the wagons to defend the company. The Report stated, “The Law Department’s focus was principally on quantifiable monetary costs — damages, fines, penalties, restitution.” Yet even in its tradition role, the Wells Fargo legal department dropped the ball as it was confident the litigation costs and any attendant fines and penalties “would be relatively modest”. The bottom line was “the Law Department did not appreciate that sales integrity issues reflected a systemic breakdown in Wells Fargo’s culture and values and an ongoing failure to correct the widespread breaches of trust in the misuse of customers’ personal data and financial information.” 

As bad as the legal department’s failures were, it was Wells Fargo’s corporate risk function which had the greatest control failure for this group and housed the company’s compliance function. Yet up until 2007, this group “focused on AML/BSA compliance and compliance with consumer credit, home mortgage disclosure and other laws. Integrity was not within its remit. The CRO added compliance to his remit in 2010 but the report noted, “The CRO did not have any line authority or directive power to enforce changes on the lines of business. He could, and did, try to exercise his influence to encourage the businesses to address risk issues and to air them more broadly within the bank.” He could only “escalate issues.” This denuded compliance function reached down into the group role of risk at the Community Bank group who did not feel their job was to address integrity issues. 

To emphasize the extent that the group compliance function was worse than toothless, the Report noted that the when the CRO was told about the “high sales pressure” that led to the sales integrity issue the CRO passed this information to the group’s compliance representative; that compliance representative was told to “toe the line” and not to speak to the CRO. Who made that demand? Community Bank head Carrie Tolstedt. After the LA Times story, Tolstedt even criticized the compliance function for attempting to get internal information on the sales practices. 

Even after the LA Times story and City of Los Angeles lawsuit, the compliance function, embedded within corporate risk, was “hampered to some extent by the absence of a formal governance structure for exercising oversight.” In other words, because their charter did not allow them compliance oversight, individual business units such as Community Bank and its overseer, Tolstedt, could simply refuse to cooperate with it going forward. 

Lessons Learned

There are multiple lessons for every CCO, compliance professional, Board of Directors, compliance committee, compliance department and Executive Leadership Team (ELT) from the Wells Fargo fraud and this Report. The first lesson is that everything is tied together. The Department of Justice (DOJ) Evaluation of Corporate Compliance Programs focused on the operationalization of compliance. Wells Fargo is the flip side, there was no operationalization of compliance. But more than simply not being in burned into the fabric of the organization, the structure of the company did not allow compliance to even see into the bank’s illegal practices. A decentralized corporate structure can and does work for many businesses, yet it must have control oversight, which was clearly not present at Wells Fargo. If a corporate structure is so unwieldy that compliance cannot have oversight the simple fact is the structure must be tightened up. 

...everything is tied together.

The Wells Fargo fiasco should end (yet again) once and for all time who a CCO should report to. They must report directly to the Board of Directors. The Wells Fargo law department and HR functions, the two corporate functions with the most knowledge of the negative impacts of the high pressure sales requirements which led to the illegal tactics, did not view it as their role to bring up integrity or even culture issues. Remember the Wells Fargo legal department identified the reputational risk to the bank from the high number of litigation, unemployment claims and ancillary legal issues. Yet the CRO did nothing about it when he was briefed on it. When the City of Los Angeles filed its lawsuit, the legal department did what legal departments do, they circled the wagons to defend the company. A legal department does not exist to prevent, detect and remediate. It exists to protect the entity from all attacks; even if those attacks are merited. 

The corporate compliance function must be given a governance charter which allows it to provide oversight and the ability to prevent, detect and remediate illegal and unethical conduct. The compliance function cannot be over-ridden by a business unit head who tells the group compliance representative not to speak with the head of the compliance function. 

There are many other lessons to be learned from this matter and actions Wells Fargo can take to remediate its culture, structure and values; all of which led to the illegal conduct. However, some of the issues I have explored recently should provide insight to a CCO or compliance practitioner on how to move forward to structure the compliance function and inculcate their compliance program into a company. 

DISCLAIMER: Because of the generality of this update, the information provided herein may not be applicable in all situations and should not be acted upon without specific legal advice based on particular situations.

© Thomas Fox, Compliance Evangelist | Attorney Advertising

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  • HubSpot - For more information about HubSpot cookies, please visit legal.hubspot.com/privacy-policy.
  • New Relic - For more information on New Relic cookies, please visit www.newrelic.com/privacy.
  • Google Analytics - For more information on Google Analytics cookies, visit www.google.com/policies. To opt-out of being tracked by Google Analytics across all websites visit http://tools.google.com/dlpage/gaoptout. This will allow you to download and install a Google Analytics cookie-free web browser.

Facebook, Twitter and other Social Network Cookies. Our content pages allow you to share content appearing on our Website and Services to your social media accounts through the "Like," "Tweet," or similar buttons displayed on such pages. To accomplish this Service, we embed code that such third party social networks provide and that we do not control. These buttons know that you are logged in to your social network account and therefore such social networks could also know that you are viewing the JD Supra Website.

Controlling and Deleting Cookies

If you would like to change how a browser uses cookies, including blocking or deleting cookies from the JD Supra Website and Services you can do so by changing the settings in your web browser. To control cookies, most browsers allow you to either accept or reject all cookies, only accept certain types of cookies, or prompt you every time a site wishes to save a cookie. It's also easy to delete cookies that are already saved on your device by a browser.

The processes for controlling and deleting cookies vary depending on which browser you use. To find out how to do so with a particular browser, you can use your browser's "Help" function or alternatively, you can visit http://www.aboutcookies.org which explains, step-by-step, how to control and delete cookies in most browsers.

Updates to This Policy

We may update this cookie policy and our Privacy Policy from time-to-time, particularly as technology changes. You can always check this page for the latest version. We may also notify you of changes to our privacy policy by email.

Contacting JD Supra

If you have any questions about how we use cookies and other tracking technologies, please contact us at: privacy@jdsupra.com.

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