Why Wells Debacle Is Cautionary Tale for Bank Boards

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The tragic episode at Wells Fargo of revelations of unauthorized customer accounts is a cautionary tale for not just bank executives and rank-and-file workers on sales metrics and risk management culture.  Don't forget about the role of the board of directors in all of this.

The Wells story reveals three critical lessons that must not be lost on bank directors in 2016.

First, when performance appears too good to be true ("TGTBT"), it likely is. Like Mark McGwire hitting 70 home runs and Lance Armstrong winning the Tour de France seven straight times, extraordinary bank performance requires extraordinary scrutiny.

Wells Fargo's directors are not the first to learn this lesson. Every bank director in America ought to read detailed analyses of bank failures and big losses like the London Whale. What they would see is that TGTBT performance is a factor common to failure and losses.

Directors would also see repeated patterns where banks justified extraordinary performance because "this time is different" and "we're just smarter than other banks." Neither prove true over time.

Second, Wells Fargo is a case study in a systemic problem plaguing US banks: Few directors have the hands-on experience and detailed knowledge needed to govern a bank. History shows that bank directors struggle to identify TGTBT performance. Or when identified, the directors too often lack the detailed knowledge of banking to challenge management's perspective on performance.

Only one of Wells Fargo's 14 nonexecutive directors had experience in commercial banking prior to being appointed to the board. By the way, the person with the banking experience did not join the board until 2015. In contrast, the other 13 directors had an average time on the board of 11 years.

Wells' board is not alone among banks suffering from a lack of industry expertise.

Third, Wells Fargo provides another important lesson to bank directors: Never become overconfident. 

Evidence of the bank's overconfidence can be seen by the board's decision in 2010 to allow Chairman and Chief Executive Officer John Stumpf to join the board of directors of both Target and Chevron. The only way this could happen is if Wells Fargo's directors believed the bank was so well run that it did not require a full-time CEO.

Banking is a humbling business. Three decades of 3,500 bank failures and billions of dollars in operational losses should be a constant reminder that no one in the industry can ever be too confident. 

Directors of big and small banks alike should ask themselves these questions in the wake of the Wells Fargo debacle:

  • If we are growing faster than other banks, why? Could it be that our "superior" performance is not because of competitive advantage but because of imprudent tolerance for risk?
  • Does our board have the skills to govern the bank? How do we know?
  • Are we too confident? Do we understand banking cycles and the vicious punishment doled out to banks that are too confident at the wrong time in the cycle?

Success in banking breeds optimism. Optimism blinds bankers to failure. Failure follows. This is the endless cycle of banking in the U.S. Until bankers and directors are schooled in the failures of our industry, banking will remain broken and vulnerable to TGTBT.
Richard J. Parsons is the author of "Investing in Banks" and "Broke: America's Banking System."

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