The Wells Fargo Fraud Fallout Continues to Get Uglier

A full transcript follows the video.

Editor's note: Ms. Tolstedt was accidentally referred to as Carol. Her first name is Carrie.

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This podcast was recorded on September 20, 2016.

Chris Hill: It's Tuesday, September 20th. Welcome to MarketFoolery. I'm Chris Hill. Joining me in the studio today from Motley Fool, one Mr. Ron Gross. Thanks for being here.

Ron Gross: Thank you. Thanks for having me.

Hill: Whatever questions I'm going to ask you...

Gross: I don't know why I'm laughing already.

Hill: ...are going to be so much easier for you to handle than the questions that are happening right now...

Gross: Have you listened to that?

Hill: ...across the river, because as we speak, Wells Fargo CEO and chairman John Stumpf is testifying before the U.S. Senate banking committee. You know how people say there's gridlock in Washington, D.C.?

Gross: Yeah.

Hill: People say, "The Republicans and Democrats, they just can't get together on anything." Let me tell you...

Gross: They're together?

Hill: ...they are united in this hearing.

Gross: He's having a bad day, perhaps appropriately, but he's having a bad day.

Hill: I think it's appropriate, and they are taking this guy out for a ride.

Gross: Yeah. Pretty brutal. Elizabeth Warren is not shy, as are many of her colleagues, and I'm hearing words like "You should be personally prosecuted" and "This is criminal behavior." Clearly, he's getting skewered, but as we said, perhaps appropriately. This is a big deal. The fines didn't really even speak to the level of perhaps distrust or the feeling of...they misused the trust, perhaps you would say, of investors.

Stumpf came out today, and he said all the things that you have to say, right? He did apologize. I believe he used the words "deeply sorry," and they failed to fulfill their responsibilities to customers, wanted to make it very clear that this was not an orchestrated effort. This did not come from the top. This is not the culture of Wells Fargo, although then he did say the corporate culture will change, because at the lower levels, or in the business units, clearly something has gone awry.

Whether you think this is a from the top down corporate problem really would probably speak to whether you want to own this stock or not at this point. As we know, Warren Buffett is a huge shareholder and speaks about integrity really being above all else, so it'd be interesting to get into his head right about now.

Hill: We're going to get to Buffett. Don't worry. We're going to get to Buffett. So, a couple of things. One is that when, and this is just a procedural thing, but when someone testifies on Capitol Hill, they submit prepared testimony ahead of time, so Stumpf is getting these questions, but he also has his own prepared statement, and that got released to the media -- either late last night or sometime this morning.

Gross: Mm-hmm [affirmative], yeah.

Hill: So if you look at an intradate chart of Wells Fargo, you see at the open of today's market, the stock is up about two-and-a-half percent, just based on, "Well, here's his prepared statement. He's going to apologize"...

Gross: Mea culpa.

Hill: ...all that stuff. "This is good. This is beginning to put them behind...This is the beginning of putting this whole mess behind him and the company." Then, look at the chart as the hearing goes on, and the stock just continues to go down. It's not falling off a cliff, but it's clear. You mentioned Elizabeth Warren, and you're right. She came out...

Gross: She's tough.

Hill: She's tough. She's very smart, she's very tough, and she's tough on the big banks. Richard Shelby is the Republican chairman of the banking committee. He is relatively friendly to the big banks on Wall Street, and I watched his...

Gross: Not today.

Hill: ...and I watched his opening statement, and that was the moment for me. You knew that Elizabeth Warren was going to be tough. When Richard Shelby, the Republican chairman, made his opening statement, that's when I thought, "Oh, Stumpf is in for a bad day."

Gross: Yeah, I think people really feel let down, here, because Wells Fargo was supposed to really be a cut above, and as we said, that's why Warren Buffett likes them, besides the business model, as well. So people feel a bit betrayed, here. They're going to eliminate the problems. They're going to eliminate the product sales goals in their retail banking sector, which they have to. They're actually going back now later in time to see if this is worse than perhaps they originally expected. We don't know what they'll find. The Justice Department is looking into this. I believe there are subpoenas issued. They could prosecute if a real fraud was here from a systemic point of view.

I mean, we've been saying it for a couple of weeks now. Originally, it didn't seem like this was going to be a big deal, because that fine wasn't that big.

Hill: Right.

Gross: ...and the amount of employees laid off was a lot of people, but it was a small percentage of their overall employee base, but this seems to be rolling downhill and picking up steam. It probably won't go away for a little bit.

Hill: I want to get to the stock in a second, but first I have to call out something that I'm sure is going to be all over the news tonight and tomorrow, if it's not already. Did you catch this little thing about how the goal for the salespeople was to get clients into eight separate accounts? Did you see why?

Gross: No.

Hill: Because "eight" rhymes with "great."

Gross: Come on.

Hill: That was part of the sales manifesto at Wells Fargo.

Gross: Yeah, I have seen employees come out and say, "Listen, the goals set for us were unrealistic and therefore we had to commit fraud to hit them," which, that's never a good reason.

Hill: So we say that the market hates uncertainty, and the reason we say that is because it is, by and large, true. When you think about Wells Fargo's shares, we've already touched on the uncertainty of a Justice Department investigation. There's certainly...Part and parcel with that is how much longer does this go on? You mentioned that originally, they had come out and said this goes back to 2011. Now, Wells Fargo says they're going to expand their internal probe back to 2009, which is just delightful to think that this might have been going on during the Great Recession.

Gross: Delightful.

Hill: Then, there's the question of Stumpf.

Gross: Yeah.

Hill: He is the chairman. He's been the chairman since 2010. He's been the CEO since 2007. Does he stay on as both? Does he split one off? The guy made $20 million last year. I feel like if I was his own political advisor, I would say, "Dude, just pick the job you want."

Gross: Would you call him "dude"?

Hill: Yeah, maybe. I feel like in those moments...

Gross: Yeah, OK.

Hill: Here's the thing. Everybody needs someone in their life to pull them aside...

Gross: Close the door, say, "Listen."

Hill: Close the door and say, "Listen." I don't know who that is for Stumpf, but if I were that guy, I would say, "Listen. You gotta, at a minimum, drop one of your two jobs."

Gross: I think that's fair. I obviously do not have a crystal ball. I wish I would. I hear they're fantastic. But I don't know. If he stays on as CEO, I could definitely see shareholders calling for the split of the chairman-CEO role, which really should be split anyway from a good corporate governance perspective. But I do think he stays. We've already seen earlier in the year, really the head of this unit going to retire who is going to escape with a nice $125 million parachute by the way.

Hill: Yes.

Gross: ...which I think shareholders are not too happy about. We'll see if that gets clawed back in any way. Early indications are that it won't, but we'll see how much pressure...

Hill: Is it Carol Toldstead? Is that her name?

Gross: I think Carol is right.

Hill: I don't know why the Senate banking committee hasn't called her, although I saw that she had been called by the House banking committee, so who knows? They may be playing this up with her.

Gross: We'll see if that humongous number stays intact. We don't know, but I wouldn't be surprised if, certainly as part of this corporate kind of putting the spotlight on corporate culture, if changes are made, whether people being reassigned or resignations or firings, but there certainly will be changes to signal to investors that, "We are taking this seriously."

Hill: Let's wrap up Wells Fargo with Mr. Buffett. Wells Fargo is one of his big four.

Gross: Yeah.

Hill: Berkshire Hathaway owns about 10% of this company. Where is he?

Gross: Silent.

Hill: Why is he silent on this?

Gross: My immediate, knee-jerk reaction is because he's using this weakness to buy more stock because he believes in this company, he believes in the CEO and he's a long-term investor. He thinks this, too, shall pass. However, if it was...the part that makes me unsure of that statement is the fact that we have integrity, here, involved in this scandal, and he values integrity above all else.

I'm a little bit unsure there, but if I had to bet, I would say he'll use this weakness, stock's down 15% year to date, 8% over the last week or two. Stock's trading 11 times. It's historically a cheap valuation for Wells Fargo, hard to get it at that value. This could be an opportunity if you believe in the long-term future of Wells Fargo and that they're going to do right by investors.

Hill: But part of the bold case for this stock has been, "Gosh, these people are so great at cross-selling," and now we see that is fueled, at least in part, by fraud, so to me that...You may be right, and we've certainly seen after the fact Buffett be opportunistic with companies that he owns, buying more shares as they drop, but to the integrity thing...This is the situation where, famously, when he took a stake in Solomon Brothers, he said to them, "If you lose money for the firm, I'll understand. If you lose a shred of reputation, I will be ruthless." If he's being ruthless, he's being damn quiet about it.

Gross: Yeah, he actually could be selling the stock, too, and is being quiet about that. Integrity, I think, is the most important thing here. I don't think it affected the numbers that much. I don't see anything about restatements. I've heard quotes that this actually was not a revenue-generating activity, but was more about the employees trying to hang onto their jobs, to meet their numbers, and by meeting their numbers, I don't think it actually impacted the overall financials of the company. If we see restatements, that would be a whole other thing that we'd have to get back here and talk about, but only Warren Buffett knows what he's doing, and I'm more curious than most.

Hill: Here's what I'm hoping. I'm hoping that we find out, whether it's weeks or months from now, that one of the following two things has happened. One is...because this is what I would be tempted to do if I were Buffett, but then again, that's why I'm not Buffett. That's one of the many reasons I'm not Buffett because I'm clearly more emotional in this situation than he is. But I like to think that at some point, he calls Stumpf on the phone and reads him the Riot Act, and/or, we find out either with the annual filing next spring or with an upcoming quarterly, that he has sold off some percentage because it makes up a huge...

I'm not saying dump half of their holding. They can afford to sell off just a little bit of it just as a little bit of a warning shot across the bow and the classic thing that always worked with our fathers, which is disappointment. Just something...

Gross: Oh, oh.

Hill: That's what I want from Buffett. I want some...

Gross: What if we put him on the board as chairman for a little bit to say, "Hey, I'm staying on this board until I see things are right, and then I'll go back to being a passive shareholder."

Hill: I think that'd be great.

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