The Real Cost of Mismanaged Incentives: Wells Fargo

Well, so much for the warm-hearted caffeinated, pick-me-up from the Comp Café. Today is a steaming jolt of quadruple espresso in response to the Wells Fargo incentive pay mess. Let me start with the fact that I have been interviewed a few times about this story and even I was surprised by my response to the question, “What companies in the financial world are considered to have good incentive programs?” I answered that if I had been asked a few weeks ago, Wells Fargo would have been on the list. I guess it’s hard to know what you don't know.

If you have been under a log for a couple of weeks, please start by reading a couple of earlier Compensation Café Articles (my own When Incentive Pay Goes Rogue! and Jim Brennan’s Excessively Successful Incentives). That foundation will help you understand the following summary.

A couple weeks ago, Wells Fargo was fined about $185 million for fraudulently opening millions of accounts. They also fired 5,300 employees and were the media poster-child for why incentive plans are terrible. At the very least, the plans in question ended up costing more than they delivered. In the past few days, the real costs of these programs are starting to reveal themselves. Recent developments are listed below.

• John Stumpf, the CEO of Wells Fargo stepped down from his role at the Fed (Federal Advisory Council).
• He was raked over the coals by members of the US Senate, which included this exchange with Senator Elizabeth Warren.
• The underlying motivation for the goals of the offending incentive plans were mocked (the goal was eight account per person, since “eight rhymes with great”.)
• Wells Fargo’s Board of Directors has announced that Stumpf will forfeit much of his 2016 pay, including $41 million in unvested stock awards.
• The Board has also clawed back $19 million from Carrie Tolstedt, the former head of the business unit where the fraud took place.
• California will stop using Wells Fargo to underwrite bonds and purchase state investments and other states have said they follow this approach.
• The stock price has dropped about 10% since the fines were initially announced. This is equal to about $22 billion in lost market cap.

Please note, that for all of the talk about pay clawbacks, it appears that both Mr. Stumpf and Ms. Tolstedt each still have over $100 million in potential retirement payments that remain outstanding. So, more may still be pulled back. It is also possible that Wells Fargo may reinstate their pay after the investigations have been completed.

Mr. Stumpf will testify again Thursday, September 29 (perhaps while you are reading this) in front of the House of Representatives. It is not expected to be any more pleasant than the time spent in front of the Senate.

All told, we may be talking about losses to the company, employees and executives of more than $23 billion at current stock prices (they closed at $45.31 on 9/28/2016). Much of company value will recover over time, but the reputational issues will linger for a while. Even worse, rather than adapting the incentive plan over time. The company allowed the plan to run wild and is now going to have to find an entirely new approach to pay, rather than adapting a flawed program over time.

In the end, pay will be blamed and to some extent this is correct. The incentive plan was critically flawed, even while it helped produce great results. On the other hand, pay programs cannot manage anything…ever. The leaders of those in the incentive plan did not perform at least some of the duties that were in their job descriptions. We may never know how the fraud started and which person with accountability turned a blind (or willfully ignorant) eye to the problems. But I bet anyone reading this is happy that they are not the people in the compensation department trying to create and communicate the solution. The real costs will never be fully known, but there is no doubt that the costs were far more than the rewards. By definition, that is an inefficient approach to incentive compensation.

Dan Walter, CECP, CEP is the President and CEO of Performensation. He is passionately committed to aligning pay with company strategy and culture and has been deeply involved in equity compensation for a long, long time. Dan has written several industry resources including the recent Performance-Based Equity Compensation. He has co-authored ”Everything You Do In Compensation is Communication”, “The Decision Makers Guide to Equity Compensation”, “Equity Alternatives” and a few other books. Connect with Dan on LinkedIn. Or, follow him on Twitter at @Performensation and @SayOnPay.

Comments

[jay]

Superior piece of work.

[Tony Bergmann-Porter]

As much as badly-designed incentives may be at fault, this fiasco also points to serious cultural issues and inept (to say the least) internal auditing.

[tjones]

For a good laugh, and an even worse stomach ache, go read Wells Fargo's description of their pay risk assessment in the proxy. Insulting...

[Don Nemerov]

Wells Fargo has a tradition & history of highly leveraged producer incentive plans; I happened to review many of them a few years back. These plans need hold-backs that defer a meaningful portion of theoretically earned commissions until performance can be truly verified, which is almost impossible to do on a monthly basis. It isn’t a question of culture or pay, they march in tandem, and one reflects the other. There are banks that stay out of trouble on this, and there is a reason why – culture and pay two big ones. I agree that the WF proxy disclosed risk assessment is boilerplate, unfortunately it is the same with most companies.

[Dan Walter]

Thanks to every one of you for your comments.

I agree that there were some real cultural and management issues that played into the failure of the incentive plan. As more comes to light, it seems like we may even find that people who raised issues were pointed elsewhere.

Hold-backs are one method for dealing with programs like this. Perhaps they would have best been applied a level (or many levels( above the people who were the main plan participants.)

I am a strong believe that language in a proxy (or just about anywhere) is a weak defense against cheating. The best defense is a strong offense. In this case a plan that incentivized a group of people to provide a a counterbalance to potential cheating may have been a good place to start. This again, would have needed to be a plan higher up the ladder with real motivation and dangerous teeth.

There is never a good reason for a plan to fail this badly for such a long time.