America Rodriguez Mundo
October 4, 2017
12:30 PM
Wells Fargo & Company Background
Wells Fargo & Company is a financial services company that provides “banking, insurance, investments, mortgage, and consumer and commercial finance.” Founded in 1852 and headquartered in San Francisco, Wells Fargo & Company operates in more than 8,600 locations and in 42 countries and territories. Based on their 2016 financial reports, this financial services company has $1.93 trillion in assets, making it one of the largest financial institutions in the United States. Wells Fargo strives to be on top and remain competitive in the banking industry by adhering to their five primary values.
1. Value and support [their] people … strive to attract, develop, retain and motivate the most talented people.
2. Strive for the highest ethical standards with [their] team members, [their] customers, [their] communities, and [their] shareholders.
3. With respect to [their] customers, [they] strive to base [their] decisions and actions on what is right for them in everything [they] do.
4. For team members, [they] strive to build and sustain a diverse and inclusive culture – one where they feel valued and respected for who they are as well as for the skills and experiences they bring to the company.
5. Look at each of [their] team members to be leaders in establishing, sharing and communicating [their] vision.
Considering the recent scandals, Wells Fargo & Company’s Board of Directors has undergone a “serious of significant actions to enhance Board oversight and governance.” (10Q) Stephen Sanger currently serves as the chairman of the board, but Wells Fargo recently appointed it’s first female, Elizabeth Duke, a former Federal Reserve Governor, to serve as chairman starting next year. Timothy J. Sloan continues to hold the position of Chief Executive Officer since October 2016. Based on the 2016 Summary Compensation Tables provided by the SEC, Timothy’s salary was $2,329,502 with compensation totaling $13,014,714. John R. Shrewsberry, Chief Financial Officer, earned a $1,741,188 salary for a total compensation of $9,411,965 in 2016.
With the legal issues Wells Fargo is currently encountering, there have been significant changes to incentive compensation plan. The chart below shows key difference between their old and new incentive plans.
(citation from DEC 14 A https://www.sec.gov/Archives/edgar/data/72971/000119312517083591/d305364ddef14a.htm#toc305364_38)
James H. Quigley, John D. Baker II, Federico F. Pena, Susan G. Swenson and Suzanne M. Vautrinot are the current members of the Audit and Examination Committee. These members must remain independent from the Board of Directors and remain objective. They must also posses the necessary technical skills related to this role.
Auditor Background
Wells Fargo’s external auditor for the 2016 fiscal year was KPMG in San Francisco, California. Based on the SEC 10-K filings, KPMG has been an auditor of Wells Fargo since 1990. From 1970 up to 1989, Peat, Marwick, Mitchell, & Co audited Wells Fargo. This accounting firm merged with another to form KPMG. With that said, KPMG has been around for quite some time. For the most recent fiscal year, Wells Fargo incurred a total of $45.735M(2016) and $43,763M(2015) in audit fees.
It is particularly important that an accounting firm properly conduct audits according to standards to reduce the risk of delivering unqualified opinions on materially misstated financial statements (audit risk). According to the (2015) PCAOB inspection report of KPMG LLP, KPMG had 14 audits where they failed to sufficiently test the design and/or operating effectiveness of controls. On 8 of their audits, they failed to sufficiently test controls over the accuracy and completeness of issuer-produced data and reports. And on 7 audits, KPMG failed to perform substantive procedures to obtain sufficient evidence as a result of relying heavily on controls when there were deficiencies in testing controls.
When we look at the breakdown of audit deficiencies by industry, many of their deficiencies occurred in both the consumer discretionary and financial services industry. This is a major concern considering that Wells Fargo falls into one of those 2 industries.
(citation of PCAOB graph https://pcaobus.org/Inspections/Reports/Documents/104-2016-175-KPMG.pdf)
Risk Assessment
There are many risk factors that can adversely affect Wells Fargo’s financial statements. Some of these factors include:
• Risks related to the economy, financial markets, interest rates and liquidity
o Changes in interest rates and financial market values could reduce their net interest income and earnings and materially affect the value of financial instruments
o Adverse changes in their credit ratings could have a material adverse effect on our liquidity, cash flows, financial results and condition.
• Risks related to financial regulatory reform and other legislation and regulations
o Current and future enacted legislation and regulation could impact the way they conduct business potentially reducing their revenue and earnings
• Risks related to credit and their mortgage business
• Operational and legal risk
• Risk related to their industry’s competitive operating environment
• Risks related to their financial statements
o Changes in accounting policies/accounting standards
o Incorrect assumptions/estimates
• Risks related to acquisition
(insert citation)
The risks listed above are just some of the most important inherent and business risks that an auditor should take into consideration when planning an audit. These risk factors are particularly difficult to control; therefore we need to implement auditing procedures that will mitigate these risks.
As far as control risk, Wells Fargo has been in hot water for the “ineffective” oversight on internal controls. Wells Fargo did not operate to the highest ethical standards and in 2016; we discovered that they participated in a fraudulent scheme where their “customers received products and services they did not request”. According to the New York Times, “for years, Wells Fargo employees secretly issued credit cards without a customer’s consent. They created fake email accounts to sign up customers for online banking services. They set up sham accounts that customers learned about only after they started accumulating fees.” (insert citation from New York Times) This fraudulent scheme, if anything, directly impacted revenues and was a direct result of the weak internal control system they had implemented.
When setting materiality threshold, I believe that we need to base it on the qualitative factor of high fraud risk and set quantitative percentage materiality based on equity/net assets at less than 5%