Can A New CEO Restore Wells Fargo's Reputation?

About: Wells Fargo & Company (WFC)
by: John Engle

Tim Sloan resigned as CEO of Wells Fargo late last month, leaving the embattled bank after more than two years at the helm.

The bank continues to be embroiled in scandals stemming from the 2016 revelation of a fake accounts fraud spawned by predatory incentives in internal sales practices.

Sloan was elevated to the top job amid the scandal, but has largely failed to restore the bank's once-vaunted reputation.

The next CEO will have to lead a major internal reform effort; selecting someone from outside of Wall Street looks like the best long-term move.

Wells Fargo looks beaten down, but investors should not expect a quick turnaround; still, there is a long-term value play here worth considering.

Tim Sloan, the embattled CEO of Wells Fargo (WFC) resigned abruptly last month, reportedly surprising many insiders at the bank, as well as the market. This has triggered a new wave of uncertainty concerning the nation’s fourth largest bank, though the share price has - so far - dipped only slightly.

Whoever the bank taps as its next CEO will have a lot of work ahead of them. Their chance of success will depend on their willingness to work toward real transformation. Recruiting from within does not look like a viable option. Indeed, the best long-term play for this company - and its stock - would be to look for fresh blood outside of the conventional corridors of Wall Street.

A Brief And Troubled Tenure

Tim Sloan took the reins at Wells Fargo in 2016, soon after the fake accounts scandal broke. His predecessor, John Stumpf, left amid the initial fallout. Stumpf took considerable blame for contributing to a predatory sales culture, which was a key driver of the fake accounts scandal’s conception.

Sloan was a true Wells Fargo insider, having worked for the company for 29 years prior to being appointed CEO. He was president and COO just prior to the time of his promotion. Unsurprisingly, Sloan’s first actions were aimed at damage control and restoring Well Fargo’s battered reputation. This was clear in his initial public statement as CEO:

“It’s a great privilege to have the opportunity to lead one of America’s most storied companies at a critical juncture in its history. My immediate and highest priority is to restore trust in Wells Fargo. It’s a tremendous responsibility, one which I look forward to taking on, because of the incredible caliber of our people, and the opportunity we have to impact the lives of our millions of customers around the world. We will work tirelessly to build a stronger and better Wells Fargo for generations to come.”

Despite Sloan’s initial projection of optimism, things have hardly gone smoothly. The fake accounts scandal continued to snowball, leading to ever more intense media and governmental scrutiny. In early March, Sloan defended Wells Fargo during a congressional hearing. He faced grueling questioning about the bank’s practices and its efforts to prevent further consumer fraud. It appears as if this was the last straw for the beleaguered CEO, who stepped down abruptly soon after. The sudden move reportedly left the company scrambling, and it sent the stock into new levels of unease.

Looking Beyond The Street

The next CEO will face many of the same challenges Sloan did when he took over less than three years ago. They will be leading an organization still gripped by scandal, turmoil, and scrutiny. Wells Fargo must choose wisely if it hopes to finally move past the agony of the past few years.

Last Thursday, Wells Fargo’s board announced that it would be looking outside the company for its next leader. This was welcome news to Warren Buffett, who has long been a booster for Wells Fargo, despite the raft of scandals during the past few years. Speaking to The Financial Times, Buffett argued that the bank should not simply look beyond its own talent pool, but also beyond the conventional Wall Street names:

“They just have to come from someplace [outside Wells] and they shouldn’t come from Wall Street...They probably shouldn’t come from JPMorgan or Goldman Sachs...There are plenty of good people to run it [from the Wall Street banks], but they are automatically going to draw the ire of a significant percentage of the Senate and the US House of Representatives, and that’s just not smart.”

Recruiting from the likes of JPMorgan (JPM), Goldman (GS), Bank of America (BAC), Citi (C), etc., might sound like a smart move for a struggling financial giant, but Buffett’s argument is sound. Political scrutiny intensified in the wake of Sloan’s departure, with several leaders on Capitol Hill digging in. Sherrod Brown, the Senate Banking Committee’s ranking Democrat, is among the heavy-hitters calling for significant change at Wells Fargo.

Whoever next takes the reins will be contending with more than the (already daunting) task of reforming the company’s internal operations and addressing its major reputational problems. They will also have to be prepared for aggressive media and political scrutiny.

Investor’s Eye View

Wells Fargo’s stock has taken a number of beatings since the fake accounts scandal first broke. The share price is currently down only fractionally since Sloan’s exit, though it is down nearly 6% since his mid-March appearance before Congress. Still, Wells Fargo has retained many high-profile supporters. Warren Buffett, for example, continues to like the stock, reiterating his bullish outlook last May.

Thanks to the overhang of scandals and public scrutiny, Wells Fargo does look fairly cheap when set beside its fellow banking giants, as we stated in a February research note:

“From where we stand, Well Fargo probably is a bit too beaten down, on a long-term basis. But the scandals surrounding the bank continue to drag on both its share price and its reputation. If Wells Fargo can put all its scandals behind it, then it will be quite attractive.

“Betting correctly on a swift resolution and recovery would result in impressive returns. But, given the sheer scope and depth of the rot that has developed in Wells Fargo’s corporate culture, we find such a bet difficult to recommend at this time.”

With Sloan’s departure, we are faced with yet another wildcard. With political scrutiny still intense, and unlikely to diminish anytime soon, it is hard to identify a catalyst that could send the stock up significantly in the very near term. That said, there is now a chance that whoever is tapped as the next CEO will juice up enthusiasm. Thus, there is perhaps a short-term trade on leadership news, but the gains are unlikely to be significant, barring the announcement of a truly spectacular catch.

Overall, Wells Fargo looks tempting as a long-term play on a perhaps overly-maligned bank stock. But it will probably take considerable time and effort for the company, and its stock, to regain its footing. Wells Fargo would be wise to take Buffett's advice and look beyond the Street for its next CEO. Fresh blood may be the best medicine for the beleaguered bank.

Disclosure: I/we have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.