It was billed as an independent examination of Wells Fargo’s phony-accounts scandal, and it came at a critical time, as the bank was facing unprecedented scrutiny from a slew of government agencies.
Four years later,
Attorneys for David Julian, the bank’s former chief auditor, are focusing on the 2017 report because it provided a foundation for a still-ongoing effort by regulators to extract millions of dollars in penalties from Julian and other onetime Wells Fargo executives.
The report relied heavily on investigative work by the law firm Shearman & Sterling, which was hired by the board’s four-member oversight committee to probe the sales misconduct. What the report didn’t say was that the law firm was also representing Wells Fargo’s directors as defendants in a shareholder lawsuit over the same scandal — a detail that might have cast Shearman & Sterling more as advocates for its clients than impartial investigators.
“If the term ‘conflict of interest’ has any meaning, it describes the board report,” lawyers for Julian wrote in an April court filing. “The members of the oversight committee were concurrently accused in a shareholder lawsuit of the very wrongdoing that they were purportedly ‘investigating.’”
“Thus, the committee members had a clear motive to shade the facts and conclusions to exculpate themselves. And the drafters — the committee’s own attorneys — were ethically disabled from impartially addressing the facts given their duties to their clients,” Julian’s attorneys at the law firm WilmerHale added.
The board’s report helped shape the public’s understanding of the fake-account scandal, even in the face of later events that raised questions about the credibility of its narrative.
First, a ruling by a federal judge lent credence to the notion that the 2017 report gave an overly favorable assessment of the conduct of the Wells Fargo board members. Then the Federal Reserve Board publicly called out the bank’s board for its missteps. But neither of those developments received the level of attention that the board’s report did.
The four-year-old report about a scandal that exploded nearly five years ago remains relevant because the Office of the Comptroller of the Currency continues to rely on the board’s 2017 investigation in its efforts to punish former bank executives.
A law firm wears two hats
The fake-account scandal erupted on Sept. 8, 2016, when Wells Fargo was fined $185 million for what
Later the same month, members of the Wells Fargo board, minus then-Chairman and CEO John Stumpf, retained Shearman & Sterling. The New York-based law firm, which declined to comment on the record for this article, had previously advised JPMorgan Chase directors in the wake of the large trading loss known as the ‘London Whale’ scandal.
The Wells Fargo directors also formed an oversight committee whose members were charged with conducting a comprehensive investigation of retail sales practices. The committee’s four members were Stephen Sanger, the board’s lead independent director who would become chairman following Stumpf’s resignation in October, and fellow directors Elizabeth Duke, Enrique Hernandez Jr. and Donald James.
James declined to comment for this article, as did a Wells Fargo spokesperson and a representative of Sard Verbinnen, the crisis communications firm that the Wells Fargo board hired to manage the 2017 report’s release. Hernandez did not respond to requests for comment. Sanger and Duke could not be reached for comment.
In late September 2016, an individual Wells Fargo shareholder
This lawsuit and others were brought under a quirky provision of Delaware law that allows shareholders to seek to recover money not for themselves, but rather for the company in which they are part owners. The suits can be filed when a company has a valid claim against corporate insiders but has refused to pursue it.
Under the arcane legal standards that govern these shareholder derivative cases, before a lawsuit can be filed, shareholders may be required to send a letter demanding that the company’s board investigate, and if action is warranted, pursue the claims. The requirement may be waived if it is determined that such a demand would be futile.
By March 2017, various shareholder derivative lawsuits against Wells Fargo directors had been consolidated into one complaint, which argued that making a pre-litigation demand on the board would be futile. In response, lawyers for Wells Fargo filed a motion arguing that the lawsuit should be dismissed.
Shearman & Sterling, representing members of Wells Fargo’s board, also argued for the suit’s dismissal, contending that the plaintiffs had failed to present particular facts showing that a majority of the board’s members would be unable to consider a pre-litigation demand in a disinterested and independent manner.
By the following month, when the board’s report was released publicly, documents showing that Shearman & Sterling was representing Wells Fargo directors in the shareholder derivative litigation were part of the public court record.
But that aspect of the law firm’s representation went unmentioned in the board’s report, which described Shearman & Sterling as “independent counsel” to the board committee. It noted that the law firm had conducted 100 interviews and searched across more than 35 million documents as part of the investigation.
While the report did not describe the full extent of the law firm’s involvement with the bank’s board, it did state that Shearman & Sterling had been determined to be independent of Wells Fargo, a conclusion that suggested any recent legal work the law firm had done on behalf of the $1.9 trillion-asset bank
In addition, the report said that the four-member board committee had been authorized to investigate and recommend to the board whether to accept or reject certain derivative litigation demands made by putative Wells Fargo shareholders. It noted that the board’s response to the derivative demand was not part of the report, and stated that the board would address those demands separately.
The headlines from the report were not about legal complexities, but rather about who was to blame for the burgeoning scandal. Two of the key culprits, the report suggested, were former Chairman and CEO John Stumpf and ousted retail banking chief Carrie Tolstedt. The board announced that it was clawing back $47 million from Tolstedt and $28 million from Stumpf.
A person familiar with the firm’s engagement with the Wells Fargo board members said that the firm was retained to decide how to proceed with respect to various sales practices allegations, including claims in shareholder derivative litigation.
This person argued that Shearman & Sterling did not have a conflict of interest, and noted that the board’s investigation was conducted amid close scrutiny by law enforcement agencies, regulators and congressional committees. “So it was a report that was as clean as the driven snow,” the person said.
But as the attorneys for Julian would later note, Wells Fargo board members who were accused of having knowledge of the sales misconduct hired the same law firm that was representing them in that litigation to conduct an internal investigation into the same alleged misconduct.
The law firm’s dual roles were not explained to the public in April 2017. In fact, Sanger made a point of proclaiming Shearman’s independence in an interview on CNBC.
“And what about the board itself?” CNBC journalist Wilfred Frost
Sanger replied: “Well, the investigation findings concluded that the board acted appropriately based on the information it had at the time that it had it. And this is one of the reasons that we wanted to engage Shearman & Sterling, because the board and I wanted an independent, objective assessment of how the board performed in this instance.”
A judge and the Fed find fault with the board
Events in the spring of 2017 were unfolding amid investor efforts to oust long-serving directors from Wells Fargo’s board. Just three days before the board’s report was released, the proxy advisory firm Institutional Shareholder Services recommended that shareholders vote against 12 directors at the company’s annual meeting.
In response, the board
In the short term, the campaign by Wells Fargo board members to keep their seats was successful. Fifteen days after the board’s report was released, shareholders
But the board’s victory was short-lived. In August 2017, Wells Fargo announced that Sanger would be stepping down, with Duke, a former Federal Reserve governor, succeeding him as board chair.
Two months later, in an order that received little public attention, U.S. District Judge Jon Tigar denied the motion to dismiss shareholder derivative claims against members of the bank’s board. The judge determined that the plaintiffs had plausibly alleged that the board “should have known — based on any of a number of ‘red flags’ — that the company’s cross-selling practices were fraudulent.”
The litigation was subsequently
In February 2018, the Fed delivered another rebuke to the Wells Fargo board, though it was overshadowed by the $1.95 trillion cap on Wells Fargo’s assets that the central bank announced at the same time.
The Fed declared that Wells would replace three of its directors by the end of April 2018 and a fourth by the end of the year. Hernandez was one of the board members who ultimately left in April.
In addition, under a cease-and-desist order with the Fed, Wells was required to improve its governance and risk management, including by strengthening the effectiveness of its board’s oversight.
In a
Duke, who had succeeded Sanger as board chair, resigned in March 2020 after House Democrats released a
Regulators rely on the board’s findings
In administrative cases that are scheduled to go to trial in September, the OCC
The agency has also sought a $25 million penalty from one-time retail banking chief Carrie Tolstedt, though that case appears to be on hold.
Former
Julian’s attorneys at WilmerHale declined to comment for this article, but in court papers they have contended that the board’s report should not be admissible as evidence at the upcoming trial.
Of particular importance to Julian: Wells Fargo’s board blamed the bank’s internal auditors for allegedly not trying to determine the root causes of unethical sales practices at the company.
In an April court filing, Julian's lawyers argued that the board report’s conclusions are based almost entirely on unsworn statements made by mostly unidentified individuals. They also noted that the OCC has not offered any sworn witness testimony about the manner in which Shearman & Sterling conducted its investigation.
“The only evidence concerning that report’s preparation is hearsay in the report itself,” Julian’s lawyers wrote. “The hearsay statements of the directors who generated the report — statements that, conveniently, exonerate themselves at the expense of management — are not reliable, particularly given that the directors who generated the report would not be, and have not been, subject to cross-examination.”
The defense lawyers have also highlighted the deposition testimony of an OCC employee named Tanya Smith, who was the top examiner at Wells Fargo starting in March 2017.
Smith testified that the Wells Fargo board did not go “too hard” on itself, and that it would not have been “good for business” for Shearman & Sterling to accuse its own clients of wrongdoing, according to the April court filing.
An OCC spokesman declined to comment for this article, citing the ongoing litigation.
The controversy over the 2017 report has implications that go beyond Wells Fargo — and even beyond the banking industry.
"Internal investigations are a growing and highly profitable area of legal practice, but there are no established ethical standards for lawyers conducting investigations,” Harvard Law Professor Howell Jackson wrote in the teaching note for a soon-to-be-published case study that examines the Wells Fargo board report.
“Attorneys confront a minefield of ethical dilemmas relating to issues of independence, duties of confidentiality and loyalty to one’s client, and uncertain obligations to the court, a company’s shareholders, and the public.”
Jackson said in an email that the Shearman & Sterling lawyers seem to have approached the engagement with members of Wells Fargo’s board “in a manner similar to a zealous advocate presenting legal arguments in an adversarial proceeding overseen by an impartial judge.”
“In such a context, we would not expect attorneys to interweave in their legal arguments disclaimers about client representations,” he wrote.
But the context for the Wells Fargo board report was different. The report laid out a case to the public, not to a judge who was also hearing from the other side. In recent years, outside law firms have also produced reports for Volkswagen in the wake of the company’s emissions scandal and for Uber Technologies following allegations of misconduct by the firm’s management.
“The ethical duties of attorneys presenting ‘independent’ opinions in such contexts are murky,” Jackson stated in his email. “I think the WilmerHale filing is on solid ground pointing out that the conclusions reached in the report that Shearman & Sterling drafted back in 2017 very likely reflected the interests of their clients on the board.”
