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http://www.wsj.com/articles/disclose-or-not-to-disclose-wells-fargo-woes-shine-light-on-a-knotty-problem-1475161015

MARKETS

To Disclose or Not to Disclose? Wells

Fargo Woes Shine Light on a Knotty
Problem
The banks sales scandal provides a real-life window on the question of deciding what is
material and must be disclosed

Wells Fargo didnt disclose anything about the cross-selling probes before the pact was
announced. PHOTO: BLOOMBERG NEWS

By MICHAEL RAPOPORT
Updated Sept. 29, 2016 8:33 p.m. ET
When is something important enough to a companys business that it
should tell investors?
Wells Fargo & Co.s sales scandal provides a real-life window
on the often-knotty question of deciding when a piece of information
is material and so must be disclosed to investors. In part, that is
because the rules are complex and not always well understoodmany
observers think materiality can be determined simply by crunching
the numbers, but that isnt always the case.
Wells Fargo didnt disclose anything publicly about its cross-selling
abuses or looming settlement with regulators before the pact was
announced Sept. 8including in its second-quarter Securities and

Exchange Commission filing weeks earlier, on Aug. 3.

Three Democratic senators who grilled the banks chief executive last
week now have asked the SEC to investigate whether Wells Fargo
misled investors by failing to disclose the issue sooner.

While the banks management had known since 2013 that some
employees had created deposit and credit-card accounts for
customers without their knowledge, the accounts were a tiny portion
of Wells Fargos business. The settlement, which included a $185
million fine, was less than 1% of last years earnings. The matter was
not a material event, Chief Executive John Stumpf told a Senate
panel last week.
That is true in terms of the banks income statement. Not so its
reputation or share price. The bank and Mr. Stumpf have faced a
political and public furor and the stock has lost nearly 10% since the
settlement, or about $23 billion.

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problems
didnt rise to the level where it would be required to inform investors.
If thats not material...this occurring over a five-year period of time
as a systemic problem in the organization, I dont know what is, Rep.
Scott Garrett, (R., N.J), told Mr. Stumpf Thursday as the CEO testified
before the House Financial Services Committee.
Given the depth and breadth of the problems at the banks retail
operations, which account for about half of profit and revenue, others
argue Wells Fargo should have given investors some signal a problem
was brewing. It seems pretty significant to me if the whole worlds
talking about it, said Philip Woodlief, an adjunct professor of
management at Vanderbilt University.
The three senatorsJeff Merkley (D., Ore.), Elizabeth Warren (D.,
Mass). and Robert Menendez (D.-N.J.)have asked the SEC to
investigate whether Wells Fargo committed fraud by failing to disclose
its fake-account problems even as it was touting to investors how
many products it was selling to each customer. The senators also
asked the SEC to probe whether the bank violated whistleblower
protections.
This certainly has a reputational risk to the companyit seems like
that would have been material, Mr. Merkley said in an interview with
The Wall Street Journal earlier this week.

Spokesmen for the SEC and Wells Fargo declined to comment.

The standards for determining whether a piece of information is
material differ somewhat depending on the regulator involved. And
some regulators are considering changes in existing standards around
what is material information. In short, it is something of a gray area.
Generally speaking, materiality depends on whether a reasonable
investor would consider the information important enough to affect
the investors decision to buy a companys securities.
Many companies and investors use a rule of thumb that something has
to make up at least a specific portion of the companys business to be
considered material10% of revenues, for instance, or 5% of earnings.
But companies are supposed to go beyond the numbers and consider
qualitative factors as well.
The SEC has said a relatively small error on the financial statements
could still be material if, for instance, it affects a companys regulatory
compliance, conceals illegal transactions or increases managements
compensation.
The key question, Mr. Woodlief said, is does a development affect the
total information available to investors?
The rules are murky enough that accounting experts can differ about
whether something is material. Jack Ciesielski, president of
accounting-research firm R.G. Associates, said Wells Fargo may have
viewed the cross-selling problems as an isolated issue that it managed
on its own, and noted the fake accounts comprised less than 2% of all
those the bank opened during that time frame. I think its got to be
immaterial, he said.
Then again, Mr. Ciesielski said, when the bank was negotiating with
regulators over the matter and knew a settlement was possible soon,
then I think they had to say something at that point.
The SEC is considering whether it should change its standards for
whats material, as part of a broader look at its disclosure rules. In
April, the commission asked for public comment on whether it should
consider a different definition of materiality for disclosure
purposes, and on whether it should use a combination of
quantitative and qualitative thresholds for disclosure.
Write to Michael Rapoport at Michael.Rapoport@wsj.com

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