Let’s take a look at the income generated by Wells Fargo from the dummy accounts their staff opened in relation to the revenue the bank generates. Let’s even consider the fine in relation to income over the four years the schemes were running. I have not spared criticism of the bank previously. But let’s look at this mess from another perspective.
Here’s the bottom line – Finding the fake account fiasco means finding this:
When hidden in this:
That’s one penny of false revenue for every one thousand six hundred dollars of legitimate revenue.
To start the discussion, consider Michael Rapoport’s article at the Wall Street Journal on November 1: Wells Fargo: Where Was the Auditor – Several of the Senators sent KPMG a letter last week suggesting the audit should have caught the fake account fiasco.
Article explains that audits aren’t designed (and aren’t capable of) finding frauds that don’t have a material impact on the financial statements.
Article makes the very important point that an audit designed to catch frauds as small as the fake account mess would have a cost so high as to make the audit completely unaffordable.
So let’s take a look at materiality in relation to the massive size of Wells Fargo.
Amounts for materiality discussion
Let’s look at some numbers for perspective.
The 2015 financial statements may be found in the 2015 annual report here. Some info from the summary financial data:
- $86.06 billion – 2015 revenue
- $22.89B – 2015 net income
- $1,787.6B – assets at end of 2015, that’s $1.8 trillion
Now, some information for the time the fake accounts were reportedly being opened, which is reported as 2011 through 2014:
- $335.2B – revenue for the four years from 2011 through 2014
- $79.7B – net income from 2011 through 2014.
Fees and penalty
Ok, let’s look at the fees from the fake accounts and the fine:
- $0.002B – reported fees generated by Wells in four years from fake accounts ($2M shrinks when expressed in billions, huh?)
- $0.185B – fine and costs for settlement
Fees in relation to revenue
So, the fine ($185M) is 0.055% of revenue in the four years ($335B), or one nickel of every one hundred dollars of revenue. That would be equal to one quarter of a dollar (actually 23.2 cents) of every one hundred dollars of net income.
Let’s look at the fees generated over four years in relation to total revenue over four years.
The fees generated ($2M) are 0.0006% of revenue ($335.2B). That would be one-twentieth of a penny (0.0596 cents) of every one hundred dollars of revenue.
Flipping the calculation a bit means the fraud generated one penny of income for every $1,676 of revenue. That is the math behind the visual illustration at the top of this post.
Not only immaterial, but trivial to boot
Now, it is only my opinion, but I would suggest that if you think an audit is going to catch frauds on the magnitude of one penny out of every sixteen hundred dollars of income ($.01 out of $1,677.00) you are quite mistaken.
One penny out of $1,677 is far below the threshold of material. You try to find the one counterfeit penny in a huge bag holding 167,700 pennies. Think you could do that? Neither could I. An audit isn’t going to do that either.
In fact, we call an error or fraud of that size trivial.
Two million is trivial in relation to three hundred thirty-five billion of revenue ($2M of $335,200M). Again, that is called trivial.
2 thoughts on “In relation to the revenue Wells Fargo generates, the fees from fake accounts were trivial”
Materiality is a qualitative test as well as a quantitative test. The BYU prof is wrong when he says the auditor is not supposed to look at reputation, stock price impact or legal and regulatory impact of a fraud even of a small monetary amount.
Sent from my iPhone
Thanks for the comment. Once a fraud has been identified all those factors and more come into play regarding what to do with it, obviously after addressing the requirements of GAAS and all the rules in play for public company audits. As for the world of auditing private companies, I’m not sure how those factors enter into play for considering fraud risk.