The future for the United States Postal Service

John E. Potter, Postmaster General, talks to World Mail Review
May 2008 About the U.S. Postal Service

The United States Postal Service (USPS) is an independent establishment of the federal government. USPS generates its revenue from the sale of postage and products and receives no tax dollars for operating expenses.

USPS delivers mail to more than 300m people at 146m addresses. It processes and delivers over 213bn pieces of mail a year, representing more than 46% of the world’s letter post volume. With nearly 700,000 career employees, USPS is the second largest U.S. employer. Annual operating revenue is nearly USD $75bn.

As the U.S. population continues to grow, USPS adds 1.8m new addresses each year to its delivery network, equivalent to the number of addresses in a city the size of Chicago. More than 9m customers do business every day at nearly 37,000 Post Offices nationwide. Nearly one million use the Postal Service’s award winning website, usps.com.

Postal Accountability and Enhancement Act

Last year’s World Mail Review reported that the Postal Accountability and Enhancement Act (Postal Act of 2006) had become law and was being implemented. The first major change to the Postal Service since 1971, the law allows USPS to be more competitive and generate profit, instead of following the previous mandate to break even over time.

Ratemaking and pricing have changed dramatically, with price caps based on the Consumer Price Index now affecting 90% of USPS products and services, those categorised as market dominant mailing services, such as single piece letter post and other non-commercial products. The pricing process for products classified as competitive, including most packages and international products, is now significantly more flexible.

There are new requirements for modern service standards and service measurement systems for each class of mail, and potential monetary penalties if the Postal Service does not meet its goals. The law also calls for a new level of financial transparency, requiring compliance with the Sarbanes-Oxley Act in 2010.

While declining mail volume and a slowing economy have affected financial results since the law’s enactment in 2006, the legislation now allows the Postal Service to offer volume related and other commercial price incentives. The first incentives go into effect in May 2008. “These innovative pricing incentives will make our products more attractive to shippers, especially small- and mid-size businesses,” said Postmaster General Jack Potter. “We’re pricing our products to sell in today’s competitive market.” He notes that the Postal Service will explore contract pricing for larger customers in the near future, similar to that offered by other shippers. “The law provides improved flexibility for responding to a changing market, and we will use it to tailor products to customers’ needs,” Potter said. “We have just scratched the surface of the advantages the new law offers through its new approach to price setting.”

Linking price increases to the rate of inflation for market dominant mailing products is seen to benefit customers by ensuring predictable price changes. Business customers have requested such a move to help with planning and budgeting, preferring small annual adjustments to larger changes every two to three years as in the past. The price cap is also a powerful incentive to manage costs, although USPS has reduced costs by USD $1bn every year since 2002.

The Act added USD $6.8bn to net expenses in fiscal 2007. But it also made changes to a number of significant cost areas, including how retirement health benefits and pensions for postal employees with military service are funded. Potter stated that these changes and others set the stage for solid planning. “Over the next decade, these changes will free the Postal Service of significant future legacy costs. We are now on firm financial footing for the future.”

Since the Act the former Postal Rate Commission was given a stronger oversight role and renamed the Postal Regulatory Commission (PRC). Since the law’s enactment, USPS and the PRC have worked together on many issues, and have met all deadlines established by the Act.

For example, the law called for the PRC to develop new pricing regulations by June 2008. The Commission beat the deadline by a full eight months, filing the regulations last October. The Postal Service also acted quickly and decided to forgo filing one last price change under the old system, and instead began using the new pricing regulations this fiscal year.

“We could not have acted so quickly without the diligence of the PRC,” said Potter. “Chairman Dan Blair and all the committee members made this a priority and worked closely with the mailing community to understand its needs and preferences.”

A Unique and Changing Market

The new law directed the U.S. Federal Trade Commission (FTC) to prepare a report on how federal and state laws that apply to USPS but not to private shipping companies affect the Postal Service’s ability to compete; essentially whether the Postal Service’s status as a government organisation provides an advantage or a disadvantage.

The FTC compared costs and expenses required by various laws to what it termed “implicit subsidies” to the Postal Service, such as tax exemptions. The report concluded that the Postal Service faces a “net competitive disadvantage versus private carriers,” based on the costs of meeting its mandated universal service obligation, as well as other laws and regulations that apply to the Postal Service but not to other carriers. The report estimates that these differences cost the Postal Service in excess of USD $550m a year.

A look at competition must acknowledge the impact of the Internet. In recent testimony before Congressional subcommittees, the Postmaster General noted that growth of online and other electronic communications has caused steady erosion of First-Class Mail, historically the agency’s most profitable product. The present U.S. economic downturn is compounding the trend.

“As the current economic conditions place added pressure on profit margins, we are seeing a growing number of businesses offer incentives and add new charges to increase the rate of conversion to electronic bill presentment and payment,” Potter said. In consequence, “Standard Mail – largely catalogs, advertisements and offers – has supplanted First-Class Mail as our largest product. This has made us far more sensitive to downturns in the economic cycle, as advertising spending is extremely vulnerable to periods of retrenchment. And, while advertising alternatives may not offer mail’s advantages, particularly in terms of targeting, personalisation, or effectiveness, there are signs that advertisers and marketers, reacting to the economy, are shifting some spending to lower-cost electronic media.”

Strategies in a Weak Economy

In the current economic climate, Potter said USPS would follow a two part strategy: prudent cost management and focused revenue growth.

“Because mail volume for the rest of the year is uncertain, we’ll continue to streamline operations to manage expenses and improve on-time delivery. We also intend to take full advantage of the pricing flexibility afforded by the new law, work with customers to better meet their needs, and find new ways to grow revenue.”

In the parcel market, there will be renewed efforts to leverage the Postal Service’s last mile strengths of delivering to every address in the nation, six days a week with no surcharges. Opportunities include a focus on package return services and other programs for larger parcel customers.

USPS is promoting the value and price advantages of its Express Mail and Priority Mail products for both retail and commercial customers. The Act’s flexibility allows zone based pricing for these products, which USPS will put into effect on 12th May 2008.

International products are another growth area with an 18% increase in international mail volume in the last two years. “We see tremendous opportunity,” said Potter. “We have improved our network, simplified product offerings, and made it easier for mailers to navigate complex customs and other processes that have been impediments to international expansion in the past.”

The Postal Service will continue to reduce costs by at least USD $1bn every year, plus an additional USD $1bn in fiscal 2008 above the original financial plan.

Increased standardisation and automation is one cost control strategy. This year, that includes initial deployment of the new Flats Sequencing System, which automatically sorts larger flat-shaped mail into its delivery order.

Trends and Challenges Ahead

For the fiscal quarter ending December 31, 2007, U.S. mail volume was down 3%, or USD 1.7bn pieces, attributed to the overall slowing of the economy. Potter sees mail decline continuing, with no signs of improvement this year.

“The economic downturn was the main factor for the volume decline, as the hard-hit financial and housing sectors are heavy users of the mail,” said Potter. “Consumer confidence is down. The recent holiday season registered the weakest retail sales since 2002. And with reduced consumer spending, there is less demand for shipping.”

During previous slumps, Potter said advertisers returned to the mail as the economy improved. However, because electronic channels were not available in the past, he believes that some mailers will shift a portion of their spending permanently to these lower cost media.

“We cannot simply wait for a recovery. The active pursuit of growth must be – and has become – an integral element of our business. We are long past the time when we could expect steady, year-after-year mail volume growth to produce the revenue necessary to pay for a continually expanding network.”

Potter said the Postal Service must continue to change, and the Postal Act of 2006 opens the door to do so. “I am also a realist. I recognize that success under the new law will not be an easy lift, by any stretch of the imagination. We have never worked under a rate cap. We have never had to manage our costs by class of mail. Both are extremely challenging.”

However, Potter tempers his realism with optimism. “It is my sincere belief that the new postal law offers opportunities to the Postal Service and the entire mailing community. We acknowledge these opportunities do not come without added responsibilities. To take advantage of the opportunities and to fulfill the responsibilities, we will continue to improve every aspect of our business. We can do no less.”