March 5, 2015

USPS, rivals and mailers knock heads over alleged cross-subsidy of products

First-class mail may be subsidizing expansion of shipping services, rivals say; USPS denies claims, says costing data follows Postal Commission guidelines.

By Mark B. Solomon

Ever since Congress changed the rules of the U.S. Postal Service's game nearly a decade ago, USPS' rivals and some of its larger customers have raised concerns over whether it subsidizes fast-growing delivery products that compete in an open market with proceeds from flagging monopolies such as first-class mail that have been hammered by digital conversion. The debate has recently flared anew. This time, it surfaces at a critical juncture for USPS as well as for companies involved in postal commerce.

Over the past 45 days, several parties have asked the Postal Regulatory Commission, the agency that oversees USPS' operations, to take a deep dive into how the Postal Service accounts for costs across its product lines. The question, according to entities ranging from Atlanta-based UPS Inc. and Memphis-based FedEx Corp. to the Association for Postal Commerce, a group composed of large mailers, is whether USPS provides enough information about its costs to prove the quasigovernmental agency is covering each product's expenses from its corresponding revenue stream, or if it is, in effect, "robbing Peter to pay Paul." By law, USPS provides costing data in its annual compliance review, submitted to the postal commission.

For UPS and FedEx, which compete and collaborate with the Postal Service, the concern centers on whether USPS shifts funds from so-called "market dominant" products such as first-class mail to support the expansion of expedited delivery services like Priority Mail and Parcel Select. Both services allow businesses consolidating large parcel volumes to induct them deep into the postal system for final deliveries, mostly to residences. The services are labeled "competitive products" because they compete with private-sector companies, although Parcel Select has become a de facto monopoly because it levers USPS' unmatched delivery network (by law, it delivers to every U.S. address) and is priced at levels no other provider can touch. UPS and FedEx, for example, use Parcel Select to provide "last-mile" parcel deliveries to mostly residential areas that lack the customer density for either company to serve efficiently on their own.

The dispute has its roots in a 2006 law that gave the Post Office the flexibility to adjust pricing on competitive shipping products such as Express and Priority Mail. The law also simplified the process of changing rates on its monopoly mailing services by tying future increases to adjustments in the Consumer Price Index (CPI). At the same time, USPS was required to ensure that revenues from shipping services adequately covered its costs. The law was the most sweeping change at USPS since the 1971 reorganization that created the present-day postal organization. The 2006 law was also designed to create a level playing field in shipping services between USPS and its private rivals.

Over the years, as digital commerce fundamentally changed the world of mailing and shipping, USPS' shipping business has thrived even as its mailing revenue and volumes have fallen. In its 2014 fiscal year, which ended Sept. 30, USPS' "shipping and package services" volume grew by 300 million pieces, an 8.1-percent increase over the prior fiscal year. First-class mail volume, USPS' most profitable service line, declined 2.2 percent year-over-year. In its fiscal first quarter, shipping and package volume rose by 12.8 percent from the prior-year period, buoyed by a surge in holiday e-commerce traffic. First-class mail volumes fell by 1.1 percent. These trends are expected to continue for years to come, and even USPS executives see no reversal in the decline in mail volumes or revenues.

LACK OF VISIBILITY?

At this point, the opacity of USPS' methodology and disclosures make it impossible to take a good look under the hood, according to the complaints. "We don't have the transparency to make a determination" on whether cross-subsidization is occurring, said Keith Kellison, UPS' vice president of global public affairs. "We know there are red flags," such as a recent USPS disclosure that only 55 percent of USPS costs are tied to specific products, Kellison added.

UPS and others contend that USPS applies costing methodologies from the 1970s to the different and dynamic business environment of today. At the very least, UPS wants the Postal Commission to conduct a thorough review of USPS' accounting practices, and a dedicated regulatory proceeding may be warranted to achieve that goal, Kellison said.

Gail Adams, a spokeswoman for the Postal Commission, declined comment on the status of the current proceeding. Adams noted that, by law, a test is required to ensure monopoly products don't cross-subsidize competitive products. In its most recent compliance report, USPS said the incremental costs of competitive products were $11.2 billion, while revenues were $15.3 billion. Because revenues exceeded incremental costs, there was no cross-subsidy based on USPS' numbers, she said.

In its filing, USPS furnished examples of how it adequately and publicly accounts for investments made to support the growth in its competitive product line.

USPS has its supporters. Jerry Hempstead, a longtime top parcel executive and today head of a consultancy that bears his name, said USPS has been "very disciplined about cost allocation by product for decades," and that it "goes out of its way to prevent any inference that a particular class (of) mail is not carrying its fair share." Hempstead surmised that the UPS and FedEx filings smack of sour grapes because USPS is a formidable competitor in the business-to-consumer segment that has come to dominate U.S. parcel shipping. He also wonders if the private carriers' actions are prompted by their displeasure over USPS raising parcel select rates by 9 percent, while keeping Priority Mail rates unchanged. The increases, which the commission approved in late February, take effect April 26.

Gordon Glazer, who was been involved in postal operations for more than 25 years and is today director of modal optimization strategies for consultancy Shipware LLC, said it's hypocritical for UPS and FedEx to complain about any alleged USPS accounting sleight of hand when they act in concert to raise rates, increase charges for add-on or "accessorial" services, move in concert to change pricing on ground parcels measuring less than 3 cubic feet, and jointly freeze out third-party parcel consultants who negotiate parcel rates on behalf of their clients.

"I think it is a lot easier for them to point the accusing finger at their competitor now more than ever, which is a validation in its own right of the true competition that (USPS) has morphed into," Glazer said.

About the Author

Mark B. Solomon
Executive Editor - News
Mark Solomon joined DC VELOCITY as senior editor in August 2008, and was promoted to his current position on January 1, 2015. He has spent more than 30 years in the transportation, logistics and supply chain management fields as a journalist and public relations professional. From 1989 to 1994, he worked in Washington as a reporter for the Journal of Commerce, covering the aviation and trucking industries, the Department of Transportation, Congress and the U.S. Supreme Court. Prior to that, he worked for Traffic World for seven years in a similar role. From 1994 to 2008, Mr. Solomon ran Media-Based Solutions, a public relations firm based in Atlanta. He graduated in 1978 with a B.A. in journalism from The American University in Washington, D.C.

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