Is the Postal Service facing "bankruptcy?"

In a recent article D. Volt highlights Postal Service Chief Financial Officer's near term and long term liquidity problems.   Mr. Volt's analysis is correct that the Postal Service's inability to cover its near and long term cash obligations is a serious problem. He is incorrect in his analysis that the Postal Service's liquidity situation does not put it at risk of being "bankrupt."

In order to understand why " may be appropriate for describing the Postal Service's current financial situation, one need only compare the liquidity of two other firms that have gone through major restructuring processes recently These are General Motors and YRC Corporation, a large unionized less-than-truckload trucking firm.    The following table compares the Postal Service's liquidity problem to that of General Motors and YRC Corporation at points prior to restructuring efforts that wiped out all or nearly all of the value of the equity held by shareholders prior to the restructuring.

If the Postal Service was a private sector firm, its current liquidity position would force its financial and legal officers to investigate bankruptcy as a means of restructuring its obligations to ensure it could cover them with projected cash flows.   The bankruptcy proceeding would allow it to restructure its loans, leases, unpaid bills, and contracts with suppliers of real estate, materials, services, and labor subject to the approval of a bankruptcy judge.  Bankruptcy could result in an orderly restructuring of these items if all creditors agree to the modification prior to filing.   Otherwise, bankruptcy could result in litigation among secured creditors over whether liquidation, sale, or restructuring of the enterprise is the best way for them to recover what is owed to them.   The structured bankruptcy of General Motors, supported by finances from the U.S. and Canadian governments allowed the company to restructure its operations under fairly strict guidelines set by the government as the provider of financing while General Motors adjusts its assets, operations, labor contracts and internal processes to fit what would allow it to be a profitable enterprise going forward. As part of the restructuring GM shareholders were wiped out and the restructured enterprise was owned by the major creditors prior to the bankruptcy filing.  Following over a year of restructuring, GM has emerged as a viable enterprise which will attract significant interest in the public offering of stock in the next few months.  

Bankruptcy is not the only option.    The threat of bankruptcy alone may be sufficient reduce the financial burdens of a financially troubled firm, especially if bankruptcy might mean liquidation of the enterprise in cases where the liquidation value is minimal.   In such cases the threat of bankruptcy  causes the creditors and holders of material, service and labor contracts to renegotiate terms of their agreements rather than face the prospects of restructuring within a bankruptcy proceeding.  This is what happened in the case of YRC Worldwide.  YRC Worldwide has been in serious financial difficulties dating to at least the fall of 2008.  In order to survive YRC converted a significant portion of its debt to equity and restructured its union agreements.  Creditors agreed to swap their loans for common stock and the Teamsters employees agreed to contract changes that included a freeze in pensions due to the company's stopping its contributions to its pension plans and multiple cuts in wages.  All of these are actions could occur in bankruptcy but the parties involved concluded that restructuring the enterprise outside of bankruptcy gave them a better prospect than what would have occurred if YRC Worldwide had filed for bankruptcy. 

It should be noted that shareholders of YRCW fared not much differently than they would have under bankruptcy.   YRCW shares that were worth $40.16 at the end of March in 2007 are worth only $0.34 today.  That is not much different than the results in a bankruptcy where existing shareholders could have the total value of their investment wiped out to pay creditors. 

Mr. Volt correctly notes that the Postal Service cannot file for bankruptcy.   In addition, the Postal Service cannot not just stop service and liquidate its assets in order to pay its obligations.   Therefore, it has less leverage over creditors and holders of contracts to renegotiate their agreements in order to ensure payment of at least a portion of what they are due.  The Postal Service also less leverage over unionized employees who face neither the prospect of major job losses that would occur in liquidation, nor new less favorable contracts, if there were contracts at all which would happen if the Postal Service went into bankruptcy.

So what options does the Postal Service have?

1. Raise rates - This is what it has chosen to do with the exigent rate increase.   Raising rates provides some short-term increase in cash.  However, it is not clear whether increases, as proposed in the exigent rate increase, are justified under current market conditions especially in regards to those products that are most sensitive to the economic cycle.   For private firms in the Postal Service's position, raising rates is not an option for most products that they offer as prices are set in competitive markets and the firm facing financial difficulties is a price taker not a price setter.
   
   
2. Reduce service - The Postal Service has proposed two options for reducing service, closing post offices and eliminating Saturday delivery.   It appears that legal restrictions make it nearly impossible for it to close the tens of thousands of money losing retail facilities or eliminate a day of delivery.   
   
   However, it still can reduce service in ways that limit regulatory or legislative blow back.   It can reduce the hours that existing post offices are open.    For example, there is no requirement that retail facilities be open a particular number of hours per day.    So it could reduce the losses from money losing offices by restricting opening hours to the bare minimum.  If it were possible, it could try to reduce its opening hours to one or two days per week rotating clerks among multiple retail facilities, the way some optometrists rotate between multiple offices.  (Check the hours that a Sears or J.C. Penney's optical department has an optometrist available for illustration.)
   
   It could also reduce the reliability and speed of service for its customers.    Reducing reliability  could cause it to violate its "modern service standards" but it is unclear how the Postal Regulatory Commission could compel the Postal Service to improve service quality.    While this reduction in service quality would generate complaints, regulatory proceedings and possibly even Congressional hearings, it represents a cost cutting strategy that has been used by firms like Conrail, Greyhound, and Trailways during periods when they no longer had the financial resources to meet service obligations under required under their common carrier obligation to customers.   This is the equivalent of the Postal Service no longer having the financial resources to meet service related characteristics of its universal service obligation.  The deterioration in service was a prime mover behind deregulation and the eventual restructuring of the rail and bus industry in the United States.   
   
   
3. Renegotiate its obligations -   The Postal has begun the process of renegotiating its obligations that are coming due in the next few months through a request for a waiver of its $4 billion payment to cover disputed retiree health care obligations.  While this will allow it to put-off its liquidity crisis another year it would not eliminate the risk that mailers would have that the Postal Service would be forced to look at price increases and service changes degrading quality described above in a subsequent year.

In conclusion, Congress and the Obama administration need to begin looking at the challenge of fixing the business model of the Postal Service through the equivalent of a bankruptcy restructuring.    Only through this lens can the Postal Service make the necessary changes needed to ensure a revenue stream and cost structure that would allow it to thrive as a financially self-sufficient enterprise.   Without a restructuring equivalent to bankruptcy, Congress could find itself dealing with a "postal financial crisis" as frequently as it has to pass a Federal budget.