Thursday, September 30, 2010

Corrections to Yesterday's post

I have made two changes to yesterday's post, The Postal Service Should Default on Its Retiree Health Care Obligation from the original version to correct errors.   Accounts payable replaced accounts receivble in the first paragraph.  Both are bad but as the USPS collects revenue up front it has minimal accounts receivable.  It does have substantial accounts payable and other liabilities that need to be paid for which it does not have needed revenue.  The paragraph on geographically oriented rates would was changed to correct an error regarding rates to high density areas.   Rates there would go down not up.  Geographically oriented rates are used outside of the US by postal operators for providing only last mile services as a means to prevent cream skimming either in terms of creating a competing delivery service or exploiting anomalies in the rate structure as compared to the cost structure in ways that would cause the Post to handle substantial volumes below costs

I apologize for the errors and whatever confusion they may have created.

Wednesday, September 29, 2010

The Postal Service Should Default on its Retiree Healthcare Obligation

The Postal Service is broke.   It has expenses far above revenue and has contract agreements and accounts payables far above its ability to pay.    Besides payroll its largest obligations are to the Federal government and transportation companies like FedEx.  It cannot afford to offer the services it is required to provide.  A recent report from the USPS Office of Inspector General states that the Postal Service is even less likely to be financially viable under the current operating model if volumes continue to decline.

In this financial state, the Postal Service must default in its obligations to the Federal Government and force Congress and the administration to choose between restructuring and liquidation.  Clearly, liquidation is not an option as the economic impact of ending mail service would be catastrophic and shifting mail delivery to the private sector would require a significant gap in time when no service would exist.

Default would force OMB and Congress to act and should force changes both at the Board of Governors (BOG) and senior management.  As such, the BOG and Postal management need to take an action that could cost them their jobs.

What would a restructuring look like?

  • Introduction of a financial target requiring revenue greater than what is needed to ensure accounting break even as that target does not ensure financial self sufficiency.
  • Immediate implementation of the Office of Inspector General's plan to cut area and district level employees.   Even if the plan is not perfect, there is not the money available to wait for a better plan.
  • A new operating plan for handling bulk flats and sorting them to carrier route sequence order using a network of between 50 and 100 facilities.
  • Streamlined review of network consolidation proposals under consideration.   The goal would be to implement consolidation proposals already announced in the second and third quarters of FY '11.  This cuts the normal time needed to implement consolidation efforts by six months or more.
  • A second set of consolidations would be introduced for FY '12 by July of 2011.
  • Increases in rates.   Rates would rise immediately on single piece mail to generate revenue to cover severance and other costs of reducing the workforce for this rapidly declining product and parcel services to both cover costs and/or match rate increases of UPS and FedEx.  Increases in rates for advertising focused mail would likely follow both the timing and size in increases in rates that other traditional advertising media charge as advertising rebounds with the pick-up in consumer spending that appears to be accelerating.
  • Introduction of geographically based prices for drop shipped mail and parcels.   This will raise rates in low density areas and lower them in high density areas.  On average this will not affect rates and could expand mail use in areas that have lower delivery costs.
  • All labor contracts would expire with the restructuring.    New contracts would show limited deference to work rules, compensation and other provisions in existing contracts.
  • Consolidate retail services into fewer locations open for longer hours and self service locations by the end of FY 2012.
What would the Federal Government have to cover?
  •  Most if not all of the retiree heath care costs.   Congress would have to accept modifications in the CSRS calculation and use the overpayment to pay off most of the retiree health care
    obligation and accept modifications in retiree health care calculations in order to reduce the remaining liability.
  • The costs of early retirement incentives and severance payments to reduce the work force.
  • All capital costs to rapidly expand self-service to retail using proven technology.  
  • All capital and other transition costs associated with consolidation and closing facilities.

This is not a pretty picture.  Statements from members of Congress do not suggest that they are yet ready to give current management another year of relief from retiree health care payments, and forcing receivership of the Postal Service goes far beyond that step.  However, Postal management should eschew their self interest and default on the retiree health care payments to force Congress's hand. Then and only then, will Congress look for solutions that go beyond tweaking the status quo.

9/30/2010 - Two changes were made in this post from the original version to correct errors.   Accounts payable replaced accounts receivable in the first paragraph.  Both are bad but as the USPS collects revenue up front it has minimal accounts receivable.  It does have substantial accounts payable and other liabilities that need to be paid for which it does not have needed revenue.  The paragraph on geographically oriented rates would was changed to correct an error regarding rates to high density areas.   Rates there would go down not up.  Geographically oriented rates are used outside of the US by postal operators for providing only last mile services as a means to prevent cream skimming either in terms of creating a competing delivery service or exploiting anomalies in the rate structure as compared to the cost structure in ways that would cause the Post to handle substantial volumes below costs

Friday, September 24, 2010

Senator Carper's Bill: D.O.A

Senator Tom Carper introduced a new postal bill, the ‘‘Postal Operations Sustainment and Transformation Act of 2010’’ (The POST Act of 2010), to modify the Postal Service's business model on September 23rd.   The bill includes all of the legislative changes that the Postal Service requested as part of its action plan last March.  The strong support that Postmaster General Potter shows for the bill in the press release from Senator Carper's office confirms that this bill can be thought of as the "Postal Service's bill."

Unfortunately for Postmaster General Potter, Senator Carper's bill is effectively dead on arrival.  Why?
  • The bill was introduced at the end of the legislative session.    With both the House and Senate going on recess to campaign, the consideration of the bill will not even begin until after the election.    The bill still will require mark-up in the Senate and then mark-up and passage by the House.   The clock will most likely run out before passage in one house of Congress, let alone two.
  • The expected Republican gains in the Senate and House will make any lame-duck session particularly contentious and further reduce the chance that any major legislation will pass.   If Republicans gain control of one or more houses in Congress, it is in their interest to make the lame duck session as ineffective as possible forcing legislative actions to be put on hold until the next Congress.
  • It is easier to stop legislation than to pass it.   The Post Act has a number of provisions that immediately generate opposition.
    • Provisions in the legislation to fix the retiree benefit issues easily can be opposed in a Tweet describing the fix as a bailout of a failed federal agency.   This is exactly what Congressman Darrell Issa said in his op-ed in the Washington Times.  Given opposition to bailouts of private sector firms, Congress is unlikely to pass any legislation labeled as a "bailout" of a government entity in the press, in the blogosphere, on cable TV news or on talk radio.
    • Provisions to allow the Postal Service to eliminate Saturday delivery will receive opposition from a majority of Congress. 
    • Provisions to allow the Postal Service greater flexibility to cut rural post offices will face opposition from primarily the Republican and Blue Dog Democratic members of Congress that represent most of rural America.   While these members are opposed to bailouts, they are also opposed to cutting services to their constituents.
    • Provisions allowing the Postal Service to expand into new services that use its physical, technological and human capital that are in the public interest will receive opposition from companies that fear competition from the Postal Service.
    • Provisions calling for a change in labor arbitration decision criteria will have opposition from Postal unions and their supporters in Congress.

Finally, if this bill does not pass this Congress, it is even less likely to pass in its current form in the next.   Republicans will control the agenda on modifying the Postal Service's business model in the next Congress.    Representative Issa, who has already called the Carper bill a bailout, appears likely to chair the committee writing Postal reform legislation in the House.   His bill will likely require significant changes in the business model beyond what the Postal Service has proposed before accepting the need to fix the retiree benefits issues, let alone include any of the other proposals that Senator Carper has included in the Post Act.  When that occurs, all that may remain of the Post Act will be the legislation's title.

Monday, September 20, 2010

Could FedEx be Beating USPS and UPS in Expanding the use of its Retail Network?

In a story today, the Wall Street Journal reported that Walmart is introducing a program that allows customers to buy online and pick up the item at FedEx Office locations as well as Walmart stores.  Walmart added this delivery option this summer in Los Angeles and Boston, where FedEx has 24 and 18 FedEx Office locations respectively.  In both cities, Walmart has few stores where customers can collect items shipped to a store.

This program allows Walmart to sell its products more effectively to customers who are rarely at home during the day.  Also FedEx Office delivery significantly reduces the cost of delivery of large and heavy items making Walmart's site-to-store via FedEx Office a major advantage for online sales.

Randy Scarborough, vice president of marketing for FedEx Office comments to the Wall Street Journal clearly indicates that FedEx Office is looking at parcel pick-up as a significant new revenue stream for its FedEx Office division.   He stated that FedEx Office expects "other large retailers to take advantage of this."  He further noted that FedEx is planning its "physical network to accommodate this because we do anticipate additional demand." 

The current experiment most likely is focusing on:
  • removing the logistical kinks in the process both within the FedEx distribution networks and within the FedEx Office retail locations, 
  • help FedEx determine the revenue that a FedEx Office location will receive for acting as a parcel delivery location and 
  • help Walmart identify the customers and products that are most likely shipped to a FedEx Office location and which ones still require home delivery.   
Once FedEx begins to expand this program beyond Walmart, it will need to look at secure and less labor intensive means of holding and tendering parcels at its retail locations, especially if demand for parcel pick-ups is concentrated in the same early evening time window that customers are shipping parcels.  At that point kiosks such as those used by Deutsche Post and Post Danmark will begin to look attractive as a cost effective means of allowing customers to get their parcels without having to wait in line for a FedEx Office employee.

Sunday, September 19, 2010

Why Tablet Based Newspapers and Magazines will Succeed

The following ad from Newsday illustrates why ipad and other applications will succeed.  Watch it once to get the joke.   Watch it a second time to see how thr reader is holding the iPad.   It looks like the iPad can be physically handled not much differently than a newspaper. 

The only problem is bright light that might favor the less expensive Kindle and Nook for books and other text only applications.  This is illustrated in the following ad for Kindle that competes nicely with a printed book.

Friday, September 17, 2010

FedEx Earnings - Implications for the USPS

FedEx's earnings announcement and conference provided some insights into the parcel market and the increasing integration of the Postal Services delivery network with the marketing and distribution capabilities of FedEx.   The comments relating to FedEx Smart Post seem to indicate that United Parcel Service and other carriers that compete in the market for delivering small parcels to households, whether by their own drivers or by the Postal Service may be losing market share to FedEx.

Here are the relevant excerpts:

 Parcel Volume

Dave Bronczek – President and CEO of FedEx Express from the Q & A

Well, Art, as Fred mentioned in his opening remarks, we expect a very solid peak season. It always gets a little cloudy after that with the key focal point being Chinese New Year. So, we're optimistic about going into the holiday period and I think we'll have strong performance both in our U.S. networks and international networks through the peak season, but it always gets a little cloudy after that with the important period being around Chinese New Year.

We do expect solid industrial production numbers for the calendar year 2010 and going into 2011 in the 4% to 5% range, and we expect a little bit of consumer spending pickup. Our numbers are around 1.5 in calendar year '10 and about 2.6 in calendar year '11. So those are numbers that we’re very comfortable with in terms of supporting our business levels. Obviously, we'll need to wait a little while after peak season to see what the remainder of the year looks like.

The Postal Service can expect an increase in parcels in the 4th quarter and beyond at least as much as large as what FedEx expects.  As will be shown below, the volume of parcels that the Postal Service delivers is tied to how many parcels FedEx and other similar firms feed to its delivery network.

Distribution Patterns

Alan Graf  - CFO from the Q and A
 Let me just add, particularly in the high-tech sector, our customers don't have any inventory. And what's happening, the market is coming to us as there's a disintermediation of intermediate distribution. Items are going directly from where they are manufactured to point of consumption, which is called International Priority Express, and that's what’s so exciting about the next few years around here is, that's going to continue, and with the reliability that we put up, there's no need to have an intermediate warehouse and there's no need to have a backlog of things that can go obsolete on the shelves and that's part of the excitement that we see around here.

In response to a question about inventory, Alan Graf highlights one of the challenges competing in the domestic home-delivery parcel market.   Inventory of items manufactured overseas, and in particular items that weigh less than ten pounds are no longer shipped to a domestic warehouse for shipping to the household customers.   As the retailer does not know where in the United States the sales will come from or for that matter, what color, size, and in the case of computers, the processor, specific amount of memory, size of hard drive, and other components that the customer plans to order, keeping inventory in the United States becomes quite expensive.  Given the difference in labor costs, it becomes cheaper to pay international air freight than to ship a basic model to the United States, and then modify it for individual orders.  

FedEx continues to deliver these items within its Express network and United Parcel Service delivers them within their standard network.   The Postal Service could enter the market for the delivery of foreign sourced retail sales for home delivery only if it offered a price competitive delivery service in conjunction with DHL or TNT or a foreign post that offered the same security as what FedEx and UPS offer (signature requirements and tracking service) at a competitive price for the total end to end transportation charge.  It could more easily offer a price competitive service that allowed for pick-up at a Post Office or automated kiosk in conjunction with any carrier for a price well below the cost of home delivery.

Parcel Prices:

Mike Glen - President and CEO of FedEx Services from the Q & A

We were pleased with the Domestic Express volume performance. It is also being driven by the high-tech high value added sector. But the particular point that I want to make here is about the strong yield management activities that are in place and we will continue going forward. That is our primary objective. While we want to continue to grow volume and expect that we will do that, our primary focus is on improving yields, at the domestic Express business as well as in Ground and certainly LTL. So, our primary focus is not on market share so much as opposed to continuing to improve yields.

Dave Bronczek – President and CEO of FedEx Express from the Q & A

This is Dave. I’ll just add to what Mike said, and I've mentioned this a couple of times before and we'll talk about it in a couple of weeks here. Yes, the volume is up 3% and yes, my yields are up 7% for an overall revenue increase of 10%, but again, the global network that FedEx Express is, the more international packages that end up in the United States in the inbound, or outbound part of my cycle drives more and more profits automatically. So, the more international packages that end up in my U.S. domestic trucks coupled with the yield improvement program that Mike just talked about is a significant profit driver for FedEx Express.

FeEx's increases in yield (average revenue per piece) reflect a concerted effort to raise the average rate that its customers pay.  While some of the increase in reflects an increase in weight and a higher proportion of international shipments for FedEx Express, it is clear that even in an economy with slow growth, FedEx is able to raise its prices for parcel delivery services.

Service Quality:

Fred Smith from opening statement

FedEx Ground continues to accelerate its network providing a clear speed advantage over the competition. Quite simply, FedEx Ground is faster to more U.S. locations than any other ground carrier.

Just since this last January, FedEx Ground has increased the speed of nearly 3,700 lanes. Since June 2003, FedEx Ground has accelerated its delivery times by one day or more in about 82,000 lanes. FedEx Ground now delivers more than half its volume of packages in two business days or less, and more than 80% in three days or less. FedEx Ground service levels are at all-time highs.

For the Postal Service, FedEx Ground's improved service standards pose a competitive threat to Priority Mail as for many origin destination pairs FedEx Ground rates are less than Priority Mail.   To the extent that United Parcel Service is also expanding the geographic area that has delivery in less than two or three days, they create a competitive advantage over Priority Mail.

Integration with the Postal Service Delivery Network:

 Mike Glenn - President and CEO of FedEx Services

I want to comment on one thing and caution you about looking at the Ground numbers in a vacuum. One of the strategic advantages that we have is SmartPost. SmartPost allows us to attack the residential lightweight business in a very efficient and profitable way. So rather than trying to steer that traffic into the Ground network and the Home network in particular, we steer that traffic into the SmartPost network.
So by definition, some of the growth potential that might otherwise go to Ground is going to SmartPost, and I think you can see the very strong performance we have there. So you have to look at our Ground strategy as an overall residential strategy, including SmartPost. We are very pleased with our ability to continue to have industry-leading growth rates and very strong yield improvement efforts at Ground, and I think that's based upon the combination of a great sales team that is armed with the tremendous value proposition and that's a formula for success.

Fred Smith from the Q & A

So, a good example of that is what Mike Glenn just talked to you about. If you really want to talk about the most cost-sensitive segment of the market, it is lightweight, low value-added retail items going to the home. There is no one that has the density that can compete with United States Postal Service. That's why several years ago, we came up with the strategy of developing a SmartPost service, and why it is growing at huge rates. So, we firmly believe that our strategy which has allowed us to pick-up in the commercial ground sector, what about 12 market share points...

Alan Graf - CFO from the opening statement

FedEx SmartPost average daily volumes grew 9% to $1.1 million as a result of gains in market share and the introduction of new service offerings. Yields at FedEx SmartPost increased 19% primarily due to lower postage costs as a result of increased deliveries to U.S. Postal Service, final destination facilities and higher fuel surcharges.

FedEx clearly sees its SmartPost service as a competitive advantage.   Given that it offers shippers in a highly price sensitive market very low parcel delivery rates a competitive service it increases what the Postal Service delivers.   Pricing this service to FedEx requires a great deal of understanding as to what FedEx is charging customers and what portion of that charge represents the Postal Service's part.   Trying to set this rate within a regulatory context is particularly difficult and raises a question as to whether the rate increases for the Postal Service's portion of the revenue from a parcel delivery shipment should reflect the ability of FedEx and similar carriers to raise prices for end to end service or some other standard.  

To the extent that regulated parcel services are primarily originated by FedEx and similar firms, then the value of the regulation to the shipper of regulated rates may be diminished by the benefits that FedEx and similar firms capture for themselves.

Sunday, September 12, 2010

Increased competition in International Parcels

In August, Eastern Connection announced an alliance with TNT Express.   This alliance gives international shippers in Eastern Connection's service area from Maine to Virginia better access to TNT Express's extensive international network.   The closeness of the link can be seen by clicking on the International shipping picture on Eastern Connection's home page which links you directly to TNT's website.

Eastern Connection is a regional parcel carrier, that offers next day ground delivery service from Maine to Northern Virginia at rates that they state are 15 to 25% below that of UPS and FedEx.   Eastern Connection's service area is ideal for companies with the need to distribute parcels from distribution centers in central Pennsylvania to customers throughout the Northeast.

TNT's international service connects to Eastern Connection's ground and priority networks through Eastern Connection's hub near Newark New Jersey.   Eastern Connection can easily transport shipments for flights to TNT's European hubs via Newark as well as deliver TNT shipments with its service area.

Regional distribution of parcel shipments is growing as internationally sourced goods are transported by air or a combination of ship and rail to  distribution points near the ultimate destination and then transported to the ultimate destination by a parcel carrier.   While UPS and FedEx Ground can and do serve these customers, regional carriers working directly with shippers or with companies like TNT Express and non-asset based transportation companies, such as Expediters International, can provide the last 100 mile service at competitive rates and service levels.

TNT Express's alliance with Eastern Connection makes sense for both companies.  For TNT, the alliance gives it access to an already established, profitable carrier to sell international services and pick-up international parcels throughout the Northeast without having to make a significant investment to create the transportation network or develop a customer base for regional shipping.   To the extent that TNT Express uses Eastern Connection to deliver parcels in its service area, it provides it with a single contractor to deliver parcels throughout a 12 state region, allowing it to offer faster and lower cost delivery in the northeast than it had previously.

For Eastern Connection, the alliance gives it the opportunity to add volume throughout its system and a broader product mix that makes it more competitive for customers shipping both regionally and internationally.  To the extent that TNT Express uses Eastern Connection's delivery network, Eastern Connection improves its scale economies without having to make investments in a sales force outside of the northeast.

Eastern Connection is not the only regional carrier that could improve the US service that TNT Express offers.   If the alliance with Eastern Connection works well, then announcements may soon come linking TNT Express with other regional carriers as well.  Then TNT will be faced with the question as to whether it wants to move beyond an alliance with a regional carrier to making the regional carriers a part of TNT's Express global network.

Wednesday, September 8, 2010

50% off Express and Priority Mail

Office Depot has posted a 50% off coupon on its Facebook page that is good for shipping one item using the Postal Service.   The one day promotion is only good today, September 8, 2010.    It is designed to promote Office Depot's new relationship with the Postal Service and the Express Mail and Priority Mail Services that Office Depot now sells.

The promotion has attracted significant press attention in nearly every city that Office Depot has stores.   Because the sale is for one day and timed before the heavy parcel shipping season, it is unlikely to attract significant volume so the cost to Office Depot should be small. It is less if the Postal Service is covering some or all of the discount.  Office Depot can not offer a similar promotion on parcel post as it remains a remains a regulated product and any deal the Postal Service would offer to Office Depot for Parcel Post might be subject to regulatory scrutiny as would method Office Depot might use to promote the product.

Office Depot now sells parcel shipping services of United Parcel Service and the Postal Service side by side.   It is promoting the Postal Service's services on its website's homepage.  There is no mention of its UPS service although the UPS website will direct you to Office Depot stores that offer its services.

For the Postal Service's deal with Office Depot to work for Office Depot's customers, the Postal Service's Express and Priority Mail services must compete on both price and service.  For it to work for Office Depot, the Postal Service must manage all other aspects of its business relationship properly including ensuring that its agreement with Office Depot generates revenue sufficient for it to make a profit from customers who come in to ship a parcel.   If the Postal Service can do neither, Office Depot will drop the Postal Service just like it drops any other product or service that customers don't buy or it cannot sell at a profit.   The Postal Service should know fairly quickly whether it has found a better way to sell its shipping services pretty soon.

Tuesday, September 7, 2010

Closing Post Offices or Cutting Hours.

The Spatanburg Courier-Journal reported that the Clifton, South Carolina post office is going to have reduced hours.   Currently, the Clifton post office is open Monday through Friday from 7:30 to 11 a.m. and from 1 to 4:45 p.m. and on Saturday from 8 to 11:45 a.m.  The new hours will be 9 a.m. to 1 p.m. and 2 to 4 p.m. Monday through Friday and 9 to 10 a.m. on Saturdays.   This is a reduction of 8 hours per week or more than 20% of total hours.  The reduction in hours creates greater difficulty for households or businesses that are within one-quarter mile from the post office as they have their mail delivered to a post office box that is only accessible during opening hours.

Clifton South Carolina is illustrative of the problem facing many post offices, reduced levels of service.  What are the alternatives?
  • By cutting hours, is the Postal Service trying to discourage retail business?  Customers have to really want to use the Postal Service given the limited number of hours
  • How does the USPS expect to compete when there is a FedEx location that is open from 7:30 a.m. - 9:00 p.m. weekdays, 10:00 a.m. - 6:00 p.m. Saturday, and 12 noon - 6:00 p.m Sunday only 7 miles away and self-service boxes located as close as 2 miles away?
  • How does the USPS expect to compete when there is a UPS location that is open from 8:30 a.m. - 6:30 p.m. weekdays, and 8:30 a.m. - 6:30 p.m.. Saturday less than 7 miles away and self-service boxes located as close as 2.5 miles away?
  • Would consolidating the 5 post offices within 5 miles of Clifton and offering longer hours at the offices that remain open longer hours make the Post Office more competitive for retail parcel shipping in Clifton than a Post Office in each of these communities open only limited hours?
  • Could the Post Office put in a cluster box outside the Post office for those that customers that must collect mail at the Post Office that would give them 24-hour access?
  • Could an automated Kiosk like those deployed by Deutsche Post, Post Danmark offer better parcel pick up and delivery service in Clifton than a post office that is only open a limited number of hours?
 Closing post offices is an emotional issue and affect both the communities that lose their post office and the employees that work there.   However, the purpose of a post office is to serve customers.   Clifton, South Carolina provides a good illustration how a combination of how expanding the use of cluster boxes, self service kiosks used along side a more limited number of full retail outlets with convenient hours could cut the Postal Service's costs, make its services more convenient to customers, and make its services more competitive.  Only money and creativity prevents this from happening.

Monday, September 6, 2010

The OSHA Fines: A Canary in the Coal Mine

The financial problems of the Postal Service have so far had minimal impact on the service that mailers receive.   The Postal Service has generally met its service commitments at levels similar or better than what existed at the time of the passage of the Postal Accountability and Enhancement Act.  To the extent that the financial problems have affected operations, the impact has been hidden from view.

However recent actions by OSHA indicate that the financial challenges are beginning to impact the ability of the Postal Service to safely operate its facilities.   OSHA has found sufficient common violations exist that it issued a complaint to the Occupational Safety and Health Review Commission to order USPS to correct electrical violations at 350 facilities.  The complaint gives the Postal Service unwelcome notoriety as this is the first time that the Department of Labor has sought enterprise-wide relief as a remedyOSHA's action follows the Postal Service receiving fines for safety violations in multiple facilities from Boston to Kansas City.

Enterprise-wide worker safety is a serious issue that often only comes to light when there are more systemic problems that either suggest significant malfeasance or significant financial problems that prevents the enterprise from dealing with them.  In the case of the Postal Service, there is no evidence of malfeasance.  Malfeasance is a potential issue in the investigation of safety issues at the Big Branch mine in West Virginia.

The increase in safety violations at the Postal Service reflects the impact of the financial challenges that resulted in budget cuts and deferred capital spending.  These financial problems have generated issues of maintenance backlogs since at least 2007 when the GAO began reporting it.  OSHA's findings of safety issues expand the issue of maintenance and safety to include mail processing facilities as well. 

An increase in safety related issues often coincides with service related problems in transportation firms.   The recent problems with Metro trains in Washington, D.C. are good examples where deferred maintenance, upgrades and capital spending on infrastructure, information systems and new equipment have resulted in delays and a tragic accident.   Following the accident, Metro trains ran much slower for an extended period of time until the track where the accident occurred was deemed safe.  Also questions exist as to whether some of the older, less structurally sound cars should be removed from service which would increase crowding on the system and reduce train frequency.

Safety issues were also a serious issue for US railroads when they were facing significant financial problems in 1970's and 1980's.  Safety issues had a major impact on service as Conrail and other railroads slowed train speed in order to operate safely and even that did not prevent breakdowns that resulted in lengthy delays and complete denial of service to certain points on within the United States freight rail network.   Similar stories can be told in regards to a number of the commuter rail systems where budget constraints resulted in safety issues that forced slower and less frequent service.  

For the Postal Services, safety issues could affect the service if the safety issues reflect deterioration of basic systems (i.e. plumbing, ventilation, electrical) that require the facility to be closed.   Such problems have closed retail facilities but have yet to close any processing facility.   Even if the problem is less severe, it can have an impact on service.  For example, if the electrical system serving a significant number of pieces of automation equipment must be taken off line for repairs, then mail from that facility could be delayed as mail must be worked on equipment that is not affected.

Safety and maintenance issues raise additional questions in regards to the Postal Service's retail and mail processing strategy.   The expense of keeping a facility open is not just the operating costs involved.  All facilities require regular maintenance and upgrades to basic systems as well as installation of new generations of material handling and automation equipment.

As such, the costs associated with maintaining the existing retail network is not just the cost of the employees who work there and the regular facility operating costs. (i.e. heating costs, electricity, and rent and/or depreciation)  Measuring the true cost of maintaining the existing retail network must include the cost of items that are not incurred every year including regular upgrades in basic systems, painting and remodeling expenses of the retail counters, etc. If the Postal Service has been deferring these building expenses then any review of historical expenses would underestimate the costs of maintaining the existing retail network.

For mail processing facilities the problem is similar.   Cost models that evaluate the Postal Service's network and decisions to consolidate facilities need to look at the capital spending required to maintain existing facilities when then look at the potential costs and benefits of either consolidation into an existing facility or consolidating two or more older facilities into one newer facility.   Not including these costs misstates, and most likely underestimates the benefits of consolidation and may underestimate the benefits of consolidating processing from multiple older facilities into a better located new facility. Also similar to the issue with retail facilities, underfunding of maintenance expenses both understates the costs of keeping processing facilities open and may impact the potential capital spending needs in the future. 

The problems with deferred maintenance and safety issues suggest that the costs of maintaining the existing retail network and a processing network that is too large for the mail volume and mix that the Postal Service handles is probably greater than what the Postal Service currently measures.   Replacing them with retail and processing networks that make sense for the volume and mix of mail and parcels that the Postal Service handles would generate greater savings than now believed even if the remaining facilities required spending to cover deferred maintenance and capital needs.  Not fixing the retail model creates the possibility that the Postal Service could increasing provide more limited hours of service at existing retail locations and use the labor savings to cover the maintenance costs of the facilities.  Not fixing the mail processing model raise the possibility that maintenance problems could result in a significant service failure if a facility has to be taken down to repair the problem.   

The OSHA citations represent the canary in the coal mine in regards to the Postal Service's financial problems.   They illustrate the first instance of how the financial problems that forced deferred maintenance and capital spending affect key stakeholders of the Postal Service; in this case, its employees.  Given what has happened in other transportation companies, customers could expect that financial problems that resulted in deferred maintenance and capital spending to the service they see.  At this point maintenance issues have affected some retail customers and could affect more if increased maintenance costs require costs in operating costs and hours that retail facilities are open.    Commercial mailers should begin to wonder how soon it will be before the costs of maintaining an over-sized and mis-matched physical plant begins to affect the quality of service that they receive.

Saturday, September 4, 2010

Netflix: What is Driving It Out of the Mail? reported that Netflix stated in a filing with the Postal Regulatory Commission that a decision in GameFly’s favor could “result in reduced DVD shipment growth from Netflix as well as accelerate the ultimate decline of DVD shipments as Netflix would shift more resource to the digital delivery of content”.   In addition, Netflix is concerned about the Postal Regulatory Commission requiring the Postal Service to release confidential research conducted by Netflix that the Postal Service has that “certain changes in DVD design, manufacturing, packing and handling would enable GameFly to avoid DVD breakage from automated letter processing."

Netflix's assertion raises a couple of interesting question that are independent of whether GameFly's complaint has merit.  
  • Does increased competition among entities providing a service using an old technology hasten the decline in the use of the old technology?  Currently only Blockbuster offers a competitive mail delivery movie service.   Netflix's other competitors are the remaining Blockbuster and other retail outlets, and kiosks operated by RedBox and Blockbuster.

    Competition from new technology is most likely to knock out the weakest competitors offering services using older technologies.   Blockbuster is likely to file for bankruptcy early this month which will allow it to jettison a significant number of its retail outlets.  The Los Angeles Times reports it plans to concentrate its business on its licensed arrangement for kiosks with NCR Corporation and developing an on-line operation. 

  • Do lower costs for delivering and selling software for devices that can be used to stream movies affect the shift away from old technology?  All three of the major video game consoles (i.e. Nintendo Wii, Microsoft XBox 360, and Sony Playstation 3) have Wi-Fi capabilities that allow a viewer to stream Netflix's online content using the console.  Currently, there are over 60 million of these consoles in use.   If GameFly's service makes these consoles more attractive for potential buyers then it is possible that it creates a larger market for the consoles that are used for video streaming.   However given as a September 30, 2009, GameFly had 330,000 subscribers, it would appear unlikely that it has much impact on increasing the share of homes that have Wi-Fi capable game consoles.

  • If the current Netflix Envelope permits Postal Service automation equipment to handle envelopes containing CD's and DVD's why did GameFly not reverse engineer or license the envelopes?  Unless Netflix holds a patent on the envelope  there would be nothing to prevent envelope manufacturers from reverse engineering the envelope Netflix uses and selling them to other firms that want to mail large quantities of CD's and DVD's by mail using the Postal Service's lowest cost processes. Similarly, GameFly could have paid for the reverse engineering themselves.   The proprietary study that GameFly wants would significantly cut the costs of this reverse engineering if it has not done this already.  

    Netflix holds a a patent on its envelope, patent #6,966,484.   The patent was issued in 2005 and and refrences versions of the envelope since 2001.  Netflix's patent has not prevented Blockbuster from having its own envelope as does GameFly.   However, it  is possible that the patented envelope design may allow the Postal Service to handle Netflix's discs more efficiently than the envelopes available to mailers who do not have access to the patent.  

    GameFly has two options in regards to the patent.  First, it could seek to license the patent.  However, Netflex may not want to relinquish any competitive advantages from its patent.  Second, it could reverse engineer the envelope with the goal of designing an envelope that that does not violate the Netflix patent  yet still can be handled on the Postal Service's automation equipment.   The proprietary study that GameFly wants would significantly cut the costs of this effort.
      (Thanks to Brian Sheenan of for the patent information.)

  • Why did the Postal Service not do the research on envelope design itself?  The Postal Service has always relied on private industry to design envelopes that meet its specifications.  Creative requirements of mailers often result in a cornucopia of designs designed to attract attention and increase the impact of mail.  In the case of Netflix, the Postal Service worked with Netflix's envelope designers to help design and test potential envelope designs that  Netflix developed that led to the envelope that was patented. movie by mail business.    

    An alternative approach may have developed if the Postal Service operated under a different business model and had more capital.  Under this model the Postal Service would have developed and patented the envelope itself and then licensed the design to all mailers that required an automation compatible self mailer with return envelope for CD's and DVD's.  This way the Postal Service could make money both on the patent and in the mail that uses the envelope. 

  • Does the envelope issue raise questions about how the Postal Service manages its customer relationships and how the regulatory process influences these relationships?  The public fight between GameFly and the Postal Service appears to also be a fight between two of its customers.   The regulatory process forces the Postal Service to choose sides in a public battle between two of its customers rather than trying to find a way to privately maximize its return from both customers.  UPS does not have to figure out the impact on Walmart if it proposes a certain discount structure to Amazon. Why does it make sense for the the Postal Service to do this in public or for the Postal Regulatory Commission to have to make an evaluation of how rates charged to one corporate customer affect the business of a second corporate customer? 

  • How is new competition from Apple, Amazon, Hulu and others affecting the pace that consumers are shifting from mailed to streamed video content?   Consumers now have the choice of a number of options for viewing video content streamed over the web including subscription, rental, and free services.    Both Apple and Amazon are offering streaming of offer streaming of individual TV shows and movies.  Both charge 99 cents for TV shows and 3.99 for movies.    Hulu also offers a large number of current television shows, a wide selection of older shows and many older movies free of charge with commercials  Hulu also offers the full season of shows on three broadcast networks for a $9.99 monthly fee.    CBS and Comedy Central currently have many of their current shows on line for free.  Many of the movies offered on-line by competitors for rent are not yet on Netflix's on demand service.

    Currently none of the services offering streaming content offer as easy an interface for selecting movies or as wide of  a selection of as the one Netflix has for viewing by mail.   Nor do they offer as wide a selection of movies for watching on line as Netflix.   In order for Netflix's on-line competitors to make a significant inroads into Netflix's business they will have to improve their interface, expand their selection, and reduce the risk that movies will be interrupted by network issues.  Given that these firms currently dominate sales of music mp3 files and sales of DVD's and CD's, they can be expected to make the neccessary changes to offer a competitive customer experience for selecting movies for streaming.
GameFly's complaint and the responses of Netflix and the Postal Service illustrate how the regulatory process perverts the process of negotiating rates between the Postal Service and its customers.  This complaint case and Netflix's response is similar to case filed before the Interstate Commerce Commission prior to trucking and rail deregulation where contracts had to be filed with the Commission and carriers were limited as to the number of contracts that they signed.   This prevented carriers from offering services that were price competitive and limited the growth of new and innovate ways to distribute goods in the United States.

I do not know whether GameFly's or Netflix's cases have merit.   I do know that both companies and the Postal Service would be better served if the companies were able to negotiate rates with the Postal Service without regulatory interference.  Shifting both companies to a negotiated contract model for rates would require the Postal Service to know nearly as much about GameFly's and Netflix's business and their distribution requirements as they know themselves.  The Postal Service would find it to be in its interest to try to find ways to use its assets to provide transportation and distribution services at a lower cost than these companies now do themselves.  

The potential benefits that exist for GameFly and Netflix are not unique.  All mailers would benefit from a Postal Service that had to know its customer's businesses as well as the customer in order to design its services and price its products.   However, the current regulatory process does not encourage this and instead creates the adversarial environment illustrated by the exigent rate case.   The future of the mailing industry, and the Postal Service itself requires this change.  The question is what would it take for Congress to recognize and act to make this change.

Thursday, September 2, 2010

Postal Service Labor Negotiations: Heading Towards Arbitration

The Washington Post reported the beginning of negotiations between the Postal Service and its four major unions today.   The negotiations will take between six months and a year.   If no agreement is negotiated it goes to arbitration.   Given the differences between the Postal Service and its unions on major issues and the difficulty that union leadership would have in trying to convince the rank-and-file to accept any of the changes that the Postal Service is proposing, an arbitrated settlement appears likely.

Anyone following public statements from the Postal Service or postal unions on negotiating positions or the state of negotiations should understand public statements have specific audiences. 

First and foremost, both sides are talking to Congress.   Statements made members of Congress from both parties suggest that postal employees may not have as sympathetic an ear as they have had in the past.   Postal Unions want to convince of Congress that the Postal Service's proposal is unfair to employees and includes unwarranted changes in current contracts.  The Postal Service want to convince members of Congress that it is serious about changing contract provisions that prevent it from becoming financially self sufficient and a relevant part of the economy and that the impact on current employees is no greater than is necessary to meet financial and service goals.   

Between the Postal Service and postal unions, the unions probably have the more difficult job of communicating their message.   Members of Congress from both parties have pressed management to make significant changes in contracts and given the length of the negotiations the next Congress will be less favorably inclined to listen to postal labor than now.

Second, both sides are talking to the rank and file.   Postal unions are political entities as their leadership are elected by the rank and file.    Union leaders risk ouster if they accept the give-backs that the Postal Service proposes.    Standing up to the Postal Service's proposals is good politics even if it risks a new contract set by an arbitrator under either current law or changes that members of Congress have proposed.   The Postal Service needs to communicate both why it wants to make major changes and why employees should be willing to accept them.    They need to have some carrot, to make the sale easier but it is not clear if they have any sugar available to make the medicine that they propose go down.   

In communicating to rank and file postal employees, postal unions have a much stronger position.   A combative position is likely to be popular so employees will be receptive.   The Postal Service has little besides pain to offer so it will find it difficult communicating why change is needed to employees that face significant changes in a long standing understanding of what their job entails, how they will be scheduled, what their benefits are, and what they will be paid.