2. McKinsey & Company 1|
Contents
ƒ Recent context
ƒ Base case – minimal management actions
ƒ Addressing the challenge
ƒ Short term requirements
3. McKinsey & Company 2|
USPS is experiencing unprecedented losses
SOURCE: USPS; P.L. 109-435 (PAEA)
-7.82
2010
0.9
05
1.4
04
3.1
03
3.9
02
-0.7
01
-1.7
2000
-0.2
06
-2.8
0907
-5.1
08
-3.8
Net profit/loss
$ billions
Postal Act 2006 signed
into law
Note: All years in this document refer to Fiscal Years ending on Sept 30
1 Includes one-time $4 billion deferral
2 Per 2010 Integrated Financial Plan (January Year-to-Date results are favorable to Plan)
8.4 5.6 1.41 5.5
RHB pre-funding, $ billions
Key drivers
ƒ Revenue declines due to:
– E-diversion of First-
Class Mail
– Down-trading from
First-Class to Standard
Mail
– Losses of advertising
mail due to the
recession
ƒ RHB pre-funding
requirement introduced by
the PAEA
ƒ Cost savings, while
substantial, have been
less than revenue declines
due to high fixed costs of
the network
No rate increase
2003-2006
Recent Context
4. McKinsey & Company 3|
Losses have been driven by volume declines, RHB pre-funding
requirements and limitations on cost savings
0.9
FY2006
Net income
4.0
FY2009
Net income
-3.8
RHB deferralCost savings
12.6
RHB pre-
funding
requirement
5.5
Revenue
decline1
15.8
Drivers of change in net income 2006 vs. 2009
$ billions
SOURCE: USPS 2006 Annual Report; USPS 2010 Budget
1 Revenue declines calculating by applying 2009 prices against 2006-09 volume declines
ƒ Volume declines of 17%, driven by
– E-substitution
– Ad spend shift to other channels
– Deep recession
ƒ Savings driven by
– Reduction of overtime
– Extreme slow-down in hiring
– Route consolidation
– Volume reduction
Recent Context
5. McKinsey & Company 4|
Volume declines have been worse than expected when the current legal
and regulatory framework was established
240
230
220
210
200
190
180
170
160
0
20100908070605042003
Actual
Upside
forecast
Downside
forecast
Base case
forecast
SOURCE: USPS
2005
forecasts2
ƒ When PAEA was passed,
volume projections did not
anticipate the current scale
of declines
ƒ PAEA introduced some
additional product
flexibility, but also two
crucial restrictions:
– Price increases capped
at CPI by class
– Significant pre-funding
requirements for
Retiree Health Benefits
(RHB)
1 Postal Accountability and Enhancement Act, 2006
2 Forecasts from “USPS Strategic Transformation Plan”, 2005
Volume forecasts and actuals
Billions of pieces
PAEA implications1
Recent Context
6. McKinsey & Company 5|
First-Class Mail, Standard Mail and GDP growth
Cumulative increase from 1973, percent
The recession has exacerbated volume declines, but mail has reached an
inflection point, with e-diversion now driving long term decline
250
150
Standard Mail
volume
300
100
0
2005200019951990198519801975
First-Class Mail
volume
Real GDP
200
50
350
400
SOURCE: USPS
2009
Recent Context
7. McKinsey & Company 6|
Retiree Health Benefit funding requirements are a significant burden,
equal to 12% of total revenue in 2010
RHB payments, 2006 – 2010
$ billion
SOURCE: USPS 2009 10-K; USPS 2010 Budget
8.4
5.6
1.4
5.5
20092
3.4
2.0
2008
7.4
1.8
20071
10.1
1.7
2006
1.6
2010
2.2
7.7
ƒ Pre-funding is unique to USPS within
the public sector, and rare (and not
required) within the private sector
Drivers of RHB requirements
ƒ Schedule of pre-funding requirements
is accelerated in the first 10 years of
the 50 year liability
ƒ Actuarial estimates of total RHB liability
vary widely based on differences in
discount rates, future health care costs,
the size of the workforce, and period of
pre-funding
PAEA scheduled pre-funding
requirement
Employer premiums
Recent Context
1 $8.4B scheduled payment includes $3B legacy payment from CSRS
2 $1.4B scheduled payment includes $4B deferral from Congress
8. McKinsey & Company 7|
Recent reductions in workforce usage have been significant, but pieces
per FTE still declined in 2009
262
07
265
06
261
05
258
2009
251
03
243
02
234
04
249
0801
231
2000
227
USPS workforce
FTEs1, Thousands
Pieces per FTE
Pieces per year, thousands
SOURCE: USPS
1 Full Time Equivalent, based on work hours (includes overtime)
0
2009
711
08070605
950
900
850
800
750
700
1,000
040302012000
917
Recent Context
9. McKinsey & Company 8|
The USPS has been responsive to declining volume, but recent work hour
reductions will become increasingly difficult to replicate
SOURCE: FY 2009 10-K; 2007 and 2009 National Payroll Hour Summary Report
Work hours reduction Sources of work hours reduction
74M
(45%)
12M
(7%)
79M
(48%)
Millions of hours
Recent Context
1,175
146 90
2007
1,423
Overtime
Non-career
67
2009
1,258
1,101Career
102 -12%
Career
Non Career
Overtime
55% of reductions have come from non-career and overtime
10. McKinsey & Company 9|
Contents
ƒ Recent context
ƒ Base case – minimal management actions
ƒ Addressing the challenge
ƒ Short term requirements
11. McKinsey & Company 10|
Four trends will affect postal economics going forward
Volume
Price Workforce costs
USO Obligation
ƒ Transactional
volume declining due
to e-diversion
ƒ Advertising mail is
subject to increased
substitution options
ƒ Increases capped
by inflation class
ƒ Price elasticities are
in flux due to
growing alternatives
ƒ Delivery points
ƒ Retail locations
ƒ Sortation facilities
ƒ Preferred prices for
some products (e.g.,
non-profit mail)
ƒ RHB pre-funding
driven by law
ƒ Legacy costs beyond
USPS control
ƒ Wages subject to
collective bargaining
REVENUE TRENDS COST TRENDS
These trends will
continue to put
pressure on USPS
ability to provide
affordable universal
service
Declining
steadily
Fixed cost
base
Rising
cost per
hour
Rising but
capped
Base Case
12. McKinsey & Company 11|
0
40
80
120
160
200
Volume will decline significantly over the next decade driven
by a steady decline in First-Class Mail, the most profitable segment
SOURCE: BCG; USPS Financial Forecasting Model
BCG volume forecast
Billions of pieces
Change in
volume
2009-2020
Portion of margin
available to cover
fixed costs, 2009
-31 billion
+4 billion
(1.5%) per year
<-1 billion
71%
21%
8%Other (e.g.,
packages,
periodicals)
Base Case: Volume Declines
150
Standard
First Class
2009 2020
177
13. McKinsey & Company 12|
USPS Revenue
$ Billions
Overall revenue will slightly increase, as inflation-driven price increases
will offset the volume decline and shift to Standard Mail
SOURCE: BCG; Global Insights; USPS Financial Forecast Model
Price impact
$16.8
Mix shift from
First-Class to
Standard1
$3.8
Volume
decline
$11.8
2009
Revenue
$68.1 B
2020 Revenue
$69.3 B
An additional 27 Billion
pieces are forecast to be
lost (15% of total). Assumes
no loss due to elasticity
An additional 27 Billion
pieces are forecast to be
lost (15% of total). Assumes
no loss due to elasticity
The loss in First-Class
will be even higher (37%
of total), lowering the
average price
The loss in First-Class
will be even higher (37%
of total), lowering the
average price
Prices forecast to rise
with inflation
Prices forecast to rise
with inflation
1 Calculated by applying the 2009 First-Class/Standard mix to 2020 prices. Excludes mix shift in any other categories
Base Case: Revenue Projection
14. McKinsey & Company 13|
Costs, from a workforce standpoint, are largely fixed to fulfill
the universal service obligation and other service requirements
SOURCE: USPS FY 2009 10-K
Post Offices
(36,500 Post Offices, Stations and Branches1)
ƒ Built so that Americans have nearby access
ƒ Continued urban sprawl and growth puts
pressure to increase retail outlets
ƒ Significant resistance and administrative
burden to closing existing Post Offices
ƒ Prohibited by law from closing Post Offices
for economic reasons
Delivery network
(~150 million delivery points2)
ƒ Required to deliver to almost
every address in America
ƒ 6-day delivery to every
delivery point
Sortation plants
(600 processing facilities)
ƒ Built to ensure overnight delivery of
local mail
ƒ Network largely fixed unless service
standards change
ƒ Significant political resistance and
administrative burden to closing plants
e a
existing Post Offices
from closing Post Offices
asons
Network historically built to
provide high service levels to
citizens, on the basis of growing
volumes
Transportation
(220,000 vehicles)
ƒ Large vehicle fleet
ƒ $2.6 billion in air
transportation expenses
1 Includes CPUs
2 Includes approximately 20 million PO Boxes
Base Case: Fixed Cost of USO
15. McKinsey & Company 14|
Without aggressive management cost-cutting, work hours will
remain flat with volume decline countered by more delivery points
Base Case: Impact of Volume and USO/Service
Levels on Workforce Costs
5664
2020
1,245
Reduction
in overhead
1
Reduction in
PO locations
4
Increase in
delivery points
Mail volume
reduction
2009
1,258
Millions of work hours
1.5% per year drop in
volume (27B fewer mail
pieces)
1.5% per year drop in
volume (27B fewer mail
pieces)
Increase by 0.8%
per year (~12
million new
delivery points)
Increase by 0.8%
per year (~12
million new
delivery points)
Reduction of
~800 PO’s
(2% of base)
Reduction of
~800 PO’s
(2% of base)
SOURCE: USPS
16. McKinsey & Company 15|
Health benefits
4.7-5.2
Workers’ Comp
2.0-4.0
Workforce costs continue to rise faster than inflation through 2020
Workforce annual rate increase projections through 2020
Percent
1.3-2.5
Wages
Inflation
(CPI at
1.9%)
Base Case: Workforce cost projection
SOURCE: Global Insights; USPS Financial Forecast Model
17. McKinsey & Company 16|
While payments in 2017-2020 drop, RHB funding will continue
to be greater than 10% of gross revenues through 2020
2020
8.0
5.3
2.7
19
7.7
5.0
2.7
18
7.4
4.8
2.6
17
7.1
4.5
2.6
16
10.5
4.7
5.8
15
9.9
4.2
5.7
14
9.5
3.8
5.7
13
9.0
3.4
5.6
12
8.6
3.0
5.6
11
8.2
2.7
5.5
10
7.7
2.2
5.5
2009
3.4
2.0
1.4
SOURCE: OPM estimates; P.L. 109-435
1 Based on OPM estimates of future liability, including RHB pre-funding and annual premiums
2 Current retiree health premiums in 2017-2020 are paid directly out of the fund, resulting in no operating expense
Retiree Health Benefit payments1
$ Billions
Normal costs
Premiums
PAEA pre-funding schedule + current premiums
Additional pre-funding
payment + normal cost
for current employees2
5% 12% 12% 13% 14% 14% 15% 16% 11% 11% 11% 12%
Percent
of total
revenue
PAEA scheduled
pre-funding
Additional pre-
funding
Base Case: Workforce cost projection
18. McKinsey & Company 17|
The combination of the trends will put extreme pressure on USPS given it
is a largely fixed-cost network business
0.30
0.35
0.40
0.45
0.50
0.55
0.60
0.65
0.70
2000 2005 2010 2015 2020
Cost
per piece
Revenue
per piece
Revenue and cost per piece
$
~ 4% per
year
2009-2020
growth
~ 2% per
year
Base Case
19. McKinsey & Company 18|
The “Base Case” leads to a loss of $33 billion and cumulative losses of
$238 billion by 2020
78
76
74
72
70
92
96
94
90
88
86
84
82
80
68
66
0
2020181716151413121110090807
Cost
Revenue
+0.5%
p.a.1
+2.2%
p.a.1
$ Billions
Revenue and cost Annual net loss forecast Cumulative losses
238
205
175
149
125
99
77
58
42
27
17
774 15
2019181716151413121110090807
Statutory debt
ceiling of $15 B
will be reached
in Oct 2010
Statutory debt
ceiling of $15 B
will be reached
in Oct 2010
-3
-34
-32
-30
-28
-26
-24
-22
-20
-18
-16
-14
-12
-10
-8
-6
-4
-2
0
20
-33
19181716151413121110090807
RHB reset
Actual Forecast
Even if volumes remained flat instead of declining by 1.5%
annually, the loss in 2020 would still be $21 billion
1 Per Annum: Compound annual growth rate, 2010 to 2020
Base Case
20. McKinsey & Company 19|
The financial outlook for the Postal Service is highly dependent on trends
in the general economy
ƒ Rapid economic recovery
ƒ Greater than expected rebound in
Advertising Mail
ƒ Flattening of e-diversion
ƒ Government-led decrease in health
care cost inflation
ƒ Non-career employee increase
ƒ Greater than expected volume
declines due to:
– Accelerated e-diversion
– Further (“double-dip”) recession
ƒ Health care uncertainty
– Greater than expected health
care cost inflation
– Legislation to require provision
of full medical benefits to non-
career employees
ƒ Input cost inflation outpacing
prices, especially in fuel costs
Potential upside Potential downside risks
Base Case
21. McKinsey & Company 20|
Contents
ƒ Recent context
ƒ Base case – minimal management actions
ƒ Addressing the challenge
ƒ Short term requirements
22. McKinsey & Company 21|
USPS can pursue two sets of actions to address the challenge
Description
Fundamental
Change
Actions Within
Postal Service
Control
ƒ Actions requiring legislative change
ƒ Actions within USPS authority
ƒ No legislation required, although stakeholder
support/approval needed
ƒ Most options require PRC approval, collective
bargaining, or political support
ƒ Actions being taken or planned by USPS to grow and
improve productivity
ƒ May be challenging to achieve
ƒ Non-
legislative
ƒ Legislative
23. McKinsey & Company 22|
USPS can pursue actions within its control to reduce the FY2020 gap
Base Case with no additional
efficiency or revenue initiatives
will lead to a $33B shortfall in
2020, and cumulative losses of
$238 billion
($33B)
FY2020
Actions within Postal Service
control reduce the 2020 annual
loss to $15 billion, and the
cumulative loss to $115 billion
($15B)
FY2020
Actions within Postal Service control
-5
-35
-30
-25
-20
-15
-10
5
2005
Break-
even
20202009
Actual Forecast
Net income
$ Billions
($33
$115B cumulative
gap remains
24. McKinsey & Company 23|
USPS will continue to take aggressive action to drive revenue and control
costs
Actions within Postal Service control
Net annual income benefit (2020)
~$2BProduct and service actions1
~$10BProductivity improvements2
~$0.5BWorkforce flexibility improvements3
Total
~$5BAvoided interest due to reduced debt
~$0.5BPurchasing savings4
Cumulative impact 2010-2020
~$18B
~$123B
25. McKinsey & Company 24|
The “Actions within Postal Service control” case includes product and
service initiatives above the baseline to grow volume
Total 2020
income impact
SOURCE: USPS
1
Actions within Postal Service control: Product initiatives
Key actions
~ $2 billion
Mail services ƒ Grow under-penetrated segments and access latent
demand through:
– Increasing Small Business direct mail
– First Class/Standard mail promotions
Package
services
ƒ Leverage network to grow aggressively through:
– Priority Mail Flat Rate Box expansion
– Commercial contracts
– Parcel Select and Returns, including recycling
– Product samples
Retail
services
ƒ Maximize profitability by store segment within a plan
to reduce costs and increase access though:
– PO Boxes
– Consumer products
– Passport growth
Postal Service product and service initiatives
26. McKinsey & Company 25|
Aggressive productivity improvements in the “Actions within Postal
Service control” case are worth ~ $10 billion
2
Customer
service
ƒ Continuous improvement/ Lean Six Sigma
ƒ Transactions moving to alternative access points
through customer demand
Delivery ƒ Flats Sequencing System
ƒ Route restructuring
Processing
plant
operations
ƒ Continuous improvement/ Lean Six Sigma
ƒ Incremental network consolidation
Admin ƒ Restructuring and consolidating administration,
supported by technology enablers
Actions within Postal Service control: Productivity
Postal Service productivity initiatives
~ $10 billion
Increasing
world-class
productivity
USPS already
processes
91% of mail
through
automation,
the best in the
world. Further
improvements
will be highly
challenging
Key actions
Total 2020
income impact
27. McKinsey & Company 26|
Increasing workforce flexibility and improving procurement add ~ $1B
in the “Actions within Postal Service control” case
SOURCE: USPS National On-roll Complement
Actions within Postal Service control: Workforce/Procurement
3/4
Workforce
flexibility
ƒ As career employees leave, replace with non-career
employees up to bargaining limits
ƒ Takes advantage of natural attrition
Total 2020 income impact ~ $0.5 billion
Procurement
ƒ Increase transportation efficiency
ƒ Improve vendor management for supplies, services
and other costs (e.g., IT)
Total 2020 income impact ~ $0.5 billion
Postal Service workforce flexibility and procurement improvements
Key actions
28. McKinsey & Company 27|
The “Actions within Postal Service control” case leads to a loss of $15
Billion and cumulative losses of $115 Billion by 2020
85
80
75
70
65
0
2019181716151413121110090807
Cost
Revenue +1.2%
p.a.1
+1.5%
p.a.1
$ Billions
Revenue and cost Net annual loss forecast Cumulative losses
115
100
88
76
66
53
42
33
25
18
14
77
4
15
2019181716151413121110090807
Cumulative losses
are reduced to
$115B from
$238B
Cumulative losses
are reduced to
$115B from
$238B
-34
-32
-30
-28
-26
-24
-22
-20
-18
-16
-14
-12
-10
-8
-6
-4
-2
0
20
-33
-15
19181716151413121110090807
RHB reset
Actual Forecast
Actions within
management
control
Base Case
Actions within Postal Service control
Statutory debt
ceiling of $15 B
still reached in
Oct 2010
1 Per Annum: Compound annual growth rate, 2010 to 2020
Statutory debt
ceiling of $15 B
still reached in
Oct 2010
29. McKinsey & Company 28|
-15
-20
-25
-30
5
-10
-35
-5
“Fundamental Change” that increases USPS flexibility will be required to
close the remaining gap
2005
($33B)
FY2020
Break-
even
20202009
Actual Forecast
Net income
$ Billions
($15B)
FY2020
Fundamental Change is required
to secure future sustainability
ƒ Non-legislative changes
ƒ Legislative changes
Fundamental Change
Base Case with no additional
efficiency or revenue initiatives
will lead to a $33B shortfall in
2020, and cumulative losses of
$238 billion
Actions within Postal Service
control reduce the 2020 annual
loss to $15 billion, and the
cumulative loss to $115 billion
30. McKinsey & Company 29|
Definition of non-legislative and legislative change
Fundamental Change
Description Examples
Legislative
ƒ Actions requiring
legislative change
ƒ Includes changes to the base
legislation as well as issues
that have historically been
attached as annual riders (e.g.
additional restrictions on
closing Post Offices)
ƒ Significant change in the retail
network through a combination of
increased access with partners and
eventual franchising and/or closure
of existing locations
ƒ Eliminating/reducing subsidies non-
profits
Non-legislative
ƒ Actions within USPS authority
ƒ No legislative changes
required, but will impact some
stakeholders and is
challenging to implement
ƒ Many options require PRC
approval
ƒ All labor changes subject to
collective bargaining
ƒ New product innovations such as
hybrid mail
ƒ Exigent price increases
31. McKinsey & Company 30|
ƒ Hybrid mail
USPS will need to pursue multiple “Fundamental Change”
options to close the remaining gap
Fundamental Change
Products and
services Pricing
ƒ Exigent price
increase
P1
Service levels Workforce
Changes to:
ƒ Workforce
flexibility
W1
Public policy
considerations
Options for USPS
consideration
ƒ Price cap
modification
P3
ƒ Cover costs
of un-
profitable
products
P2
ƒ RHBG1
R1
R2 ƒ USO subsidiesG2
ƒ Products
and services
flexibility
R3
ƒ Streamlined
oversight
G3
Advertising
product
Changes to
ƒ Service standards
ƒ Delivery location
ƒ Delivery
frequency
S2
S3
S1
AccessS4
ƒ Benefits
requirements
W2
Legislative
Non-legislative
32. McKinsey & Company 31|
Products and services opportunities were identified through a screen
for potential feasibility and impact in the near term
ƒ Existing
USPS ideas
ƒ Foreign post
examples
from
Accenture
ƒ Other ideas
from
McKinsey
Examples include…
ƒ Financial services (e.g.,
Banking, Insurance)
ƒ Transportation services (e.g.,
3PL, warehousing)
ƒ Business and government
services
ƒ Asset commercialization (e.g.,
truck advertising)
ƒ New mail products (e.g., hybrid
mail)
ƒ Retail products (e.g., vending)
Fundamental Change: Products and Services
Ideas with low profit impact or low feasibility
ƒ High barriers to entry
ƒ Significant upfront capital investment required
ƒ Current labor cost structure unsuitable
ƒ Low U.S. market feasibility
ƒ Extremely low industry margins
Fundamental Change: Products and services opportunities
~30+ revenue initiativesSource of ideas
Options not fully within
USPS control
ƒ Hybrid mail including
E2E, E2P and P2E
digital solutions
ƒ Simplified advertising
products
R1
R2
33. McKinsey & Company 32|
Products and services opportunities for USPS
Fundamental Change: Products and Services
Fundamental Change: Products and services opportunities
ƒ Simplify advertising product for direct marketers looking
to reach householdsAdvertising
products
R2
ƒ Develop new products and services consistent with
USPS mission
Products and
Services
Flexibility
R3
Hybrid Mail
Products
R1
ƒ Create a suite of hybrid mail products the integrate
electronic and physical mail
– E2E and electronic postmark
– E2P and P2E mail and print solutions
Legislative
Non-legislative
34. McKinsey & Company 33|
Pricing opportunities for USPS
Fundamental Change: Pricing
Fundamental Change: Pricing opportunities
Exigent rate
increase
P1
ƒ Apply for exigent price increase
Cover costsP2
ƒ Increase prices on select products to cover costs:
– Periodicals
– Nonprofit mail
– Media and Library mail
Price cap
modification
P3
ƒ Set a global cap across all market dominant products,
rather than by class
ƒ Automatically adjust cap based on volume triggers
Legislative
Non-legislative
35. McKinsey & Company 34|
Service level opportunities for USPS
Fundamental Change: Service Levels
Fundamental Change: Service level opportunities
Service
standards
S1
ƒ Change service levels from 1-3 day to 2-5 days for First-
Class Mail enabling simplified and standardized mail
flows with minimal impact on consumers/businesses
Delivery
frequency
S3
ƒ Reduce delivery frequency to 3 or 5 days per week
AccessS4
ƒ Expand access through alternative channels
– Private sector partnerships
– Kiosks
– Direct (e.g., online, mobile)
Delivery
location
S2
ƒ Change delivery location to curbside or cluster mailboxes
Legislative
Non-legislative
36. McKinsey & Company 35|
Workforce opportunities for USPS
Fundamental Change: Workforce
Fundamental Change: Workforce opportunities
Workforce
flexibility
ƒ Implement initiatives to
– Improve workforce flexibility and leverage natural shift
in employee mix due to 5% annual attrition rate
– Align workforce costs with overall market trends
Benefits
requirements
W2
ƒ Bring federally-mandated benefits payments more in line
with private sector
W1
Legislative
Non-legislative
37. McKinsey & Company 36|
Public policy considerations
Fundamental Change: Public policy considerations
Fundamental Change: Public policy considerations
RHB
ƒ Defer payments
ƒ Shift to a “pay as you go” system comparable to other
federal agencies and private sector companies
Streamlined
oversight
ƒ Increase flexibility and speed to market by
– More clearly defining roles of oversight bodies
– Moving toward after-the-fact review
– Defining time limits for all reviews
USO subsidies
ƒ Receive Universal Service Obligation subsidies through
federal appropriationsG2
G1
G3
Legislative
Non-legislative
38. McKinsey & Company 37|
Contents
ƒ Recent context
ƒ Base case – minimal management actions
ƒ Addressing the challenge
ƒ Short term requirements
39. McKinsey & Company 38|
In the short run, USPS will violate its statutory financing requirements
in October 2010
ƒ Only a limited subset of options will take effect quickly enough to address
the short term financing requirement
ƒ Options available to maintain solvency in October 2010:
– RHB restructuring by Congress (deferral or relief)
– Receive an increased debt limit (does not resolve core issues)
ƒ Options available to maintain solvency in September 2011:
– RHB restructuring
– Receive an increased debt limit
– Exigent price increase
– 6 to 5 day delivery