Why Offer 30% Discounts on a 'Money-Losing' Product? Tough Question #3 For USPS

The Postal Service claimed once again last week that it loses money on Standard flats mail, just five days after kicking off a huge discount program on – guess what? – Standard flats mail.

The claim that Standard flats is "under water" was repeated in the USPS’s request for “exigent” rate increases: “To fully close the coverage gap, Standard Mail Flats prices would need to increase by 16 percent,” wrote James M. Kiefer, a USPS pricing economist, in a statement submitted to the Postal Regulatory Commission.

The discounts – up to 30% for some pieces sent by large mailers – are part of the second annual Summer Sale on Standard mail. The sale's discounts are the same for Standard flats -- mostly catalogs and retail circulars that are not in carrier-route bundles -- as for "profitable" categories like Standard letters.

The Postal Service decided to take “a cautious approach” and only increase Standard flats rates by 5.1%, Kiefer said, because “increasing postage prices too much at this vulnerable point could force catalog mailers to cut their customer lists.” Some mailers in the category (especially low-volume mailers of lightweight pieces), however, would get rate hikes rivaling the 8.0% average for Periodicals.

In any case, how can the Postal Service claim on one hand that rates for Standard flats should be raised at least 16% while on the other hand justifying temporary discounts of up to 30% on that same type of mail?

The Summer Sale is based on sensible and well-researched analysis showing that additional Standard flats mail is profitable for the Postal Service even when heavily discounted.

Postal Service Bloat
The contention that Standard flats are unprofitable is based on a completely different accounting system that improperly assigns the cost of “automation refugees” and other symptoms of Postal Service bloat to flats processing, which makes both Standard and Periodicals flats look unprofitable. The Postal Service’s supposed costs for handling flats have skyrocketed the past few years even though flats are being mailed more efficiently than ever.

In reality, according to Time Inc’s Jim O’Brien, the Summer Sale analysis suggests that the Periodicals class is covering its “short-run attributable costs” – that is, that the Postal Service is more profitable with Periodicals than without.

But the Postal Service is using Periodicals’ supposed lack of cost coverage as an excuse to jack up the class’s rates by more than 8%, which comes out to 9% for some of the most efficient mailers. And though Standard flats are getting a pass this time around, postal executives have painted a target on that category for future increases.

“Clearly, we cannot continue to price Standard Mail Flats below costs for an extended period of time,” Kiefer wrote. “The Postal Service may have to adjust Standard Mail Flats prices at above average rates at some point, but now is not the time.”

But before the Postal Service gets approval for any rates based on lack of cost coverage, it needs to explain how its accounting systems conclude that Standard flats lose money when they pay their normal rates but are profitable when discounted by 30%.

For more information on related subjects, please see:

• Increased Efficiency Led to Higher Periodicals and Catalog Costs, Goldway Says: Does the head of the Postal Regulatory Commission really buy the Postal Service's ridiculous argument that automating the handling of letter mail caused USPS flats costs to increase?
• The De-Automation of Periodicals Mail and For Periodicals, The Postal Service’s Math Doesn’t Add Up explain the term "automation refugees".
• L.L. Bean Says Ye$ to Summer Sale delves into the USPS analysis showing that the cost of catalogs and other flat Standard mail is much lower than the postage paid on them because of the Postal Service's excess capacity.

Previous articles in the "tough questions" series:

• "What About Bernstock?" And Other Tough Questions for Postal Execs 
• Is The FSS A Boondoggle? Tough Question #2 For The USPS 

Next in the series: Is the Periodicals Class the Postal Service's Washington Monument?

Summer Sale Boosted Catalog Mailings, Paper Exec Says

The U.S. Postal Service's recent Summer Sale on Standard Class mail boosted catalog volume, according to a major paper company executive.

Richard D. Willett Jr., President and CEO of NewPage, cited the program as a significant factor in the recently improved outlook for coated paper.

“Several of our catalog customers took advantage of discounted rates on incremental volumes and increased their Third Quarter mailing volumes by more than 20 percent over prior budgets,” he said in a presentation to analysts on Tuesday. He also applauded USPS's recent decision to freeze postage rates in 2010, saying that would help demand improve.

Willett didn't indicate how much additional volume the Summer Sale caused for NewPage, which is North America's largest maker of coated paper. But with the company selling 708,000 tons of coated paper during the quarter, the Summer Sale would have had to generate millions of additional catalogs for NewPage customers for the program even to show up on the company's radar screen.

The Summer Sale, which offered discounts of up to 30% on incremental volumes of Standard mail, was not approved until early June, which most eligible mailers indicated was not enough time for them to plan and implement additional mailings. An exception was L.L. Bean, which said publicly the sale would cause it to mail an additional 10 million catalogs but agreed that the program was announced too late to have maximum impact.

A Postal Service Experiment
The sale was something of an experiment to test mailer response to temporary pricing incentives and the Postal Service's ability to administer them. USPS subsequently introduced a Fall Sale on First Class mail and has talked about a possible Winter Sale on the Standard class for early next year.

One lesson the Summer Sale taught postal executives is that it lacked good data on the mail volumes of its largest customers. Some mailers have multiple permits, sometimes under different names, and relying on vendors' mail permits is not uncommon.

Mailers had to use their own mailing permit to earn the Summer Sale discounts. That limited co-mailing and commingling of various companies' mail pieces because with Standard mail (unlike Periodicals) only a single permit can be used for a mailstream.

USPS has told Summer Sale participants that their discounts will be calculated and paid into their accounts late this month or perhaps early December.

Related articles:

• It's Official: Postal Service Proposing "Summer Sale" 
• Summer Sale Approved With Flying Colors 
• Why Potter Is Freezing Postal Rates, And What It Means For 2010

Why Potter Is Freezing Postal Rates, And What It Means For 2010

Postmaster General Jack Potter tried to restore mailers' confidence in the U.S. Postal Service today by announcing a price freeze for most postal rates in 2010.

"The Postal Service will not increase prices for market dominant products in calendar year 2010," Potter said in a statement sent to various customer groups late this afternoon. He was responding to "pessimistic speculation" that rates might increase as much as 10%.

"There will be no exigent price increase for these products," which include First Class, Standard, and Periodicals, he said.

"While increasing prices might have generated revenue for the Postal Service in the short term, the long-term effect could drive additional mail out of the system. We want mailers to continue to invest in mail to grow their business, communicate with valued customers, and maintain a strong presence in the marketplace."

Earlier in the day, the release of the Consumer Price Index virtually confirmed what had become increasingly clear in recent months -- that USPS will not be able to impose the usual inflation-based rate increases next year. Consumer prices have declined so much since 2008 that they will end the year in negative territory unless the Fourth Quarter annualized inflation rate exceeds 9%.

Mailers feared USPS would try to close its budget gap -- probably $3 billion for the fiscal year just ended, or $7 billion if you count Congress' "forgiveness" of a bogus retirement-health payment -- by seeking exigent (emergency) rate increases.

Potter's statement did not clarify whether he was referring to all market-dominant rates or to the average rates for each class. Postal officials have subsequently put out the word that "no increase means no increase," meaning that no rates in the market-dominant classes will change.

But Potter's statement made clear that he understands the two dangers of an exigent rate increase:

1) In the short run, higher rates would suppress mail volume, but, as explained last week in Potter Doesn't Want to Hike Postage Rates in 2010, savings from such volume reduction would be minimal. The combination of lost business and slim cost savings could wipe out any gains from the higher prices per mail piece.

2) An exigent rate increase would signal to mailers that the Postal Service is unreliable and that they can no longer count on rate increases being capped by inflation. One exigent rate increase would lead to expectations of more in the future. That would accelerate mailers' efforts to replace mail with cheaper electronic substitutes -- for example, customer incentives for on-line bill payment.

So how does Potter intend to close the budget gap? He's been making numerous speeches and giving interviews touting elimination of Saturday delivery, which would save up to $3 billion annually, as one option. That would result in elimination of about 40,000 career employees positions, which could be done "through attrition because we have a lot of folks right now who are eligible to retire and who we could incent to retire,” Potter said last week in a radio interview.

Continued downsizing is clearly in the cards. Just last week, USPS announced possible consolidation of nine more processing and distribution centers. Nearly 40 such Area Mail Processing studies are in the works, along with the possible closing of hundreds of post offices.

Postal officials are looking into new revenue streams, and Potter's statement today mentioned that they want "to grow the mail through innovative incentives like the Summer Sale and contract pricing."

And, inevitably, the issue of the retiree-benefits shell game will be on the table. Officially, it's called a pre-payment of retiree health benefits, but in actuality Congress is forcing USPS to overfund a benefits account by more than $5 billion annually in a way that makes the federal deficit look smaller. Without those payments from the supposedly independent and off-budget Postal Service, USPS would have been profitable until fiscal year 2009.

Congress may end up facing a choice between ending that accounting game and allowing the Postal Service to eliminate Saturday delivery. Or the Postal Service could do an end run around Congress and end Saturday delivery on its own, as explained in How USPS Could Bypass Congress on Saturday Delivery.

Can the Postal Service Still Afford Periodicals?

With the U.S. Postal Service struggling to make ends meet, could it cut its losses by getting rid of the money-losing Periodicals Class or at least by jacking up Periodicals rates?

No. USPS is better off with Periodicals than without. And a radical increase in Periodicals rates to make publishers pay their “fair share” of postal costs would probably deepen the Postal Service's financial losses.

USPS recently provided some insights into its cost structure that help explain how the Periodicals class is both officially unprofitable and a contributor to the Postal Service’s bottom line. In explaining its “Summer Sale” on Standard mail, USPS noted that the cost of additional mail during the summer is tiny because low mail volume leads to idle equipment and under-worked employees.

“The general implication of excess capacity . . . is that temporary additions to volume can be worked through the network without generating very much or any additional attributable cost. Rather, unused or underused capacity can be employed to handle any temporary increases in volume,” USPS told the Postal Regulatory Commission.

Although the Postal Service was referring to the slow summer months, declining mail volume has left USPS in a “permanent summer” – with significant and increasing overcapacity regardless of the season.

Consider this factoid from the Postal Service analysis: The “temporary short-run attributable cost” (Postalspeak for variable cost) of a Standard carrier-route piece this summer averages 7.9 cents, but the revenue averages 24.1 cents. The vast majority of Standard carrier-route pieces are “flats” (such as catalogs, as opposed to letters) dropshipped to an SCF; such a piece would have to weigh about a quarter of a pound to cost the mailer 24.1 cents.

For a similar Periodicals piece (a flat weighing ¼ of a pound and entered at an SCF), a Periodicals mailer typically pays about 20 cents. If we can assume that the Postal Service’s costs for handling a magazine are the same as for a catalog with similar characteristics, the Postal Service’s contribution – revenue minus variable cost – would be 12.1 cents (a hefty 60% contribution margin) on the Periodicals piece.

So what’s with all the talk about the Postal Service losing several hundred million dollars a year on Periodicals?

The Postal Service is like an airline that is unprofitable because it is flying a lot of half-full planes. The average cost of a passenger includes many expenses that remain fixed regardless of the number of passengers. You can’t fly with fewer pilots or reduce the jet’s depreciation just because you have fewer customers on board.

Are the low-fare passengers paying less than the average cost of a passenger? Yes.

Would the airline be better off without them? No way. Having one less passenger only saves the airline a bag of pretzels, half a can of soda, and a maybe a couple of gallons of jet fuel -- far less than the revenue it gets from even the cheapest fare.

When people say that Periodicals revenue doesn’t cover the class’s costs, they are referring to average costs, which include a lot of allocations for vehicles, equipment, and labor that would not disappear if Periodicals mail went away. In Accountingspeak, the low-fare passengers and Periodicals pieces are said to have a positive contribution (to the bottom line) or to be profitable at the margin even though some accounting methods would label them as unprofitable.

(There is strong evidence that the Postal Service’s cost-allocation system is unintentionally biased against the Periodicals class, as explained in For Periodicals, The Postal Service’s Math Doesn’t Add Up. The Periodicals rate structure is also biased against dropshipped, finely sorted mail and encourages publishers to mail in less-than-efficient ways.)

The money-losing airline knows that its path to profitability is either getting more BIS (Butts in Seats) or decreasing the cost of flying – not getting rid of low-fare passengers. If prospects for attracting new customers are limited, the airline will either run fewer flights or switch to smaller airplanes.

With its current structure, the Postal Service’s main problem is not that it doesn’t charge enough for mail pieces but that it doesn’t have enough mail pieces to charge for. With limited prospects for growth, USPS must reduce its cost structure, not jettison customers, to get its financial house in order.

Congress members and other government officials give lip service to the Postal Service’s need to economize but then block it every step of the way and prevent it from offering a meaningful early-retirement program. The cost of such denial is dysfunctionality. Rather than being able to thin its ranks rationally and humanely, USPS sometimes ends up transferring employees hundreds of miles from their homes, without relocation assistance, when their current positions are eliminated.

Some have suggested that Periodicals rates need to be increased by 17% or more to get the class to break-even status. But such a “rate shock” would only spur publishers to shift more of their business to digital and other non-mail alternatives, as happened a couple of years ago with lightweight catalogs.

Fortunately, by introducing programs like the Summer Sale and declaring that "exigent" rate increases are a last resort, postal officials seem to understand that they must attract new mail volume and not price USPS out of the market.

Summer Sale Approved With Flying Colors

The Postal Regulatory Commission approved the U.S. Postal Service's "Summer Sale" today and predicted it will be profitable for the agency.

"The Postal Service is to be commended for its response to current market conditions," the PRC said in its order. It is, however, requiring USPS to report results of the sale in detail, including information regarding whether it causes customers to shift mail from First Class to Standard class.

"Development and use of appropriate metrics in evaluating the program are critical in determining whether the program is successful, and also for assessing the long-term implications of such an approach," the PRC wrote in approving the "short-term pricing experiment."

Based on the Postal Service's projections and its own analysis, "the Commission concludes that a positive contribution from the program is likely."

Formal comments filed with the PRC about the proposal were overwhelmingly supportive, with expected opposition from rural letter carriers never materializing. In addition to the formal documents, the PRC said it had "received nearly 300 letters, expressing nearly unanimous support for the program."

The Summer Sale will provide rebates of 30% on incremental Standard flats and letters sent by large mailers during the months of July, August, and September this year. The Postal Service has indicated that it might repeat this sort of incentive to boost volume during generally slow periods.

L.L. Bean Says Ye$ to Summer Sale

L.L. Bean expects to mail "at least ten million additional catalogs" this summer if the U.S. Postal Service's proposed "Summer Sale" is approved, a company official says.

"With more advance notice, this number would have certainly been higher," Steve Fuller, Chief Marketing Officer for Bean, wrote Tuesday in a letter to Dan Blair, chairman of the Postal Regulatory Commission. The letter was one of several that catalog and direct-mail companies have submitted to the PRC in support of the Summer Sale, with some agreeing that their participation would be limited by the short time frame to plan and execute the additional mailings.

"I want to assure you that L.L. Bean will do everything possible to maximize our mail volume during this period," Fuller wrote in praise of what he called a novel program. "Final volumes will depend on program details and L.L. Bean's inventory position."

The sale would provide postage rebates of 30% for Standard mail (such as direct mail, catalogs, and retail flyers) sent this summer by large mailers after their mail volume reaches a certain threshold. Each mailer's threshold is based on the amount of mail it sent in previous quarters and is calculated in a way to encourage companies to mail more pieces than usual during the Postal Service's slow summer period. The PRC has indicated it would rule on the proposal by June 4.

USPS officials hope to issue the rebates to mailers' postal accounts by Dec. 1. They have also indicated that the program is an experiment from which they hope to gain valuable information about how to implement other profitable incentive-pricing programs.

The Postal Service's incremental costs for the additional Standard mail would be even lower than the discounted postage, USPS told the PRC in a document filed last week. The Postal Service's delivery network, buildings, vehicles, and equipment will have significant excess capacity this summer, meaning the cost of handling additional mail pieces during that period will be unusually low, it said.

For example, the cost of an additional catalog would be 32% to 67% lower than normal, depending upon the sortation level, calculations presented by the Postal Service show. A discounted catalog with high-density sortation would cost USPS only 2 cents but bring in 11.5 cents in revenue, according to the USPS data.

It's Official: Postal Service Proposing "Summer Sale"

The U.S. Postal Service late today released its long-rumored proposal for a "Summer Sale" that would provide postage rebates of up to 30% on certain direct mail and catalogs.

USPS filed the proposal for the "Standard Mail Volume Incentive Pricing Program" with the Postal Regulatory Commission, which says it will rule on the proposal by June 4. The Rural Letter Carriers Association has already indicated it will oppose the proposal because it claims its members will not be appropriately compensated for the additional work the sale will cause.

Dead Tree Edition revealed plans for the Summer Sale three weeks ago, and some details of it were subsequently released through such organizations as Postcom.org.

The sale would run in July, August, and September of this year, "which is typically a low-volume period for the Postal Service and its customers," the proposal said. The timing is meant to "take advantage of the Postal Service’s current excess capacity to deliver additional volume at relatively low cost during the summer months."

To qualify, a mailer must have sent at least 1 million Standard-class flats (generally catalogs, but also includes some free newspapers and magazines) between October 2007 and March 2008. If the mail was sent on the account of a mail service provider, mailers will have to prove they actually owned the mail. Mail service providers, such as letter shops and presort bureaus, are not eligible for the discount.

The Postal Service is estimating incremental revenue of $38 million to $95 million from the program, which it says will "easily cover" the costs. It notes that few customers have signed up for another recently announced pricing offer, the Saturation Mail incentive program and that some will be eligible for both programs.

The proposal is silent on the Periodicals class, not offering the discount for ride-alongs and not banning qualifying mailers from shifting mail that would normally be Periodicals to Standard during the sale. There are instances where the discounted Standard postage would be significantly lower than Periodicals, especially for relatively light, non-dropshipped publications.

Can You Trust an Anonymous Blog with an Aggravating Name?

An anonymous commenter took Audience Development to task today for quoting yesterday's article in Dead Tree Edition about Source Interlink.

"Why would you quote an anonymous blog especially one named Dead Tree Edition," wrote "Publisher" on the magazine's Web site. "That was clever the first time or two I heard it but it is old devisive (sic) and aggravating."

Audience Development quoted Dead Tree Edition because it values service to its readers above its institutional ego. Its reporting about the filing yesterday, like the other reporting in the mainstream media, omitted the tidbit that publishers are among Source Interlink's major creditors. Bucking a long journalistic tradition of pooh-poohing others' scoops, AD rectified that omission today by citing Dead Tree Edition and by providing some additional details on Source's filing.

Did it worry that it was quoting an unidentified source whose credibility could not be checked? No, because it could verify what I wrote by digging into court documents.

The editors could also verify the trustworthiness of other Dead Tree Edition reporting -- for example, by calling the old "Corrugated Recycles" phone number and finding out it really has been taken over by a telephone-sex service. Or, for a more recent example, by reading Postcom.org's item today about the U.S. Postal Service moving forward with plans for a "Summer Sale", as Dead Tree Edition revealed two weeks ago.

And now for that aggravating name. "Dead Tree Edition" is what the digerati use to describe ink-on-paper publications. I adopted the phrase as this Web site's brand name to communicate that the focus would be on printed publications in an age of Web mania -- and to show that we print geeks have a sense of humor too.

I won't run from the dead-tree moniker. I have an odd fascination for that stuff that comes from dead trees known as paper, and I still love to read a well-crafted newspaper or magazine. (Yes, I'm aware of the irony of saying that in a Web-only blog.)

In my alter ego as D. Eadward Tree (Chief Arborist of Dead Tree Edition), I have attempted to be a friend to printed publications, providing tips and insights as well as being an advocate on postal and environmental issues.

"Trees are a crop -- like corn," "Publisher" writes. "Don't you eat dead corn?"

Yes, I do, and I agree with your point. Even the occasional reader of Dead Tree Edition can see that I don't buy the notions that using dead trees to make publications is necessarily bad or that putting the same content into a digital format is necessarily greener.

Dead trees are our friends.

USPS Playing "Let's Make A Deal"

To counteract its declining revenues, the U.S. Postal Service is rolling out incentives to certain organizations that increase the number of items they mail.

Postal officials are reportedly working on a "Summer Sale" program to encourage businesses and non-profit groups to send more direct mail, catalogs, and other Standard-class mail this summer. Sources say it would offer rebates of 20% to 30% for mailers that increase their Standard mail during July, August, and September of this year.

The Postal Service will reportedly file the Summer Sale proposal with the Postal Regulatory Commission this month. The PRC would then have up to 45 days to rule on the proposal.

The program reportedly grew out of discussions between Postmaster General Jack Potter and CEOs of printing and paper companies about how to increase USPS's volumes during the off-peak summer months. It would apparently be more politically acceptable than Potter's other idea for countering low summer volumes -- temporarily reducing deliveries to five days a week.

Details of another volume-based discount, the Saturation Mail Incentive Program, were released by the Postal Service this week. That will provide a rebate of 2.2 to 4.0 cents per piece only on incremental business during the 12-month period beginning May 11, 2009. Intelisent's Postal Affairs Blog has posted a fact sheet with the details. (Don't bother trying to find this same information via usps.com.)

Some will question how the Postal Service can offer discounts when it is losing money. But that line of thinking overlooks the fact that much of the Postal Service's costs do not vary much with volume. For example, a letter carrier doesn't take nine times longer to deliver nine pieces to an address than to deliver a single piece.

USPS's incremental costs for additional catalogs or presorted letters is much lower than the postage on those catalogs, especially during the slow summer months. Shelling out rebates for incremental off-peak business is somewhat akin to money-losing airlines offering last-minute discounts to fill empty seats.

Don't expect any special discounts for Periodicals-class postage, which is used to mail most magazines and newspapers, because of complaints that the class is not covering its costs. But some publishers would be able to receive rebates on such Standard-class mailings as subscription solicitations and free newspapers.