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On today’s podcast, I provide an overview and commentary on the Postal Regulatory Commission’s 10-year review of the USPS pricing authority under the Postal Accountability Enhancement Act that was published on November 30.
Hi, and welcome to the podcast! On November 30, as we all came back to work after what was hopefully a safe and happy Thanksgiving, we were greeted with the gift of the PRC’s 484-page Statutory Review of the System for Regulating Rates and Classes for Market Dominant Products. This is the final and formal 10-year review of the 2006 Postal Accountability Enhancement Act that the PRC had been working on for the past several years with input from the industry. The report that came out on November 30 reflects their final order and provides the USPS with some additional pricing leverage that could raise future prices well above the Urban Consumer Price Index we’ve been using to forecast postal budgets.
Before I get into the additional pricing leverage, let me remind our listeners of what PAEA was really all about. Prior to PAEA, the USPS would do annual Rate Cases that would take months to calculate and would sometimes have wide ranging price fluctuations of double-digit percentage increases. These Rate Cases were highly unpredictable and took months to unravel and understand. What the industry really needed was predictability in pricing and some metric that we could watch in order to forecast well in advance any annual increases. PAEA provided that and gave us the CPI-U to monitor for future postage increases.
Unfortunately, the world rapidly changed and all the other “stuff” that was loaded into PAEA resulted in a USPS that quickly ran into significant financial issues, much of which you already know and have heard discussed on prior podcasts as well in the media this past decade, so I won’t go into that. What I will say is that mail volume and its usage is absolutely impacted by price and thus price elasticity is something that needs to be accepted by both the USPS and the PRC when it comes to any additional pricing latitude. Without predictable postage pricing, we will see more mail exit this industry and that will only exasperate the financial situation for the USPS.
So, with that as a backdrop, let’s turn to the 484-page Order that was published on November 30.
First, I do appreciate the PRC acknowledging the various market and Congressional forces that have impacted the USPS since PAEA. Prefunded retiree healthcare is a significant burden and should be resolved by Congress, since they were the ones that added it. And I appreciate that they acknowledge the impact on the USPS from the Great Recession and the Great Divergence of mail to electronic communication. I also appreciate the PRC at least acknowledging that the COVID pandemic has had an impact on the USPS. However, I disagree that the impact on COVID shouldn’t at least be taken into consideration with the additional pricing latitude offered in their Order. The class of mail that was most impacted negatively by COVID was Marketing Mail due to the numerous and at times capricious gubernatorial Executive Orders that shuttered small businesses such as bars, restaurants, and gyms that rely upon the USPS for their local marketing efforts. The USPS is forecasting another 15% decline in Marketing Mail for 2021 and I personally believe that is the class of mail that is more price elastic with regards to any sudden changes in pricing.
And speaking of price elasticity, let’s begin with the first additional pricing leverage the PRC is providing the USPS and that is known as the Density-Based Rate Authority. This rate authority takes into consideration the increase in per-unit cost caused by the decline in mail density for total mail volume as well as Market Dominant volume. Basically, as the number of delivery points continue to increase year over year and with mail volume declining year over year, the cost per-unit piece goes up. On the surface, this makes sense since the USPS has a universal service obligation to stop at each delivery point at least 6 times per week whether there is mail to be delivered or not. In order to somewhat protect Market Dominant products, the year-over-year change in density is calculated in two different ways, once using total density and once using Market Dominant density—whichever produces less density-based rate authority will be used as the year-over-year change in density. The measured change in year-over-year density is multiplied by -1 multiplied by the institutional cost ratio. This product is the amount by which unit costs are expected to increase as a result of the measured decline in density. If density does not decline, the amount of density-based rate authority is zero. If instead it is positive, then the USPS can either use the additional pricing latitude or bank it for future increases.
While I like the simplicity of this density-based approach, the real problem I see with it is the cost per delivery point. And no, I’m not talking about delivering to the bottom of the Grand Canyon versus an urban area. I’m talking about the cost to deliver to the various types of mail receptacles. A door delivery done by a carrier walking their route is more costly than a curbside delivery and certainly more costly than cluster box delivery. You also have the fact that flats are more costly to process than letters. That aside, at least this additional pricing calculation does have some level of predictability to it.
The other pricing lever the PRC is providing is tied to the prefunding of retiree healthcare benefits – a unique and somewhat last-minute addition to the PAEA that has been problematic for the USPS since the Great Recession. This calculation is more complex than the density-based authority as it attempts to calculate the amount of revenue and mail volume needed if the USPS were able to resume making payments in the prefunded retiree healthcare escrow account.
My opinion is that this additional pricing latitude is unnecessary and that the real answer to resolving the prefunding requirement is for Congress to change PAEA and have the provision removed. It is my understanding that there is nearly unanimous consent from the USPS, industry, and even labor that this may have been well intentioned by in 2006, but has only hurt the USPS financially as mail volumes have declined.
The final pricing authority lever is based on performance provides up to 1 percentage point of rate authority per class of mail per calendar year, conditioned on the Postal Service meeting or exceeding an operational efficiency-based standard and adhering to service standard quality criteria. This pricing authority concept was not popular with many in the industry and with this final rule, the PRC has taken some of those comments into consideration. First, rather than assign independent weights for operational efficiency and service standards, the Commission made the entire 1 percentage point of performance-based rate authority contingent on meeting both requirements. Second, the Commission revised the TFP target: the Postal Service’s TFP for the measured fiscal year must exceed the previous fiscal year to meet the operational efficiency-based requirement.
Service performance has been a major concern this year and I am certain will continue to be a concern coming into 2021. Personally, I am not a fan of this additional pricing leverage. I would much rather continue seeking new workshare discounts and ways to improve the middle mile than to provide the USPS additional pricing latitude that may only further test the elasticity of mail; particularly marketing mail which is forecasted to drop another 15% in 2021 based on the USPS FY2021 Integrated Financial Plan.
As I stated in the beginning, one of the key provisions of PAEA that the industry wanted was predictability in pricing. Unfortunately, these additional pricing authority levers will only add more uncertainty and more complexity to an already complex pricing process. So, get ready to update your pricing spreadsheets as it will be an interesting situation for future price increases.
Thank you again for listening to today’s podcast. As always, if you have any questions or comments, please feel free to visit us at bccsoftware.com or give us a call. As always, we’d like to know How Can We Help!