First-class Mess: Saving the U.S. Postal ServicePublished: June 20, 2012 in Knowledge@Wharton
The United States Postal Service (USPS) is in dire financial straits -- and the solution will involve painful restructuring. The reason: Like many large, once successful organizations, the USPS failed to adapt to sweeping technological changes that have altered how Americans do everything from paying bills to communicating with friends and family. With the USPS facing a possible cash crunch this fall, the service is scrambling to cut costs, and legislators in Washington, D.C., are debating a new law that would transform the organization. The question now is whether the overhaul of the postal service will position it to survive in the decades ahead, or whether instead it will continue on its current path to irrelevance. "The world is changing, and the institution is not changing in ways that are consistent with that," says John Kimberly, a Wharton management professor. "The tsunami has caught up with it."
The challenges facing the postal service stem from its quasi-governmental structure. The service is self financed, receiving just a small amount of federal dollars to cover items like mail sent to overseas military personnel. Otherwise, the USPS relies almost entirely on revenue generated from its mailing services to cover its costs. What it does get from the government, however, is a monopoly on delivering letter mail as well as sole rights to deliver to mailboxes across the country, according to Ben Cooper, a principal at law firm Williams & Jensen, who is leading a coalition of companies and associations with an interest in postal reform. In return, the USPS is obligated to deliver mail six days a week to every home (business addresses get five-day-a-week delivery). And the postal service must charge the same rate regardless of the distance a letter or package is being shipped.
Until recently, the USPS found that the tradeoffs worked in its favor. But starting in 2007, the tide began to turn. For one thing, the Internet and mobile devices began eating into mail volumes -- and, in particular, into the more profitable first-class mail business. "The real double whammy for [the USPS] is that not only has there been a decrease in volumes, but also the margin on their overall operation has changed," says Wharton professor of business economics and public policy Kent Smetters. "People use the post office to mail packages, not letters. But letters were a higher-margin business because they required very little in the way of labor."
The result is that the USPS has been bleeding red ink. Between 2009 and 2011, the postal service lost more than $17 billion on its operations as mail volumes slipped from 177 billion pieces to 168 billion. The volumes for high-margin first-class mail have fallen 25% since 2006, according to the USPS. And the outlook is even worse: The volume of first-class mail shipped is projected to slip to 52 billion pieces by 2020, down from 74 billion pieces in 2011.
Wharton management professor Peter Cappelli says the losses are exacerbated by the high cost structure of the USPS. "People are not sending first-class mail anymore -- they send emails and can attach large documents," he notes. "And on the cost side, they are not allowed to control the services they offer. They have to provide delivery to small communities way out in the middle of nowhere and have to keep post offices open in rural areas because legislators don't want them closed. The structure is fundamentally flawed."
The financial pressures facing the USPS were compounded by some legislative changes made in 2006. Under postal reform passed that year, the postal service was required to make annual payments of nearly $6 billion to pre-fund retiree health care benefits over a 10-year period. That 10-year time frame was artificially short, critics argue. Williams & Jensen's Cooper says that the timeframe should have been at least 25 years, a schedule that would have put less of an immediate financial drain on the USPS. At the same time, the USPS has labor contracts that prohibit the service from laying off employees -- provisions that make it difficult to cut labor costs which account for about 80% of total operating expenses.
As a result, the postal service is unlikely to regain its financial footing without legislative action. Delaware Senator Tom Carper has co-sponsored legislation that has already passed the Senate and would extend the period for pre-funding retiree health care costs to 40 years, return $11 billion in funds the USPS overpaid to the federal government for pension obligations -- money that could be used to fund early retirement packages for about 100,000 postal employees -- and free up the postal service to offer new products and services, including shipping beer and wine. A bill in the House sponsored by California Representative Darrell Issa takes a more aggressive stance on the labor cost issue, eliminating the no-layoff provision in the current union agreement and prohibiting such a clause in future contracts.
"The U.S. Postal Service is hemorrhaging money at an historic pace, and Congress can't stand idly by and allow it to continue to creep towards total financial collapse," Carper said in an email to Knowledge@Wharton. "The longer the House delays action, the more consumers and businesses become uncertain about the future of the postal service -- undermining confidence in the service's future and harming its ability to build new business. To protect a mailing industry that employs over eight million people and generates almost $1 trillion in economic activity each year, we need Congressional action."
But even if postal reform passes Congress, the USPS still faces challenges. For one thing, the service will still need to balance its business objectives against political realities. Consider the USPS's recent attempts to restructure. Management put forward a plan earlier this year to bring the service back into the black, including support of legislation that addresses the health care retiree payment schedule. Among the draconian changes the USPS outlined: the closing of thousands of rural post offices and moving from six-day-a-week delivery to five-day. But a political uproar, most notably from politicians from rural areas that would be hit by the closings, has forced the USPS to backtrack on those cuts.
"There was push back from Congress, and the postal service reacted to that and slowed down their plans," says Lorelei St. James, director in the Dallas Field Office of the Government Accountability Office. "But the more slowly they cut their costs, the harder it will be to catch up [and solve the financial problems]." And if the problems at the USPS are not resolved, the U.S. government would be on the hook to pay the service's employee obligations. "Their employees participate in federal employee retirement and health care systems," St. James points out. "Ultimately, the taxpayer is at the end of the line."
A 'Seismic Shift'
The political pressures weighing on the USPS will make it hard for the organization to navigate what Wharton marketing professor Peter Fader argues is a "seismic shift" in the business landscape. "We are going through an evolution from a product-centric mindset to a customer-centric mindset," he says. "The old mindset, which applies to pretty much every business enterprise including the USPS, was: 'Let's do things at very high volumes, and that will justify the cost of building the infrastructure in the first place. It will help cut the ongoing variable cost, so the more we do, the cheaper it gets.'" Furthermore, according to Fader, this same mindset comes into play when an organization such as the USPS searches for a path forward: "The USPS is obsessed with the product-centric question -- what products and services can we offer to the customer to help improve our financial health? But instead, they should be asking the customer-centric question -- what kinds of customers find the most value in our current portfolio of products and services? Can we deepen our relationship with them while throttling back a bit on customers who find little value in our offerings? The one-size-fits-all approach just can't work for the USPS anymore."
There are cracks in the product-centric approach "largely, but not exclusively, due to technology," he adds. "Technology makes it possible to [imitate] products and services and come up with a new product more cheaply, and it allows a consumer to get information on alternatives. At the same time, there is a cultural change -- today's customers are selfish and impatient. They want what they want, when they want it."
Fader says the key to finding and serving these customers is to use all the data that the USPS has at its fingertips. "We can track individuals doing things over time in a way that was impossible before," he notes. "What the data does is open up the opportunity to identify valuable customers and to being able to pick and choose among them." But Fader, author of a recent book titled, Customer Centricity: Focus on the Right Customers for Strategic Advantage, recognizes that there are massive challenges here that other companies don't face. "The postal service can't currently be selective like this -- not under their traditional business model. They have this broad mandate to serve in a way they have served before, even though the rest of world has [moved] in another direction. Quite simply, they -- and the U.S. government -- have to be willing to let go if the USPS is to survive."
To address that sort of shift, the USPS needs to become a more agile, innovative organization. But questions abound about how an operation as large and bureaucratic as the USPS can manage such a transformation. Kimberly says there are notable examples of large organizations that have been able to do so successfully. "The classic example of a company that reinvented itself is IBM," he notes. "They have done it because they understand the environment, and they have all sorts of ways of plugging into and trying to understand what the world will look like in 15 to 20 years. The lesson is: Make sure you are always hungry and you are never satisfied. Keep your eye on where the ball is headed, not where it is."
That sort of approach could involve finding opportunities in the transition to the digital age. Among the possibilities suggested by some USPS-watchers is to have the postal service provide standard and completely secure email accounts to all Americans in the same way it delivers mail to individual addresses. John Payne, CEO of consumer email management firm Zumbox, says while that may have made sense back in the 1990s when the USPS considered a move into email, "it's too late now" because such services already exist. Instead, he says, the USPS would do better to focus on other electronic services. "The question you always come up with is: 'Should they operate a broad brush platform or special services more suited to their strength?' There is certainly an opportunity for them to provide premium services -- for example, certified letters or registered letter delivered electronically."
But capitalizing on new opportunities would require a new mindset at the USPS. "This is an organization that got stuck in a template or a way of thinking about what its mission was," Kimberly notes. "There was very little in the way of internal motivation to change. That competitive edge that has people asking, 'How can we do this better?' just wasn't there." As for the likelihood of the post office coming up with innovative new solutions that competitors aren't already offering, Kimberly says, "It's not impossible, but the odds are long."
Of course, the USPS has been going up against innovative rivals in the package business for decades. While the postal service has a monopoly on non-urgent letters, it competes head-to-head for package delivery business with FedEx and UPS. UPS, which traces its roots back to a company started in Seattle, Wash., at the turn of the 20th century, and FedEx, which was started by Frederick Smith in 1971, began to grow rapidly in the 1980s, and by 2011 were racking up revenues of $53 billion and $40 billion, respectively. Much of the time-sensitive package shipping has moved to those companies, with the USPS offering lower cost but typically slower delivery.
To drive a true revival of the USPS, some argue that the organization should be privatized. "There are some smart people working there who are very aware of what is happening," says Wharton professor of operations and information management Morris Cohen. "I don't think they are constrained by lack of ideas but by the politicization of the postal service. They should be privatized. It makes no sense having a congressman deciding that a post office can't be closed in some small town. FedEx doesn't deal with that. UPS doesn't deal with that."
While there is no serious talk of privatization on Capitol Hill right now, such a move would certainly allow the USPS to respond to customers in ways that Fader says they are demanding. "Once we recognize there is [a] vast array of customers, [we realize it is] impossible to make all of them happy," he notes. "But it does create an incredible opportunity. Shouldn't [the USPS] be able to pick the kinds of customers they want to serve? They can find people who thrive on physical mail and focus on them. And the people who see little benefit from 'snail mail' would be better served by other providers."
However the USPS evolves in the years ahead, it is clear that the mail-based form of communication in the U.S. is rapidly disappearing. And that will bring real changes to communities around the country. "It is an old-fashioned delivery system," says Kimberly. "I believe that the mailbox as we have known it is a vanishing species. And so the next question is, what about the rural post office --that little building that in many ways serves as a community center? Are these all going to be shut down? And if they are, what will replace them? That is an interesting sociological question."