Volume Forecast Is Too Optimistic

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In this column I want to discuss whether some elements of the recently filed postal rate case, specifically volume forecasts, are realistic. Forecasting postal volumes is not for the timid, but I just want to ensure that postal forecasting passes the smell test.

First, it's very positive that the U.S. Postal Service has recognized that volume growth is a core requirement of its future health. It illustrated this in recent negotiated service agreements filed with the Postal Rate Commission. NSAs are contracts that the postal service signs with mailers, subject to PRC approval, that specify special discounts in return for various guarantees including mail volume, address quality or assorted operational saving techniques.

The initial NSAs were to banks and credit card issuers. These deals gave additional First Class mail discounts in return for mail volume guarantees and address-quality stipulations. Recent NSAs have taken a different approach. These agreements, one to Bookspan and one to Washington Mutual Bank, provide for additional discounts based on increased solicitation mail volumes. For Bookspan the volumes are Standard Mail, for Washington Mutual the volumes are First Class. Clearly the USPS has recognized the need to provide incentives for additional volumes.

So what lies ahead? One thing we know is that the U.S. economy has been growing rapidly. At times the annualized quarterly growth rate has been about 5 percent. That growth rate, together with $70-a-barrel crude oil, has sparked the first signs of inflation.

As a result, we have seen the Federal Reserve steadily raise interest rates. The Fed's rate target at this writing is 5 percent and is expected to rise to 5.25 percent at the end of June. The stock market, currently in a nose dive, expects these increases to continue. The Fed is trying to slow the economy. And we know that these rate increases have a delayed effect. So we should expect an economic slowdown late this year or in early 2007 - just before the higher postal rates are likely to take effect.

With these thoughts in mind, let's look at what the USPS forecasts for volume growth.

Note the projected decline in First Class mail. It appears, at least to USPS forecasters, that the long-anticipated decline in First Class volume will begin this year. And that is before next year's rate increase. Indeed, the rate increase, together with electronic migration, is to reduce First Class mail by another 4.5 billion pieces by 2008. That volume loss will cost the USPS nearly $2 billion in revenue in 2008 alone.

What about Standard Mail? For this fiscal year ending Sept. 30, the USPS expects Standard to increase by 2.8 billion pieces, or about 2.8 percent. Then, during the year the rate increase takes effect, and the year after, the USPS forecasts continued increases in Standard Mail volume, but at reduced rates. Standard Mail volumes are expected to rise 2.1 percent in 2007 and 1.1 percent in 2008.

I am not optimistic that the USPS can achieve even these volumes. The rate increase filing was advertised as about 8.5 percent. But mailers have taken a close look at the proposed rates, and most see increases in the low double digits.

Of particular concern are the big increases projected for parcels, both Standard Mail parcels (under 1 pound) and parcels over 1 pound. The volume concern is based on the purpose of much of Standard Mail volume being to get customers to buy books, music products or soft goods that then will be shipped via the USPS. With some parcel rates rising 20 percent or more, marginal mailings become unprofitable. Those marginal mailings will disappear.

On top of the rate concerns is something called makeup rules. These are the USPS requirements that determine whether mail is eligible for a particular postage discount.

For example, how many pieces of First Class mail are needed to obtain a five-digit barcode discount? Not meeting the minimum will cause mail to fall to a higher rate. I have provided the simplest example. However, many complex rules exist for all rate categories. What is troubling is that these rules were not part of the rate increase filing. Perhaps even more troubling is that some of these rules have not yet been developed.

My conclusion is that double-digit postage rate increases, combined with a slowing economy and uncertain makeup rules, do not equate to growth in ad mail. This rate increase proposal was not well constructed and will not achieve the desired result. The PRC in reviewing the proposal has a tough task ahead.

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