[Federal Register Volume 75, Number 115 (Wednesday, June 16, 2010)]
[Proposed Rules]
[Pages 34074-34076]
From the Federal Register Online via the Government Publishing Office [www.gpo.gov]
[FR Doc No: 2010-14483]


=======================================================================
-----------------------------------------------------------------------

POSTAL REGULATORY COMMISSION

39 CFR Part 3010

[Docket No. RM2010-9; Order No. 469]


Postal Pricing Methods

AGENCY:  Postal Regulatory Commission.

ACTION:  Notice of proposed rulemaking.

-----------------------------------------------------------------------

SUMMARY:  The Commission is initiating an investigation into the 
methodologies for estimating volume changes due to pricing incentive 
programs. If a change in analytical principles is warranted, the 
Commission may propose a specific methodology for adoption. This 
document announces establishment of a docket to consider this 
investigation and provides an opportunity for public comment.

DATES:  Initial comments are due July 16, 2010. Reply comments are due 
August 16, 2010.

ADDRESSES:  Submit comments electronically via the Commission's Filing 
Online system at http://www.prc.gov. Commenters who cannot submit their 
views electronically should contact the person identified in the FOR 
FURTHER INFORMATION CONTACT section by telephone for advice on 
alternatives to electronic filing.

FOR FURTHER INFORMATION CONTACT:  Stephen L. Sharfman, General Counsel, 
at [email protected] or 202-789-6824.

SUPPLEMENTARY INFORMATION:

Table of Contents

I. Introduction
II. Background
III. Established Methodology
IV. Methodologies for Estimating Short-Term Volume Changes
V. Comments
VI. Ordering Paragraphs

I. Introduction

    The Commission is initiating this proceeding to investigate 
methodologies for estimating volume changes due to pricing incentive 
programs. Upon consideration of various methodologies, the Commission 
may, if a change in analytical principles is warranted, propose a 
specific methodology for adoption. Initial comments are due 30 days 
from publication of this notice in the Federal Register.

II. Background

    In the past year, the Postal Service has conducted two pricing 
incentive programs, and a third program is scheduled to begin in July. 
The purpose of the incentive programs is to generate new volume and 
additional revenue. Rebates are offered to mailers who mail more pieces 
than they would mail without rebates. The first of these programs 
occurred in the summer of 2009.\1\ This program offered rebates of 30 
percent to Standard mailers who increased their volume above the same 
period in 2008 (SPLY) adjusted for each mailer's volume trend. The 
Commission evaluated this program in the recently issued 2009 Annual 
Compliance Determination (2009 ACD). In the 2009 ACD, the Commission 
noted that the Postal Service had developed a new methodology for 
estimating the profitability of the program. That methodology produced 
an estimated $24.1 million contribution to institutional costs, while 
the Commission's traditional estimating methodology produced a negative 
contribution of $36.9 million. The Commission announced that it would 
conduct a rulemaking to ``explore the merits of these alternate 
methodologies * * * .'' 2009 ACD at 88.
---------------------------------------------------------------------------

    \1\ The second incentive program occurred in the fall of 2010, 
and offered rebates of 20 percent to bulk First-Class mailers. 
Docket No. R2009-5, Order Approving First-Class Mail Incentive 
Pricing Program, September 16, 2009.
---------------------------------------------------------------------------

    On February 26, 2010, the Postal Service filed notice of another 
Standard Mail pricing incentive program. The Commission established a 
docket to consider the incentive program and appointed a Public 
Representative.\2\ The Public Representative proposed a third 
methodology for estimating the profitability of pricing incentive 
programs.\3\ Another commenter, Robert W. Mitchell, described several 
qualitative adjustments to the Commission's established methodology.\4\
---------------------------------------------------------------------------

    \2\ Docket No. R2010-3, Notice and Order Concerning Standard 
Mail Volume Incentive Pricing Program, March 2, 2010.
    \3\ Docket No. R2010-3, Comments of the Public Representatives, 
March 22, 2010, at 9-10, 15-16.
    \4\ Docket No. R2010-3, Comments of Robert W. Mitchell on 
Proposed Summer Sale 2010, March 22, 2010 (Mitchell Comments).
---------------------------------------------------------------------------

    Estimating the profitability of a pricing incentive program depends 
on accurately estimating what volume of mail mailers would mail in the 
absence of a rebate. Rebates for mail volume that would have been sent 
without a rebate result in a loss of contribution. However, it is not 
possible to know ahead of time what volume a mailer would have sent 
without a rebate. The Commission evaluates the profitability of rebate 
programs after the fact by applying a measure of price sensitivity 
(elasticity) to volumes actually mailed during the rebate program. This 
method is described in the next section.

III. Established Methodology

    The Commission's experience with pricing incentive programs began 
in Docket No. MC2002-2.\5\ The Postal Service had negotiated declining 
block rates with Capital One Services, Inc. (Capital One). The 
essential feature of a declining block rate is that a customer must 
purchase a minimum quantity to be eligible for a reduced rate. The 
reduced rate then applies only to quantity in excess of the minimum. So 
long as the reduced rate covers cost, the additional volume is 
profitable. This assumes that the minimum quantity (or threshold) is 
set at the quantity the customer would have purchased at regular rates.
---------------------------------------------------------------------------

    \5\ Docket No. MC2002-2, Opinion and Recommended Decision, May 
15, 2003; see also Errata Notice, May 21, 2003.
---------------------------------------------------------------------------

    In fact, the Postal Service cannot know what a mailer would have 
mailed at regular rates. There is always a possibility that the 
threshold is set below the volume the mailer would have mailed. In this 
situation, the Postal Service loses revenue on pieces that

[[Page 34075]]

would have been mailed at regular rates but are only charged the 
reduced rate. This loss must be accounted for when calculating the 
contribution (profit) earned from the reduced rate. In the Capital One 
case, the Postal Service estimated the additional volume effect of the 
volume-based discount provision of the Capital One NSA using the 
analysis of Capital One witness Elliot.\6\ Elliot's analysis applied 
price elasticities from the Postal Service's demand model to the 
marginal discount.
---------------------------------------------------------------------------

    \6\ Direct Testimony of Stuart Elliott (COS-T-2) on Behalf of 
Capital One Services, Inc., September 19, 2002.
---------------------------------------------------------------------------

    Elasticity is a measure of the volume response to a price change. 
Roughly speaking, elasticity is the percentage change in quantity 
divided by the percentage change in price. Thus, if the elasticity, 
price change, and volume (either before or after the price change) are 
known, the volume change associated with the price change can be 
determined.
    Beginning in Docket No. MC2004-3, the Commission has applied an 
elasticity-based approach similar to that of witness Elliot for 
estimating the effect of volume-based discounts both before 
implementation, and based on after-the-fact analysis of actual 
results.\7\ The Commission described the accepted analytical principle 
for this type of analysis as ``the analytical principle that the 
financial impact of price incentives to increase mail volume or to 
shift mail volume between products should be based on the Postal 
Service's best estimate of the price elasticity of the discounted 
product.''\8\
---------------------------------------------------------------------------

    \7\ Docket No. MC2004-3, Opinion and Further Recommended 
Decision, April 21, 2006 at 21-38.
    \8\ Docket No. RM2008-4, Notice of Proposed Rulemaking 
Prescribing Form and Content of Periodic Reports, August 22, 2008, 
at 9, citing 2007 Annual Compliance Determination, March 27, 2008, 
at 127.
---------------------------------------------------------------------------

IV. Methodologies for Estimating Short-Term Volume Changes

    In evaluating pricing initiatives that apply to multiple eligible 
mailers, the elasticity-based approach can be applied to each 
discounted mailer's actual volume to determine its before-rates volume. 
The discounts on all pieces up to the mailer's before-rates volume 
(leakage) are then subtracted from the contribution of the increased 
volume that results from the discount incentive. Since this approach is 
dependent on the after-rates volume, it is most readily applied ex 
post, when the actual after-rates volumes is known. Nevertheless, it 
can also be used to estimate a range of potential effects ex ante by 
applying the same approach to a range of potential after-rates volumes.
    An elasticity-based approach has many advantages, not the least of 
which is that price elasticities implicitly control for all other 
variables that affect volume. Therefore, other exogenous variables that 
cause changes in volume are held constant, thus isolating the volume 
generated in response to the discount from the volume change due to all 
other factors. The most significant weakness is the difficultly of 
identifying the price elasticity that applies to the specific details 
of the pricing initiative in question. While the Postal Service 
develops price elasticities annually as part of its demand analysis, 
they are not perfectly suited to the analysis of the Postal Service's 
volume-based pricing initiatives. These initiatives have been generally 
shorter in duration, larger in magnitude, and more narrowly focused in 
terms of mailer eligibility than the historical price changes from 
which the elasticities in the Postal Service's demand analysis are 
estimated.
    Commenting on the 2010 summer initiative, Robert Mitchell discussed 
several ways in which a mailer's response to temporary volume-based 
discounts that are available to both a few mailers or one mailer might 
not be properly modeled with long-term elasticity estimates like the 
Postal Service's. He identified four factors that would suggest a 
potentially smaller volume response than the Postal Service's demand 
analysis elasticities would indicate. These are the temporary nature of 
the discounts (which might preclude mailer investments), the potential 
lag in response to the discount, the absence of mailers entering and 
leaving the market, and a mailer's uncertainty as to whether it will 
reach the discount threshold. He also explained that if the discount is 
not available to a mailer's competitors, the response might be greater 
than indicated by the market elasticity. Mitchell Comments at 4-6.
    Postal Service method. In its data collection report for the 2009 
Standard Mail pricing incentive, the Postal Service presented a new 
method for estimating the portion of the discounted volume that would 
have been sent in the absence of the discount. It calculated a ``spring 
threshold'' for each mailer using the same trend used to develop the 
summer thresholds for discount eligibility. After calculating the 
difference between the actual spring 2009 volume and the spring 2009 
threshold for each mailer, the sum of these differences for the mailers 
with actual volume above the threshold was divided by actual spring 
2008 volume for all participating customers. The 7.07 percent result 
was referred to as ``loyalty growth'' by the Postal Service. This 
percentage was then multiplied by the total actual (after-rates) summer 
2009 volume sent by participating customers to estimate ``loyalty 
growth'' volume for the 2009 pricing initiative.\9\ As the source of 
revenue leakage (discounts paid on before-rates volume), the volume 
identified as ``loyalty growth'' is roughly analogous to ``anyhow'' 
volume, i.e., volume that would have been mailed absent the discount.
---------------------------------------------------------------------------

    \9\ Docket No. ACR2009, Responses of the United States Postal 
Service to Questions 1-5 of Chairman's Information Request No. 8, 
March 8, 2010, questions 1 and 2.
---------------------------------------------------------------------------

    The Postal Service's method attempts to control for non-price 
factors that affect volume by assuming that the extent of above-trend 
volume growth that occurred in the period immediately preceding the 
discount period also occurred during the discount period. Because the 
above-trend growth occurred in the absence of the discount incentive, 
this volume is deemed to be unrelated to the incentive.
    The Postal Service also used a variation of this approach in its 
development of a forward-looking estimate of anyhow volume in its 2010 
summer pricing initiative. It applied the 7.07 percent from the 2009 
initiative to the aggregate SPLY (summer 2009) volume of mailers 
expected to participate in the 2010 initiative.\10\ As a practical 
matter, since volume data for the period immediately preceding a 
discount period are not available in advance, the application of the 
Postal Service's ``spring threshold'' approach in an ex ante analysis 
requires the use of a ``loyalty growth'' factor developed from a 
previous initiative.
---------------------------------------------------------------------------

    \10\ Docket No. R2010-3, Response of the United States Postal 
Service to Chairman's Information Request No. 1, March 16, 2010, 
questions 1 and 3.
---------------------------------------------------------------------------

    Some of the details of the application of this methodology by the 
Postal Service raise potential questions that should be explored in 
this case. For example, the 7.07 percent ``loyalty growth'' was 
developed as a percentage of SPLY volumes (the period exactly 1 year 
prior to the discount period) and, for the 2010 initiative, was applied 
to SPLY volumes to produce the ex ante estimate of discounted volume 
attributable to exogenous (non-price) factors. In contrast, the 7.07 
percent was applied to actual after-rates volume sent during the 
discount period, rather than SPLY, to produce the ex post estimate of 
``loyalty growth'' from the 2009 initiative.
    Public Representatives' method. The decision to apply the trend-
based approach collectively to aggregate volumes sent by participants, 
instead of

[[Page 34076]]

on a mailer-by-mailer basis, was identified as an issue by the Public 
Representatives in the review of the 2010 initiative.\11\ In their 
comments, they presented a variation of the trend-based approach to 
estimate the ``loyalty growth'' from participants in the 2009 
initiative.\12\ While the Postal Service's method was applied to 
aggregate participant volumes, the Public Representatives applied the 
same method to individual mailer data. For each participant that earned 
discounts, if the mailer's actual spring 2009 volume exceeded that of 
its trend-based ``spring threshold,'' the difference was divided by the 
mailer's actual spring 2008 volume. The resulting percentage 
(equivalent to the Postal Service's 7.07 percent, but unique to each 
mailer) was multiplied by that mailer's actual summer 2009 volume to 
estimate the amount of anyhow volume. Id. at 8-10.
---------------------------------------------------------------------------

    \11\ Docket No. R2010-3, Comments of Public Representatives, 
March 22, 2010, at 15-17.
    \12\ The Public Representatives did not present an application 
of this trend-based approach to an ex ante analysis of the 2010 
initiative in the manner that the Postal Service applied its 
aggregate 2009 ``loyalty growth'' rate (7.07 percent) to the 2010 
initiative. The Public Representatives' estimated net impact of the 
2010 initiative on Postal Service finances was instead based on an 
analysis of historical distribution of annual mailer volume growth 
rates.
---------------------------------------------------------------------------

    Because of the wide variation in the volume patterns of individual 
participants, the disaggregated application of the trend-based approach 
yielded results very different from the aggregated method. Whereas the 
Postal Service estimated a relatively low amount of revenue leakage 
from discounts on mail that would have been sent absent the incentive, 
the Public Representatives' disaggregated method estimated a larger 
revenue leakage and a correspondingly smaller amount of contribution 
from new mail. As a result, the estimated net increase in contribution 
was nearly 90 percent less than the Postal Service's estimate.\13\
---------------------------------------------------------------------------

    \13\ The Public Representatives also stated that because volume 
growth in the period after the sale exceeded the volume growth 
during the sale period, a ``fall threshold'' (as opposed to ``spring 
threshold''), trend-based approach would lead to the conclusion that 
all of the discounted volume was anyhow volume. Using this method, 
the initiative generated net contribution losses equal to the sum of 
discounts awarded ($67.9 million). Id. at 9.
---------------------------------------------------------------------------

V. Comments

    The Commission invites comments from interested persons on the 
volume-estimating methodologies to be used in connection with pricing 
incentive programs. The Commission also invites interested persons to 
propose other methodologies for estimating the new volume caused by 
pricing incentive programs and alternative estimates of price 
elasticity for use in evaluating these programs.\14\
---------------------------------------------------------------------------

    \14\ The Commission has required the Postal Service to provide 
panel data on the results of each pricing initiative. This data 
should allow for improved understanding of mailers' reactions to 
these incentive programs, including quantified measures of the 
response such as price elasticity. See, e.g., Docket No. R2010-3, 
Order Approving Standard Mail Volume Incentive Pricing Program, 
April 7, 2010, at 23-24.
---------------------------------------------------------------------------

    Initial comments are due 30 days after publication of this notice 
in the Federal Register. Reply comments, if any, are due 60 days after 
publication of this notice in the Federal Register. The Commission will 
evaluate comments and, if appropriate, propose a new methodology for 
estimating volume changes due to pricing incentive programs. Interested 
persons will be provided an opportunity to comment on any such 
proposal.
    John P. Klingenberg is appointed to represent the interests of the 
general public in this proceeding.

VI. Ordering Paragraphs

    It is ordered:
    1. The Commission establishes Docket No. RM2010-9 to consider 
volume-estimation methodologies for pricing incentive programs.
    2. Comments by interested parties are due 30 days after publication 
of this notice in the Federal Register. Reply comments are due 60 days 
after publication of this notice in the Federal Register.
    3. Pursuant to 39 U.S.C. 505, John P. Klingenberg is appointed to 
serve as the officer of the Commission (Public Representative) to 
represent the interests of the general public in these proceedings.
    4. The Secretary of the Commission shall arrange for publication of 
this notice in the Federal Register.

    By the Commission.
Shoshana M. Grove,
Secretary.
[FR Doc. 2010-14483 Filed 6-15-10; 8:45 am]
BILLING CODE 7710-FW-S