U.S. Postal Service: Key Postal Transformation Issues (29-MAY-03,
GAO-03-812T).							 
                                                                 
The President established this Commission to examine the state of
the U.S. Postal Service (the Service) and submit a report by July
31, 2003, with a proposed future vision for the Service and	 
recommendations to ensure the viability of postal services. GAO  
has provided congressional committees with many reports and	 
testimonies on postal matters, and this testimony is based	 
largely on these prior reports and testimonies. In April 2001,	 
GAO put the Service's long-term financial outlook and		 
transformation on its High-Risk List for several reasons. The	 
Service was experiencing significant deficits, severe cash-flow  
pressures, rising debt, cost growth outpacing revenue increases, 
limited productivity gains, and liabilities in excess of assets. 
Under its 1970s-era business model, the Service was relying on	 
raising rates and incrementally reducing costs to carry out its  
mission. GAO concluded that this business model was not 	 
sustainable in today's competitive environment. The Commission's 
report will be an important guide for comprehensive postal	 
transformation. In this testimony, GAO presents key issues the	 
Commission should consider to enhance the long-term financial	 
viability of the Service by making it a more results-oriented and
efficient organization. 					 
-------------------------Indexing Terms------------------------- 
REPORTNUM:   GAO-03-812T					        
    ACCNO:   A07033						        
  TITLE:     U.S. Postal Service: Key Postal Transformation Issues    
     DATE:   05/29/2003 
  SUBJECT:   Accountability					 
	     Agency missions					 
	     Federal agencies					 
	     Federal agency reorganization			 
	     Financial analysis 				 
	     Financial management				 
	     Internal controls					 
	     Labor force					 
	     Personnel management				 
	     Postal service					 
	     Reporting requirements				 
	     Risk management					 
	     Strategic planning 				 

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GAO-03-812T

Testimony Before the President's Commission on the United States Postal
Service

United States General Accounting Office

GAO For Release on Delivery Expected at 8: 30 a. m. EDT Thursday, May 29,
2003 U. S. POSTAL SERVICE

Key Postal Transformation Issues

Statement of David M. Walker Comptroller General of the United States

GAO- 03- 812T

The ability of the Service to remain financially viable is at risk because
growth in mail volume has stagnated and its business model is not well
suited to operate efficiently in a competitive environment. As the figure
shows, growth in the volume of First- Class and Standard Mail, the two
largest revenue- producing classes, has declined.

Growth Rates in Key Mail Classes

Key issues for the Commission to consider include the following:

Role and Mission. Over the past 30 years, competition has increased and
private- sector firms are performing more traditional postal functions.
Customers* needs have also changed with new communication alternatives. In
determining what universal postal services are needed and the roles for
public and private providers, factors to consider are how to enhance
customer convenience and create opportunities for least- cost providers.

Governance Structure and Accountability Mechanisms. Qualification
requirements for members of the governing board should ensure that
appointees possess the experience needed to oversee a large business- like
operation, and the board should have sufficient authority in areas such as
setting rates and executive pay. Reporting requirements should ensure
accountability and transparency of financial and organizational results.

Flexibilities and Incentives to Increase Revenue and Control Costs. The
Service will need appropriate flexibilities and incentives to balance its
revenue generation and cost containment capabilities in areas such as
allowing retained earnings, closing unneeded post offices, and containing
costs related to infrastructure rationalization, workforce realignment,
and wage and benefit comparability. Also, the Service*s long- term retiree
health and workers* compensation obligations need to be addressed.

Effective Labor- Management Relations and Support Systems. To improve
operational efficiency and enhance performance accountability for all
employees, postal managers and unions need better cooperation to realign
the workforce for the future and focus performance management and
workforce planning systems on organizational goals and results. The
President established this Commission to examine the state

of the U. S. Postal Service (the Service) and submit a report by July 31,
2003, with a proposed

future vision for the Service and recommendations to ensure the viability
of postal services. GAO has provided congressional committees with many
reports and testimonies on postal matters, and

this testimony is based largely on these prior reports and testimonies. In
April 2001, GAO put the Service*s long- term financial outlook and
transformation on its High- Risk List for several reasons. The Service was
experiencing  significant deficits,

 severe cash- flow pressures,  rising debt,  cost growth outpacing
revenue increases,  limited productivity gains, and

 liabilities in excess of assets. Under its 1970s- era business model,
the Service was relying on raising rates and incrementally reducing costs
to carry out its

mission. GAO concluded that this business model was not sustainable in
today*s competitive environment. The Commission*s report will be an

important guide for comprehensive postal transformation. In this
testimony, GAO presents key issues the Commission should consider to
enhance the long- term financial viability of the Service by making it a
more results- oriented

and efficient organization. www. gao. gov/ cgi- bin/ getrpt? GAO- 03-
812T. To view the full product, click on the link above. For more
information, contact Bernie Ungar, 202- 512- 2834, ungarb@ gao. gov.

Highlights of GAO- 03- 812T, a testimony before the President*s Commission
on the United States Postal Service

May 29, 2003

U. S. POSTAL SERVICE

Key Postal Transformation Issues

Page 1 GAO- 03- 812T

Messrs. Chairmen and Commission Members: I am pleased to have this
opportunity to appear before you to present our views on the
transformation of the U. S. Postal Service (the Service). GAO has been
involved in reviewing postal issues on behalf of Congress for decades and
has issued many reports and testified numerous times before congressional
committees on postal matters. My testimony today is based largely on these
prior reports and testimonies. (See the section called

Related GAO Products at the end of this statement.) As you know, in April
2001, we put the Postal Service*s long- term financial outlook and
transformation efforts on our High- Risk List. We did this for several
reasons. The Postal Service was experiencing growing financial,
operational, and human capital challenges, including declining net income,

severe cash- flow pressures and rising debt, increasing competition, and
difficulty cutting costs and achieving productivity gains. These
challenges were threatening the Service*s ability to carry out its mission
of providing affordable, high- quality universal postal services on a
self- financing basis. Given advances in communications, such as
electronic communication devices and the Internet, increasing domestic and
foreign competition, changes in the growth of mail volume, and the need to
serve more and more addresses yearly, we were concerned that the Postal
Service would have difficulty in effectively carrying out its mission in
the future. We were also concerned because the Service did not have a
comprehensive transformation plan to guide it in the future, and because
the significant shift in the Service*s financial outlook came as a
surprise to many key stakeholders. In fall of 2001, the Service*s
financial situation became even more complex and critical due to the
events of September 11th and the

subsequent use of the mail to transmit anthrax. Consequently, we called
for a number of actions to address our concerns about the Postal Service*s
financial situation and long- term outlook. We recommended that the Postal
Service develop and implement a comprehensive transformation plan that
would lay out actions it could take under existing law, actions that would
require incremental legislative action to help address the Service*s more
immediate financial difficulties, and comprehensive legislative action to
address key unresolved

transformation issues. We also suggested that Congress consider various
approaches to addressing long- standing and difficult- to- resolve issues
affecting the Postal Service*s financial situation, such as by
establishing a commission to study the issues and make recommendations.

Page 2 GAO- 03- 812T

We are pleased that the President established a Commission to examine the
state of the Postal Service and submit a report to the President by July
31, 2003, that would propose a vision for the future of the Service and
recommendations to ensure the viability of postal services. We have

previously provided this Commission with a number of GAO reports,
testimonies, and other information related to the Postal Service and offer
our assistance to the Commission as it completes its work. We look forward
to the Commission*s report and believe it will be an important guide for
Congress as it considers comprehensive postal transformation. In this
testimony, I will discuss four key issues the Commission should consider
to address deficiencies in the Service*s business model and enhance the
Service*s long- term financial viability by making it a more results-
oriented, efficient organization. These areas include the Service*s (1)
role and mission, (2) governance structure and accountability mechanisms,
(3) flexibilities and incentives to increase revenue and control costs,
and (4) effective labor- management relations and support systems to
improve organizational efficiency.

The Service has responded to a number of our concerns and taken actions to
address its short- term financial challenges. In April 2002, the Service
published its Transformation Plan and has begun to implement it. The
Service has also taken actions to control costs by reducing the size of
its work force and labor hours usage and by improving productivity. In
fiscal year 2002, the Service reported that, for the first time in over 30
years, its operating expenses were reduced below those of the previous
year. Furthermore, in large part based on an Office of Personnel
Management (OPM) study undertaken at the request of GAO, legislation was
passed in April 2003 that enabled the Postal Service to reduce its pension
cost by about $3 billion per year over the next few years.

These incremental steps, although useful, cannot resolve the fundamental
and systemic issues associated with the Service*s current business model.
The Postal Reorganization Act of 1970 (P. L. 91- 375) provided the legal
framework for the Service*s current business model. In passing the Act,
Congress intended the Service to operate in a business- like manner.
However, in contrast, the Act also included such provisions as monopoly
protections on letter mail and access to mailboxes, a mandate to break
even financially over time, and a rate- setting process that is based on
specific cost- coverage requirements* often referred to as *cost- of-
service regulation.* Furthermore, the Act generally did not envision the
extent to which the Postal Service would be directly competing with
private- sector

companies. As such, the Service*s current business model, which relies on
Short- Term Financial Pressures Have Been

Alleviated but Fundamental Issues Remain

Page 3 GAO- 03- 812T

increasing mail volumes to finance universally available postal services
through an expanding delivery network, is outmoded in today*s rapidly
changing and increasingly competitive business environment.

Today, businesses and consumers have many more communications and delivery
choices than they did 30 years ago. New types of electronic communication
devices include E- mail, cell phones, fax machines, and electronic bill
payment services. There is also greater competition in the mail and
package delivery markets. These market changes have been driven by the
need for more time- sensitive movement of products and services, as well
as the ability to track products and services throughout the delivery
process from origin to destination. These changes in the postal
marketplace have highlighted the following

fundamental issues with the Service*s business model:  The Service*s
ability to remain financially viable under its current business

model is at risk as the growth in mail volumes has stagnated or declined,
leading to less revenue unless rates are increased. Further, it has been
estimated that about 45 percent of the Service*s mail delivery routes do
not generate adequate revenue to cover their costs.

 The Service does not have the flexibilities or incentives necessary to
operate efficiently in a highly competitive environment. This is
particularly important because the Service has historically not been able
to significantly control and/ or reduce costs in its two major cost areas:

employee- related costs, which continue to account for over three-
quarters of the Service*s total operating expenses, and overall
infrastructure costs for the Service*s retail and processing networks.

 Long- standing adversarial relationships between postal managers and
labor unions have hindered efforts to increase efficiency and create a
more results- oriented culture that would help achieve long- term
financial viability for the Service, along with a fair and positive work
environment for employees.

Fundamental changes will need to be made to the Service*s business model,
and the legal and regulatory framework that supports it, to provide for
the Service*s long- term financial viability. The Postal Service*s
shortterm financial relief provides a limited window of opportunity to
bring about this fundamental change. The time has come to take bold and
comprehensive action designed to transform the Postal Service to meet the
challenges and new realities of the 21st century. This will involve

Page 4 GAO- 03- 812T

actions by both the executive and legislative branches of government as
well as a variety of other postal stakeholders.

Today, I will direct my comments to the following four areas that will be
critical to addressing problems with the Service*s current business model
and ensuring its future financial viability: (1) role and mission, (2)
governance structure and accountability mechanisms, (3) flexibility and
incentives to increase revenues and control costs, and (4) the link
between labor- management relations and improving operational efficiency.

Over the years, postal stakeholders have raised numerous issues regarding
the Service*s role and mission relative to the private sector. Among these
issues are the following:  How should universal postal service be defined
given past changes and future challenges?

 Should the Service remain a government entity or should it be wholly or
partially privatized?

 Is a government monopoly needed to provide universal postal services?
Should the Postal Service*s monopoly protections be reduced or eliminated,
and if so, how should a minimal service level be ensured?

 Should the Service retain its governmental functions, including
regulatory responsibilities related to protecting the mail monopoly and
the integrity of the mail, as well as its law enforcement functions
related to mail fraud, security, and theft?

 To what extent should the Postal Service, the mailing industry, and
other private- sector companies perform various postal functions, such as
collection, processing, transportation, and retail services? Should
additional worksharing be encouraged, and how should long- standing cost
issues be resolved?

 Should the Service be allowed to compete in areas where there are
private- sector providers? If so, on what terms, and what transparency and
accountability mechanisms are needed to prevent cross subsidies between
competitive and monopoly products and services?

The Postal Service*s current mission is to provide access to universal
postal services in all communities at reasonable rates. Universal postal
Role and Mission

Universal Postal Service

Page 5 GAO- 03- 812T

service is not defined in law, but the Service*s interpretation of this
responsibility has evolved throughout its history to accommodate changing
customer demands. Currently, universal postal service includes a uniform
rate for one category of mail, 6- day per week mail delivery, and access
to postal retail services. Vast changes in communications and delivery
options, as well as the growth of the related competitive environment,
over the past 30 years are continuing at a rapid pace. These changes
provide an impetus for reconsidering what universal postal service will be
needed for the 21st century. Such considerations should include
recognition of different needs for different customer segments. As the
mail stream has evolved away from personal correspondence and towards more
advertising mail, the need for uniform rates and service may be changing.
In addition, access to postal services involves many more options today,
such as vending machines, ATMs, and grocery stores, which could reduce
reliance upon traditional post offices and improve service. Once the scope
of universal postal service is addressed, the next questions

relate to whether core postal functions should be discharged by a public
entity, private companies, or a combination of both. The current statutory
framework provides the Service with a monopoly on letter mail and access
to mailboxes to fund universal postal service. The Service generally
carries out its mission by collecting, transporting, processing, and
delivering mail to addresses throughout the United States and to foreign
postal administrations for deliveries to addresses outside this country.
In addition to its retail services and mail delivery roles, the Postal
Service is also charged with governmental functions for enforcing federal
laws related to mail fraud, security, and theft.

Since the 1970 reorganization, the Service*s role has changed as it has
engaged the private sector in postal activities in several ways. For
example, the Service has (1) arranged for private entities, such as
grocery stores, to sell stamps; (2) increased its contracting with private
firms to

transport mail; and (3) offered worksharing rates, which include discounts
to mailers to carry out certain mail processing operations, such as
presorting, barcoding, and transporting mail directly to Postal Service
facilities for delivery by the Service to its customers. The purpose of
these activities has been to increase customer convenience, cut Postal
Service operating costs, and create the opportunity for the least- cost
provider to perform certain postal activities. For example, as shown in
figure 1, mail volume growth since fiscal year 1972 has been in workshared
mail. In fiscal year 2002, nearly three- quarters of the Postal Service*s
mail volume consisted of mail that involved some aspect of worksharing.
Postal, Government, and

Private- sector Functions

Page 6 GAO- 03- 812T

Figure 1: Growth in Workshared Mail Volume Between Fiscal Years 1972 and
2002

Note: Workshared mail receives a lower rate due to such mailer activities
as presorting, bar coding, and destination entry. Most Standard Mail and
Periodicals volumes were counted as workshared beginning in fiscal year
1971 because the Service required presorting of this mail by Zip Code and
such worksharing was recognized in its postal rates. Worksharing rates for
First- Class Mail were introduced in fiscal year 1977.

A number of issues have been raised related to whether the worksharing
rates accurately reflect the Service*s estimated cost savings from mailer
worksharing activities. We are currently assessing these issues and plan
to issue a report later this year.

At the same time, the Service*s involvement in what is often called
*nonpostal* or *nontraditional* areas has also been controversial. These
nonpostal activities refer to new products or services that generate
revenues and are not directly related to the Service*s core postal
activities. Nonpostal activities are not subject to the same regulatory
scrutiny by the Postal Rate Commission (PRC) that postal activities
currently face. Some examples of nonpostal activities include electronic
billing and payment services, as well as electronic greeting cards. As we
discuss later, we have reported on the Service*s difficulties in meeting
its performance goals

Page 7 GAO- 03- 812T

related to nonpostal activities and about controversies regarding the
Service*s involvement in nonpostal activities that are also provided by
private- sector companies. Recently, the Service discontinued some of its
nonpostal activities, but it remains a valid question as to whether the
Service has the appropriate incentives, transparency and accountability
mechanisms, cost- structure, and marketing skills to succeed in
nonpostalrelated areas.

Key issues have been raised about whether the Service*s current governance
structure and accountability mechanisms are sufficient for an organization
with annual revenues approaching $70 billion and over 850,000 employees.
Some of the issues relate to the Board of Governors* limited authority in
areas such as setting postal rates and executive pay; qualifications
requirements that are too general to ensure that Board appointees possess
the kind of experience necessary to oversee a major government business;
and limited transparency and accountability mechanisms for organizational
performance and results. If the Service is to successfully operate in a
more competitive environment, the role and structure of a private- sector
Board of Directors may be a more appropriate guide in this area.

Having a qualified and independent board is important to ensuring that the
board can play a significant role in the following three areas: 1  First,
boards should provide strategic advice to management in order to

help comply with overall statutory requirements and realize organization
goals.

 Second, boards need to help manage risk, including risk related to
attempts to maximize current value at the expense of mortgaging the
future. Risk management must also consider the interests of key
stakeholder groups, such as employees, customers, and the communities in
which the organization operates.  Third, boards have a clear
responsibility to hold management accountable for results.

1 U. S. General Accounting Office, Major Management Challenges and Program
Risks: U. S. Postal Service, GAO- 03- 118 (Washington, D. C.: Jan. 2003).
Governance Structure

and Accountability Mechanisms

Page 8 GAO- 03- 812T

The Service is not subject to the same level of transparency and
accountability mechanisms as other *business- like entities,* such as
private- sector companies, that regularly report to shareholders and/ or
regulators (e. g., the Securities and Exchange Commission). Some important
issues to consider include what regulatory structure and oversight
mechanisms may be needed, to whom the Service should be accountable, and
what appropriate mechanisms are needed for consumer protection*
particularly for those with few or no alternatives to the mail system?
Concerns have also been raised about the need to provide accountability
for performance, especially in areas where the Service is provided with
additional flexibility. As we have reported in the past, many concerns
have been raised about areas where the Service has had flexibility, such
as the international and new products areas, and its financial performance
has not met its stated goals and objectives. 2 Further, if the Service is
allowed to compete, should it be subject to the same laws and regulations
as its competitors? If the Service retains some monopoly protections while
also providing competitive products, steps will be needed to ensure that
products are not being cross- subsidized.

Another key question involves determining what level of transparency
through public reporting on the Service*s financial and operating
performance, as well as its progress in implementing its transformation,
is appropriate. We have reported concerns about the Service*s public
reporting in the following areas: retiree health benefit obligations;
periodic financial reporting; nonpostal new products and services,
including ecommerce initiatives; annual performance reporting as required
under the Government Performance and Results Act (GPRA); and the status of
implementing initiatives from its Transformation Plan. 3 Our concerns
related to the Service*s reporting on its retiree health benefit
obligations are discussed in more detail later in this statement.

2 U. S. General Accounting Office, U. S. Postal Service: Update on E-
Commerce Activities and Privacy Protections, GAO- 02- 79 (Washington, D.
C.: Dec. 21, 2001); U. S. Postal Service: Postal Activities and Laws
Related to Electronic Commerce, GAO/ GGD- 00- 188 (Washington, D. C.:
Sept. 7, 2000); U. S. Postal Service: Development and Inventory of New
Products, GAO/ GGD- 99- 15 (Washington, D. C.: Nov. 24, 1998). 3 U. S.
General Accounting Office, U. S. Postal Service: Accounting for
Postretirement Benefits, GAO- 02- 916R (Washington, D. C.: Sept. 12,
2002). U. S. Postal Service Actions to Improve Its Financial Reporting,
GAO- 03- 26R (Washington, D. C.: Nov. 13, 2002). See also

GAO- 02- 79, GAO- 00- 188, and GAO- 03- 118.

Page 9 GAO- 03- 812T

Regarding the Service*s periodic financial reporting, we reported in
November 2002 on the lack of sufficient and timely periodic information on
the Service*s financial condition and outlook available to the public
between publications of its audited year- end financial statements. 4
Since our report was issued, the Service has taken steps to improve this
information, including making its quarterly financial reports available on
its Web site. However, we continue to have concerns about some of the
Service*s financial and performance information, including information
related to its e- commerce and other nonpostal activities, as well as the
lack of delivery performance information for all of its major mail
categories. In order to determine whether further changes in financial
reporting are needed, the Commission should consider the SEC reporting
requirements as a possible guide in this area. In addition, other current
reporting mechanisms, such as the Service*s annual performance reports
required under GPRA, could be adapted to communicate the Service*s

delivery performance for all of its major mail categories, as well as
update its progress on implementing its Transformation Plan. The Service
has limited financial incentives under its current business model with its
break- even mandate and cost- of- service rate- setting structure. To
enhance its long- term financial viability in a competitive environment,
the Service will need appropriate flexibilities and incentives to balance
its revenue generation and cost containment capabilities. The Postal
Service argues that it has difficultly raising revenue under the lengthy
rate- setting process, which does not allow the Service to change its
prices in a timely manner to respond to changing economic conditions. The
Service indicated that it would like additional flexibility in connection
with retaining earnings, setting rates, and developing and promoting new
products and services. These flexibilities could enhance its
revenuegenerating capability and help offset continued anticipated volume
declines. However, these flexibilities will need to be coupled with
reasonable transparency and appropriate accountability mechanisms to
prevent abuse.

The Service also does not have adequate flexibility to address its cost
structure, especially in the areas of infrastructure rationalization and
workforce realignment. Furthermore, cost issues related to compensation
and benefits, including its workers* compensation obligations and its long

4 See GAO- 03- 26R. Flexibilities and

Incentives to Increase Revenues and Control Costs

Page 10 GAO- 03- 812T

term retiree health obligations, need to be addressed. The Commission will
need to consider what flexibility and incentives are appropriate to allow
the Postal Service to make changes in its revenue and cost structure to
reflect changing economic conditions and improve its efficiency in an
increasingly competitive environment.

Although the Service*s break- even mandate was established to foster
reasonable rates, this mandate removes the profit motive. In its
Transformation Plan, the Service proposed a revision to its break- even
mandate that would permit it to retain earnings. Key questions for
consideration include the following:  Could the Service remain self-
supporting under its mandate to break even

over time?  Should the Service*s business model be adjusted to allow some
additional

flexibility to retain a reasonable level of earnings?  Would changing the
Service*s break- even mandate lead to a reduction in

the quality and scope of universal postal service? To address concerns
about potential service reductions, some other countries, such as Germany
and the Netherlands, whose postal administrations operate on a for- profit
basis, have imposed specific minimum requirements for universal postal
service and added regulatory oversight in connection with the quality of
postal service.

The Service*s cost- of- service rate- setting structure allows the Service
to cover rising costs by increasing rates. The rate- setting process was
created to ensure prior independent review of Service- proposed domestic
postal rates and fees. It also includes due process for all interested
parties in hearings on the record. This process has led to proceedings
that are often lengthy and adversarial. Although the current system was
designed to

enable the Service to break even over time, in practice the Service has
accumulated significant prior years* losses and debt and has had
difficulty funding capital investments without borrowing. Some of the key
questions related to the current rate- setting process include the
following:

 Should the current rate- setting process be retained, modified, or
replaced with a different system? Are changes to the current rate- setting
structure needed to provide sufficient funds for the Service*s operating
and capital Break- even Mandate

Rate- setting Structure

Page 11 GAO- 03- 812T

needs and to repay debt? Should the Service*s rate setting be subject to
prior regulatory review?

 What should be the respective authorities and responsibilities of the
Service and any independent regulator, including the authority to compel
provision of information and final decision- making authority over what
rates are set?  Should legal requirements that affect rates* including
that each mail class

cover its costs, and preferred rates for certain groups* be retained,
changed, or eliminated?

Consensus on these issues will be difficult to achieve, but improvements
in the rate- setting structure will be a fundamental component of a
comprehensive transformation. One innovation in the rate- setting process
that was recently approved by the PRC on an experimental basis was the
Service*s proposal for a negotiated service agreement (NSA). An NSA is a
customer- specific agreement with the Service, whereby the customer agrees
to perform specified mail preparation activities; and if the customer*s
total mailings exceed a pre- set volume threshold, then the customer
receives a discount rate and/ or predetermined services. The Service
anticipates that such agreements will result in additional volume and
revenue.

The key financial challenge facing the Service is whether it will be able
to generate sufficient revenues to cover its costs in the face of
stagnating or declining mail volume growth. Some of the limitations in the
Service*s current business model related to its revenue- generating
capacity have become more evident as mail volumes have recently declined
in major mail classes, particularly in First- Class Mail. The overall
growth rate for First- Class Mail has been trending downward for about 20
years. These declines are significant because, as seen in figure 2, the
revenue generated from First- Class Mail is used to cover about 69 percent
of the Service*s

institutional costs. The Service*s institutional costs comprise nearly 40
percent of its total costs. Revenue Generation

Page 12 GAO- 03- 812T

Figure 2: First- Class Mail Volume, Revenue, and Contribution to
Institutional Costs in Fiscal Year 2002

As seen in table 1, the loss in contribution from declining First- Class
Mail volume would be difficult to recover from other classes of mail.

Table 1: Additional Volume Increases that Would be Necessary to Recover
Loss in Contribution From a 1 Percent Decline in First- Class Mail Volume

Type of mail Volume increase necessary Actual volume change between fiscal
years 2001 and 2002

Priority 14% (11%) Express 43% (12%) Standard 3% (3%) Package Services
116% (2%) Source: GAO analysis of Postal Service and Postal Rate
Commission data.

As part of its Transformation Plan, the Service stated that it would like
to generate revenues from new products and services, and it has requested
additional flexibility in this area. Many questions, however, have been
raised about the Service*s ability to generate revenues to cover the costs
from its new products and services. This area has been the source of much
controversy, particularly related to whether the Service is or should be
allowed to enter into markets where private- sector companies are
operating, and whether these products and services are being
crosssubsidized by monopoly- protected postal products and services. We
have issued several reports regarding the Service*s activities related to
new

Page 13 GAO- 03- 812T

products and services. 5 We have consistently found that the Service*s
performance did not meet its stated goals, and that it did not have
appropriate financial information and controls in this area. Although it
was not possible for us to determine the extent of any cross- subsidy due
to incomplete financial information, it was clear that, as of fiscal year
2002, the Service was not generating sufficient revenues to cover its
costs

related to these new product areas. Another revenue- generating
opportunity discussed in the Transformation Plan is leveraging existing
assets and infrastructure, such as postal- owned vehicles, facilities, and
its nationwide 6- day- a- week, last- mile delivery network. Further
explorations of opportunities related to its existing assets could
potentially provide additional revenue. As part of its Transformation
Plan, the Service has stated that it may have the capacity to generate
revenue by offering access to available space in warehouses and vehicles.
Clearly, one of the fundamental deficiencies in the current business model

is that it does not provide appropriate incentives to operate in the most
cost- effective manner. The cost- based rate structure, monopoly
protections, and break- even mandate provide limited incentives for the
Service to control costs, particularly in its two largest cost areas*
infrastructure and workforce. The Service*s extensive infrastructure
network has evolved piecemeal over time and may not reflect the most
efficient operating structure. The Service may be able to operate more
economically and efficiently by consolidating a number of its processing
facilities. Many concerns have also been raised about the efficiency of
the Service*s retail network, consisting of thousands of post offices,
branches, and stations. In the workforce area, employee wages and benefits
comprise about three- quarters of the Service*s total operating expenses.
This percentage has not changed dramatically over the last 30 years,
despite numerous automation initiatives undertaken by the Service.

Some of the key questions that relate to improving the Service*s
efficiency include the following: 5 See GAO- 02- 79, GAO/ GGD- 00- 188,
and GAO/ GGD- 99- 15. Cost Restrictions

Page 14 GAO- 03- 812T

 What is the optimal size and composition of the Postal Service*s
infrastructure and workforce? What service levels should be provided?

 What impediments limit the Service*s ability to sustain long- term
efficiency and productivity improvements, such as standardization of its
processing plants?

 Should current restrictions on closing or consolidating post offices be
changed to facilitate optimizing the Service*s retail network?

 How should mail safety and security considerations be incorporated into
the Service*s network optimization plans? Should operations be redesigned
to accommodate mail security concerns, particularly for highrisk *unknown*
sender or collection mail? What are the costs and who should pay for mail
security enhancements?

A key to becoming a more cost- effective and efficient organization will
be to rationalize the Service*s infrastructure to better support its
future operations. A wide variation exists in the efficiency levels across
mail processing plants, and the Service does not have standardized
operations throughout its nationwide network of processing plants.
According to postal officials, in some areas it is difficult to achieve
efficient operations due to plant layouts or locations. For example, in
some older facilities processing operations are spread over multiple
floors or span several buildings, while many of the newer plants are laid
out on one floor to better accommodate the automated equipment used today.
In addition, the location of some plants, such as those in big cities, may
hinder operations because of surrounding traffic congestion. On the retail
side, the Service has estimated that many of its post offices are not
profitable and many of the transactions that take place at a post office,
like selling stamps, can be conducted more efficiently through other
retail alternatives. Currently, the Service is analyzing the optimization
of its retail function

and has begun to put additional emphasis on using means other than post
offices to provide retail services to its customers. In addition, the
Service is studying the optimization of its mail processing and
transportation network. According to the Service*s Transformation Plan,
its strategy for optimizing its mail processing and transportation network
was to have been developed by fall of 2002. However, recently postal
managers told us that the Service is still in the process of developing
its overall concept and strategies for its revised network and anticipates
that it will release its

initial plans in January 2004. We are reviewing the Service*s approach to
Infrastructure Optimization

Page 15 GAO- 03- 812T

its network optimization study and will report later on the results of our
review.

The Postal Service*s infrastructure includes a variety of structures,
including over 300,000 collection boxes, 38,000 post offices, stations,
and branches, 500 mail processing plants, and various other types of
facilities. The Service delivers mail to over 140 million business and
residential addresses, including individual mailboxes, cluster boxes, and
post office boxes. As of October 2002, it reported having 115 facilities
or land parcels that were vacant or underutilized. The federal
government*s real property area is a new area that GAO has recently
identified as high- risk. 6 Longstanding problems with excess and
underutilized property, deteriorating facilities, unreliable real property
data, and costly space are challenges shared by several agencies. These
factors have multibillion- dollar cost implications and can seriously
jeopardize mission accomplishment. Rationalization of any excess
infrastructure can also result in additional cash from sales proceeds.
Historically, closing and consolidating post offices and processing plants

has often been controversial on account of worker, community, and
congressional interests. The Service*s current business model includes
statutory restrictions that limit its ability to close and/ or consolidate
post offices. We have reported that the Service has faced resistance to
closures because of the potential effects on jobs and mail delivery
service to local communities. 7 Given the controversy that surrounds
closure of postal facilities, some mechanism, such as the military base-
closure process, may be needed. Once agreement is reached on closing/
consolidating postal facilities, steps would need to be taken to help
ensure that unneeded postal properties are promptly and appropriately
handled.

Furthermore, safety and security concerns will need to be considered as
part of the Service*s network optimizing efforts. At the request of the
House Committee on Government Reform, we held a conference on issues
related to mail security in December 2001 and issued a report on the

6 U. S. General Accounting Office, High- Risk Series: Federal Real
Property, GAO- 03- 122 (Washington, D. C.: Jan. 2003). 7 U. S. General
Accounting Office, U. S. Postal Service: Deteriorating Financial Outlook
Increases Need for Transformation, GAO- 02- 355 (Washington, D. C.: Feb.
28, 2002).

Page 16 GAO- 03- 812T

concerns and suggestions that resulted from that conference. 8 Some of the
conference discussion revolved around whether separate processing
operations would be needed for mail streams with different levels of risk.
For example, mail from collection boxes is deemed to be higher risk

because the sender is unknown, while much of the bulk business mail is
considered lower risk because it is from known shippers. The Service will
need to determine whether it should place biohazard detection equipment in
all processing plants or establish separate processes for various levels

of risk in the mail stream. Another related issue is who should pay for
costs related to enhancing mail security* ratepayers, taxpayers, or both.
To date, the Postal Service has received $762 million in appropriated
funds to cover costs associated with the anthrax and terrorist attacks.
The Service requested another $350 million in its fiscal year 2004
appropriations request for emergency preparedness costs.

In the workforce area, the Service has significant unresolved cost issues
related to

 wage and benefit premiums associated with some of its employees whose
compensation is determined through collective bargaining;  compensation
limitations for executives subject to executive pay caps;  impact on
Service costs of recent legislation requiring the Service to cover

pension costs for the time its employees served in the military;  rising
health care costs for current and retired employees;  impact on Service
costs of not accruing its retiree health benefit costs; and  growth in
workers* compensation costs.

We recognize that the Service*s recent workforce reductions have resulted
in some cost savings. However, achieving more significant savings in total
costs will require further reducing the size of its workforce and
examining its current compensation and benefits arrangements, including
workers* compensation. Further, the Service should revisit the accounting
and funding treatment of its long- term retiree health obligations. In
fiscal year 2002, the Service had over 854,000 total employees, and the
compensation

8 U. S. General Accounting Office, Highlights of GAO*s Conference on
Options to Enhance Mail Security and Postal Operations, GAO- 02- 315SP
(Washington, D. C.: Dec. 20, 2001). Workforce Size, Composition,

and Costs

Page 17 GAO- 03- 812T

and benefit costs for these employees amounted to about $53 billion. About
90 percent of the Service*s 750,000 career employees are covered by
collective bargaining agreements.

One of the most difficult challenges that the Service faces is making
changes to its compensation systems. The Postal Service is required by
statute to provide its employees with wages and benefits comparable to
those of private- sector employees, but it faces several problems in this
area. On the one hand, postal officials have stated that the statutory pay
cap for postal executives has limited its ability to provide compensation
that is comparable to that in the private sector for selected managerial,
executive, and officer level positions. This restriction may make it more

difficult for the Service to recruit and retain key executive talent. On
the other hand, the Commission heard testimony from Professor Wachter at
its hearing in Chicago that postal employees whose pay is set through
collective bargaining have a significant wage and benefit premium over
comparable private- sector employees. 9 This premium was estimated to be
34.2 percent in the 2000- 2001 interest arbitration proceeding between the
Postal Service and the American Postal Workers Union, which covers

approximately 366,000 employees. The issues of wage and benefit
comparability and factors that need to be considered under the collective
bargaining process are fundamentally important to the Service*s future
transformation efforts. As the Postal Service noted in its testimony
before the Commission, the cost of postal benefits has risen about 27
percent more than those of the private sector in the last 20 years. The
Service also testified that there are substantial fringe benefit costs
(retirement and retiree health care benefits) that are statutorily
mandated, and thus outside the scope of collective bargaining. The
Commission has also heard that the Service*s costs for some employee
benefits within the scope of collective bargaining* those for

health benefits for active employees* are higher than those in the private
sector as well as other federal agencies. For example, the Postal Service
pays about 85 percent of its employees* health benefit premiums, while
other federal agencies pay up to 75 percent of these costs. Furthermore,
we believe the fact that the Service pays a higher percentage of its

9 See Statement of Michael L. Wachter, Before the President*s Commission
on the United States Postal Service, April 29, 2003. Professor Wachter is
a professor of Law and Economics at the University of Pennsylvania. He has
consulted for the Postal Service since 1981 and testifies on its behalf in
interest arbitration panels on issues involving Postal

Service wage and benefit comparability. Wage and Benefit

Comparability

Page 18 GAO- 03- 812T

employees* insurance premiums and continues to pay a portion of the
premiums after retirement is an important consideration in assessing the
total wage and benefit comparability of postal employees.

Although the parties disagree about whether a wage and benefit premium
exists and about the basis for making these comparisons, the Service*s
ability to control costs in this area will be critical to achieving a more
efficient organization. One of the limitations in the existing collective
bargaining process is that the interests of all postal stakeholders, such
as ratepayers, do not appear to have been sufficiently considered. As a
starting point, the Commission may want to revisit the guiding principles
incorporated into the wage and comparability standard so that it would
more fully reflect all stakeholder interests and the Service*s overall
financial condition and outlook. These principles could include the full
compensation and benefit costs, as well as the relationship of these costs
relative to total costs, impact on rates and revenues, and the Service*s
overall financial condition. In addition, postal labor and management have
disagreed on the benchmarks that should be used in making total
compensation comparisons. For example, questions exist as to whether the
private- sector comparison group should be unionized workers,
nonunionized, or some combination thereof, and whether the total value of
benefits has been factored into this comparison. It may be beneficial for
any legislation requiring compensation comparability to include specific
criteria and factors upon which a comparison must be made. Another benefit
area where costs have been difficult to control is the

Service*s workers* compensation benefits. This presents a significant
challenge to the Service, because these costs totaled $1.5 billion in
fiscal year 2002, an increase of over $500 million, or 50 percent, from
the previous year. In addition, the Service*s total liability for its
workers* compensation benefits amounted to $6.7 billion at the end of
fiscal year 2002. The Service attributed the cost increases to a record
number of compensation claims filed and a rise in the average cost per
medical claim. While we have not reviewed the reasons for the cost
increases, we believe

that the significantly increased costs warrant attention by the Service.
In addition, the Commission may want to consider the comparability of the
Service*s workers* compensation benefits as it considers the Service*s
total compensation and benefits for postal employees. Several GAO reports
have raised issues about benefit payment policies under the Federal
Employees* Compensation Act (FECA), including how these benefits compare
to those of other federal and state workers* compensation laws and
changing benefit payments for retirement- aged Workers* Compensation Costs

Page 19 GAO- 03- 812T

beneficiaries. 10 In April 1996, we reported on our comparison of benefits
authorized by FECA with those authorized under the Longshore and Harbor
Workers* Compensation Act and state workers* compensation laws. 11 We
found that, in general, FECA provided the same types of benefits to
injured federal workers as those provided under other federal and state
workers* compensation laws; however, there were three principle ways in
which FECA benefits were more generous:

 FECA*s authorized maximum weekly benefit amount was greater;  FECA
provided claimants who had a spouse and/ or dependent with an

additional benefit of 8- 1/ 3 percent of salary; and  FECA provided
eligible federal workers who suffered traumatic injuries

with additional salary continuation benefits for a period not to exceed 45
days.

We have also reported on possible changes to FECA benefits for
beneficiaries who are at or beyond retirement age. 12 We noted that older
FECA beneficiaries made up a high percentage of cases on the long- term
rolls and accounted for a substantial portion of the FECA benefits paid
for long- term compensation. We identified two prior proposals for
reducing FECA benefits to those who become eligible for retirement. One
would convert compensation benefits received by retirement- eligible
injured workers to retirement benefits. However, this approach raises
complex issues related to changing workers* compensation benefits to
taxable income and allowing for varying amounts of retirement benefits.
The second proposal would convert FECA benefits to a newly established
FECA annuity, thus avoiding the complexity of shifting from one benefit
program to another. To help address FECA- related cost issues, the
Commission and Congress could consider converting from the current FECA
benefit structure to a FECA annuity.

10 U. S. General Accounting Office, Recent GAO Reports on the Federal
Employees* Compensation Act, GAO/ T- GGD- 97- 187 (Washington, D. C.:
Sept. 30, 1997). 11 U. S. General Accounting Office, Workers*
Compensation: Selected Comparisons of Federal and State Laws, GAO/ GGD-
96- 76 (Washington, D. C.: Apr. 3, 1996). 12 U. S. General Accounting
Office, Federal Employees* Compensation Act: Issues Associated With
Changing Benefits for Older Beneficiaries, GAO/ GGD- 96- 138BR
(Washington, D. C. Aug. 14, 1996).

Page 20 GAO- 03- 812T

Recent statutory changes in how the Service funds its Civil Service
Retirement System (CSRS) pension costs will result in substantial
financial savings to the Service. Those savings represent an opportunity
for the Service to address its significant financial challenges, including
its large unfunded retiree health obligation. While the pension obligation
is

being funded as benefits are earned and recovered through rates, the
retiree health obligation is not. The health obligation is also not
reflected in the Service*s financial statements. Recent estimates put the
present value of the Service*s retiree health obligation at between $40
and $50 billion. Under the Service*s current rate- setting method, the
increasing cost of these obligations will result in sharply escalating
future rates. The Commission could be instrumental in guiding the Service
on how best to address this and other major financial management
challenges as the Service strives to transform itself.

In April 2003, the President signed into law the Postal Civil Service
Retirement System Funding Reform Act of 2003 (P. L. 108- 18). The Act was
the culmination of an analysis we requested in May 2002 that the Office of
Personnel Management (OPM) perform on the extent to which the Service

had funded and was projected to have funded the CSRS costs of its
employees and annuitants. 13 In November 2002, OPM reported that, based on
the level of contributions set forth in what was then the current law, the
Service would overfund its pension obligation by $77.7 billion. However,
OPM*s calculation assumed that the Service was responsible at that time
for funding the cost of military service of applicable Service employees,
which was consistent with the administration*s legislative proposal.
According to OPM, the administration*s legislative proposal was modeled
after the other major federal retirement system, the Federal Employee
Retirement System (FERS), whereby the agencies fund benefits related to
military service. Because under then current law this military

funding was the responsibility of Treasury, we asked OPM to recalculate
this overfunded amount, excluding the benefits attributable to military

13 These costs are those attributable to service rendered since the July
1, 1971, effective date of the Postal Reorganization Act. Pension and
Retiree Health Obligations

Page 21 GAO- 03- 812T

service, and found that it was actually $104.9 billion. 14 Measured on a
present value basis as of September 30, 2002, this shift in military
service cost amounts to over $27 billion. (See appendix for additional
details on these calculations.)

P. L. 108- 18 did in fact make the Service responsible for funding these
military costs. The Act also changed how the Service funds its CSRS
pension costs and, in so doing, reduced its payments to the Civil Service
Retirement and Disability Fund (CSRDF) by an average of over $3 billion
per year over the next 5 years and the full $77.7 billion over the next 40

years to prevent any overfunding from occurring. Furthermore, Congress
acted on our suggestion to consider the Service*s $11 billion in
outstanding debt to the federal government and directed the Service to
apply the savings in fiscal years 2003 and 2004 that result from enactment
of this legislation to reducing its debt. The legislation also requires
that the Service submit a proposal to the President, Congress, and GAO
detailing how savings attributable to any fiscal year after 2005 and held
in escrow should be expended, including for debt repayment, pre- funding
its retiree health obligation, productivity and cost saving capital
investments, delaying or moderating postal rate increases, or any other
matter. GAO has 60 days from the time it receives the Service*s report to
submit a written evaluation of it. Furthermore, we are beginning work on
developing various alternatives for funding the existing unfunded retiree
health obligation and future costs. Without a major change in its funding
approach, this obligation will exacerbate the Service*s financial problems
in the future.

The law also requires the Service to consider your work in formulating its
plan for the savings. Accordingly, we believe that the issue of how the
Service currently accounts for and funds its retiree health benefits needs
to be seriously considered as part of any effort to address the future
viability of the Postal Service and should be factored into the
Commission*s deliberations.

14 Until passage of P. L. 108- 18, Treasury funded the cost of military
service creditable towards a CSRS benefit not otherwise paid for by
employees. The Act shifted responsibility for funding military service
costs from the Treasury to the Postal Service * retroactive to July 1,
1971, and prospectively. However, the Act also requires the Postal
Service, the Treasury, and OPM each to review this provision and submit
proposals by September 30,

2003, detailing whether and to what extent the Treasury or the Postal
Service should be responsible for funding these benefits in the long term.
GAO has 60 days from the time it receives these reports to submit a
written evaluation of them to the House and Senate oversight committees.

Page 22 GAO- 03- 812T

Unlike its CSRS pension obligation, which the Act put on course to be
fully funded, the retiree health benefit obligation is funded on a pay-
as- you- go basis as premiums are paid, rather than on a full accrual
basis. 15 Consequently, while the pension benefits being earned now by
Postal

Service employees are recovered through current postal rates, the retiree
health benefits of those same employees are not being recognized in rates
until after they retire. This pay- as- you- go approach is also being used
to reflect retiree health costs in the Service*s financial statements. We
believe that it would be preferable for the Service to account for these
retiree

health costs and related obligation in its financial statements on an
accrual basis. As we noted in our September 2002 correspondence to the
Postmaster General, 16 the Service*s current accounting treatment does not
reflect the economic reality of its legal obligation to pay for these
costs,

and current ratepayers are not paying for the full costs of the services
they are receiving. Although the Service did revisit this issue and did
discuss it in the management discussion and analysis section of its
financial statements for fiscal year 2002, it did not adopt accrual
accounting for retiree health benefit costs, or change its financial
disclosure treatment as we suggested. Consequently, we continue to believe
that the Service*s treatment of retiree health benefit costs in its
financial statements does not sufficiently recognize the magnitude,
importance, or meaning of this obligation to decision makers or
stakeholders. In our view, the time has come for the Service to formally
reassess how it accounts for and discloses this very significant financial
obligation. Irrespective of the accounting treatment, we believe the
Service needs to

work with the PRC to determine how best to address this issue in the
ratesetting process. We recognize that the adoption of accrual accounting
for retiree health obligations and inclusion of the related costs in
postal rates could mean that customers face significant rate increases
sooner than might otherwise be the case. However, without a change now, a
sharp escalation in rates in future years will be necessary to fund these
costs on a pay- as- you- go- basis.

15 The Postal Service paid about $1 billion to OPM in fiscal year 2002 for
the cost of retiree health care benefits for its more than 475,000
employees and survivor annuitants who participate in the Federal Employees
Health Benefits Program (FEHBP).

16 See GAO- 02- 916R.

Page 23 GAO- 03- 812T

Thus far, I have focused most of my comments on areas that require
statutory or regulatory changes. However, one of the most important
factors in the Service*s future success may not depend solely on actions
by the Commission, Congress, or other stakeholders. Rather, it will depend
to

a large extent on the Service*s support systems and its ability to work
together with its unions to make the changes needed to improve
organizational efficiency and sustain productivity improvements. This may
require significant changes in organizational culture and practices, which
have historically been difficult to achieve. We have written many reports
discussing the long- standing adversarial relationships between postal
managers and unions. 17 These adversarial relationships have major
financial, operational, and human capital implications because
personnelrelated costs represent the largest single element of the
Service*s annual expenses, and they are the primary determinant of prices
and the key

factor in the Service*s overall financial viability. In addition, postal
employees represent a valuable asset and are a key element in any overall
transformation effort. Disagreements between these groups have included
performance management issues, including whether to implement some type of
performance- based incentive system for employees covered under collective
bargaining, and work rules, such as the deployment and

utilization of the workforce. Furthermore, the Service*s ability to
realign its workforce may be limited because its workforce planning is
essentially designed to support short- term operations rather than assess
long- term workforce needs, and it may not have sufficient flexibility to
make needed changes in its work rules.

We have found that high- performing organizations often must fundamentally
change their cultures so that they are more results- oriented, customer-
focused, and collaborative in nature. 18 To foster such cultures, these
organizations use their performance management systems as a strategic tool
to drive change and achieve desired results. The Service will need to
modernize its performance management systems to create a clear linkage**
line of sight** between individual performance and

17 For example, see U. S. General Accounting Office, U. S. Postal Service:
LaborManagement Problems Persist on the Workroom Floor, GAO/ GGD- 94-
201A/ B (Washington D. C.: Sept. 29, 1994); U. S. Postal Service: Little
Progress Made in Addressing Persistent Labor- Management Problems, GAO/
GGD- 98- 1 (Washington D. C.: Oct. 1, 1997).

18 U. S. General Accounting Office, Results- Oriented Cultures: Creating a
Clear Linkage between Individual Performance and Organizational Success,
GAO- 03- 488 (Washington, D. C.: Mar. 14, 2003). Effective LaborManagement

Relations and Support Systems Are Key to Improving Operational Efficiency

Performance Management

Page 24 GAO- 03- 812T

organizational success. First among the key practices high- performing
organizations use to develop effective performance management systems is
to align individual performance expectations with organizational goals.
Another key practice is to involve employees and stakeholders to gain
ownership of the performance management system.

Poor relationships between postal managers and employees have made it
difficult to develop and implement changes to the Service*s performance
management systems. One of the key challenges in developing a more
performance- based culture will be for the Service to work in
collaboration with its labor unions and management associations to align
individual performance with institutional goals and objectives. The
Service*s bargaining unit employees, who make up approximately 90 percent
of its workforce, do not have performance- based compensation systems and
have generally opposed them. Another key challenge will be in addressing
those areas where the Service believes it needs additional human capital
flexibilities to realign its workforce or modify work rules, but has been
or could be hampered through current collective bargaining agreements. 19
Modern, reliable, effective, and as appropriate, validated performance

management systems with adequate safeguards, including reasonable
transparency and appropriate accountability mechanisms, must serve as the
fundamental underpinning of any successful results- oriented pay reform.
The Service reported that it implemented a pay- for- performance system
for its executives, managers, postmasters, supervisors, and other non-
bargaining employees in fiscal year 1995, but that this system was
discontinued in fiscal year 2002. Congress and the Postal Service*s Office
of Inspector General have expressed concerns about certain aspects of this
system, such as the payouts made at the same time the Service was
incurring huge losses. The Service reported that it implemented a
meritbased pay program in 2002 for its executives and officers, under
which goals related to the Service*s overall performance goals are set for
individuals at the beginning of the fiscal year. The Service also reports
that it is in the process of extending a merit- based pay system for the
remaining non- bargaining employees later this year. Care should be taken
in the design of these systems to ensure that they comply with applicable

law (e. g., pension cost savings cannot be used for management bonuses) 19
In broad terms, human capital flexibilities represent the policies and
practices that an organization has the authority to implement in managing
its workforce to accomplish its mission and achieve its goals.

Page 25 GAO- 03- 812T

and that any productivity- based measures result in real savings or more
effective utilization of any existing excess capacity.

Addressing challenges in performance management will require the Service*s
managers and employees to share a common vision for the future and a
mutual responsibility for the Service*s financial and operating

performance. Postal managers and employees will need to balance their
individual interests with those of the organization, particularly in the
performance management and workforce realignment areas. A common vision
and a balanced approach should help achieve and sustain productivity
improvements that will be necessary to enhance overall organizational
effectiveness and individual performance while appropriately protecting
workers* rights.

Another key human capital challenge is to take steps to ensure that an
organization has sufficient numbers of people in place with the right
skills, tools, and incentives to get the job done. The Service*s ability
to make changes in the size, cost, and deployment of its workforce has
been hampered by some provisions of the collective bargaining agreements.
For example, in our reviews, postal plant managers have told us that
because of restrictive job classification rules, the Service has too
little flexibility to move employees to locations and positions where they
are needed. A postal plant manager told us that because of restrictive
workforce rules, many supervisors believe it is too arduous to deal with
poor performers and that about 60 percent of grievances were work rule
based. Changes to the Service*s operating environment, such as optimizing
its mailprocessing

network, may require a different mix in the number, skills, and deployment
of its employees. These changes may involve repositioning, retraining,
outsourcing, and reducing the workforce.

To deal with these challenges, the Service will need effective human
capital strategies. It will also need reasonable flexibility to address
certain challenges. However, these additional authorities should include
appropriate safeguards to prevent abuse of employees. In previous reports
and testimonies, we have emphasized that in addressing these human capital
challenges, organizations should identify and use the flexibilities
already available under existing laws and regulations and then seek
additional flexibilities when necessary and based on sound business
Workforce Realignment

Page 26 GAO- 03- 812T

cases. 20 These additional flexibilities could include (1) more flexible
pay approaches, (2) greater flexibility to streamline and improve the
hiring process, (3) increased flexibility in addressing employees* poor
job performance, (4) additional workforce restructuring options, and (5)
expanded flexibility in acquiring and retaining part- time or temporary
employees. The tailored use of such flexibilities for acquiring,
developing, and retaining talent is an important cornerstone of strategic
human capital management so that organizations become more results-
oriented, integrated, and customer focused. To address employees* concerns
that some flexibilities could be unfairly applied, the Service will need
to develop clear and transparent guidelines for using flexibilities, and
then hold managers and supervisors accountable for their fair and
effective use. By more effectively using flexibilities, the Service would
be in a better position to manage its workforce, ensure accountability,
and transform its culture to become more results- oriented and efficient.

In closing, this Commission*s report will be an important tool to guide
comprehensive postal transformation by addressing the major issues related
to the legal and regulatory framework of the Service*s business model
along with various operational and governance issues. As the Commission
considers the future direction of the Service, its efforts will involve
balancing the Service*s future role and mission; governance structure,
transparency and accountability mechanisms; and various incentives to
increase revenues and control costs. More fundamentally, the Commission*s
report can provide proposals and mechanisms to help Congress and the
President deal with the controversial and long- standing issues that have
hampered various postal reform efforts in the past.

For the Service to become a more efficient organization in the 21st
century, it will need to

 continue implementation of its Transformation Plan and other Commission
recommendations aimed at driving down costs and increasing efficiencies;

 continue enhancements to its financial transparency, including
appropriate recognition of its expenses and obligations for retiree health
20 U. S. General Accounting Office, Human Capital: Effective Use of
Flexibilities Can

Assist Agencies in Managing Their Workforces, GAO- 03- 2 (Washington, D.
C.: Dec. 6, 2002).

Page 27 GAO- 03- 812T

benefits as well as disclosure of performance information and
transformation progress;

 provide thoughtful consideration of how its pension cost savings can be
effectively used after fiscal year 2004 to enhance the long- term
viability of the Service;  develop a comprehensive plan for optimizing
its infrastructure and

workforce; and  work with its unions and management associations to
create a resultsoriented culture, as well as appropriate work rules and
realignment

flexibilities, that would help achieve both long- term financial viability
for the Service and a fair, positive work environment for employees.

Finally, in many ways, the Service*s transformation issues are an
illustration of the types of challenges that many government agencies face
in positioning themselves for the 21st century rather than simply building
on past practices. The Postal Service plays an important role for our
nation and all Americans. It helps to connect our nation both domestically
and internationally. However, the world has changed dramatically since the
last postal reorganization in 1970. The Service must change to recognize
these realities and position itself for the future. The time for action is
now.

Messrs. Chairmen, this concludes my testimony. I would be pleased to
answer any questions that you or Members of the Commission may have. For
further information regarding this testimony, please call Bernard L.

Ungar, Director, Physical Infrastructure Issues, on (202) 512- 2834 or at
ungarb@ gao. gov, or call Linda Calbom, Director, Financial Management and
Assurance, on (202) 512- 8341 or at calboml@ gao. gov for pension and
retiree health issues. Individuals making key contributions to this
testimony included Teresa Anderson, Joshua Bartzen, Margaret Cigno,
William Doherty, Scott McNulty, Lisa Shames, and Jill Sayre. Contacts and

Acknowledgments

Page 28 GAO- 03- 812T

In May 2002, we asked OPM to estimate* as of September 30, 2002* the
extent to which the Postal Service had funded and was projected to have
funded the CSRS costs of its employees and annuitants for civilian service
rendered since July 1, 1971, the effective date of the Postal
Reorganization Act. In order to make these determinations, OPM had to
first estimate how

much of the net assets of the Civil Service Retirement and Disability Fund
(CSRDF) were attributable to the Service*s CSRS participants. OPM
accomplished this task by first constructing a hypothetical *Postal Fund,*
into which agency and employee contributions were credited and from which
benefit payments and a portion of the CSRDF*s administrative

expenses were charged. It was also necessary for OPM to allocate a portion
of the CSRDF*s actual investment returns since fiscal year 1972 to the
*Postal Fund,* even though under what was then current law Treasury

bore all investment risk and any resulting gains and losses. OPM also
assumed in its initial calculations that the Service was responsible for
the applicable military service costs of its employees, which was
consistent with the administration*s legislative proposal. However, under
the then current law, funding of these military costs was the
responsibility of the Treasury.

Table 2 shows the current and projected funded status of future CSRS
benefits payable to the Service*s employees and annuitants calculated to
reflect both the administration*s proposal that the Service be responsible

for military service costs and the then current law, which had Treasury
responsible for these costs. The present value of future contributions in
table 2 reflects the Postal Service*s funding of CSRS benefits as
established in the then current law.

Table 2: Funded Status of Postal Service CSRS Benefits Under Pre- P. L.
108- 18 Funding Approach

Dollars in billions as of September 30, 2002 The Service responsible for
benefits attributable

to military service The Service not

responsible for benefits attributable to military service

Present value of future CSRS benefits ($ 190.4) ($ 179.1) *Postal fund*
net assets 168.4 185.0 Current amount of benefits (to be funded) /
overfunded (22.0) 5.9 Present value of future contributions 99.7 99.0
Projected overfunding $ 77.7 $104.9 Source: Developed by GAO based on OPM
data and actuarial calculations.

Appendix: Analysis of the Postal Service*s Civil Service Retirement System
Liability

Page 29 GAO- 03- 812T

The extent to which the Service had already funded all future benefits is
the difference between the present value of those future benefits and the
hypothetical *Postal Fund.* The extent to which the Service is projected
to have funded all future benefits is the difference between the current

amount to be funded (or the current overfunding) and the present value of
all future contributions based on what was then the current law.
Calculating the funded status of civilian benefits established a benchmark
from which the cost of alternatives to the funding of military service
could be calculated.

Table 3 shows the effect on the projected overfunding as a result of
changing the approach to funding future CSRS benefits. All present value
figures in tables 2 and 3 reflect CSRS- wide demographic assumptions. P.
L. 108- 18 permits the Postal Service to request that OPM reconsider
calculating these present values using Postal Service- specific
demographic assumptions. Both tables show that the shift of military
service costs from the Treasury to the Postal Service amounts to over $27
billion. Table 3: Funded Status of Postal Service CSRS Benefits Under P.
L. 108- 18 Funding Approach

Dollars in billions as of September 30, 2002 The Service responsible for

benefits attributable to military service

The Service not responsible for military related

benefits

Current amount of benefits (to be funded) / overfunded ($ 22.0) $ 5.9

Present value of regular agency contributions 11.8 11.8

Present value of employee contributions 4.7 4.7

Present value of future employee military service deposits 0.7 0

Projected (underfunding) / overfunding ($ 4.8) $ 22.4

Source: Developed by GAO based on OPM data and actuarial calculations.

The administration believed that making the Postal Service responsible for
funding military service benefits* both retrospectively to fiscal year
1972 and prospectively from enactment of any legislation* was appropriate
in part because its legislative proposal would shift investment risk to
the Postal Service. Since fiscal year 1972, the CSRDF earned more than OPM
assumed it would. Consequently, while P. L. 108- 18 made the Service

responsible for funding the cost of military service benefits for all
employees hired after June 30, 1971, and a portion of the costs for those
employees hired before July 1, 1971, the Service received the benefit of

Page 30 GAO- 03- 812T

these higher than expected investment returns. Similarly, in the future,
investment returns that are above or below expectations will decrease or
increase the Postal Service*s pension costs, respectively. Furthermore, P.
L. 108- 18 results in postal ratepayers paying for the cost of military
service creditable towards a CSRS benefit the same as they currently do
for the Service*s employees who participate in the Federal Employees
Retirement System.

Page 31 GAO- 03- 812T

Major Management Challenges and Program Risks: U. S. Postal Service.

GAO- 03- 118. Washington, D. C.: Jan. 2003.

U. S. Postal Service: Moving Forward on Financial and Transformation
Challenges. GAO- 02- 694T. Washington, D. C.: May 13, 2002.

U. S. Postal Service: Deteriorating Financial Outlook Increases Need for
Transformation. GAO- 02- 355. Washington, D. C.: Feb. 28, 2002.

U. S. Postal Service: Financial Outlook and Transformation Challenges.

GAO- 01- 733T. Washington, D. C.: May 15, 2001.

U. S. Postal Service: Transformation Challenges Present Significant Risks.
GAO- 01- 598T. Washington, D. C.: Apr. 4, 2001.

U. S. Postal Service: Sustained Attention to Challenges Remains Critical.

GAO/ T- GGD- 00- 206. Washington, D. C.: Sept. 19, 2000.

U. S. Postal Service: Issues Associated with Anthrax Testing at the
Wallingford Facility, GAO- 03- 787T. Washington, D. C.: May 19, 2003.

U. S. Postal Service: Better Guidance Is Needed to Improve Communication
Should Anthrax Contamination Occur in the Future.

GAO- 03- 316. Washington, D. C.: Apr. 7, 2003.

Contract Management: Postal Service*s National Office Supply Contract Has
Not Been Effectively Implemented. GAO- 03- 230. Washington, D. C.: Jan.
17, 2003. High- Risk Series: Federal Real Property. GAO- 03- 122.
Washington, D. C.:

Jan. 2003.

U. S. Postal Service: More Consistent Implementation of Policies and
Procedures for Cash Security Needed. GAO- 03- 267. Washington, D. C.: Nov.
15, 2002.

United States Postal Service: Opportunities to Strengthen IT Investment
Management Capabilities. GAO- 03- 3. Washington, D. C.: Oct. 15, 2002.

Diffuse Security Threats: USPS Air Filtration Systems Need More Testing
and Cost Benefit Analysis before Implementation. GAO- 02- 838. Washington,
D. C.: Aug. 22, 2002. Related GAO Products

Transformati on Cost Cutting, Productivity, Security, and Financial Issues

Page 32 GAO- 03- 812T

Diffuse Security Threats: Technologies for Mail Sanitization Exist, but
Challenges Remain. GAO- 02- 365. Washington, D. C.: Apr. 23, 2002.

Highlights of GAO*s Conference on Options to Enhance Mail Safety and
Postal Operations. GAO- 02- 315SP. Washington, D. C.: Dec. 20, 2001.

Breast Cancer Research Stamp: Millions Raised for Research, but Better
Cost Recovery Criteria Needed. GAO/ GGD- 00- 80. Washington, D. C.: Apr.
28, 2000.

U. S. Postal Service: Changes Made to Improve Acceptance Controls for
Business Mail. GAO/ GGD- 00- 31. Washington, D. C.: Nov. 9, 1999.

Recent GAO Reports on the Federal Employees* Compensation Act.

GAO/ T- GGD- 97- 187. Washington, D. C.: Sept. 30, 1997.

Federal Employees* Compensation Act: Issues Associated With Changing
Benefits for Older Beneficiaries. GAO/ GGD- 96- 138BR. Washington, D. C.
Aug. 14, 1996.

U. S. Postal Service: Stronger Mail Acceptance Controls Could Help Prevent
Revenue Losses. GAO/ GGD- 96- 126. Washington, D. C.: June 25, 1996.

Workers* Compensation: Selected Comparisons of Federal and State Laws.
GAO/ GGD- 96- 76. Washington, D. C.: Apr. 3, 1996.

Results- Oriented Cultures: Creating a Clear Linkage between Individual
Performance and Organizational Success. GAO- 03- 488. Washington, D. C.:
Mar. 14, 2003.

Postal Service: Employee Issues Associated with the Potential Closure of
the San Mateo IT Center. GAO- 03- 205. Washington, D. C.: Jan. 31, 2003

Human Capital: Effective Use of Flexibilities Can Assist Agencies in
Managing Their Workforces. GAO- 03- 2. Washington, D. C.: Dec. 6, 2002.

U. S. Postal Service: Diversity in District Management- Level Positions.

GAO/ GGD- 00- 142. Washington, D. C.: June 30, 2000.

U. S. Postal Service: Diversity in the Postal Career Executive Service.

GAO/ GGD- 00- 76. Washington, D. C.: Mar. 30, 2000. Human Capital

Page 33 GAO- 03- 812T

Equal Employment Opportunity: The Postal Service Needs to Better Ensure
the Quality of EEO Complaint Data. GAO/ GGD- 99- 167. Washington, D. C.:
Sept. 28, 1999.

U. S. Postal Service: Diversity in High- Level EAS Positions. GAO/ GGD99-
26. Washington, D. C.: Feb. 26, 1999.

U. S. Postal Service: Little Progress Made in Addressing Persistent
LaborManagement Problems. GAO/ GGD- 98- 1. Washington, D. C.: Oct. 1,
1997.

U. S. Postal Service: Labor- Management Problems Persist on the Workroom
Floor. GAO/ GGD- 94- 201A/ B. Washington, D. C.: Sept. 29, 1994. Review of
the Office of Personnel Management*s Analysis of the United

States Postal Service*s Funding of Civil Service Retirement System Costs.
GAO- 03- 448R. Washington, D. C.: Jan. 31, 2003.

Postal Service Employee Workers* Compensation Claims Not Always Processed
Timely, but Problems Hamper Complete Measurement. GAO03- 158R. Washington,
D. C.: Dec. 20, 2002.

U. S. Postal Service: Actions to Improve Its Financial Reporting. GAO- 03-
26R. Washington, D. C.: Nov. 13, 2002. U. S. Postal Service: Accounting
for Postretirement Benefits. GAO- 02-

916R. Washington, D. C.: Sept. 12, 2002.

United States Postal Service: Information on Retirement Plans. GAO- 02-
170. Washington, D. C.: Dec. 31, 2001. U. S. Postal Service: Update on E-
Commerce Activities and Privacy

Protections. GAO- 02- 79. Washington, D. C.: Dec. 21, 2001.

U. S. Postal Service: Enhancements Needed in Performance Planning and
Reporting. GAO/ GGD- 00- 207. Washington, D. C.: Sept. 19, 2000.

U. S. Postal Service: Postal Activities and Laws Related to Electronic
Commerce. GAO/ GGD- 00- 188. Washington, D. C.: Sept. 7, 2000.

U. S. Postal Service: Challenges to Sustaining Performance Improvements
Remain Formidable on the Brink of the 21st Century.

GAO/ T- GGD- 00- 2. Washington, D. C.: Oct. 21, 1999. Financial and

Performance Transparency

Page 34 GAO- 03- 812T

The Results Act: Observations on the Postal Service*s Preliminary
Performance Plan for Fiscal Year 2000. GAO/ GGD- 99- 72R. Washington, D.
C.: Apr. 30, 1999.

U. S. Postal Service: Development and Inventory of New Products.

GAO/ GGD- 99- 15. Washington, D. C.: Nov. 24, 1998. Financial Reporting:
Accounting for the Postal Service*s Postretirement Health Care Costs. GAO/
AFMD- 92- 32. Washington, D. C.: May 20, 1992.

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