U.S. Postal Service: Postal Reform Law Provides Opportunities to 
Address Postal Challenges (17-APR-07, GAO-07-684T).		 
                                                                 
When GAO originally placed the U.S. Postal Service's (the	 
Service) transformation efforts and long-term outlook on its	 
high-risk list in early 2001, it was to focus urgent attention on
the Service's deteriorating financial situation. Aggressive	 
action was needed, particularly in cutting costs, improving	 
productivity, and enhancing financial transparency. GAO testified
several times since 2001 that comprehensive postal reform	 
legislation was needed to address the Service's unsustainable	 
business model, which assumed that increasing mail volume would  
cover rising costs and mitigate rate increases. This outdated	 
model limited its flexibility and incentives needed to realize	 
sufficient cost savings to offset rising costs, declining	 
First-Class Mail volumes, unfunded obligations, and an expanding 
delivery network. This limitation threatened the Service's	 
ability to achieve its mission of providing affordable, 	 
high-quality universal postal services on a self-financing basis.
This testimony will focus on (1) why GAO recently removed the	 
Service's transformation efforts and outlook from GAO's high-risk
list, (2) the Service's financial condition in fiscal year 2007, 
(3) the opportunities and challenges facing the Service, and (4) 
major issues and areas for congressional oversight. This	 
testimony is based on GAO's past work, review of the postal	 
reform law, and updated information on the Service's financial	 
condition.							 
-------------------------Indexing Terms------------------------- 
REPORTNUM:   GAO-07-684T					        
    ACCNO:   A68344						        
  TITLE:     U.S. Postal Service: Postal Reform Law Provides	      
Opportunities to Address Postal Challenges			 
     DATE:   04/17/2007 
  SUBJECT:   Accountability					 
	     Congressional oversight				 
	     Cost control					 
	     Federal agency reorganization			 
	     Financial analysis 				 
	     Financial records					 
	     Internal controls					 
	     Postal rates					 
	     Postal service					 
	     Standards						 
	     Strategic planning 				 
	     GAO High Risk Series				 

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GAO-07-684T

                 United States Government Accountability Office

Testimony

GAO

Before the Subcommittee on Federal Workforce, Postal Service, and the District
of Columbia, Committee on Oversight and Government Reform, House of
Representatives

For Release on Delivery
Expected at 10:00 a.m. EDT
Tuesday, April 17, 2007

U.S. POSTAL SERVICE

     Postal Reform Law Provides Opportunities to Address Postal Challenges

Statement of Katherine Siggerud, Director
Physical Infrastructure Issues

  GAO-07-684T

U.S. POSTAL SERVICE

Postal Reform Law Provides Opportunities to Address Postal Challenges

  What GAO Found

Key actions by both the Service and Congress have led GAO to remove the
Service's transformation efforts and long-term outlook from its high-risk
list in January 2007. Specifically, the Service developed a Transformation
Plan and achieved billions in cost-savings, improved productivity,
downsized its workforce, and improved its financial reporting. Congress
enacted a law in 2003 that reduced the Service's annual pension expenses,
which enabled it to achieve record net incomes, repay debt, and delay rate
increases until January 2006. Finally, as illustrated in the table, the
postal reform law enacted in December 2006 provides tools and mechanisms
that can be used to address key challenges facing the Service as it moves
into a new regulatory and increasingly competitive environment.

The two key factors that will affect the Service's financial condition for
this fiscal year are the new reform law and new postal rates that go into
effect in May. The reform law increases the costs of funding retiree
health benefits but provides opportunities to offset some of these cost
pressures through efficiency gains and eliminating certain pension
payments. For the rest of the year, Service officials do not expect
significant changes from its projected expenses and revenues. Other
factors, such as costs for fuel or labor resolutions varying from plan,
could affect the Service's projected outcome for this fiscal year.

         Postal Reform Law Provides Opportunities to Address Challenges

       Challenges facing the Service Opportunities to address challenges

Generating sufficient  revenues  to  cover  costs  Provides  price-setting
flexibility and allows the as the mail mix is changing. Service to  retain
earnings.

Controlling costs, particularly for compensation Encourages the Service to
reduce costs and and long-term health benefits, and improving operate more
efficiently in areas such as productivity. realigning its network and
workforce.

Maintaining affordable, reliable service and Establishes service standards
and monitoring establishing reliable mechanisms to measure by the new
Postal Regulatory Commission and report service performance. (PRC).

Providing useful and reliable financial data to Establishes new reporting,
accounting, and assess performance. ratemaking data requirements.

Managing its workforce to respond to Requires a plan with the Service's
vision for operational changes. realigning its infrastructure and
workforce, and the resulting impacts on its workforce.

Source: GAO.

Congress's continued oversight of the Service's transformation is critical
at this time of significant changes for the Service, PRC, and mailing
industry. Also, key to a successful transformation is innovative
leadership by the Postmaster General and the PRC Chairman and their
ability to work effectively with stakeholders to realize new opportunities
provided under the postal reform law. GAO has identified key issues and
areas for oversight related to implementing the reform law and new
rate-setting structure, as well as other challenges to ensure the Service
remains financially sound.

                 United States Government Accountability Office

Chairman Davis, Representative Marchant, and Members of the Subcommittee:

I am pleased to be here today to participate in this oversight hearing for
the U.S. Postal Service (the Service). To begin, I want to acknowledge
Congress's efforts in passing comprehensive postal reform legislation.
^[293]1 The Postal Accountability and Enhancement Act (the act) provides
tools and mechanisms that can be used to establish an efficient, flexible,
fair, transparent, and financially sound Postal Service--a Service that
can more effectively operate in an increasingly competitive environment
not anticipated under the Postal Reorganization Act of 1970. Effective
collaboration among the Service, the newly established Postal Regulatory
Commission (PRC), mailers, and employee organizations can help to
facilitate the successful implementation of the act by achieving a greater
understanding of each other's changing needs and operations, and how they
correspond to the American public's need for the continued provision of
affordable, high-quality postal services. ^[294]2 My remarks today will
focus on
(1) why we recently removed the Service's transformation efforts and
outlook from GAO's high-risk list, (2) the Service's financial condition
in fiscal year 2007, (3) the opportunities and challenges facing the
Service, and (4) major issues and areas for continued congressional
oversight.

In summary:

When we originally placed the Service's transformation efforts and
longterm outlook on our high-risk list in early 2001, we stated that a
structural transformation would be needed to address the growing
financial, operational, and human capital challenges that threatened its
mission to provide affordable, high-quality universal postal services on a
selffinancing basis. ^[295]3 This designation would help raise the urgency
of taking actions to address these challenges before the situation
escalated into a crisis where the options for action could be more
limited. Since that time, key actions by both the Service and Congress
have improved the Service's financial, operational, and human capital
condition and outlook.

1Pub. L.  No.  109-435:  The Postal  Accountability  and  Enhancement  Act,
enacted Dec. 20, 2006.

2The act  renames  the Postal  Rate  Commission as  the  Postal  Regulatory
Commission. We will use the abbreviation PRC to represent both.

3GAO, U.S. Postal  Service: Transformation  Challenges Present  Significant
Risks, [296]GAO-01-598T ( Washington, D.C.: Apr. 4, 2001).

Specifically, the Service's management issued a Transformation Plan in
2002 that outlined steps to guide it in addressing its challenges and has
demonstrated a commitment to implementing the Plan by cutting costs,
improving productivity, downsizing its workforce, and improving its
financial reporting. Further, a statute enacted in 2003 reduced the
Service's annual pension expenses, which allowed the Service to achieve
record net income, repay debt, and delay rate increases until January
2006. ^[297]4 Comprehensive postal reform legislation was enacted in
December 2006 that among other factors, provides:

     o a framework for modernizing the Service's rate-setting process;
     o an opportunity to preserve affordable universal service by reassessing
       the future needs of postal customers and taking actions to increase
       value and efficiencies throughout the postal network--fundamental
       principles of functioning in a competitive environment;
     o recognition of the Service's long-term financial obligations by
       prefunding retiree health benefit obligations, which will result in
       short-term cost increases for the Service, but over the long-term this
       action improves the fairness and balance of cost burdens for current
       and future ratepayers;
     o for a transfer of the obligation to fund civil service pension
       payments attributable to past military service from postal ratepayers
       to taxpayers; ^[298]5 and
     o enhanced transparency and accountability by requiring that the Service
       collect, track, and report financial and service performance
       information, including the creation and reporting of modern service
       standards.

Based on these actions, we determined that sufficient progress has been
made to warrant the removal of the Service from our high-risk list in
January 2007. We recognize, however, that the Service continues to face
challenges to maintain its viability as it implements significant changes
under the new law and will further discuss these challenges below.

4Pub. L. No. 108-18: Postal Civil Service Retirement System Funding  Reform
Act of 2003.

5Pub. L.  No.  108-18  shifted  the  responsibility  for  funding  benefits
attributable to military service from taxpayers to postal ratepayers.

The Service's financial condition for the current fiscal year has been
affected by the act, which, along with the ensuing rate increase, will
continue to affect its near- and long-term financial outlook.
Specifically, changes to either projected or actual Postal Service
payments that result from this act include:

     o accelerating funding of the Service's retiree health benefit
       obligations,
     o expensing funds previously set aside in escrow (transferring them to
       the Treasury) and eliminating future escrow payments,
     o transferring funding for selected military service benefits back to
       the Treasury, and
     o eliminating certain annual Civil Service Retirement System (CSRS)
       pension funding requirements.

Since the law was enacted, the Service has updated its expense projections
for fiscal year 2007. To date, those expenses not directly impacted by the
2006 Act and its total revenues have tracked closely to budgeted
estimates. For the remainder of the fiscal year, Service officials do not
expect significant changes from projected expenses, and still expect to
meet revenue targets--even though the rate decision approved by the PRC
was different than what the Service requested. ^[299]6 These officials did
acknowledge, however, that other factors could have a favorable or
unfavorable impact on the Service's projected net loss for the year, such
as the effect of rate increases on mail volumes, changes in fuel prices,
and resolution of certain labor agreements. The Service is planning to
borrow $1.8 billion this year, which will push its total outstanding debt
to almost $4 billion to meet short-term cash flow needs that come at year
end.

As the Service transitions to its new statutory framework in an
increasingly competitive environment, it will continue to face financial,
operational, and human capital challenges. Table 1 illustrates how the
legislation provides opportunities to address some of these challenges.

6Higher postal rates for most mail classes will be implemented on May 14,
2007, including an increase in the price of a First-Class stamp from 39 to
41 cents. Rates for Periodicals (e.g., magazines, newspapers, etc.),
however, will not increase until July 15, 2007, due to the need for more
time to prepare for implementation by the Service and Periodical mailers.
A detailed explanation of the recent rate developments are covered later
in the testimony.

    Table 1: Reform Legislation Provides Opportunities to Address Continuing
                                   Challenges

       Challenges facing the Service Opportunities to address challenges

Generating sufficient revenues to cover costs as the mail mix is  Provides
price-setting flexibility  and  allows  the Service  to  retain  changing.
earnings.

Controlling costs,  particularly  for compensation  and  long-term  health
benefits, and improving productivity.

Maintaining  affordable,  reliable   service  and  establishing   reliable
mechanisms to measure and report service performance.

Encourages the Service to reduce costs and operate more efficiently in
areas such as realigning its network and workforce.

Requires the Service to establish service standards in consultation with
the new Postal Regulatory Commission, which will annually report on the
Service's performance against these standards.

Providing  useful  and  reliable  financial  data  to  assess  performance
Establishes new reporting, accounting, and ratemaking data to  management,
regulators, and oversight bodies. requirements.

Managing its workforce to respond to operational needs. Requires a plan to
describe the Service's vision for realigning its infrastructure and
workforce, including the impacts of facility changes on its workforce and
whether the Service has sufficient flexibility to make needed workforce
changes.

Source: GAO.

Continued oversight will be necessary to help ensure the Service's future
financial condition remains sound and that the intent of the act is
followed throughout implementation. In particular, we have identified
major issues considered significant by various postal stakeholders, as
well as areas for continued oversight including:

     o the effect of the upcoming rate increases and statutory changes on the
       Postal Service's financial condition;
     o the impact of the Service's decision on whether or not to submit a
       rate filing later this year under the old rate structure;
     o actions by the PRC to establish a new price-setting and regulatory
       framework;
     o the Service's ability to operate under an inflationary price cap while
       some of its cost segments are increasing above the rate of inflation;
     o actions by the Service, in consultation with the PRC, to establish
       modern service standards, and the Postal Service's plan for meeting
       those standards;
     o the Service's ability to provide high-quality delivery service as it
       takes actions to reduce costs and realign its infrastructure and
       workforce; and
     o the PRC's development of appropriate accounting and reporting
       requirements aimed at enhancing transparency and accountability of the
       Service's internal data and performance results.

The successful transformation of the Postal Service will require
innovative leadership by the Postmaster General and the Chairman of the
PRC, and their ability to work effectively with their employees, the
mailing industry, and the general public. We are encouraged by the
Service's ongoing efforts to facilitate workgroups with participants from
the mailing industry that will make recommendations regarding new service
standards and measures. It will be important for all postal stakeholders
to take full advantage of the unique opportunities that are currently
available by providing input and working together, particularly as
challenges and uncertainties will continue to threaten the Service's
financial condition and outlook.

  Recent Actions Warranted the Postal Service's Removal from Our High-Risk List

Several actions--both by the Service and the Congress--led us to remove
the Service's transformation efforts and long-term outlook from our
highrisk list. In 2001, we made this designation because the Service's
financial outlook had deteriorated significantly. The Service had a
projected deficit of $2 billion to $3 billion, severe cash flow pressures,
debt approaching the statutory borrowing limit, cost growth outpacing
revenue increases, and limited productivity gains. Other challenges the
Service faced included liabilities that exceeded assets by $3 billion at
the end of fiscal year 2002 major liabilities and obligations estimated at
close to $100 billion, a restructuring of the workforce due to impending
retirements and operational changes, and long-standing labor-management
relations problems. We raised concerns that the Service had no
comprehensive plan to address its financial, operational, or human capital
challenges, including its plans for reducing debt, and it did not have
adequate financial reporting and transparency that would allow the public
to understand changes in its financial situation. Thus, we recommended
that the Service develop a comprehensive plan, in conjunction with other
stakeholders, which would identify the actions needed to address its
challenges and provide publicly available quarterly financial reports with
sufficient information to understand the Service's current and projected
financial condition. As the Service's financial difficulties continued in
2002, we concluded that the need for a comprehensive transformation of the
Service was more urgent than ever and called for Congress to act on
comprehensive postal reform legislation. The Service's basic business
model, which assumed that rising mail volume would cover rising costs and
mitigate rate increases, was outmoded as First-Class Mail volumes
stagnated or deteriorated in an increasingly competitive environment.

Since 2001,  the Service's  financial condition  has improved  and it  has
reported positive net incomes for each of the last 4 years (see fig. 1).

Figure 1: Recent Postal Service Net Incomes

Dollars in billions

    -2 2001 2002 2003 2004 2005 2006

Fiscal year

Source: Postal Service Annual Reports.

The Service has made significant progress in addressing some of the
challenges that led to its high-risk designation. For example, the
Service's management developed a Transformation Plan and has demonstrated
a commitment to implementing this plan. Since our designation in 2001, the
Service has:

        o Reduced workhours and improved productivity: The Service has
          reported productivity gains in each year. According to the Service,
          its productivity increased by a cumulative 8.3 percent over that
          period, which generated $5.4 billion in cost savings. The Service
          reported eliminating over 170
        o million workhours over this period, with a 4.5 million workhour
          reduction in fiscal year 2006.

     o Downsized its workforce: The Service has made progress in addressing
       some of the human capital challenges associated with its vast
       workforce, by managing retirements, downsizing, and expanding the use
       of automation. At the end of fiscal year 2006, the Service reported
       that it had 696,138 career employees, the lowest count since fiscal
       year 1993. Attrition and automation have allowed the Service to
       downsize its workforce by more than 95,000, or about 10 percent, since
       fiscal year 2001.
     o Enhanced the reporting of its financial condition and outlook: The
       Service responded to recommendations we made regarding the lack of
       sufficient and timely periodic information on its financial condition
       and outlook that is publicly available between publications of its
       audited year-end financial statements by enhancing its financial
       reporting and providing regular updates to the financial statements on
       its Web site. ^[300]7 The Service instituted quarterly financial
       reports, expanded the discussion of financial matters in its annual
       report, and upgraded its Web site to include these and other reports
       in readily accessible file formats.

The 2003 pension act provided another key reason for why we removed the
high-risk designation. ^[301]8 Much of the Service's recent financial
improvement was due to the change from this law that reduced the Service's
annual pension expenses. Between fiscal years 2003 and 2005, the Service
had a total of $9 billion in decreased pension expenses when compared to
the annual expenses that would have been paid without the statutory
change. This change enabled the Service to significantly cut its costs,
achieve record net incomes, repay over $11 billion of outstanding debt,
and delay rate increases until January 2006.

The Service's improved financial performance and condition during this
time was also aided by increased revenue generated from growing
volumes of Standard Mail (primarily advertising) and rate increases in
June 2002 and January 2006. Standard Mail volumes grew by almost 14
percent from fiscal year 2001 to 2006, and Standard Mail revenues, when
adjusted for inflation, increased by over 11 percent during the same time
period. In June 2002, the Service implemented a rate increase (the price
of a First-Class stamp increased from 34 cents to 37 cents) to offset
rising costs. In January 2006, the Service implemented another rate
increase (the price of a First-Class stamp increased from 37 cents to 39
cents) to generate the additional revenue needed to set aside $3.0 billion
in an escrow account in fiscal year 2006 as required by the 2003 pension
law. Revenues in fiscal year 2006 increased by about 4 percent from the
previous year due largely to the January 2006 rate increase.

^7 [302]GAO-01-598T; GAO, U.S. Postal Service: Deteriorating Financial
Outlook Increases Need for Transformation [303], GAO-02-355 ( Washington,
D.C.: Feb. 28, 2002); U.S. Postal Service: Accounting for Postretirement
Benefits, [304]GAO-02-916R (Washington, D.C.: Sept. 12, 2002);
U.S. Postal Service Actions to Improve Its Financial Reporting,
[305]GAO-03-26R (Washington, D.C.: Nov. 13, 2002).

8The Postal Service Civil Service Retirement System Funding Reform Act of
2003 (Pub. L. No. 108-18) was enacted in response to the Office of
Personnel Management's analysis, performed at our request, which concluded
that the Service was on course to overfund its pension payments.

The passage of the recent postal reform legislation was another reason why
we removed this high-risk designation. Although noticeable improvements
were being made to the Service's financial, operational, and human capital
challenges, we had continued to advocate the need for comprehensive postal
reform legislation. ^[306]9 After years of thorough discussion, Congress
passed a comprehensive postal reform law in late December 2006 that
provides tools and mechanisms that can be used to establish an efficient,
flexible, fair, transparent, and financially sound Postal Service. Later
in this statement, I will discuss how some specific tools and mechanisms
can be used to address the continuing challenges facing the Service.

  The Postal Service's Current Financial Condition

The Service's financial condition for fiscal year 2007 has been affected
by the reform act, which, along with the May change in postal rates, will
continue to affect its near- and long-term financial outlook. The Service
will benefit financially from an increase in postal rates in May averaging
7.6 percent. Key steps in the rate process are provided in appendix I. The
Service is estimating that it will gain an additional $2.2 billion in net
income in fiscal year 2007 as a result of the new rates. The recent rate
case, in addition to generating additional revenues, took significant
strides
in aligning postal rates with the respective mail handling costs. Some
rate increases are particularly large--i.e., some catalog rates may
increase by 20 to 40 percent. The new rates structure is aimed at
providing the necessary incentives to encourage efficient mailing
practices (e.g., shape, weight, handling, preparation, and transportation)
and thereby encourage smaller rate increases and steady mail volumes in
the longer run.

^9GAO, U.S. Postal Service: Bold Action Needed to Continue Progress on
Postal Transformation [307], GAO-04-108T (Washington, D.C.: Nov. 5, 2003);
Need for Comprehensive Postal Reform, [308]GAO-04-455R (Washington, D.C.:
Feb. 6, 2004); U.S. Postal Service: Key Elements of Comprehensive Postal
Reform, [309]GAO-04-397T (Washington, D.C.: Jan. 28, 2004); [310]U.S.
Postal Service: Key Reasons for Postal Reform, GAO-04-565T (Washington,
D.C.: Mar. 23, 2004); U.S. Postal Service: Despite Recent Progress, Postal
Reform Legislation Is Still Needed [311], GAO-05-453T (Washington, D.C.:
Apr. 14, 2005).

At the beginning of fiscal year 2007 (before the enactment of the reform
law), the Service expected to earn $1.7 billion in net income, which
reflected the additional revenue the Service estimated it would receive
from the May increase in postal rates. The Service, however, planned to
increase its outstanding debt of $2.1 billion at the end of fiscal year
2006 by an additional $1.2 billion in fiscal year 2007 in order to help
fund the expected $3.3 billion escrow requirement for 2007.

Since enactment of the reform law, the Service has updated its expense
projections. While the Service's total expenses for fiscal year 2007 have
been affected by passage of the act, those expenses not directly related
to the act and total revenues have tracked closely to plan. The Service
currently is estimating an overall fiscal year 2007 net loss of $5.2
billion, largely due to changes in either projected or actual Postal
Service payments as a result from the act including:

     o Accelerating funding of the Service's retiree health benefit
       obligations: Beginning this fiscal year, the Postal Service must make
       the first of 10 annual payments into a newly created Postal Service
       Retiree Health Benefits Fund (PSRHBF) to help fund the Service's
       significant unfunded retiree health obligations. The 2007 payment of
       $5.4 billion is due to be paid by September 30. The Service has
       accrued half of this expense-- $2.7 billion--during the first 6 months
       of the fiscal year and will accrue $1.35 billion in each of the
       remaining 2 quarters.
     o One-time expensing of funds previously set aside in escrow and
       eliminating future escrow payments: The act requires the Service to
       transfer the $3.0 billion it escrowed in fiscal year 2006 to the
       PSRHBF, which the Service recognized as a one-time expense in the
       first quarter of fiscal year 2007. ^[312]10 The reform act also
       eliminated future escrow payments required under the 2003 pension law,
       including the $3.3 billion payment scheduled for fiscal year 2007.

^10The Postal Civil Service Retirement System Funding Reform Act of 2003
required the Postal Service to escrow the reduction in its civil service
pension expenses that resulted from changes to how the Service funded
these pensions.

     o Transferring funding for selected military service benefits back to
       the Treasury: The act significantly reduced the Service's civil
       service pension obligations by transferring responsibility for funding
       civilian pension benefits attributable to the military service of the
       Service's retirees back to the Treasury Department, where it had been
       prior to enactment of the 2003 pension law. The reform act requires
       that any overfunding attributable to the military benefits as of
       September 30, 2006, be transferred to the PSRHBF by June 30, 2007.
       ^[313]11
     o Eliminating certain annual Civil Service Retirement System (CSRS)
       pension funding requirements: The act eliminated the requirement that
       the Service fund the annual normal cost of its civil service employees
       and the amortization of the unfunded pension obligation that existed
       prior to transferring the military service obligations to the Treasury
       Department. ^[314]12 The Service estimates that it will save $1.5
       billion in fiscal year 2007 from eliminating the annual pension
       funding requirements and amortization payments.

The result of these payments is a net increase in retirement-related
expenses of $3.9 billion, ^[315]13 which is $600 million higher than the
expected $3.3 billion escrow payment for 2007 that was eliminated. Thus,
the Service is planning to borrow $600 million more than initially
budgeted to cover this shortfall. This increase is anticipated to result
in the Service's borrowing $1.8 billion in fiscal year 2007, which would
bring its total outstanding debt to $3.9 billion by the end of the fiscal
year.

The Service has identified other factors and uncertainties that, depending
on how results vary from budgeted estimates, could have a favorable or
unfavorable impact on the Service's projected net loss for fiscal year
2007. For example, volumes and revenues may be affected by a continued
slowdown in the U.S. economy or unanticipated consequences of the recent
rate decision. The Service has anticipated economic growth to pick up in
the third and fourth quarters of this year, but a slowdown may depress
volume growth below projected levels for the rest of the year.

11The Office of Personnel Management has preliminarily estimated the
overfunding to be more than $16 billion.

12The reform act delays resumption of payments from the Postal Service to
liquidate any pension underfunding until September 30, 2018.

13The $3.9 billion net increase in retirement-related expenses is comprised
of the $5.4 billion retiree health payment due to the PSRHBF by September
30, 2007, and the $1.5 billion reduction in the Service's pension expenses
through fiscal year end.

Furthermore, the unusual nature of the rate case creates uncertainties for
the Service that may affect its financial results. These uncertainties
include how the Service and its customers will respond to the:

     o limited implementation times--the 2-month implementation period (the
       Postal Service Board of Governors decision on March 19, 2007, stated
       that most new rates would become effective on May 14, 2007) leaves
       little time for the Service to educate the public and business mailers
       on the new rate changes and to allow mailers sufficient time to adjust
       their mailing practices and operations accordingly;
     o delayed implementation times--how mailers and the Service will be
       affected by the delay in implementing new Periodical rates until
       mid-July;
     o magnitude of certain restructured rates, particularly for those
       specific types of mail that will experience rather significant
       increases, and the related impact on volumes and revenues; and
     o unfamiliarity with restructured rates--the prices for many popular
       products, such as certain types of First-Class Mail, will experience
       significant shifts based on the shape of the mail. For example, figure
       2 shows how the cost of First-Class Mail will differ based on its
       shape.

Figure 2: Cost of First-Class Mail Will Differ Based on Shape of Mail under New
                                  Rate System

Source: GAO.

Moreover, the Service's expense projections may be susceptible to rising
fuel prices due to the Service's vulnerability in this area or that the
outstanding contract negotiations for two of its major labor unions would
vary from projected levels. Although the extent to which these factors and
uncertainties will affect the Service's financial condition for fiscal
year 2007 is not known, they may affect its subsequent financial outlook.
For example, if the Service finds that its financial performance and
condition is weakening--either through revenue shortfalls or expense
increases--it may decide to file another rate increase later this year.

  Postal Reform Law Provides Opportunities to Address Challenges

The new postal reform law provides new opportunities to address challenges
facing the Service as it continues its transformation in a more
competitive environment with a variety of electronic alternatives for
communications and payments. Specifically, it provides tools and
mechanisms to address the challenges of generating sufficient revenues,
controlling costs, maintaining service, providing reliable performance
information, and managing its workforce. Effectively using these tools
will
be  key  to  successfully  implementing  the  act  and  addressing   these
challenges.

Generating Sufficient Revenue as First-Class Mail Volume Is Declining and
Mail Mix Is Changing

The Service continues to face challenges in generating sufficient revenues
as First-Class Mail volume continues to decline and the mail mix changes.
First-Class Mail, historically the class of mail with the largest volumes
and revenues, saw volume shrink by almost 6 percent from fiscal year 2001
to 2006. The trends for First-Class Mail and Standard Mail, which
currently combine for about 95 percent of mail volumes and 80 percent of
revenues, experienced a historical shift in fiscal year 2005. For the
first time, Standard Mail volumes exceeded those for First-Class Mail (see
fig. 3).

Figure3: Standard Mail Volumes Are Outpacing Those for First-Class Mail

Mail pieces in billions110

100

90

80

70

                                       60

                                       50

0    
1990 1991 1992 1993 1994 1995 1996 1997 1998 1999 2000 2001 2002 2003 2004 2005 2006 
 Fiscal                                                                              
  year                                                                               
                         Standard Mail                                               
                         First-Class Mail                                            
                         Source: Postal Service Annual Reports.                      
                         Note: First-Class Mail volume does not                      
                         include Priority Mail.                                      
                         This shift has major revenue implications                   
                         because:                                                    

     o First-Class Mail generates the most revenue and is used to finance
       most of the Service's institutional (overhead) costs (see fig. 4).
     o Standard Mail generates less revenue per piece compared to First-Class
       Mail and it takes about two pieces of Standard Mail to make the same
       contribution to the Service's overhead costs as one piece of
       First-Class Mail.
     o Standard Mail is a more price-sensitive product compared to
       First-Class Mail because it competes with other advertising media.
       Also, because advertising, including Standard Mail, tends to be
       affected by economic cycles to a greater extent than First-Class Mail,
       a larger portion of the Service's mail volumes is more susceptible to
       economic fluctuations.

Figure 4: Mail Volume, Revenues, and Contribution to Cover Overhead Costs,
Fiscal Year 2006

Mail volume Revenues Contribution to cover overhead cost

a

a

Other mail^a

                            Other mail and services

Other mail and services

First-Class Mail

                                 Standard Mail

Standard Mail

Standard Mail

First-Class Mail

First-Class Mail

Source: Postal Service.

aOther mail includes mail such as magazines, newspapers, and parcels. Other
services include postal services such as post office boxes, money orders,
and delivery confirmation.

The act provides tools and mechanisms that can help address these revenue
challenges by promoting revenue generation and retention of revenues. The
act established flexible pricing mechanisms for the Service's competitive
and market-dominant products. ^[316]14 For example, it allows the Service
to raise rates for its market-dominant products, such as First-Class Mail
letters, Standard Mail, and Periodicals, up to a defined price cap; exceed
the price cap should extraordinary or exceptional circumstances arise; and
use any unused rate authority within 5 years. For its competitive
products, such as Priority Mail or Expedited Mail, the Service may raise
rates as it sees fit, as long as each competitive products covers its
costs and competitive products as a whole cover their attributable costs
and make a contribution to overhead.

The act also allows for the Service to retain any earnings, which may
promote increased financial stability. First, to the extent the Service
can generate net income to retain earnings, this could enhance its ability
to weather economic downturns. For example, a slow economic cycle or
sudden increase in fuel prices might not necessitate an immediate rate
increase if sufficient retained earnings exist to cover related
shortfalls. Furthermore, to the extent the Service can retain earnings as
liquid assets, it may reduce the Service's reliance on borrowing to offset
cash shortfalls. The Service has stated that it will take out debt to
cover cash shortfalls in fiscal year 2007 and projects that this increase
will result in $3.9 billion of outstanding debt at the end of the year
(see fig. 5). Controlling debt will be important because the Service needs
to operate within its statutorily set borrowing limits ($3 billion in new
debt each year, and $15 billion in total debt outstanding). Reducing debt
was one of the key factors we cited in removing the Service's high-risk
designation.

^14Sections  201  and  202  lists  which  products  are  market-dominant  and
competitive.

Figure 5: The Service Projects Nearly $4 Billion in Outstanding Debt at
the End of Fiscal Year 2007

Dollars in billions

12

11.3 [11.1

]10

9.3

8

7.3

6

3.9

4

2.1

1.8

2

                                      0.0

0 2000 2001 2002 2003 2004 2005 2006 2007 [Fiscal year] (projected)

Source: GAO analysis of Postal Service data.

Uncertainties related to the recent rate decision and reform law may
impact the extent to which the Service is able to address its revenue
related challenges. The uncertainties include:

     o How will mailers and volume respond to the new rate decision's pricing
       signals?
     o What types of innovative pricing methods will be allowed?
     o How will the Service set rates under the new price cap system, and how
       will mailers respond to this additional flexibility? How will the
       Service and mailers be able to modify their information systems to
       accommodate more frequent rate increases?

          o How will customer behavior change as prices change under the new
            system? To what extent will customers desire for mail be affected
            by privacy concerns, environmental concerns, preference for
            electronic
          o alternatives, or efforts to establish Do Not Mail lists? ^[317]15

     o How will the Service be able to enhance the value of its
       market-dominant and competitive products (e.g., predictable and
       consistent service, tracking and tracing capabilities, etc.)?
     o What will the Service do with any retained earnings (e.g., improve its
       capital program, save to weather downturns in the economy)?

                  Controlling Costs and Improving Productivity

The Service faces multiple cost pressures in the near- and long-term
associated with the required multi-billion dollar payments into the
PSRHBF, dealing with key cost categories experiencing above-inflation
growth while operating under an inflationary-based price cap, and other
costs associated with providing universal postal services to a growing
network--one now expanding by about 2 million new addresses each year.
While the reform act takes actions that increase current costs by
improving the balance of retiree health benefit cost burdens between
current and future ratepayers, it also eliminates other payments and
provides opportunities to offset some of these costs pressures through
efficiency gains that could restrain future rate increases. It will be
crucial for the Service, however, to take advantage of this opportunity
and achieve sustainable, realizable cost reductions and productivity
improvements throughout its networks.

Personnel expenses (which include wages, employee and retiree benefits,
and workers' compensation) have consistently accounted for nearly 80
percent of annual operating expenses, even though the Service has
downsized its workforce by over 95,000 employees since fiscal year 2001.
The Service's personnel expenses have grown at rates exceeding inflation
since fiscal year 2003 and are expected to continue dominating the
Service's financial condition. In particular, growth in retiree health
benefit costs have, on average over the last 5 years, exceeded inflation
by almost 13 percent each year. This growth is expected to continue due to
(1) rising premiums, growth in the number of covered retirees and
survivors, and increases in the Service's share of the premiums; and (2)
the Service will continue paying the employer's share of the health
insurance premiums of its retirees along with the required payments
ranging from $5.4 billion to
$5.8 billion into the PSRHBF in each of the following 9 years. While we
recognize the cost pressures that will be placed on the Service as it
begins prefunding its retiree health benefits obligations, we continue to
believe that such action is appropriate to improve the fairness and
balance of cost burdens for current and future ratepayers. Furthermore,
beginning in fiscal year 2017, the Service might enjoy a significant
reduction in its retiree health costs if its obligations are fully funded.

15As part  of the  reform act,  GAO is  required to  issue a  report on  the
activities  of  the  Postal  Service   to  promote  recycling  and   other
opportunities for improvement in this area.

In addition to these personnel expenses, the Service has also experienced
growth in its transportation costs that exceeded the rate of inflation in
fiscal years 2005 and 2006. Transportation costs represent the second
largest cost category behind compensation and benefits. These costs grew
by about 11 percent from fiscal year 2005 to 2006, largely due to rising
fuel costs. In a February 2007 report, we stated that the Service is
vulnerable to fuel price fluctuations and will be challenged to control
fuel costs due to its expanding delivery network and inability to use
surcharges. ^[318]16

The Service has made some progress in containing cost growth, and pledged
to cut another $5 billion of costs out of its system between fiscal years
2006 and 2010 through productivity increases and operational improvements.
The Service has reported productivity increases for the last 7 years, but
the reported increase in fiscal year 2006 was its smallest during this
period. The Service has recently had trouble absorbing gains in mail
volumes while achieving targeted workhour reductions. Although the Service
has reduced its workhours in 6 of the last 7 years, in fiscal year 2006,
its goal was to reduce workhours by 42 million, but the Service reported a
decrease of only 5 million workhours.

While both the recent rate decision and reform act seek to improve
efficiencies in the postal networks, these developments will pose
challenges to the Service. In terms of the rate case, the Service will be
challenged to modify its mail processing and transportation networks to
respond to changes in mailer behaviors (e.g., in the quantity and types of
mail sent and how mail is prepared) to minimize their rates. Furthermore,
the reform act provides an opportunity to address the Service's cost
challenges because it requires the Service to develop a plan that, among
other things, includes a strategy for how the Service intends to
rationalize
the postal facilities network and remove excess processing capacity and
space from the network, as well as identifying the costs savings and other
benefits associated with network rationalization alternatives discussed in
the plan. This plan provides an opportunity to address some concerns we
have raised in previous work, in which we stated that it was not clear how
the Service intended to realign its processing and distribution network
and workforce, and that its strategy lacked sufficient transparency and
accountability, excluded stakeholder input, and lacked performance
measures for results. ^[320]17 We are currently conducting ongoing work on
the Service's progress in this area over the past 2 years and will be
issuing a report this summer with updated findings.

16GAO,  U.S.  Postal  Service:  Vulnerability  to  Fluctuating  Fuel  Prices
Requires Improved  Tracking  and Monitoring  of  Consumption  Information,
[319]GAO-07-244 (Washington, D.C.: Feb. 16, 2007).

Taking advantage of the opportunities available will have a direct impact
on the Service's ability to operate under an inflationary-based rate cap,
achieve positive results, and limit the growth in its debt. If the Service
is unable to achieve significant cost savings, it may have to take other
actions such as borrow an increasing amount each year to make year-end
property and equipment purchases and fund its retiree health obligations.
The following uncertainties may have a significant impact on the Service's
ability to achieve real cost savings and productivity in the future:

     o How will operating under a rate cap provide an incentive to control
       costs?
     o How will the Service operate under a rate cap, if certain key costs
       continue to increase at levels above inflation (e.g., health benefit
       costs)?
     o How will the new rate designs/structure lead to efficiency
       improvements throughout the mail stream?
     o Will the Service's implementation of its network realignment result in
       greater cost savings and improved efficiency?
     o Will the Service achieve its expected return on investment and
       operational performance when it deploys the next phase of automated
       flat sorting equipment?

17GAO, U.S. Postal Service: The Service's Strategy for Realigning Its Mail
Processing Infrastructure Lacks Clarity, Criteria, and Accountability
[321], GAO-05-261 (Washington, D.C.: Apr. 8, 2004).

     o How will the Service's financial situation be impacted when the
       10-year scheduled payments into the PSRHBF are completed?
     o Will the balance of the PSRHBF--which is a function of the PSRHBF's
       investment returns and the growth in the Service's retiree health
       obligations--be sufficient to cover the Service's retiree health
       obligation by the end of fiscal year 2016?

Maintaining, Measuring, and Reporting Service

The Service will be challenged to continue carrying out its mission of
providing high-quality delivery and retail
services to the American people. Maintaining these services while
establishing reliable mechanisms for measuring and reporting performance
will be critical to the Service's ability to effectively function in a
competitive market and meet the needs of various postal stakeholders,
including:

     o The Service--so that it can effectively manage its nationwide service
       and respond to changes and/or problems in its network.
     o The Service's customers (who may choose other alternatives to the
       mail)--so that they are aware of the Service's expected performance,
       can tailor their operations to those expectations, and understand the
       Service's actual performance against those targets.
     o Oversight bodies--so that they are aware of the Service's ability to
       carry out its mission while effectively balancing costs, service
       needs, and the rate cap; can hold the Service accountable for its
       performance; and understand service performance (whether reported
       problems are widespread or service is getting better or worse).

The Service's delivery performance standards and results have been a
long-standing concern for mailers and Congress. ^[322]18 We found
inadequate information is collected and available to both the Service and
others to understand and address delivery service issues. Specifically,
the Service does not measure and report its delivery performance for most
types of mail (representative measures of delivery performance cover less
than one-fifth of mail volume and do not include key types of mail such as
Standard Mail, bulk First-Class Mail, Periodicals, and most Package
Services), certain performance standards are outdated; and that progress
has been hindered by a lack of management commitment and collaboration by
the Service and mailers. Based on these findings, we recommended the
Service take actions to modernize its delivery service standards, develop
a complete set of delivery service measures, more effectively collaborate
with mailers, and improve transparency by publicly disclosing delivery
performance information.

18GAO, U.S. Postal Service: Delivery Performance Standards, Measurement, and
Reporting Need Improvemen [323]t, GAO-06-733 ( Washington, D.C.: July  27,
2006).

The Service has recently reported positive delivery results for the
limited segment of mail for which the Service does track performance. It
has reported on-time delivery performance improved in the first quarter of
fiscal year 2007 for some single-piece First-Class Mail. ^[324]19 However,
issues such as late deliveries have been reported in places such as
Chicago, Los Angeles, and El Paso; and for different types of mail such as
Standard Mail and Periodicals. Figure 6 shows that delivery performance in
Chicago for this type of mail was worse than the national average at the
end of the first quarter for this fiscal year.

^19The External First-Class Measurement System (EXFC) measures delivery
performance for single-piece First-Class Mail deposited in collection
boxes in selected areas of the country. EXFC is not a systemwide
measurement of all First-Class Mail performance.

  Figure 6: Delivery Performance in Chicago Was Below the National Average for
Some Single-Piece First-Class Mail at the end of First Quarter, Fiscal Year 2007

Percentage of on-time delivery

100

95

1 day 2 days3 days

Delivery standard

                                 Chicago Nation

Source: GAO analysis of Postal Service delivery information.

The reform act provides an opportunity for the Service to address this
challenge by establishing requirements for maintaining, measuring, and
reporting on service performance. Specifically, the act identified four
key objectives for modern service standards:

     o enhance the value of postal services to both senders and recipients;
     o preserve regular and effective access to postal services in all
       communities, including those in rural areas or where post offices are
       not self-sustaining;
     o reasonably assure Postal Service customers delivery reliability,
       speed, and frequency consistent with reasonable rates and best
       business practices; and
     o provide a system of objective external performance measurements for
       each market-dominant product as a basis for measurement of Postal
       Service performance.

The act also required the Service to implement modern delivery performance
standards, set goals for meeting these standards, and annually report on
its delivery speed and reliability for each marketdominant product. Key
steps specified in the act include that within 12 months of enactment (by
December 2007) the Service must issue modern service standards, and within
6 months of issuing service standards the Service must, in consultation
with the PRC, develop and submit to Congress a plan for meeting those
standards. Furthermore, within 90 days after the end of each fiscal year
the Service must report to PRC on the quality of service for each
market-dominant product in terms of speed of delivery and reliability, as
well as the degree of customer satisfaction with the service provided.
^[325]20

These requirements provide opportunities to resolve long-standing
deficiencies in this area. As the Service transitions to the new law, the
following uncertainties may impact its ability to address challenges in
maintaining, measuring, and reporting service performance in the future:

     o How will the Service implement representative measures of delivery
       speed and reliability within the timeframes of the reform act, while
       taking cost and technological limitations into account?
     o How much transparency will be provided to the PRC, Congress, mailers,
       and the American people, including the frequency, detail, and methods
       of reporting?

Financial Performance Reporting

Another challenge facing the Service is to provide reliable data to
management, regulators, and oversight entities to assess financial
performance. Accurate and timely data on Service costs, revenues, and mail
volumes helps provide appropriate transparency and accountability for all
postal stakeholders to have a comprehensive understanding of the Service's
financial condition and outlook and how postal rates are aligned with
costs. Earlier I discussed the past issues we have raised related to the
Service's financial reporting and the improvements that the Service has
recently made. We have also reported on the long-standing issues of
ratemaking data quality that continue to persist. ^[326]21

20The act further stipulates that the PRC must provide an opportunity for
public comment on the report and must, within 90 days of receiving the
annual service data from the Postal Service, make a written determination
of compliance as to whether any service standards were not met. If PRC
finds noncompliance, it is required to order the Service to take such
action as PRC considers appropriate to achieve compliance. PRC also can
fine the Service in cases of deliberate noncompliance.

The act establishes new reporting and accounting requirements that should
help to address this challenge. The major change is the establishment of,
and authority provided, to the new PRC to help enhance the collection and
reporting of information on postal rates and financial performance (see
table 2).

 Table 2: Selected PRC Responsibilities for Financial Transparency, Oversight,
                               and Accountability

                          Subject PRC Responsibilities

                     Oversight of market-dominant products

     o Prescribes by regulation the form and content of annual Service
       reports that analyze costs, revenues, and rates, using methods that
       PRC must prescribe, and in sufficient detail to demonstrate compliance
       with applicable requirements. Specify which reported information shall
       be made public. Initiate proceedings as necessary to improve the
       quality, completeness, or accuracy of this information.
     o Annually determine whether rates are in compliance, after providing an
       opportunity for public comments on the Service's annual reports.
     o If rates are not in compliance, order the Service to take appropriate
       action to come into compliance and remedy the effects of
       noncompliance, such as ordering rates to be adjusted to lawful levels.
     o Consider any complaints that rates are not in compliance, which
       stakeholders may file at any time during the year.

                       Oversight of competitive products

     o Establish regulations that ensure that each competitive product covers
       its attributable costs, prohibits the cross-subsidization of
       competitive products by market-dominant products, and ensures that
       competitive products collectively cover what PRC determines to be an
       appropriate share of the Service's institutional costs (overhead
       costs).
     o Consider any complaints that stakeholders may file at any time during
       the year. If noncompliance is found, PRC must order the Service to
       take appropriate action to come into compliance and remedy the effects
       of any noncompliance, such as requiring the Service to make up for
       revenue shortfalls in competitive products.

21GAO, U.S. Postal Service: Improving Ratemaking Data Quality through Postal
Service  Actions   and  Postal   Reform  Legislation   [327],   GAO-05-820
(Washington, D.C.: July 28, 2005).

Subject PRC Responsibilities

Financial reporting

     o Receive annual, quarterly, and other periodic reports from the Service
       that contain information required by the Securities and Exchange
       Commission (SEC) for registrants^a The annual report must also include
       information on the Service's pension and postretirement health
       obligations. Receive reports on the Service's compliance with rules
       prescribed by the SEC for registrants in implementing section 404 of
       the Sarbanes-Oxley Act of 2002. Initiate proceedings as necessary to
       improve the quality, completeness, or accuracy of this information.
     o Establish the accounting principles and practices that the Service
       must follow.
     o In establishing the Service's accounting principles and practices,
       consider recommendations of the Department of the Treasury, including
       how to value assets and liabilities associated with providing
       competitive products, among other factors.

Source: Pub.L. No. 109-435.

aThe Postal Service is deemed the "registrant" by the reform act, however
the Service is not a registrant for the purposes of submitting reports to
the SEC.

Service officials have acknowledged the importance of financial reporting,
but stated that there are cost implications associated with these
improvements. The Service has recognized that it will incur costs in
complying with the Securities and Exchange Commission's (SEC) internal
control reporting rules and by changes needed to provide separate
information for competitive and market-dominant products. We have reported
that significant costs have been associated with complying with the SEC's
implementing regulations for section 404 of the Sarbanes-Oxley Act, but
have also reported that costs are expected to decline in subsequent years
given the first-year investment in documenting internal controls. ^[328]22

As the Service transitions to these new reporting and accounting
requirements, its ability to address future challenges in this area will
be impacted by uncertainties including:

     o How will the PRC use its discretion to define and implement the new
       statutory structure?
     o What criteria will PRC use for evaluating the quality, completeness,
       and accuracy of ratemaking data, including the underlying accounting
       data and additional data used to attribute costs and revenues to
	   specific types of mail?
	   
22GAO, Internal Control: Analysis of Joint Study on Estimating the Costs and
Benefits of Rendering Opinions on Internal Control over Financial
Reporting in the Federal Environment [329], GAO-06-255R (Washington, D.C.:
Sept. 6, 2006); Sarbanes-Oxley Act: Consideration of Key Principles Needed
in Addressing Implementation for Smaller Public Companies [330],
GAO-06-361 (Washington, D.C.: Apr. 13, 2006).

     o How will PRC balance the need for high-quality ratemaking data with
       the time and expense involved in obtaining the data?
     o How will PRC structure any proceedings to improve the quality of
       ratemaking data and enable the Service and others to participate in
       such proceedings? What proceedings might PRC initiate to address data
       quality deficiencies and issues that PRC has raised in its recent
       decision on the rate case?
     o How will the Service be impacted by the costs associated with
       complying with the SEC rules for implementing section 404 of the
       Sarbanes-Oxley Act, as well as for the requirement of separate
       information for competitive and market-dominant products?

                             Managing Its Workforce

The Service will be challenged to manage its workforce as it transitions
to operating in a new postal environment. The Service is one of the
nation's largest employers, with almost 800,000 full and part-time
workers. Personnel-related costs, which include compensation and benefits,
are the Service's major cost category and are expected to increase due to
the reform legislation requirements to begin prefunding retirement health
benefit costs. We have reported on the human capital challenges facing the
Service, but have found the Service has made progress in addressing some
of these challenges by managing retirements, downsizing, and expanding the
use of automation. ^[331]23

Provisions in the reform act related to workforce management can build on
these successes. As part of the Postal Service Plan mandated by the act,
the Service must describe its long-term vision for realigning its
workforce and how it intends to implement that vision. This plan is to
include a discussion of what impact any facility changes may have on the
postal workforce and whether the Postal Service has sufficient flexibility
to make needed workforce changes.

The Service, however, faces human capital challenges that will continue to
impact its financial condition and outlook:

^23 [332]GAO-04-108T and [333]GAO-05-453T.

     o Outstanding labor agreements: Labor agreements with the Service's four
       major unions expired late in calendar year 2006. In January 2007, the
       Service reached agreements with two of these unions, including
       semiannual cost-of-living adjustments (COLA) and scheduled salary
       increases. Labor agreements, however, remain outstanding for the other
       two unions that cover over 42 percent of its career employees.
     o Workforce realignment: As the Service continues to make significant
       changes to its operations (i.e., rationalize its facilities, increase
       automation, improve retail access, and streamline its transportation
       network), it will be challenged to realign its workforce based on
       these changes. This challenge may become more significant as mailers
       alter their behavior in response to the new rate structure. These
       actions will require a different mix in the number, skills, and
       deployment of its employees, and may involve repositioning,
       retraining, outsourcing, and/or reducing the workforce.

          o Retirements: The Service expects a significant portion of its
            career workforce--over 113,000 employees--to retire within the
            next 5 years. In particular, it expects nearly half of its
            executives to retire during this time. The Service's decisions
            regarding these retirements (that is, whether or not to fill
            these positions, and if so, when, with whom, and where) may have
            significant financial and operational effects.
          p The following uncertainties will affect the Service's ability to
            address workforce-related challenges in the future:

     o How will the Service be able to respond to operational changes? How
       will the Service balance the varying needs of diverse customers when
       realigning its delivery and processing networks?
     o How will employees and employee organizations be affected and informed
       of network changes and how will the Service monitor the workplace
       environment?
     o How will the resolutions to the outstanding labor agreements affect
       the Service's financial condition?
     o How will the Service take advantage of flexibilities, including
       allowing more casual workers to deal with peak operating periods?

  Key Issues and Areas for Continued Oversight

o

o

o

o

o

o

o

Key Issues and Areas for Continued Oversight

The Postal Service, the PRC, and mailers face a challenging environment
with significant changes to make in the coming months related to
implementing the recent rate decision and the new postal reform law. We
have identified several major issues considered significant by various
postal stakeholders, as well as areas related to implementation of the law
that will warrant continued oversight. Specifically, focusing attention on
these issues during this important transition period will help to ensure
that the new statutory and regulatory requirements are carried out
according to the intent of the reform act and that the Service's future
financial condition is sound. These key issues and areas for continued
oversight include:

the effect of the upcoming rate increases and statutory changes on the
Postal Service's financial condition;

the decision by the Service whether or not to submit a rate filing under
the old rate structure;

actions by the PRC to establish a new price-setting and regulatory
framework;

the Service's ability to operate under an inflationary price cap while
some of its cost segments are increasing above the rate of inflation;

actions by the Service, in consultation with the PRC, to establish modern
service standards and performance measures, and the Postal Service's plan
for meeting those standards;

the Service's ability to maintain high-quality delivery service as it
takes actions to reduce costs and realign its infrastructure and
workforce; and

the PRC's development of appropriate accounting and reporting requirements
aimed at enhancing transparency and accountability of the Service's
internal data and performance results.

One of the most important decisions for monitoring in the short term is
whether or not the Service decides to file another rate increase before
the new rate structure takes effect. The trade-offs involved in the
Service's decision on whether to file under the new or old systems include
weighing the respective costs, benefits, and possible unintended
consequences of the Service's need for new rates along with the time and
resources required by the Service, the PRC, and the mailing industry to
proceed under either the new or old systems. For example, the Service may
benefit from filing under the old system because it would allow the
Service to further align costs with prices prior to moving into price-cap
restrictions. Under the old rules, the Service would have to satisfy the
"break-even" requirements that postal revenues will equal as nearly as
practicable its total estimated costs. Under the new rules, the Service
would have to ensure that rate increases for its market-dominant products
do not exceed a cap based on the growth in the Consumer Price Index.
Filing under the old system, however, could put additional strain on
mailers and the PRC. In particular, the PRC would be reviewing the
Service's rate submission while transitioning to its new roles and
responsibilities under the legislation--establishing a new organization
structure, a new regulatory framework with new rules and reporting
requirements, which must include time for public input, and a multitude of
additional requirements.

Recognizing these challenges, the Chairman of the PRC has suggested (and
asked for public comments on) that rather than expending resources on
extending the application of the old system, the PRC would work with the
Service and mailers to implement the new regulatory systems even sooner
than the 18 months allotted by the new law. This action could allow the
Service to implement new rates sooner under the new regulatory system
depending upon when the PRC completes its work and the Service chooses to
file new rates. The Service's decision will not only impact its financial
performance and condition, but also the mailing industry and the focus of
the PRC.

Another key provision of the law that warrants close oversight is the
requirement for the Service to develop modern service standards. We are
encouraged by the Service's actions to date to establish a workgroup that
includes participants from the mailing industry to review and provide
recommendations on service standards and measures. This workgroup is
expected to complete their work in September of this year, and the Service
is to make its decisions on the new service standards by December 20,
2007. The Service then has 6 months to provide Congress with a plan on how
it intends to meet these standards, as well as its strategy for realigning
and removing excess capacity from the postal network. We believe this plan
is a particularly important opportunity to increase transparency in these
areas, particularly given the changes to the Service's plans for network
realignment and the limited information available to the public. We will
be reporting this summer on the status and results of the Service's
efforts to realign its mail processing network.

Finally, the PRC's role in developing reporting requirements is critical
to enhancing the Service's transparency regarding its performance results.
Congress was particularly mindful in crafting the reform act to ensure
that the provisions for additional pricing flexibility were balanced with
increased transparency, oversight, and accountability. The new law
provides the regulator with increased authority to establish reporting
rules and monitor the Service's compliance with service standards on an
annual basis.

The successful transformation of the Postal Service will depend heavily
upon innovative leadership by the Postmaster General and the Chairman of
the PRC, and their ability to work effectively with their employees,
employee organizations, the mailing industry, Congress, and the general
public. It will be important for all postal stakeholders to take full
advantage of the unique opportunities that are currently available by
providing input and working together, particularly as challenges and
uncertainties will continue to threaten the Service's financial condition
and outlook.

Chairman Davis, this concludes my  prepared statement. I would be  pleased
to respond to any  questions that you or  the Members of the  Subcommittee
may have.

Contact and Acknowledgments

For further information regarding this statement, please contact Katherine
Siggerud, Director, Physical Infrastructure Issues, at (202) 512-2834 or
at [email protected]. Individuals making key
contributions to this statement included Teresa Anderson, Joshua Bartzen,
Kenneth John, John Stradling, Jeanette Franzel, Shirley Abel, Scott
McNulty, and Kathy Gilhooly.

Appendix I: Summary of Recent Rate Developments

Rate increase, First-Class Date Description on-average stamp rate^a

5/3/06 Postal Service submits proposal to Postal Rate Commission (PRC)^b
8.1 percent 42 cents

     o Requests rate increases effective May 2007.
     o Proposes Forever Stamp^C

          o Establishes pricing structure based on mail weights and shapes:

               o Revises old structure which was primarily weight-based.
               o Recognizes that different mail shapes have different
                 processing costs.
               o Gives mailers an opportunity to minimize their rates by
                 altering shape of mail.

2/26/07 PRC issues recommended decision on Service's  7.6 percent 41 cents 
           proposal                                                           
           o Issued after detailed administrative                             
           proceeding involving mailers, employee                             
           organizations, consumer representatives and                        
           competitors.                                                       
           o Recommends revisions to many of the rates                        
           and rate designs submitted by the Service:                         
           o Increases rates substantially for some                           
           types of mail.                                                     
           o Revised rates are intended to more                               
           accurately reflect costs and send proper                           
           pricing signals.                                                   
           o Approves Forever Stamp.                                          
           o Concurs with shape-based pricing structure                       
           and, according to the PRC, the change in                           
           rates will still meet the Service's revenue                        
           needs.                                                             
           o Anticipated that this would have been the                        
           last rate case initiated prior to                                  
           implementation of the new rate structure                           
           established under the reform legislation and                       
           explained that its recommended rates are                           
           intended to provide a sound foundation for                         
           the future.                                                        

3/19/07 Postal Service's Board of Governors issues    7.6 percent 41 cents 
           decision to implement PRCrecommended rates                         
           o Implements most rates effective May 14,                          
           2007.                                                              
           o Asks PRC to reconsider some rates, most                          
           notably those for flat-sized Standard Mail,                        
           which is generally advertising and direct                          
           mail solicitations (this could lead to                             
           further changes in these rates).                                   
           o Delays rate implementation for Periodicals                       
           for over 2 months, citing reactions of                             
           magazine mailers and the publishing                                
           industry's need to update software.                                
           o Begins sale of Forever Stamp starting April                      
           12; stamp will be valid for postage starting                       
           May 14.                                                            

Source: U.S. Postal Service and Postal Regulatory Commission documents.

aFirst-Class stamp prices  cover letters weighing  up to 1  ounce that  are
sent via First-Class Mail.

bThe name  of  the  Postal  Rate  Commission  was  changed  to  the  Postal
Regulatory  Commission  due  to  provisions  of  the  Postal  Reform   and
Enhancement Act.

cThe Forever Stamp will sell at the First-Class one-ounce letter rate,  and
will continue to be worth the price of a First-Class one-ounce letter even
if that price changes.

(542115)

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