mckinsey usps future bus model2
TRANSCRIPT
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USPS Future Business Model
March 2, 2010
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McKinsey & Company 1|
Contents
Recent context
Base case – minimal management actions
Addressing the challenge
Short term requirements
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McKinsey & Company 2|
USPS is experiencing unprecedented losses
SOURCE: USPS; P.L. 109-435 (PAEA)
-7.82
2010
0.9
05
1.4
04
3.1
03
3.9
02
-0.7
01
-1.7
2000
-0.2
06
-2.8
0907
-5.1
08
-3.8
Net profit/loss$ billions
Postal Act 2006 signedinto law
Note: All years in this document refer to Fiscal Years ending on Sept 301 Includes one-time $4 billion deferral2 Per 2010 Integrated Financial Plan (January Year-to-Date results are favorable to Plan)
8.4 5.6 1.41 5.5
RHB pre-funding, $ billions
Key drivers
Revenue declines due to:
– E-diversion of First-
Class Mail – Down-trading from
First-Class to StandardMail
– Losses of advertisingmail due to the
recession RHB pre-funding
requirement introduced bythe PAEA
Cost savings, whilesubstantial, have beenless than revenue declinesdue to high fixed costs ofthe network
No rate increase2003-2006
Recent Context
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Losses have been driven by volume declines, RHB pre-funding
requirements and limitations on cost savings
0.9
FY2006Net income
4.0
FY2009Net income
-3.8
RHB deferralCost savings
12.6
RHB pre-fundingrequirement
5.5
Revenuedecline1
15.8
Drivers of change in net income 2006 vs. 2009$ billions
SOURCE: USPS 2006 Annual Report; USPS 2010 Budget
1 Revenue declines calculating by applying 2009 prices against 2006-09 volume declines
Volume declines of 17%, driven by – E-substitution – Ad spend shift to other channels – Deep recession
Savings driven by – Reduction of overtime – Extreme slow-down in hiring – Route consolidation – Volume reduction
Recent Context
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Volume declines have been worse than expected when the current legal
and regulatory framework was established
240
230
220
210
200
190180
170
160
0
20100908070605042003
Actual
Upside
forecast
Downside
forecast
Base caseforecast
SOURCE: USPS
2005
forecasts2
When PAEA was passed,volume projections did notanticipate the current scaleof declines
PAEA introduced someadditional productflexibility, but also two
crucial restrictions:
– Price increases cappedat CPI by class
– Significant pre-funding
requirements forRetiree Health Benefits(RHB)
1 Postal Accountability and Enhancement Act, 20062 Forecasts from “USPS Strategic Transformation Plan”, 2005
Volume forecasts and actualsBillions of pieces
PAEA implications1
Recent Context
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First-Class Mail, Standard Mail and GDP growthCumulative increase from 1973, percent
The recession has exacerbated volume declines, but mail has reached an
inflection point, with e-diversion now driving long term decline
250
150
Standard Mail
volume
300
100
0
2005200019951990198519801975
First-Class Mailvolume
Real GDP
200
50
350
400
SOURCE: USPS
2009
Recent Context
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Retiree Health Benefit funding requirements are a significant burden,
equal to 12% of total revenue in 2010
RHB payments, 2006 – 2010
$ billion
SOURCE: USPS 2009 10-K; USPS 2010 Budget
8.4
5.6
1.4
5.5
20092
3.4
2.0
2008
7.4
1.8
20071
10.1
1.7
2006
1.6
2010
2.2
7.7
Pre-funding is unique to USPS withinthe public sector, and rare (and notrequired) within the private sector
Drivers of RHB requirements
Schedule of pre-funding requirementsis accelerated in the first 10 years ofthe 50 year liability
Actuarial estimates of total RHB liabilityvary widely based on differences indiscount rates, future health care costs,the size of the workforce, and period ofpre-funding
PAEA scheduled pre-fundingrequirement
Employer premiums
Recent Context
1 $8.4B scheduled payment includes $3B legacy payment from CSRS2 $1.4B scheduled payment includes $4B deferral from Congress
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Recent reductions in workforce usage have been significant, but pieces
per FTE still declined in 2009
262
07
265
06
261
05
258
2009
251
03
243
02
234
04
249
0801
231
2000
227
USPS workforceFTEs1, Thousands
Pieces per FTEPieces per year, thousands
SOURCE: USPS
1 Full Time Equivalent, based on work hours (includes overtime)
02009
711
08070605
950
900850
800
750
700
1,000
040302012000
917
Recent Context
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The USPS has been responsive to declining volume, but recent work hour
reductions will become increasingly difficult to replicate
SOURCE: FY 2009 10-K; 2007 and 2009 National Payroll Hour Summary Report
Work hours reduction Sources of work hours reduction
74M
(45%)
12M(7%)
79M(48%)
Millions of hours
Recent Context
1,175
146 90
2007
1,423
Overtime
Non-career
67
2009
1,258
1,101Career
102 -12%
Career
Non Career
Overtime
55% of reductions have come from non-career and overtime
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Contents
Recent context
Base case – minimal management actions
Addressing the challenge
Short term requirements
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Four trends will affect postal economics going forward
Volume
Price Workforce costs
USO Obligation
Transactionalvolume declining dueto e-diversion
Advertising mail issubject to increasedsubstitution options
Increases cappedby inflation class
Price elasticities arein flux due to
growing alternatives
Delivery points Retail locations Sortation facilities Preferred prices for
some products (e.g.,non-profit mail)
RHB pre-fundingdriven by law
Legacy costs beyondUSPS control
Wages subject tocollective bargaining
REVENUE TRENDS COST TRENDS
These trends will
continue to put
pressure on USPS
ability to provideaffordable universal
service
Declining
steadilyFixed cost
base
Rising
cost per hour
Rising butcapped
Base Case
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0
40
80
120
160
200
Volume wil l decline significantly over the next decade driven
by a steady decline in First-Class Mail, the most profi table segment
SOURCE: BCG; USPS Financial Forecasting Model
BCG volume forecastBillions of pieces
Change in
volume2009-2020
Portion of margin
available to coverfixed costs, 2009
-31 billion
+4 bill ion
(1.5%) per year
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USPS Revenue$ Billions
Overall revenue will slightly increase, as inflation-driven price increaseswill offset the volume decline and shift to Standard Mail
SOURCE: BCG; Global Insights; USPS Financial Forecast Model
Price impact
$16.8
Mix shift from
First-Class toStandard1
$3.8
Volume
decline
$11.8
2009
Revenue
$68.1 B
2020 Revenue
$69.3 B
An additional 27 Billionpieces are forecast to be
lost (15% of total). Assumesno loss due to elasticity
An additional 27 Billionpieces are forecast to be
lost (15% of total). Assumesno loss due to elasticity
The loss in First-Classwill be even higher (37%of total), lowering theaverage price
The loss in First-Classwill be even higher (37%of total), lowering theaverage price
Prices forecast to risewith inflation
Prices forecast to risewith inflation
1 Calculated by applying the 2009 First-Class/Standard mix to 2020 prices. Excludes mix shift in any other categories
Base Case: Revenue Projection
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Costs, from a workforce standpoint, are largely fixed to fulfillthe universal service obligation and other service requirements
SOURCE: USPS FY 2009 10-K
Post Offices(36,500 Post Offices, Stations and Branches1)
Built so that Americans have nearby access Continued urban sprawl and growth puts
pressure to increase retail outlets Significant resistance and administrative
burden to closing existing Post Offices Prohibited by law from closing Post Offices
for economic reasons
Delivery network(~150 million delivery points2)
Required to deliver to almostevery address in America
6-day delivery to every
delivery point
Sortation plants(600 processing facilities)
Built to ensure overnight delivery oflocal mail Network largely fixed unless service
standards change Significant political resistance and
administrative burden to closing plants
xi ting Posrom closing Post Offices
sons
Network historically built toprovide high service levels to
citizens, on the basis of growingvolumes
Transportation(220,000 vehicles)
Large vehicle fleet $2.6 billion in airtransportation expenses
1 Includes CPUs2 Includes approximately 20 million PO Boxes
Base Case: Fixed Cost of USO
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Without aggressive management cost-cutting, work hours willremain flat with volume decline countered by more delivery points
Base Case: Impact of Volume and USO/ServiceLevels on Workforce Costs
5664
2020
1,245
Reductionin overhead
1
Reduction inPO locations
4
Increase indelivery points
Mail volumereduction
2009
1,258
Millions of work hours
1.5% per year drop involume (27B fewer mailpieces)
1.5% per year drop involume (27B fewer mailpieces)
Increase by 0.8%per year (~12million newdelivery points)
Increase by 0.8%per year (~12million newdelivery points)
Reduction of~800 PO’s(2% of base)
Reduction of~800 PO’s(2% of base)
SOURCE: USPS
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Health benefits
4.7-5.2
Workers’ Comp
2.0-4.0
Workforce costs continue to rise faster than inflation through 2020
Workforce annual rate increase projections through 2020Percent
1.3-2.5
Wages
Inflation(CPI at1.9%)
Base Case: Workforce cost projection
SOURCE: Global Insights; USPS Financial Forecast Model
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While payments in 2017-2020 drop, RHB funding will continueto be greater than 10% of gross revenues through 2020
2020
8.0
5.3
2.7
19
7.7
5.0
2.7
18
7.4
4.8
2.6
17
7.1
4.5
2.6
16
10.5
4.7
5.8
15
9.9
4.2
5.7
14
9.5
3.8
5.7
13
9.0
3.4
5.6
12
8.6
3.0
5.6
11
8.2
2.7
5.5
10
7.7
2.2
5.5
2009
3.4
2.0
1.4
SOURCE: OPM estimates; P.L. 109-435
1 Based on OPM estimates of future liability, including RHB pre-funding and annual premiums2 Current retiree health premiums in 2017-2020 are paid directly out of the fund, resulting in no operating expense
Retiree Health Benefit payments1
$ BillionsNormal costs
Premiums
PAEA pre-funding schedule + current premiums
Additional pre-fundingpayment + normal cost
for current employees2
5% 12% 12% 13% 14% 14% 15% 16% 11% 11% 11% 12%
Percentof total
revenue
PAEA scheduledpre-funding
Additional pre-funding
Base Case: Workforce cost projection
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The combination of the trends will put extreme pressure on USPS given itis a largely fixed-cost network business
0.30
0.35
0.40
0.45
0.50
0.55
0.60
0.65
0.70
2000 2005 2010 2015 2020
Costper piece
Revenueper piece
Revenue and cost per piece$
~ 4% peryear
2009-2020
growth
~ 2% peryear
Base Case
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The “Base Case” leads to a loss of $33 billion and cumulative losses of$238 billion by 2020
78
76
74
72
70
92
96
94
90
88
86
84
82
80
68
66
0
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Cost
Revenue
+0.5%p.a.1
+2.2%p.a.1
$ Billions
Revenue and cost Annual net loss forecast Cumulative losses
238
205
175
149
125
99
77
58
42
27
17
774 15
2019181716151413121110090807
Statutory debtceiling of $15 Bwill be reachedin Oct 2010
Statutory debtceiling of $15 Bwill be reachedin Oct 2010
-3
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-30
-28
-26
-24
-22
-20
-18
-16
-14
-12
-10
-8
-6
-4
-2
0
20
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RHB reset
Actual Forecast
Even if volumes remained flat instead of declining by 1.5%annually, the loss in 2020 would still be $21 billion
1 Per Annum: Compound annual growth rate, 2010 to 2020
Base Case
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The financial outlook for the Postal Service is highly dependent on trendsin the general economy
Rapid economic recovery
Greater than expected rebound in Advertising Mail
Flattening of e-diversion
Government-led decrease in healthcare cost inflation
Non-career employee increase
Greater than expected volumedeclines due to:
– Accelerated e-diversion – Further (“double-dip”) recession
Health care uncertainty – Greater than expected health
care cost inflation – Legislation to require provision
of full medical benefits to non-career employees
Input cost inflation outpacingprices, especially in fuel costs
Potential upside Potential downside risks
Base Case
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Contents
Recent context
Base case – minimal management actions
Addressing the challenge
Short term requirements
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USPS can pursue two sets of actions to address the challenge
Description
FundamentalChange
Actions WithinPostal Service
Control
Actions requiring legislative change
Actions within USPS authority No legislation required, although stakeholder
support/approval needed Most options require PRC approval, collective
bargaining, or political support
Actions being taken or planned by USPS to grow andimprove productivity
May be challenging to achieve
Non-legislative
Legislative
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USPS can pursue actions within its control to reduce the FY2020 gap
Base Case with no additionalefficiency or revenue initiativeswill lead to a $33B shortfall in2020, and cumulative losses of$238 billion
($33B)FY2020
Actions within Postal Servicecontrol reduce the 2020 annual
loss to $15 billion, and thecumulative loss to $115 billion
($15B)FY2020
Actions within Postal Service control
-5
-35
-30
-25
-20
-15
-10
5
2005
Break-even
20202009
Actual Forecast
Net income$ Billions
$115B cumulativegap remains
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USPS will continue to take aggressive action to drive revenue and controlcosts
Actions within Postal Service control
Net annual income benefit (2020)
~$2BProduct and service actions1
~$10BProductivity improvements2
~$0.5BWorkforce flexibility improvements3
Total
~$5BAvoided interest due to reduced debt
~$0.5BPurchasing savings4
Cumulative impact 2010-2020
~$18B
~$123B
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The “Actions within Postal Service control” case includes product andservice initiatives above the baseline to grow volume
Total 2020income impact
SOURCE: USPS
1
Actions within Postal Service control: Product initiatives
Key actions
~ $2 billion
Mail services Grow under-penetrated segments and access latent
demand through: – Increasing Small Business direct mail – First Class/Standard mail promotions
Packageservices
Leverage network to grow aggressively through: – Priority Mail Flat Rate Box expansion
– Commercial contracts – Parcel Select and Returns, including recycling – Product samples
Retail
services
Maximize profitability by store segment within a plan
to reduce costs and increase access though: – PO Boxes – Consumer products – Passport growth
Postal Service product and service initiatives
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Aggressive productivity improvements in the “Actions within PostalService control” case are worth ~ $10 billion
2
Customer service
Continuous improvement/ Lean Six Sigma Transactions moving to alternative access points
through customer demand
Delivery Flats Sequencing System Route restructuring
Processing
plantoperations
Continuous improvement/ Lean Six Sigma
Incremental network consolidation
Admin Restructuring and consolidating administration,supported by technology enablers
Actions within Postal Service control: Productivity
Postal Service productivity initiatives
~ $10 billion
Increasing
world-classproductivity
USPS alreadyprocesses
91% of mail
throughautomation,
the best in theworld. Furtherimprovements
will be highlychallenging
Key actions
Total 2020income impact
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Increasing workforce flexibility and improving procurement add ~ $1Bin the “Actions within Postal Service control” case
SOURCE: USPS National On-roll Complement
Actions within Postal Service control: Workforce/Procurement
3/4
Workforce
flexibility
As career employees leave, replace with non-career
employees up to bargaining limits Takes advantage of natural attrition
Total 2020 income impact ~ $0.5 billion
Procurement
Increase transportation efficiency
Improve vendor management for supplies, servicesand other costs (e.g., IT)
Total 2020 income impact ~ $0.5 billion
Postal Service workforce flexibility and procurement improvements
Key actions
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The “Actions within Postal Service control” case leads to a loss of $15Billion and cumulative losses of $115 Billion by 2020
85
80
75
70
65
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Cost
Revenue +1.2%p.a.1
+1.5%p.a.1
$ Billions
Revenue and cost Net annual loss forecast Cumulative losses
115
100
88
76
66
53
42
33
25
18
14
774
15
2019181716151413121110090807
Cumulative losses
are reduced to$115B from$238B
Cumulative losses
are reduced to$115B from$238B
-34
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-12
-10
-8
-6
-4
-2
0
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19181716151413121110090807
RHB reset
Actual Forecast
Actions withinmanagementcontrol
Base Case
Actions within Postal Service control
Statutory debtceiling of $15 Bstill reached in
Oct 2010
1 Per Annum: Compound annual growth rate, 2010 to 2020
Statutory debtceiling of $15 Bstill reached in
Oct 2010
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-15
-20
-25
-30
5
-10
-35
-5
“Fundamental Change” that increases USPS flexibility will be required toclose the remaining gap
2005
($33B)FY2020
Break-even
20202009
Actual Forecast
Net income$ Billions
($15B)
FY2020
Fundamental Change is requiredto secure future sustainability
Non-legislative changes
Legislative changes
Fundamental Change
Base Case with no additionalefficiency or revenue initiativeswill lead to a $33B shortfall in2020, and cumulative losses of$238 billion
Actions within Postal Service
control reduce the 2020 annualloss to $15 billion, and thecumulative loss to $115 billion
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Definition of non-legislative and legislative change
Fundamental Change
Description Examples
Legislative Actions requiring
legislative change Includes changes to the base
legislation as well as issuesthat have historically been
attached as annual riders (e.g.additional restrictions onclosing Post Offices)
Significant change in the retailnetwork through a combination ofincreased access with partners andeventual franchising and/or closureof existing locations
Eliminating/reducing subsidies non-profits
Non-legislative
Actions within USPS authority No legislative changes
required, but will impact somestakeholders and is
challenging to implement Many options require PRC
approval All labor changes subject to
collective bargaining
New product innovations such ashybrid mail
Exigent price increases
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Hybrid mail
USPS will need to pursue multiple “Fundamental Change”options to close the remaining gap
Fundamental Change
Products andservices Pricing
Exigent priceincrease
P1
Service levels Workforce
Changes to:
Workforceflexibility
W1
Public policyconsiderations
Options for USPSconsideration
Price cap
modification
P3
Cover costsof un-profitableproducts
P2
RHBG1R1
R2 USO subsidiesG2
Productsand servicesflexibility
R3
Streamlinedoversight
G3
Advertisingproduct
Changes to
Service standards
Delivery location
Deliveryfrequency
S2
S3
S1
AccessS4
Benefitsrequirements
W2
Legislative
Non-legislative
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Products and services opportunities were identified through a screenfor potential feasibility and impact in the near term
ExistingUSPS ideas
Foreign postexamplesfromAccenture
Other ideasfromMcKinsey
Examples include…
Financial services (e.g.,Banking, Insurance)
Transportation services (e.g.,3PL, warehousing)
Business and governmentservices
Asset commercialization (e.g.,truck advertising)
New mail products (e.g., hybridmail)
Retail products (e.g., vending)
Fundamental Change: Products and Services
Ideas with low profit impact or low feasibility High barriers to entry Significant upfront capital investment required Current labor cost structure unsuitable Low U.S. market feasibility Extremely low industry margins
Fundamental Change: Products and services opportunities
~30+ revenue initiativesSource of ideas
Options not fully withinUSPS control
Hybrid mail includingE2E, E2P and P2Edigital solutions
Simplified advertisingproducts
R1
R2
F d t l Ch P d t d S i
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Products and services opportunities for USPSFundamental Change: Products and Services
Fundamental Change: Products and services opportunities
Simplify advertising product for direct marketers lookingto reach householdsAdvertising
productsR2
Develop new products and services consistent withUSPS mission
Products andServices
Flexibility
R3
Hybrid Mail
ProductsR1
Create a suite of hybrid mail products the integrateelectronic and physical mail
– E2E and electronic postmark – E2P and P2E mail and print solutions
Legislative
Non-legislative
Fundamental Change: Pricing
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Pricing opportunities for USPSFundamental Change: Pricing
Fundamental Change: Pricing opportunities
Exigent rate
increaseP1
Apply for exigent price increase
Cover costsP2
Increase prices on select products to cover costs: – Periodicals
– Nonprofit mail – Media and Library mail
Price capmodification
P3
Set a global cap across all market dominant products,rather than by class
Automatically adjust cap based on volume triggers
Legislative
Non-legislative
Fundamental Change: Service Levels
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Service level opportunities for USPSFundamental Change: Service Levels
Fundamental Change: Service level opportunities
Service
standards
S1
Change service levels from 1-3 day to 2-5 days for First-Class Mail enabling simplified and standardized mail
flows with minimal impact on consumers/businesses
Deliveryfrequency
S3
Reduce delivery frequency to 3 or 5 days per week
AccessS4 Expand access through alternative channels – Private sector partnerships – Kiosks – Direct (e.g., online, mobile)
Deliverylocation
S2
Change delivery location to curbside or cluster mailboxes
Legislative
Non-legislative
Fundamental Change: Workforce
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Workforce opportunities for USPSFundamental Change: Workforce
Fundamental Change: Workforce opportunities
Workforce
flexibility
Implement initiatives to – Improve workforce flexibility and leverage natural shift
in employee mix due to 5% annual attrition rate – Align workforce costs with overall market trends
Benefits
requirementsW2
Bring federally-mandated benefits payments more in linewith private sector
W1
Legislative
Non-legislative
Fundamental Change: Public policy considerations
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Public policy considerationsFundamental Change: Public policy considerations
Fundamental Change: Public policy considerations
RHB
Defer payments Shift to a “pay as you go” system comparable to other
federal agencies and private sector companies
Streamlinedoversight
Increase flexibility and speed to market by – More clearly defining roles of oversight bodies – Moving toward after-the-fact review – Defining time limits for all reviews
USO subsidies
Receive Universal Service Obligation subsidies throughfederal appropriationsG2
G1
G3
Legislative
Non-legislative
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Contents
Recent context
Base case – minimal management actions
Addressing the challenge
Short term requirements
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McKinsey & Company 38|
In the short run, USPS will violate its statutory financing requirementsin October 2010
Only a limited subset of options will take effect quickly enough to addressthe short term financing requirement
Options available to maintain solvency in October 2010:
– RHB restructuring by Congress (deferral or relief)
– Receive an increased debt limit (does not resolve core issues)
Options available to maintain solvency in September 2011:
– RHB restructuring
– Receive an increased debt limit
– Exigent price increase
– 6 to 5 day delivery