In early December, the US Postal Service (USPS) announced the potential slowdown of First-Class Mail to a 2-3 day service as the fallout of closing approximately half of the service’s sorting facilities (see the USPS press release). The proposed move is a part of a larger reorganization to reduce costs by $20 billion by 2015.
A first instinct is that the slowdown of the nation’s primary mail service will be a boon for other service providers, such as UPS (UPS) and FedEx (FDX). The logic is that with First-Class Mail moving slower, mailers who want faster delivery will use the alternatives in the place of the USPS. It is clear that volume will improve for UPS and FDX. However, this view only scratches the surface for FDX.
In truth, USPS and FDX are closely tied together. A compilation by law firm Husch Blackwell points out that FDX is the largest contractor for the USPS. Their information points out that FDX performed $1.373 billion of services to the USPS in the 12 months ended 30 Sept 2010. This work generally relates to fast air delivery for Express, Priority, and First-Class mail. These fees from USPS to FDX were approximately 3.5% of revenues for the FDX fiscal year ended 31 May 2011.
This amount of work done by FDX on behalf of the USPS presents two problems to the shipper. First, this will be lost revenue—and profit—to the company. Second, the company has developed capacity to take on USPS mail. This capacity is in the form of more aircraft, larger distribution centers, more trucks, and more staff to handle the mail volume.
Should the USPS take on slower First-Class mail in-house, this could significantly reduce the FedEx volume and leave existing capacity unused. However, the stagnant property, plant, and equipment is not without cost, and they will be a drain on FedEx. In order to reverse this impact, FedEx will have to make up for the lost volume with new fast delivery parcels.
FedEx has also contracted with the USPS to perform some of its delivery. One of the fastest growing services for FedEx has been SmartPost delivery, a ground service. In this offering, FedEx receives and transports the item to a USPS facility, which will provide final delivery of the item. The service is high-volume and not time-sensitive. The service is great for FedEx because it relieves the company of a significant volume of packages, and in turn let the company give more attention and resources to high-margin, high-priority services. Should FedEx take on final delivery of more low-priority parcels, this could have an impact on the cost and the quality of service across the company.
The USPS changes could be a great windfall for FedEx. However, the implications are not yet clear. USPS customers who want fast delivery could move huge volumes through the company. On the other hand, FedEx could lose fees on a significant transport contract with the USPS. Further, the SmartPost final delivery burden could be pushed back onto FedEx (like the existing Ground service).
If FedEx is able, it could introduce a new SmartPost-like service to work with the USPS for faster delivery. The ties between FedEx and the USPS are strong, and FDX is in a great position to capitalize on the USPS’ desire to provide exceptional service in a new low-cost environment.
Expect commentary from FedEx management in the December 15 earnings call.
Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.
