Memorandum submitted by Royal Mail
ROYAL MAIL: UPDATE AND ANALYSIS OF MAJOR
CHALLENGES
INTRODUCTION
In just over six years, Royal Mail has made
real progress in turning a loss of £1 million every working
day into a profit of £255 million for the first nine months
of this current financial and dramatically improving quality of
service, while at the same time around 50,000 people have left
the company—all through voluntary redundancy or natural
turnover. However the mails market is now in serious structural
decline, the company is increasingly burdened by a huge and growing
historic pension deficit, and the business does not generate enough
cash to fund the investments needed to ensure that the future
of the company—and the one-price-goes-anywhere Universal
Service—is secure.
As part of Royal Mail's plan to transform the
business we have a £2 billion investment plan partly funded
through a £1.2 billion commercial loan agreed with the Government
and which must be repaid, to allow the company to modernise the
mails operations—as all our major rivals did in the 1990s.
Royal Mail would not have been able to invest
that money effectively had we not reached agreement with our people
and the unions in 2007 on modernisation and flexibility.
More than £600 million has been spent transforming
the Letters business and we plan to spend every penny of the £1.2
billion commercial loan over the period of the investment plan
to 2011. Almost all the automation equipment has been ordered
and will be paid for when it is delivered.
In January 2006 the UK postal market was opened
fully to competition—well before any other European country—with
our rivals now handling almost one in every three letters posted
in the UK. This change, combined with the onslaught of electronic
communications and the growing pensions burden, makes it essential
that Royal Mail increases the pace of its modernisation and moves
more quickly to increase efficiency still further while developing
new revenue streams that will help secure the future of the business
and the Universal Service.
The remainder of this note focuses on the progress
and challenges of Royal Mail's postal operations. The future of
Post Office Ltd, which will remain 100% publically owned, is summarised
in the Appendix.
ROYAL MAIL
NOW FACES
4 MAJOR CHALLENGES
1. The decline in the mails market is accelerating
The structural decline in mails markets around
the world is accelerating as people turn more and more to electronic
communications including text and broadband. The overall UK mails
market fell by 2.5% last year and is down by 4.5% in the current
financial year with a further decline of 8% expected in 2009-10.
Last year electronic communications cost Royal Mail £500
million in profits while competition from other postal operators
depressed profits by further £100 million (and as the decline
in volumes accelerates so will the effects on revenue). The UK
market is not alone with many postal operators around the world
expecting a decline in volumes and profits. For example:
The United States Postal Service which is still
a monopoly, recently reported a 9% drop in volumes in the third
quarter and said that the business could lose $6 billion this
year.
TNT, the Dutch postal operator expects volume
decline to accelerate from 4% to 6%.
2. Royal Mail has a huge and growing legacy
pension deficit
Royal Mail is increasingly hampered by a huge
and unsustainable legacy pension deficit, which currently costs
the company £280m in cash every year for 17 years and which
is likely to more than double at the next valuation this spring—which
Royal Mail simply cannot afford. Nor can Royal Mail pass the cost
of the pension deficit on to customers as it would make the company
more uncompetitive (and clearly even more so at double the amount)
and would drive down mails volumes even faster.
3. The Universal Service is loss-making
The one price goes anywhere Universal Service,
which is part of the social and economic fabric of the country—and
which only Royal Mail can provide—is now loss-making and
is under threat as postal rivals target our most lucrative business
customers.
4. Royal Mail needs to accelerate its modernisation
plan
The scale of these cumulative challenges means
that it is necessary to accelerate our modernisation and investment
programme in the interests of all key stakeholders. In order to
achieve this we must continue to bring in best-in-class skills
at all levels of the business. The review last year led by Richard
Hooper recognised these challenges and the key conclusions of
the Hooper review and the benefits of stepping up our modernisation
are explained below.
THE "HOOPER"
REVIEW
The review led by Richard Hooper recognised
the major challenges faced by the business. The panel's recommendations,
to help secure a bright future for Royal Mail and protect the
Universal Service, include:
— Establishing a strategic partnership
between Royal Mail's postal operations and a private sector partner,
bringing in private capital and experience of modernising in similarly
tough circumstances.
— Government tackling Royal Mail's
historic pension deficit in some form, to enable the company and
its customers to reap the benefits of modernisation.
— Ofcom regulating the postal services
market to reflect the wider communications market in which the
business now operates.
Why Royal Mail needs access to capital
Capital is needed for Royal Mail to protect
the Universal Service which is an essential part of the social
and economic fabric of the UK.
Timely and flexible access to capital is needed
for Royal Mail to accelerate the modernisation of its postal business,
develop new revenue streams and offset the dramatic structural
decline in the world's mails markets—again to protect the
Universal Service. Even now the £1.2 billion commercial loan
agreed with the Government in early 2007 has yet to be approved
by the EU.
As with any business it is necessary that the
company has enough cash available to act as a buffer against the
risks it faces.
Fresh capital is necessary if we are to invest
in new revenue streams including new mails services such as "track
and trace" and our iRed integrated document production and
management business, and to speed up modernisation across the
mails operations.
Part of the solution is the Government tackling
the historic pension deficit in some form. However, even if the
historic deficit is removed Royal Mail may not receive the full
benefit as there is a risk that it can be clawed back under the
regulatory regime—so there would still be a need for new
capital to help speed up modernisation across the mails operations
and offset the accelerating decline in the structural mails market.
Royal Mail needs access to capital if it is
to continue to provide voluntary redundancy packages to those
people who leave the business through the modernisation programme.
In an increasingly competitive mails and wider
communications marketplace, and in one of the worst economic environments
in memory, Royal Mail cannot simply raise prices to the degree
required to pay for necessary new investment.
Our aim is to be:
— An efficient, high quality and profitable
USO mails business in the UK.
— A thriving parcels fulfilment business
to enable our customers to benefit from the e-economy.
— A leader in the growing parcels segment
in Europe, and in mails too where this is attractive.
— A provider of integrated solutions
to customers through an expanded presence along the mails value
chain.
— A secure Post Office which is based
on the core propositions of customer focused mails, government
owned bank and a retail front end for government services.
THE BENEFITS
Our customers will benefit from:
— A strong and secure Universal Service—especially
for consumers and SMEs—around the UK.
— The innovative products and services
they want and expect.
— Further improvement in Quality of
Service.
— Better value for money.
— Enabling both consumers and vendors
to make best use of the growing e-economy.
Our people will benefit from:
— Investment in their jobs.
— A more competitive and innovative
Royal Mail.
— Greater job satisfaction from knowing
that we will respond still more effectively to our customers
— Better long term prospects for the
company's employees.
We have always been very open with our people
and the unions that modernisation will mean fewer jobs and that,
where there are job losses, our intention is that they should
continue to be through voluntary redundancy and natural turnover—but
we have also been clear that, unless we modernise, the impact
on jobs will be much greater as we become less competitive and
fall into inevitable decline.
The taxpayer will benefit from:
— A more financially secure Royal Mail.
— Less demands on the public purse.
— The long-term security of the Universal
Service Obligation delivered in a high quality manner as a major
component of social cohesion and the fabric of the UK.
And everyone will benefit from:
— Trusted Royal Mail and Post Office
brands which combine the best of the public service ethos with
the ability to deliver in the highly competitive communication
and financial services markets.
— Increased confidence about the future.
APPENDIX
POST OFFICE LIMITED
Post Office Ltd, within the overall umbrella
of Royal Mail Holdings, will remain 100% publicly owned and will
continue to play an important social and economic role in communities
around the UK.
Even after the Government programme to close
around 2,500 post office branches—which is now near completion—the
Post Office network has more than 11,500 outlets and is still
the biggest retail or financial services branch network in Europe.
Royal Mail believes for Post Office Ltd to have
a long term secure future and provide what customers want, the
business needs:
— Calmer waters for Post Office Ltd
with no further closure programmes.
— More Government services delivered
through the Post Office network.
— The creation of a "people's
bank" through expanding Post Office Ltd's range of financial
services.
— An increased role for the Post Office
network in providing the postal service, including the collection
and drop-off of parcels and continuing the vital role it plays
in providing the one-price-goes-anywhere Universal Service.
25 February 2009
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