The building blocks for a sustainable postal service

The building blocks for a sustainable postal service Proposals to remove bulk products from the universal service and clarify the status of other universal service products a consultation February 2011

In this document, Postcomm consults on the removal of bulk products from the universal service. Postcomm also explains that it considers that Printed Postage Impression (PPI) is a payment channel like stamp and meter, and that PPI First and Second class single piece items should be considered to be part of the universal service. Finally, Postcomm clarifies the status of certain services within the universal service, as originally set out in its 2004 decision on the universal service. Key conclusions: Postcomm summarises research findings which confirm the importance of the universal postal service to customers today. Postcomm sets out evidence on bulk customers needs and changes in the market. This evidence seems to indicate that bulk products should be removed from the universal service. Postcomm considers that PPI and meter are payment channels, and that for single piece mail all payment channels should be clearly included within the universal service. Postcomm provisionally concludes that it is appropriate to clarify the composition of the universal service in Royal Mail s licence to include PPI single piece mail, and Recorded Signed For, Redirections (up to 12 months), Keepsafe, Poste Restante, Certificate of Posting, and Business Collections, as set out in its 2004 decision on the universal service.

Key proposals: Postcomm proposes a modification of Condition 2 of Royal Mail s licence to: remove the remaining bulk products from the universal service, Mailsort 1400 First and Second class and Cleanmail; include Printed Postage Impression (PPI) First and Second class single piece items; and include Recorded Signed For, Redirections (up to 12 months), Keepsafe, Poste Restante (free), Certificate of Posting (free), and Business Collections. Postcomm also proposes a definition of single piece items in relation to First and Second Class mail. Expected impact: We consider that removing bulk products from the universal service will benefit bulk customers by giving Royal Mail more commercial freedom to adapt these services to customers needs. It should also encourage a more level-playing field between operators in the provision of bulk services. Our evidence indicates that bulk mailers are more concerned with low prices than the key features of the universal service. In relation to the confirmation of universal service status for other specific services, Postcomm aims to replicate the generally understood regulatory position of these products, and has identified no likely material impacts arising as a result of the implementation of these proposals.

Consultation questions: Q1: Do you agree that references to bulk mail, and specifically Cleanmail and Mailsort 1400 (First and Second class), should be removed from Condition 2 of Royal Mail s licence and therefore from the universal service? Please explain your reasons to support or oppose the removal of bulk products from the universal service. Q2: Do you agree that stamps, meter and PPI are payment channels in relation to single piece items and therefore ought to be treated in the same way in terms of their universal service status? Q3: Do you agree with our proposed definition of single piece mail? If not, can you suggest an alternative? Q4: Do you agree that we should therefore modify Royal Mail s licence to include PPI First and Second class single piece mail in Condition 2? Q5: Do you agree that First and Second class single piece PPI mail should be subject to the same quality of service targets as stamped and metered mail and that we should modify Condition 4 accordingly? Q6: Do you agree that we should modify Royal Mail s licence to clarify that Recorded Signed For, Redirections (up to 12 months), Keepsafe, Poste Restante, Certificate of Posting, and/ or Business Collections should be provided as universal service products? Q7: Do you agree that the quality of service for single piece items that are sent via Recorded Signed For, Redirections (up to 12 months), Keepsafe, and Poste Restante, and the quality of service for Business Collections is already driven by Royal Mail s existing quality of service targets for First and Second class mail and collection points? Do you agree that there should be no additional quality of services targets specific to these services? Do you agree that the target for Certificate of Posting should be that all customers requesting a Certificate of Posting receive one?

Summary Summary S.1 In our Forward Work Plan 2010-2012 1 and in our May 2010 consultation document on proposals for a new regulatory framework 2, we said we would review the universal service. This document follows from our workstrand on the universal service and reviews the option of removing bulk products from the universal service. It also clarifies, in other respects, the existing composition of the universal postal service that should form the basis of Royal Mail s licence under both the current regulatory framework and, in turn, the composition of the universal service under the new regulatory regime proposed by the Postal Services Bill 3 ( the Bill ), assuming the Bill is enacted in its present form. S.2 This document is accompanied by a formal proposal for a modification of Condition 2 of Royal Mail s licence ( Condition 2 ) Provision of universal postal service in the United Kingdom, and related changes to Condition 4 Services, standards of service and compensation 4 ( Condition 4 ), which begins the formal process necessary to make changes to Royal Mail s licence. We believe that it is prudent to commence the formal process so that, if appropriate, we are in a position to implement our decision before the Bill receives Royal Assent. The proposed licence modifications simply reflect what is set out in this document. However, we emphasise that this does not mean that we have prejudged the outcome of this consultation, merely that, if the outcome of the consultation is that we should make all or any of the changes suggested to the universal service, we are able to do so quickly. S.3 Following our Forward Work Plan 2010-2012 and our May 2010 consultation document setting out that we would review the universal postal service, we published the findings of our extensive research on the needs of customers from the universal service, commissioned jointly with Consumer Focus, in November 2010 5. We have also published a report by Frontier Economics updating its 2008 findings 6 on the net cost of certain elements of the universal service 7, and our views on the affordability of the universal postal service 8, alongside this document. 1 Postcomm, Forward Work Plan 2010-2012, http://www.psc.gov.uk/documents/27.pdf 2 Postcomm, Laying the foundations of a sustainable postal service, May 2010, http://www.psc.gov.uk/documents/764.pdf 3 Introduced to Parliament in October 2010. The Postal Services Bill as introduced to the House of Lords is at http://www.publications.parliament.uk/pa/ld201011/ldbills/038/11038.i-v.html 4 Postcomm, Licence granted to Royal Mail Group Limited, March 2001, as subsequently amended http://www.psc.gov.uk/documents/962.pdf 5 TNS-BMRB, Customer needs from a sustainable universal postal service in the UK, November 2010, http://www.psc.gov.uk/universal/customerneedsresearch 6 Frontier Economics, Net costs of elements of the universal service, May 2008, http://www.psc.gov.uk/documents/1579.pdf 7 Frontier Economics, The net cost of elements of the universal service an update, February 2011, published on the same day as this consultation and available on our website, www.psc.gov.uk 8 Postcomm, Discussion paper on affordability, February 2011, published on the same day as this consultation and available on our website, www.psc.gov.uk i

Summary S.4 Our research shows that bulk mailers appear to value low prices rather than any specific features of the universal service, in particular uniform pricing. Due to changes in market conditions, there are now also alternatives to Royal Mail s bulk services. This evidence indicates that it may no longer be necessary to have bulk products in the universal service to meet the needs of bulk customers. Industry stakeholders have been discussing this issue for some time and, in light of the evidence we have gathered to date, we consider that it is appropriate to consult formally on this issue, in particular to gather further views from the users of bulk products. S.5 In line with our decision in 2004 about the composition of the universal service, we also aim to clarify the current composition of the universal service, as a basis for the initial conditions 9 which will be set by Ofcom. We consider that this will help a smooth transition to the new regulatory regime, in addressing some uncertainty about the status of these products. S.6 In Chapter 1 we discuss the objectives of, and the background to, this consultation. We outline our work on a new regulatory framework for 2012 in the context of the Postal Services Bill. Amongst other major proposals, the present provisions in the Bill retain the regulator s primary universal service duty, re-affirm the key features of the universal postal service, and transfer regulatory responsibility for postal services from Postcomm to Ofcom. S.7 The Bill also establishes an authorisation regime closely modelled on that in the electronic communications sector. It provides for a number of different forms of regulatory conditions to be imposed on the universal service provider and other operators. The Bill provides that Ofcom must ensure that initial regulatory conditions applicable to postal operators are similar to the licence conditions in place immediately before it assumes regulatory responsibility for postal services. This means, in effect, a transposition of the current licences into the general authorisation regime established by the Bill, as a starting point. S.8 With this in mind, Chapter 1 outlines how this consultation will assist in ensuring a smooth transition into the regulatory regime proposed by the Bill in relation to the composition of the universal service. S.9 In Chapter 2 we discuss the basis of the universal service. The key features of the universal service are set out in primary legislation, in essence: collection and delivery of post everywhere in the UK, at the same affordable uniform price, every working day 10. The Bill reflects the current essential features of the universal service when it describes the minimum requirements of the universal 9 Postal Services Bill, Schedule 9, as introduced to the House of Lords http://www.publications.parliament.uk/pa/ld201011/ldbills/038/11038.i-v.html 10 Postal Services Act 2000, section 4, http://www.legislation.gov.uk/ukpga/2000/26/contents ii

Summary service 11. The products listed in Condition 2 of Royal Mail s licence at the moment, and which Royal Mail is obliged to provide in the discharge of its universal service obligation, are: First class stamped mail and First class metered Second class stamped mail and Second class metered Standard Parcels Airmail and Surface Mail Special Delivery Next Day Cleanmail (this does not include the new Cleanmail Advance Product) Mailsort 1400 (First and Second class only, not Third class) International Signed For, when sold with single piece air mail and surface mail services S.10 In Chapter 3 we provide the background to Postcomm s decision in 2005 to retain Cleanmail and Mailsort 1400 First and Second class in the universal service. We present evidence on relevant developments in the market since 2005, about recent usage of the universal service bulk products, bulk customers needs from the postal market, and the provision of bulk mail services by other postal operators. S.11 Our research into the needs of bulk mail users from the universal service shows that they prioritise the importance of low-price bulk products, but that they place less value on the key features of the universal service, in particular accepting the concept of zonal pricing. The provisional conclusions of our market study also shows that the bulk mail market is increasingly competitive, although Royal Mail retains market power in these markets. S.12 We also consider that it is unlikely that Royal Mail would stop providing bulk products, or indeed the current universal services on a universal basis, as long as there is demand for these products. This is because of the significant contribution that bulk products make to the financing of the universal service and the fact that Royal Mail continues to have to collect and deliver single piece mail on a universal basis. S.13 In Chapter 4 we provisionally conclude that stamps, including Smart Stamps, meter and Printed Postage Impression (PPI) are all payment channels used for the same postal product. Accordingly, Postcomm considers the First and Second class single piece postal products provided by Royal Mail to be part of 11 Postal Services Bill, clause 30. The Postal Services Bill as introduced to the House of Lords is at http://www.publications.parliament.uk/pa/ld201011/ldbills/038/11038.i-v.html iii

Summary the universal service, irrespective of the payment channel used. We propose a modification to Condition 2 of Royal Mail s licence to clarify this, and we propose the following definition for the purposes of Condition 2 to clarify the meaning of single piece in relation to universal service products paid for by PPI, meter and stamps, as: the service of conveying postal packets 12, with no value added services or premium attributes, at a price which is not subject to any discounts related to volume of mail per mailing or presentation of mail, and regardless of payment channel used. S.14 In Chapter 5 we explain that, in 2004, Postcomm decided the following products should also be provided as part of the universal service: Recorded Signed For Redirections (up to 12 months) Keepsafe Poste Restante (free) Certificate of Posting (free) Business Collections S.15 These products are, however, not currently listed in Condition 2 of Royal Mail s licence. We therefore propose to include them in Condition 2 in order to clarify and confirm their universal service status. 12 The term postal packet is defined by section 25 of the Postal Services Act 2000 to include both letters and packets: postal packet means a letter, parcel, packet, or other article transmissible by post, http://www.legislation.gov.uk/ukpga/2000/26/contents. iv

Contents Contents Summary... i Chapter 1: Introduction... 1 Building a new regulatory framework for 2012... 1 This consultation... 2 Chapter 2: The universal service... 9 What is the universal service?... 9 Reviewing and clarifying the postal products which must be provided as part of the universal service.. 11 Research into the needs of customers from the universal service... 13 Customer Interest Forums... 14 Chapter 3: Removing bulk products from the universal service... 17 Background... 17 Evidence on changing customers needs... 19 Implications of removing bulk products from the universal service... 25 Chapter 4: Single piece products in the universal service... 30 Stamps, meter and PPI are payment channels... 30 Implications for the single item products and their associated payment channels... 33 Chapter 5: Support services and other services to be included in Condition 2.. 37 Support services considered part of the universal service... 37 Resolving the status of these products... 39 Appendix A: Glossary... 43 Appendix B: Table showing products listed in our 2004 decision on the universal service as part of the universal service... 46 Appendix C: Draft Licence modification... 47 Appendix D: Impact assessment... 52 General... 52 Introduction to impact assessments... 52 Removal of Mailsort 1400 1c/ 2c and Cleanmail from the universal service... 55 Equality Impact Assessment... 60

Chapter 1: Introduction Chapter 1: Introduction Building a new regulatory framework for 2012 1.1 This consultation is part of a series of documents to be published by Postcomm that set out initial views on the building blocks for a new regulatory framework to be in place from 2012. Our aim is to maintain the momentum for much needed change to the regulation of postal services, and to do what we can to help develop a stable regulatory environment that, in particular, safeguards the universal service and protects the interests of customers. 1.2 These proposals are being made while Postcomm retains regulatory responsibility for postal services under the Postal Services Act 2000. Since it is intended that regulatory responsibility will transfer to Ofcom under the system set out in the Postal Services Bill 2010 ( the Bill ), both Ofcom and Postcomm have agreed to work together as far as practicable to maintain regulatory stability. 1.3 In developing initial proposals consistent with our current statutory duties, therefore, Postcomm also considers it appropriate to take due account of the likely scope of regulation under the Bill. This means that Ofcom will be able to rely on our work after the transfer of regulatory functions to the extent relevant and appropriate given the new legislative framework under which it is expected to operate. 1.4 Following the publication of this document we will shortly publish consultations on our provisional conclusions on the retail market study for Letters and Large Letters and other products not yet considered in our market study work, and initial proposals for the regulation of access taking account of our review of the current regime. 1.5 In turn these consultations are expected to be followed in March 2011 by initial proposals for the new 2012 regulatory framework, including initial proposals for the regulation of access and, later in March, consideration of the form and structure of a price and quality of service control, including consideration of relevant price controls for access, and accompanying safeguards of product cost transparency and accounting separation. They will also be followed by a consultation on our initial views on the market for outbound international mail. 1.6 Final proposals about the new regulatory framework, informed by our ongoing research and the views of interested parties on all these consultations, are currently expected to be published in late summer 2011. We would expect a 1

Chapter 1: Introduction final decision to be made about the new regulatory framework in early 2012 and the new regulatory framework to take effect in spring 2012. 1.7 As part of the transfer of regulatory responsibility, Ofcom will need to: consult as soon as practicable after Royal Assent on the initial authorisation conditions to apply to Royal Mail and other postal operators in light of the scope of the licences in place just before the regulatory provisions of the new Act come into force; and consider the scope of the first universal postal service order anticipated by the Bill. This consultation Background 1.8 Our primary duty is to ensure the provision of a universal service. We said in our Forward Work Plan 2010-2012 13 that an objective of our work programme is to put in place a new regulatory framework for 2012 that ensures the provision of a sustainable, affordable universal service that meets customers needs. We explained that we would undertake work to identify what customers need from the universal service now and in the future, and what services it should include and how these ought to be provided. We also said that we would assess whether the universal service is affordable and how affordability should be assessed, and ensure that the interests of vulnerable groups will be fully taken into account in the discharge of our functions. 1.9 In Annex 1 of Postcomm s May 2010 consultation document on proposals for a new regulatory framework 14, we set out more details on how we would review the universal service. We explained that the review had three principal workstrands: Understanding what customers need from a universal service Understanding what affordability means to customers Assessing the net cost to Royal Mail of providing a universal service that meets the needs of customers and is affordable 1.10 Since publishing our Forward Work Plan and our May consultation, we have commissioned research on customers needs and considered further what 13 Postcomm, Forward Work Plan 2010-2012, http://www.psc.gov.uk/documents/27.pdf 14 Postcomm, Laying the foundations of a sustainable postal service, Annex 1: Provision of a universal service, May 2010, http://www.psc.gov.uk/documents/87.pdf 2

Chapter 1: Introduction affordability means for customers. In November 2010, we published research commissioned jointly with Consumer Focus, the consumer watchdog, on customers needs from the universal service 15. This extensive research shows that customers use of communication channels is changing, but that they continue to value the postal service. Our research also showed high levels of satisfaction with the current universal postal service. 1.11 In conjunction with this consultation we also publish: An update 16 of the report we commissioned in 2008 17 from Frontier Economics on the net cost of certain elements of the universal service Our views on the concept of affordability in relation to the universal postal service 18 The report from the second wave of Customer Interest Forum meetings 19 1.12 The Postal Services Bill was introduced to Parliament in October 2010. Amongst other major proposals on postal services, the Postal Services Bill reaffirms the key features of the universal postal service and the minimum requirements set out in the current Postal Services Act. The Bill anticipates that Ofcom will have to specify by order ( a universal postal service order ) the description of services that it considers must be provided as a universal service. Prior to putting in place the first such order, Ofcom will not have to carry out an assessment of the extent to which the postal market is meeting the reasonable needs of users, although it will have to undertake such a review within 18 months of the new regulatory provisions coming into force 20. 1.13 While the precise legislative framework will not be certain until the Bill has completed its passage through Parliament, we have therefore concluded that, rather than undertake a fundamental review of the composition of the universal service, in the context of the transfer of our regulatory responsibilities to Ofcom, it would be appropriate to do the following: Consult on removing the remaining bulk products from the universal service Clarify the current composition of the universal service - we propose this clarification to ensure an orderly transition to the new regulatory regime once the new legislation is enacted 15 TNS-BMRB, Customer needs from a sustainable universal postal service in the UK, November 2010 http://www.psc.gov.uk/universal/customerneedsresearch 16 Frontier Economics, The net cost of elements of the universal service an update, February 2011, published on the same day as this consultation and available on our website, www.psc.gov.uk 17 Frontier Economics, Net costs of elements of the universal service, May 2008, http://www.psc.gov.uk/documents/1579.pdf 18 Postcomm, Discussion paper on affordability, February 2011, published on the same day as this consultation and available on our website, www.psc.gov.uk 19 Synovate, Postcomm Customer Interest Forum, Wave Two- Report, February 2011, published on the same day as this consultation and available on our website, www.psc.gov.uk 20 The Postal Services Bill as introduced to the House of Lords http://www.publications.parliament.uk/pa/ld201011/ldbills/038/11038.i-v.html 3

Chapter 1: Introduction Objectives of this consultation 1.14 This consultation document considers whether Postcomm should remove Cleanmail and Mailsort 1400 First and Second class, the two remaining bulk products in the universal service, from the universal service. We decided in 2005 to retain bulk services and these products in particular to ensure that bulk mailers, particularly smaller volume bulk mailers, continued to benefit from the safeguards of the universal service 21. We undertake this consultation to gather further evidence on whether the changes in the postal market since 2005 support the removal of bulk products from the universal service. 1.15 We think it is appropriate to undertake a consultation on removing bulk products from the universal service now, to ensure that Ofcom is able to rely on the most up-to-date and appropriate composition of the universal service when it rollsover the current regulatory regime during the transitional period. 1.16 This consultation document also clarifies the composition of the universal postal service. In accordance with our 2004 decision on the universal service 22, we confirm that we consider that: Stamps (including Smart Stamps), meter and Printed Postage Impression (PPI) are all payment channels rather than distinct products and Condition 2 of Royal Mail s licence should be clarified to confirm that all relevant single piece products should be included in the universal service. Consequently, the First and Second class single piece postal products provided by Royal Mail are part of the universal service, irrespective of the payment channel used. Some products which Postcomm decided in 2004 were part of the universal service, but which are not currently referred to in Condition 2 of Royal Mail s licence, are part of the universal service. Therefore, in the interests of reducing uncertainty, we propose that those products should be included in Condition 2. 1.17 Again we consider that this clarification should be helpful in the context of transition to a new regime. 1.18 This consultation document is accompanied by a formal proposal for a modification of Condition 2 of Royal Mail s licence ( Condition 2 ), Provision of universal postal service in the United Kingdom, and related changes to Condition 4, Services, standard of service and compensation 23. Condition 2 is important in defining the composition of the universal service because, in 21 Postcomm, The universal service for bulk mailers, June 2005, http://www.psc.gov.uk/documents/148.pdf 22 Postcomm, Decision document: the UK s universal service, June 2004, http://www.psc.gov.uk/documents/322.pdf 23 Postcomm, Licence granted to Royal Mail Group Limited, March 2001, as subsequently amended http://www.psc.gov.uk/documents/962.pdf 4

Chapter 1: Introduction addition to providing a general description of the universal service, it lists the products Royal Mail must provide as part of the universal service. Condition 4 specifies the quality of service standards which certain products and features of the universal service must meet. Our impact assessment 1.19 Impact assessments are an important way of ensuring that we have considered the impacts of major policy proposals. Our decision to produce and publish an impact assessment is made on a case by case basis to ensure that they do not place an undue burden on interested parties and that they are not disproportionate. 1.20 We have included an impact assessment in this consultation about the option of removing bulk products from the universal service (see Appendix D). We have considered whether it would be appropriate to undertake a full cost-benefit analysis for this proposal but concluded that a qualitative impact assessment is sufficient. This is particularly the case because the nature of the impacts of our proposals is difficult to quantify robustly, given the wider market uncertainties and parallel changes proposed to regulation, both of which would need to be reflected in any assumptions we make about what may happen if there were no changes. 1.21 We have not included an impact assessment on the clarification of the composition of the universal service in relation to PPI single piece, Recorded Signed For, Redirections (up to 12 months), Keepsafe, Poste Restante (free), Certificate of Posting (free), and Business Collections. This is because our consultation merely seeks to confirm what we consider to be the current position on the composition of the universal service, rather than making proposals to change it. Structure of this document 1.22 The table below sets out the structure of this document. Chapter Title Description Objective Summary 1 Introduction Provides an outline of the purpose and structure of this document and a proposed timetable for next steps. 2 The universal service Sets out what the universal service is To provide background information in relation to 5

Chapter 1: Introduction 3 Removing bulk products from the universal service 4 The single piece product in the universal service 5 Support services and other services to be included in Condition 2 Lists the services to be provided as part of the universal service Explains that we are consulting on removing bulk products from the USO and clarifying the composition of the universal service, but that we are not otherwise undertaking a fundamental review of the universal service Outlines research findings showing that customers continue to value the postal service Presents evidence on usage of the universal service bulk products, bulk customers needs from the universal service, the provision of bulk mail services, and market changes since Postcomm s decision to retain Cleanmail and Mailsort 1400 First and Second class in the universal service Concludes that requiring bulk products in the universal service may no longer be necessary Discusses the implications of removing bulk mail from the universal service Confirms that Postcomm considers that stamps, meter and PPI are payment channels Confirms that Postcomm considers that the First and Second class single piece mail products are part of the universal service irrespective of the payment channel used Clarifies that Postcomm considers products it decided in 2004 were part of the universal service, but are not listed in Condition 2, should be provided as part of the universal service the universal service to support this consultation To invite views on whether Postcomm should remove bulk products from the universal service To discuss payment channels in relation to single piece products To consult on the proposed licence modification to include PPI First and Second class products in Condition 2 To consult on the definition of single piece mail. To consult on a licence modification to include these products in Condition 2 6

Chapter 1: Introduction Timetable 1.23 The figure below sets out our timetable to implement our proposals and decisions 24. Views invited 1.24 We welcome views on the issues set out in this document, including our impact assessment, from all interested parties. In particular, we welcome views on the consultation questions which can be found at the end of each chapter and which are summarised at the front of the consultation document. 1.25 Responses should be sent or emailed to: Elisa Pruvost Postcomm Hercules House London SE1 7DB elisa.pruvost@psc.gov.uk 1.26 The closing date for responses is Tuesday 31 May 2011. 24 The Licence modification is subject to section 14 of the Postal Services Act 2000, http://www.legislation.gov.uk/ukpga/2000/26/contents 7

Chapter 1: Introduction 1.27 If you would like to discuss any points raised, please contact Elisa Pruvost by telephone 020 7593 2147 or email elisa.pruvost@psc.gov.uk. 1.28 Postcomm will make public all responses to this discussion document, subject to individual requests for confidentiality. If you do not want all or part of your response to be read by anyone outside Postcomm, please ensure that you clearly indicate which part is confidential. If you are happy for your contribution to be made public, but do not want the name of the organisation or individual who signed it to be revealed, please indicate this by adding the following: Name of organisation/ sender NOT to be published. 8

Chapter 2: The universal service Chapter 2: The universal service 2.1 This chapter sets out what the universal service is and lists the services to be provided as part of the universal service. 2.2 This chapter also explains that while we are consulting on the removal of bulk products from the universal service, and clarifying the composition of the universal service, we are not otherwise undertaking a fundamental review of the universal service. Finally, we outline research findings showing that customers continue to value the postal service. 2.3 The Postal Services Bill sets out Ofcom s primary duty, and the minimum requirements of the universal service, in a way that is essentially consistent with Postcomm s current primary duty, and which largely replicates the current definition of the universal service under the Postal Services Act 2000. We consider that our proposals are consistent with the regulatory regime anticipated by the Bill 25. What is the universal service? 2.4 Postcomm s primary duty is to seek to ensure the provision of a universal service: section 3(1) of the Postal Services Act 2000 requires Postcomm to exercise its functions in the manner which it considers is best calculated to ensure the provision of a universal postal service 26. The importance of the universal service was endorsed by the Hooper review which concluded that the UK s national network strengthens social cohesion by ensuring that everyone, whether in urban, rural or remote areas, has an accessible, reliable means of communication and the capacity to send and receive physical goods 27. The Postal Services Bill 28 also requires Ofcom to secure the universal service: clause 28 states that Ofcom must carry out their functions in relation to postal services in a way that they consider will secure the provision of a universal postal service 29. 25 It is recognised that amendments may be introduced as the Bill passes through Parliament. 26 Postal Services Act 2000, http://www.legislation.gov.uk/ukpga/2000/26/contents 27 An independent review of the UK postal services sector led by Richard Hooper CBE, Modernise or decline, December 2008, http://www.bis.gov.uk/files/file49389.pdf. Tthe report is referred to as the Hooper Report 28 The Postal Services Bill as introduced to the House of Lords http://www.publications.parliament.uk/pa/ld201011/ldbills/038/11038.i-v.html 29 The relevant clause in the Bill goes on to refer to a number of matters to which the regulator must have regard, specifically the financial sustainability and efficient provision of a universal postal service. Clause 28, Postal Services Bill as introduced to the House of Lords, http://www.publications.parliament.uk/pa/ld201011/ldbills/038/11038.i-v.html, latest accessed on 20 January 2011 9

Chapter 2: The universal service 2.5 The universal postal service itself is described in legislation. The underlying European Postal Services Directive 30 ( the Directive ) requires Member States to meet certain minimum requirements. The key requirements are: One collection and delivery to all addresses, five working days, in respect of postal items weighing up to 2 kilograms and postal packages weighing up to 10 kilograms 31 Services for registered and insured items Equivalent cross-border services All to be at affordable prices 2.6 These key features of the universal service are enshrined in the UK in the Postal Services Act 2000, along with an additional requirement for geographical uniformity of price, i.e. the one price goes anywhere requirement 32. The Postal Services Act 2000 also imposes a requirement to collect and deliver post every working day. In the UK, working day is defined as Monday through to Saturday in relation to letters, and as such the delivery and collection obligation for letters extends to six days a week. This is more than the EU minimum requirement of five days per week. The delivery and collection obligation for other postal packets is five days a week 33. 2.7 The Postal Services Bill also sets out the minimum requirements of the universal service and largely replicates the current definition. In particular the Bill requires one delivery and collection of mail every Monday to Saturday for letters and every Monday to Friday for packets, at affordable and uniform prices. 2.8 In essence the universal postal service can therefore be summarised as the collection and delivery of post everywhere in the UK, at an affordable uniform price, every working day. 2.9 Parliament has delegated to the regulator the task of identifying which specific services must be provided to meet the minimum requirements of the universal service. The Postal Services Bill anticipates that Ofcom will also be required to set out a description of the services which should be provided as universal postal services. 2.10 The Directive also requires quality of service standards to be set in relation to the universal service. In the UK, Postcomm has set quality of service targets in 30 Directive 97/67/EC as amended most recently by the Third Postal Directive 2008/6/EC, http://ec.europa.eu/internal_market/post/legislation_en.htm#proposal 31 Member States may increase this weight limit to 20kg and the UK did so 32 Postal Services Act 2000, http://www.legislation.gov.uk/ukpga/2000/26/contents 33 Section 125, Postal Services Act 2000, definition of working day, http://www.legislation.gov.uk/ukpga/2000/26/contents 10

Chapter 2: The universal service Condition 4 of Royal Mail s licence. The Bill anticipates that the universal postal service order will set out the standards with which those services must comply 34 and Ofcom may also impose performance targets in a designated Universal Service Provider (USP) Condition 35. 2.11 Currently, Condition 2 of Royal Mail s licence lists the following products which Royal Mail must provide to discharge its universal service obligation, and which must therefore meet the minimum requirements of the universal service 36 : First Class stamped mail and First Class mail metered Second Class stamped mail and Second Class mail metered Standard Parcels Airmail and Surface Mail Special Delivery Next Day Cleanmail (this does not include the new Cleanmail Advance Product) Mailsort 1400 (First and Second Class only, not Third class) International Signed For, when sold with single piece air mail and surface mail services 37 Reviewing and clarifying the postal products which must be provided as part of the universal service 2.12 As stated in the Directive, the universal postal service should evolve in the light of changing social, economic and technological conditions, and the changing needs of users. 2.13 Postcomm first determined the range of Royal Mail services to be provided as part of the universal service when it issued Royal Mail s licence in 2001. At that time the services chosen simply reflected the services offered by Royal Mail 38. 2.14 The services provided as part of the universal service were then the subject of reviews by Postcomm in 2003-2005. In April 2003, Postcomm started to 34 Clause 29(1)(b), Postal Services Bill as introduced to the House of Lords http://www.publications.parliament.uk/pa/ld201011/ldbills/038/11038.i-v.html 35 Clause 35(6), Postal Services Bill as introduced to the House of Lords http://www.publications.parliament.uk/pa/ld201011/ldbills/038/11038.i-v.html 36 Postcomm, Licence granted to Royal Mail Group Limited, March 2001, as subsequently amended http://www.psc.gov.uk/documents/962.pdf 37 Postcomm issued in January 2011 a decision to modify Royal Mail s Licence to include International Signed For in Condition 2, http://www.psc.gov.uk/documents/1707.pdf 38 Postcomm, The universal postal service in the UK: what services should be provided?, A consultation document, April 2003 http://www.psc.gov.uk/documents/507.pdf 11

Chapter 2: The universal service consult on the services to be provided as part of the universal service 39, and published its proposals in November 2003 40. We published our decisions in relation to single piece mail in June 2004 41, and in relation to bulk mail in June 2005 42. Postcomm specified the definition of the services to be provided as part of the universal service in Royal Mail s licence in the May 2006 licence modification for the 2006 2010 price control 43. 2.15 Since the 2003-2005 review, Postcomm has undertaken work on certain aspects of the universal service, for example annual customer surveys 44 to understand attitudes and behaviour towards postal services. In 2008 we also commissioned a study on the net costs of certain elements of the universal service 45. After the Postal Services Bill 2009 was withdrawn, we decided it was appropriate to undertake a review of the universal service, to contribute to the new price control which we aimed to implement for April 2012. 2.16 We decided such a review was especially timely in view of customers changing communications patterns: the continuing decline of social mail, the growth in packets volumes and the widespread use of electronic communications. 2.17 In Annex 1 of our May 2010 consultation document 46, we invited views on the work we were undertaking to review the universal service, although we did not ask specific questions. We received a total of 13 responses. Overall, respondents recognised that a review of the universal service was needed. Two operators said that it was important for Postcomm to review the universal service because the scope of the universal service will have an impact on the wider regulatory regime. 2.18 Subsequently however, in October 2010, the Government introduced a new Postal Services Bill 47. The Postal Services Bill is currently progressing through Parliament. Amongst other major proposals on postal services, the Postal Services Bill re-affirms the key features of the universal postal service, and transfers regulatory responsibility for post from Postcomm to Ofcom. 39 Postcomm, The universal postal service in the UK: what services should be provided?, A consultation document, April 2003 http://www.psc.gov.uk/documents/507.pdf 40 Postcomm, Review of the universal postal service: Postcomm s proposals, November 2003 http://www.psc.gov.uk/documents/175.pdf 41 Postcomm, Decision document: the UK s universal service, June 2004, http://www.psc.gov.uk/documents/322.pdf 42 Postcomm, The universal service for bulk mailers, June 2005, http://www.psc.gov.uk/documents/148.pdf 43 Postcomm, Royal Mail s price and service quality review 2006-2010, Licence Modifications Proposals, March 2006 http://www.psc.gov.uk/documents/1383.pdf 44 http://www.psc.gov.uk/regulating/surveys 45 Frontier Economics, Net costs of elements of the universal service: A report prepared for Postcomm, May 2008 46 Postcomm, Laying the foundations of a sustainable postal service, Annex 1: Provision of a universal service, May 2010, http://www.psc.gov.uk/documents/87.pdf 47 Postal Services Bill as introduced to the House of Lords http://www.publications.parliament.uk/pa/ld201011/ldbills/038/11038.iv.html 12

Chapter 2: The universal service 2.19 We have therefore concluded that in the context of the transfer of our regulatory responsibilities to Ofcom, it would be appropriate to clarify the current composition of the universal service. We propose this clarification to ensure an orderly transition of the regulatory regime once the new legislation is enacted. 2.20 However, we also think it is appropriate to undertake a consultation to test whether it would now be appropriate to remove bulk products from the universal service. Given the changes in the market, we want to ensure that Ofcom is able to rely on the most up-to-date and appropriate product composition of the universal service when the current regulatory regime is transposed into the new general authorisation regime and a new price control is set. 2.21 We would aim to implement any decision, if appropriate, before the Postal Services Bill receives Royal Assent. During the transitional period, Ofcom will have to set the initial conditions, in this context, essentially transposing licence Conditions 2 and 4. While this is not necessary when making the first universal postal service order, within 18 months of the new regulatory provisions under the Bill coming into force, Ofcom will have to review the extent to which the postal services market is meeting the reasonable needs of users of postal services. Research into the needs of customers from the universal service 2.22 As part of the universal service project, Postcomm has worked with Consumer Focus to commission joint research into the needs of postal customers, appointing TNS-BMRB in March 2010 to undertake the research work. 2.23 The research explored the needs of residential, business and bulk customers, as both senders and recipients of mail. It also covered the needs of special interest groups, described in the Postal Services Act 2000 as individuals who are disabled or chronically sick, individuals of pensionable age, individuals with low incomes, and individuals living in rural areas 48. 2.24 Our research on customer needs found that post is still an important method of communication and people recognise the importance of the postal service, including having a uniform price regardless of where mail is sent in the UK: 85% of residential customers agreed that they will always need to send some things by post. 48 TNS-BMRB, Customer needs from a sustainable universal postal service in the UK, November 2010 http://www.psc.gov.uk/universal/customerneedsresearch 13

Chapter 2: The universal service 66% of residential customers agreed that they like receiving post, with only 15% disagreeing. Around half of residential customers surveyed had used Standard Parcels in the last year, two-fifths had used Recorded Delivery and a quarter had used Special Delivery. Residential customers receive far more mail than they send: three-fifths receive six or more items a month. In contrast, around half of customers report typically sending fewer than two items a month. Customers who are sending more mail than three years ago are also sending more parcels, and customers sending less mail than three years ago are also sending more parcels overall. A quarter of customers say they receive parcels. Most residential customers say that the ability to send an item of mail for the same price to anywhere in the country is an important part of the universal service. Our research shows that 57% disagreed that they would be prepared to pay different prices depending on which part of the country they were sending their post to, compared with 28% who agreed they would be willing to pay different prices depending on which part of the country they were sending their post to (and 13% who did not know). In addition, 93% of businesses that send single piece mail agreed that they will always need to send some things by post. 2.25 Our research also found that the current service 49 is acceptable to nine out of 10 residential customers and nine out of 10 business customers. In relation to residential customers, there is little difference in acceptability across the subgroups. Compared with 91.3% of customers overall finding the current service acceptable, the groups who find it slightly less acceptable have a disability (89.9%), live in rural areas (88%), are of retirement age (86.8%) and are aged over 75 (83.6%). We know, however, that how acceptable a service is to customers is not necessarily synonymous with their needs from the service, and our reports explore customer needs in more detail. The full reports were published on 8 November 2010 and are available on our website 50. Customer Interest Forums 2.26 In 2010 Postcomm also created a network of Customer Interest Forums which meet on a quarterly basis across the UK, to enable Postcomm to ask customers for their views on a range of postal issues. There are five Forums (Glasgow, Cardiff, Belfast, Chesterfield and London), each consisting of approximately 20 49 First and second class services, collection and delivery on six days a week, 93% target for first class stamped and metered mail and a guaranteed and insured next day product (Special Delivery Next Day) 50 TNS-BMRB, Customer needs from a sustainable universal postal service in the UK, November 2010 http://www.psc.gov.uk/universal/customerneedsresearch 14

Chapter 2: The universal service residential and micro-business customers, brought together to discuss their experiences and issues surrounding the postal market. 2.27 To date, two Forum sessions have been held in each location with the final meetings to take place in March 2011. The first sessions explored customer views about universal postal services and the role of the postal regulator, together with providing information to Forum members to help inform future discussions. 2.28 A full report of the findings from the first wave of Forums was published on 8 November 2010 and is available on our website 51. The main findings from the first wave of Forums were: Customers consider the universal service to be a fundamental part of society and whilst they may well sometimes experience frustration or dissatisfaction with the postal service, they firmly value its existence. On the importance of postal services, participants agreed that it is essential for Postcomm to ensure that the postal service is accessible to everyone in society and that special account is given to individuals who are disabled or chronically sick, of a pensionable age, with low income and those residing in rural areas. On the uniform tariff, customers think that being able to send post anywhere in the UK for the same price makes the postal service system convenient and straightforward. Customers appreciate the fact that they do not have to think about how much it will cost them to send their post to different locations throughout the UK. 2.29 The second sessions discussed the issue of affordability of postal services. The report from the second wave of Forums is published alongside this consultation 52. The findings in relation to the universal service from this second report confirmed the findings in the first report. In particular, on discussing the one-price goes anywhere uniform tariff: Most participants were very positive that it costs the same price to send mail anywhere in the UK. It makes the postal service system convenient and straightforward for all. Customers appreciate the fact that they do not have to think about how much it will cost them to send their post to different locations throughout the UK. 51 Synovate, Postcomm Customer Interest Forum, Wave One Report, October 2010, http://www.psc.gov.uk/latestnews/2010/latestnews/2010/customerinterestforum/ 52 Synovate, Postcomm Customer Interest Forum, Wave Two- Report, February 2011, published on the same day as this consultation and available on our website, www.psc.gov.uk 15

Chapter 2: The universal service There are concerns the system could become unnecessarily complicated and expensive for some if they were charged different prices to send mail to different locations within the UK. 16

Chapter 3: Removing bulk products from the universal service Chapter 3: Removing bulk products from the universal service 3.1 This chapter presents evidence on usage of the universal service bulk products, bulk customers needs from the universal service, the provision of bulk mail services, and market changes which have occurred since Postcomm s decision to retain Cleanmail and Mailsort 1400 First and Second class in the universal service in 2005. This chapter concludes that requiring bulk products in the universal service may no longer be necessary, and discusses the implications of removing bulk mail from the universal service. Background 3.2 In its 2004 decision document on the universal service, Postcomm decided that the universal service should include a bulk mail service up to 2 kilograms. Later in 2004, Postcomm set out proposals to clarify the bulk product which should be provided as a universal service 53. In its 2005 decision document on the universal service for bulk mailers 54, Postcomm decided that the two bulk products which should be provided as part of the universal service were Mailsort 1400 (First and Second class) and Cleanmail. 3.3 Mailsort 1400 (sorted approximately 1,500 ways) requires a high degree of sortation, but mail can be any weight up to 2kg if sending packets, and can be non-machine-sortable. Mailsort 1400 also caters for irregular sizes. The minimum volume is 4,000 letters (or 2,000 if the mailing is within the same postcode area) or 1,000 large letters, A3 packets or packets 55 per posting. 3.4 In contrast Cleanmail requires no sortation, but a lower weight of mail up to only 100g. All mail must be optical character readable (OCR) or use bar-codes readable by machines (customer bar codes (CBC)). With a minimum posting of 1,000 items we said in 2005 that it was Royal Mail s entry-level product for bulk products. Under Condition 2 Cleanmail must be made available as a universal service as both First and Second Class products. Royal Mail has recently proposed to extend further the reach of Cleanmail by reducing the minimum posting level to 500 items per posting. 3.5 There are two products related to Cleanmail, one of which is part of the universal service. Cleanmail Plus, a variant of Cleanmail introduced in 2005 56, requires 95% address accuracy (compared with 90% for Cleanmail), and 53 Postcomm, A revised market opening timetable, proposals for consultation, September 2004, http://www.psc.gov.uk/documents/1409.pdf 54 Postcomm, The universal service for bulk mailers, a decision document, June 2005, http://www.psc.gov.uk/documents/148.pdf 55 Royal Mail s website, http://www2.royalmail.com/discounts-payment/discounts-letters-uk/mailsort-1400/details 56 Royal Mail s response to Requirement to Furnish Information (RFI), 10 January 2011 (not publicly available) 17

Chapter 3: Removing bulk products from the universal service attracts a greater discount for users 57. Cleanmail Plus is not considered to be a separate product from Cleanmail and is part of the universal service. Cleanmail Advance, introduced in 2007, is easier for customers to use as it has fewer requirements than Cleanmail. There is for instance no minimum level of address accuracy 58. Cleanmail Advance is not considered to be part of the universal service. 3.6 The rationale for including some bulk mail services in the universal service in 2005 was to ensure that bulk customers had the option to use a universal uniformly priced service, in the absence of a wide range of alternative offers from other operators and especially for small bulk mailers. Postcomm decided to include both Mailsort 1400 and Cleanmail for the following reasons: Mailsort 1400 was the most commonly used Royal Mail bulk product at the time. Cleanmail was more accessible for lower volume bulk mailers because it did not have the sortation requirements of Mailsort 1400 59, but it was not sufficient on its own to meet what Postcomm considered to be required to meet users needs. 3.7 We recognised in 2005 that the composition of the universal service should evolve with the needs of users. We stated that: In time, as technology develops and customers expectations change, it is likely that the universal service and the products it comprises will need to change 60. This is recognised in Article 5 of the Directive, which says that the universal service should evolve in response to the technical, economic and social environment and to the needs of users. We acknowledged at the time that, if Cleanmail and Mailsort 1400 subsequently became less attractive for customers, then it may be necessary to review the specific products that Royal Mail has to provide as universal services. 3.8 We provide evidence below on the usage of bulk products and in particular Cleanmail and Mailsort 1400 (First and Second class), the needs of users, and competition in the market. 57 Royal Mail s website, http://www.royalmail.com/portal/rm/content3?mediaid=50800692&catid=600103 58 Royal Mail s response to RFI, 10 January 2011 (not publicly available) 59 Postcomm, The universal service for bulk mailers, a decision document, June 2005, http://www.psc.gov.uk/documents/148.pdf 60 Postcomm, The universal service for bulk mailers, a decision document, June 2005, http://www.psc.gov.uk/documents/148.pdf 18

Chapter 3: Removing bulk products from the universal service Evidence on changing customers needs Usage of Cleanmail and Mailsort 1400 (First and Second class) 3.9 The overall decline in mail volumes is well documented. Richard Hooper s 2008 Report showed that since 2003 mail volumes have stopped fluctuating broadly in line with the economy, and that digital communications have been driving a wedge between economic growth and the demand for letters. Mail volumes have declined every year since 2005-06 61, reaching 18.8bn in 2009-10 62. In contrast, bulk volumes overall, including bulk products handled by access operators, have gone up and down between 2003-04 and 2009-10, with the result that current volumes are similar 63 to those of 2003-04 64. 3.10 Against that background, although Mailsort 1400 remains the most used of the Mailsort products (First and Second class), Mailsort 1400 volumes have fallen year-on-year since 2005-06. The decline in Mailsort 1400 volumes is due to customers using other communication methods, customers switching to access operators and other Royal Mail products and, recently, a decline in overall demand as a result of general economic conditions 65. 3.11 Cleanmail (including Cleanmail Plus) volumes have also decreased since 2006-07. This is due to a variety of reasons, including customers switching to access operators, customers switching between Royal Mail products, and customers switching to Cleanmail Advance which was introduced in 2007 66. Since then, Cleanmail Advance volumes have overtaken Cleanmail (including Cleanmail Plus). In 2008-09 and 2009-10, volumes for Cleanmail Advance were higher than for Cleanmail and Cleanmail Plus combined. 3.12 In our 2005 decision document, we showed that in 2003-04 Mailsort 1400 First and Second class were, when combined, the most used of all bulk products, at 20% of all Royal Mail s bulk product volumes, and that Cleanmail represented 6% of Royal Mail s bulk products by volume 67. In 2009-10 Mailsort 1400 First and Second class combined represented less than 10% of all bulk product 61 Independent review of the UK postal service sector, The challenges and opportunities facing UK postal service, An initial response to evidence, May 2008, http://www.bis.gov.uk/files/file46075.pdf 62 Postcomm, Laying the foundations of a sustainable postal service, May 2010, http://www.psc.gov.uk/documents/764.pdf 63 The product mix of mail usage can change over time, for example the 2009-10 figures include some single piece mail which has switched to access bulk mail. 64 Supporting information to the regulatory accounts from Royal Mail (not publicly available) 65 Royal Mail s response to RFI, 10 January 2011 (not publicly available) 66 Royal Mail s response to RFI, 10 January 2011 (not publicly available) 67 There are no figures for access volumes in 2003-04 as there was no access competition 19

Chapter 3: Removing bulk products from the universal service volumes including access products, and Cleanmail (including Cleanmail Plus, excluding Cleanmail Advance) represented less than 5% 68. Figure 1: Proportion of Mailsort 1400 First and Second class and Cleanmail out of the total volume of bulk mail Bulk customers needs from the universal service 3.13 As part of our research on customers needs from the universal service, we commissioned a report on bulk customers needs from the universal service. This qualitative research was based on interviews with 30 users of Mailsort 1400 and Cleanmail 69. 3.14 The results of the research showed that post remains important to these users of the universal service bulk products, but that price is their main concern. The research implies that these universal service users do not require bulk products to be part of the universal service. Despite being users of it, they are generally unfamiliar with the concept of the universal service in terms of the safeguards it entails. The research showed the following specific results: 68 Supporting information to the regulatory accounts from Royal Mail (not publicly available) 69 TNS-BNRB Report, Bulk mailer needs from a sustainable universal service, November 2010, http://www.psc.gov.uk/documents/1179.pdf 20

Chapter 3: Removing bulk products from the universal service Post as a communication channel remains important, and the only channel for some types of bulk customers (e.g. those without email access) or types of mail (e.g. some legal documents). Post is also viewed as a more inclusive channel. A key feature of post seems to be that it reaches everywhere in the UK, as post is often the default option and one respondent said it s the only way we can contact all residents in the UK. Bulk mailers are highly price sensitive. Price is the key driver for bulk mailers, and it is substantially more important than the other attributes of post which were tested as part of the research trade-off exercise (a two-day service, reduction in the quality of service, reduction in the number of collection and delivery days, additional features). The options of a reduction in quality of service, or moving to a single tier service instead of having First and Second class services, were felt to be more acceptable than paying more to maintain the current service. The concept of zonal pricing (which is a potential pricing feature only enabled outside of the universal service) is not a new one. Some bulk mailers anticipate it will happen for bulk products generally in the near future. The main concerns focus on the practical implementation: there is a fair amount of concern about how postal services operators will make this work logistically for their customers, as well as potential increased costs. The report shows that businesses appreciate that the current universal service, which offers a uniform price for all parts of the UK, is likely to be making a loss and that zonal pricing is reasonable and sensible. Those with a more local and less dispersed customer database are more in favour of zonal pricing. Those with a geographically dispersed customer base envisage that they will need to pass on extra costs 70 to customers. Some businesses say they will adapt by minimising the miles a document needs to travel by using a mailing house closer to their customer base or one that is centrally located. A reduction in the number of days post is delivered and collected is more acceptable than raising the price of First class stamps from 41p to 49p. However, the number of days on which post is collected and delivered is the next most important attribute after price. Overall, current service levels score highly in terms of acceptability to customers, with those finding the service less acceptable being more likely to use access operators to meet their needs. Most bulk mailers say they are unfamiliar with the universal service in terms of the concept and nature of the obligation. They are also unaware that certain products are part of the universal service. 3.15 Bulk products in the universal service are used by both large and small bulk mailers. Cleanmail 71, originally identified by Postcomm as important for small 70 Assuming there are extra costs in relation to some customers 71 In this paragraph, Cleanmail includes Cleanmail Plus, but not Cleanmail Advance which is not in the universal service. 21

Chapter 3: Removing bulk products from the universal service customers, is in 2009-10 used predominantly by large mailers (as a total of customer numbers), whereas more small customers use Mailsort 1400 First and Second class than either large customers or top customers (as a total of customer numbers) 72. This seems to indicate that the original rationale to include Cleanmail in the universal service, to safeguard the interests of lower volume bulk mailers in particular, may be less relevant today. 3.16 Information from our surveys confirms that many customers spending over 50,000 a year on post use Cleanmail, whereas customers spending less than 50,000 a year appear to use mostly single piece products: Information from our 2009 Business Customer Survey 73 shows that 36% of top spenders 74 use Cleanmail, compared with 23% of all surveyed. Our 2011 Retail Market Survey conducted by Ipsos MORI 75 showed that only 1% of small and very small mailers 76 overall use bulk products. Of mailers spending more than 50,000 a year on mail, one in four use some sort of mail sorting (e.g. Mailsort 3) and one in four mention Cleanmail to reduce costs in comparison to stamped and franked mail. Our research on bulk customers needs from the universal service seems to indicate that the minimum 1,000 threshold for Cleanmail is still high for small businesses. Smaller volume mailers adapt to the threshold and wait until the number of items hit the threshold level before mailing the items out. The research indicated that a lower threshold for a volume-related discount, albeit attractive, would be a nice to have rather than a strong need. In this respect we note that Royal Mail is proposing to lower the threshold to 500 items for customers to qualify for Cleanmail. Provision of bulk products 3.17 The evidence from our customer needs research indicates that while bulk mailers may not require bulk products to be in the universal service, they continue to provide a commercial demand for bulk products and will do so for the foreseeable future. We consider that bulk products would continue to be provided regardless of whether or not they are in the universal service because the revenues generated from the provision of bulk products are above the incremental costs avoided by not providing the products concerned, and the associated contributions are therefore critical to the financial viability of Royal Mail in its current configuration. 72 In this paragraph, small customers spend less than 50,000 on post a year with Royal Mail, large customers spend between 50,000 and 1 million a year with Royal Mail, and top customers spend over 1 million a year. 73 Postcomm, Business Customer Survey 2009, May 2010, http://www.psc.gov.uk/documents/51.pdf 74 In the 2009 Business Customer Survey, top spenders are defined as spending more 500,000 a year on mail. 75 Research commissioned by Postcomm and undertaken by Ipsos MORI for the retail market study, shortly to be published. 76 Spending between 50,000-5,000 (small mailers) or less than 5,000 (very small mailers) every year on mail 22

Chapter 3: Removing bulk products from the universal service 3.18 Royal Mail s half-year results show that Royal Mail has moved from an operating profit 77 last year to an operating loss of 66 million 78. Bulk products in the universal service made an operating profit of 17 million in 2009-10. Revenues from the bulk products in the universal service were 219 million in 2009-10. This is significant given Royal Mail s operating loss, but needs to also be taken into the context of the total external revenue within the regulatory accounts of 6,659 million 79. Royal Mail continues to provide most of the bulk products removed from the universal service in 2005-06 80, but which remain price controlled, specifically Mailsort 120, Mailsort 700, Mailsort 3 1400, Walksort, and Packetpost. Flatsort has been replaced by Packetpost We note that the services which we are proposing to remove from the universal services are directly comparable to those offered by other operators who do not have a universal service obligation. 3.19 In 2008 we commissioned a report from Frontier Economics ( Frontier ) on the net costs of elements of the universal service. The report clearly concluded that, as long as Royal Mail retains a universal service obligation to deliver other single piece mail in all areas, Royal Mail would continue also to provide a bulk mail service everywhere in the UK. This is because, in effect, the postman would continue to have to deliver mail to every address. 3.20 In 2010, we commissioned an update of this report, which confirmed Frontier s earlier conclusions (published alongside this consultation). The updated report showed that the potential savings of 250 million associated with stopping delivery of all bulk mail are small compared to the total revenue from bulk mail of 2,035 million. The analysis suggested that a strong positive contribution was being made in all of Royal Mail s current delivery zones (which therefore include rural and deep rural areas) 81. 3.21 Access competition has developed significantly since Postcomm s decision on the universal service in 2004 and competitive bulk products are now available to an increasing range of business customers. In addition to the alternatives offered by Royal Mail to its retail customers, there are now alternatives offered by other operators to Cleanmail and Mailsort 1400 for bulk customers of Second class products, for instance TNT Post s PremierSort services and TNT Post s Premier services 82 provided through Royal Mail s Access 1400 83. Lower volume bulk mailers sending as few as 250 items are now able to obtain 77 Operating Profit before exceptional items, interest and taxation. 78 Royal Mail Group, Half-year results 2010-11, November 2010, ftp://ftp.royalmail.com/downloads/public/ctf/rmg/half_year_results_2010_11.pdf 79 Royal Mail Group, Regulatory financial statements 2009-10, ftp://ftp.royalmail.com/downloads/public/ctf/rmg/200910_part1.pdf 80 Postcomm decided which bulk products should remain part of the universal service in 2005, and Royal Mail s Licence was modified in 2006. 81 Frontier Economics, Net costs of elements of the universal service, May 2008, http://www.psc.gov.uk/documents/1579.pdf 82 TNT Post website http://www.tntpost.co.uk/mail/00tnt_post_mail_solutions.html 83 Royal Mail Wholesale website, http://www.royalmailwholesale.com/index.php/services/service-options/services-list/ 23

Chapter 3: Removing bulk products from the universal service services from other operators, although Royal Mail retains a very significant market share and competition is only just beginning to emerge in these low volume letter and large letter retail markets. Our analysis of markets found that, although Royal Mail still has market power, the markets in which Cleanmail and Mailsort 1400 products are provided are increasingly competitive 84 : Cleanmail is part of the high volume (over 250 items) unsorted retail markets. Our analysis found that Royal Mail has market power for both D+1 and D+2 and later 85 letters and large letters services, but that the market is increasingly competitive in relation to the D+2 and later letters and large letters services. Some of Royal Mail s upstream competitors have invested in sorting machinery which allows them to offer unsorted products to companies sending as few as 250 items a day. This is indicative of the emerging competition in the D+2 and later high volume unsorted letters and large letters markets where products suitable for smaller bulk mailers are now being provided. The threshold of 250 items is well below Royal Mail s current Cleanmail threshold of 1,000 items and proposed threshold of 500 items. Mailsort 1400 is part of the deferred B2X 86 packet and parcel services market in relation to packets, and part of the pre-sorted retail markets for letters and large letters. In the deferred B2X packets and parcels services market, market power depends on the weight of the items. Under the terms of Royal Mail s current commercial specification, Mailsort 1400 packets cannot be heavier than 2kg, so belong to the light deferred market. In the light deferred market, Royal Mail has market power but the market is increasingly competitive for higher weights and volumes. In the pre-sorted D+1 and D+2 and later letter and large letter markets, Royal Mail has market power for all service speeds, however again we found that there is increasing competition in relation to D+2 and later letter and large letter services. In the case of both Cleanmail and Mailsort 1400, First class volumes are lower than Second class volumes. The areas of the market where Royal Mail retains market power without there being increasing competitive pressure are therefore smaller than where there is increasing competitive pressure. 84 Postcomm, Laying the foundations for a sustainable postal service, a decision document, Annex 1: Analysis of markets, November 2010, http://www.psc.gov.uk/documents/1158.pdf 85 D+2 and later than D+2. D+2 is a retail service that aims to deliver two working days after collection. 86 B2X: Items sent by consumers to either businesses or consumers (where the item is collected from the sender s premises) 24

Chapter 3: Removing bulk products from the universal service Implications of removing bulk products from the universal service Implications for the regulatory regime 3.22 Neither the Directive nor the Postal Services Act requires the inclusion of specific services in the universal service. Postcomm determines the specific services which should make up the universal postal service in the United Kingdom, subject to the minimum requirements set out in the Postal Services Act 2000 87. As discussed, bulk mail services were included in order to meet the perceived needs of users, in particular lower volume bulk mailers, in 2005. 3.23 Our 2010 review of the needs of bulk mail users from the universal service shows that bulk mail users prioritise the importance of low-price bulk products, but that they appear less attached to the key features of the universal service, in particular uniform pricing. Most bulk mailers are unfamiliar with the universal service in terms of concept and obligation and are unaware that certain products are part of the universal service. The decline of Cleanmail volumes 88 in favour of its newer variation Cleanmail Advance, which is outside the universal service, also seems to indicate that, in any event, Cleanmail is not necessarily the best entry-level product to meet the needs of senders of bulk mail. 3.24 The outcome of our recent market study also shows that the bulk mail market is increasingly competitive. As a result of this, consumers have greater choice than in 2005, when Postcomm took its decision to retain a bulk element in the universal service. We have also considered evidence from Frontier s report which suggests strongly that Royal Mail would continue to provide bulk mail on a universal basis, as long as Royal Mail retains an obligation to deliver mail in all areas. 3.25 In light of this, and having regard to our duty under the Regulatory Enforcement and Sanctions Act 2008 and the importance we attach to the good regulation principles 89, we consider that requiring a bulk mail element in the universal service may no longer be necessary. 3.26 We have also taken into consideration the impact of removing bulk mail services from the universal service obligation on the future regime for the regulation of postal services set out in the Postal Services Bill 90. The new 87 Section 4, Postal Services Act 2000, http://www.legislation.gov.uk/ukpga/2000/26/contents 88 Including Cleanmail Plus 89 These are principles under which regulatory activities should be transparent, accountable, proportionate, consistent and targeted only at cases in which action is needed. 90 While appreciating that the Bill has yet to complete its passage through Parliament. 25

Chapter 3: Removing bulk products from the universal service regime would limit the extent to which Ofcom could impose ex-ante regulation on Royal Mail, in particular limiting ex-ante regulation to universal service products and access. Therefore, if bulk mail no longer formed part of the universal service, Royal Mail is likely to have more commercial freedom generally in relation to the development of its bulk mail products, for example in relation to product specification, quality of service and pricing. 3.27 However, this does not imply that bulk mail would no longer be subject to any regulatory constraints. Royal Mail would also continue to be subject to general EU and UK competition law. Ofcom will be able to regulate access to Royal Mail s postal network. In practice, any bulk mail prices are likely to be restrained to a degree by the prices of single piece mail services. Finally, if the needs of users change, then Ofcom can take this into account in subsequent reviews of the universal service. Implications for customers 3.28 We do not consider that removing bulk products from the universal service would have a detrimental impact on customers. As discussed above, we consider that customers would continue to be able to use the range of bulk products offered by both Royal Mail and access operators. Even if these two products were to be discontinued, customers could use other Royal Mail products. For Cleanmail, there are alternatives such as Cleanmail Advance, or the First and Second class single piece services paid for by PPI and meter which would remain in the universal service, or unsorted services from access operators. For Mailsort 1400, there are alternatives such as the other Royal Mail Mailsort, Walksort and Packetpost products, or pre-sorted products available from access operators. 3.29 As noted above, removing bulk mail from the universal service would give Royal Mail more commercial freedom. In the absence of the constraints applied to universal service products, Royal Mail would be able to change more easily, under the proposed new regulatory regime: Product specification, including replacing a product over time with another, more targeted product Pricing, which currently must be uniform and affordable 91 Collection and delivery every working day Service quality, which is currently set by Condition 4 of Royal Mail s licence for both universal service and other products 91 For a discussion on affordability, see our document on affordability published alongside this consultation. 26

Chapter 3: Removing bulk products from the universal service 3.30 In addition, Royal Mail could offer a product specifically targeted at a region in the UK, or it could reflect costs more accurately in relation to zonal distribution, allowing Royal Mail to negotiate prices depending on the geographic distribution of customers mail. 3.31 Our research shows that bulk mailers were concerned about the complexity that zonal pricing would mean for them. This is a key commercial issue for Royal Mail and other postal services operators fulfilling customer needs in the wider bulk markets concerned. 3.32 It is possible that removing these bulk mail services from the universal service could mean that Value-Added Tax (VAT) would be applied to them, given the regulatory framework anticipated by the Bill, but we are unable to be certain of the future VAT treatment at this stage. We recognise that this would be of concern to customers, particularly those customers who cannot reclaim VAT. However, we consider that prices will continue to be constrained by competitive offers from third parties and bulk mailers high price sensitivity generally. 3.33 In addition, there does not seem to be a need for specific protection for vulnerable customers either as senders or recipients. Residential customers are not generally bulk mail users. As recipients of bulk mail, customers would only be affected if Royal Mail stopped delivering bulk mail but continued delivering single piece mail in specific areas, such as rural and deep rural areas. This is unlikely given that Frontier s analysis shows that stopping bulk mail delivery would provide much lower cost savings than the revenue generated by bulk mail, including in rural and deep rural areas, leading to a substantial loss in contribution if Royal Mail stopped delivering only some of its current mail volume. The table below summarises our views on removing bulk products from the universal service, and the potential impact on customers. Table 1: Summary of impact on users Is it required by legislation? Should it otherwise be provided at an affordable, uniform price, six [2] days a week? Is there an alternative product offering similar features? Is protection needed for vulnerable users specifically? Overall impact on users No Research shows that bulk mailers are primarily concerned about price. We consider that Yes, both from Royal Mail and from access operators in certain markets, specifically in relation to D+2 and later letter and large letter No. Residential users are unlikely to be affected as it is unlikely that Royal Mail would stop delivery in remote Neutral. It is unlikely that Royal Mail would stop providing bulk products including on a universal basis. Applying VAT could [2] 5 days for packets 27

Chapter 3: Removing bulk products from the universal service prices would continue to be constrained in a number of ways services, and in relation to packet and parcel services where there is increasing competition at higher weights. areas. Smaller bulk mailers can continue to benefit from Royal Mail s product innovation such as Cleanmail Advance have a negative impact but this would be balanced by Royal Mail s ability to have more commercial freedom. Implications for VAT 3.34 Her Majesty s Revenue and Customs (HMRC) currently treats universal service and price controlled services, including access services provided under Condition 9 of Royal Mail s licence, as VAT exempt. At present, this creates a distortion in competition for bulk mailers, where Royal Mail is exempt from VAT on its relevant universal service and price controlled retail products, but access operators have to charge VAT on upstream services. 3.35 As discussed above, if the Postal Services Bill becomes law, removing bulk mail from the universal service may result, from 2012, in Royal Mail s bulk mail being removed from the scope of regulation and therefore becoming subject to VAT. However, we do not consider that it is appropriate to consider the potential VAT implications as basis for a decision on whether bulk mail should remain in the universal service. Implementation 3.36 In order to implement a decision to remove Cleanmail and Mailsort 1400 (First and Second class) from the universal service, we would need to amend Condition 2 of Royal Mail s licence, to exclude these products from Royal Mail s obligation to provide them as universal services. If we were to decide that bulk products should be removed from the universal service, we would aim to implement this decision via a licence change quickly, if possible before the Postal Services Bill is enacted, to ensure that there is no uncertainty in the transitional period about the status of these products. The change would therefore take effect before the end of this parliamentary session, on the basis of Royal Assent in summer 2011. Implementing our decision quickly would allow our decision to be reflected in the new regulatory regime, in the initial conditions imposed by Ofcom, and would facilitate a smooth regulatory transition. 3.37 Therefore, we are consulting alongside this consultation on a proposed modification of Royal Mail s licence which removes Cleanmail, Mailsort 1400 (First and Second class), and the reference to bulk products from Condition 2. However, our publication of a draft licence modification on this issue does not mean that we have already decided that bulk products should be removed from 28

Chapter 3: Removing bulk products from the universal service the universal service; this document invites views on the principle of this policy. A decision will only be taken having considered the responses to this consultation and any additional evidence gathered in the intervening period. We think we can publish the draft licence modification formally now, however, as there would be no ambiguity about what needs to be done in such circumstances. Question for consultation Q1: Do you agree that references to bulk mail, and specifically Cleanmail and Mailsort 1400 (First and Second class), should be removed from Condition 2 of Royal Mail s licence and therefore from the universal service? Please explain your reasons to support or oppose the removal of bulk products from the universal service. 29

Chapter 4: Single piece products in the universal service Chapter 4: Single piece products in the universal service 4.1 This Chapter explains Postcomm s view that stamps, meter and Printed Postage Impression (PPI) are payment channels and not separate products. It also explains that we consider that, in consequence, the First and Second class single piece mail products are part of the universal service irrespective of the payment channel used. This view is consistent with Postcomm s 2004 decision on the composition of the universal service. Postcomm proposes a licence modification to make this clear. Postcomm also proposes a definition of single piece mail in relation to First and Second class mail purchased through stamps, meter or PPI. Stamps, meter and PPI are payment channels 4.2 Stamps, meter and PPI can all be used for buying single piece First and Second class mail. The PPI is an indication on the envelope that the postage has been paid 92 and can be used by customers with an account with Royal Mail 93. Meter is a way of paying postage in advance, and items have a franking impression made by a franking machine licensed by Royal Mail 94. Stamps are another way of paying postage in advance, and can be purchased widely in post offices and many other retail outlets (see Table 2). 4.3 In 2004 95, Postcomm decided that the universal service should include a priority and non-priority mail service, and that these should be provided by Royal Mail through its First and Second class services. We recognised in 2004 that there should be a range of payment methods for the priority and non-priority services, which are convenient to small and large mailers. 4.4 However, in Royal Mail s licence, Condition 2 lists and distinguishes First and Second class (stamped) mail and First and Second class metered mail as products to be provided as part of the universal service but does not refer to PPI. Also, in Condition 21 of Royal Mail s licence, meter and PPI First and Second class single piece items are listed separately as Controlled Services in Basket A of the price control 96. There has therefore been some confusion as to the difference between products (for instance First class mail) and payment channels (for instance meter). 92 Postcomm, Laying the foundations for a sustainable postal service: a decision document, November 2010, Chapter 8, Glossary 93 Royal Mail s website, http://www2.royalmail.com/discounts-payment/credit-account/ppi/details 94 Royal Mail s website, http://www2.royalmail.com/discounts-payment/franking/details 95 Postcomm, Decision document: the UK s universal service, June 2004, http://www.psc.gov.uk/documents/322.pdf 96 Online postage or SmartStamps are not considered as distinct universal products from stamps. 30

Chapter 4: Single piece products in the universal service 4.5 The differences between stamps, meter and PPI are illustrated below. Table 2: Differences between stamps, meter and PPI Stamp Meter PPI 0-100gram Letter price (first / second class) 41p/ 32p 36p/ 25p 36p/ 25p Conditions of use Payment in advance; no requirement to hold any stock as can be purchased directly from the Post Office or retail outlets; can be used for bulk products Payment in advance; requires a meter machine and a licence from Royal Mail; meter mail has to be posted on the date shown on the franking mark; can be used for bulk products Payment in arrears; requires a Royal Mail account and PPI stamp/printer or preprinted stationery stock; dependent on annual spend; most commonly used for bulk products Regulatory status Condition 2 and price controlled Condition 2 and price controlled Price controlled 4.6 In our November 2010 decision and consultation document on the 2011-12 regulatory framework 97, in relation to the regulation of the packet and parcel services markets 98, we noted that we were minded to conclude that the meter channel should continue to be price controlled. 4.7 The rationale for this decision is the conclusion that the meter channel crosses the Y2X 99 and B2X 100 market boundary as defined by our analysis of the packet and parcel services markets. The Y2X packet and parcel services market includes items sent by either consumers or businesses from collection points (e.g. a post office) to a consumer or business. For instance, Special Delivery items purchased by individual users and low volume business mailers are part of the Y2X packet and parcel services market. Our analysis of markets found that Royal Mail had market power in the Y2X market. In our November document, we proposed that where a product crosses the boundary between the Y2X and B2X markets, it should attract the regulatory safeguards reflecting Royal Mail s market power in the Y2X market. 4.8 In our November document, we decided that PPI should also remain in the price control for 2011-12. We have now considered whether stamp, meter and PPI are payment channels. We conclude that they all are payment channels for the following reasons: 97 Postcomm, Laying the foundations for a sustainable postal service, Decision Document, November 2010, http://www.psc.gov.uk/consultations/november2010decision/decisiondocument 98 As above, Annex 3: Price control and access, http://www.psc.gov.uk/documents/1163.pdf 99 The Y2X market is more fully the Y2X/C2X market As above, Annex 1: Analysis of Markets http://www.psc.gov.uk/documents/1158.pdf 100 Items sent by businesses to either businesses or consumers (where the item is collected from the sender s premises). 31

Chapter 4: Single piece products in the universal service Each payment method gives access to a variety of Royal Mail s products. It is possible to access the majority of Royal Mail s products using any of the three payment channels, although the method of access to the network (post boxes, post offices, meter post boxes and business collections) may differ. For instance, it is possible to purchase the Mailsort products with stamps, and a very small minority of customers do so. It is also possible to purchase single piece First and Second class public tariff letters using PPI, and in fact many customers do so. Prices are the same for meter and PPI. Contrary to meter, access to PPI is dependent on a minimum annual spend, but basic services paid for by PPI are currently the same price as meter (although only PPI mail is able to benefit from volume discounts on public tariff prices). Volume discounts on bulk products such as Mailsort are applicable to customers irrespective of payment method. The specification of service purchased and other details, such as delivery next day, do not differ depending on payment method. However, PPI has different quality of service standards from stamps and meter, and different compensation arrangements for delay 101. This difference is discussed below. The price structure for the meter and PPI payment channels is a reflection of both the costs to serve the payment channel and the typical characteristics of the mail that is posted through these payment channels which affect the cost of processing the items. 4.9 We accept that the characteristics of each payment method will attract a certain type of customer. Stamps are typically the only available payment method to those sending social mail, while users sending large quantities of mail have the option of using stamps, meter or PPI, but are most likely to use PPI for bulk mail 102. 4.10 From a customer s perspective, we note that all payment channels continue to be used, but this varies according to business size and spend, and that some businesses with particular needs for post value the discounts and convenience offered by meter and PPI. Our research into the needs of customers from the universal service identified the following in relation to business usage of stamps, meters and PPI for single piece mail 103 : Stamps are still widely used by businesses, with 58% using stamps to send single piece mail. Around one in 10 businesses use online postage. The meter channel is more widely used than PPI for sending single piece mail. The meter channel is used by around a third of businesses, whereas PPI is only used by around one in 10 businesses. 101 Annex to Condition 4, http://www.psc.gov.uk/documents/962.pdf 102 Royal Mail s response to RFI, 19 January 2011 103 The business survey screened out users of bulk mail and looked at the needs of business customers that send single-piece mail only. There was a separate study with bulk mailers. 32

Chapter 4: Single piece products in the universal service The use of payment channels varies by size of establishment, business sector and monthly spend on post. Use of stamps decreases as business size and monthly spend on post increases. Conversely, use of meter and PPI increases with size of business and monthly spend on post. Small businesses (one-10 employees) use stamps most (74%), whilst large businesses (250+ employees) use metered most (81%), and are the businesses using PPI most (25%). Public services are most likely to use meters (48%) and the production sector uses PPI more than any other sector (21% compared with 9% on average). Businesses in rural areas are less likely to use metered mail and instead are more likely than others to use online postage. Convenience and price are the key drivers for using meter and PPI. Implications for the single item products and their associated payment channels Clarification that First and Second class single piece items are part of the universal service irrespective of the payment channel used 4.11 In practice, the fact that meter single piece products are currently included in Condition 2, and PPI single piece products are not, has made little difference to outcomes for users. This is because the First and Second class single piece products are available through all payment channels, and single piece products offered by stamps, meter and PPI are all price controlled. The products identified with meter and PPI payment methods for single piece items are in the same basket as stamp products ( Basket A in Condition 21). The price of each product in the basket is capped by the average price increase for the basket and the sub-cap (set at 3% in 2011-12). 4.12 However, despite being simply payment channels for single piece products, the absence of a reference to PPI in Condition 2 of Royal Mail s licence means that slightly different regulatory requirements are imposed. The difference in the regulatory treatment of these products is likely to be more marked in future once the Postal Services Bill is enacted. Under the regime proposed by the Postal Services Bill as it currently stands, and if Ofcom included only products listed in Condition 2 in its universal postal service order 104, PPI would not be treated as a universal service product, and would therefore not be capable of 104 Subject to including additional products to be included in the minimum requirements of the universal service, clause 30 of the Postal Services Bill, as introduced to the House of Lords, http://www.publications.parliament.uk/pa/ld201011/ldbills/038/11038.iv.html 33

Chapter 4: Single piece products in the universal service being subject to controls under a designated Universal Service Provider (USP) condition 105, including as to price and quality of service. 4.13 This leads to a potential risk of a lack of even-handed regulatory treatment for different payment channels for what is essentially the same underlying product. The practical impact for users could be exacerbated by virtue of the potential VAT implications, discussed below. 4.14 This uncertainty can be removed if we clarify that single piece mail products (First and Second class mail) are part of the universal service regardless of payment channel used to access them, and add PPI single piece products to Condition 2. Accordingly, we propose to: specify the definition of single piece mail products (First and Second class mail) in this document; and include PPI First and Second class single piece mail in Condition 2 of Royal Mail s licence. 4.15 We propose to specify that, in relation to the First and Second class mail services, single piece mail means the service of conveying postal packets 106, with no value added services or premium attributes, at a price which is not subject to any discounts related to volume of mail per mailing or presentation of mail, and regardless of payment channel used. 4.16 This means that the PPI payment channel is part of the universal service when it is used for single piece, regardless of any minimum spend required to use PPI. Under our proposal, as soon as there is a discount related to the volume of letters per mailing, the PPI payment channel would no longer be treated as part of the universal service. Currently, the volume discounts per mailing for First and Second class items paid for by PPI start with 1,000 items for letters, 250 items for large letters and 100 items for packets. The threshold for the application of the volume discount may vary in future, but as soon as there is a volume discount the product would not be considered a single-piece product. 4.17 Our approach will make clear that First and Second class mail will have to be provided at an affordable uniform price, every working day, everywhere in the UK, irrespective of payment channel. This reasoning would also apply to any new payment channel developed by Royal Mail. It does not follow that all payment channels will be regulated by price caps, for example, simply that in 105 Clause 35(6), Postal Services Bill as introduced to the House of Lords http://www.publications.parliament.uk/pa/ld201011/ldbills/038/11038.i-v.html 106 The definition of postal packet as defined by section 25 of the Postal Services Act 2000 includes both letters and packets: postal packet means a letter, parcel, packet, or other article transmissible by post, http://www.legislation.gov.uk/ukpga/2000/26/contents 34

Chapter 4: Single piece products in the universal service future and after the new Postal Services Bill, they can treated on an equal footing from a regulatory point of view. Implications for the application of VAT 4.18 HMRC currently treats universal service and price controlled services, including price controlled wholesale services, as VAT exempt 107. A consequence of the different scope of regulation in the Postal Services Bill outlined above would be that PPI single piece (not in the universal service) would be likely to become subject to VAT, as it would fall outside of any form of price control. This could result in materially different retail prices, contrary to the current situation where PPI and meter are both priced at 36p for First class and 25p for Second class. However, this potential issue would not arise if PPI single piece products were part of the universal service as they would remain VAT exempt on that ground. Our proposal is therefore consistent with avoiding a potential VAT distortion for different users of the same service that could arise simply by virtue of different payment channels being used. 4.19 We recognise that this proposal would, however, result in a continuation of the current distortion in competition for larger single piece customers, where Royal Mail is exempt from VAT, but other operators have to charge VAT. This applies both to access operators competing for upstream services, and packet and parcel operators competing end to end for small customers sending packets by PPI. 4.20 In relation to the retail letters markets, as outlined in our market study, other operators are increasingly competing with Royal Mail down to collections of 250 per day. At this level, Royal Mail customers would be using single-piece meter or PPI items. Our proposal, if implemented, would ensure that Royal Mail s single-piece services will remain within the scope of the VAT exemption. 4.21 In relation to packets, one packet and parcel operator has provided evidence that the VAT distortion results in a different VAT treatment for packet and parcel products offered to smaller customers by Royal Mail s competitors, than the one applied to products sold to these same customers using Royal Mail s single piece packet and parcel services. This operator considers that this creates a barrier to entry by other operators and limits the choice of different services available to small packet and parcel services customers, such as ebay sellers. We would welcome further evidence as to the impact of these distortions on the development of competition, and views on their relevance in the context of this consultation. 107 Finance (No. 3) Act 2010, http://www.legislation.gov.uk/ukpga/2010/33/section/22/enacted 35

Chapter 4: Single piece products in the universal service 4.22 On balance, we do not consider that the risk of a potential distortion from VAT treatment is sufficient to impact our proposed approach to the universal service which, as noted above, should be primarily linked to customers needs. Implications for the quality of service of First and Second class single piece items 4.23 The existing quality of service targets for Royal Mail are set out in Condition 4 of its licence. Stamped and metered First and Second class single piece mail items are covered by the targets for 93% of mail arriving next day for First class mail, and 98.5% of mail arriving by the end of the third day for Second class mail. However, currently, PPI First and Second class single piece mail is covered by the quality of service targets for First and Second class bulk mail. These targets are 91% for bulk mail First class, and 97.5% for bulk mail Second class. 4.24 Given that Royal Mail is currently in effect delivering the same universal service products, irrespective of payment channel, the fact that there is a difference between the quality of service targets for these products is anomalous. We propose to resolve this by including PPI First and Second class single piece items in the same grouping as retail stamped and metered mail for quality of service purposes. We will discuss with Royal Mail the implications of including different quality of service targets for PPI single piece mail. At present, we have no evidence to suggest that there would be a significant impact on Royal Mail. Questions for consultation Q2: Do you agree that stamps, meter and PPI are payment channels in relation to single piece items and therefore ought to be treated in the same way in terms of their universal service status? Q3: Do you agree with our proposed definition of single piece mail? If not, can you suggest an alternative? Q4: Do you agree that we should therefore modify Royal Mail s licence to include PPI First and Second class single piece mail in Condition 2? Q5: Do you agree that First and Second class single piece PPI mail should be subject to the same quality of service targets as stamped and metered mail and that we should modify Condition 4 accordingly? 36

Chapter 5: Support services and other services to be included in Condition 2 Chapter 5: Support services and other services to be included in Condition 2 5.1 This Chapter confirms Postcomm s view that other products it decided in 2004 were part of the universal service, but that are not listed in Condition 2, should also continue to be provided as part of the universal service and hence explicitly afforded the regulatory protections of universal service products. Postcomm proposes a licence modification to include these products in Condition 2. Support services considered part of the universal service 5.2 Postcomm consulted between 2003 and 2005 to determine the products which should be provided as part of the universal service. In June 2004 108, Postcomm concluded that the universal service provided by Royal Mail in the UK should include, among other services, the following six services also listed in the table below: a range of support services to ensure mail integrity and security - Redirections (up to 12 months), Keepsafe, Poste Restante (free), Certificate of posting (free), and Business Collections a registered service, Recorded Signed For 5.3 However, in 2006, when Royal Mail s licence was modified, these six services were not specified in Royal Mail s universal service obligation under Condition 2 of its licence. Nevertheless five of the six services below are Regulated Services as defined in Condition 21 of the existing licence, with Keepsafe being the exception in not being referred to in Royal Mail s licence at the moment. Royal Mail s licence requires that Regulated Services must continue to be provided on as wide a basis as they were offered and provided in March 2006 109. In addition, Recorded Signed For and Redirections are also price controlled. 5.4 Although these six services were not included in Condition 2, Postcomm has continued to consider that these products have all been in the universal service since its decision in 2005. The introduction of the Postal Services Bill has brought this anomalous situation to the fore, as there is a potential risk that products not included in Condition 2 would otherwise not be considered as part 108 Postcomm, Decision document: the UK s universal service, June 2004, http://www.psc.gov.uk/documents/322.pdf 109 Regulated Services are defined in Condition 21 of Royal Mail s Licence, at paragraph 38. They include the price controlled products. Postcomm, Licence granted to Royal Mail Group Limited, March 2001, as subsequently amended http://www.psc.gov.uk/documents/962.pdf 37

Chapter 5: Support services and other services to be included in Condition 2 of the universal service at the time Ofcom imposes initial conditions on Royal Mail. Table 3: Support services and registered services part of Postcomm s 2004 decision on the universal service but not included in Condition 2 Product Description Price controlled Recorded Signed For Redirections 12 months Delivery service which provides the sender with a signature for First or Second class mailings in the UK Redirect mail from an old address to another address Yes Yes Business Collections Collection from business premises No Keepsafe Certificate of Posting Service which holds UK customers' mail for up to 2 months at their local delivery office while they are away, and delivers it on their return Receipt which provides proof of posting. Used for compensation No No 110 Poste Restante Mail redirected to a chosen post office No 111 5.5 Under the Bill, the period between Royal Assent and the appointed day, when Ofcom takes over responsibility for the regulation of postal services, is the transitional period. Before that period ends, Ofcom must make initial regulatory conditions, called initial conditions, which are in effect a transposition of the current licence conditions into the general authorisation regime. The Bill requires that these must be similar to the licence conditions in place immediately before Ofcom assumes regulatory responsibility for postal services 112. 5.6 In addition, Ofcom must make a universal postal service order setting out a description of the services that they consider should be provided as part of the universal service, and the standards with which those services are to comply. This order must comply with the minimum requirements of the Bill. While not necessary for the first order, Ofcom must review the extent to which the UK postal market meets the reasonable needs of users within 18 months after the new regulatory provisions in the Bill come into force. 5.7 If Ofcom only includes the products listed in Condition 2 of Royal Mail s licence in the initial conditions and/ or the first universal postal service order, then 110 Royal Mail s Licence requires Certification of Posting to be provided free of charge. Postcomm, Licence granted to Royal Mail Group Limited, March 2001, as subsequently amended http://www.psc.gov.uk/documents/962.pdf 111 Royal Mail s Licence requires Poste Restante to be provided free of charge. Postcomm, Licence granted to Royal Mail Group Limited, March 2001, as subsequently amended http://www.psc.gov.uk/documents/962.pdf 112 The Bill states that the initial conditions must be to substantially the same effect as the current licence conditions. Schedule 9, paragraphs 1, 2 and 4 of the Postal Services Bill as introduced to the House of Lords, http://www.publications.parliament.uk/pa/ld201011/ldbills/038/11038.i-v.html 38

Chapter 5: Support services and other services to be included in Condition 2 services considered by Postcomm to be universal services, but not set out in Condition 2, would therefore be likely to fall away from Royal Mail s universal service obligation until Ofcom subsequently conducts a review of users needs. While at that point they could be reinstated, we consider that resolving the status of these products will help a smooth transition of the regulatory regime, in helping remove uncertainty about their status. Resolving the status of these products 5.8 We decided in 2004 that Redirections (up to 12 months), Keepsafe, Poste Restante, Certificate of Posting and Business Collections should be part of the universal service to protect mail integrity and security. We had said that we recognised that these services are necessary to the efficient and effective operation of the postal market as well as having a broader role to provide reassurance to customers, particularly vulnerable groups 113. 5.9 The Directive also requires services for registered and insured items 114. We recognised in 2004 that a registered and insured service for users sufficient to meet the requirements of the Directive could be met by Royal Mail s Special Delivery Next Day product. We decided in 2004 that Recorded Signed For should also be provided as part of the universal service to provide a cheaper option than Special Delivery to send less valuable items, but that Recorded Signed For was not sufficient in itself to meet the Directive s requirements without the inclusion of Special Delivery. 5.10 Recorded Signed For costs 74p plus the cost of First or Second class mail, considerably less than Special Delivery Next Day. For instance, a First class letter of less than 100g would cost 1.15 using the Recorded Signed For product, but 5.05 using Special Delivery Next Day (paying by stamps, and for a compensation of up to 500). This is because Recorded Signed For does not have many of the additional features of Special Delivery Next Day, for instance compensation of up to 2,500 for loss and damage (including valuables) and guaranteed delivery with a refund if the item is not delivered by 1pm the next working day. 5.11 Information we have from Royal Mail for Recorded Signed For, Redirections (up to 12 months), Keepsafe, Poste Restante, Certificate of Posting and Business Collections shows that most of these products remain well used. For instance, the information we have on volumes for the Recorded Signed For service is 113 Postcomm, Review of the universal postal service: Postcomm s proposals, November 2003 http://www.psc.gov.uk/documents/175.pdf 114 Article 3, Directive 97/67/EC as amended most recently by the Third Postal Directive 2008/6/EC, http://ec.europa.eu/internal_market/post/legislation_en.htm#proposal 39

Chapter 5: Support services and other services to be included in Condition 2 supported by our customer needs research which shows that Recorded Signed For is a widely used product 115. These services make a positive contribution to Royal Mail s finances, and therefore including them in Condition 2 will not have a negative impact on the financial sustainability of the universal service. 5.12 In order to clarify the status of the products listed in table 2 above and to confirm that they form part of the universal postal service in the UK, we therefore propose a modification of Royal Mail s licence to list these products as part of Condition 2. 5.13 The consequence of this proposal is that these services would continue to have to be provided as part of the universal service as support services to ensure the integrity and security of mail. Implications for VAT 5.14 The VAT status of most these products would not change. However, there could be a difference for Business Collections and Keepsafe. As Business Collections and Keepsafe are not listed in Condition 2, and do not otherwise fall within the list of Royal Mail products which are VAT-exempt, they have been VAT-able since 31 January 2011 116. As we explain in chapter 4, based on our understanding of the current VAT treatment of postal services, if these products are explicitly included in the universal service, then they would become VATexempt at the time the relevant licence modification came into effect. 5.15 We recognise that this proposal could result in a distortion in competition in relation to smaller mailers who pay for Business Collections. However, we have already concluded that competition is not at present developing in the low volume unsorted market, and therefore that the competitive impact of the VAT distortion is likely to be small. Implication for the quality of service of these products 5.16 The Directive 117 requires Member States to ensure that quality of service standards are set and published in relation to the universal service for both national, and intra-community cross-border mail. Condition 4 of Royal Mail s licence complies with this requirement. It sets out the quality of service 115 TNS-BMRB, Customer needs from a sustainable universal postal service in the UK, November 2010 http://www.psc.gov.uk/universal/customerneedsresearch 116 A list of VAT-exempt and VAT-able postal services supplied by Royal Mail can be found in HMRC, VAT Postal Services, Technical Note, 24 March 2010, http://www.hmrc.gov.uk/budget2010/march/vat-post-tech-note-5260.pdf 117 Article 16, Directive 97/67/EC as amended most recently by the Third Postal Directive 2008/6/EC, http://ec.europa.eu/internal_market/post/legislation_en.htm#proposal 40

Chapter 5: Support services and other services to be included in Condition 2 standards that Royal Mail must comply with in relation to its obligation to provide a universal postal service within the United Kingdom and to ensure the cross-border provision of a universal postal service. Currently, there are no mandatory quality of service standards for Recorded Signed For, Redirections (up to 12 months), Keepsafe, Poste Restante, and/ or Certificate of Posting. 5.17 However, these products are add-on components of the universal service, in effect supporting the key features of the universal service of collection and delivery every working day at a uniform, affordable price. The quality of service for the following products is already driven by First and Second class quality of service targets, as these products go through the same pipeline as First and Second class mail. We therefore consider that there is no need to have additional targets for the following services: Recorded Signed For is an add-on service to First and Second class mail and its quality will be influenced by the quality of service performance for these products. Redirections (up to 12 months) is a service which can involve two journeys of the mail in Royal Mail s system and its quality of service will be influenced by the quality of service achieved for first and second class mail as well as that for the original product used. Royal Mail s compensation scheme treats a redirected item as delayed if it arrives six working days or more after the due date. Poste Restante is also a redirection service, to any post office in the UK, and some post offices in larger towns abroad. Quality of service for Poste Restante may be influenced by quality of service performance for mail sent within the UK or quality of service in the destination country. Keepsafe again involves the conveyance of a letter: instead of the mail item being sent to the customer, it is sent to the delivery office. 5.18 Business collections are already part of the measurement of the quality of service target for collection points, which is 99.9% of collection points served each day. 5.19 There is no quality of service target for Certificate of Posting, as this service does not relate to the conveyance of mail or collection and delivery. If Certificate of Posting is included in Condition 2, as with any universal service product, it would simply have to be provided on request. Therefore, there is already a target in practice that 100% of customers requesting a Certificate of Posting receive one. Compliance could be monitored through complaints from customers and consumer organisations. We could then investigate and consider enforcement action. 41

Chapter 5: Support services and other services to be included in Condition 2 Question for consultation Q6: Do you agree that we should modify Royal Mail s licence to clarify that Recorded Signed For, Redirections (up to 12 months), Keepsafe, Poste Restante, Certificate of Posting, and/ or Business Collections should be provided as universal service products? Q7: Do you agree that the quality of service for single piece items that are sent via Recorded Signed For, Redirections (up to 12 months), Keepsafe, and Poste Restante, and the quality of service for Business Collections is already driven by Royal Mail s existing quality of service targets for First and Second class mail and collection points? Do you agree that there should be no additional quality of services targets specific to these services? Do you agree that the target for Certificate of Posting should be that all customers requesting a Certificate of Posting receive one? 42

Appendix A: Glossary Appendix A: Glossary Access B2X Consumer Focus Customers Allowing other companies operating in the postal market, or other users of postal services, to use Royal Mail s facilities for the partial provision of a postal service. Access to Royal Mail s postal facilities could in principle be at any point in the pipeline activity (e.g. a mail centre or delivery office). Condition 9 of Royal Mail s licence enables mail users and postal operators to make commercial agreements with Royal Mail allowing them to use the company s facilities to carry mail for part of its journey. Items sent by businesses to either businesses or consumers (where the item is collected from the sender s premises) The National Consumer Council established under Section 1 of the Consumers, Estate Agents and Redress Act 2007 Large businesses, small and medium sized enterprises (SMEs) and residential customers; both those who send mail and those who receive it D+1 A service that delivers the day after collection, for example Royal Mail First Class Stamped Mail D+2 A service that delivers two days after collection, also known as day C service End to end (e2e) Express Flat Forward work plan Letter/ Large letter Operators other than Royal Mail that provide a full postal service from collection to delivery Services that deliver a time-guaranteed service either same day or next day. These products are typified by the presence of value-added features, such as tracking, proof of delivery, or additional insurance, as standard. Any postal item larger than a letter but equal to or less than 250mm x 353mm and 10mm thick. Document published by Postcomm each year outlining its proposed activities, looking at how it regulates the postal industry within the scope of its powers and duties This refers to Royal Mail s definition for letter and large letter. A letter is any item up to length: 240mm, width: 165mm and thickness: 5mm, weighing no more than 100g. A large letter is any item up to 353mm in length, 250mm in width and 25mm in 43

Appendix A: Glossary thickness, with a maximum weight of 750g. Licensed mail area Market Ofcom Packet Packets and parcels services (PPS) Pipeline PPI Premium Presorted Retail Royal Mail This is the range of services for which a licence under the Postal Services Act 2000 is required, broadly to send letters weighing less than 350g and/or costing less than 1 to send A market has both a product and geographic dimension. The product dimension includes all products and/ or services that are regarded as interchangeable or substitutable. The geographic dimension is the area where operators are involved in the supply and demand of the product and/ or services and where competitive conditions are reasonably similar, and are different from neighbouring areas. Office of Communications (UK) Any postal item that is greater than 250mm x 353mm of any thickness or less than 250mm x 353mm but more than 10mm thick. Packets are now categorised as letter packet, flat packet, packet and bag. Services used to convey items up to 32kg which are not within the licensed mail area, whether they are handled by mail or parcel operators, express or courier companies or any other operator. This excludes letters and large letters for services without any tracking or other premium attribute. Stages involved in the production and distribution process of a good or service from the initiation of the process to the delivery of the final product. In postal services the pipeline refers to all the stages from collection to final delivery. Printed Postage Impressions, a method of payment for Royal Mail services Services where value-added features are present, such as tracking, proof of delivery, or additional insurance Products where the sender has sorted their mailing items to a predetermined level before handing them to the operator A postal service serving a final customer Royal Mail Letters (different from Royal Mail Group, which includes Royal Mail Letters, Royal Mail Wholesale, Post Office Ltd and Parcelforce Worldwide) 44

Appendix A: Glossary SMEs Small and medium-sized enterprises with fewer than 250 employees The Hooper Review Trunking Uniform tariff Universal (postal) Service Universal Service Provider (USP) Unsorted Upstream USO Wholesale Y2X An independent review of UK postal services, published in December 2008 Distance transportation of bulk mail (letters, large letter, packets and parcels) A single price for the delivery of mail to any address in the UK Postal products and associated minimum service standards that must be made available to all 28 million addresses in the UK A licence holder who provides a universal service. Currently, only Royal Mail Group Ltd provides a universal service. Service where the mailing items handed to the operator are not presorted The activities of collection, outward sorting and trunking Universal Service Obligation Postal activities that are sold as intermediary products to provide a retail service Items sent by either consumers or businesses from an access point (e.g. post office) to a consumer or business 45

Appendix B: Table showing products listed in our 2004 decision on the universal service as part of the universal service Appendix B: Table showing products listed in our 2004 decision on the universal service as part of the universal service Universal services A priority mail service for letters and packets up to 2 kilograms Currently provided by Royal Mail 1st class mail Available through a range of payment methods e.g. stamped, franked, etc. Bulk mail accounts Comment Change to weight limit from open ended to 2 kilos A non-priority mail service for letters and packets up to 2 kilograms A non-priority parcels service up to 20 kilograms A registered and insured service Support services International outbound service 2nd class mail Available through a range of payment methods, e.g. stamped, franked, etc. Bulk mail accounts Standard parcel service Special delivery next day and Recorded (signed for) Redirection (up to 12 mths) Keepsafe Post Restante Certificate of Posting Business Collections International public tariff International Signed-for Change to weight limit from 750 grams to 2 kilos Royal Mail s standard parcel product is a 3 day service up to 20 kilograms This service is specified by the European Directive Products related to the security and integrity of mail in respect of key postal processes The UK also has obligations under UPU to handle inbound international mail 46

Appendix C: Draft Licence modification Appendix C: Draft Licence modification POSTCOMM (The Postal Services Commission) Postal Services Act 2000 Section 14 NOTICE of proposal to modify the conditions of the licence granted to ROYAL MAIL GROUP LIMITED Whereas 1. Royal Mail Group Ltd, registered in England and Wales as company number 4138203 and having its registered office at Royal Mail Group, 100 Victoria Embankment, London EC4Y 0HQ ( Royal Mail ), is the holder of a licence ( the Licence ) granted by the Postal Services Commission ( Postcomm ) under section 11 of the Postal Services Act 2000 ( the Act ) on 23 March 2001, as amended most recently on 24 January 2011. 2. In June 2004, Postcomm issued a decision on the composition of the universal service in the United Kingdom affecting stamped products and single piece items used by residential customers. 3. Postcomm concluded that there are five generic universal services, including priority and non-priority mail services for letters and packets up to two kilograms, available through a range of payment channels, for example stamped and franked mail. 4. In June 2005 Postcomm decided that the bulk element of Royal Mail s universal service obligation should be met through the Mailsort 1400 (first and second class, 0-2kg) and Cleanmail (first and second class, 0-100g) products. 5. Postcomm also identified a range of support services that are necessary to the security and integrity of the mail in respect of the key postal processes of collection and delivery. 47

Appendix C: Draft Licence modification 6. Postcomm s Forward Work Plan 2010-2012 outlined its proposed work plan for the next two years looking at the regulation of the postal industry within the scope of Postcomm s powers and duties. 7. The Postal Services Bill was introduced to Parliament in October 2010 and it reaffirms the key features of the universal postal service, and anticipates the transfer of regulatory responsibility for postal services from Postcomm to Ofcom. 8. Postcomm, together with Consumer Focus, commissioned research into the needs of residential customers and businesses including bulk mail customers. This research was published on 8 November 2010 and showed a high level of satisfaction with the current universal postal service. 9. Postcomm s analysis of markets has also shown that market conditions have changed since Postcomm decided to retain the two bulk products in the universal service in 2005 with the result that it may no longer be necessary to retain bulk services as part of the universal service. 10. Postcomm has therefore decided to consult interested parties on this issue, and specifically on whether it would be appropriate to remove the remaining bulk products from the universal service, Mailsort 1400 First and Second Class and Cleanmail. 11. Postcomm also considers it appropriate to clarify the existing composition of the universal postal service to be reflected in Royal Mail s Licence. 12. Postcomm has therefore decided to propose modifying the conditions of the Licence in the manner set out in this Notice. Postcomm hereby gives notice as follows 1. Postcomm, in the exercise of its functions under section 14 of the Act and subject to consideration of representations made in accordance with this Notice (and the accompanying consultation) and not withdrawn, proposes to modify conditions 2 and 4 of the Licence as set out in the Annex to this Notice. 2. The effects of the proposed modifications are as follows: a. the requirement to provide services for letters posted in bulk and specifically, Cleanmail and Mailsort 1400, as universal services will no longer apply; b. the following Royal Mail services will be included within condition 2 as universal services: 48

Appendix C: Draft Licence modification i. Poste Restante, ii. Certificate of Posting, iii. Redirections (up to 12 months), iv. Keepsafe, v. Business Collections, vi. Recorded Signed For, and vii. Postage Paid Impression 1st and 2nd Class. 3. The reasons for the proposed modifications are set out in the accompanying consultation paper. 4. Representations may be made in relation to the proposed modifications in the period commencing on the date of this Notice and ending on Tuesday 31 May 2011. 5. Representations may be sent by post to Elisa Pruvost, Postcomm, Hercules House, London SE1 7DB, or elisa.pruvost@psc.gov.uk 6. Except where the context requires otherwise, words and expressions used in this Notice shall be construed in the same way as in the Act. The seal of Postcomm hereunto affixed is authenticated by Tim Brown 28 February 2011 Chief Executive Authorised for that purpose by the Commission 49

Appendix C: Draft Licence modification Annex Of proposed modifications to the Conditions of the Licence of Royal Mail Group Limited Condition 2 In paragraph 2 1. Delete and services for letters posted both sorted and unsorted in bulk after individually and before and shall include a registered and an insured service. In paragraph 3 2. insert 12, 13 after 9 in sub-paragraph (a), 3. delete 15, 16, 17, 18, 25,26,27 and 28 in sub-paragraph (a), 4. after subparagraph (b) insert the following sub-paragraphc) provide the following: (i) Poste Restante and Certificate of Posting services set out in paragraph 23 of Condition 21, (ii) the Redirection Services (up to 12 months), defined as a Miscellaneous Services in the definition of Controlled Services in paragraph 38(a) in Condition 21, (iii) the Keepsafe service described in the Licensee s Successor Postal Services Company Inland Letter Post Scheme 2001 (as amended), (iv) Royal Mail Business Collections, (v) Recorded Signed For, and 5. re-number the existing subparagraph (c) as sub-paragraph (d). Condition 4 In the Annex to Condition 4 in the table Scheduled standards and standardised measures maintained in accordance with paragraph 2(a) of Condition 4 in the table describing the scheduled services by reference to services referred to in Condition 21-50

Appendix C: Draft Licence modification 1. in the column Generic products, a. in the first row, delete and after Stamped, and insert, before metered and and PPI 1c after metered, b. in the second row, delete and after Stamped, insert, before metered and and PPI 2c after metered, and 2. in the column Controlled services insert, 12 after 2 in the first row and, 13 after 4 in the second row. 51

Appendix D: Impact assessment Appendix D: Impact assessment General D.1 The new Postal Services Bill ( the Bill ) introduced into Parliament on 13 October 2010 provides for the privatisation of Royal Mail, a solution to the pension fund deficit and a transfer of regulatory responsibility to Ofcom. The Bill provides for a number of different forms of regulatory condition to be imposed on a universal service provider and other operators. The Bill is expected to receive Royal Assent in the summer of 2011 with transition of regulatory responsibility to Ofcom shortly after that. We will continue to have responsibility for the regulation of postal services until then. D.2 It is not for Postcomm to anticipate the outcome of the legislative process. However, in developing initial proposals for a new regulatory framework to be in place from 2012. in light of our current duties and functions, we have had close regard to the changes to the regulation of postal services anticipated by the Bill, particularly given the aim to achieve a smooth transition of regulatory responsibility to Ofcom and the need to maintain momentum to achieve a stable revised regulatory framework from 2012. Final proposals and any final decisions made will have to reflect the legislative position at the time. D.3 Our impact assessment criteria closely follow those used for previous consultations and decisions. We consider them to be consistent both with our current duties and those that are expected to apply to Ofcom. In responding to our consultation and considering the impacts set out below, therefore, we invite comments from interested parties also taking account of the proposed new legislative framework. Introduction to impact assessments D.4 Impact assessments are an important way of ensuring that we have considered the impacts of major policy proposals. Postcomm, unlike some other economic regulators such as Ofcom or Ofgem, has no specific statutory duty to produce and publish impact assessments. Nevertheless we support the use of impact assessments and have made a commitment to producing impact assessments where we are proposing major policies or initiatives. D.5 Impact assessments help us to demonstrate that we are both transparent and accountable and support making good regulatory decisions by providing a 52

Appendix D: Impact assessment structured approach to the development of regulatory remedies and decision making. D.6 Their value has been also recognised throughout government where they are regarded as a cornerstone of good policy making. All government departments are required to complete and make publicly available any impact assessments undertaken. D.7 Our decision to produce and publish an impact assessment is made on a case by case basis to ensure that they do not place an undue burden on interested parties and that they are not disproportionate. Background D.8 This draft impact assessment (IA) addresses the regulatory changes we are proposing in relation to Royal Mail s universal service obligations for Mailsort 1400 and Cleanmail. D.9 The IA assesses the impacts of the options concerned against our statutory duties and where appropriate by reference to particular groups affected by the safeguards concerned. D.10 Respondents are invited to comment on the IA set out in this appendix. We intend to publish a final IA with our final decision document. Objectives and key issues D.11 Postcomm must act in accordance with its duties under the Postal Services Act 2000 and the Regulatory Enforcement and Sanctions Act 2008. Postcomm also attaches great importance to acting in accordance with the good regulation principles which are regarded as best practice 118. D.12 Under the Postal Services Act 2000, our first and most important duty is to act in the way we consider is best designed to ensure the provision of a universal postal service, which is currently provided exclusively by Royal Mail. Postcomm s other duties, which are subject to this, are to: further the interests of users of postal services, having regard to the interests of special interest user groups, by promoting effective competition between postal operators, wherever appropriate; 118 These are principles under which regulatory activities should be transparent, accountable, proportionate, consistent and targeted only at cases in which action is needed. 53

Appendix D: Impact assessment encourage Royal Mail and other operators to be efficient; and have regard to the need to ensure that Royal Mail and other licensed postal operators are able to finance their licensed activities. D.13 Under the Regulatory Enforcement and Sanctions Act 2008 we have an obligation to secure that in exercising our regulatory functions, we do not impose, or maintain, burdens that we consider to be unnecessary, or impose regulation that we consider to be unnecessary. D.14 In Section 1.5 of the main document of our May 2010 consultation 119, we set out our objectives for a new regulatory framework which were drawn from our Forward Work Plan. These are as follows: Universal Service: seeking to ensure the provision of a sustainable, affordable universal service that meets users needs. Targeted proportionate regulation: identifying clearly those postal markets where there is not effective competition, so focusing regulation on addressing market failure and safeguarding the interests of customers and operators. Competition: ensuring access operators are paying an appropriate price for the use of Royal Mail s services for delivery to the door; ensuring that competition, including that provided by operators that deliver as well as collect and sort, is soundly based, and sustainable. Understanding Royal Mail s costs: ensuring that Postcomm and the market have a better understanding of Royal Mail s costs, including where it makes profits and where it loses money, allowing us to regulate effectively and responsively. Efficiency incentives: giving Royal Mail incentives to improve its efficiency where competition is not sufficiently established. Address unfair competitive behaviour: investigating complaints quickly and effectively. D.15 We have considered which of our statutory duties and associated regulatory objectives are relevant for the purposes of assessing the potential impact of the options under consideration in this IA. We have also had regard to the principles of good regulation. D.16 This impact assessment therefore considers the impact of each option on: The provision of a universal service 120, having regard to: Financeability 119 Postcomm, Laying the foundations of a sustainable postal service, May 2010, http://www.psc.gov.uk/documents/764.pdf 120 This is Postcomm s primary statutory duty and we therefore attach to it the highest weighting in our assessment. 54

Appendix D: Impact assessment Efficiency Furthering the interests of postal users, wherever appropriate by promoting effective competition, from the perspective of all users including Royal Mail. Targeted and proportionate regulation: Targeted to where immediate action is necessary, without imposing unnecessary and disproportionate burdens on those impacted Appropriate under a cost benefit analysis (if a cost benefit analysis is properly required) 121 Transparent in relation to what it is intended to achieve Practicable, taking reasonable account of any practical constraints for implementation One that manages the risk of regulatory error D.17 Each policy option is assessed against the above criteria using the following scoring system: - Positive impact Marginal positive impact No impact or uncertain impact Limited negative impact Negative impact Removal of Mailsort 1400 1c/ 2c and Cleanmail from the universal service D.18 Chapter 3 sets out the options considered. These are summarised below: i. No change - retain bulk products, specifically Mailsort 1400 1c/ 2c and Cleanmail in the universal service ii. Remove Mailsort 1400 1c/ 2c and Cleanmail from the universal service D.19 Option (i) is presented as the counterfactual. It is thus treated as the benchmark against which the impacts of option (ii) can be assessed (although 121 We concluded that a qualitative impact assessment is sufficient. This is particularly the case because the nature of the impacts of our proposals is difficult to quantify robustly, given the wider market uncertainties and parallel changes proposed to regulation, both of which would need to be reflected in any assumptions we make about what may happen if there were no changes. 55

Appendix D: Impact assessment continuing with the status quo will itself have impacts on the current positions of interested parties). Impact assessment of removal of Mailsort 1400 1c/ 2c and Cleanmail from universal service Table 1: Impacts of option (i) No change in the status of these products Provision of a Universal Service Impact Assessment Discussion Furthering interests of postal users where appropriate through effective competition Targeted and proportionate regulation Financeability The most up-to-date analysis suggests that the requirement to provide bulk mail as part of the universal service does not impose a net cost on Royal Mail 122. Thus, leaving MS1400 and Cleanmail in the universal service under this option has a neutral impact. Efficiency x Under this option, leaving MS1400 and Cleanmail in the universal service means these products must be uniformly priced. Royal Mail may not therefore consider charging zonal prices and this restricts Royal Mail s ability to modify other aspects of these products which may yield operational efficiencies, such as quality of service or timing of delivery. Targeted to where immediate action is x x Thus, leaving MS1400 and Cleanmail in the universal service under this option has a slightly negative impact. Maintaining MS1400 and Cleanmail in the universal service arguably limits Royal Mail s flexibility to compete on price and terms of service, in an increasingly competitive market. Small residential customers are unlikely to use Cleanmail and MS1400 products. As recipients of mail, the status quo will have a neutral impact on these users. The overall impact on medium customers from retaining Cleanmail and MS1400 products in the universal service should be neutral, except to the extent that they may not be able to benefit from additional commercial flexibility that removing them would afford Royal Mail. Large mailers are far more concerned with price than any other characteristic of bulk mail. As a group, large bulk mailers are more willing to trade-off quality of service and/ or move to a single-tiered class system than pay more for current bulk mail services 123. Again, for large bulk mailers, retaining bulk mail in the universal service would have a neutral impact on their needs, except to the extent that they may not be able to benefit from additional commercial flexibility that removing them would afford Royal Mail. Under this option Royal Mail s VAT exemption remains and is potentially a negative impact to the extent that VAT remains chargeable on the upstream element of prices charged by access operators. This may potentially provide a competitive advantage to Royal Mail and lead to a lack of efficient entry. In light of evidence from users it is not clear that retaining bulk products in the universal service is necessary. In addition, given that the analysis of the net costs of elements of the universal service by Frontier Economics 122 Frontier Economics, The net cost of elements of the universal service an update, February 2011, published on the same day as this consultation and available on our website, www.psc.gov.uk 123 TNS-BMRB, Customer needs from a sustainable universal postal service in the UK, November 2010, http://www.psc.gov.uk/universal/customerneedsresearch 56

Appendix D: Impact assessment Impact Assessment Discussion necessary, without imposing unnecessary and disproportionate burdens on those impacted Transparent in relation to what it is intended to achieve showed that the potential savings associated with stopping delivery of all bulk mail are small compared to the total revenue from bulk mail, we consider that Royal Mail would continue to provide these or similar services on a universal basis even without an obligation to do so. This option is transparent insofar as it involves maintaining the status quo. However, given the difficulty in defining affordability for business users, this element of the policy is less clear 124. Practicable taking reasonable account of any practical constraints for implementation One that manages risk of regulatory error This option is straightforward to implement as no change is required. The evidence suggests that keeping MS1400 and Cleanmail in the universal service is no longer necessary to meet the needs of users. However, were circumstances to change, following a review of users needs in the future, the regulator could further review the scope of the universal service, should it be necessary. Table 2: Impacts of option (ii) - Remove Mailsort 1400 1c/ 2c and Cleanmail from the universal service and price control requirements Provision of a Universal Service Impact Assessment Discussion Financeability The latest analysis indicates that Royal Mail receives far more in revenues from delivering its retail end-to-end bulk mail products than the potential cost savings from not delivering them. In total across all delivery areas there is potential for 250m in cost savings but with 2,035m in forgone revenues if all end-to-end bulk mail deliveries were stopped 125. This analysis suggests that this would have been true in all of Royal Mail s geographic delivery zones. It is therefore likely that Royal Mail would continue to provide these services or equivalent services at least on a universal basis and therefore it is likely that the impact from this perspective would at most be neutral. Indeed, the impacts may be positive to the extent that Royal Mail would have greater commercial freedom to steer customers towards more suitable products which might make a more positive contribution to the universal service. Our overall conclusion is that removing the obligation to provide bulk mail services and in particular, MS1400 and Cleanmail as part of the universal service will make a small positive contribution on Royal Mail s ability to finance the universal service. Efficiency This option allows Royal Mail to price these products at more cost oriented prices, in particular reflecting any 124 Postcomm, Discussion paper on affordability, February 2011, published on the same day as this consultation and available on our website, www.psc.gov.uk 125 Frontier Economics, The net cost of elements of the universal service an update, February 2011, published on the same day as this consultation and available on our website, www.psc.gov.uk 57

Appendix D: Impact assessment Impact Assessment Discussion different regional or zonal costs, or to improve operational efficiency by modifying quality of service or terms of delivery as well as to meet customers needs better. It is therefore likely that removing these products from the universal service will have some positive impact. Furthering interests of postal users where appropriate through effective competition Bulk mail users Residential customers and small and very small businesses are unlikely to be users of Cleanmail and MS1400 products 126 and so will not be affected as senders of mail. Recent customer research indicates that small and very small business mailers tend to use stamp (79%) rather than meter or PPI 127. Removing MS1400 and Cleanmail from the universal service should have a neutral impact on these customers. Recipients of Cleanmail and MS1400 delivered items are unaffected by this option as, based on our consideration of the analysis from Frontier Economics on the net costs of the universal service, we consider it is highly unlikely Royal Mail will stop providing bulk products on which senders rely on a universal basis. For large mailers, removing bulk mail from the universal service would appear to have a neutral impact on their needs. Large mailers are primarily concerned with price and as a group they are willing to trade-off quality of service and/or moving to a single-tiered class system rather than paying more for current bulk mail services 128. The impact on medium sized business customers is less certain. However, given the competitive alternatives and the availability of meter products which remain within the universal service, we expect the overall impact to be neutral. Recent customer research indicates that large customers (defined as 50k+spend on postal services per annum) pre-sort around 1 in 4 items (e.g. Mailsort) and send 1 in 4 via Cleanmail 129. These customers report being satisfied with their experience of alternative access operators and are adept at controlling mail costs and seeking out competitive alternatives. We expect removing Royal Mail s obligation to provide MS1400 and Cleanmail under this option to have a neutral impact on these customers. The greater commercial freedom for Royal Mail from these products being outside the universal service should enable it to manage these products and meet customers needs better. Access operators Access operators offer alternatives to Cleanmail and Mailsort 1400 for bulk customers of Second class products, for instance TNT Post s PremierSort services and TNT Post s Premier services provided through Royal Mail s Access 1400. Removing MS1400 and Cleanmail from the universal service would allow Royal Mail greater flexibility to compete with access operators in the high-volume unsorted and pre-sorted segment of the market. Also, it means that these products need not be uniformly priced. 126 Research commissioned by Postcomm and undertaken by Ipsos MOI for the retail market study, shortly to be published. 127 Research commissioned by Postcomm and undertaken by Ipsos MOI for the retail market study, shortly to be published. 128 TNS-BMRB, Customer needs from a sustainable universal postal service in the UK, November 2010, http://www.psc.gov.uk/universal/customerneedsresearch 129 Research commissioned by Postcomm and undertaken by Ipsos MOI for the retail market study, shortly to be published. 58

Appendix D: Impact assessment Impact Assessment Discussion VAT It has been argued that Royal Mail s VAT exemption on business mail items is an unfair competitive advantage. If VAT were added to MS1400 and Cleanmail prices, this would make access operators competing products more price competitive. VAT is a key issue for some customers. Removing bulk products from the universal service could lead to VAT being applied to them. However, if bulk mail no longer formed part of the universal service, Royal Mail is likely to have more commercial freedom generally in relation to the development of its bulk mail products, for example in relation to product specification, quality of service and pricing. For Royal Mail, the application of VAT should have a neutral impact on overall financial performance and efficiency. This is because Royal Mail could offset the extra VAT collected against VAT paid on expenses. End-to-end operators Removing MS1400 and Cleanmail from the universal service could leave these products liable for VAT (see above) which would encourage end-to-end competition. From an end-to-end operator s perspective this would be a marginally positive impact. Targeted and proportionate regulation Targeted to where immediate action is necessary, without imposing unnecessary and disproportionate burdens on those impacted Transparent in relation to what it is intended to achieve Practicable taking reasonable account of any practical constraints for implementation One that manages risk of regulatory error For all of the above reasons we conclude that removing Cleanmail and MS1400 from the universal service will have a marginal positive impact overall. In light of evidence of users needs, this option would appear to be more targeted, and consistent with removing regulation that no longer seems to be necessary. This option is transparent. This option is relatively straightforward to implement. This option involves removing references to bulk mail and specifically MS1400 and Cleanmail from Condition 2 of Royal Mail s Licence. We consider customers will still be able to access bulk products from either Royal Mail or in most cases, other postal operators, and Royal Mail s single piece products which will remain in the universal service should provide a further constraint on pricing. In the event that evidence emerged later that users needs were no longer being met, this could be addressed by the regulator reviewing the scope of the universal service. For these reasons, we assign a neutral impact score. 59

Appendix D: Impact assessment Equality Impact Assessment D.20 We are committed to treating all people fairly. This means both the people who our work affects and the people we employ. D.21 Part of our commitment to equality is making sure that the regulatory policies we take forward or the regulations we set are fair, equal and balanced in the way they affect society. To make sure this is the case, we complete equality screening questionnaires for all our major new proposals to assess whether there is any disproportionate impact, be that positive or negative, on a particular group. If we believe there will be an impact of this kind, we investigate further to see whether it is justified or whether we need to take action to change it. D.22 We have completed questionnaires on all aspects of the work covered in this consultation document and considered the potential for disproportionate impacts. We do not believe that any of the proposals set out here will disproportionately affect any particular social groups. D.23 We will, or course, keep this under review throughout our work programme and reassess the impacts if new information comes to light or if our proposals change significantly. D.24 If we are to do our job properly we need to attract the best people to work at Postcomm and we are committed to treating everyone with respect once they are here, regardless of their background. Our single equality scheme sets out how we do this. This is available on our website 130. 130 Postcomm, Postcomm s Single Equality Scheme, June 2010, http://www.psc.gov.uk/documents/1803.pdf 60