Thinking Outside the Box Could Save Royal Mail

LAST month, some journalists tried an experiment. Over a week, they posted a series of letters all around the country from their London postbox.

Some were addressed to houses around the corner and others to far-off, out-of-the-way places. Then they waited to see how long it took the letters to get to their destinations.

To their surprise, when Royal Mail was delivering the letters a 15-minute drive away, they got there after a few days and arrived in fits and starts. But when it was asked to take the letter by van, mail train, a few more vans, daily boat, and then by hand over winding paths to the front door of a house for one of the 90 inhabitants of the Isle of Eigg, the letters got there bright and early the next day, and pretty regularly on subsequent days afterwards.

I believe that this little experiment is actually the key to solving Royal Mail's problems.

Let me explain. Not only is Royal Mail facing some of the most difficult market conditions it has seen in its 300-year history, it is also trying to do very different things at once. The strikes that threaten to delay your seasonal cards this year are just a symptom of these deeper problems. They are threatened because union members are scared. Scared that they won't get their pensions, scared many of them will lose their jobs in the coming years, and scared they won't be told about it until the last minute.

And they are right to be scared. Quite apart from its pensions issues, Royal Mail is in a difficult situation.

First, its market is shrinking. The more we e-mail, or make bank payments online instead of sending a cheque, the fewer letters there are to deliver. Mail volumes have declined by about 15 per cent in the past two years, and each percentage decline costs the company £70 million. The fewer letters there are to post, the fewer postmen are needed to deliver them.

Although the unions dispute this, Royal Mail says the rise in the number of packages from companies such as Amazon and eBay is not making up the shortfall. Besides, some high-profile customers, such as Argos, have said they will stop using Royal Mail, saying they cannot rely on it because of the business they lose in mail strikes.

A second problem is the ongoing uncertainty about Royal Mail's status. Since 1969, it has been a public limited company owned by the government. But as mail volumes have fallen, the debate about whether it should be public or private has forced it to live in uncertainty about its future. Some see it as an essential public service which the government should run. But last year's Hooper Report says it is 40 per cent less efficient than its European counterparts, and fixing that will take new equipment, leading some to argue that it should use private money.

The government did try to part-privatise Royal Mail this year to raise the money it needs to invest, but there was no private buyer.

Of course, the first priority is for unions and management to reach an agreement. And the priority after that is to pay down the massive pensions deficit. But beyond these two steps, it is worth stepping back, taking the longer view and asking — what should Royal Mail look like?

Straight privatisation is not a realistic option. The country relies on being able to send letters from any address to any other, and Royal Mail is the only mail company obliged to serve every address in the country. There is no way that a business delivering letters to somewhere like Eigg ("the final mile" in mail parlance) could make a profit. In fact, when you ask a private mail company to deliver to an out-of-the-way address, it actually uses Royal Mail for the final mile. As these competitors know, there is simply no business case for providing post to people in isolated places, only a "public service" case. The public also want Royal Mail to stay a public service — 65 per cent opposed the government's proposed part-privatisation — so even the Conservatives know that trying to sell it would use up a lot of political capital for minimal political gain.

The fact is that Royal Mail is one company trying to do very different things. On the one hand, it is trying to compete with private mail companies in urban areas. On the other, it offers an irreplaceable public service to outlying final-mile areas. As the journalists' experiment showed, it is relatively inefficient in towns, but it does a great job getting your letters to places no private company would touch.

The solution is for it to recognise these for the separate aims they are, and restructure the funding of the company. It should be split into two parts, with each funded differently. Of course, they would have to be operationally fused so the transfer of mail is unaffected, and both together will probably be smaller than Royal Mail is now because of declining mail volumes, but each would be funded in a way that is most appropriate for what it does. One would operate in the lucrative urban areas. Here, as the journalists' survey shows, the need is to focus on becoming as competitive as possible.

It would be a government-owned, not-for profit company, this status meaning it was able to plough revenue back into modernisation, whereas its competitors would have to make a profit to want to stay in the market.

The other (perhaps named "Royal Mail Final Mile") would be a taxpayer-subsidised public service whose aim was simply to ensure that posting letters to out-of-the-way areas stayed as cheap as posting them to cities. Royal Mail Final Mile would soon recognise it has a monopoly on these areas and raise the prices it charges its competitors to post letters to places such as Eigg. This would both reduce the financial burden of this part of the company on the taxpayer and help keep costs down. Consumer prices should remain unaffected.

This might seem radical now, but the fact is that none of the ownership options on the table addresses the fact that Royal Mail's underlying problem is that it is trying to do two very different things at once and subsidise an unprofitable public service through delivering in decreasingly profitable cities.

In the long run, we will need to think outside the box.

Azeem Ibrahim is a research scholar at the International Security Programme, Kennedy School of Government at Harvard University.