The Postal Service is subsidizing Jeff Bezos' quest to turn Amazon into a delivery machine that competes with UPS and FedEx — but the USPS can't break up with Bezos

• Amazon's relationship with US Postal Service has become political fodder in recent years as Trump demands the USPS to up its rates on the mega-retailer.
• Industry experts say Amazon does indeed take advantage of not only USPS' low rates, but its imperative to deliver to every address in the US.
• Amazon is only building delivery stations in the densest zip codes in the US, according to a 2019 Morgan Stanley analysis.
• The USPS must handle the rest — and it's pricey for the post office.
• Visit Business Insider's homepage for more stories.

President Donald Trump is right about one thing: The US Postal Service is charging below-market rates on Amazon.

A 2017 analysis from Citi said that the USPS undercharges package customers like Amazon by $1.46 per package, a number that Morningstar consumer equity analyst R.J. Hottovy says holds true today.

But the relationship between Amazon and the USPS is more complicated than that blanket number suggests. That's because the retail giant relies on the quasi-governmental agency, which receives no tax money, to build out its own delivery network.

In addition to relying on carriers like the USPS and UPS to deliver packages, Amazon is actually its own largest delivery company. Along with dropping off packages at consumers' homes, Amazon is now able to move a good from its factory overseas to your doorstep through an internal network of ocean freighters, trains, planes, and trucks.

This network is not just for Amazon's internal use. The retailer has developed it to carry non-Amazon packages, too. Morgan Stanley recently estimated that Amazon will carry 3.5 billion outside parcels in its network, stealing up to $100 billion in revenue from UPS, FedEx, and the USPS.

In the "final mile," Amazon delivers about 46% of its own packages, according to a December 2019 Morgan Stanley analysis of around 70,000 transactions over nine years. The USPS is the second-largest deliverer, moving about 30% of all Amazon boxes, followed by UPS at 17%.

Amazon Prime vans aren't ubiquitous in all neighborhoods, though.

Industry-wide, 60% of packages go to suburban homes, 20% are urban, and another 20% are rural, according to the Morgan Stanley analysis. For Amazon Logistics, just 11% of its packages go to rural homes. Urban (28%) and suburban (61%) dominate the package share, Morgan Stanley's research team found.

Amazon can build a dense delivery network thanks to the USPS

Servicing the densest areas is a way for Amazon to keep costs low. But, it threatens to bleed out the USPS, which has the legal imperative to serve all US addresses — even the low-margin, low-density rural neighborhoods.

"To build a B2C network from scratch, we believe it makes more sense to build a network that only services dense urban areas (the aforementioned 28% of the zip codes) and rely on the USPS or third-party delivery partner to go to rural or other areas with lower delivery density," Morgan Stanley's analysts wrote in December.

Building up density is key for any transportation company. Servicing big cities makes it easier for Amazon drivers to, for instance, park their van and make several dozen deliveries in one block. As areas have fewer and fewer customers in one square mile, Amazon would have to spend more and more on sortation costs, fuel, and labor to make deliveries.

To circumvent that, Amazon is only building delivery stations in the densest zip codes in the US, according to Morgan Stanley. The USPS is largely forced to handle the rest.

Hottovy of Morningstar estimated that delivering a packages to a rural home over an urban home costs Amazon anywhere from 1.5 to 4 times as much. "Amazon was able to reduce their cost quite a bit by going to the USPS," he told Business Insider. "In rural markets, it's exponentially that much more expensive."

As long as the USPS is around, Amazon won't deliver to rural areas unless it's profitable. Hottovy said Amazon won't likely deliver to rural areas until drone delivery, which may make rural deliveries cheaper, is a reality.

It's better for the USPS to deliver Amazon's least-desirable packages than to deliver nothing at all

Despite this, the USPS would be foolish to dump Amazon altogether — or risk losing Jeff Bezos' business by pushing for a rate increase.

USPS is a business that's dominated by a fixed cost: A mandated delivery schedule in which people in trucks are delivering at homes and businesses. Industry expert Nicholas Farhi, a partner at OC&C Strategy Consultants, explained that, for a fixed-cost business like USPS, one's largest customer is usually low-margin or even not outright profitable.

"It's extremely common for largely fixed cost businesses to appear to 'make a loss' on their largest customer, because the alternative, of losing that customer, would have a worse profit outcome than serving them at a lower price," Farhi told Business Insider in an email.

"This is especially true at roughly the scale of the relationship Amazon has with USPS," Farhi added. "Amazon is a big enough chunk of USPS revenues that, if USPS lost it, it would materially reduce their revenues without materially reducing their fixed costs."

In other words, losing Amazon as a customer would decimate the US Postal Service's revenues, but wouldn't save the company enough money to make up for it.

"Certainly, with their popularity and the amount of packages that are shipped, Amazon has been effectively a lifeline for the post office in a lot of ways," Hottovy said.

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