Commodity Price Risk

We estimate that we purchase approximately 800 million gallons of fuel each year, thus fuel prices are a significant part of our expenses.

We are exposed to changes in commodity prices primarily for diesel fuel, unleaded gasoline and aircraft fuel for transportation of the mails and natural gas for heating facilities. We currently do not use derivative commodity instruments to manage the risk of changes in energy prices.

Foreign Currency Exchange Rate Risk

We have foreign currency risk related to the settlement of terminal dues and transit fees with foreign postal administrations for international mail. The majority of our international accounts are accounted for based on International Monetary Fund special drawing rights (SDR). The SDR exchange rate fluctuates daily based on a basket of currencies comprised of the euro, the Japanese yen, the pound sterling, and the U.S. dollar. Changes in the relative value of these currencies will increase or decrease the value of our settlement accounts and result in a gain or loss from revaluation. The actual currency used to settle accounts varies by country based on individual agreements.

We purchase the required currency at the time of settlement, but when we know the timing and the amount of scheduled payments in advance, we may purchase short duration forward contracts.

At year end, we adjust the reported receivable and payable balances to reflect the fair value based on the SDR rate published in the Wall Street Journal on the last day of September. This resulted in a $10 million gain from the revaluation in 2004 compared to a loss of $9 million in 2003. We do not use derivative financial instruments to manage the risk of changes in the value of the SDR.

Interest Rate Risk

As described in note 5 to the financial statements, we refinanced all our outstanding long term Federal Financing Bank debt with short term debt in 2003. We have not used derivative financial instruments to manage risk related to interest rate fluctuations for debt instruments.

We estimate that a 1% increase in interest rates would have an insignificant impact on our interest expense due to the structure of our debt portfolio. A 1% increase in interest rates would increase investment income by $15 million.

Item 8. Financial statements

Financial statements are on pages 34-46 of this report.

Item 9. Changes in and disagreements with accountants on accounting and financial disclosure

None.

Item 9A. Controls and procedures

Management is responsible for the preparation, integrity, and fair presentation of the financial statements of the Postal Service.

We maintain a system of internal control over financial reporting that is designed to provide reasonable assurance that transactions are executed as authorized and accurately recorded, that assets are safeguarded, and accounting records are sufficiently reliable to permit the preparation of financial statements that conform with accounting principles generally accepted in the United States. We maintain disclosure controls and procedures designed to ensure that information to be disclosed by us is recorded, processed, summarized, and reported within the time periods specified by our Board of Governors and the Office of Management and Budget. We are monitoring our internal controls over financial reporting and disclosure controls and procedures through internal self-assessments.

Code of Ethics

The Standards of Ethical Conduct for Employees of the Executive Branch at 5 Code of Federal Regulations (C.F.R.) §2635 apply to all postal employees. The Standards were issued in 1993 by the U.S. Office of Government Ethics, and replaced the individual agency standards then applicable to all employees of the executive branch. Our employees are also covered by the Supplemental Standards of Ethical Conduct for Employees of the United States Postal Service at 5 C.F.R. §7001. The Standards and Supplemental Standards are detailed and contain many examples to help employees recognize and resolve ethical issues. We give employees a summary of the standards, and other ethical conduct materials, at new employee orientation training. We also provide annual ethics training for all employees who file a financial disclosure report. We encourage our employees to seek ethics advice and information from internal ethics officials, and we publicize an ethics telephone line and e-mail address they can use for this purpose.