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10-K
UNITED PARCEL SERVICE INC filed this Form 10-K on 02/28/2013
Entire Document
 
UPS-12.31.2012-10K
UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
____________________________________ 
Form 10-K
FOR ANNUAL AND TRANSITION REPORTS
PURSUANT TO SECTIONS 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934
(Mark One)
x
ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
For the fiscal year ended December 31, 2012
or
¨
TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
For the transition period from                      to                     
Commission file number 001-15451
____________________________________  
 
____________________________________ 
United Parcel Service, Inc.
(Exact Name of Registrant as Specified in Its Charter)
____________________________________  
Delaware
 
58-2480149
(State or Other Jurisdiction of
Incorporation or Organization)
 
(I.R.S. Employer
Identification No.)
55 Glenlake Parkway, N.E. Atlanta, Georgia
 
30328
(Address of Principal Executive Offices)
 
(Zip Code)
(404) 828-6000
(Registrant’s telephone number, including area code)
____________________________________  
Securities registered pursuant to Section 12(b) of the Act:
Title of Each Class
 
Name of Each Exchange on Which Registered
Class B common stock, par value $.01 per share
 
New York Stock Exchange
____________________________________  
Securities registered pursuant to Section 12(g) of the Act:
Class A common stock, par value $.01 per share
(Title of Class)
Indicate by check mark if the registrant is a well-known seasoned issuer, as defined in Rule 405 of the Securities Act.    Yes  x    No  ¨
Indicate by check mark if the registrant is not required to file reports pursuant to Section 13 or Section 15(d) of the Exchange Act.    Yes  ¨    No  x
Indicate by check mark whether the registrant: (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days.    Yes  x    No  ¨
Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files).    Yes  x    No  ¨
Indicate by check mark if disclosure of delinquent filers pursuant to Item 405 of Regulation S-K is not contained herein, and will not be contained, to the best of registrant’s knowledge, in definitive proxy or information statements incorporated by reference in Part III of this Form 10-K or any amendment to this Form 10-K.  x
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer or a smaller reporting company. See definition of “accelerated filer”, “large accelerated filer” and “smaller reporting company” in Rule 12b-2 of the Exchange Act. Check one:
Large accelerated filer  x
  
Accelerated filer  ¨
 
Non-accelerated filer  ¨
 
Smaller reporting company  ¨
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).    Yes  ¨    No  x
The aggregate market value of the class B common stock held by non-affiliates of the registrant was $57,146,565,574 as of June 30, 2012. The registrant’s class A common stock is not listed on a national securities exchange or traded in an organized over-the-counter market, but each share of the registrant’s class A common stock is convertible into one share of the registrant’s class B common stock.
As of January 31, 2013, there were 223,092,434 outstanding shares of class A common stock and 730,357,508 outstanding shares of class B common stock.
DOCUMENTS INCORPORATED BY REFERENCE
Portions of the registrant’s definitive proxy statement for its annual meeting of shareowners scheduled for May 2, 2013 are incorporated by reference into Part III of this report.



UNITED PARCEL SERVICE, INC.
ANNUAL REPORT ON FORM 10-K
TABLE OF CONTENTS
 
PART I
 
Item 1.
 
 
 
 
 
 
 
 
 
 
 
 
 
Item 1A.
Item 1B.
Item 2.
 
 
Item 3.
Item 4.
 
PART II
 
Item 5.
 
Item 6.
Item 7.
 
 
 
 
 
 
 
 
 
 
 
Item 7A.
Item 8.
Item 9.
Item 9A.
Item 9B.
 
PART III
 
Item 10.
Item 11.
Item 12.
Item 13.
Item 14.
 
PART IV
 
Item 15.




PART I
Cautionary Statement About Forward-Looking Statements
This report includes certain “forward-looking statements” within the meaning of the Private Securities Litigation Reform Act of 1995. Statements in the future tense, and all statements accompanied by terms such as “believe,” “project,” “expect,” “estimate,” “assume,” “intend,” “anticipate,” “target,” “plan,” and variations thereof and similar terms are intended to be forward-looking statements. We intend that all forward-looking statements we make will be subject to safe harbor protection of the federal securities laws pursuant to Section 27A of the Securities Act of 1933 and Section 21E of the Securities Exchange Act of 1934.
Our disclosure and analysis in this report, in our Annual Report to Shareholders and in our other filings with the Securities and Exchange Commission (“SEC”) contain forward-looking statements regarding our intent, belief and current expectations about our strategic direction, prospects and future results. From time to time, we also provide forward-looking statements in other materials we release as well as oral forward-looking statements. Such statements give our current expectations or forecasts of future events; they do not relate strictly to historical or current facts. Management believes that these forward-looking statements are reasonable as and when made. However, caution should be taken not to place undue reliance on any such forward-looking statements because such statements speak only as of the date when made.
Forward-looking statements are subject to certain risks and uncertainties that could cause actual results to differ materially from our historical experience and our present expectations or anticipated results. These risks and uncertainties are described in Part I, “Item 1A. Risk Factors” and may also be described from time to time in our future reports filed with the SEC. You should consider the limitations on, and risks associated with, forward-looking statements and not unduly rely on the accuracy of predictions contained in such forward-looking statements. We do not undertake any obligation to update forward-looking statements to reflect events, circumstances, changes in expectations, or the occurrence of unanticipated events after the date of those statements.
 
Item 1.
Business

Overview
United Parcel Service, Inc. (“UPS”) was founded in 1907 as a private messenger and delivery service in Seattle, Washington. Today, UPS is the world’s largest package delivery company, a leader in the U.S. less-than-truckload industry and the premier provider of global supply chain management solutions. We deliver packages each business day for 1.1 million shipping customers to 7.7 million consignees in over 220 countries and territories. In 2012, we delivered an average of 16.3 million pieces per day worldwide, or a total of 4.1 billion packages. Total revenue in 2012 was $54.1 billion.
We are a global leader in logistics, and we create value for our customers through solutions that lower costs, improve service and provide highly customizable supply chain control and visibility. Customers are attracted to our broad set of services that are delivered as promised through our integrated ground, air and ocean global network.
Our services and integrated network allow shippers to simplify their supply chains by using fewer carriers, and to adapt their transportation requirements and expenditures as their businesses evolve. Across our service portfolio, we also provide control and visibility of customers’ inventories and supply chains via our UPS technology platform. The information flow from UPS technology drives improvements for our customers, as well as for UPS, in reliability, flexibility, productivity and efficiency.
Particularly over the last decade, UPS has significantly expanded the scope of our capabilities to include more than package delivery. Our logistics and distribution capabilities give companies the power to easily expand their businesses to new markets around the world. By leveraging our international infrastructure, UPS enables our customers to bridge time zones, cultures, distances and languages to keep the entire supply chain moving smoothly.
We serve the global market for logistics services, which include transportation, distribution, forwarding, ground, ocean and air freight, brokerage and financing. Our technology seamlessly binds our service portfolio. We have three reportable segments: U.S. Domestic Package, International Package and Supply Chain & Freight, all of which are described below. For financial information concerning our reportable segments and geographic regions, refer to note 11 of our consolidated financial statements.

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Business Strategy
Customers leverage our broad array of services; balanced global presence in North America, Europe, Asia and Latin America; reliability; industry-leading technology; and solutions expertise for competitive advantage in markets where they choose to compete. We prudently invest to expand our integrated global network and our service portfolio. Technology investments create user-friendly shipping, e-commerce, logistics management and visibility tools for our customers, while supporting UPS’s ongoing efforts to increase operational efficiencies.
Our service portfolio and investments are rewarded with among the best returns on invested capital and operating margins in the industry. We have a long history of sound financial management. Our balance sheet reflects financial strength that few companies can match. As of December 31, 2012, we had a balance of cash and marketable securities of approximately $7.924 billion and shareowners’ equity of $4.733 billion. Our Moody’s and Standard & Poor’s short-term credit ratings are P-1 and A-1, respectively, and our Moody’s and Standard & Poor’s long-term credit ratings are Aa3 and A+, respectively. We have a negative outlook from Standard & Poor's and a stable outlook from Moody's. Cash generation is a significant strength of UPS. This gives us strong capacity to service our obligations and allows for distributions to shareowners, reinvestment in our businesses and the pursuit of growth opportunities.
We enable and are the beneficiaries of the following trends:
Expansion of Global Trade
Transcontinental and trade across borders is predicted to grow at rates that are in excess of the growth rates of U.S. and global domestic production for the foreseeable future. As a result, U.S. and international economies are becoming more inter-connected and dependent on foreign trade.
UPS plays an important role in global trade and is uniquely positioned to take advantage of trade growth, wherever it occurs. Our balanced global presence and productivity enhancing technologies allow customers to easily expand to new markets. We advocate the expansion of free trade, including the passage of regional trade pacts and the removal of trade barriers. Free trade is a catalyst for job creation, economic growth and improved living standards; additionally, it propels our growth.
Emerging Market Growth
As our current and prospective customers look to emerging markets for expansion, we make long-term, measured investments in markets where our customers choose to grow. Our investments are scaled to the local opportunity. We typically follow a pattern of entering a market through the introduction of import and export services, expanding domestically with a partner or alliance, and then ultimately acquiring domestic operations where we see value and return. China is a prime example of this strategy as we continue to clear hurdles that will enable us to realize this vision. Our two key air hubs in Shanghai and Shenzhen support market expansion through increased cargo capacity and faster intra-Asia transit times, while enabling our customers to ship later in the day. Linkage between Asia and Europe is provided via flights between Hong Kong and our recently expanded air hub in Cologne, Germany.
Taken together, these two trends (expanding global trade and emerging market growth) underscore why our international business is a catalyst for UPS’s growth.
Increasing need for segment expertise in the integrated carrier space
We provide repeatable, scalable sector solutions for our customers. We invest in global capabilities and create value propositions for certain industries where there is a fit between our customers’ needs and our offerings. Segments where we bring unique value propositions include health care, high-tech, automotive & industrial manufacturing, retail, government and professional, and consumer services.
The health care industry faces complex challenges, including the continuing expiration of drug patents and the shifting landscape of regulatory requirements and drug pricing controls that differ by country. To counter these threats, many pharmaceutical companies have embarked on global expansion strategies that require infrastructure. UPS has aligned our resources to serve these needs through a well-developed supply chain management capability that is designed to satisfy regulatory and compliance requirements. Over the past 18 months, we opened 12 new dedicated health care facilities on four continents. We also expanded our health care network in China, India, Australia and Brazil and are in the process of expanding five existing North American facilities. In total, we currently operate nearly 6 million square feet of dedicated health care distribution space across an integrated network of 37 facilities. These facilities allow us to provide reliable, secure, cost-effective warehousing and distribution for pharmaceutical firms’ supply chains, which, in turn, allow them to easily navigate across and within borders.

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We also continue to invest in health care focused transportation solutions, such as UPS Temperature True. UPS Temperature True is an air freight solution specifically designed to safeguard temperature-sensitive shipments using a portfolio of specialized containers with passive, semi-active, or active refrigeration. This service provides door-to-door transportation of sensitive products in accordance with precise, measurable operating procedures. In 2012, UPS added 400 new UPS Temperature True international trade lanes. We also launched UPS Temperature True Small Package to provide optimized packaging solutions to ensure product integrity for customers with smaller format shipments of environmentally-sensitive products.
We will continue to expand our sector offerings, growing not only our physical and market footprint, but also our expertise and technology to support industry-specific needs. Our growth strategy is to increase the number of customers benefiting from these sector solutions and gain their associated small package and freight transportation.
Outsourcing
Outsourcing supply chain management is becoming more prevalent, as customers increasingly view professional management and operation of their supply chains as a strategic advantage. This trend enables companies to focus on what they do best. We can meet our customers’ needs for outsourced logistics with our global capabilities in customized forwarding, transportation, warehousing, distribution, delivery and post-sales services. As we move deeper into customers’ supply chains, we do so with a shared vision on how to best serve those who rely on our customers. We integrate our technology for efficiencies, visibility and control to ensure that we execute as promised.
Retail e-Commerce Growth
Throughout much of the world, e-commerce growth continues to outpace traditional lines of business. We continue to create new services, supported by UPS technology, that complement the traditional UPS premium home delivery service to address the needs of e-commerce shippers and receivers (“consignees”). Our offerings span a broad spectrum from cost-sensitive solutions such as SurePost, for shipments where economy takes precedence over speed, up to feature-rich solutions, such as our UPS My Choice service that provides consignees with revolutionary visibility and control of their inbound shipments.
With UPS My Choice, consignees direct the timing and location of their deliveries before a delivery attempt is made. Premium features include online delivery planners, detailed driver instructions, alternate delivery locations and a two-hour delivery window. Delivery alerts come via the channel chosen by the consignee—email, SMS text, etc. We strive to give our customers that ship using UPS My Choice the best delivery experience in the industry—delivery on the first attempt, where and when their customers want it.
Technology
Technology powers logistics. We bring industry-leading UPS technology to our customers who, in turn, realize increased productivity, greater control of their supply chains and improved customer experience when they integrate with our technology. Customers benefit through offerings such as:
UPS Quantum View, which can speed up the revenue cycle (i.e. faster transit times, coupled with confirmation of delivery, allow shippers to collect accounts receivable more quickly), allow for inbound volume planning, manage third-party shipping costs, automatically notify customers of incoming shipments, and of course, track shipments and let the customer react if a specific shipment status changes.
Flex Global View, which provides customs alerts, supplier key performance indicators and inventory monitoring.
UPS Paperless Invoice, which enables customers to submit a commercial invoice electronically when shipping internationally. This eliminates redundant data entry and errors, while reducing customs holds and paper waste.
UPS Import Control, which gives our customers the ability to initiate their import shipments, define billing terms and assign accounts to charge, and remove commercial invoices prior to delivery to a third-party.
UPS Mobile apps, which allow our customers to track, ship and find UPS locations from mobile devices, are among the top downloaded applications for businesses.
UPS My Choice, which focuses on the consignee and transforms the residential delivery experience. Receivers direct the timing and circumstances of their deliveries. This innovative service, which is unmatched in our industry, is powered by the complex integration of real-time route optimization and other technologies with our delivery network. We believe that UPS My Choice gives us a substantial lead over the competition.

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Technology, coupled with high-quality UPS employees, forms the foundation of our reliability and allows us to take customer experience to a higher level. Technology delivers value to our customers and returns to our shareholders. Recent advancements that evidence further gains in UPS’s operational efficiency, flexibility, reliability and customer experience include:
Continuing to rollout telematics to our delivery and tractor-trailer fleet. Telematics helps UPS determine a truck’s performance and condition by capturing data on more than 200 elements, including speed, RPM, oil pressure, seat belt use, number of times the truck is placed in reverse and idling time. Together, improved data and driver coaching help reduce fuel consumption, emissions and maintenance costs, while improving driver safety. Moreover, customers experience more consistent pickup times and more reliable deliveries, thereby enhancing their profitability and competitiveness.
Implementing our On Road Integrated Optimization and Navigation (“ORION”) system, which employs advanced algorithms to determine the optimal route for each delivery while meeting service commitments.
Converting our package cars to keyless entry, where drivers will be able to remotely turn the engine off with a button that will unlock the bulkhead door at the same time.
Ramping up installations of our Next Generation Small Sort (“NGSS”) technology, which reduces the amount of memorization required to sort a package, thereby improving productivity and quality. Employees sort packages to bins tagged with flashing lights, rather than memorizing addresses, allowing us to dramatically reduce training time.
Reporting Segments and Products & Services
As a global leader in logistics, UPS offers a broad range of domestic and export delivery services; the facilitation of international trade; and the deployment of advanced technology to more efficiently manage the world of business. We seek to streamline our customers’ shipment processing and integrate critical transportation information into their own business processes, helping them to create supply chain efficiencies, better serve their customers and improve their cash flows.

Global Small Package
UPS’s global small package operations provide time-definite delivery services for express letters, documents, small packages and palletized freight via air and ground services. We provide domestic delivery services within 56 countries and export services to more than 220 countries and territories around the world. We handle packages that weigh up to 150 pounds and are up to 165 inches in combined length and girth as well as palletized shipments weighing greater than 150 pounds. All of our package services are supported by numerous shipping, visibility and billing technologies.
UPS handles all levels of service (air, ground, domestic, international, commercial, residential) through one global integrated pickup and delivery network. All packages are commingled throughout their journey in our network, except when necessary to meet their specific service commitments. This enables one UPS driver to pick up our customers’ shipments, for any of our services, at the same scheduled time, day after day. Compared to companies with single service network designs, our integrated network uniquely provides operational and capital efficiencies while being easier on the environment.
Upon request, we offer same-day pickup of air and ground packages. Based on their needs, customers can schedule pickups for one to five days a week. Additionally, we provide our customers with easy access to UPS, with over 154,000 domestic and international entry points including: 39,100 drop boxes; 2,100 customer centers; 4,700 independently owned and operated locations of The UPS Store worldwide; 6,700 Kiala locations; 12,400 authorized shipping outlets and commercial counters; 5,900 alliance locations; and 83,900 UPS drivers who can accept packages provided to them.
With the growth of online shopping, our customers’ needs for efficient and reliable returns have increased. To this end, we have developed a robust selection of returns services that are available in over 100 countries. Options vary based on customer needs and country, and range from cost-effective solutions such as UPS Returns, which simply enables shippers to provide their customers with a return shipping label, to services as specialized as UPS Returns Exchange. With this new service, the UPS driver simplifies product exchanges by delivering a replacement item and picking up a return item in the same stop, and assisting with the re-packaging process.
We operate one of the largest airlines in the world, with global operations centered at our Worldport hub in Louisville, Kentucky. Worldport sort capacity, currently at 416,000 packages per hour, has expanded over the years due to volume growth and a centralization effort. Our European air hub is located in Cologne, Germany, and we maintain Asia-Pacific air hubs in Shanghai, China; Shenzhen, China; Taipei, Taiwan; Incheon, South Korea; Hong Kong; and Singapore. Our regional air hub in Canada is located in Hamilton, Ontario, and our regional air hub for Latin America and the Caribbean is in Miami, Florida.

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In the U.S., Worldport is supported by our regional air hubs in Hartford, Connecticut; Ontario, California; Philadelphia, Pennsylvania; and Rockford, Illinois. This network design allows for cost-effective package processing in our most technology-enabled facilities while enabling us to use fewer, larger and more fuel-efficient aircraft. Our U.S. ground fleet serves all business and residential zip codes in the contiguous U.S.
U.S. Domestic Package Reporting Segment
UPS is a leader in time-definite, money-back guaranteed, small package delivery services. We offer a full spectrum of U.S. domestic guaranteed ground and air package transportation services. Depending on the delivery speed needed, customers can select from a range of guaranteed time and day-definite delivery options.
Customers can select from same day, next day, two day and three day delivery alternatives. Many of these services offer options that enable customers to specify a time of day cut-off for their delivery (e.g. by 8:30, 10:30, noon, end of day, etc.).
Customers can also leverage our extensive ground network to ship using our day-definite guaranteed ground service that serves every U.S. business and residential address. UPS delivers more ground packages than any other carrier, with over 11 million ground packages delivered on time every day in the U.S., most within one to three business days.
UPS also offers UPS SurePost, an economy residential ground service for customers with non-urgent, light weight residential shipments. UPS SurePost is a contractual residential ground service that combines the consistency and reliability of the UPS Ground network with final delivery provided by the U.S. Postal Service.
International Package Reporting Segment
Our International Package reporting segment includes the small package operations in Europe, Asia, Canada and Latin America. UPS offers a wide selection of guaranteed, day and time-definite international shipping services.
We offer three guaranteed time-definite express options (Express Plus, Express and Express Saver) to more locations than any other carrier.
In 2013, we introduced UPS Worldwide Express Freight for palletized shipments over 150 pounds from 37 points of origin to 41 points of destination. This service meets the needs of international customers who have palletized freight shipments that require the same speed and reliability as our international express package service. UPS Worldwide Express Freight leverages our unique combination of package and freight networks to provide industry leading transit times with a money-back guarantee.
For international shipments that do not require express services, UPS Worldwide Expedited offers a reliable, deferred, guaranteed day-definite service option.
For cross-border ground package delivery, we offer UPS Transborder Standard delivery services within Europe, between the U.S. and Canada and between the U.S. and Mexico.
Europe, our largest region outside of the U.S., accounts for roughly half of international revenue and is one of our growth engines. Factors contributing to this are the highly fragmented nature of the market and the fact that exports make up a significant part of Europe’s GDP. Given our well-known, trusted brand and distinctive integrated network, we believe there is continued strong potential for growth in small package exports in Germany, the U.K., France, Italy, Spain and the Netherlands. Due to our strong growth, we are expanding our main European air hub in Cologne by 70% to a capacity of 190,000 packages per hour. Expansion will come in stages; the first stage was completed in the fourth quarter of 2011, with the final stage targeted for 2013.
Asia is another growth engine due to attractive growth rates in intra-Asia trade and the dynamic Chinese economy. We are bringing faster time-in-transit to customers focused on intra-Asia trade, reducing transit days from Asia to Europe, and continuing to build our China presence. Our recent China investments include:
Material outlays to add capabilities, facilities and quality employees. We are building awareness and relevance while demonstrating superior UPS performance.
Opened an air hub in Shenzhen in mid-2010.
Added intra-Asia and around-the-world flight frequencies allowing customers to reach more of Europe the next day, guaranteed, than any other express carrier.
We serve more than 40 Asia-Pacific countries and territories through more than two dozen alliances with local delivery companies that supplement company-owned operations. In Vietnam, our volume has doubled since entering into an alliance with a local partner in 2010.

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Additional International highlights include the following:
Since our 2009 acquisition of Unsped Paket Servisi San ve Ticaret A.S. in Turkey, we have seen strong export and domestic growth in that country.
In South and Central America, we benefit from the strong regional economy. Our offerings include express package delivery in major cities as well as distribution and forwarding.
We continue to grow our business organically in Mexico. We are well positioned with freight, domestic, international and distribution services.
In February 2012, we broadened our European business-to-consumer service portfolio by acquiring Kiala S.A., a Belgium-based developer of a platform that enables e-commerce retailers to offer consumers the option of having goods delivered to a convenient retail location.

Supply Chain & Freight Reporting Segment
The Supply Chain & Freight segment consists of our forwarding and logistics services, our UPS Freight business, and our financial offerings through UPS Capital. We manage supply chains in over 195 countries and territories, with approximately 35 million square feet of distribution space worldwide. Supply chain complexity creates demand for a global service offering that incorporates transportation, distribution and international trade and brokerage services, with financial and information services. We meet this demand by offering a broad array of services, which are described below.
The 2011 acquisition of Italy-based Pieffe Group (“Pieffe”) supports our global health care strategy, which has seen us make investments to better serve our growing customer base in the pharmaceutical, biotech and medical device industries. Previously family-owned, Pieffe is a pharmaceutical logistics business with more than 35 years of experience offering high-quality storage, distribution and cold chain solutions to some of the world’s leading pharmaceutical brands.
Freight Forwarding
UPS is one of the largest U.S. domestic air freight carriers and among the top international air freight forwarders globally. UPS offers a portfolio of guaranteed and non-guaranteed global air freight services. Additionally, as one of the world’s leading non-vessel operating common carriers, UPS also provides ocean freight full-container load and less-than container load shipments between most major ports around the world.
Customs Brokerage
UPS is among the world’s largest customs brokers by both the number of shipments processed annually and by the number of dedicated brokerage employees worldwide. With decades of customs brokerage experience, we provide our customers with customs clearance, trade management and international trade consulting services.
Logistics and Distribution
UPS Logistics offers the following:
Distribution Services: UPS’s comprehensive distribution services are provided through a global network of distribution centers that manage the flow of goods from receiving to storage and order processing to shipment, allowing companies to save time and money by minimizing their capital investment and positioning products closer to their customers.
Post Sales: Post Sales services support goods after they have been delivered or installed in the field. The four core service offerings within Post Sales include: (1) Critical Parts Fulfillment; (2) Reverse Logistics; (3) Test, Repair, and Refurbish; and (4) Network and Parts Planning. We leverage our global distribution network of 600+ field stocking locations to ensure that the right type and quantity of our customers’ stock is in the right locations to meet the needs of their end-customers. With this service, our customers are able to minimize spend and maximize service.
UPS Mail Innovations: UPS Mail Innovations offers an efficient, cost-effective method for sending lightweight parcels and flat mail to global addresses from the U.S. We pick up customers’ domestic and international mail, sort, post, manifest and then expedite the secured mail containers to the destination postal service for last-mile delivery.


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UPS Freight
UPS Freight offers regional, inter-regional and long-haul less-than-truckload (“LTL”) services, as well as full truckload services, in all 50 states, Canada, Puerto Rico, Guam, the U.S. Virgin Islands and Mexico. UPS Freight provides reliable LTL service backed by a day-definite, on-time guarantee at no additional cost. Additionally, many user-friendly small package technology offerings are available for freight. Applications such as UPS WorldShip, Billing Center, and Quantum View allow customers to process and track LTL shipments, create electronic bills of lading and reconcile billing.
UPS Capital
UPS Capital offers a range of services, including export and import financing to help improve cash flow, risk mitigation offerings to protect goods, as well as payment solutions that help speed the conversion cycle of payments.
Sustainability
UPS’s business and corporate responsibility strategies pursue a common interest to increase the vitality and environmental sustainability of the global economy by aggregating the shipping activity of millions of businesses and individuals worldwide into a single, highly efficient logistics network. This provides benefits to:
UPS, by ensuring strong demand for our services.
The economy, by making global supply chains more efficient and less expensive.
The environment, by enabling our global customers to leverage UPS’s carbon efficiency and thereby reduce the carbon intensity of their supply chains.
We pursue sustainable business practices worldwide through operational efficiency, fleet advances, facility engineering projects, and conservation-enabling technology and service offerings. We help our customers to do the same.
We worked with the non-profit organization Business for Social Responsibility ("BSR") to evaluate significant sustainability issues (Economic, Environmental and Social), and ranked each issue by importance based on multiple stakeholder feedback. We then worked with BSR to develop a materiality matrix by mapping the issues on a grid with two axes: “Importance to Stakeholder” and “Influence on Business Success”. The materiality matrix is now being used to aid in prioritizing our sustainability strategy. More information is available in the UPS Corporate Sustainability Report.
Sustainability highlights in 2012 include:
Rated 1st in Fortune Magazine’s 2012 “World’s Most Admired” for the Delivery Industry.
One of Corporate Responsibility’s “100 Best Corporate Citizens” and one of “The Best Corporate Citizens in Government Contracting”.
Recognized by Ethisphere Institute as one of the “World’s Most Ethical Companies”.
Named to Interbrands “Best Global Brands” for the 8th consecutive year. We ranked in the Top 100 in brand value around the world (#27) and were the only company in the transportation sector to make the list in 2012.
Recognized as a constituent of the Dow Jones Sustainability Index for the 11th consecutive year.
One of America’s Top Organizations for Multicultural Business Opportunities by DiversityBusiness.com.
Achieved a score of 99% in response to the Carbon Disclosure Project. Our Carbon Disclosure Leadership Index score tied one other company for the highest in the U.S.
Recognized by ClimateCounts.org as best company in the consumer shipping sector for the 4th consecutive year and was the second highest score overall globally.
More information is available on the UPS Sustainability website.

Community
We believe that strong communities are vital to the success of our company. By combining our philanthropy with the volunteer time and talents of our employees, UPS helps drive positive change for organizations and communities in need across the globe. The highlights of our corporate citizenship efforts in 2012 include:
Local non-profits around the world received more than 1.8 million hours of volunteer service from UPS employees participating in our Neighbor-to-Neighbor program.
The UPS Foundation, our charitable organization, oversaw $98 million in donations of cash and in-kind services to global causes primarily in four focus areas—community safety, environmental sustainability, diversity and volunteerism.

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UPS employees, both active and retired, contributed $48 million to United Way last year which was matched by a corporate contribution of $7 million. During the 2012 campaign, employees (both active and retired) pledged an additional $51 million to United Way.
UPS continued to help save lives through our UPS Humanitarian Relief program by providing our logistics expertise and resources to aid the drought-stricken Sahel region of Africa and areas impacted by Hurricanes Isaac and Sandy.
Thousands of teenagers and novice drivers in the U.S., Canada, the U.K., and Germany participated in UPS Road Code. This safety program for new drivers features UPS employees as instructors – a role where they get to share driving knowledge and safety tips amassed over our 105-year history of safe driving.
Reputation
Great brands require connecting with customers. In working to develop these connections, we have once again received high accolades from independent brand evaluations. In 2012, we were pleased that UPS earned the top rating in our industry on Interbrand’s Best Global Brands and Millward Brown's BrandZ Most Valuable Global Brands. UPS also was named to industry-leading positions in Fortune Magazine’s Most Admired and Harris Interactive’s Reputation Quotient surveys.
Employees
The strength of our company is our people, working together with a common purpose. We had approximately 399,000 employees (excluding temporary seasonal employees) as of December 31, 2012, of which 323,000 are in the U.S. and 76,000 are located internationally. Our global workforce includes approximately 71,000 management employees (36% of whom are part-time) and 328,000 hourly employees (46% of whom are part-time).
As of December 31, 2012, we had approximately 249,000 employees employed under a national master agreement and various supplemental agreements with local unions affiliated with the International Brotherhood of Teamsters (“Teamsters”). These agreements run through July 31, 2013.
We have approximately 2,600 pilots who are employed under a collective bargaining agreement with the Independent Pilots Association (“IPA”), which became amendable at the end of 2011.
Our airline mechanics are covered by a collective bargaining agreement with Teamsters Local 2727, which runs through November 1, 2013. In addition, approximately 3,100 of our ground mechanics who are not employed under agreements with the Teamsters are employed under collective bargaining agreements with the International Association of Machinists and Aerospace Workers (“IAM”). Our agreement with the IAM runs through July 31, 2014.
The experience of our management team continues to be an organizational strength. Nearly 40% of our full-time managers have more than 20 years of service with UPS.
We believe that our relations with our employees are good. We periodically survey all our employees to determine their level of job satisfaction. Areas of concern receive management attention as we strive to keep UPS the employer-of-choice among our employees. We consistently receive numerous awards and wide recognition as an employer-of-choice, resulting in part from our emphasis on diversity and corporate citizenship.
Safety
Health and Safety is a value at UPS and an enduring belief that the wellbeing of our people, business partners, and the public is of utmost importance. We train our people to avoid injury to themselves and others in all aspects of their work. We do not tolerate unsafe work practices.
We use an all-encompassing Comprehensive Health and Safety Process ("CHSP") to prevent occupational illnesses, injuries, and auto crashes, as well as promote wellness through the development of workplace programs. The foundation of this process is our co-chaired employee and management health and safety committees. Together they conduct facility and equipment audits, perform work practice and behavior analysis, conduct training, and recommend work process and equipment changes.

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The components of CHSP are:
Personal Value - Which is the foundation and forms the base of our safety and wellness culture.
Management Commitment and Employee Involvement - Where employees take an active role in their own safety as well as their fellow workers and are supported by management.
Work Site Analysis - Which includes injury and auto crash data analysis, behavior observations, and facility and equipment audits to identify gaps and develop solutions. Our operations managers are responsible for their employees' safety results. We investigate every injury and auto crash and develop prevention activities.
Hazard Prevention and Control - Where solutions are developed and documented to ensure identified risks have been mitigated.
Safety Education and Training - Employees who are healthy and well-trained in proper methods are more safe and efficient in performing their jobs. Our approach starts with training the trainer. All trainers are certified to ensure that they have the skills and motivation to effectively train new employees. All new employees receive safety training during orientation and in the work area. In addition, each new driver receives extensive classroom and online training as well as on-road training, followed by three safety training rides integrated into his or her training cycle.
Other components to ensure the safety of our fleet include:
Recognition - We have a well-defined safe driving honor plan to recognize our drivers when they achieve accident-free milestones. We have more than 6,400 drivers enshrined in our coveted Circle of Honor for drivers who have driven 25 years or more without an avoidable auto crash.
Preventive Maintenance - We have a comprehensive Preventive Maintenance Program to ensure the safety of our fleet. Our fleet is managed and monitored electronically to ensure that each vehicle is serviced at a specific time to prevent malfunction or breakdown.
Competition
We are the largest package delivery company in the world, in terms of both revenue and volume. We offer a broad array of services in the package and freight delivery industry and, therefore, compete with many different local, regional, national and international companies. Our competitors include worldwide postal services, various motor carriers, express companies, freight forwarders, air couriers and others. Through our supply chain service offerings, we compete with a number of participants in the supply chain, financial services and information technology industries.
Competitive Strengths
Our competitive strengths include:
Integrated Global Network.    We believe that our integrated global ground and air network is the most extensive in the industry. We handle all levels of service (air, ground, domestic, international, commercial, residential) through a single pickup and delivery service network.
Our sophisticated engineering systems allow us to optimize our network efficiency and asset utilization on a daily basis. This unique, integrated global business model creates consistent and superior returns.
We believe we have the most comprehensive integrated delivery and information services portfolio of any carrier in Europe. In other regions of the world, we rely on both our own and local service providers’ capabilities to meet our service commitments.
Global Presence.    UPS serves more than 220 countries and territories around the world. We have a presence in all of the world’s major economies.
Leading-edge Technology.    We are a global leader in developing technology that helps our customers optimize their shipping and logistics business processes to lower costs, improve service and increase efficiency.
Technology powers virtually every service we offer and every operation we perform. Our technology offerings are initiated by our customers’ needs. We offer a variety of online service options that enable our customers to integrate UPS functionality into their own businesses not only to conveniently send, manage and track their shipments, but also to provide their customers with better information services. We provide the infrastructure for an Internet presence that extends to tens of thousands of customers who have integrated UPS tools directly into their own web sites.

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Broad Portfolio of Services.    Our portfolio of services enables customers to choose the delivery option that is most appropriate for their requirements. Increasingly, our customers benefit from business solutions that integrate many UPS services in addition to package delivery. For example, our supply chain services—such as freight forwarding, customs brokerage, order fulfillment, and returns management—help improve the efficiency of the supply chain management process.
Customer Relationships.    We focus on building and maintaining long-term customer relationships. We serve 1.1 million pick-up customers and 7.7 million delivery customers daily. Cross-selling small package, supply chain and freight services across our customer base is an important growth mechanism for UPS.
Brand Equity.    We have built a leading and trusted brand that stands for quality service, reliability and product innovation. The distinctive appearance of our vehicles and the professional courtesy of our drivers are major contributors to our brand equity.
Distinctive Culture.    We believe that the dedication of our employees results in large part from our distinctive “employee-owner” concept. Our employee stock ownership tradition dates from 1927, when our founders, who believed that employee stock ownership was a vital foundation for successful business, first offered stock to employees. To facilitate employee stock ownership, we maintain several stock-based compensation programs.
Our long-standing policy of “promotion from within” complements our tradition of employee ownership, and this policy reduces the need for us to hire managers and executive officers from outside UPS. The majority of our management team began their careers as full-time or part-time hourly UPS employees, and have spent their entire careers with us. Many of our executive officers have more than 30 years of service with UPS and have accumulated a meaningful ownership stake in our company. Therefore, our executive officers have a strong incentive to effectively manage UPS, which benefits all our shareowners.
Financial Strength.    Our balance sheet reflects financial strength that few companies can match. Our financial strength gives us the resources to achieve global scale; to invest in employee development, technology, transportation equipment and facilities; to pursue strategic opportunities that facilitate our growth; to service our obligations; and to return value to our shareowners in the form of dividends and share repurchases.
Government Regulation
Air Operations
The U.S. Department of Transportation (“DOT”), the Federal Aviation Administration (“FAA”), and the U.S. Department of Homeland Security, through the Transportation Security Administration (“TSA”), have regulatory authority over United Parcel Service Co.’s (“UPS Airlines’”) air transportation services. The Federal Aviation Act of 1958, as amended, is the statutory basis for DOT and FAA authority and the Aviation and Transportation Security Act of 2001, as amended, is the basis for TSA aviation security authority.
The DOT’s authority primarily relates to economic aspects of air transportation, such as discriminatory pricing, non-competitive practices, interlocking relations and cooperative agreements. The DOT also regulates, subject to the authority of the President of the United States, international routes, fares, rates and practices, and is authorized to investigate and take action against discriminatory treatment of U.S. air carriers abroad. International operating rights for U.S. airlines are usually subject to bilateral agreement between the U.S. and foreign governments. UPS Airlines has international route operating rights granted by the DOT and we may apply for additional authorities when those operating rights are available and are required for the efficient operation of our international network. The efficiency and flexibility of our international air transportation network is dependent on DOT and foreign government regulations and operating restrictions.
The FAA’s authority primarily relates to safety aspects of air transportation, including aircraft operating procedures, transportation of hazardous materials, record keeping standards and maintenance activities, and personnel. In 1988, the FAA granted us an operating certificate, which remains in effect so long as we meet the safety and operational requirements of the applicable FAA regulations. In addition, we are subject to non-U.S. government regulation of aviation rights involving non-U.S. jurisdictions, and non-U.S. customs regulation.
FAA regulations mandate an aircraft corrosion control program, along with aircraft inspection and repair at periodic intervals specified by approved programs and procedures, for all aircraft. Our total expenditures under these programs for 2012 were not material. The future cost of repairs pursuant to these programs may fluctuate according to aircraft condition, age and the enactment of additional FAA regulatory requirements.

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The TSA regulates various security aspects of air cargo transportation in a manner consistent with the TSA mission statement to “protect the Nation’s transportation systems to ensure freedom of movement for people and commerce.” UPS Airlines, and specified airport and off-airport locations, are regulated under TSA regulations applicable to the transportation of cargo in an air network. In addition, personnel, facilities and procedures involved in air cargo transportation must comply with TSA regulations.
UPS Airlines, along with a number of other domestic airlines, participates in the Civil Reserve Air Fleet (“CRAF”) program. Our participation in the CRAF program allows the U.S. Department of Defense (“DOD”) to requisition specified UPS Airlines wide-body aircraft for military use during a national defense emergency. The DOD compensates us for the use of aircraft under the CRAF program. In addition, participation in CRAF entitles UPS Airlines to bid for military cargo charter operations.
Ground Operations
Our ground transportation of packages in the U.S. is subject to the DOT’s jurisdiction with respect to the regulation of routes and to both the DOT’s and the states’ jurisdiction with respect to the regulation of safety, insurance and hazardous materials. We are subject to similar regulation in many non-U.S. jurisdictions.
The Postal Reorganization Act of 1970 created the U.S. Postal Service as an independent establishment of the executive branch of the federal government, and created the Postal Rate Commission, an independent agency, to recommend postal rates. The Postal Accountability and Enhancement Act of 2006 amended the 1970 Act to give the re-named Postal Regulatory Commission revised oversight authority over many aspects of the Postal Service, including postal rates, product offerings and service standards. We sometimes participate in the proceedings before the Postal Regulatory Commission in an attempt to secure fair postal rates for competitive services.

Customs
We are subject to the customs laws in the countries in which we operate, regarding the import and export of shipments, including those related to the filing of documents on behalf of client importers and exporters.
Environmental
We are subject to federal, state and local environmental laws and regulations across all of our business units. These laws and regulations cover a variety of processes, including, but not limited to: proper storage, handling, and disposal of hazardous and other waste; managing wastewater and stormwater; monitoring and maintaining the integrity of underground storage tanks; complying with laws regarding clean air, including those governing emissions; protecting against and appropriately responding to spills and releases; and communicating the presence of reportable quantities of hazardous materials to local responders. UPS has established site- and activity-specific environmental compliance and pollution prevention programs to address our environmental responsibilities and remain compliant. In addition, UPS has created numerous programs which seek to minimize waste and prevent pollution within our operations.
Other Regulations
We are subject to numerous other U.S. federal and state laws and regulations, in addition to applicable foreign laws, in connection with our package and non-package businesses in the countries in which we operate. These laws and regulations include those enforced by U.S. Customs and Border Protection and other agencies of the U.S. Department of Homeland Security, the U.S. Department of Treasury, the Federal Maritime Commission, the U.S. Drug Enforcement Administration, the U.S. Food and Drug Administration and the U.S. Department of Agriculture.
Where You Can Find More Information
UPS maintains a website at www.ups.com. Our annual report on Form 10-K, quarterly reports on Form 10-Q, current reports on Form 8-K, and any amendments to those reports filed or furnished pursuant to Section 13(a) of the Securities Exchange Act of 1934 are made available through our website www.investors.ups.com as soon as reasonably practical after we electronically file or furnish the reports to the SEC. Also available on the Corporation’s website are the Company’s Corporate Governance Guidelines and Committee Charters. However, information on these websites is not incorporated by reference into this report or any other report filed with or furnished to the SEC.

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We have adopted a written Code of Business Conduct that applies to all of our directors, officers and employees, including our principal executive officer and senior financial officers. It is available in the governance section of the investor relations website, located at www.investors.ups.com. In the event that we make changes in, or provide waivers from, the provisions of the Code of Business Conduct that the SEC requires us to disclose, we intend to disclose these events in the governance section of our investor relations website.
Our Corporate Governance Guidelines and the charters for our Audit Committee, Compensation Committee and Nominating and Corporate Governance Committee are also available in the governance section of the investor relations website.
Our sustainability report, which describes our activities that support our commitment to acting responsibly and contributing to society, is available at www.sustainability.ups.com. We provide the addresses to our internet sites solely for the information of investors. We do not intend any addresses to be active links or to otherwise incorporate the contents of any website into this report.

Item 1A.
Risk Factors

You should carefully consider the following factors, which could materially affect our business, financial condition or results of operations. You should read these Risk Factors in conjunction with “Management’s Discussion and Analysis of Financial Condition and Results of Operations” in Item 7 and our Consolidated Financial Statements and related notes in Item 8.
General economic conditions, both in the U.S. and internationally, may adversely affect our results of operations.
We conduct operations in over 220 countries and territories. Our U.S. and international operations are subject to normal cycles affecting the economy in general, as well as the local economic environments in which we operate. The factors that create cyclical changes to the economy and to our business are beyond our control, and it may be difficult for us to adjust our business model to mitigate the impact of these factors. In particular, our business is affected by levels of industrial production, consumer spending and retail activity, and our business, financial position and results of operations could be materially affected by adverse developments in these aspects of the economy.
We face significant competition which could adversely affect our business, financial position and results of operations.
We face significant competition on a local, regional, national and international basis. Our competitors include the postal services of the U.S. and other nations, various motor carriers, express companies, freight forwarders, air couriers and others. Competition may also come from other sources in the future. Some of our competitors have cost and organizational structures that differ from ours and may offer services and pricing terms that we may not be willing or able to offer. If we are unable to timely and appropriately respond to competitive pressures, our business, financial position and results of operations could be adversely affected.
The transportation industry continues to consolidate and competition remains strong. As a result of consolidation, our competitors may increase their market share and improve their financial capacity, and may strengthen their competitive positions. Business combinations could also result in competitors providing a wider variety of services and products at competitive prices, which could adversely affect our financial performance.
Changes in our relationships with our significant customers, including the loss or reduction in business from one or more of them, could have an adverse impact on us.
Our top 20 customers account for less than 10% of our consolidated revenue. We do not believe the loss of any single customer would materially impair our overall financial condition or results of operations; however, collectively, some of these large customers might account for a relatively significant portion of the growth in revenue in a particular quarter or year. These customers can drive the growth in revenue for particular services based on factors such as: new customer product launches; the seasonality associated with the fourth quarter Holiday season; business mergers and acquisitions; and the overall fast growth of a customer's underlying business. These customers could choose to divert all or a portion of their business with us to one of our competitors, demand pricing concessions for our services, require us to provide enhanced services that increase our costs, or develop their own shipping and distribution capabilities. If these factors drove some of our large customers to cancel all or a portion of their business relationships with us, it could materially impact the growth in our business and the ability to meet our current and long-term financial forecasts.

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Our business is subject to complex and stringent regulation in the U.S. and internationally.
We are subject to complex and stringent aviation, transportation, environmental, security, labor, employment and other governmental laws and regulations, both in the U.S. and in the other countries in which we operate. In addition, our business is impacted by laws and regulations that affect global trade, including tariff and trade policies, export requirements, taxes and other restrictions and charges. Changes in laws, regulations and the related interpretations may alter the landscape in which we do business and may affect our costs of doing business. The impact of new laws and regulations cannot be predicted. Compliance with new laws and regulations may increase our operating costs or require significant capital expenditures. Any failure to comply with applicable laws or regulations in the U.S. or in any of the countries in which we operate could result in substantial fines or possible revocation of our authority to conduct our operations, which could adversely affect our financial performance.
Increased security requirements could impose substantial costs on us and we could be the target of an attack or have a security breach.
As a result of concerns about global terrorism and homeland security, governments around the world have adopted or may adopt stricter security requirements that will result in increased operating costs for businesses in the transportation industry. These requirements may change periodically as a result of regulatory and legislative requirements and in response to evolving threats. We cannot determine the effect that these new requirements will have on our cost structure or our operating results, and these rules or other future security requirements may increase our costs of operations and reduce operating efficiencies. Regardless of our compliance with security requirements or the steps we take to secure our facilities or fleet, we could be the target of an attack or security breaches could occur, which could adversely affect our operations or our reputation.
We may be affected by global climate change or by legal, regulatory or market responses to such potential change.
Concern over climate change, including the impact of global warming, has led to significant federal, state and international legislative and regulatory efforts to limit greenhouse gas (“GHG”) emissions. For example, in the past several years, the U.S. Congress has considered various bills that would regulate GHG emissions. While these bills have not yet received sufficient Congressional support for enactment, some form of federal climate change legislation is possible in the future. Even in the absence of such legislation, the Environmental Protection Agency, spurred by judicial interpretation of the Clean Air Act, may regulate GHG emissions, especially aircraft or diesel engine emissions, and this could impose substantial costs on us. These costs include an increase in the cost of the fuel and other energy we purchase and capital costs associated with updating or replacing our aircraft or vehicles prematurely. Until the timing, scope and extent of any future regulation becomes known, we cannot predict its effect on our cost structure or our operating results. It is reasonably possible that such legislation or regulation could impose material costs on us. Moreover, even without such legislation or regulation, increased awareness and any adverse publicity in the global marketplace about the GHGs emitted by companies in the airline and transportation industries could harm our reputation and reduce customer demand for our services, especially our air services.
Strikes, work stoppages and slowdowns by our employees could adversely affect our business, financial position and results of operations.
A significant number of our employees are employed under a national master agreement and various supplemental agreements with local unions affiliated with the Teamsters and our airline pilots, airline mechanics, ground mechanics and certain other employees are employed under other collective bargaining agreements. Strikes, work stoppages and slowdowns by our employees could adversely affect our ability to meet our customers’ needs, and customers may do more business with competitors if they believe that such actions or threatened actions may adversely affect our ability to provide services. We may face permanent loss of customers if we are unable to provide uninterrupted service, and this could adversely affect our business, financial position and results of operations. The terms of future collective bargaining agreements also may affect our competitive position and results of operations.

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We are exposed to the effects of changing prices of energy, including gasoline, diesel and jet fuel, and interruptions in supplies of these commodities.
Changing fuel and energy costs may have a significant impact on our operations. We require significant quantities of fuel for our aircraft and delivery vehicles and are exposed to the risk associated with variations in the market price for petroleum products, including gasoline, diesel and jet fuel. We mitigate our exposure to changing fuel prices through our indexed fuel surcharges and we may also enter into hedging transactions from time to time. If we are unable to maintain or increase our fuel surcharges, higher fuel costs could adversely impact our operating results. Even if we are able to offset the cost of fuel with our surcharges, high fuel surcharges may result in a mix shift from our higher yielding air products to lower yielding ground products or an overall reduction in volume. If fuel prices rise sharply, even if we are successful in increasing our fuel surcharge, we could experience a lag time in implementing the surcharge, which could adversely affect our short-term operating results. There can be no assurance that our hedging transactions will be effective to protect us from changes in fuel prices. Moreover, we could experience a disruption in energy supplies, including our supply of gasoline, diesel and jet fuel, as a result of war, actions by producers, or other factors which are beyond our control, which could have an adverse effect on our business.
Changes in exchange rates or interest rates may have an adverse effect on our results.
We conduct business across the globe with a significant portion of our revenue derived from operations outside the United States. Our operations in international markets are affected by changes in the exchange rates for local currencies, and in particular the Euro, British Pound Sterling, Canadian Dollar, Chinese Renminbi and Hong Kong Dollar.
We are exposed to changes in interest rates, primarily on our short-term debt and that portion of our long-term debt that carries floating interest rates. The impact of a 100-basis-point change in interest rates affecting our debt is discussed in the “Quantitative and Qualitative Disclosures about Market Risk” section of this report.
We monitor and manage our exposures to changes in currency exchange rates and interest rates, and make limited use of derivative instruments to mitigate the impact of changes in these rates on our financial position and results of operations; however, changes in exchange rates and interest rates cannot always be predicted or hedged.
If we are unable to maintain our brand image and corporate reputation, our business may suffer.
Our success depends in part on our ability to maintain the image of the UPS brand and our reputation for providing excellent service to our customers. Service quality issues, actual or perceived, even when false or unfounded, could tarnish the image of our brand and may cause customers to use other companies. Also, adverse publicity surrounding labor relations, environmental concerns, security matters, political activities and the like, or attempts to connect our company to these sorts of issues, either in the United States or other countries in which we operate, could negatively affect our overall reputation and acceptance of our services by customers. Damage to our reputation and loss of brand equity could reduce demand for our services and thus have an adverse effect on our business, financial position and results of operations, and could require additional resources to rebuild our reputation and restore the value of our brand.
A significant privacy breach or IT system disruption could adversely affect our business and we may be required to increase our spending on data and system security.
We rely on information technology networks and systems, including the Internet, to process, transmit and store electronic information, and to manage or support a variety of business processes and activities. In addition, the provision of service to our customers and the operation of our network involve the storage and transmission of proprietary information and sensitive or confidential data, including personal information of customers, employees and others. Our information technology systems, some of which are managed by third-parties, may be susceptible to damage, disruptions or shutdowns due to failures during the process of upgrading or replacing software, databases or components thereof, power outages, hardware failures, computer viruses, attacks by computer hackers, telecommunication failures, user errors or catastrophic events. Groups of hackers may also act in a coordinated manner to launch distributed denial of service attacks or other coordinated attacks that may cause service outages or other interruptions. In addition, breaches in security could expose us, our customers or the individuals affected to a risk of loss or misuse of proprietary information and sensitive or confidential data. Any of these occurrences could result in disruptions in our operations, the loss of existing or potential customers, damage to our brand and reputation, and litigation and potential liability for the company. In addition, the cost and operational consequences of implementing further data or system protection measures could be significant.

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Severe weather or other natural or manmade disasters could adversely affect our business.
Severe weather conditions and other natural or manmade disasters, including storms, floods, fires and earthquakes, may result in decreased revenues, as our customers reduce their shipments, or increased costs to operate our business, which could have an adverse effect on our results of operations for a quarter or year. Any such event affecting one of our major facilities could result in a significant interruption in or disruption of our business.
We make significant capital investments in our business of which a significant portion is tied to projected volume levels.
We require significant capital investments in our business consisting of aircraft, vehicles, technology, facilities and sorting and other types of equipment to support both our existing business and anticipated growth. Forecasting projected volume involves many factors which are subject to uncertainty, such as general economic trends, changes in governmental regulation and competition. If we do not accurately forecast our future capital investment needs, we could have excess capacity or insufficient capacity, either of which would negatively affect our revenues and profitability. In addition to forecasting our capital investment requirements, we adjust other elements of our operations and cost structure in response to adverse economic conditions; however, these adjustments may not be sufficient to allow us to maintain our operating margins in a weak economy.
We derive a significant portion of our revenues from our international operations and are subject to the risks of doing business in emerging markets.
We have significant international operations and while the geographical diversity of our international operations helps ensure that we are not overly reliant on a single region or country, we are continually exposed to changing economic, political and social developments beyond our control. Emerging markets are typically more volatile than those in the developed world, and any broad-based downturn in these markets could reduce our revenues and adversely affect our business, financial position and results of operations.
We are subject to changes in markets and our business plans that have resulted, and may in the future result, in substantial write-downs of the carrying value of our assets, thereby reducing our net income.
Our regular review of the carrying value of our assets has resulted, from time to time, in significant impairments, and we may in the future be required to recognize additional impairment charges. Changes in business strategy, government regulations, or economic or market conditions have resulted and may result in further substantial impairments of our intangible, fixed or other assets at any time in the future. In addition, we have been and may be required in the future to recognize increased depreciation and amortization charges if we determine that the useful lives of our fixed assets are shorter than we originally estimated. Such changes could reduce our net income.
Employee health and retiree health and pension benefit costs represent a significant expense to us.
With approximately 399,000 employees, including approximately 323,000 in the U.S., our expenses relating to employee health and retiree health and pension benefits are significant. In recent years, we have experienced significant increases in certain of these costs, largely as a result of economic factors beyond our control, including, in particular, ongoing increases in health care costs well in excess of the rate of inflation and the decreasing trend of discount rates in which we use to value our pension liabilities. Continued increasing health care costs, volatility in investment returns and discount rates, as well as changes in laws, regulations and assumptions used to calculate retiree health and pension benefit expenses, may adversely affect our business, financial position, results of operations or require significant contributions to our pension plans.
We participate in a number of trustee-managed multiemployer pension and health and welfare plans for employees covered under collective bargaining agreements. Several factors could cause us to make significantly higher future contributions to these plans, including unfavorable investment performance, increases in health care costs, changes in demographics and increased benefits to participants. At this time, we are unable to determine the amount of additional future contributions, if any, or whether any material adverse effect on our financial condition, results of operations or liquidity could result from our participation in these plans.

We may be subject to various claims and lawsuits that could result in significant expenditures.
The nature of our business exposes us to the potential for various claims and litigation related to labor and employment, personal injury, property damage, business practices, environmental liability and other matters. Any material litigation or a catastrophic accident or series of accidents could have a material adverse effect on our business, financial position and results of operations.

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We may not realize the anticipated benefits of acquisitions, joint ventures or strategic alliances.
As part of our business strategy, we may acquire businesses and form joint ventures or strategic alliances. Whether we realize the anticipated benefits from these transactions depends, in part, upon the successful integration between the businesses involved, the performance of the underlying operation, capabilities or technologies and the management of the transacted operations. Accordingly, our financial results could be adversely affected by our failure to effectively integrate the acquired operations, unanticipated performance issues, transaction-related charges or charges for impairment of long-term assets that we acquire.
Insurance and claims expenses could have a material adverse effect on our business, financial condition and results of operations.
We have a combination of both self-insurance and high-deductible insurance programs for the risks arising out of the services we provide and the nature of our global operations, including claims exposure resulting from cargo loss, personal injury, property damage, aircraft and related liabilities, business interruption and workers’ compensation. Workers’ compensation, automobile and general liabilities are determined using actuarial estimates of the aggregate liability for claims incurred and an estimate of incurred but not reported claims, on an undiscounted basis. Our accruals for insurance reserves reflect certain actuarial assumptions and management judgments, which are subject to a high degree of variability. If the number or severity of claims for which we are retaining risk increases, our financial condition and results of operations could be adversely affected. If we lose our ability to self-insure these risks, our insurance costs could materially increase and we may find it difficult to obtain adequate levels of insurance coverage.
 
Item 1B.
Unresolved Staff Comments

Not applicable.
 
Item 2.
Properties

Operating Facilities
We own our headquarters, which are located in Atlanta, Georgia and consist of about 745,000 square feet of office space on an office campus, and our UPS Supply Chain Solutions group’s headquarters, which are located in Alpharetta, Georgia, and consist of about 310,000 square feet of office space.
We also own our 29 principal U.S. package operating facilities, which have floor spaces that range from approximately 310,000 to 693,000 square feet. In addition, we have a 1.9 million square foot operating facility near Chicago, Illinois, which is designed to streamline shipments between East Coast and West Coast destinations, and we own or lease over 1,000 additional smaller package operating facilities in the U.S. The smaller of these facilities have vehicles and drivers stationed for the pickup of packages and facilities for the sorting, transfer and delivery of packages. The larger of these facilities also service our vehicles and equipment and employ specialized mechanical installations for the sorting and handling of packages.
We own or lease more than 800 facilities that support our international package operations and an additional 574 facilities that support our freight forwarding and logistics operations. Our freight forwarding and logistics operations maintain facilities with approximately 28.6 million square feet of floor space. We own and operate a logistics campus consisting of approximately 3.7 million square feet in Louisville, Kentucky.

UPS Freight operates 210 service centers with a total of 6 million square feet of floor space. UPS Freight owns 149 of these service centers, while the remainder are occupied under operating lease agreements. The main offices of UPS Freight are located in Richmond, Virginia and consist of about 217,000 square feet of office space.
Our aircraft are operated in a hub and spokes pattern in the U.S. Our principal air hub in the U.S., known as Worldport, is located in Louisville, Kentucky. The Worldport facility consists of over 5.2 million square feet and the site includes approximately 596 acres. Between 2009 and 2010, we completed an expansion of our Worldport facility, which increased the sorting capacity to approximately 416,000 packages per hour. The expansion, which cost over $1 billion, involved the addition of two aircraft load / unload wings to the hub building, followed by the installation of high-speed conveyor and computer control systems.

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We also have regional air hubs in Hartford, Connecticut; Ontario, California; Philadelphia, Pennsylvania; and Rockford, Illinois. These hubs house facilities for the sorting, transfer and delivery of packages. Our European air hub is located in Cologne, Germany, and we maintain Asia-Pacific air hubs in Shanghai, China; Shenzhen, China; Taipei, Taiwan; Incheon, South Korea; Hong Kong; and Singapore. Our regional air hub in Canada is located in Hamilton, Ontario, and our regional air hub for Latin America and the Caribbean is in Miami, Florida.
In 2011, we announced plans to significantly expand our European air hub in Cologne, Germany. The expansion project, due to be completed by the end of 2013, will equip the existing facility with additional state-of-the-art technology and will include a major extension to the existing building. This extension would be partially dedicated to processing larger freight shipments. Together these initiatives will significantly increase the hub’s package sorting capacity from today’s 112,000 to 190,000 packages per hour. The total cost of the expansion is estimated to be approximately $200 million.
Over the past several years, UPS has made a successful transition to become the first wholly-owned foreign express carrier in China. In 2008, we opened the UPS International Air Hub at Pudong International Airport, which was built on a parcel totaling 2.4 million square feet with a planned sorting capacity of 17,000 packages per hour. The hub links all of China via Shanghai to UPS’s international network with direct service to the Americas, Europe and Asia. It also connects points served in China by UPS through a dedicated service provided by Yangtze River Express, a Chinese all-cargo airline.
In February 2010, we opened a new intra-Asia air hub at Shenzhen Bao'an International Airport in China. The Shenzhen facility replaced our intra-Asia air hub at Clark Air Force Base in the Philippines, and serves as our primary transit hub in Asia. The facility was built on a parcel of almost 1 million square feet, and has a sorting capacity of 18,000 packages per hour.
Our primary information technology operations are consolidated in a 443,600 square foot owned facility, the Ramapo Ridge facility, which is located on a 39-acre site in Mahwah, New Jersey. We also own a 175,000 square foot facility located on a 25-acre site in Alpharetta, Georgia, which serves as a backup to the main information technology operations facility in New Jersey. This facility provides production functions and backup capacity in the event that a power outage or other disaster incapacitates the main data center. It also helps to meet our internal communication needs.
We believe that our facilities are adequate to support our current operations.

Fleet
Aircraft
The following table shows information about our aircraft fleet as of December 31, 2012:
Description
Owned and
Capital
Leases
 
Short-term
Leased or
Chartered
From
Others
 
On
Order
 
Under
Option
Boeing 747-400F
11

 

 

 

Boeing 747-400BCF
2

 

 

 

Boeing 757-200F
75

 

 

 

Boeing 767-300ERF
51

 

 
8

 

Boeing MD-11F
38

 

 

 

Airbus A300-600F
53

 

 

 

Other

 
332

 

 

Total
230

 
332

 
8

 

We maintain an inventory of spare engines and parts for each aircraft.
All of the aircraft we own meet Stage IV federal noise regulations and can operate at airports that have aircraft noise restrictions.
During 2012, we took delivery of seven Boeing 767-300ERF aircraft. We have firm commitments to purchase eight Boeing 767-300ERF freighters to be delivered in 2013.

17


Vehicles
We operate a global ground fleet of approximately 101,000 package cars, vans, tractors and motorcycles. Our ground support fleet consists of 32,000 pieces of equipment designed specifically to support our aircraft fleet, ranging from non-powered container dollies and racks to powered aircraft main deck loaders and cargo tractors. We also have 31,000 containers used to transport cargo in our aircraft.
 
Item 3.
Legal Proceedings

For a discussion of legal proceedings affecting us and our subsidiaries, please see the information under the sub-caption “Contingencies” of the caption “Management’s Discussion and Analysis of Financial Condition and Results of Operations” included in this report.
 
Item 4.
Mine Safety Disclosures

Not applicable.

 

18


PART II

Item 5.
Market for Registrant’s Common Equity, Related Stockholder Matters and Issuer Purchases of Equity Securities

Our class A common stock is not listed on a national securities exchange or traded in an organized over-the-counter market, but each share of our class A common stock is convertible into one share of our class B common stock.
The following is a summary of our class B common stock price activity and dividend information for 2012 and 2011. Our class B common stock is listed on the New York Stock Exchange under the symbol “UPS”.
 
High
 
Low
 
Close
 
Dividends
Declared
2012:
 
 
 
 
 
 
 
First Quarter
$
81.79

 
$
72.15

 
$
80.72

 
$
0.57

Second Quarter
$
80.97

 
$
72.19

 
$
78.76

 
$
0.57

Third Quarter
$
80.52

 
$
71.18

 
$
71.57

 
$
0.57

Fourth Quarter
$
76.20

 
$
69.56

 
$
73.73

 
$
0.57

2011:
 
 
 
 
 
 
 
First Quarter
$
76.99

 
$
70.22

 
$
74.32

 
$
0.52

Second Quarter
$
75.58

 
$
68.14

 
$
72.93

 
$
0.52

Third Quarter
$
75.79

 
$
60.75

 
$
63.15

 
$
0.52

Fourth Quarter
$
73.80

 
$
61.27

 
$
73.19

 
$
0.52

As of February 6, 2013, there were 156,741 and 18,108 record holders of class A and class B common stock, respectively.
The policy of our Board of Directors is to declare dividends out of current earnings. The declaration of dividends is subject to the discretion of the Board of Directors and will depend on various factors, including our net income, financial condition, cash requirements, future prospects, and other relevant factors.
On February 14, 2013, our Board declared a dividend of $0.62 per share, which is payable on March 12, 2013 to shareowners of record on February 25, 2013. This represents an 8.8% increase from the previous $0.57 quarterly dividend in 2012.
On May 3, 2012, the Board of Directors approved a share repurchase authorization of $5.0 billion, which replaced an authorization previously announced in 2008. A summary of repurchases of our class A and class B common stock during the fourth quarter of 2012 is as follows (in millions, except per share amounts):
 
Total Number
of Shares
Purchased(1)
 
Average
Price Paid
Per Share(1)
 
Total Number
of Shares Purchased
as Part of Publicly
Announced Program
 
Approximate Dollar
Value of Shares that
May Yet be Purchased
Under the Program
(as of month-end)
October 1—October 31
0.6

 
$
73.64

 
0.6

 
$
4,169

November 1—November 30
1.2

 
73.26

 
1.2

 
4,087

December 1—December 31
1.7

 
73.40

 
1.6

 
3,970

Total October 1—December 31
3.5

 
$
73.40

 
3.4

 
 
(1)
Includes shares repurchased through our publicly announced share repurchase program and shares tendered to pay the exercise price and tax withholding on employee stock options.

On February 14, 2013, the Board of Directors approved a new share repurchase authorization of $10.0 billion, which replaced the 2012 authorization. The new share repurchase authorization has no expiration date. We anticipate repurchasing approximately $4.0 billion of shares in 2013.

19


Shareowner Return Performance Graph
The following performance graph and related information shall not be deemed “soliciting material” or to be “filed” with the SEC, nor shall such information be incorporated by reference into any future filing under the Securities Act of 1933 or Securities Exchange Act of 1934, each as amended, except to the extent that the Company specifically incorporates such information by reference into such filing.
The following graph shows a five year comparison of cumulative total shareowners’ returns for our class B common stock, the Standard & Poor’s 500 Index, and the Dow Jones Transportation Average. The comparison of the total cumulative return on investment, which is the change in the quarterly stock price plus reinvested dividends for each of the quarterly periods, assumes that $100 was invested on December 31, 2007 in the Standard & Poor’s 500 Index, the Dow Jones Transportation Average, and our class B common stock.
 
 
12/31/2007
 
12/31/2008
 
12/31/2009
 
12/31/2010
 
12/31/2011
 
12/31/2012
United Parcel Service, Inc.
$
100.00

 
$
80.20

 
$
86.42

 
$
112.60

 
$
116.97

 
$
121.46

Standard & Poor’s 500 Index
$
100.00

 
$
63.00

 
$
79.67

 
$
91.68

 
$
93.61

 
$
108.59

Dow Jones Transportation Average
$
100.00

 
$
78.58

 
$
93.19

 
$
118.14

 
$
118.15

 
$
127.07



20


Item 6.
Selected Financial Data
The following table sets forth selected financial data for each of the five years in the period ended December 31, 2012 (in millions, except per share amounts). This financial data should be read together with our consolidated financial statements and related notes, Management’s Discussion and Analysis of Financial Condition and Results of Operations, and other financial data appearing elsewhere in this report.
 
Years Ended December 31,
 
2012
 
2011
 
2010
 
2009
 
2008
Selected Income Statement Data
 
 
 
 
 
 
 
 
 
Revenue:
 
 
 
 
 
 
 
 
 
U.S. Domestic Package
$
32,856

 
$
31,717

 
$
29,742

 
$
28,158

 
$
31,278

International Package
12,124

 
12,249

 
11,133

 
9,699

 
11,293

Supply Chain & Freight
9,147

 
9,139

 
8,670

 
7,440

 
8,915

Total revenue
54,127

 
53,105

 
49,545

 
45,297

 
51,486

Operating expenses:
 
 
 
 
 
 
 
 
 
Compensation and benefits
33,102

 
27,575

 
26,557

 
25,933

 
29,826

Other
19,682

 
19,450

 
17,347

 
15,856

 
20,041

Total operating expenses
52,784

 
47,025

 
43,904

 
41,789

 
49,867

Operating profit (loss):
 
 
 
 
 
 
 
 
 
U.S. Domestic Package
459

 
3,764

 
3,238

 
1,919

 
823

International Package
869

 
1,709

 
1,831

 
1,279

 
1,246

Supply Chain and Freight
15

 
607

 
572

 
310

 
(450
)
Total operating profit
1,343

 
6,080

 
5,641

 
3,508

 
1,619

Other income (expense):
 
 
 
 
 
 
 
 
 
Investment income
24

 
44

 
3

 
10

 
75

Interest expense
(393
)
 
(348
)
 
(354
)
 
(445
)
 
(442
)
Income before income taxes
974

 
5,776

 
5,290

 
3,073

 
1,252

Income tax expense
167

 
1,972

 
1,952

 
1,105

 
597

Net income
$
807

 
$
3,804

 
$
3,338

 
$
1,968

 
$
655

Per share amounts:
 
 
 
 
 
 
 
 
 
Basic earnings per share
$
0.84

 
$
3.88

 
$
3.36

 
$
1.97

 
$
0.64

Diluted earnings per share
$
0.83

 
$
3.84

 
$
3.33

 
$
1.96

 
$
0.64

Dividends declared per share
$
2.28

 
$
2.08

 
$
1.88

 
$
1.80

 
$
1.80

Weighted average shares outstanding:
 
 
 
 
 
 
 
 
 
Basic
960

 
981

 
994

 
998

 
1,016

Diluted
969

 
991

 
1,003

 
1,004

 
1,022

 
As of December 31,
 
2012
 
2011
 
2010
 
2009
 
2008
Selected Balance Sheet Data
 
 
 
 
 
 
 
 
 
Cash and marketable securities
$
7,924

 
$
4,275

 
$
4,081

 
$
2,100

 
$
1,049

Total assets
38,863

 
34,701

 
33,597

 
31,883

 
31,879

Long-term debt
11,089

 
11,095

 
10,491

 
8,668

 
7,797

Shareowners’ equity
4,733

 
7,108

 
8,047

 
7,696

 
6,780



21


Item 7.
Management’s Discussion and Analysis of Financial Condition and Results of Operation

Overview
The U.S. economic expansion has continued at a slow-to-moderate pace through the end of 2012. Continued growth in retail sales, particularly among e-commerce retailers, has provided for expansion in the overall U.S. small package delivery market; however, recent weakness in manufacturing activity, combined with the uneven nature of the overall economic recovery, has negatively impacted the small package delivery market. Given these trends, our products most aligned with business-to-consumer shipments have experienced the strongest growth, while our business-to-business volume continues to lag overall GDP growth.
Outside of the U.S., economic growth has slowed considerably due to volatility in world markets and fiscal austerity measures, particularly in Europe. This slower global economic growth has created an environment in which customers are more likely to trade-down from premium express products to standard delivery products. Additionally, the uneven nature of economic growth worldwide has led to shifting trade patterns whereby transcontinental trade is being pressured, but intra-regional trade is continuing to grow. These circumstances have led us to adjust our air capacity and cost structure in our transportation network to the prevailing volume mix levels. Our broad portfolio of product offerings and the flexibilities inherent in our transportation network have helped us adapt to these changing trends.
While the worldwide economic environment has been challenging in 2012, we have continued to undertake initiatives to improve yield management, increase operational efficiency and contain costs across all segments. Continued deployment of technology improvements should lead to further gains in our operational efficiency, flexibility and reliability, thus restraining cost increases and improving margins. In our International Package segment, we have adjusted our air network and utilized newly constructed or expanded operating facilities to improve time-in-transit for shipments in each region. We have also continued to optimize our aircraft network to leverage the new route authority we have gained over the last several years and to take full advantage of faster growing trade lanes. Additionally, in the first quarter of 2012, we acquired Kiala S.A., which will expand our service offerings for business-to-consumer deliveries in Europe.
Our consolidated results are presented in the table below:
 
Year Ended December 31,
 
% Change
 
2012
 
2011
 
2010
 
2012 / 2011
 
2011 / 2010
Revenue (in millions)
$
54,127

 
$
53,105

 
$
49,545

 
1.9
 %
 
7.2
%
Operating Expenses (in millions)
52,784

 
47,025

 
43,904

 
12.2
 %
 
7.1
%
Operating Profit (in millions)
$
1,343

 
$
6,080

 
$
5,641

 
(77.9
)%
 
7.8
%
Operating Margin
2.5
%
 
11.4
%
 
11.4
%
 
 
 
 
Average Daily Package Volume (in thousands)
16,295

 
15,797

 
15,574

 
3.2
 %
 
1.4
%
Average Revenue Per Piece
$
10.82

 
$
10.82

 
$
10.24

 
 %
 
5.7
%
Net Income (in millions)
$
807

 
$
3,804

 
$
3,338

 
(78.8
)%
 
14.0
%
Basic Earnings Per Share
$
0.84

 
$
3.88

 
$
3.36

 
(78.4
)%
 
15.5
%
Diluted Earnings Per Share
$
0.83

 
$
3.84

 
$
3.33

 
(78.4
)%
 
15.3
%
Items Affecting Comparability
The year-over-year comparisons of our financial results are affected by the following items (in millions):
 
 
Year Ended December 31,
 
2012
 
2011
 
2010
Operating Expenses:
 
 
 
 
 
Defined Benefit Plans Mark-to-Market Charge
$
4,831

 
$
827

 
$
112

     Multiemployer Pension Plan Withdrawal Charge
896

 

 

Restructuring Charge

 

 
98

Gains on Sales of Businesses

 

 
(20
)
Gains on Real Estate Transactions

 
(33
)
 
(109
)
Income Tax Expense (Benefit) from the Items Above
(2,145
)
 
(287
)
 

Charge for Change in Tax Filing Status for German Subsidiary

 

 
76


22

UNITED PARCEL SERVICE, INC. AND SUBSIDIARIES
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS

These items have been excluded from comparisons of "adjusted" operating expenses, operating profit and operating margin in the discussion that follows.
Defined Benefit Plans Mark-to-Market Charge
In 2012, 2011 and 2010, we incurred pre-tax mark-to-market losses of $4.831 billion, $827 million and $112 million, respectively, on a consolidated basis ($3.023 billion, $527 million and $75 million after-tax, respectively) on our pension and postretirement defined benefit plans related to the remeasurement of plan assets and liabilities recognized outside of a 10% corridor. These mark-to-market losses for 2012, 2011 and 2010 primarily resulted from decreases in the discount rates used to value our projected benefit obligations in each year, which more than offset the impact of the actual rate of return on plan assets exceeding the expected rate of return. These losses, which were recorded in compensation and benefits expense in our statements of consolidated income, impacted each of our three reporting segments for 2012, 2011 and 2010.
Multiemployer Pension Plan Withdrawal Charge
In 2012, we recognized an $896 million pre-tax charge ($559 million after-tax) for the establishment of a withdrawal liability related to our withdrawal from the New England Teamsters and Trucking Industry Pension Fund ("New England Pension Fund"), a multiemployer pension plan. This charge was recorded in compensation and benefits expense in our statements of consolidated income, and impacted our U.S. Domestic Package segment.
Restructuring Charge
In 2010, we streamlined the management structure in our U.S. Domestic Package segment, and incurred a restructuring charge associated with this reorganization. This pre-tax charge totaled $98 million ($64 million after-tax), and was recorded in compensation and benefits expense in our statements of consolidated income. The charge reflects the value of voluntary retirement benefits and severance benefits, as well as the accelerated recognition of unvested stock compensation.
Gain on Sales of Businesses
In 2010, we sold our UPS Logistics Technologies business unit within our Supply Chain & Freight segment, and recognized a pre-tax gain of $71 million ($44 million after-tax). Also in 2010, we sold a specialized transportation business in Germany within our Supply Chain & Freight segment, and incurred a pre-tax loss on the sale of $51 million ($47 million after-tax), which includes a fair value adjustment loss due to a financial guarantee associated with this business sale. The gains and losses associated with these transactions are recorded in other operating expenses in our statements of consolidated income.
Gains on Real Estate Transactions
In 2011, we recognized a net $33 million pre-tax gain ($20 million after-tax) on a consolidated basis on certain real estate transactions (consisting of a $48 million pre-tax gain in our Supply Chain & Freight segment, and a $15 million pre-tax loss in our U.S. Domestic Package segment). In 2010, we recognized a pre-tax gain of $109 million ($61 million after-tax) on the sale of real estate within our U.S. Domestic Package segment. The gains and losses associated with these transactions are recorded in other operating expenses in our statements of consolidated income.
Charge for Change in Tax Filing Status for German Subsidiary
In 2010, we changed the tax status of a German subsidiary that was taxable in the U.S. and its local jurisdiction to one that is solely taxed in its local jurisdiction. As a result of this change in tax status, we recorded a non-cash charge of $76 million to income tax expense, which resulted primarily from the write-off of related deferred tax assets which will not be realizable following the change in tax status.

23

UNITED PARCEL SERVICE, INC. AND SUBSIDIARIES
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS

Results of Operations—Segment Review
The results and discussions that follow are reflective of how our executive management monitors the performance of our reporting segments. We supplement the reporting of our financial information determined under generally accepted accounting principles (“GAAP”) with certain non-GAAP financial measures, including operating profit, operating margin, pre-tax income, net income and earnings per share adjusted for the non-comparable items discussed previously. We believe that these adjusted measures provide meaningful information to assist investors and analysts in understanding our financial results and assessing our prospects for future performance. We believe these adjusted financial measures are important indicators of our recurring results of operations because they exclude items that may not be indicative of, or are unrelated to, our core operating results, and provide a better baseline for analyzing trends in our underlying businesses.

U.S. Domestic Package Operations
 
 
Year Ended December 31,
 
% Change
 
2012
 
2011
 
2010
 
2012 / 2011
 
2011 / 2010
Average Daily Package Volume (in thousands):
 
 
 
 
 
 
 
 
 
Next Day Air
1,277

 
1,206

 
1,205

 
5.9
 %
 
0.1
%
Deferred
1,031

 
975

 
941

 
5.7
 %
 
3.6
%
Ground
11,588

 
11,230

 
11,140

 
3.2
 %
 
0.8
%
Total Avg. Daily Package Volume
13,896

 
13,411

 
13,286

 
3.6
 %
 
0.9
%
Average Revenue Per Piece:
 
 
 
 
 
 
 
 
 
Next Day Air
$
19.93

 
$
20.33

 
$
19.14

 
(2.0
)%
 
6.2
%
Deferred
13.06

 
13.32

 
12.50

 
(2.0
)%
 
6.6
%
Ground
7.89

 
7.78

 
7.43

 
1.4
 %
 
4.7
%
Total Avg. Revenue Per Piece
$
9.38

 
$
9.31

 
$
8.85

 
0.8
 %
 
5.2
%
Operating Days in Period
252

 
254

 
253

 
 
 
 
Revenue (in millions):
 
 
 
 
 
 
 
 
 
Next Day Air
$
6,412

 
$
6,229

 
$
5,835

 
2.9
 %
 
6.8
%
Deferred
3,392

 
3,299

 
2,975

 
2.8
 %
 
10.9
%
Ground
23,052

 
22,189

 
20,932

 
3.9
 %
 
6.0
%
Total Revenue
$
32,856

 
$
31,717

 
$
29,742

 
3.6
 %
 
6.6
%
Operating Expenses (in millions):
 
 
 
 
 
 
 
 
 
Operating Expenses
$
32,397

 
$
27,953

 
$
26,504

 
15.9
 %
 
5.5
%
Defined Benefit Plans Mark-to-Market Charge
(3,177
)
 
(479
)
 
(31
)
 
 
 
 
Restructuring Charge

 

 
(98
)
 
 
 
 
Gains (Losses) on Real Estate Transactions

 
(15
)
 
109

 
 
 
 
Multiemployer Pension Plan Withdrawal Charge
(896
)
 

 

 
 
 
 
Adjusted Operating Expenses
$
28,324

 
$
27,459

 
$
26,484

 
3.2
 %
 
3.7
%
Operating Profit (in millions) and Operating Margin:
 
 
 
 
 
 
 
 
 
Operating Profit
$
459

 
$
3,764

 
$
3,238

 
(87.8
)%
 
16.2
%
Adjusted Operating Profit
$
4,532

 
$
4,258

 
$
3,258

 
6.4
 %
 
30.7
%
Operating Margin
1.4
%
 
11.9
%
 
10.9
%
 
 
 
 
Adjusted Operating Margin
13.8
%
 
13.4
%
 
11.0
%
 
 
 
 

24

UNITED PARCEL SERVICE, INC. AND SUBSIDIARIES
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS

Revenue
The change in overall revenue was impacted by the following factors for the years ended December 31, 2012 and 2011, compared with the corresponding prior year periods:
 
Volume
 
Rates /
Product Mix
 
Fuel
Surcharge
 
Total
Revenue
Change
Revenue Change Drivers:
 
 
 
 
 
 
 
2012 / 2011
2.8
%
 
0.6
%
 
0.2
%
 
3.6
%
2011 / 2010
1.3
%
 
2.3
%
 
3.0
%
 
6.6
%
Volume
2012 compared to 2011
Our overall volume increased in 2012 compared with 2011, largely due to continued solid growth in retail e-commerce and strong customer demand for our lightweight products. Business-to-consumer shipments, which represent slightly over 40% of total U.S. Domestic Package volume, grew rapidly and drove growth in both air and ground shipments; however, business-to-business volume remained relatively flat in 2012 compared with 2011. This can be attributed to multiple trends that have prevailed over the past few years, including the migration of traditional retail to online retail, the lack of growth in small and medium-size enterprises and reduced business investments attributed to policy uncertainty.
Among our air products, Next Day Air letter and package volume both experienced solid increases in 2012, with particular growth in our Next Day Air Saver products. The higher volume for our deferred air products, which increased 5.7% for the year, was primarily due to healthy demand for our residential package services. The overall growth in our air products was driven primarily by business-to-consumer shipments from e-commerce retailers, while our business-to-business air volume declined slightly.
The increase in ground volume in 2012 was driven by our lightweight service offerings, including SurePost, which target low-cost, non-urgent residential deliveries. Volume for these lightweight products grew significantly, and accounted for approximately 40% of the total increase in ground shipments. Outside of these lightweight service offerings, volume for our traditional ground residential services also experienced an increase in 2012. Overall ground volume growth continues to be driven by business-to-consumer shipping activity from e-commerce retailers, while our business-to-business ground volume was flat in 2012 compared with 2011.
2011 compared to 2010
Our overall volume increased slightly in 2011 compared with 2010, and was largely impacted by the slowing U.S. economy during the first three quarters of the year. Business-to-consumer shipments, which represented approximately 40% of total U.S. Domestic Package volume, experienced stronger growth than business-to-business volume. Volume growth accelerated in the fourth quarter, with average daily volume increasing 3.8% over the fourth quarter of 2010.
Among our air products, we experienced a 4.8% increase in Next Day and Second Day air package volume, as a result of retail sales growth, with particular growth in our Next Day Air Saver product. Air letter volume declined, largely due to weakness in the financial and other service industries. Within ground, our lightweight products experienced robust growth during 2011. During the fourth quarter of 2011, volume growth accelerated to 12.3% and 3.5% in our deferred and ground products, respectively, compared with the fourth quarter of 2010. These increases were primarily driven by higher business-to-consumer shipment activity during the holiday season.
Rates and Product Mix
2012 compared to 2011
Overall revenue per piece increased 0.8% in 2012 compared with 2011, and was impacted by changes in base rates, product mix and fuel surcharge rates, as discussed below.

25

UNITED PARCEL SERVICE, INC. AND SUBSIDIARIES
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS

Revenue per piece for our Next Day Air and deferred products decreased in 2012 compared with 2011, as declines in fuel surcharge rates and product mix changes more than offset the impact of a base rate increase that took effect in early 2012. Changes in product mix negatively impacted revenue per piece for our air products, as our lightweight service offerings accounted for a larger portion of our overall air volume in 2012 compared with 2011, and our Next Day Air Saver volume continued to grow at a faster rate than our premium Next Day Air services.
Ground revenue per piece increased in 2012 compared with 2011, primarily due to a base rate increase that took effect in early 2012; however, this was partially offset by product mix changes, as strong volume growth in our lightweight service offerings resulted in these relatively lower-yielding products accounting for a greater portion of our overall volume in 2012, compared with 2011.
Revenue per piece for our ground and air products was positively impacted by an increase in base rates that took effect on January 2, 2012. We increased the base rates 6.9% on UPS Next Day Air, UPS 2nd Day Air and UPS 3 Day Select, and 5.9% on UPS Ground, while reducing our fuel surcharge indices (discussed further below). Other pricing changes included an increase in the residential surcharge, and an increase in the delivery area surcharge on certain residential and commercial services. These rate changes are customary and occur on an annual basis.
2011 compared to 2010
Overall revenue per piece increased for our ground and air products during 2011 due to a combination of base price increases and fuel surcharge rate changes, which are discussed further below. The overall revenue per piece increase was also positively affected by our focus on revenue management initiatives. In addition, the revenue per piece increase for our air products was positively impacted by the overall mix shift from letters to packages. Comparing the fourth quarter of 2011 with 2010, the average revenue per piece increase slowed to 3.4% due to the higher volume of lighter-weight business-to-consumer packages.
Revenue per piece for our ground and air products was also impacted by an increase in base rates that took effect on January 3, 2011. We increased the base rates 6.9% on UPS Next Day Air, UPS 2nd Day Air, and UPS 3 Day Select, and 5.9% on UPS Ground, while reducing our fuel surcharge indices (discussed further below). Other pricing changes included an increase in the residential surcharge, and an increase in the delivery area surcharge on both residential and commercial services to certain ZIP codes.

Fuel Surcharges
UPS applies a fuel surcharge on our domestic air and ground services. The air fuel surcharge is based on the U.S. Department of Energy’s (“DOE”) Gulf Coast spot price for a gallon of kerosene-type jet fuel, while the ground fuel surcharge is based on the DOE’s On-Highway Diesel Fuel Price. Based on published rates, the average fuel surcharge rates for domestic air and ground products were as follows:
 
 
Year Ended December 31,
 
% Point Change
 
2012
 
2011
 
2010
 
2012 / 2011
 
2011 / 2010
Next Day Air / Deferred
13.0
%
 
13.3
%
 
8.0
%
 
(0.3
)%
 
5.3
%
Ground
8.0
%
 
8.0
%
 
5.6
%
 
 %
 
2.4
%
In connection with our base rate increases on January 2, 2012 and January 3, 2011, we modified the fuel surcharge on air and ground services by reducing the index used to determine the fuel surcharge by 2% and 1%, respectively, each year. In 2012, these index reductions offset the increase in jet and diesel fuel prices, resulting in a small decrease in the average air fuel surcharge rate and no change in the average ground surcharge rate. The 2011 increases in the air and ground fuel surcharge rates were due to the significant increases in jet and diesel fuel prices, but partially offset by the reductions in the index on both the air and ground surcharges. Total domestic fuel surcharge revenue increased $54 and $884 million in 2012 and 2011, respectively, primarily due to volume growth in 2012 and the higher fuel surcharge rates in 2011.

26

UNITED PARCEL SERVICE, INC. AND SUBSIDIARIES
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS

Operating Expenses
2012 compared to 2011
Overall adjusted operating expenses for the segment increased $865 million in 2012 compared with 2011. This increase was primarily due to pick-up and delivery costs, which grew $682 million, as well as the cost of operating our domestic integrated air and ground network, which increased $238 million for the year. The growth in pick-up and delivery and network costs was largely due to increased volume and higher employee compensation costs, which were impacted by a union contractual wage increase (package driver wage rates rose 2.0%), an increase in driver hours (up 1.1%) and increased employee health care costs. These increases were partially offset by reductions in indirect operating costs of $79 million in 2012, largely due to a decrease in the expense for management incentive awards.
Cost increases have been moderated as we adjust our air and ground networks to better match higher volume levels, and utilize technology to increase package sorting efficiency. Improved delivery densities, particularly for our residential products, have also contained increases in cost. These network improvements allowed us to process the 3.6% volume growth more efficiently. Some of the primary drivers of expense increased at a slower rate than the growth in volume, including average daily direct labor hours (up 1.1%), aircraft block hours (up 0.5%) and miles driven (up 1.3%), resulting in the total cost per piece increasing only 0.3%.
2011 compared to 2010
Overall adjusted operating expenses for the segment increased $975 million in 2011 compared with 2010, while the total adjusted cost per piece increased 2.3% for the year. A large component of this increase related to the cost of operating our domestic integrated air and ground network, which increased $579 million in 2011 largely due to higher fuel costs, as well as an increase in aircraft repair and maintenance expenses and higher rates passed to us from outside transportation carriers, primarily railroads. Pickup and delivery costs increased $354 million in 2011 compared to 2010, primarily as a result of higher fuel prices and a 3.1% union contractual driver wage increase.
Cost increases were mitigated due to network efficiencies that we achieved, as we adjusted our air and ground networks to better match volume levels, and continued to utilize our expanded Worldport facility to operate larger aircraft and to increase package sorting efficiency. These network efficiency improvements resulted in a 0.8% reduction in total labor hours and a 0.8% reduction in miles driven in 2011 compared with 2010. Increased delivery densities as a result of improved planning and technology, and growth in our SurePost product, also contained increases in cost.

Operating Profit and Margin
2012 compared to 2011
The increase in adjusted operating profit in 2012 compared with 2011 was largely due to the revenue growth and the achievement of significant operating leverage, but partially offset by the impact of having two less operating days during 2012. Overall volume growth allowed us to better leverage our transportation network, resulting in productivity improvements and better pick-up and delivery density, which favorably impacted our operating margins; however, these trends were somewhat offset by changes in customer and product mix, which combined to adversely affect our revenue per piece. Additionally, Hurricane Sandy negatively impacted operating profit by approximately $75 million in 2012.
These factors drove a 40 basis point increase in our adjusted operating margin in 2012, compared with 2011, resulting in the 6.4% increase in adjusted operating profit.
2011 compared to 2010
Higher adjusted operating profit during 2011 compared with 2010 was driven by the increased network efficiencies, combined with large improvements in revenue per piece and a small increase in volume. Fourth quarter 2011 adjusted operating profit was particularly strong, with adjusted operating margins of 15.2% in comparison to 12.6% in the fourth quarter of 2010. Significant volume growth in the business-to-consumer sector, along with cost control efforts and network efficiencies, were the primary factors for the fourth quarter 2011 performance.

27

UNITED PARCEL SERVICE, INC. AND SUBSIDIARIES
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS

International Package Operations
 
Year Ended December 31,
 
% Change
 
2012
 
2011
 
2010
 
2012 / 2011
 
2011 / 2010
Average Daily Package Volume (in thousands):
 
 
 
 
 
 
 
 
 
Domestic
1,427

 
1,444

 
1,403

 
(1.2
)%
 
2.9
 %
Export
972

 
942

 
885

 
3.2
 %
 
6.4
 %
Total Avg. Daily Package Volume
2,399

 
2,386

 
2,288

 
0.5
 %
 
4.3
 %
Average Revenue Per Piece:
 
 
 
 
 
 
 
 
 
Domestic
$
7.04

 
$
7.17

 
$
6.66

 
(1.8
)%
 
7.7
 %
Export
36.88

 
37.85

 
36.77

 
(2.6
)%
 
2.9
 %
Total Avg. Revenue Per Piece
$
19.13

 
$
19.28

 
$
18.31

 
(0.8
)%
 
5.3
 %
Operating Days in Period
252

 
254

 
253

 
 
 
 
Revenue (in millions):
 
 
 
 
 
 
 
 
 
Domestic
$
2,531

 
$
2,628

 
$
2,365

 
(3.7
)%
 
11.1
 %
Export
9,033

 
9,056

 
8,234

 
(0.3
)%
 
10.0
 %
Cargo
560

 
565

 
534

 
(0.9
)%
 
5.8
 %
Total Revenue
$
12,124

 
$
12,249

 
$
11,133

 
(1.0
)%
 
10.0
 %
Operating Expenses (in millions):
 
 
 
 
 
 
 
 
 
Operating Expenses
$
11,255

 
$
10,540

 
$
9,302

 
6.8
 %
 
13.3
 %
Defined Benefit Plan Mark-to-Market Charge
(941
)
 
(171
)
 
(42
)
 
 
 
 
Adjusted Operating Expenses
$
10,314

 
$
10,369

 
$
9,260

 
(0.5
)%
 
12.0
 %
Operating Profit (in millions) and Operating Margin:
 
 
 
 
 
 
 
 
 
Operating Profit
$
869

 
$
1,709

 
$
1,831

 
(49.2
)%
 
(6.7
)%
Adjusted Operating Profit
$
1,810

 
$
1,880

 
$
1,873

 
(3.7
)%
 
0.4
 %
Operating Margin
7.2
%
 
14.0
%
 
16.4
%
 
 
 
 
Adjusted Operating Margin
14.9
%
 
15.3
%
 
16.8
%
 
 
 
 
Currency Translation Benefit / (Cost)—(in millions)*:
 
 
 
 
 
 
 
 
 
Revenue
 
 
 
 
 
 
$
(231
)
 
$
75

Operating Expenses
 
 
 
 
 
 
265

 
(198
)
Operating Profit
 
 
 
 
 
 
$
34

 
$
(123
)
*
Net of currency hedging; amount represents the change compared to the prior year.

Revenue
The change in overall revenue was impacted by the following factors for the years ended December 31, 2012 and 2011, compared with the corresponding prior year periods:
 
Volume
 
Rates /
Product Mix
 
Fuel
Surcharge
 
Currency
 
Total
Revenue
Change
Revenue Change Drivers:
 
 
 
 
 
 
 
 
 
2012 / 2011
(0.2
)%
 
1.0
%
 
0.1
%
 
(1.9
)%
 
(1.0
)%
2011 / 2010
4.7
 %
 
0.6
%
 
4.0
%
 
0.7
 %
 
10.0
 %
Volume
2012 compared to 2011
Our overall average daily volume increased slightly in 2012 compared with 2011, as the worldwide economic slowdown and the associated impact on global trade restrained the growth of the international small package market.

28

UNITED PARCEL SERVICE, INC. AND SUBSIDIARIES
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS

Export volume increased in 2012 compared with 2011, as growth was achieved in several key trade lanes. Asia to U.S. export volume increased, and was favorably impacted by new technology sector product launches from several customers. Intra-regional export volume increased in Europe and Asia, as more regional sourcing by customers led to growth in our Transborder products. U.S. export volume declined, particularly exports from the U.S. to Europe, as economic weakness within the European Union negatively impacted volume. Additionally, overall export volume continued to shift towards our less premium products, such as Transborder Standard and Worldwide Expedited, as compared with our premium express products, such as Worldwide Express, primarily due to the impact of the weaker economic conditions on our customers internationally.
Domestic volume decreased during 2012 compared with 2011, and was negatively impacted by economic weakness across Europe; however, this was partially offset by domestic volume growth in the U.K. and Canada.
2011 compared to 2010
Export volume increased in 2011 compared to 2010, primarily due to growth in key markets in Europe and the Americas. Our Transborder products experienced significant volume growth, particularly in key countries within Europe. Volume for our premium Worldwide Express and Worldwide Expedited products increased as well, particularly in the Asia-to-Europe, Europe-to-Americas and Europe-to-Asia export trade lanes. Additionally, intra-Asia export volume experienced solid growth during 2011 compared with 2010, and was impacted by the continued economic growth in Asia overall. Our export volume growth slowed in the latter half of 2011, largely due to decelerating growth in exports out of China and the rest of Asia, as well as difficult comparisons with a relatively strong latter half of 2010.
Domestic volume increases were driven by continued growth in key markets, including Germany, France and Poland.
Rates and Product Mix
2012 compared to 2011
Total average revenue per piece increased 1.5% in 2012 on a currency-adjusted basis, and was impacted by base rate increases, as well as changes in product mix and fuel surcharge rates, which are discussed below.
Currency-adjusted export revenue per piece decreased 1.3% for the year, as the shift in product mix from our premium express products to our standard products more than offset the increase in base rates. Additionally, currency-adjusted export revenue per piece was adversely impacted by a shortening of average trade lanes, as we experienced greater volume growth among our lower-yielding Transborder and Trade Direct products relative to our higher-yielding transcontinental volume.
Currency-adjusted domestic revenue per piece increased 3.8% for the year, largely due to base rate increases.
On January 2, 2012, we increased the base rates 6.9% for international shipments originating in the United States (Worldwide Express, Worldwide Express Plus, UPS Worldwide Expedited and UPS International Standard service), while reducing the fuel surcharge indices. Rate changes for shipments originating outside the U.S. are made throughout the year and vary by geographic market.
2011 compared to 2010
Total average revenue per piece increased 4.6% for 2011 on a currency-adjusted basis, and was impacted by base rate increases, as well as changes in product mix and fuel surcharge rates, which are discussed below.
Export revenue per piece increased, largely due to a combination of higher fuel surcharge rates and base rate increases, which are discussed further below. Currency-adjusted export revenue per piece increased 3.0% for 2011 compared with 2010. Product mix adversely impacted export revenue per piece, due to robust growth among our Transborder products. Revenue per piece was also negatively impacted as average trade lanes shortened, due to volume declines in the higher-yielding Asia-to-U.S. export lane, and higher volume growth among the relatively lower-yielding intra-Europe and intra-Asia export lanes.
Domestic revenue per piece increased 3.9% on a currency-adjusted basis for 2011, largely due to comparatively faster growth in our premium express products.


29

UNITED PARCEL SERVICE, INC. AND SUBSIDIARIES
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS

On January 3, 2011, we increased the base rates 6.9% for international shipments originating in the United States (Worldwide Express, Worldwide Express Plus, UPS Worldwide Expedited and UPS International Standard service), while reducing the fuel surcharge indices. Rate changes for shipments originating outside the U.S. are made throughout the year and vary by geographic market.
Fuel Surcharges
In connection with our base rate increases on January 2, 2012 and January 3, 2011, we modified the fuel surcharges on certain U.S.-related international air services by reducing the index used to determine the fuel surcharge by 2% in each of the two years. The fuel surcharges for air products originating outside the United States are indexed to the DOE's Gulf Coast spot price for a gallon of kerosene-type jet fuel, while the fuel surcharges for ground products originating outside the United States are indexed to fuel prices in the international region or country where the shipment takes place. Total international fuel surcharge revenue increased by $11 and $449 million in 2012 and 2011, respectively, due to higher fuel surcharge rates caused by increased fuel prices as well as an increase in international air volume.
Operating Expenses
2012 compared to 2011
Overall adjusted operating expenses for the segment decreased $55 million in 2012 compared with 2011. The largest component of this decrease related to the cost of operating our international integrated air and ground network, which decreased $117 million. This decrease primarily resulted from cost control initiatives, including a 1.8% reduction in average daily aircraft block hours resulting from ongoing modifications to our air network. The cost of pick-up and delivery decreased $53 million, largely due to the impact of currency exchange rate movements and in-country cost control initiatives.
Partially offsetting these cost reductions was an increase in indirect operating costs, which increased $143 million in 2012 compared with 2011. This increase was impacted by our investment in enhanced security screening for our international locations and expenses associated with business acquisition activities, including our proposed acquisition of TNT Express N.V. (see note 16 to the consolidated financial statements) as well as the February 2012 acquisition of Kiala S.A.
Excluding the impact of currency exchange rate changes, the total cost per piece for the segment increased 2.3% in 2012 compared with 2011.
2011 compared to 2010
Overall adjusted operating expenses for the segment increased $1.109 billion in 2011 compared with 2010. The impact of foreign currency exchange rate changes resulted in an adverse impact on operating expense comparisons between 2011 and 2010 of $198 million. Excluding the impact of currency exchange rate changes, the total adjusted cost per piece for the segment increased 4.7% for the year.
The increase in adjusted operating expenses, excluding the impact of currency, was largely due to the increased cost of operating our international integrated air and ground network, and also higher pick-up and delivery costs. Network costs increased $745 million for the year, largely due to higher fuel costs and increased block hours, as well as an increase in aircraft repair and maintenance expenses. Pick-up and delivery costs increased $123 million for the year, primarily as a result of higher fuel prices and increased package volume.
Operating Profit and Margin
2012 compared to 2011
Adjusted operating margin declined 40 basis points in 2012 compared with 2011, as the product mix shift from our premium express products to our standard products in 2012 reduced margins in this segment. Additionally, the volume declines in certain key transcontinental trade lanes during portions of 2012 also adversely impacted margins, since these routes have a larger cost infrastructure (relative to the remainder of the International Package segment) to support the air express volume in each region. These factors were mitigated, however, from benefits derived from air network adjustments, cost containment programs and the positive impact from foreign currency exchange rate fluctuations. As a result, we experienced a 3.7% decline in adjusted operating profit in 2012 compared with 2011.

30

UNITED PARCEL SERVICE, INC. AND SUBSIDIARIES
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS

2011 compared to 2010
Adjusted operating profit increased slightly in 2011 compared with 2010, while the segment operating margin declined for the year due to several factors. The overall increase in adjusted operating profit was largely due to the volume and revenue per piece increases previously discussed; however, the impact of these items was largely offset by excess capacity and the adverse impact of fuel prices and currency exchange rate movements. Volume softness in the Asia-to-U.S. trade lane in the latter half of 2011 resulted in excess transportation capacity, which negatively affected margins while our transportation network was being adjusted for the slowing demand. Fluctuations in foreign currency exchange rates (net of our hedging programs) resulted in an adverse impact on operating profit comparisons between 2011 and 2010 of $123 million. Additionally, fuel prices negatively affected the operating profit comparison between 2011 and 2010, as fuel expense increased at a faster pace than fuel surcharge revenue. These factors resulted in a decrease in the operating margin in 2011 compared with 2010.

Supply Chain & Freight Operations
 
Year Ended December 31,
 
% Change
 
2012
 
2011
 
2010
 
2012 / 2011
 
2011 / 2010
Freight LTL Statistics:
 
 
 
 
 
 
 
 
 
Revenue (in millions)
$
2,377

 
$
2,299

 
$
2,002

 
3.4
 %
 
14.8
%
Revenue Per Hundredweight
$
21.73

 
$
21.17

 
$
19.18

 
2.6
 %
 
10.4
%
Shipments (in thousands)
10,136

 
10,247

 
9,952

 
(1.1
)%
 
3.0
%
Shipments Per Day (in thousands)
40.1

 
40.5

 
39.5

 
(1.1
)%
 
2.5
%
Gross Weight Hauled (in millions of lbs)
10,939

 
10,858

 
10,440

 
0.7
 %
 
4.0
%
Weight Per Shipment (in lbs)
1,079

 
1,060

 
1,049

 
1.8
 %
 
1.0
%
Operating Days in Period
253

 
253

 
252

 
 
 
 
Revenue (in millions):
 
 
 
 
 
 
 
 
 
Forwarding and Logistics
$
5,977

 
$
6,103

 
$
6,022

 
(2.1
)%
 
1.3
%
Freight
2,640

 
2,563

 
2,208

 
3.0
 %
 
16.1
%
Other
530

 
473

 
440

 
12.1
 %
 
7.5
%
Total Revenue
$
9,147

 
$
9,139

 
$
8,670

 
0.1
 %
 
5.4
%
Operating Expenses (in millions):
 
 
 
 
 
 
 
 
 
Operating Expenses
$
9,132

 
$
8,532

 
$
8,098

 
7.0
 %
 
5.4
%
Defined Benefit Plans Mark-to-Market Charge
(713
)
 
(177
)
 
(39
)
 
 
 
 
Gains on Real Estate Transactions

 
48

 

 
 
 
 
Gains on Sales of Businesses

 

 
20

 
 
 
 
Adjusted Operating Expenses
$
8,419

 
$
8,403

 
$
8,079

 
0.2
 %
 
4.0
%
Operating Profit (in millions) and Operating Margins:
 
 
 
 
 
 
 
 
 
Operating Profit
$
15

 
$
607

 
$
572

 
(97.5
)%
 
6.1
%
Adjusted Operating Profit
$
728

 
$
736

 
$
591

 
(1.1
)%
 
24.5
%
Operating Margin
0.2
%
 
6.6
%
 
6.6
%
 
 
 
 
Adjusted Operating Margin
8.0
%
 
8.1
%
 
6.8
%
 
 
 
 
Currency Translation Benefit / (Cost)—(in millions)*:
 
 
 
 
 
 
 
 
 
Revenue
 
 
 
 
 
 
$
(100
)
 
$
139

Operating Expenses
 
 
 
 
 
 
97

 
(132
)
Operating Profit
 
 
 
 
 
 
$
(3
)
 
$
7

*
Amount represents the change compared to the prior year.

31

UNITED PARCEL SERVICE, INC. AND SUBSIDIARIES
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS

Revenue
2012 compared to 2011
Forwarding and logistics revenue decreased $126 million in 2012 compared with 2011. Forwarding revenue decreased in 2012, primarily due to lower rates in our air forwarding business and the adverse impact of foreign currency exchange rates; however, this was partially offset by improved tonnage in both our air and ocean forwarding businesses. The reduction in rates in the air forwarding business was largely due to industry overcapacity in key trade lanes, particularly the Asia-outbound market. In our logistics products, revenue increased in 2012 as we experienced robust growth in our mail services and health care solutions. The improved revenue in our health care solutions business was driven by organic growth as well as the December 2011 acquisition of Pieffe Group.
Freight revenue increased $77 million for the year, driven by an increase in LTL revenue per hundredweight and in gross weight hauled; however, these factors were somewhat offset by a decline in average daily LTL shipments. The increase in LTL revenue per hundredweight was largely due to our focus on yield management and profitable revenue growth, as well as a general rate increase averaging 5.9% that took effect on July 16, 2012, covering non-contractual shipments in the United States, Canada and Mexico. The decline in average daily LTL shipments in 2012 was impacted by increased competitiveness in the LTL market and the slowdown in the U.S. economy. Fuel surcharge revenue increased by $16 million for 2012 compared with the prior year, due to changes in diesel fuel prices and overall LTL shipment volume.
The other businesses within Supply Chain & Freight increased revenue by $57 million in 2012 compared with 2011, primarily due to growth at The UPS Store, UPS Customer Solutions and our contract to provide domestic air transportation services for the U.S. Postal Service.
2011 compared to 2010
Forwarding and logistics revenue increased $81 million in 2011 compared with 2010, primarily due to growth in our logistics services, where we experienced solid growth in our mail services, retail and health care solutions. Forwarding revenue decreased primarily due to volume and tonnage declines in our air and ocean forwarding businesses, as well as lower third-party transportation carrier rates. The tonnage decrease was mainly the result of revenue management initiatives that improve the matching of customer pricing with market conditions, as well as the impact of the global economic slowdown.
Freight revenue increased $355 million in 2011 compared with 2010, primarily due to growth in LTL shipments, an increase in base rates, and increased fuel surcharge rates. LTL shipments per day increased in 2011, largely due to improving LTL market conditions in the first half of the year and an increase in market share. However, volume declined in the latter half of the year, and was impacted by our focus on yield management and also due to the overall LTL market being adversely impacted by the slowing economy. LTL revenue per hundredweight increased, primarily as a result of a base rate increase that took effect during the year, negotiated increases on existing contract rates and higher fuel surcharge rates, as total fuel surcharge revenue increased $159 million for the year driven by higher diesel fuel prices. An increase in base prices took effect on August 1, 2011, as our freight unit increased minimum charge, LTL and TL rates an average of 6.9%, covering non-contractual shipments in the United States, Canada and Mexico.
The other businesses within Supply Chain & Freight experienced a $33 million increase in revenue, primarily due to growth at UPS Capital, the UPS Store, UPS Customer Solutions and our contract to provide domestic air transportation services for the U.S. Postal Service.
Operating Expenses
2012 compared to 2011
Forwarding and logistics adjusted operating expenses decreased $97 million in 2012 compared with 2011, due to several factors. Purchased transportation expense fell by $65 million in 2012, primarily due to lower rates charged to us by third-party transportation carriers (though this briefly reversed in the fourth quarter). Compensation and benefits expense declined by $28 million in 2012, largely due to reduced payroll and lower management incentive compensation costs. These factors were partially offset by a $10 million increase in depreciation and amortization, due to the amortization of intangible assets associated with our acquisition of Pieffe Group and the continued investment in technology and facilities in our health care logistics business.

32

UNITED PARCEL SERVICE, INC. AND SUBSIDIARIES
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS

Freight adjusted operating expenses increased $57 million in 2012, while the total cost per LTL shipment increased 3.8% for the year. The largest component of this increase related to the cost of operating our linehaul network, which grew by $40 million for the year, primarily as a result of an increase in tonnage, coupled with wage and purchased transportation increases. Pick-up and delivery costs increased $12 million for the year, largely due to the increase in tonnage as well as contractual driver wage increases of 3.5%. Rising diesel fuel prices increased the fuel expense for our fleet, as well as increased the fuel surcharge rates passed to us from third-party transportation carriers. These factors were, however, partially offset by productivity improvements.
Adjusted operating expenses for the other businesses within Supply Chain & Freight increased $56 million in 2012 compared with 2011.
2011 compared to 2010
Forwarding and logistics adjusted operating expenses were flat in 2011 compared with 2010. Purchased transportation expense declined by $87 million in 2011, due to lower air freight volume as well as lower rates passed to us from third-party transportation carriers. The reduction in third-party carrier rates was largely due to over-capacity in the Asia-to-U.S. trade lane that began in the latter half of 2010 and continued into the first half of 2011. This reduction in purchased transportation costs was offset by increases in several other expense categories, including other occupancy costs, depreciation and amortization, repairs and maintenance, and other expenses.
Freight operating expenses increased $317 million for 2011 on an adjusted basis, with the total cost per LTL shipment increasing 10.0% for the year. The two largest components of this increase relate to the cost of operating our linehaul network, which increased $134 million in 2011, and pick-up, delivery and dock costs, which increased $112 million for the year. We incurred higher fuel costs operating our vehicle fleet, as well as higher fuel surcharge rates passed to us from outside transportation carriers, as a result of higher diesel fuel prices and increased volume. Additionally, compensation and benefit costs increased primarily as a result of higher pension and health care costs, and effective wage increases of 4.1% for drivers in our linehaul network and 3.5% for drivers and dock workers in our pick-up and delivery network. These expense increases were somewhat offset by improved productivity measures, including pick-up and delivery stops per hour, dock bills per hour and improved linehaul network utilization.
Expenses for the other businesses within Supply Chain & Freight increased $6 million in 2011 compared to 2010, and the increases were spread among several operating expense categories and business units.
Operating Profit and Margin
2012 compared to 2011
Adjusted operating profit for the forwarding and logistics unit decreased by $29 million in 2012 compared with 2011. This decrease was primarily due to reduced profitability in our international air forwarding business, as European economic uncertainty, slower growth in China and a sluggish U.S. economy all contributed to a reduction in overall air freight market demand. This lower demand pressured the rates we charge to our customers, which more than offset the reduced rates we incur from third-party transportation carriers, and thereby led to a decline in our operating margin. Operating profit for our logistics business declined in 2012 compared with 2011, largely due to increased depreciation expense resulting from the continued investment in technology and facilities for our global health care business.
Adjusted operating profit for our freight unit increased $20 million in 2012 compared with 2011, as gains in productivity (including pick-up and delivery stops per hour, dock bills per hour and linehaul network utilization) as well as improved yields, more than offset the overall decline in volume.
The combined adjusted operating profit for all of our other businesses in this segment increased $1 million in 2012 compared with 2011, largely due to growth from our contract to provide domestic air transportation services for the U.S. Postal Service.

33

UNITED PARCEL SERVICE, INC. AND SUBSIDIARIES
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS

2011 compared to 2010
The forwarding and logistics unit experienced an $80 million increase in adjusted operating profit in 2011 compared with 2010, largely due to revenue management initiatives and cost containment in our forwarding unit, which improved operating leverage. Additionally, excess market capacity, especially in the Asia-to-U.S. trade lane, reduced our purchased transportation costs and improved the operating profitability in this business. Our logistics business had a small decrease in operating profit in 2011, primarily due to our continued investment in expanding our global health care capabilities.
Our freight unit had an increase of $38 million in adjusted operating profit in 2011 compared with 2010, primarily due to increased yields, volume growth and improved productivity in our operations.
The combined operating income for all of our other businesses in this segment increased $27 million in 2011, primarily due to improved results at our UPS Capital unit.
Operating Expenses
 
 
Year Ended December 31,
 
% Change
 
2012
 
2011
 
2010
 
2012 / 2011
 
2011 / 2010
Operating Expenses (in millions):
 
 
 
 
 
 
 
 
 
Compensation and Benefits
$
33,102

 
$
27,575

 
$
26,557

 
20.0
 %
 
3.8
 %
Defined Benefit Plans Mark-to-Market Charge
(4,831
)
 
(827
)
 
(112
)
 
 
 
 
Multiemployer Pension Plan Withdrawal Charge
(896
)
 

 

 
 
 
 
Restructuring Charge

 

 
(98
)
 
 
 
 
Adjusted Compensation and Benefits
27,375

 
26,748

 
26,347

 
2.3
 %
 
1.5
 %
Repairs and Maintenance
1,228

 
1,286

 
1,131

 
(4.5
)%
 
13.7
 %
Depreciation and Amortization
1,858

 
1,782

 
1,792

 
4.3
 %
 
(0.6
)%
Purchased Transportation
7,354

 
7,232

 
6,640

 
1.7
 %
 
8.9
 %
Fuel
4,090

 
4,046

 
2,972

 
1.1
 %
 
36.1
 %
Other Occupancy
902

 
943

 
939

 
(4.3
)%
 
0.4
 %
Other Expenses
4,250

 
4,161

 
3,873

 
2.1
 %
 
7.4
 %
Gains on Real Estate Transactions

 
33

 
109

 
 
 
 
Gains on Sales of Businesses

 

 
20

 
 
 
 
Adjusted Other Expenses
4,250

 
4,194

 
4,002

 
1.3
 %
 
4.8
 %
Total Operating Expenses
$
52,784

 
$
47,025

 
$
43,904

 
12.2
 %
 
7.1
 %
Adjusted Total Operating Expenses
$
47,057

 
$
46,231

 
$
43,823

 
1.8
 %
 
5.5
 %
 
 
 
 
 
 
 
 
 
 
Currency Translation Cost / (Benefit)*
 
 
 
 
 
 
$
(362
)
 
$
330

*
Amount represents the change compared to the prior year.
Compensation and Benefits
2012 compared to 2011
Employee payroll costs increased $183 million in 2012 compared with 2011, largely due to contractual union wage rate increases that took effect under our collective bargaining agreement with the Teamsters, as well as an increase in total union labor hours; however, this was partially offset by a decline in management payroll costs due to a reduction in incentive compensation expense.

34

UNITED PARCEL SERVICE, INC. AND SUBSIDIARIES
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS

Adjusted benefits expense increased $444 million in 2012 compared with 2011, primarily due to higher pension expense, increased health and welfare costs and changes in the expense associated with our self-insurance for workers' compensation claims, as follows:
Adjusted pension expense increased $200 million in 2012 compared with 2011, due to higher union contribution rates for multiemployer pension plans combined with increased service and interest costs for company-sponsored plans. The increase in service and interest costs for company-sponsored plans was largely due to continued service accruals and lower discount rates.
Health and welfare costs increased $157 million in 2012 compared with 2011, largely due to higher medical claims and the impact of several provisions of the Patient Protection and Affordable Care Act of 2010.
The expense associated with our self-insurance programs for workers' compensation claims increased $60 million in 2012 compared with 2011. Insurance reserves are established for estimates of the loss that we will ultimately incur on reported workers' compensation claims, as well as estimates of claims that have been incurred but not reported. Insurance reserves also take into account a number of factors including our history of claim losses, payroll growth and the impact of safety improvement initiatives. The increase in expense in 2012 was largely impacted by increased payroll estimates, changes in state workers' compensation laws, and medical inflation.
2011 compared to 2010
Employee payroll costs increased $237 million in 2011 compared with 2010, largely due to contractual union wage rate increases that took effect under our collective bargaining agreement with the Teamsters, but partially offset by a decline in union labor hours. Management payroll costs declined slightly, primarily due to a lower management incentive award.
Adjusted benefits expense increased $164 million in 2011 compared with 2010, primarily due to higher employee health and welfare costs and expense associated with our self-insurance for workers' compensation claims, but partially offset by a decline in pension expense. These factors are discussed further as follows:
Employee health and welfare program costs increased $132 million in 2011, and were impacted by higher required union plan contribution rates and general health care inflation.
The expense associated with our self-insurance programs for workers' compensation claims increased by $48 million in 2011. In 2010, we experienced more favorable actuarial expense adjustments compared with 2011, thus leading to the increase in expense in 2011.
Adjusted pension expense decreased $50 million in 2011 due to several factors. Most significantly, contributions to the company-sponsored pension plans in 2011 increased the expected return on assets used for expense calculation purposes. The increase in the expected return on assets more than offset increased service and interest costs (due to a decline in discount rates), resulting in a net reduction in pension expense. This was partially offset by higher contribution rates for multiemployer pension plans, as well as the reinstatement of matching contributions to our primary employee defined contribution savings plan.
Repairs and Maintenance
2012 compared to 2011
The decrease in repairs and maintenance expense was largely due to lower aircraft maintenance costs, which decreased $77 million in 2012 compared with 2011. This decrease resulted primarily from a 0.8% reduction in average daily aircraft block hours, and the conversion of an engine maintenance agreement with an outside vendor from a cost reimbursement approach to a fixed rate per flight hour. Additionally, aircraft maintenance expense declined due to a reduction in the number of scheduled maintenance checks for our Airbus A300-600F, Boeing 757-200F and Boeing MD-11F aircraft.
2011 compared to 2010
The increase in repairs and maintenance expense was largely due to aircraft maintenance costs, which increased $121 million in 2011 compared with 2010. This increase resulted from an increase in flight hours due to higher air volume, additional scheduled maintenance checks and higher contractual maintenance rates. The remaining increase in repairs and maintenance expense primarily relates to higher maintenance costs on our office buildings and operating facilities.


35

UNITED PARCEL SERVICE, INC. AND SUBSIDIARIES
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS

Depreciation and Amortization
2012 compared to 2011
The increase in depreciation and amortization expense was primarily due to higher depreciation expense on vehicles of $57 million in 2012 compared with 2011, resulting from the replacement of older, fully-depreciated vehicles, technology upgrades on new vehicles and an overall increase in the size of our vehicle fleet in our U.S. Domestic package operations.
2011 compared to 2010
The decrease in depreciation and amortization expense in 2011 was primarily the result of a reduction in depreciation expense on technology equipment and software. This decline was primarily related to certain technology hardware and capitalized software becoming fully depreciated.
Purchased Transportation
2012 compared to 2011
The increase in purchased transportation expense charged to us by third-party air, ocean and truck carriers in 2012 compared with 2011 was impacted by several factors. We incurred a $187 million increase in purchased transportation expense for 2012 in our U.S. Domestic Package segment, primarily due to higher fees paid to the U.S. Postal Service associated with the strong volume growth in our SurePost product, and higher rates passed to us from rail carriers. This was partially offset by a $65 million decrease in expense in our freight forwarding business, largely as a result of lower rates charged to us by third-party air carriers.
2011 compared to 2010
The increase in purchased transportation in 2011 was caused by a combination of higher volume, as well as increased fuel surcharges and base rates charged to us by third-party air, ocean and truck carriers across all segments. The combination of these factors increased expense by $387 million in 2011. Additionally, we incurred a $97 million increase in expense in 2011 for the use of rail carriers, which was due primarily to higher rates and fuel surcharges, as well as increased volumes. The remaining increase in expense for 2011 was primarily due to foreign currency exchange rate changes.
Fuel
2012 compared to 2011
The fuel expense increase in 2012 compared with 2011 was largely due to higher fuel prices, which increased expense by $116 million; however, this was partially offset by lower usage of fuel products, which decreased expense by $72 million. The lower fuel usage was largely due to the decrease in total aircraft block hours and vehicle miles driven.
2011 compared to 2010
The increase in fuel expense in 2011 compared with 2010 was primarily caused by higher prices for jet-A fuel, diesel and unleaded gasoline, which increased expense by $982 million. Higher usage of these products in our operations accounted for the remaining increase in expense of $92 million in 2011.
Other Occupancy
2012 compared to 2011
Other occupancy expense decreased in 2012 compared with 2011, primarily due to reductions in personal property and real estate taxes combined with a decrease in utilities expense. The relatively warm winter in the United States, combined with lower natural gas prices, helped to reduce heating and snow removal costs in our facilities during the early months of 2012.

2011 compared to 2010
Other occupancy expense increased in 2011 compared with 2010, primarily due to an increase in utilities expense resulting from increased electricity costs in our facilities. The remainder of the increase is primarily due to higher rent expense resulting from increased rates on warehouses.

36

UNITED PARCEL SERVICE, INC. AND SUBSIDIARIES
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS

Other Expenses
2012 compared to 2011
Adjusted other expenses increased in 2012 compared with 2011, primarily due to an increase in transportation equipment rentals, bad debt expense and auto liability insurance, as well as expenses incurred in 2012 related to the proposed TNT Express N.V. acquisition. These increases were partially offset by a reduction in employee relocation expenses and a decline in package claims expense. Additionally, 2012 adjusted other expenses were reduced by a $9 million gain on the sale of a distribution facility in our Supply Chain & Freight segment.
2011 compared to 2010
The increase in adjusted other expenses in 2011 compared with 2010 was caused by several factors, including foreign currency remeasurement losses, advertising costs, employee expense reimbursements, equipment rentals, air cargo handling costs and data processing fees. These increases were partially offset by a reduction in bad debt and employee relocation expenses.
Investment Income and Interest Expense
The following table sets forth investment income and interest expense for the years ended December 31, 2012, 2011 and 2010 (in millions):
 
 
Year Ended December 31,
 
% Change
 
2012
 
2011
 
2010
 
2012 / 2011
 
2011 / 2010
Investment Income
$
24

 
$
44

 
$
3

 
(45.5
)%
 
N/A

Interest Expense
$
(393
)
 
$
(348
)
 
$
(354
)
 
12.9
 %
 
(1.7
)%
Investment Income
2012 compared to 2011
The decrease in investment income in 2012 compared with 2011 was primarily caused by an $8 million decline in fair value adjustments and an $25 million decline in realized gains on sales of investments. These declines were partially offset by an increase in interest income, largely due to having a higher average balance of interest-earning cash and investments in our portfolio in 2012 compared with 2011.
2011 compared to 2010
The increase in investment income in 2011 compared with 2010 was caused by a combination of factors. During 2011, we realized $20 million in net gains on the sales of auction rate securities, preferred equity securities and an S&P 500 index fund, as well as a mark-to-market gain on investments. In 2010, we recorded a $21 million impairment on certain asset-backed auction rate securities, which resulted from provisions that allowed the issuers of the securities to subordinate our holdings to newly-issued debt or to tender for the securities at less than their par value. Additionally in 2010, we recorded an $8 million loss on the sale of auction rate securities. The remaining change in investment income was caused by a lower yield earned on our invested assets; however, this was largely offset by a higher average balance of interest-earning investments in our portfolio.
Interest Expense
2012 compared to 2011
Interest expense increased in 2012 compared with 2011, largely due to a higher average balance of debt outstanding, as well as a higher effective interest rate incurred on our debt. The higher effective interest rate largely resulted from two factors: (1) having a greater proportion of fixed-rate debt outstanding relative to lower-yielding variable rate debt and (2) an increase in the interest rate indices underlying our variable-rate debt and swaps in 2012. Additionally, interest expense increased in 2012 compared with 2011 due to unfavorable fair value adjustments on interest rate swaps that have not been designated as hedges, as well as the imputation of interest expense on the multiemployer pension withdrawal liability related to the New England Pension Fund.

37

UNITED PARCEL SERVICE, INC. AND SUBSIDIARIES
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS

2011 compared to 2010
Interest expense declined slightly in 2011 due to a lower average interest rate incurred on variable rate debt and interest rate swaps, which reduced expense by $60 million for 2011 compared with 2010. However, this was largely offset as a result of a higher average balance of outstanding debt in 2011 compared with 2010.
Income Tax Expense
The following table sets forth income tax expense and our effective tax rate for the years ended December 31, 2012, 2011 and 2010 (in millions):
 
Year Ended December 31,    
 
% Change
 
2012
 
2011
 
2010
 
2012 / 2011
 
2011 / 2010
Income Tax Expense
$
167

 
$
1,972

 
$
1,952

 
(91.5
)%
 
1.0
%
Income Tax Impact of:
 
 
 
 
 
 
 
 
 
Defined Benefit Plans Mark-to-Market Charge
1,808

 
300

 
37

 
 
 
 
Multiemployer Pension Plan Withdrawal Charge
337

 

 

 
 
 
 
Restructuring Charge

 

 
34

 
 
 
 
Gain on Sales of Businesses

 

 
(23
)
 
 
 
 
Gain on Real Estate Transactions

 
(13
)
 
(48
)
 
 
 
 
Change in Tax Filing Status for German Subsidiary

 

 
(76
)
 
 
 
 
Adjusted Income Tax Expense
$
2,312

 
$
2,259

 
$
1,876

 
2.3
 %
 
20.4
%
Effective Tax Rate
17.1
%
 
34.1
%
 
36.9
%
 
 
 
 
Adjusted Effective Tax Rate
34.5
%
 
34.4
%