The Tri-County Generation and Transmission Association is a nonprofit cooperative organization that provides electrical service to rural customers. Based on a faulty long-range demand forecast, Tri-County overbuilt its generation and distribution system. Tri-County now has much more capacity than it needs to serve its customers. Fixed costs, mostly debt service on investment in plant and equipment, are $82.5 million per year. Variable costs, mostly fossil fuel costs, are $25 per megawatt-hour (MWh, or million watts of power used for 1 hour). The new person in charge of demand forecasting prepared a short-range forecast for use in next year’s budgeting process. That forecast calls for Tri-County customers to consume 1 million MWh of energy next year.
a) How much will Tri-County need to charge its customers per MWh to break even next year?
b) The Tri-County customers balk at that price and conserve electrical energy. Only 95 percent of forecasted demand materializes. What is the resulting surplus or loss for this nonprofit organization?
The Tri-County Generation and Transmission Association, a nonprofit cooperative organization, faces a crucial challenge due to a faulty long-range demand forecast. Overbuilding its generation and distribution system has resulted in excess capacity. To ensure financial stability, Tri-County must calculate the per MWh charge required to break even next year and assess the impact of customer conservation if only 95 percent of forecasted demand materializes.
To calculate the break-even price per MWh, we need to consider both fixed and variable costs. Fixed costs, primarily consisting of debt service on plant and equipment investments, amount to $82.5 million per year. Variable costs, mainly fossil fuel costs, are $25 per MWh.
Break-even price per MWh = (Fixed Costs + Variable Costs) / Forecasted Demand Break-even price per MWh = ($82.5 million + ($25/MWh * 1 million MWh)) / 1 million MWh
Calculating this gives us: Break-even price per MWh = ($82.5 million + $25 million) / 1 million MWh Break-even price per MWh = $107.5 million / 1 million MWh Break-even price per MWh = $107.50/MWh
Tri-County needs to charge its customers approximately $107.50 per MWh to break even next year.
If customers conserve electrical energy and only 95 percent of the forecasted demand materializes, we need to calculate the resulting surplus or loss for Tri-County.
Forecasted Demand = 1 million MWh Actual Demand (95% of forecasted demand) = 0.95 * 1 million MWh = 950,000 MWh
Revenue at the break-even price per MWh: Revenue = Actual Demand * Break-even price per MWh Revenue = 950,000 MWh * $107.50/MWh
Calculating this gives us: Revenue = $102,125,000
Now, let’s compare this revenue to the total costs (fixed and variable costs):
Total Costs = Fixed Costs + (Variable Costs * Actual Demand) Total Costs = $82.5 million + ($25/MWh * 950,000 MWh)
Calculating this gives us: Total Costs = $82.5 million + $23,750,000 Total Costs = $106,250,000
Surplus or Loss = Revenue – Total Costs Surplus or Loss = $102,125,000 – $106,250,000 Surplus or Loss = -$4,125,000
The nonprofit organization, Tri-County, would incur a loss of $4,125,000 if only 95 percent of forecasted demand materializes due to customer energy conservation.
In conclusion, Tri-County must charge its customers approximately $107.50 per MWh to break even next year, considering fixed and variable costs. However, if customer conservation leads to only 95 percent of the forecasted demand being met, the organization would face a deficit of $4,125,000. Effective demand forecasting and prudent cost management are crucial for the financial sustainability of Tri-County Generation and Transmission Association.
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