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Lesson plan Grade 12 Social Studies & Civics

Hessemere's Desalination Contract: Who Carries the Risk

A 90-minute grade 12 lesson comparing a fictional city's thirty-year desalinated water purchase agreement with building its own plant, across wet, normal, and dry years.

Objectives

  1. Students will compute the annual cost of two water supply options across three demand years.
  2. Students will explain how a minimum purchase obligation shifts demand risk onto the buyer.
  3. Students will argue for one supply option using cost per acre-foot and a named risk.

Vocabulary

Debt service
The money a utility must pay back each year on loans it took out to build big projects, much like a family paying its mortgage. These payments come out of customers' water bills.
Acre-foot
The amount of water it takes to cover one acre of land, about the size of a football field, one foot deep. Western states use acre-feet to measure large amounts of water.

Also: purchase agreement, minimum purchase obligation, demand risk

Teacher overview

Seawater desalination is expensive to run as well as to build, using roughly 11 to 15 kilowatt-hours per 1,000 gallons against about 1 to 2 for conventional treatment and delivery, so coastal cities that turn to it usually face a choice between borrowing to build a plant themselves and signing a long contract with a company that will build one. This lesson works that choice through with the fictional city of Hessemere in three demand years, because the answer changes depending on how much water the city actually needs. The misconception to name at the start is the common belief that a private company building the plant means the public carries no financial risk; the minimum purchase obligation in these agreements moves demand risk squarely onto the city, and the arithmetic in the handout shows exactly where.

Procedure

Framing the shortfall (10 min): Present the situation. The fictional coastal city of Hessemere expects a supply shortfall and has two offers in front of the council. A company would build a seawater reverse osmosis plant and sell the city water under a thirty-year agreement. Alternatively the city would issue bonds, build a plant of its own, and run it. Ask students to predict which option costs less and to write the prediction down, since they will check it against three years of numbers.

Modeling the two cost structures (15 min): Work one example on the board using figures that do not appear on the handout. Suppose a different agreement sets a minimum purchase of 4,000 acre-feet at $1,500 per acre-foot. The minimum annual payment is $6,000,000. If a wet year lets the city get by on 3,000 acre-feet, the city still pays $6,000,000, which works out to $2,000 for each acre-foot it actually used. Draw the contrast with a city-owned plant, where the annual cost is fixed debt service plus an operating cost that falls when production falls. Do not solve any handout item here.

Handout in pairs (30 min): Distribute the handout and have students work in pairs. Circulate and watch for the common error of applying the minimum purchase only in the dry year. Pairs that finish early should write one sentence predicting the answer to item 12 before you discuss it.

Risk allocation discussion (20 min): Build a table on chart paper with four rows: demand risk, construction cost risk, operating cost risk, and technology risk. For each row, ask which party carries it under the purchase agreement and which party carries it under city ownership. Push students to justify each entry with a number from the handout where one exists. The agreement moves construction and operating risk to the company and moves demand risk to the city; under ownership the city carries all four, although its demand risk is smaller because the operating cost falls when production falls. Note that the company prices the risks it takes, which is part of why its per-acre-foot charge is high.

Position and justification (10 min): Each student writes a two-sentence recommendation to the Hessemere council naming one option, one cost figure from the handout, and one risk. Take a show of hands and record the split.

Exit ticket (5 min): Students answer one question on an index card: "In which of the three demand years does the purchase agreement look worst for Hessemere, and why?" Use this as the formative check. If more than a quarter of the class names the dry year rather than the wet year, reteach the minimum purchase obligation with a single number line before the next class.

Hessemere's Desalination Contract: Who Carries the Risk — Grade 12 Social Studies & Civics
Name: ____________________________ Date: ______________

Student Handout

The fictional city of Hessemere is choosing between two ways to add water supply. Use only the figures stated below and in each item. Round money answers to the nearest dollar.

Under the purchase agreement, the city must buy at least 5,000 acre-feet each year at $2,000 per acre-foot, whether or not it takes the water. Any water above 5,000 acre-feet also costs $2,000 per acre-foot.

Under city ownership, the city pays level debt service of $7,200,000 every year for thirty years, plus an operating cost of $800 for each acre-foot the plant actually produces. The city plant can produce up to 6,000 acre-feet per year.

  1. What is the minimum annual payment the city owes under the purchase agreement, before it takes any water above the minimum?
  2. In a wet year the city needs only 2,500 acre-feet. What does the city pay under the purchase agreement that year?
  3. Using your answer from item 2 and the 2,500 acre-feet the city actually used, what is the cost per acre-foot used under the purchase agreement in that wet year?
  4. In the same wet year, what does the city pay under city ownership, counting debt service of $7,200,000 and operating cost for 2,500 acre-feet?
  5. Using your answer from item 4, what is the cost per acre-foot used under city ownership in the wet year?
  6. Using your answers from items 2 and 4, how much less does the cheaper option cost in the wet year?
  7. In a normal year the city needs 5,000 acre-feet. What does the city pay under the purchase agreement that year?
  8. In the same normal year, what does the city pay under city ownership?
  9. Using your answers from items 7 and 8, how much less does the cheaper option cost in the normal year?
  10. In a dry year the city needs 6,000 acre-feet. What does the city pay under the purchase agreement that year?
  11. In the same dry year, what does the city pay under city ownership?
  12. Under the purchase agreement, which party carries the risk that the city needs less water than expected? Point to the numbers that show it.

From Water for Schools (waterforschools.org). This material is in the public domain (CC0) and may be copied, edited, and shared freely.

Answer Key
  1. Answer: $10,000,000 per year.
    5,000 acre-feet x $2,000 per acre-foot = $10,000,000.
  2. Answer: $10,000,000.
    The minimum purchase obligation applies even though the city took only 2,500 acre-feet, so the payment does not fall.
  3. Answer: $4,000 per acre-foot.
    $10,000,000 divided by 2,500 acre-feet = $4,000 per acre-foot actually used.
  4. Answer: $9,200,000.
    Operating cost is 2,500 x $800 = $2,000,000. $7,200,000 + $2,000,000 = $9,200,000.
  5. Answer: $3,680 per acre-foot.
    $9,200,000 divided by 2,500 acre-feet = $3,680 per acre-foot.
  6. Answer: $800,000.
    $10,000,000 minus $9,200,000 = $800,000. City ownership is the cheaper option in the wet year.
  7. Answer: $10,000,000.
    5,000 x $2,000 = $10,000,000, which is exactly the minimum, so nothing extra is owed.
  8. Answer: $11,200,000.
    Operating cost is 5,000 x $800 = $4,000,000. $7,200,000 + $4,000,000 = $11,200,000.
  9. Answer: $1,200,000.
    $11,200,000 minus $10,000,000 = $1,200,000. The purchase agreement is the cheaper option in the normal year.
  10. Answer: $12,000,000.
    6,000 x $2,000 = $12,000,000.
  11. Answer: $12,000,000.
    Operating cost is 6,000 x $800 = $4,800,000. $7,200,000 + $4,800,000 = $12,000,000, the same total as the purchase agreement in the dry year.
  12. Answer: The city carries that risk.
    Items 2 and 3 show it. The city's payment stays at $10,000,000 when it uses only 2,500 acre-feet, so the cost per acre-foot used doubles from $2,000 to $4,000 while the company's revenue is unchanged. Accept any answer naming the city, or the ratepayers, and citing the unchanged payment in a wet year.

Differentiation

Support

Give these pairs a prepared table with columns for demand, purchase agreement cost, and city ownership cost, and the wet year row already filled in, so items 7 through 11 repeat a structure they have seen worked. Allow a calculator and confirm item 1 with them before they continue, since items 2 and 7 both depend on it.

Extension

Ask students to find the annual demand below 5,000 acre-feet at which the two options cost the same, then explain in two sentences what that break-even number tells the council about which option to prefer if the city's conservation program succeeds.

ELL supports

Pre-teach "obligation," "debt service," "acre-foot," and "risk" with a labeled sketch showing one payment that never changes and one that rises and falls with use. Provide the sentence frame "In a ___ year the city pays ___ under ___, which is ___ than the other option," and allow item 12 to be answered in phrases.

Extensions

Have students look up whether any utility near them buys wholesale water under a long-term contract and write one paragraph on what the contract's minimum purchase terms would mean in a wet year. Students may also redo items 2 through 6 with a minimum purchase of 3,000 acre-feet instead of 5,000 and write a sentence on how the lower minimum changes who carries the risk.