John Smith, C.E.O. of A.B.Co. is attempting to estimate the quantity of his product that will be demanded during April. At the current price of $20.00, A.B. Co. is selling 100,000 units per month. Mr. Smith has been informed that on April 1st, Delta Co., a producer of a substitute good, will be decreasing the price of its product by 10%. Given a cross elasticity of 2 and the following information answer the following questions. For this problem you may use the definition of elasticity to forecast quantity even.

MC = $4

Current Advertising Budget $200,000

A) How many units can Smith expect to sell during April and by how much will his profits be affected?

B) If Mr. Smith wants to maintain his current sales of 100,000 units, to what level should he change his price? (Assume Ep = -4)

C) At this new price for his product profits will change by how much from part A?

D) An alternative strategy to lowering his price to restore his sales volume to 100,000 units would be to increase advertising expenditures. Given and Advertising elasticity of.5 how much should advertising expenditures be changed to restore his sales to 100,000 units?

E) Given your answer to D, what will be the change in his level of profits from part A?

F) Which alternative would you favor if profit is the most important variable to Mr. Smith?

NOTE: When you are asked to forecast a quantity resulting from a change in a variable you may use the definition of elasticity, the easy method, to derive the forecast for all problems. Using the definition is less accurate than using the elasticity formula but much easier mathematically.