The London Trading Company plans to hire a manager for its division in Kenya. London Trading’s president and vice president/personnel are trying to decide on an appropriate incentive employment contract. The manager will operate far from the London corporate headquarters, so evaluation by personal observation will be limited. The president insists that a large incentive to produce profits is necessary; he favours a salary of £12,000 and a bonus of 10 percent of the profits above £120,000. If operations proceed as expected, profits will be £480,000, and the manager will receive £50,000. But both profits and compensation might be more or less than planned. The vice president/personnel responds that £50,000 is more than most of London Trading’s division managers make. She is sure that a competent manager can be hired for a guaranteed salary of £38,000. “Why pay £50,000 when we can probably hire the same person for £38,000?” she argued. 

1. What factors would affect London Trading’s choice of employment contract? Include a discussion of the pros and cons of each proposed contract. 

2. Why is the expected compensation more with the bonus plan than with the straight salary?