(Table 163) You Are the Owner of a Bowling Alley, and and You

Essay

(Table 16.3) You are the owner of a bowling alley, and you need to hire a manager to operate the facility. Because you live far from the bowling alley, you will not be able to keep an eye on the manager's effort. Your profit depends on the state of the economy and the manager's effort. A manager's utility depends on his salary and effort level, summarized as follows.
Utility with low effort: U = salary
Utility with high effort: U = salary - 8,000
a. If the owner pays the manager $50,000, how much effort will the manager put forth? What is the owner's expected profit net of the manager's salary?
b. If the owner pays the manager $30,000 plus 10% of gross profits, how much utility will the manager receive, providing low effort and high effort? How much effort will the manager put forth?
c. Is the owner better off paying the manager $50,000 or $30,000 plus 10% of gross profit?