1. In September of 1985, Japan planned to stimulate domestic demand and allow their currency to appreciate. At the same time, U.S. Federal Reserve began easing monetary policy and allowing the U.S. dollar to depreciate. Due to this, Japan’s export growth came to a halt causing a slump in the economy. The rising value of the yen put pressure on profitability of companies like Olympus, which were largely dependent on exports. Cameras sold in the U.S. yielded far less yen and net profit went down substantially. Olympus then started to seek earnings from speculative investments in financial products, which worked well until 1990 when the bubble in asset prices burst. Instead of liquidating their assets and reporting their losses, Olympus began to invest in even riskier financial instruments, which failed, significantly increasing the amount of their unrealized losses. The president of Olympus believed that the market would recover and they would be able to turn things around, therefore he refused to report the losses. Since Olympus was able to maintain their investments at cost, there was no financial reporting risk. If they had to report their losses, Olympus would have faced to possibility of shareholders selling their stock.
A. Valuing investments at costs is useful when prices are stable or where prices change slowly. Since it is reported at cost, it cannot be manipulated and is easily verifiable. Historical cost is also less subject to manipulation because they are measured and reported objectively. In Olympus’s case, they used historical cost because it helped them cover up their massive losses when the bubble in Japanese asset prices burst. The cons of the historical cost method are that the numbers are misleading and they are not relevant for decision-making. Valuing investments at fair value takes into account market fluctuations in prices and records the investments at their market value. This approach is conservative since it requires...
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