ACCOUNTING INFORMATION SYSTEM HAND OUT

Chapter One
Overview of Accounting Information Systems

What is a system?
A system is a set of two or more interrelated components to achieve a goal. Systems are usually
composed of smaller subsystems, each performing a specific function important to and
supportive of the larger system for which it is a part. For instance, faculty of business and
economics is a system composed of various departments.

A system: More explanation…

 Is a group of interrelated components or interacting elements forming a unified
whole.
 Is a group of interrelated components working together toward a common goal by
accepting inputs and producing outputs in an organized transformation process
(dynamic system).
 Has three basic interacting components:
 Input
 Processing (transformation process)
 Output
System Concepts
 A system exists and functions in an environment containing other systems.
 Subsystem – a component of a larger system.
 Systems that share the same environment may be connected to one another through a
shared boundary, or interface.
 System which are self-monitoring and self-regulating are called cybernetic system,
and are becoming more useful.
 Open versus closed system.
 Adaptive system

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 Goal conflict occurs when the activity of a subsystem is not consistent with another
subsystem or with the larger system as a whole.
 Goal congruence occurs when the subsystem’s goals are in line with the
organization’s goals.
 The larger and more complicated a system, the more difficult it is to achieve goal
congruence.
 System Decomposition: the process of dividing the system into smaller subsystem
parts
 System Interdependency:
 distinct parts are not self-contained
 they are reliant upon the functioning of the other parts of the system
 all distinct parts must be functioning or the system will fail
What is an Accounting system?
Accounting system is the procedures and processes used by a business to analyze transactions,
handle routine bookkeeping tasks, and structure information so it can be used to evaluate the
performance and health of the business.

 Organizations depend on information systems in order to stay competitive.

 Information is just as much as a resource as plant and equipment.
 Productivity can be increased through better information systems.
 Accounting as an information system identifies, collects, processes and communicates
economic information about an entity to a wide variety of people.

Information system
 An information system is a set of people, procedures and resources that collect transform,
disseminates information in an organization to be used for better management.
 Companies cannot operate any more without automated information systems

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Types of information system

For most businesses, there are varieties of requirements for information. Senior managers need
information to help with their business planning. Middle management needs more detailed
information to help them monitor and control business activities. Employees with operational
roles need information to help them carry out their duties.

As a result, businesses tend to have several "information systems" operating at the same time.

The main kinds of information systems in business are described briefly below:

Information Description
System
Executive An Executive Support System ("ESS") is designed to help senior management
Support make strategic decisions. It gathers analyses and summarizes the key internal
Systems and external information used in the business.

A good way to think about an ESS is to imagine the senior management team
in an aircraft cockpit - with the instrument panel showing them the status of all
the key business activities. ESS typically involves lots of data analysis and
modeling tools such as "what-if" analysis to help strategic decision-making.
Management A management information system ("MIS") is mainly concerned with internal
Information sources of information. MIS usually take data from the transaction processing
Systems systems (see below) and summaries it into a series of management reports.

MIS reports tend to be used by middle management and operational

supervisors.
Decision- Decision-support systems ("DSS") are specifically designed to help
Support management make decisions in situations where there is uncertainty about the
Systems possible outcomes of those decisions. DSS comprise tools and techniques to
help gather relevant information and analyze the options and alternatives. DSS
often involves use of complex spreadsheet and databases to create "what-if"
models.

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Knowledge Knowledge Management Systems ("KMS") exist to help businesses create and
Management share information. These are typically used in a business where employees
Systems create new knowledge and expertise - which can then be shared by other
people in the organization to create further commercial opportunities. Good
examples include firms of lawyers, accountants and management
consultants.KMS are built around systems which allow efficient categorization
and distribution of knowledge. For example, the knowledge itself might be
contained in word processing documents, spreadsheets, PowerPoint
presentations. Internet pages or whatever. To share the knowledge, a KMS
would use group collaboration systems such as an intranet.
Transaction As the name implies, Transaction Processing Systems ("TPS") are designed to
Processing process routine transactions efficiently and accurately. A business will have
Systems several (sometimes many) TPS; for example:

-Billing systems to send invoices to customers

-Systems to calculate the weekly and monthly payroll and tax payments
-Production and purchasing systems to calculate raw material requirements
- Stock control systems to process all movements into, within and out of the
business
Office Office Automation Systems are systems that try to improve the productivity of
Automation employees who need to process data and information. Perhaps the best
Systems example is the wide range of software systems that exist to improve the
productivity of employees working in an office (e.g. Microsoft Office XP) or
systems that allow employees to work from home or whilst on the move.

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Information Systems: A glimpse on its historical development

1950s-1960s: Data Processing

 electronic data processing systems: transaction processing, record keeping, traditional
accounting

1960s-1970s: Management reporting

 Management Information Systems: management reports for pre-specified information to
support decision making

1970s-1980s: Decision Support

 Decision Support Systems: Interactive ad hoc support of the managerial decision process

1980s-1990s: Strategic and End User Support

 End User Computing Systems: direct productivity support
 Executive Information Systems: Critical Information
 Expert Systems: Knowledge based expert advise for end users
 Strategic Information Systems: for competitive advantage

1990s – 2000s: Global internetworking

 Internetworked information systems: for end-user, enterprise, and inter-organizational

computing, collaboration, including global operations and management on the internet
and other interconnected enterprise and global networks.

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Information System

Operations Management
Information Information
Systems Systems

Transaction Process Office Information Decision Executive

Processing Control Automation Reporting Support Information
Systems Systems Systems Systems Systems Systems

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Accounting Information System (AIS)

 An Accounting Information System is a system that collects, records, stores, and
processes data to produce information for decision makers.
 Accounting is an information system that identifies, collects, processes, and
communicates economic information about a firm using a wide variety of
technologies. It captures and records the financial effects of the firm’s transactions. It
distributes transaction information to operations personnel to coordinate many key
tasks.
 An Accounting Information System is a unified structure that employs physical
resources and components to transform economic data into accounting information
for external and internal users.

It can use advanced technology; or be a simple paper-and-pencil system; or be something in

between. Technology is simply a tool to create, maintain, or improve a system.

Component Resources of an Accounting Information System

1. People Resources
 Specialists: system analysts, programmers, operators
 End users : anyone else using the system

2. Hardware Resources
 Machines: computers, video monitors, disks, printers, scanners
 Media: floppies, tapes, disks, plastic cards, paper forms, etc

3. Software Resources: system, application, procedures

 Programs: Operating System, and application soft wares like spreadsheet
programs, payroll programs , etc
 Procedures: data entry, error correction, paycheck distribution, etc

4. Data Resources database, model base, knowledge base

 Product descriptions, customer records, inventory databases, etc

5. Network Resources Communication media, network support.

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Accounting Information System Subsystems

• Transaction processing system (TPS): supports daily business operations:
– Revenue Cycle that include activities related to sales and collection from sales
– Expenditure Cycle includes purchase and disbursements for purchases
– HRM (Payroll) Cycle activities related to the recruiting, hiring, training and
compensating of employees
– Financing Cycles are related to obtaining funds and repayment of such funds
– Production cycle, is related to the conversion of inputs in to outputs

• General Ledger/ Financial Reporting System (GL/FRS): produces financial statements

and reports
• Management Reporting System (MRS): produces special-purpose reports for internal use

Functions of an Accounting Information System

• The functions of an AIS are to:
– Collect and store data about events, resources, and agents.
– Transform that data into information that management can use to make decisions
about events, resources, and agents.
– Provide adequate controls to ensure that the entity’s resources (including data) are
available when needed, accurate and reliable.

Why Study Accounting Information System?

The following are some of the reasons for studying an accounting information system.

1. It’s fundamental to accounting:

– accounting is an information-providing activity, so accountants need to
understand:
• How the system that provides that information is designed, implemented,
and used;
• How financial information is reported, and how information is used to
make decisions.

– Other accounting courses focus on how the information is provided and used.

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– An AIS course places greater emphasis on:

• How the data is collected and transformed.
• How the availability, reliability, and accuracy of the data is ensured.

– AIS courses are not number-crunching courses.

2. The skills are critical to career success.

 Auditors need to evaluate the accuracy and reliability of information produced by the
AIS.
 Tax accountants must understand the client’s AIS adequately to be confident that it is
providing complete and accurate information for tax planning and compliance work.
 In private industry and not-for-profit, systems work is considered the most important
activity performed by accountants.
 In management consulting, the design, selection, and implementation of accounting
systems is a rapid growth area.
3. The AIS course complements other systems courses.
 Other systems courses focus on design and implementation of information systems,
databases, expert systems, and telecommunications.
 AIS courses focus on accountability and control.
4. AIS topics affect corporate strategy and culture
 AIS design is affected by information technology, the organization’s strategy, and the
organization’s culture.
 Information technology affects the company’s choice of business strategy. To
perform cost-benefit analyses on IT changes, you need to understand business
strategy.
 Although culture affects the design of the AIS, it’s also true that the AIS affects
culture by altering the dispersion and availability of information.

Corporations have unlimited opportunities to invest in technology but limited resources to invest
in technology. Consequently, they must identify the improvements likely to yield the highest
return. This decision requires an understanding of the entity’s overall business strategy.

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Michael Porter suggested two basic business strategies companies can follow:
1. Product-differentiation strategy
 It involves setting your product apart from those of your competitors, i.e., building a
“better” cell phone by offering one that’s faster, has enhanced features, etc.

2. A low-cost strategy:
 Involves offering a cheaper cell phone than your competitors. The low cost is made
possible by operating more efficiently.
Sometimes a company can do both, but they normally have to choose.
Porter also argues that companies must choose a strategic position among three choices:
 Variety-based strategic position: Offer a subset of the industry’s products or services.
EXAMPLE: An insurance company that only offers life insurance as opposed to life,
health, property-casualty, etc.

 Needs-based strategic position: Serve most or all of the needs of a particular group of
customers in a target market. EXAMPLE: The original Farm Bureau-based insurance
companies provided a portfolio of insurance and financial services tailored to the specific
needs of farmers.

 Access-based strategic position: Serve a subset of customers who differ from others in
terms of factors such as geographic location or size. EXAMPLE: Satellite Internet
services are intended primarily for customers in rural areas who cannot get DSL or cable
services.

Accounting and information systems should be closely integrated. The AIS should be the
primary information system to provide users with information they need to perform their jobs.

Role of the AIS in the Value Chain

The objective of most organizations is to provide value to their customers. Although “adding
value” is a commonly used buzzword, in its genuine sense, it means making the value of the
finished component greater than the sum of its parts. It may mean:
 Making it faster, making it more reliable, providing better service or advice,
providing something in limited supply (like O-negative blood or rare gems),
providing enhanced features, customizing it

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Value is provided by performing a series of activities referred to as the value chain. These
include: primary activities and support activities. These activities are sometimes referred to as
“line” and “staff” activities respectively.

 Primary activities:
 Inbound Logistics: Receiving, storing, and distributing the materials that are
inputs to the organization’s product or service.
 Operations: Transforming those inputs into products or services.
 Outbound Logistics: Distributing products or services to customers.
 Marketing and Sales: Helping customers to buy the organization’s products or
services.
 Service: Post-sale support provided to customers such as repair and maintenance
functions.

 Support activities:
 Firm Infrastructure: Accountants, lawyers, and administration. Includes the
company’s accounting information systems.
 Human Resources: involves recruiting and hiring new employees, training
employees, paying employees, and handling employee benefits.
 Technology: activities to improve the products or services (e.g., R&D, Web site
development).
 Purchasing: buying the resources (e.g., materials, inventory, and fixed assets)
needed to carry out the entity’s primary activities.

Information technology can significantly affect the efficiency and effectiveness with which the
preceding activities are carried out.

The Supply Chain

An organization’s value chain can be connected with the value chains of its customers, suppliers,
and distributors. This chain of activities between an organization, its customers, supplier and
distributors is called the Supply Chain.

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Information technology can facilitate synergistic linkages that improve the performance of each
company’s value chain.

Information and Decision Making

There are different models of decision-making and problem solving process. All those models
depict that decision-making is a complex, multistep activity.
 First, the problem has to be identified.
 Then the decision maker must select a method for solving the problem
 Next the decision maker must collect the data needed to execute the decision model and,
interpret the outputs of the model evaluating the merits of each alternative
 Finally, the decision maker chooses and executes the preferred solution.

The AIS can provide assistance in all phases of decision-making. Different decision models and
analytical tools can be provided to users. Query languages can facilitate the gathering of relevant
data upon which to make the decision. Various tools such as graphical interfaces can help the
decision maker interpret the results of a decision model and evaluate and choose among
alternative course of action. Finally the AIS can provide feedback on the results of actions.

The degree to which AIS can support decision-making depends, however, on the type of decision
being made. Decisions may be categorized either in terms of the degree of structure or by their
scope.

Decision Structure

There is variation in the degree of structure used to make decisions:

 Structured decisions: Repetitive and routine and can be delegated to lower-level
employees.
 Semi structured decisions: are characterized by incomplete rules and require
subjective assessments.
 Unstructured decisions: Non-recurring and non-routine and require a great deal of
subjective assessment.

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Decision Scope

Decisions vary in terms of the scope of their effect. This will include:
 Occupational control decisions: relate to performance of specific tasks and are often
of a day-to-day nature. EXAMPLE: Deciding whether to order inventory.
 Management control decisions: relate to utilizing resources to accomplish
organizational objectives. EXAMPLE: Budgeting.
 Strategic planning decisions: the “what do we want to be when we grow up” types of
questions. Involves establishing: organizational objectives and policies to achieve
those objectives. EXAMPLE: Deciding whether to diversify the company into other
product lines.

Each user group has unique information requirements. The higher the level of the organization,
the greater the need for more aggregated information and less need for detail. In general, the
higher a manager is in the organization, the more likely he/she is to be engaging in less
structured decisions with broader scope (i.e., strategic planning) decisions.

There exists a correspondence between a manager’s level in an organization and his decision
making responsibilities.
 Top management---unstructured and semi structured decisions, involving strategic
decisions
 Middle managers---deal with semi structured decisions, involving management control
 Lower level supervisors and employees--- face semi structured or unstructured decisions
involving operational control.

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Value of Information for Decision Making

The information produced by well-designed AIS can improve decision making in several ways:
 First, it identifies situations requiring management action. For example, a cost report with
a large variance might stimulate management to investigate and if necessary take
corrective action.
 Second, by reducing uncertainty, accounting information provides a basis for choosing
among alternative actions. For example, accounting information is often used to set prices
and determine credit policies.
 Third, information about the results of previous decisions provides valuable feedback that
can be used to improve future decisions.

Nevertheless, although more information is often better, this is only true to a point. There are
limits to the amount of information that the human mind can effectively absorb and process.
Information overload occurs when those limits are passed. Information overload is costly
because decision-making quality declines while the costs of providing that information increase.
Thus, information overload reduces the value of information. Consequently, information system
designers must consider how advances in IT can help decision makers more effectively filter and
condense information thereby avoiding information overload.

Moreover, it is important to recognize that there are costs associated with producing information.
Those costs include the time and resources spent in colleting, processing, and storing data as well
as the time and resources used in distributing the resulting information to decision makers. There
are also many opportunities to invest in additional IT to improve the overall performance of the
AIS. Most organization, however, do not have unlimited resources to invest in improving their
information systems. Therefore, another important decision involving identifying which potential
AIS improvements are likely to yield the greatest return. Making this decision wisely requires
that accountants and information system professionals.

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Information Technology and Business Strategy

We have seen that IT can affect strategy. In addition to directly affecting the way that
organizations carry out their value chain activities, IT such as the Internet can also affect
significantly both strategy and strategic positioning. For example, it dramatically cuts costs,
thereby helping companies to implement a low cost strategy.

The Role of the AIS

An organization’s AIS plays an important role in helping it adopt and maintain a strategic
position. Achieving a close fit among activities requires that data be collected about each
activity. It is also important that the information system collect and integrate both financial and
nonfinancial data about the organization’s activities. Traditionally, the AIS was used as
transaction processing system because it was concerned about financial data. To handle
nonfinancial data, other systems were used leading to redundancy and problem in updating data.

Enterprise resource planning (ERP) systems are designed to overcome these problems as they
integrate all aspects of a company’s operations with its traditional AIS. For example, when a
sales order is entered by the sales force, the effect of the transaction automatically flows to all
affected parts of the company. Inventory is updated, production schedules are adjusted, and
purchase orders of raw materials and supplies are initiated. More over, important nonfinancial
data such s the time of sale are collected and stored in the same system.

A key feature of ERP systems is the integration of financial with other nonfinancial operating
data. The value of such integration is to suggest that there may be strategic benefits to more
closely linking traditionally separate functions of information systems and accounting, and many
organizations are beginning to combine these two functions.

Data versus Information

Data are facts that are collected, recorded, stored, and processed by an information system.
Organizations collect data about:
 Events that occur
 Resources that are affected by those events
 Agents who participate in the events

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Information is different from data. Information is data that have been organized and processed to
provide meaning to a user. Usually, more information and better information translates into
better decisions. There are limits to the amount of information the human mind can effectively
absorb and process. However, when you get more information than you can effectively
assimilate, if the limits are passed, you suffer from information overload. Example: Final exams
week! When you’ve reached the overload point, the quality of decisions declines while the costs
of producing the information increases.

Data Information

• raw facts or observations • informative value

• meaningless • time dependent
• time independent • human efficient
• machine efficient • specific
• general purpose • based on previous knowledge

Benefits versus costs of information

Information should be obtained if and only if its benefits is at least equal to the costs

Benefits of information may include:

 Reduction of uncertainty, Improved decisions, Improved ability to plan and
schedule activities

Costs may include time and resources spent:

 Collecting data, processing data, storing data, distributing information to users

Value of information (VI) is the net benefit derived from information. Hence, VI is the benefit
produced by the information minus the cost of producing it.

VI = Benefit - Cost

Costs and benefits of information are often difficult to quantify, but you need to try when you are
making decisions about whether to provide information.

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Characteristics of Useful Information

Regardless of physical form or technology, useful information has the following
characteristics:
 Reliability: It is reliable if it is free from error or bias and faithfully portrays events and
activities of the organization. Related to accuracy.
 Understandability: It is presented in a manner you can comprehend and use. If it is
presented in a useful and intelligible manner
 Verifiability: A consensus notion—the nature of the information is such that different
people would tend to produce the same result. Two people would each produce the
same information.
 Accessibility: You can get to it when you need it and in a format you can use.
 Relevance: serves a purpose that is pre-supposed.
 Timeliness: no older than the time period of the action it supports
 Completeness: all information essential to a decision or task is present
 Summarization: aggregated in accordance with the user’s needs

These characteristics of useful information are related to the three dimensions of information;
time, content and form as depicted below.

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