ACCOUNTING INFORMATION SYSTEM HAND OUT

Chapter One
Overview of Accounting Information Systems

Learning objectives

Dear students, at the end of this lesson you will be able to:

 Describe the purpose of accounting and explain its role in business and society,

 Explain what an accounting information system is,

 Discuss why AIS is an important topic to discuss,
 Discuss the role of AIS in the value chain and how an AIS adds value to an organization,
 Discuss how AIS can provide information for decision making,

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.

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 System which are self-monitoring and self-regulating are called cybernetic system, and are
becoming more useful.
 Open versus closed system.
 Adaptive system
 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.

An accounting information system is a collection of resources such as people and equipment designed to
transform financial data into information. The information then is communicated to a wide variety of decision
makers. AISs perform this transformation whether they are essentially manual or computerized.

 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 thatcollect transform,
disseminates information in an organizationto beused for better management.
 Companies cannot operate any more without automated information systems
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

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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 make
Support strategic decisions. It gathers analyses and summarizes the key internal and external
Systems 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 sources
Information of information. MIS usually take data from the transaction processing systems (see
Systems 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 management make
Support decisions in situations where there is uncertainty about the possible outcomes of those
Systems 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.
Knowledge Knowledge Management Systems ("KMS") exist to help businesses create and share
Management information. These are typically used in a business where employees create new
Systems 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 process
Processing routine transactions efficiently and accurately. A business will have several (sometimes

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Systems 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 example is the
Systems 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.

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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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.

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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.

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

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• 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.

– 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.

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 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.

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.
3. 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.

Michael Portersuggested 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.

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 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

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).

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 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.

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.

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 Unstructured decisions: Non-recurring and non-routine and require a great deal of subjective
assessment.

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 a 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

AIS and Corporate Strategy

Strategies and Strategic Positions

There are two basic strategies that companies can follow:

1. A product differentiation strategy: entails adding some features or services to a product that are
not provided by competitors. Doing so allows a company to charge a premium price to its customers.
2. A low cost strategy: entails striving to be the most efficient producer of a product or a service.

Sometimes companies can succeed in both producing a better product than competitors and in doing at costs
below its industry average. Usually, however, companies must choose between the two basic strategies. If

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they concentrate on being the lowest cost producers, they will have to forego some value added features that
might differentiate their product. If they focus on product differentiation, they most likely will not have the
lowest costs in the industry. Thus a business strategy involves making choices.

The choice of a business strategy involves the selection of a specific strategic position they shall adopt. There
are three strategic positions.

1. A variety based strategic position involves producing or providing a subset of the industry’s products
or services.
2. A needs based strategic position involves trying to serve most or all of the needs of a particular group
of customers. This entails first identifying a target market.
3. An access based strategic position involves serving a subset of customers who differ from other
customers in terms of factors such as geographic locations or size, which creates different
requirements for serving those customers.

The above strategic positions are not mutually exclusive and indeed often overlap. For example, a company
may adopt elements of all the three. Choosing a strategic position is important because it enables the
company to focus its efforts; otherwise, it risks trying to be everything to everybody.

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.

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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

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

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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.

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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