P a g e | 1

The Study of Accounting Information

Systems:Essential Concepts and

Applications

P a g e | 2

Dated: 31st March, 2015

Table of Contents Page No .

1. Introduction 3

Accounting Information System

2. Accounting Information System 5

Responsibilities of Accounting Information System

3. AIS - The MIS Subsystem 6

Decision-Making activities General Ledger & Reporting System Merchandising AIS Subsystem The Operational System of a Manufacturing Firm –

The Accounting Function Production Cycle

4. Objectives and Users of 13

5. Resources Required for an AIS 13

6. Roles of Accountants with Respect to AIS 14

7. Ethical Standards for Consulting 14

P a g e | 3

8. Reasons for Studying AIS 15

IntroductionBefore understanding the concept of Accounting Information System, we all are aware of the general idea about the Accounting and Information System distinctively that the former is the language of business and the latter is a system composed of people and computers that processes or interprets information.

In a broader sense, accounting can be explained as, “the principal way of organizing and reporting financial information. It has been called the language of business. The accounting system is used to identify, analyse, measure, record, summarize, and communicate relevant economic information to interested parties.”

Information System can be explained as, “it is a system composed of people and computers that processes or interprets information. The term is also sometimes used in more restricted senses to refer to only the software used to run a computerized database or to refer to only a computer system.”

But for an Information System, one must require data to process it into proper categorized information when needed. Therefore, data are raw facts and figures that are processed to produce information.

P a g e | 4

And “Information is data that have been processed and are meaningful and useful to users. The terms meaningful and useful are value-laden terms and usually subsume other qualities such as timeliness, relevance, reliability, consistency, comparability, etc.”

What are the components that really make an information system work? We'll explore IPO (input, process and output) and how this system works.

Input is anything we wish to embed in a system for some type of use. A variety of sources are used to input: keyboard, scanner, microphone, mouse, even another computer. What we input has a purpose or an objective that can be termed as a data - but until and unless it is processed and generated in some form of output, it is technically of no use or purpose to be achieved.

Processing takes place in the internal parts of the computer system. It is the act of taking inputted data and processing or converting it into something useful. What we typically see on the screen in today's computer world (known as what you see is what you get or in short as WYSIWYG) is the result of our input being processed by some logical program so we can have the required output: an English paper, an edited photograph, ‘this video you're watching’.

Output or the processed information in a usable format comes in various forms: monitor or printer for visual work, a speaker for audio. Sometimes our output is short-term, such as printing a photo, and sometimes what we work on needs to be kept around for a while. That's where storage comes in.

Storage is the term used to indicate that we will be saving data for a period of time. We store for many reasons: for future reference; to prevent full loss of data; because we forget to purge. But, storage is vital. There are several mediums on which we can keep output and processed data: a hard disk, a USB drive, a CD.

Feedback is where the output from a system is fed back into the system in order to influence the input. For example, when you try to withdraw too much money from your account at an ATM a warning on the screen will advise you that it isn’t possible and will suggest that you try to withdraw a smaller amount. This is a type of feedback because it is trying to influence your input.

P a g e | 5

Fig 1.1: Diagrammatic Representation: Information System

Accounting and Information Systems comprise the functional area of business responsible for providing information to the other areas to enable them to do their jobs and for reporting the results to interested parties.

Accounting Information System

By combining the two concepts Accounting and Information Systems together, can be expressed as, “An Accounting Information System (AIS) is a structure that a business uses to collect, store, manage, process, retrieve and report its financial data so that it can be used by accountants, consultants, business analysts, managers, chief financial officers (CFOs), auditors and regulatory and tax agencies.

In particular, specially trained accountants work with AIS to ensure the highest level of accuracy in a company's financial transactions and recordkeeping and to make financial data easily available to those who legitimately need access to it, all while keeping data intact and secure. This article will describe the primary components of an AIS and some of its real-life applications.”

According to A Statement of Basic Accounting Theory (ASOBAT) and Generally Accepted Accounting Principles (GAAP), accounting system should provide information to assist management in planning and decision making along with there are many responsibilities are to be maintained to make it successful.

P a g e | 6

Three main responsibilities of Accounting Information System are :

Receiving and keeping data, for later access:

To collect and store data about the organization’s business activities and capture data about the transaction on source documents with effectivity and efficiently. Later, recording of transactional data in journals to ledgers under various accounts is required which can present a chronological order of transactional events.

Converting data into information for decision making:

Providing management with information which will be useful for decision making like planning, implementation and monitoring all the accounting data for the betterment or the future aspects of an organisation in terms of financial stability. In the manual systems, this information is provided in the form of reports that fall into two main categories:

o Financial Statementso Managerial Reports

Establishing the appropriate internal controls:

It is to ensure that the information produced by the accounting system is reliable or not, if not then corrections required for the smooth accounting system to prevent accounting errors like errors of commission: a transaction that is calculated incorrectly or errors of omission: a transaction that is not recorded, so that the business activities are performed efficiently and in accordance with management’s objectives and safeguard and proper utilization of all the organizational assets.

AIS – The MIS SubsystemAccounting information systems are subsystems of the management information system (MIS). MIS can be defined as a set of organized procedures that provides information to support decision making and control in the organization.

P a g e | 7

Decision-Making activities

There are three basic levels of managerial activities:

Strategic planning – these activities are primary concern of a top management (e.g. identification of major markets and product lines).

Management control – these activities are primarily concern of middle management. Their aim is to operate their segments efficiently while achieving the objectives identified by top management.

Operational control – these activities are implemented by department heads and supervisors, the lowest-level managers in an organization. Their aim is to achieve those specific tasks assigned to them by middle management.

Main accounting information systems as components of MIS

Transaction processing system – The most structured component of the MIS. It provides information used by clerical and managerial personnel at the operational level.

Budgeting system – It allows top management to communicate corporate objectives to all managers in the organization. This system provides top-down information flows, utilizes both internal and external data, is predictive in nature and involves estimates that are frequently imprecise. It is used in semi-structured decision processes involving management control activities.

Responsibility Reporting System – It summarizes historical data on a periodic basis and provides bottom-up information flows. It is a example of highly structured information system that is useful for management control.

In order to explain how accounting information system could achieve the mentioned responsibilities, it is needed to classify organizations’ activities into five main cycles which are the subsystems of AIS:

Expenditure cycle – It consists of activities that involve the buying and

P a g e | 8

paying for goods and services used by the organization for cost allocation and appropriation.

Production cycle – It includes activities which convert raw materials and labours to the finished products.

Human resources cycle – which consists of activities that are involved in employing and paying staff salaries.

Revenue cycle – It includes sales of goods or services or receiving the cash.

Financing cycle – It includes activity that provides the funds needed for operations.

Some examples of AIS subsystems based on the five main cycles are:

General Ledger & Reporting System

The General ledger is a subsystem of the AIS. It accumulates financial transaction data, classifies the data by general ledger accounts, records the data in those accounts and serves as a basis for financial reporting and managerial reporting subsystems. The general ledger serves as the hub from which general purpose and external financial reports are prepared. The external financial reports must conform to GAAP and maybe prepared using the general ledger.

P a g e | 9

Fig 1.2: Diagrammatic Representation: AIS subsystems

Merchandising AIS Subsystem

The revenue cycle in a merchandising firm processes millions of bits of data every year related to sales order processing [(i.e. preparing invoices, granting credit, shipping products or rendering services), billing customers, and recording transactions in the accounts (i.e. accounts receivables, inventory, expense and sales)]. This cycle also processes millions of transactions related to cash receipts processing (i.e. collecting cash, depositing cash in the bank, and recording these transactions in the appropriate accounts, such as accounts receivable and cash). The Expenditure cycle on the other hand processes millions of transactions every year related to purchase/accounts payable systems, cash disbursements systems and payroll systems while the Production cycle processes transactions related to the production system and cost accounting system. No Planning, Control, Investment, or Production Cycles are reflected here.

P a g e | 10

Fig 1.3: Diagrammatic Representation: Merchandising AIS Subsystem

The Operational System of a Manufacturing Firm

THE ACCOUNTING FUNCTION

Accounting manages the financial information in the system with resources available in the firm or how it is utilized and also for the end-users. In this regard, it plays two important roles in transaction processing. First, accounting captures and records the financial effects of the economic events that constitute the firm’s transactions. These include events such as the movement of raw materials from the warehouse into production, shipments of the finished products to customers, cash flows into the firm and deposits in the bank, the acquisition of inventory, and the discharge of financial obligations. Second, accounting distributes transaction information to operations personnel to coordinate many of their key tasks. The following accounting functions contribute directly to business operations: inventory control, cost accounting, payroll, accounts payable, accounts receivable, billing, fixed asset accounting, and the general ledger.

P a g e | 11

The value of information to a user is determined by its reliability. We saw earlier that the purpose of information is to lead the user to a desired action. For this to happen, information must possess certain attributes—relevance, accuracy, completeness, summarization, and timeliness. When these attributes are consistently present, information has reliability and provides value to the user. Unreliable information has no value. At best, it is a waste of resources; at worst, it can lead to dysfunctional decisions. Consider the following example:

A marketing manager signed a contract with a customer to supply a large quantity of product by a certain deadline. He made this decision based on information about finished goods inventory levels. However, because of faulty record keeping, the information was incorrect. The actual inventory levels of the product were insufficient to meet the order, and the necessary quantities could not be manufactured by the deadline. Failure to comply with the terms of the contract resulted in litigation.

This poor sales decision was a result of flawed information. Effective decisions require information that has a high degree of reliability.

Information reliability rests heavily on the concept of accounting independence. Simply stated, accounting activities must be separate and independent of the functional areas that manage and maintain custody of physical resources. For example, accounting monitors and records the movement of raw materials into production and the sale of finished goods to customers. Accounting authorizes purchases of raw materials and the disbursement of cash payments to vendors and employees. Accounting supports these functions with information but does not actively participate in the physical activities.

P a g e | 12

Fig 1.4: Diagrammatic Representation: The Operational System of a Manufacturing Firm

Production Cycle

The Production Cycle is a recurring set of business activities and related data processing operations associated with the manufacture of products.

Information flows to the production cycle from other cycles, e.g.:

Revenue cycle provides information on customer orders and sales forecasts for use in planning production and inventory levels.

Expenditure/Purchasing cycle provides information about raw materials acquisitions and overhead costs.

Human resources/payroll cycle provides information about labour costs and availability

P a g e | 13

Information also flows from the expenditure cycle:

Revenue cycle receives information from the production cycle about finished goods available for sale.

Expenditure cycle receives information about raw materials needs. Human resources/payroll cycle receives information about labour needs. General ledger and reporting system receives information about cost of

goods manufactured.

Fig 1.5: Diagrammatic Representation: Flow of Production Cycle

Fig 1.6: Diagrammatic Representation: Detailed Flow of Production Cycle

P a g e | 14

Objectives and Users of AISEach organization must tailor its information system to the needs of its users. Therefore, specific information system objectives may differ from firm to firm. Three fundamental objectives are, however, common to all systems:

To support the stewardship function of management.

Stewardship refers to management’s responsibility to properly manage the resources of the firm. The information system provides information about resource utilization to external users via traditional financial statements and other mandated reports. Internally, management receives stewardship information from various responsibility reports.

To support management decision making.

The information system supplies managers with the information they need to carry out their decision-making responsibilities with the help and support of Trend Analysis, availability and acquiring of quantitative and qualitative data, and find out non-transactional sources for management decision making.

To support the firm’s day-to-day operations.

The information system provides information to operations personnel to assist them in the efficient and effective discharge of their daily tasks through transaction processing in the AIS.

Resources Required for an AIS

An accounting information system that combines traditional accounting practices such as the Generally Accepted Accounting Principles (GAAP) with the available modern information technology resources. Seven elements compose the typical accounting information system:

People - the system users. Processor(s): Manual or Computerized

P a g e | 15

Procedure and Instructions - Methods for retrieving and processing data.

Database - Information pertinent to the organization's business practices.

Software - computer programs used to process data. Information Technology Infrastructure - Hardware used to operate the

system i.e. input-output devices. Internal Controls - Security measures to protect sensitive data.

Roles of Accountants with Respect to AIS

• Financial accountants prepare financial information for external decision-making in accordance with GAAP

• Managerial accountants prepare financial information for internal decision-making

• Auditors - evaluate controls and attest to the fairness of the financial statements.

• Accounting managers - control all accounting activities of a firm.

• Tax specialists - develop information that reflects tax obligations of the firm.

• Consultants - devise specifications for the AIS.

Ethical Standards for Consulting

Professional competence Exercise due professional care Plan and supervise all work Obtain relevant data to support reasonable recommendations Maintain integrity and objectivity

P a g e | 16

Understand and respect the responsibilities of all parties Disclose any conflicts of interest

Reasons for Studying Accounting Information

SystemsAccountants provide the information necessary to determine and evaluate the long term and short term financial stability of companies, organization or individuals. Accountants track expenses, provide detailed insight about the expenses and future paths, as well as prepare, analyse and verify financial documents. They look for ways to be more financially efficient, keep public records and make sure taxes are paid properly.

Accounting information systems provides businesses with the ability to record all types of financial information for future use. In addition, these systems are huge time-savers and make the accounting processes and procedures easily repeatable. Because of that, these systems save companies money because the number of people needed to complete accounting processes is reduced. Also, the risk of human error is drastically reduced because the computer systems manage the accounting processes, and documents are automatically created by the systems. It is imperative that businesses keep accurate books, and accounting information systems make this requirement much easier to meet.

Reasons

Accounting information systems provides businesses with the ability to record all types of financial information for future use. In addition, these systems are huge time-savers and make the accounting processes and procedures easily repeatable. Because of that, these systems save companies money because the number of people needed to complete accounting processes is reduced. Also, the risk of human error is drastically reduced because the computer systems manage the accounting processes, and documents are automatically created by the systems. It is imperative that businesses keep accurate books,

P a g e | 17

and accounting information systems make this requirement much easier to meet.

The accounting information systems profession is growing rapidly with the advent of businesses computerizing their accounting processes. As a result, businesses are seeking professionals with not only an information systems background, but also people who understand accounting concepts like system and managerial accountants and auditors, system analysts and industrial engineers. Although students pursuing an accounting information systems degree are faced with pretty rigorous coursework, pursuing this line of study will reap many rewards because the career outlook for this profession is excellent in terms of job growth and financial rewards.

Professional certifications are also increasing like Certified Computing Professional, Certified Information Systems Auditor, Certified Managerial Accountant, Certified Fraud Examiner, etc.