Concepts in Enterprise

Resource Planning
4th Edition

Chapter Five
Accounting in ERP Systems

Concepts in Enterprise Resource 1

Planning, 4th Edition
 Objectives
After completing this chapter, you will be able to:
• Describe the differences between financial and managerial
accounting
• Identify and describe problems associated with accounting and
financial reporting in unintegrated information systems
• Describe how ERP systems can help solve accounting and financial
reporting problems in an unintegrated system
• Describe how the Enron scandal and the Sarbanes-Oxley Act have
affected accounting information systems
• Explain accounting and management-reporting benefits that accrue
from having an ERP system

Concepts in Enterprise Resource Planning

Planning, 4th Edition 2
 Accounting Activities

• Areas of accounting:
– Financial accounting
– Managerial accounting
• Financial accounting
– Documenting all transactions of a company that
have an impact on the financial state of the firm
– Using documented transactions to create reports for
external parties and agencies
– Reports, or financial statements, must follow
prescribed rules and guidelines of various agencies
– The reports are called financial statements
Concepts in Enterprise Resource Planning, 4th Edition 3
 Accounting Activities (cont’d.)

• Common financial statements: balance sheets and

income statements
• Balance sheet
– Statement that shows account balances such as:
• Cash held
• Amounts owed to company by customers
• Cost of raw materials and finished-goods inventory
• Long-term assets such as buildings
• Amounts owed to vendors, banks, and other creditors
• Amounts owners have invested in company
• A key consideration for company creditors and
investors
Concepts in Enterprise Resource Planning, 4th Edition 4
 Figure 5-1 Fitter Snacker sample balance sheet
Concepts in Enterprise Resource Planning, 4th Edition 5
 Accounting Activities (cont’d.)
• Income statement or Profit and loss (P&L) statement
– Shows company’s sales, cost of sales, and profit or loss
for a period of time (typically a quarter or year)
• Integrated information system simplifies the process of
closing the books and preparing financial statements
• Managerial accounting
– is a field of accounting that analyzes and provides cost
information to the internal management for the purposes of
planning, controlling and decision making.
• Cost accounts are not preserved under Management Accounting.
• The necessary data from financial statements and cost ledgers
are analyzed

Concepts in Enterprise Resource Planning, 4th Edition 6

 Figure 5-2 Fitter Snacker sample income statement
Concepts in Enterprise Resource Planning, 4th Edition 7
 With Integrated System

• One advantage of an integrated information system

is that it simplifies the process of closing the books
and preparing financial statements.
• Accounting staff do not need to assemble data from
different systems because all of the required data
are contained in a centralized system.

Concepts in Enterprise Resource Planning, 4th Edition 8

Concepts in Enterprise Resource Planning, 4th Edition 9
Concepts in Enterprise Resource Planning, 4th Edition 10
 Using ERP for Accounting Information

• Problems associated with unintegrated systems

– Data sharing usually did not occur in real time
• Accounting’s data were often out of date
– Accounting personnel had to do significant research
• ERP system, with its centralized database, avoids
these problems
• In traditional accounting, company’s accounts are
kept in a record called a general ledger

Concepts in Enterprise Resource Planning, 4th Edition 11

 Using ERP for Accounting Information
• For example, suppose finished goods are transferred
from the assembly line to the warehouse.
– An employee in the warehouse can easily record the
transaction, using a terminal or a barcode scanner.
– In SAP ERP, the Materials Management module would see the
transfer event as an increase in finished goods inventory
available for shipment;
– the Accounting module would see the event as an increase in
the monetary value of the finished goods inventory.
• This database is then used to generate management
reports, produce financial statements, and create
budgets.

Concepts in Enterprise Resource Planning, 4th Edition 12

 Using ERP for Accounting Information
(cont’d.)
• In the SAP ERP system, input to general ledger
occurs simultaneously with business transactions
• Many SAP ERP modules cause transaction data to
be entered into general ledger, including:
– Sales and Distribution (SD)
– Materials Management (MM)
– Financial Accounting (FI)
– Controlling (CO)
– Human Resources (HR)
– Asset Management (AM)

Concepts in Enterprise Resource Planning, 4th Edition 13

 Using ERP for Accounting Information
(cont’d.)
• Sales and Distribution (SD)
– The SD module records a sale and then creates
an accounts receivable entry (a general ledger
document that indicates a customer owes money for
the goods received by the customer).
• Materials Management (MM)
– The MM module controls purchasing and
records inventory changes. The receipt of goods
from a purchase order creates an accounts payable
entry in the general ledger, which indicates the
company has an obligation to pay for goods it has
received
Concepts in Enterprise Resource Planning, 4th Edition 14
 Using ERP for Accounting Information
(cont’d.)
• Financial Accounting (FI)
– The FI module manages the accounts receivable
and accounts payable items created in the SD and
MM modules, respectively.
– The FI module is also where the general ledger
accounts are closed at the end of a fiscal period
(quarter or year), and it is used to generate financial
statements.
• Controlling (CO)
• Human Resources (HR)
• Asset Management (AM)
Concepts in Enterprise Resource Planning, 4th Edition 15
Operational Decision-Making Problem:
Credit Management
• Unintegrated information system
– Out-of-date or inaccurate accounting data
• can cause problems when a company is making
operational decisions
• Industrial credit management
• Fitter Snacker’s credit management procedures
• Credit management in SAP ERP

Concepts in Enterprise Resource Planning, 4th Edition 16

 Industrial Credit Management

• Credit management requires a good balance

between:
– Granting sufficient credit to support sales and
– Making sure that the company does not lose too
much money
• Setting a limit on how much money a customer can
owe at any one time and then
– Monitoring that limit as orders come in and payments
are received
– Example

Concepts in Enterprise Resource Planning, 4th Edition 17

Industrial Credit Management (cont’d.)
• to make this system work,
– a sales representative needs to have access to up-to-date
accounts receivable balances for all customers.
• Problems arise if Marketing and Accounting have
unintegrated information systems
– Accounting may not immediately record sales and/or payment
receipt
• Problems should not arise with an integrated information
system
– Accounts receivable is immediately updated

Concepts in Enterprise Resource Planning, 4th Edition 18

 Fitter Snacker’s Credit Management
Procedures
• FS sales clerk refers to a weekly printout of a customer’s current
balance and credit limit to see if credit should be granted
• Sales data are transferred to Accounting by disk three times a
week
• Accounting clerk can use sales input to prepare a customer invoice
• Accounting must make any adjustments for partial shipments
before preparing the invoice
– The accuracy of the adjustment process depends on whether the
warehouse transmits order changes to Accounting in a timely fashion
• Accounting clerks process customer payments

Concepts in Enterprise Resource Planning, 4th Edition 19

 Credit Management in SAP ERP

• SAP ERP would allow FS to set a credit limit for

each customer
• Company can configure any number of credit-check
options in SAP ERP system
– for instance or at the goods issue
– Also notify who
• Advantages of using SAP ERP to manage credit
– Process is automated
– Data are available in real time

Concepts in Enterprise Resource Planning, 4th Edition 20

Concepts in Enterprise Resource Planning, 4th Edition 21
 • Credit management configuration

Figure 5-6 shows the

credit-checking process in Figure
5-5 applied to a specific customer,
Health Express. Health Express
has a credit limit of $1,000 and
currently has used $590 of this limit.
If Health Express places an order
for snack bars that totals more
than $410, the order will be
blocked.

Concepts in Enterprise Resource Planning, 4th Edition 22

 Product Profitability Analysis

• Business managers use accounting data to perform

profitability analyses of a company and its products
• When data are inaccurate or incomplete, the
analyses are flawed
• Main reasons for inaccurate or incomplete data
– Inconsistent recordkeeping
– Inaccurate inventory costing systems
– Problems consolidating data from subsidiaries

Concepts in Enterprise Resource Planning, 4th Edition 23

 Inconsistent Recordkeeping
• Each of FS’s marketing divisions maintains its own records
and keeps track of sales data differently
• Paper records might be inaccurate or missing, making
validity of the final report questionable
• Without integrated information systems, accounting and
reporting to management requires:
– Working around limitations of information systems to
produce useful output
• ERP system minimizes or eliminates these problems
because both divisions record and store their data in
the same way, in the same database.

Concepts in Enterprise Resource Planning, 4th Edition 24

 Inaccurate Inventory Costing Systems

• Correctly calculating inventory costs

– One of the most important and challenging
accounting tasks in any manufacturing company
• Inventory cost accounting background
– Manufactured item’s cost has three elements:
• Cost of raw materials
• Cost of labor employed directly in production of item
• Overhead: all other costs
– such as factory utilities, factory managers’
salaries, storage, insurance,….

Concepts in Enterprise Resource Planning, 4th Edition 25

 Inaccurate Inventory Costing Systems
(cont’d.)
• Inventory cost accounting background (cont’d.)
– Direct costs: materials and labor
• Can be estimated fairly accurately
– Indirect costs: overhead items
• Difficult to associate with specific product(s)
• A common method is to use total machine hours
– If $1,000 per machine hour. And fitter can make 10,000 bars in an hour, then
each bar would be allocated $0.10 of overhead ($1,000 ÷ 10,000).
– Fitter Snacker’s uses Standard costs for each batch of bars it
produces (As explained in Chapter 4)
• Example (see next slide)
– Cost variances: differences between actual costs and
standard costs
Concepts in Enterprise Resource Planning, 4th Edition 26
• For example, Fitter might determine that each NRG-A bar should
cost $0.75 to make
• A given month, Fitter makes 1 million NRG-A bars
• Using the standard cost, it would increase its balance sheet
inventory account by $750,000
• assume that the company sells 800,000 bars in the month
• In the income statement, the cost of the sales would be shown as
$600,000 (800,000 × $0.75)

Concepts in Enterprise Resource Planning, 4th Edition 27

 Inaccurate Inventory Costing Systems
(cont’d.)
• ERP and inventory cost accounting
– Many companies with unintegrated accounting systems
analyze their cost variances infrequently
• Often, they do not know how much it actually costs to
produce a unit of a product
• Example
– Fitter has an opportunity to sell 300,000 NRG-A bars to a new
customer (The customer wants a price of $0.90 per bar)
– If FS had an ERP system, employees throughout the company
would have recorded costs in a company-wide database as
they occurred
– ERP system configurations allow analysts to track costs using
many bases
• allowing an analyst to play “what if” with product profitability decisions
Concepts in Enterprise Resource Planning, 4th Edition 28
 Inaccurate Inventory Costing Systems
(cont’d.)
• Product costing example
– Suppose Fitter Snacker wishes to update standard
costs for NRG-A bars
– Product cost analysis for NRG-A bar
• Product cost analysis in SAP ERP
– Product cost variant: method for developing a
product cost in an ERP system

Concepts in Enterprise Resource Planning, 4th Edition 29

 1468/7

Concepts in Enterprise Resource Planning, 4th Edition 30

 Cost of Goods Manufactured

• To calculate the bar cost :

• 209.82 /(24 bars/box)(12 boxes/case) = .72 / bar
• Exercise 5.2
– Estimate the COGM and COGS on a per-case basis
for the NRG-B bar using the production information
in Figure 4-16 and the following product costs:

• Use the same direct labor costs and overhead percentages shown in the
NRG-A bar product cost analysis in Figure 5-8.

Concepts in Enterprise Resource Planning, 4th Edition 31

 Product Cost Analysis in ERP

• Direct material costs are determined from bill of

material – PP Module
• Direct labor costs are determined from product
routing, which documents the machines and work
centers used in the production of a product
• This combined with material cost information
provides product cost analysis

Concepts in Enterprise Resource Planning, 4th Edition 32

 Companies with Subsidiaries

• Account balances for each entity must be compiled

and forwarded to the home office
• Consolidated statement for the company as a
whole must be created
• Currency translation
– Problems when currency translation is needed for
a subsidiary’s accounts
• Intercompany transactions
– Transactions that occur between companies and
their subsidiaries

Concepts in Enterprise Resource Planning, 4th Edition 33

 Management Reporting with ERP
Systems
• Generating the right reports for the right situation is
often challenging
• Without an ERP system, the job of tracking all the
numbers that need to go into a report is a
monumental undertaking
• With ERP system, vast amount of information is
available for reporting purposes

Concepts in Enterprise Resource Planning, 4th Edition 34

 Document Flow for Customer Service

• With an ERP system, all transactions in all areas of

a company get posted in a centralized database
• Each transaction posted in SAP ERP gets its own
unique document number
– Allows quick access to the data
• In SAP ERP, document numbers for related
transactions are associated in the database
– Provides an electronic audit trail

Concepts in Enterprise Resource Planning, 4th Edition 35

 Document Flow for Customer Service
When the order was
placed, sales order 120 (cont’d.) The system recorded the
document was created delivery

Goods removed

The picking request

Figure 5-10 Document flow of a transaction in SAP ERP
Accounting entry generated Invoice generated
Concepts in Enterprise Resource Planning, 4th Edition 36
 Built-In Management-Reporting and
Analysis Tools
• Accounting records maintained in the common
database
• Advantage of using a database is the ability to
query the records to:
– Produce standard reports
– Answer ad hoc questions

Concepts in Enterprise Resource Planning, 4th Edition 37

 Built-In Management-Reporting and
Analysis Tools
• For example, SAP ERP provides the Sales
Information System (SIS) tool for analyzing sales
data and the Logistics Information System (LIS)
tool for analyzing production and logistics
(shipping) questions.
• Both the SIS and the LIS come embedded with
SAP ERP and use special summary tables to
improve reporting efficiency.
• In-memory computing
– Detailed records are maintained in separate system
– No limit on data analysis
Concepts in Enterprise Resource Planning, 4th Edition 38
 Importance of accurate accounting
reports
• Financial accounting reports are used to inform
following how well the company is doing
financially.
– shareholders and
– government agencies
– external parties

Concepts in Enterprise Resource Planning, 4th Edition 39

 The Enron Collapse

• 1989
– Over time, the firm’s business focus shifted from
regulated transportation of natural gas to
unregulated trading energy markets.
• 1990
– Skilling, an energy consultant was hired to run a new
subsidiary called Enron Finance Corp
• Diversification
– Natural Gas Pipe Lines
– Electricity Plants
– Broadband
Concepts in Enterprise Resource Planning, 4th Edition 40
 The Enron Collapse
• Invested in developing countries
– India, Indonesia, Philippines
• Skilling became CEO
• Market Capitalization – 60 billion dollars
– No of shares * market price per share
• Price Earning Ratios – 70 times
– Earning to market price ration
– company's share price to the company's earnings per share
• Financial advisors starting suggesting to invest in Enron
• Mark to Market method of accounting & revenue
recognition
Concepts in Enterprise Resource Planning, 4th Edition 41
 The Enron Collapse

• Hiding the debt in the company by transferring it to

SPVs
• Showed debt as equity
• Managing the bankers, lawyers, and auditors
• Paid arther and anderson 1 million dollars a week
• Skilling hired to do poor financial reporting to hide
debt
• Andrew Fastow, mislead the BOD and Audit
Committee on financial issues

Concepts in Enterprise Resource Planning, 4th Edition 42

 The Enron Collapse

• 2001
– Skilling resigned
• Parties held the shares and sold it to higher rates
later
• John Olson, analyst, skeptical of Enron Story
– Was fired later on, why ? Take a guess?

Concepts in Enterprise Resource Planning, 4th Edition 43

 The Enron Collapse

• Reported a $618 million third-quarter loss and

disclosed a $1.2 billion reduction in shareholder
equity (share capital – difference between assets
and liability)
• U.S. Securities and Exchange Commission (SEC)
inquiry into possible conflict of interest related to
company’s dealings with partnerships run by CFO
Fastow

Concepts in Enterprise Resource Planning, 4th Edition 44

 The Enron Collapse

• 2002
– US department of justice opens a criminal
investigation
– NYSE suspended trading shares
• 2006
– Skilling and lay were convicted of conspiracy and
fraud
– For insider trading and making false statements

Concepts in Enterprise Resource Planning, 4th Edition 45

 The Enron Collapse (cont’d.)

• Volume of financial contracts was far greater than

volume of contracts to actually deliver commodities
• Some partnerships were faked to mask billions of
dollars in debt
• Enron’s financial statements had been audited by
Arthur Andersen, a highly regarded accounting firm
• Andersen employees on the Enron engagement
team were instructed to destroy documentation
relating to Enron

Concepts in Enterprise Resource Planning, 4th Edition 46

 Outcome of the Enron Scandal

• Shareholders lost an estimated $40 billion dollars

• Thousands of workers lost their jobs
• 31 individuals were either charged or pled guilty to
criminal charges
• Jurors convicted accounting firm Arthur Andersen
for obstructing justice by destroying Enron
documents
• U.S. Congress passed Sarbanes-Oxley Act of 2002
– Act was designed to prevent the kind of fraud and
abuse that led to the Enron downfall

Concepts in Enterprise Resource Planning, 4th Edition 47

 Sarbanes-Oxley Act

• U.S. Congress passed Sarbanes-Oxley Act of 2002

– Act was designed to prevent the kind of fraud and
abuse that led to the Enron downfall

• Designed to encourage top management

accountability in firms that are publicly traded in the
United States

Concepts in Enterprise Resource Planning, 4th Edition 48

 Sarbanes-Oxley Act

• Title IX of the Sarbanes-Oxley Act requires that

financial statements filed with the SEC include a
statement signed by the chief executive officer and
chief financial officer, certifying that the
financial statement complies with the SEC rules
– “the information contained in the periodic report fairly
presents, in all material respects, the financial
condition and results of operations of the issuer. ”
– $5,000,000, or imprisoned not more than 20 years,
or both

Concepts in Enterprise Resource Planning, 4th Edition 49

 Sarbanes-Oxley Act

• Title II of the act addresses auditor independence.

Among other things, this section of the act limits the
no-naudit services that an auditor can provide to an
audit client;
– Bookkeeping or other services related to the accounting
records or financial statements
– Financial information systems design and implementation
services
– Legal services
– Expert services unrelated to the audit
– Management functions
– Human resources functions
Concepts in Enterprise Resource Planning, 4th Edition 50
 Sarbanes-Oxley Act

• Title IV of the act covers enhanced financial

disclosures, and it specifies more stringent
requirements for financial reporting
– The control report must outline management’s
responsibility for establishing and maintaining
adequate internal control over financial
reporting, and it must also assess the effectiveness
of the company’s internal control structure and
procedures
– Timeliness of reports
– Incase of an acquisition – file SEC report within 2
days
Concepts in Enterprise Resource Planning, 4th Edition 51
Implications of the Sarbanes-Oxley Act
for ERP Systems
• To meet the internal control report requirement, a
company must:
– Document the controls that are in place
– Verify that the controls are not subject to error or
manipulation
• Companies with ERP systems in place will have an
easier time complying with the Sarbanes-Oxley Act
than will companies without ERP
• ERP makes it difficult or impossible to do fraudulent
dealings ?

Concepts in Enterprise Resource Planning, 4th Edition 52

 Archiving

• SAP ERP software offers very few ways to delete

items
• Data are removed from SAP ERP system only after
they have been recorded to media (tape backup,
DVD-R) for permanent storage
• Archive: permanent storage
• What is wrong with deleting permanently ?
• SAP ERP systems keep track of when data are
created or changed
– Change Record

Concepts in Enterprise Resource Planning, 4th Edition 53

 User Authorizations

• SAP ERP has sophisticated user administration

tools that allow different levels of authorization
management
– Ensure that employees can perform only the
transactions required for their jobs
• Profile Generator
– Provides a simple method for selecting functions that
a user should be allowed to perform

Concepts in Enterprise Resource Planning, 4th Edition 54

 Figure 5-13 Role for material management master data
Concepts in Enterprise Resource Planning, 4th Edition 55
 Tolerance Groups

• Setting limits on the size of transaction an

employee can process
– In an SAP ERP system, this is done using tolerance
groups
• Tolerance groups
– Preset limits on an employee’s ability to post
transactions
– Set limits on the dollar value for a single item in a
document as well as the total value of document

Concepts in Enterprise Resource Planning, 4th Edition 56

 Figure 5-14 Default tolerance group

Concepts in Enterprise Resource Planning, 4th Edition 57

 Financial Transparency

• ERP systems provide the ability to drill down from a

report to the source documents (transactions) that
created it
– Makes it easier for auditors to confirm the integrity of
reports
• With a properly configured and managed ERP
system, there are direct links between the
company’s financial statements and individual
transactions that make up the statements,so
– Fraud and abuse can be detected more easily

Concepts in Enterprise Resource Planning, 4th Edition 58

 Summary

• Companies need accounting systems to record

transactions and generate financial statements
• Unintegrated information systems
– Accounting data might not be current
• Can cause problems for sales representatives trying to
make operational decisions
– Data can be inaccurate
• Can affect decision making and therefore profitability

Concepts in Enterprise Resource Planning, 4th Edition 59

 Summary (cont’d.)

• Closing the books at the end of an accounting

period can be difficult with an unintegrated IS, but is
relatively easy with an integrated IS
– Closing the books means zeroing out temporary
accounts
• Using an integrated IS and a common database to
record accounting data has important inventory
cost-accounting benefits
– Can lead to more accurate product cost calculations
– Can help managers determine which products are
profitable and which are not
Concepts in Enterprise Resource Planning, 4th Edition 60
 Summary (cont’d.)

• Use of an integrated system and a common

database to record accounting data has important
management-reporting benefits
– Built-in drill-down and query tools available
• Sarbanes-Oxley Act, 2002 U.S. federal regulation
– Written and passed in the wake of Enron collapse
– Promoted management accountability by requiring
extra financial approval and reporting
– ERP systems can help companies meet the
requirements of this legislation

Concepts in Enterprise Resource Planning, 4th Edition 61