CHAPTER TWO

OVERVIEW OF BUSINESS PROCESS AND ORGANIZING AIS DATA

2.1. Information needs and business processes
Businesses engage in a variety of processes, including: Acquiring capital, buying buildings and
equipment, Hiring and training employees, purchasing inventory, doing advertising and
marketing, selling goods or services, collecting payment from customers, paying employees,
paying taxes, Paying vendors…… Each activity requires different types of decisions and each
decision requires different types of information.

Types of information needed for decisions:

Some is financial
Some is nonfinancial
Some comes from internal sources
Some comes from external sources

An effective AIS needs to be able to integrate information of different types and from different
sources

2.2. Interaction with external and internal parties

The AIS interacts with external parties, such as customers, vendors, creditors, and governmental
agencies. The AIS also interacts with internal parties such as employees and management. The
interaction is typically two ways in that the AIS sends information to and receives information
from these parties.

2.3. Business transaction cycles

A transaction is: An agreement between two entities to exchange goods or services; OR Any
other event that can be measured in economic terms by an organization. Examples: Sell goods to
customers, Depreciate equipment……The business transaction cycle is a process that: Begins
with capturing data about a transaction and Ends with an information output, such as financial
statements. Many business processes are paired in give-get exchanges.

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Basic exchanges can be grouped into five major transaction cycles:
• Revenue cycle • Production cycle
• Expenditure cycle • Financing cycle • Human resources/ payroll cycle

 Revenue cycle: involves interactions with your customers. You sell goods or services
and get cash. Give goods get cash
 Expenditure cycle: involves interactions with your suppliers. You buy goods or services
and pay cash. Give cash get goods
 Production cycle: raw materials and labor are transformed into finished goods.
Give raw materials & labor get finished goods
 Human resources/ payroll cycle: involves interactions with your employees. Employees
are hired, trained, paid, evaluated, promoted, and terminated. Give cash get labor
 Financing cycle: involves interactions with investors and creditors. You raise capital
(through stock or debt), repay the capital, and pay a return on it (interest or dividends).
Give Cash Get cash

Thousands of transactions can occur within any of these cycles. But there are relatively few
types of transactions in a cycle.
The Revenue Cycle:
• Gets finished goods from the production cycle.

• Provides funds to the financing cycle.

• Provides data to the general ledger and reporting system.

The Expenditure Cycle

• Gets funds from the financing cycle.

• Provides raw materials to the production cycle.

• Provides data to the general ledger and reporting system.

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 The Production Cycle:

• Gets raw materials from the expenditure cycle.

• Gets labor from the HR/payroll cycle.

• Provides finished goods to the revenue cycle.

• Provides data to the general ledger and reporting system.

The HR/Payroll Cycle:

• Gets funds from the financing cycle

• Provides labor to the production cycle.

• Provides data to the general ledger and reporting system

The Financing Cycle:

– Gets funds from the revenue cycle.

– Provides funds to the expenditure and HR/payroll cycles.

– Provides data to the general ledger and reporting system.

The General Ledger and Reporting System:

– Gets data from all of the cycles.
– Provides information for internal and external users.
Many accounting software packages implement the different transaction cycles as separate
modules. Not every module is needed in every organization, e.g., retail companies don’t have a
production cycle. Some companies may need extra modules. The implementation of each
transaction cycle can differ significantly across companies. However, the cycles are
implemented, it is critical that the AIS be able to: Accommodate the information needs of
managers and integrate financial and nonfinancial data.

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2.4. Transaction processing: the data processing cycle
Accountants play an important role in data processing. They answer questions such as:
– What data should be entered and stored?
– Who should be able to access the data?
– How should the data be organized, updated, stored, accessed, and retrieved?
– How can scheduled and unanticipated information needs be met?
To answer these questions, they must understand data processing concepts. An important
function of the AIS is to efficiently and effectively process the data about a company’s
transactions. In manual systems, data is entered in to paper journals and ledgers. In computer-
based systems, the series of operations performed on data is referred to as the data processing
cycle. The data processing cycle consists of four steps:
– Data input – Data processing
– Data storage – Information output
1. DATA INPUT
The first step in data processing is to capture the data. It is usually triggered by a business
activity. Data is captured about:
– The event that occurred.
– The resources affected by the event.
– The agents who participated.
2. DATA STORAGE

Data needs to be organized for easy and efficient access. Let’s start with some vocabulary terms
with respect to data storage.

Ledger
A ledger is a file used to store cumulative information about resources and agents. We typically
use the word ledger to describe the set of t-accounts. The t-account is where we keep track of the
beginning balance, increases, decreases, and ending balance for each asset, liability, owners’
equity, revenue, expense, gain, loss, and dividend account. Following is an example of a ledger
account for accounts receivable:

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General ledger

The general ledger is the summary level information for all accounts. Detail information is not
kept in this account. Example: Suppose XYZ Co. has three customers. Anthony Adams owes
XYZ $100. Bill Brown owes $200. And Cory Campbell owes XYZ $300. The balance in
accounts receivable in the general ledger will be $600, but you will not be able to tell how much
individual customers owe by looking at that account. The detail isn’t there.
Subsidiary ledger
The subsidiary ledgers contain the detail accounts associated with the related general ledger
account. The accounts receivable subsidiary ledger will contain three separate t-accounts—one
for Anthony Adams, one for Bill Brown, and one for Cory Campbell. The related general ledger
account is often called a “control” account. The sum of the subsidiary account balances should
equal the balance in the control account.
Coding techniques
Coding is a method of systematically assigning numbers or letters to data items to help classify
and organize them. There are many types of codes including:
Sequence codes

Block codes

Group codes

With sequence codes, items (such as checks or invoices) are numbered consecutively to ensure
no gaps in the sequence. The numbering helps ensure that: All items are accounted for, there are
no duplicated numbers, which would suggest errors or fraud

When block codes are used, blocks of numbers within a numerical sequence are reserved for a
particular category. Example: The first three digits of a Social Security number make up a block
code that indicates the state in which the Social Security number was issued:
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– 001–003 New Hampshire – 004–007 Maine – 008–009 Vermont
When group codes are used, two or more subgroups of digits are used to code an item. Example:
The code in the upper, right-hand corner of many checks is a group code organized as follows:

– Digits1–2 Bank Digit3 Federal Reserve Digits 4–7 Branch office of

number District Federal Reserve

Group coding schemes are often used in assigning general ledger account numbers.
Chart of accounts
The chart of accounts is a list of all general ledger accounts an organization uses. Group coding
is often used for these numbers, e.g.: The first section identifies the major account categories,
such as asset, liability, revenue, etc. The second section identifies the primary sub-account, such
as current asset or long-term investment. The third section identifies the specific account, such as
accounts receivable or inventory. The fourth section identifies the subsidiary account, e.g., the
specific customer code for an account receivable. The structure of this chart is an important AIS
issue, as it must contain sufficient detail to meet the organization’s needs.
Journals
In manual systems and some accounting packages, the first place that transactions are entered is
the journal. A general journal is used to record: Non-routine transactions, such as loan
payments, Summaries of routine transactions, Adjusting entries and Closing entries. A special
journal is used to record routine transactions. The most common special journals are: Cash
receipts, Cash disbursements, Credit sales and Credit purchases.

Audit trail

An audit trail exists when there is sufficient documentation to allow the tracing of a transaction
from beginning to end or from the end back to the beginning. The inclusion of posting references
and document numbers enable the tracing of transactions through the journals and ledgers and
therefore facilitate the audit trail.

Now that we’ve learned some storage terminology, let’s return to the data storage process. When
transaction data is captured on a source document, the next step is to record the data in a journal.
A journal entry is made for each transaction showing the accounts and amounts to be credited. If

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you took principles of financial accounting class, you probably worked with journals that looked
something like this:

You may not have gotten much experience with special journals, but in most real-world
situations, journal entries really work like this. Entries are originally made in the general journal
only for: Non-routine transactions and Summaries of routine transactions. Routine transactions
are originally entered in special journals. The most common special journals are: Credit sales,
Cash receipts, Credit purchases and Cash disbursements. Let’s work through an example with a
special journal. In this case we’ll use the sales journal.

Suppose the company making these sales posts transactions at the end of each day.
Consequently, at day’s end, they will post each individual transaction to the accounts receivable
subsidiary ledger:

– An $800 increase in accounts receivable (debit) will be posted to Lee Co.’s

subsidiary account (120-122).
– A $700 debit will be posted to May Co.’s subsidiary account (120-033).
– A $900 debit will be posted to DLK Co.’s subsidiary account (120-111).
• Then a summary journal entry must be made to the general journal. The sales for the
period are totaled. In this case, they add up to $2,400
• From time to time, the subsidiary account balances will be added up, and this sum will be
compared to the balance of the control account.

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 Review so far:
– When routine transactions occur, they are recorded in special journals.
– When non-routine transactions occur, they are recorded in the general journal.
– Periodically, the transactions in the special journal are totaled, and a summary entry is made
in the general journal.
– The individual line items in the special journal are posted to the subsidiary ledger accounts.
– The items in the general journal are posted to the general ledger.
– Periodically, the balances in the general ledger control accounts are compared to the sums of
the balances in the related subsidiary accounts.
3. DATA PROCESSING
Once data about a business activity has been collected and entered into a system, it must be
processed. There are four different types of file processing:
 Updating data to record the occurrence of an event, the resources affected by the event,
and the agents who participated, e.g., recording a sale to a customer.
 Changing data, e.g., a customer address.
 Adding data, e.g., a new customer.
 Deleting data, e.g., removing an old customer that has not purchased anything in 5 years
4. INFORMATION OUTPUT
The final step in the information process is information output. This output can be in the form of:
Documents: - Documents are records of transactions or other company data. Example:
Employee paychecks or purchase orders for merchandise. Documents generated at the
end of the transaction processing activities are known as operational documents (as
opposed to source documents). They can be printed or stored as electronic images.
Reports: - Reports are used by employees to control operational activities and by
managers to make decisions and design strategies. They may be produced: On a regular
basis, on an exception basis or on demand. Organizations should periodically reassess
whether each report is needed.
Queries: - Queries are user requests for specific pieces of information. They may be
requested: Periodically or One time.

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Output can serve a variety of purposes:
Financial statements can be provided to both external and internal parties. Some outputs are
specifically for internal use:
 For planning purposes. Examples of outputs for planning purposes include: Budgets
(Budgets are an entity’s formal expression of goals in financial terms), Sales forecasts
 For management of day-to-day operations. Example: Delivery schedules
 For control purposes: - Performance reports are outputs that are used for control purposes.
These reports compare an organization’s standard or expected performance with its actual
outcomes. Management by exception is an approach to utilizing performance reports that
focuses on investigating and acting on only those variances that are significant.
 For evaluation purposes: - These outputs might include: Surveys of customer satisfaction and
Reports on employee error rates.

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