Chapter 1: Hall organization and users in the external

environment. External users fall into two

groups: trading partners and stakeholders.

Exchanges with trading partners include

customer sales and billing information,
purchase information for suppliers, and
inventory receipts information.

Stakeholders are entities outside (or inside)

the organization with a direct or indirect
interest in the firm.

Stockholders, financial institutions, and

government agencies are examples of
These activities consist of the product- external stakeholders. Information
oriented work of the organization, such as exchanges with these groups include
manufacturing, sales, and distribution. financial statements, tax returns, and stock
transaction information.
Operations management is directly
responsible for controlling day-to-day Inside stakeholders include accountants
operations. and internal auditors.

Middle management is accountable for All user groups have unique information
the short-term planning and coordination of requirements. The level of detail and the
activities necessary toaccomplish nature of the information these groups
organizational objectives. receive differ considerably.

Top management is responsible for longer- For example, managers cannot use the
term planning and setting organizational highly detailed information needed by
objectives. operations personnel. Management
information is thus more summarized and
Every individual in the organization, from oriented toward reporting on overall
business operations to top management, performance and problems rather than
needs information to accomplish his or her routine operations. The information must
tasks. identify potential problems in time for
The horizontal flow supports operations- management to take corrective action.
level tasks with highly detailed information External stakeholders, on the other hand,
about the many business transactions require information very different from that
affecting the firm. This includes information of management and operations users. Their
about events such as the sale and shipment financial statement information, based on
of goods, the use of labor and materials in generally accepted accounting
the production process, and internal principles (GAAP), is accrual based and
transfers of resources from one department far too aggregated for most internal uses.
to another.
System is a group of two or more
The vertical flow distributes information interrelated components or subsystems
downward from senior managers to junior that serve a common purpose.
managers and operations personnel in the
form of instructions, quotas, and budgets. In System generates mental images of
addition, summarized information pertaining computers and programming. In fact, the
to operations and other activities flows term has much broader applicability. Some
upward to managers at all levels. systems are naturally occurring, whereas
others are artificial.
Management uses this information to
support its various planning and control All life forms, plant and animal, are examples
functions. of natural systems.

A third flow of information depicted in Figure Artificial systems are man-made. These
1-1 represents exchanges between the systems include everything from clocks to
submarines and social systems to Control should be provided on a cost-
information systems. benefit basis. It is neither economical nor
necessary to back up every subsystem.
MULTIPLE COMPONENTS. A system must
contain more than one part. Backup is essential, however, when
excessive negative consequences result from
RELATEDNESS. A common purpose relates
a subsystem failure.
the multiple parts of the system. Although
each part functions independently of the The information system is the set of
others, all parts serve a common objective. If formal procedures by which data are
a particular component does not contribute collected, processed into information, and
to the common goal, then it is not part of the distributed to users.
system.
A transaction as an event that affects or is
SYSTEM VERSUS SUBSYSTEM. The of interest to the organization and is
distinction between the terms system and processed by its information system as a unit
subsystem is a matter of perspective. For our of work. This definition encompasses both
purposes, these terms are interchangeable. financial and nonfinancial events.
A system is called a subsystemwhen it is
A financial transaction is an economic
viewed in relation to the larger system of
event that affects the assets and
which it is a part. Likewise, a subsystem is
equities of the organization, is reflected
called a system when it is the focus of
in its accounts, and is measured in
attention.
monetary terms.
PURPOSE. A system must serve at least one
purpose, but it may serve several. Whether a
AIS subsystems process financial
system provides a measure of time,
transactions and nonfinancial
electrical power, or information, serving a
transactions that directly affect the
purpose is its fundamental justification.
processing of financial transactions.
When a system ceases to serve a purpose, it
should be replaced. The AIS is composed of three major
subsystem:

SYSTEM DECOMPOSITION. (1)the transaction processing system

Decomposition is the process of (TPS), which supports daily business
dividing the system into smaller operations with numerous reports,
subsystem parts. This is a convenient way documents, and messages for users
of representing, viewing, and understanding throughout the organization;
the relationshipsamong subsystems. By - The TPS is central to the overall
decomposing a system, we can present the function of the information system by
overall system as a hierarchy and view the converting economic events into
relationships between subordinate and financial transactions, recording
higher-level subsystems. Each subordinate financial transactions in the
subsystem performs accounting records (journals and
ledgers), and distributing essential
financial information to operations
SUBSYSTEM INTERDEPENDENCY. A personnel to support their daily
system’s ability to achieve its goal depends operations.
on the effective functioning and harmonious - The TPS deals with business events
interaction of its subsystems. If a vital that occur frequently. A firm may
subsystem fails or becomes defective and process thousands of transactions. To
can no longer meet its specific objective, the deal efficiently with such volume,
overall system will fail to meet its objective similar types of transactions are
one or more specific functions to help grouped together into transaction
achieve the overall objective of the higher- cycles.
level system. - The TPS consists of three transaction
cycles: the revenue cycle, the
expenditure cycle, and the
conversion cycle.
(2)the general ledger/financial
reporting system (GL/FRS), which
produces the traditional financial
statements, such as the income
statement, balance sheet, statement of
cash flows, tax returns, and other reports
required by law;
General Ledger System
- Summaries of transaction cycle
activity are processed by the GLS
to update the general ledger control
Data are facts, which may or may not
accounts.
be processed (edited, summarized, or
- Other, less frequent, events such
refined) and have no direct effect on the
as stock transactions, mergers, and
user.
lawsuit settlements, for which there
may be no formal processing cycle in Information causes the user to take an
place, also enter the GLS through action that he or she otherwise could not, or
alternate sources. would not, have taken.

Financial Reporting System One person’s information is another

person’s data. Thus, information is not just
- The FRS measures and reports the
a set of processed facts arranged in a formal
status of financial resources and
report. Information allows users to take
the changes in those resources.
action to resolve conflicts, reduce
- The FRS communicates this
uncertainty, and make decisions.
information primarily to external
users. Data sources are financial transactions
- This type of reporting is called that enter the information system from both
nondiscretionary because the internal and external sources.
organization has few or no choices
External financial transactions are the
in the information it provides.
most common source of data for most
Much of this information consists of
organizations. These are economic
traditional financial statements, tax
exchanges with other business entities and
returns, and other legal documents.
individuals outside the firm.

(3)the management reporting system 1. Data collection is the first

(MRS), which provides internal operational stage in the
management with special-purpose information system. The objective is
financial reports and information to ensure that event data entering the
needed for decision making such as system are valid, complete, and free
budgets, variance reports, and from material errors. In many respects,
responsibility reports. this is the most important stage in
Uses Current than Historical Data the system.
This type of reporting is called o The information system
discretionary reporting because the should capture only
organization can choose what RELEVANT data. A
information to report and how to fundamental task of the system
present it. designer is to determine what is
and what is not relevant. He or
she does so by analyzing the
The management information system user’s needs.
(MIS) processes nonfinancial o EFFICIENT data collection
transactions that are not normally procedures are designed to
processed by traditional AIS. collect data only once. These
data can then be made available
to multiple users. Capturing the
same data more than once leads
 to data redundancy and Information System Objectives
inconsistency.
1. To support the stewardship
2. Tasks in the data processing stage
function of management.
range from simple to complex.
Stewardship refers to management’s
Examples include mathematical
responsibility to properly manage the
algorithms
resources of the firm. The information
3. Database Management
system provides information about
The organization’s database is its
resource utilization to external users
physical repository for financial
via traditional financial statements and
and nonfinancial data
other mandated reports.
o DATA ATTRIBUTE. Logical and
relevant characteristics, a type 2. To support management decision
of data that can be used to making. The information system supplies
describe or quantify an managers with the information they need to
object or entity. carry out their decision-making
o RECORD. A record is a responsibilities.
complete set of attributes
3. To support the firm’s day-to-day
for a single occurrence within
operations. The information system
an entity class. For example, a
provides information to operations personnel
particular customer’s name,
to assist them in the efficient and effective
address, and account balance is
discharge of their daily tasks.
one occurrence (or record).
o FILES. A file is a complete set
of records of an identical class. Acquisition of information systems
For example, all the AR records 1) system development life cycle -
of the organization constitute develop customized systems from
the AR file. scratch through in-house
4. DATABASE MANAGEMENT TASKS. systemsdevelopment activities
Database management involves three 2) Purchased preprogrammed
fundamental tasks: storage, commercial systems from software
retrieval (task of locating and vendors.
extracting an existing record from o Turnkey systems - finished
thedatabase), and deletion.
and tested systems that are
Information generation is the process of ready for implementation. They
compiling, arranging, formatting, and are general-purpose systems or
presenting information to systems customized to a specific
industry.
users. Information can be an operational
o Backbone systems, the
document such as a sales order, a structured
primary processing logic is
report, or a message on a computer screen.
preprogrammed, and the vendor
USEFUL INFORMATION: then designs the user interfaces
to suit the client’s unique needs.
- RELEVANCE
It is a compromise between a
- TIMELINESS
custom system and a turnkey
- ACCURACY – free from material error
system
- COMPLETENESS – no info should be
missing
- SUMMARIZATION – info should be
aggregated

materiality is a difficult concepT to quantify.

It has no absolute value; it is a problem-
specific concept.

Feedback – output that is sent back to the

system as a source of data. Initiate or alter
process.
 o Vendor-supported systems 3. Stores takes physical custody of the
are custom (or customized) inventory received and releases these
systems that client resources into the production process
organizations purchase as needed.
commercially rather than
Production activities occur in the
develop in-house. Under this
conversion cycle in which raw materials,
approach, the software vendor
labor, and plant assets are used to create
designs, implements, and
finished products. The specific activities are
maintains the system for its
determined by the nature of the products
client.
being manufactured. In general they fall into
two broad classes:
Business Segments
1. Primary manufacturing activities shape
The structure of an organization reflects the and assemble raw materials into
distribution of responsibility, authority, and finished products.
accountability throughout the organization. 2. Production support activities ensure
that primary manufacturing activities
Business organizations consist of functional
operate efficiently and effectively.
units or segments.
These include, but are not limited to,
1. Geographic Location. Many the following types of activities:
organizations have operations o Production planning involves
dispersed across the country and scheduling the flow of materials,
around the world. They do this to gain labor, and machinery to
access to resources, markets, or lines efficiently meet production
of distribution. Geographic segment as needs. This requires information
a quasi-autonomous entity. about the status of sales orders,
2. Product Line. Companies that raw materials inventory, finished
produce highly diversified products goods inventory, and machine
often organize around product lines, and labor availability.
creating separate divisions for each. o Quality control monitors the
3. Business Function. Functional manufacturing process at
segmentation divides the organization various points to ensure that the
into areas of specialized responsibility finished products meet the
based on tasks. The functional areas firm’s quality standards.
are determined according to the flow o Maintenance keeps the firm’s
of primary resources through the firm. machinery and other
Examples of business function manufacturing facilities in
segments are marketing, running order.
production, finance, and
Marketing. The marketplace needs to know
accounting.
about, and have access to, a firm’s products.
Functional Segmentation The marketing function deals with the
strategic problems of product promotion,
Materials Management. The objective of
advertising, and market research.
materials management is to plan and control
the materials inventory of the company. Distribution is the activity of getting the
product to the customer after the sale.
1. Purchasing is responsible for
ordering inventory from vendors Personnel. Competent and reliable
when inventory levels fall to their employees are a valuable resource to a
reorder points. business.
2. Receiving is the task of accepting
Finance. The finance function manages the
the inventory previously ordered by
financial resources of the firm through
purchasing. Receiving activities include
banking and treasury activities, portfolio
counting and checking the physical
management, credit evaluation, cash
condition of these items.
disbursements, and cash receipts.
Accounting Independence. Information directly with the system as part of their
reliability rests heavily on the concept of daily responsibilities.
accounting independence. Simply stated,
accounting activities must be separate
Distributed Data Processing (DDP) is
and independent of the functional areas
quite broad, touching on such related topics
that maintain custody of physical
as end-user computing, commercial
custody.
software, networking, and office
IT SERVICES automation. Simply stated, DDP involves
reorganizing the IT function into small
Data Processing
information processing units (IPUs) that are
Centralized Data Processing distributed to end users and placed under
their control. It is a way of organizing the
The IT function is usually treated as a cost
IT functions of a company by spreading out
center whose operating costs are charged
data processing tasks to different parts of
back to the end users.
the organization, rather than having
It may consist of the following functions: everything controlled by a central IT
department.
1. Data Control: In the past, data
control groups managed the flow of Advantages of DDP:
transaction documents from users to
 Cost Reductions
the computer system and then back to
 Improved Cost Control
users as reports. Today, this process is
Responsibilty
mostly automated, so this role has
 Improved User Satisfaction
largely disappeared, except in some
 Backup
organizations with older systems.
Disadvantages of DDP:
2. Data Conversion: This function
involves converting information from  Mismanagement of organization-
paper documents into a digital format wide resources
(like tapes or disks) that can be  Hardware and software
processed by the computer. incompatibility
 redundant tasks
3. Computer Operations: This group
 consolidating incompatible activities
manages the central computer,
 Hiring qualified professionals
ensuring that accounting and other
 lack of standards
applications run smoothly according to
a set schedule.

4. Data Library: This is a secure room The Evolution of Information System

where offline data files, like magnetic Models
tapes or removable disks, are stored. A
Manual Process Model
data librarian manages these files,
issuing them to computer operators - Manual systems constitute the
when needed and storing them safely physical events, resources, and
afterward. personnel that characterize many
businesses processes
Systems professionals include systems
- This includes such tasks as order-
analysts, database designers, and
taking, warehousing materials,
programmers who design and build the
manufacturing goods for sale,
system.
shipping goods to customers, and
Systems professionals gather facts about the placing orders with vendors.
user’s problem, analyze the facts, and Traditionally, this model also includes
formulate a solution. the physical task of record keeping.

End users are those for whom the Flat-FIle Model

system is built. They are the managers
- The flat-file approach is most often
who receive reports from the system
associated with so-called legacy
and the operations personnel who work
systems.
 - The flat-file model describes an - Once specified, both accounting and
environment in which individual data nonaccounting data about these
files are not related to other files phenomena can be identified,
- Thus, stand-alone applications captured, and stored in a relational
rather than integrated systems database
perform data processing - RESOURCES
- The data redundancy demonstrated o Economic resources are the
in this example contributes to three assets of the organization. They
significant problems in the flat-file are defined as objects that are
environment: data storage, data both scarce and under the
updating, and currency of control of the enterprise.
information. o NO ACCOUNTS RECEIVABLE
- Another problem with the flat-file - EVENTS
approach is the user’s inability to o e phenomena that affect
obtain additional information as his or changes in resources. They
her needs change TASK-DATA can result from activities such
DEPENDENCY. asproduction, exchange,
- Flat Files Limit Data Integration consumption, and distribution.
- The flat-file approach is a single-view - AGENTS
model. Files are structured, formatted, o Economic agents are
and arranged to suit the specific needs individuals and departments
of the owner or primary user of the that participate in an economic
data event. They are parties both
inside and outside the
organization with discretionary
power to use or dispose of
economic resources
o Traditional accounting records
The Database Model including journals, ledgers, and
- An organization can overcome the charts of accounts do not exist
problems associated with flat files by as physical files or tables under
implementing the database model to the REA model.
data management. o REA is a conceptual model, not a
- The DBMS is a special software system physical system. Many of its
that is programmed to know which tenets, however, are found
data elements each user is authorized within advanced database
to access. systems.
- Overcome Problems: Elimination of - ENTERPRISE RESOURCE PLANNING
data redundancy, single update, SYSTEMS
current values. o an information system model
- Flat-file and early database that enables an organization to
systems are called traditional automate and integrate its
systems key business processes.
o ERP breaks down traditional
Relational Data Base model. This
functional barriers by
flexible database approach permits the
facilitating data sharing,
design of integrated systems applications
information flows, and the
capable of supporting the information
introduction of common
needs of multiple users from a common
business practices among all
set of integrated database tables.
organizational users.
THE REA MODEL o ERP packages are sold to
client organizations in
- REA is an accounting framework
modules that support standard
for modeling an organization’s critical
processes. Some common ERP
resources, events, and agents (REA)
modules include:
and the relationships between them.
 Asset Management
  Financial Accounting conducting financial statement audits
 Human Resources examining an operation’s compliance with
 Industry-Specific Solutions organizational policies, reviewing the
 Plant Maintenance organization’s compliance with legal
 Production Planning obligations, evaluating operational
 Quality Management efficiency, detecting and pursuing fraud
 Sales and Distribution within the firm, and conducting IT
 Inventory Management audits.

The Role of the Accountant

ACCOUNTANT AS USERS

- As end users, accountants must

provide a clear picture of their
needs to the professionals who
design their systems.
- The accountant’s participation in
systems development should be
active rather than passive.

ACCOUNTANTS AS SYSTEM DESIGNERS

- the accounting function is

responsible for the conceptual
system - The design of the
conceptual system involves specifying
the criteria for identifying delinquent
customers and the information that
needs to be reported. The
accountant determines the nature
of the information required, its
sources, its destination, and the
accounting rules that need to be
applied.
- IT function is responsible for the
physical system - medium and
method for capturing and presenting
the information. The computer
professionals determine the most
economical and effective technology
for accomplishing the task.

ASSURANCE. Assurance services are

professional services, including the attest
function, that are designed to improve the
quality of information, both financial and
nonfinancial, used by decision makers.

IT AUDITING. IT auditing is usually

performed as part of a broader financial
audit. The organizational unit responsible for
conducting IT audits may fall under the
assurance services group or be independent

Internal auditing is an appraisal function

housed within the organization. Internal
auditors perform wide range of activities on
behalf of the organization, including