CHAPTER 1
The Information System: An Accountant’s
Perspective
The Information Environment
• Accounting information systems (AIS) are
specialized subset of information systems that
processes financial transactions.
• It 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.
o processes financial transactions; e.g.,
sale of goods
o processes nonfinancial transactions that
directly affect the processing of financial
transactions; e.g., addition of newly
approved vendors
• Information flows are the flows of information
into and out of an organization.
• Trading partners is a category of external user,
including customer sales and billing information,
purchase information for suppliers, and inventory
receipts information.
• Stakeholders are entities either inside or
outside an organization that have a direct or
indirect interest in the firm.
Internal Information Flows
• Horizontal flows of information used primarily at
the operations level to capture transaction and
operations data
• Vertical flows of information
o downward flows — instructions, quotas,
and budgets
o upward flows — aggregated transaction
and operations data
Information Requirements; Information in
Business
• 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.
• Information is a business resource that:
o needs to be appropriately managed
o is vital to survival of contemporary
businesses
What is a System?
• A group of interrelated multiple components or
subsystems that serve a common purpose
• System or subsystem?
o A system is called a subsystem when it is
viewed as a component of a larger
system.
o A subsystem is considered a system
when it is the focus of attention.
System Decomposition versus System
Interdependency
• System Decomposition
o the process of dividing the system into
smaller subsystem parts
• System Interdependency
o distinct parts are not self-contained
o they are reliant upon the functioning of
the other parts of the system
o all distinct parts must be functioning or
the system will fail
INFORMATION OBJECTIVES
• Three fundamental objectives that are common
to all organizations:
o To support the firm’s day-to-day
operations.
o To support management decision
making.
o To support the stewardship function of
management
AN INFORMATION SYSTEMS FRAMEWORK
• The information system is the set of formal
procedures by which data are collected,
processed into information, and distributed to
users.
• A management information system (MIS) is
a system that processes nonfinancial transactions
not normally processed by traditional accounting
information systems (e.g. tracking job skills of
employees)
• A transaction is event that affects or is of
interest to the organization and is processed by
its information system as a unit of work.
• A financial transaction is an economic event
that affects the assets and equities of the
 organization, is measured in financial terms, and
is reflected in the accounts of the firm (e.g.
purchase of goods)
• Nonfinancial transactions are event that do
not meet the narrow definition of a financial
transaction; other events (e.g. preparation of
purchase order)
A Framework for Information Systems
Transactions Processed by the Information
Systems
The Accounting Information System
• The transaction processing system (TPS) is
an activity composed of three major
subsystems—the revenue cycle, the expenditure
cycle, and the conversion cycle; supports daily
business operations
• The general ledger/financial reporting
system (GL/FRS) is a system that produces
traditional financial statements, such as income
statements, balance sheets, statements of cash
flows, tax returns, and other reports required by
law.
• The management reporting system (MRS) is
a system that provides the internal financial
information needed to manage a business;
produces special-purpose reports for internal use
The Management Information System
The Need to Distinguish between AIS and MIS
Examples of MIS Applications in Functional Areas
AIS SUBSYSTEMS
• Transaction Processing System
o Converts economic events into financial
transactions.
o Records financial transactions in the
accounting records.
o Distributes essential financial information
to support operations.
• General Ledger/Financial Reporting Systems
o Takes information from the TPS and
other input.
o updates general ledger control accounts.
o handles nondiscretionary reporting
requirements.
o Nondiscretionary reporting is a type
of reporting in which the organization has
few or no choices mation consists of
traditional financial statements, tax
returns, and other legal documents.
• Management Reporting System
o provides the internal information needed
to manage a business and handles
discretionary reporting.
o Discretionary reporting is a type of
reporting in which the organization can
choose what information to report and
how to present it.
A GENERAL MODEL FOR AIS
• The general model for AIS is a model that
describes all information systems, regardless of
their technological architecture.
End Users
• End users are users for whom the system is
built.
o External users include creditors,
stockholders, potential investors,
regulatory agencies, tax authorities,
suppliers, and customers.
o Internal users include management at
all levels of the organization as well as
operations personnel.
DATA VERSUS INFORMATION
• Data are facts, which may or may not be
processed (edited, summarized, or refined) and
which have no direct effect on the user.
• Information causes the user to take anction
that he or she otherwise could not, or would not,
have taken.
General Model for Accounting Information
Systems
Data Sources
• Data sources are financial transactions that
enter the information system from either internal
or external sources.
o External financial transactions are the
most common source of data for most
organizations.
§ E.g., sale of goods and services,
purchase of inventory, receipt of
cash, and disbursement of cash
(including payroll)
o Internal financial transactions involve the
exchange or movement of resources
within the organization.
§ E.g., movement of raw materials
into work-in-process (WIP),
application of labor and
overhead to WIP, transfer of WIP
into finished goods inventory,
and depreciation of equipment
Transforming the Data into Information
• Functions for transforming data into information
according to the general AIS model:
1. Data Collection
2. Data Processing
3. Data Management
4. Information Generation
Data Collection
• Data collection is the first operational stage in
the information system.
o Objective is to ensure data are valid,
complete and free from material errors.
o Only relevant data should be captured
(RELEVANCE)
o Efficient collection procedures designed
to collect data only once (EFFICIENCY)
Data Processing
• once collected, data usually require processing to
produce information; tasks range from simple to
complex (summarizing to sales forecasting using
statistical techniques)
Database Management
• Database is a physical repository for financial
data. Term could apply to a filing cabinet or
computer disk.
Levels of Data Hierarchy
• Data Attribute
o the most elemental piece of potentially
useful data in the database.
• Record
o is a complete set of attributes for a single
occurrence within an entity class.
• File (or Table)
o is a complete set of records of an
identical class.
Database Management Tasks
• Database management involves three
fundamental tasks: storage, retrieval and
deletion.
• Database management system is a special
software system that is programmed to know
which data elements each user is authorized to
access.
The Data Hierarchy
Information Generation
• Information generation is the process of
compiling, arranging, formatting, and presenting
information to users.
o Relevance: Content must serve a
purpose.
o Timeliness: No older than time frame of
supported action.
o Accuracy: Free from material errors.
o Completeness: All essential information
is present.
 o Summarization: Aggregated for the
user’s needs.
• Feedback is a form of output that is sent back
to the system as a source of data.
Organizational Structure and AIS
• Physical AIS comprise technologies of various
types and configurations as well as people and
tasks from across the organization.
• The structure of an organization helps to allocate
o responsibility
o authority
o accountability
• Segmenting by business function is a very
common method of organizing
• The sales processing system, which is a
subsystem of the revenue cycle, includes the
following organization functions: sales, credit,
inventory control, warehousing, shipping, billing,
accounts receivable, general ledger, and data
processing.
FUNCTIONAL SEGMENTATION
• Segments are functional units of a business
organization.
• Materials Management
o Purchasing
o Receiving
o Stores
• Production
o Production planning involves scheduling
the flow of materials, labor, and
machinery to efficiently meet production
needs.
o Quality control monitors the
manufacturing process at various points
to ensure that the finished products meet
the firm’s quality standards.
o Maintenance keeps the firm’s machinery
and other manufacturing facilities in
running order.
• Marketing, Distribution, Personnel, Finance,
Accounting, Computer Services/Information
Technology
Functional Areas of a Firm
Functions From Resources
THE ACCOUNTING FUNCTION
• Accounting manages the financial resource of the
firm:
o Captures and records transactions.
o Distributes transaction information to
operations personnel.
• The Value of Information
o Reliability is the property of information
that makes it useful to users.
o To be reliable, information must possess
the following attributes - relevance,
accuracy, completeness, summarization
and timeliness.
o Unreliable information has no value.
THE ACCOUNTING FUNCTION
• Accounting Independence
o It is required by information to be reliable
o Independence is the separation of the
record-keeping function of accounting
from the functional areas that have
custody of physical resources.
o Supports these functions with
information but does not participate in
the physical activities.
o Decisions makers in these functions
require that such vital information be
supplied by an independent source to
ensure its integrity.
INFORMATION TECHNOLOGY
• Centralized data processing is a model under
which all data processing is performed by one or
more large computers, housed at a central site,
that serve users throughout the organization.
o It lends itself to intra-organization
communication and data sharing.
• Distributed data processing (DDP) is
reorganizing the IT function into small
information processing units (IPUs) that are
distributed to end users and placed under their
control.
o Users process transactions locally with
each user segment possessing IT needs
to support their operations.
o Users function independently and tend
not to share data and information.
Centralized Data Processing Model o Enterprise resource planning (ERP)
is a system assembled of prefabricated
software components.

Systems Maintenance
• It involves changes in the system as user needs
changes and evolve.
• It may be trivial or significant.
• Between 80% - 90% of system’s total cost may
be incurred because of maintenance activities.

Database Administration
• Centrally organized companies with shared data
use database administration to ensure security
and integrity.

Organization of IT Function in a Centralized Network Administration

System • A network is a collection of interconnected
computers and communications devices that
allows users to communicate access data and
applications, and share information and
resources.
• Network administration is being responsible
for the effective functioning of the software and
hardware that constitute the organization’s
network.
o This involves configuring, implementing,
and maintaining network equipment.

Distributed Data Processing Model

• Primary Areas of Centralized Data Processing:
Database administration, Data processing,
Systems development, Systems Maintenance

Systems Development and Maintenance

Systems Development
• It is the process organizations use to acquired
information systems. Information systems can be
purchased or built from scratch.
• Commercial software is pre-coded software
that a user purchases from a software vendor.
o It is available for general accounting and
industry specific applications.
o Commercial software packages are
sometimes called turnkey systems
because they often can be implemented
by the user with little or no modification.
o Turnkey systems are completely
finished and tested systems that are
ready for implementation.
• Custom software is software built to individual
specifications.
o Custom systems are expensive than
commercial packages.
o Creating custom software requires an in-
house team of qualified individuals.
• Systems development life cycle is the Organization of IT Function in a Centralized
software development process. System

Potential Advantages of DDP
1. Cost reductions in hardware and data entry tasks
2. Improved cost control responsibility
3. Improved user satisfaction since control is closer
to the user level
4. Back-up of data can be improved through the use
of multiple data storage sites
Potential Disadvantages of DDP
1. Loss of control
2. Mismanagement of company resources
3. Hardware and software incompatibility
4. Redundant tasks and data
5. Consolidating tasks usually segregated
6. Difficulty attracting qualified personnel
7. Lack of standards
Outsourcing the IT Function
• Due to the highly technical, dynamically changing
and expense of IT, many executives look to IT
Outsourcing.
• Organization sells IT resources and leases back
IT services.
IT Outsourcing
• is contracting with a third-party vendor to take
over the costs, risks, and responsibilities
associated with maintaining an effective
corporate IT function, including management of
IT assets and staff and delivery of IT services
such as data entry, data center operations,
applications development, applications
maintenance, and network management.
Cloud computing
• is a location-independent computing variant of IT
outsourcing whereby shared data centers deliver
hosted IT services over the Internet. These
services fall into three categories: software as a
service (SaaS), infrastructure as a service (IaaS),
and platform as a service (PaaS).
Software as a service (SaaS)
• is a software distribution model in which service
providers host applications for client
organizations over a private network or the
Internet.
Infrastructure as a service (IaaS)
• is the provision of computing power and disk
space to client firms who access it from desktop
PCs.
• The client firm can configure the infrastructure for
storage, networks, and other computing needs,
including running operating systems and data
processing applications.
Platform as a service (PaaS)
• enables client firms to develop and deploy onto
the cloud infrastructure consumer-generated
applications using facilities provided by the PaaS
vendor.
The Role of Accountants in AIS
• Accountants are involved in both the design and
the audit of AIS.
• Accountants play a prominent role on systems
development teams as domain experts,
responsible for many aspects of the conceptual
system including specifying rules, reporting
requirements and internal control objectives.
• The IT professionals on the team are responsible
for the physical system, including data storage.
ACCOUNTANTS AS SYSTEM DESIGNERS
• Conceptual system is the production of several
alternative designs for a new system.
• Physical system is the medium and method for
capturing and presenting the information.
• Data storage is an efficient information system
that captures and stores data only once and
makes this single source available to all users who
need it.
ACCOUNTANTS AS SYSTEM AUDITORS
• Accountants perform audits which typically
involve the AIS.
o External audit is an independent
attestation and opinion (audit report)
regarding financial statement
presentation.
o Requires auditors (independent CPAs) to
test internal controls and perform
substantive tests of data.
o Critical element is auditor
independence, which means the
auditor is free from factors that might
influence the audit report.
• Auditor is an expert who expresses an opinion
about the fairness of a company’s financial
statements.
 • Attest function is an independent auditor’s The Role of the Audit Committee
responsibility to opine as to the fair presentation • Audit committees serves an independent “check
of a client firm’s financial statement. and balance” for internal audit functions and a
• Substantive tests are tests that determine liaison with external auditors.
whether database contents fairly reflect the • This is usually composed of three people who
organization’s transactions. should be outsiders (not associated with the
• Assurance service is broader in scope than families of executive management nor former
traditional attestation audit officers, etc.), one of which must be a “financial
expert”.
Attest Service Versus Advisory Services
• Tests of controls are tests that establish Designer/Auditor Duality
whether internal controls are functioning • Designer – knowledge of functions, tasks and
properly. controls in the system
• IT auditing is the review of the computer-based • Auditor – knowledge of audit issues and concerns
components of an organization. The audit is often (e.g. audit risk, audit objectives, etc.)
performed as part of a broader financial audit. • Accountants must be able to clearly convey their
• IT auditors evaluate IT, often as part of external needs to the systems professionals who design
audit the system.
• The accountant should actively participate
Sarbanes-Oxley Act of 2002 in systems development projects to ensure
• Prior to SOX, accounting firms were permitted to appropriate systems design.
provide both advisory and attest services to
clients.
o SOX legislation restricts non-audit
services that auditors may provide and
prohibits auditors from providing these
services:
o Other accounting services including
bookkeeping, financial information
systems design and implementation,
appraisal or valuation, actuarial, and
internal audit outsourcing.
o Management or human resources, broker
or dealer, investment adviser, or
investment banking services.
o Legal services and expert services
unrelated to the audit.
o Any other service that the Board
determines, by regulation, is
impermissible.
o
Internal Audits
• Internal auditing is the appraisal function
housed within the organization to examine and
evaluate activities.

External Versus Internal Auditors

• External auditors attest to the fairness of financial
statements and represent outsiders and internal
auditors provide in-house IS and IT appraisal
services and represent the interests of the
organization.

Fraud Audits
• These have increased in popularity as a corporate
governance tool. These may be initiated by
managers to investigate employees or the board
to investigate management.