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Introduction to Accounting Information Systems

Module 1: Introduction
Introduction to Accounting Information Systems
Users of Accounting Information

Of the two categories of accounting information users, the first is internal users—the firm’s employees, especially management. The second category, the external users, consists of investors (current or future stockholders), creditors (banks and vendors), customers, and governmental units (the SEC and taxing authorities). Managerial accounting deals more with score keeping and internal users; whereas financial accounting deals more with record keeping and external users.
The internal users (employees) at all levels require accounting information. Managers use accounting information to help perform their major functions of planning, organizing, directing, controlling, and especially, decision making.
For example, the president of a men’s apparel manufacturing company might require variance analysis reports that compare the actuals to budgets for the entire company’s production. Other employees probably would require more detailed accounting information.

A manager responsible for an entire product line, such as men’s trousers, also might require a variance analysis report but just for the men’s trousers product line. A production supervisor might require an even more detailed variance analysis report to pinpoint inefficiencies in the production of just one type of trousers. An employee who operates machinery that manufactures the trousers, might be interested in more detailed information such as the amount of material used for a given production run compared to the standard quantity.
Although different levels of employees require different levels of detail in their accounting information, internally used accounting information is discretionary.
The accounting information required by external users, on the other hand, is mandatory. A good example of an internal user report is a budget, a report that is not required by law and will not be seen by external users.
The information required by external users is quite diverse. A good example is financial statements. Publicly traded firms are required by law to provide financial statements. In many cases, external users can access a company’s financial data. Examples include customers tracking their UPS shipments, vendors checking their invoice status, and banks allowing bill payments.
Because there is the possibility of external users accessing unintended sensitive information, security is a great concern. Companies use “firewalls,” software and hardware protections, to limit access to data by unauthorized individuals. We will discuss such issues in more detail in module 6.
Yet another difference between internal and external users is that internal users usually do not require accounting information that is subject to generally accepted accounting principles (GAAP), whereas the information generally required by external usersis subject to GAAP. This requirement is especially applicable when the information consists of financial statements of publicly traded companies.
There are some additional differences between the information needs of internal and external users, although probably not as important as the ones already mentioned.
Financial accounting concerns itself with the concept of materiality, whereas managerial accounting is more concerned with the broader concept of cost benefit. Along the same lines, management accounting emphasizes relevance, whereas financial accounting emphasizes GAAP and, again, materiality.
Another difference is that the emphasis on managerial accounting is generally the future as reports often are used to predict. Financial accounting, by contrast, reports and emphasizes the past, which also is important.
Table 1.1
Accounting Information Requirements of Internal and External Users
Internal External
Managerial Financial
Discretionary Mandatory
Cost benefit Materiality
Future Past
Centralization of Accounting Information Systems
Suppose a company has numerous offices across the country with corporate headquarters in Chicago. One approach to their payroll function would be to have a payroll system operational in Chicago that prepares the entire payroll for employees at all locations. Another approach would be for each office to have its own payroll system that takes care of its individual needs.
The advantages of the first approach (a centralized system) are obvious. Having one system with one set of outputs would save time and money. Imagine trying to prepare required IRS periodic reports for social security and unemployment tax using a decentralized system. Doing so would necessitate collecting the outputs from different systems, in different formats, then manually producing the required reports.
If a company were international, however, it would be an advantage to have separate payroll systems (a decentralized system) satisfying the different tax and currency requirements for each country. Even for a company that is not international, but has different locations, a decentralized system avoids the problem of sending input data to the centralized facility and getting the paychecks out securely to each employee, especially at remote sites.
So one of the most important issues related to information systems in general is that of whether the system should be centralized or decentralized. As the examples show, there are definite advantages and disadvantages to each approach.
The primary advantage of a centralized system is a much higher degree of control, not only control over user access, but also over data redundancy. A centralized system could provide cost savings over a decentralized system. Not only would there be a possibility of purchasing less hardware, but also economies of scale (in this case, the more you process at one time, the cheaper the unit costs).
Among the advantages of decentralized systems are better serving the users with more flexibility, faster turnaround times, and greater control over information. The prices to be paid for these advantages, however, include a possible lack of interaction between systems and a corresponding lack of overall data availability.
A common alternative to either extreme is a distributed data processing system, usually with a local area network. Although this approach has some of the advantages of both centralized and decentralized systems, it also has some of the disadvantages of both. Users can access data from their own workstations and have access to a quantity of data, but control is a significant problem.
A very popular, related, and more modern approach than distributed data processing is client/server processing. A server is a resource, operational on a computer, that provides data or resources in common to end users on a local device (client), upon request. The improvement over distributed processing is that client/server processing has the capability of processing data before transmitting it, whereas the distributed data approach just provides a file of data.
Suppose an end user wanted to acquire a list of all the employees who have reached the social security maximum. Using the distributed data processing approach, the user could download the entire employee master file, and then determine the answer from this file. Using the client/server approach, the user could request the names of all employees who have year-to-date income over a certain amount. The client/server would determine which employees fit the criteria and return their related information.
Related to the previous centralized/decentralized discussion is the different types of information systems. The first, calledpersonal, allows individuals to input and store their own data on their PCs to satisfy their own requirements. The second, calledgroup, links their PCs together and allows users to access their own data to satisfy their requirements. The third, calledenterprise, makes available the information and programs used by the entire firm.
Many manufacturing processes are computerized but don’t involve financial data. For example, more and more manufacturing is done using robotics instead of human labor. Other examples include optical character recognition (OCR), magnetic-ink character recognition (MICR), and bar-coding. These technologies aid in identification, inventory control, and remote data collection. Combining this data with financial data can improve the decision-making process.
Components of Accounting Information Systems
This section discusses the major accounting system components. They include source documents (inputs), processing, stored data, outputs, controls, cycles, and interfaces (with other systems). All systems have these components whether manual or computerized, accounting or scientific. As we discuss each accounting system application (in modules 4 and 5), we will point out some of the unique components related to each individual system.
Source Documents (Inputs)
Source documents provide the inputs for accounting information systems whether manual or computerized. For example, two major source documents for a payroll system are W-4 forms and time sheets. A W-4 form, filled out by each employee, is the source for input to the payroll system relating to how many exemptions an employee wishes to claim and is used for payroll calculations. Hourly data from the time sheets are input for each period of the payroll.
In lieu of time sheets, especially for supervisory personnel, companies can scan employee ID access cards as the employees move through different departments and can allocate salaries accordingly. This data also is an input to the accounting information system, so would be a data source as well.
For accounting information systems, processing is not generally very complicated. For the most part, processing involves sorting, selecting, merging, table look-ups, and simple mathematical calculations. For example, employee time sheet data might be input in a large batch in no particular order, but might be sorted by employee number for ease of payroll processing.
Typically, there would be some selection processing involved with an accounting information system. For example, if we write a letter to all employees of a given department, we might want to print out mailing labels for the employees of that department alone. The system could select from the employee data and print labels for only those employees with a department number equal to the desired one.
Of all the accounting information systems, the payroll system probably would have the most complex numerical calculations (although compared to scientific applications, the processing would be trivial). Calculations such as overtime premiums, federal income tax, social security tax, and unemployment tax would be involved.
For manufacturing firms, a process costing system would involve some complicated processing. Assigning costs to inventory undergoing a continuous process (making cereal, for example) requires a lot of calculations, as an equivalent cost per unit approach is taken. Such an approach involves calculating average costs for different categories (such as material) and conversion costs (labor and overhead).
Quality control for a manufacturing process also would require a lot of processing, such as statistical sampling. The quality control system would not really be considered an accounting system, however.
Stored Data
Even for a manual system, there would be a need to store some data. For example, accounts payable systems have stored vendor information on large index cards for years. Information such as vendor’s name, address, phone number, and contact name are contained on each card. Having such data on hand facilitates printing bills, addressing envelopes, and so on.
A computerized system works in an analogous manner. A file-oriented system includes a vendor master file with one record for each vendor. Each record contains fields for the name, address, and so forth, just like an index card for a manual system. The same concepts apply to a more advanced database system. Although the data might be stored and accessed differently, the same data is available to the user.
An accounting information system requires storing some transaction-related information as well. Data relating to each purchase, such as vendor number, date of purchase, invoice number, and dollar amount, needs to be stored for each purchase. Likewise, data related to adjustments (returns or discounts) and payments also must be stored.
Generally, accountants are not very concerned about how the data is physically stored and accessed; their focus is on what information is available and whether it is accurate and secure. Flat files could contain the data or a database system could be used. In some cases, it is desirable to have more than the current operational data available for analysis and for answering various questions. A technique called data warehousing combines the operational data with data from previous periods and even external data to facilitate these analyses.
The outputs of accounting information systems consist of displays, documents, reports, and files. An example of a display is accessing a particular customer’s record by keying in the customer’s number (or name) and displaying it on a screen. For example, we might be discussing an invoice with a customer on the phone and need some information quickly. Calling the record up online would be a lot quicker than printing an entire report to look up the necessary information.
Output documents consist of invoices, checks, bills, and the like. Generally, they are sent to third parties (such as employees, customers, and suppliers). Unlike source documents, output documents are generated from the accounting information system as a result of processing. Often, they will become source documents for the other party’s accounting information system, just as documents we receive from an outsider’s system become our source documents.
Reports are common outputs of accounting information systems. Examples include variance reports for control of manufacturing operations, aged accounts receivable reports for determining possible collection problems and estimating bad debts, and a cash requirements report from accounts payable to help manage cash and determine if it is necessary to borrow funds.
Another common output of accounting information systems are files of data. Such data usually will also be input at some later time. For example, each time the payroll is done, the current period of payroll transactions will be output from the payroll system and added to the transactions from previous periods. The data will then be used to prepare quarterly reports and year-end W-2s.
Controls play a crucial role in accounting information systems. A large part of the auditing section of the uniform CPA exam deals with accounting systems, and the majority of the accounting system questions of the CPA exam deal with internal controls. Module 3 deals entirely with this topic, so nothing more will be included here.
All accounting systems have various processing cycles. Not all cycles are present for each system but, generally, processing needs to be performed at least monthly and annually. In addition, all systems require maintenance and other functions on an as-needed basis. Some systems might require a daily as well as a quarterly cycle.
Consider a payroll system. The as-needed processing might consist of updating employee information. Every time an employee leaves the company, is hired, or changes addresses, the stored information must be updated. If there were no employee-related changes from the last pay period, there would be no need to update the stored information.

A major cycle would match the payroll intervals (weekly, biweekly, semimonthly, or monthly). The time sheet information would have to be input, paychecks printed, payroll registers generated, and so on. There would be another cycle for transferring the payroll summary data to the general ledger. General ledger updating would, most likely, be monthly, but it could conceivably be quarterly, especially if only quarterly statements are prepared.

There would be a quarterly cycle for dealing with the IRS quarterly required forms and, like all accounting information systems, there would be a large amount of year-end processing—year-end reporting, initializing files, W-2 printing, and the like.
As another example, consider the accounts receivable system. Some processing is performed as needed, such as updating customer information. Before sales can be made to new customers, their information has to be added to the customer file. If there are a lot of cash receipts, they should be processed daily, so the checks can be deposited as quickly as possible.

A monthly cycle consists of printing and mailing customer statements. To produce the statements, a lot of additional processing must be performed. Credit sales, cash receipts, adjustments for sales returns, and debt write-offs also must be processed to prepare up-to-date statements. The receivables would be aged on a monthly basis to determine problem accounts.
The important point to consider is that each system has important cycles, so much thought must be given to what processing has to be performed when. Such considerations must be part of the decision making when developing or purchasing any system.
To avoid duplication of effort and provide better control, a good accounting information system will provide interfaces to other accounting information systems. Figure 1.1 shows all the major accounting system interfaces.
Figure 1.1
Accounting Systems Interfaces

All sales, for example, are captured in a company’s order entry system, so a lot of accounts receivable information has already been entered into this system (sales on account). There is no sense in keying this same information into the accounts receivable system.
The general ledger system should interface with just about every accounting application of a firm. Although the detailed transactions related to each accounting system are handled there, summary information (often, through the use of control accounts) will be passed to the general ledger. We will describe this process in more detail in module 4.
Most of the system interfaces are fairly obvious. Besides providing data from one module to another, some even act as a major control. For example, when properly designed, the human resource system acts as a large control over payroll. It is a good idea to have all salary information controlled by human resource personnel rather than personnel in payroll. This precaution avoids payroll personnel giving themselves raises and is a classic example of a separation-of-duties-type of control. We will discuss this more thoroughly in module 3 (Controls).
Module 2: Systems Analysis and Design
Common System Objectives and Constraints
The common objectives of any system, not just accounting systems, include the following:
Simplicity—Any system, if it is to be successful, should be easy to understand and use.
Real-world model—A system should model the real-world environment of the organization.
Flexibility—A system should be capable of easily changing with an organization. Major redevelopment efforts should not be a consequence of new products, new divisions, or reorganizations.
Reliability—This is an obvious and necessary requirement of any system. Calculations and reports should be accurate. Both management and external users are going to make decisions based on the output of the these systems; they must be able to trust the information.
Timeliness—Even if information is reliable, if it is not delivered when needed, it is not useful for decision making.
Feasibility—For any system, the cost-benefit approach should be taken. That is, the benefits derived should outweigh the costs incurred in developing and operating the system.
Documentation—Another objective of a system is to have adequate documentation available. It is better to create the documentation as the system is being developed rather than after the fact.
Participation—A final but very important objective is to encourage the ultimate users of the system to be involved in the system’s development.
Unfortunately, there are many constraints on system objectives. Constraints include the following:
Management policy—Probably the foremost constraint on meeting the objectives of an accounting system is the objectives themselves in the form of management policy.
Response time—Frequently, a serious constraint upon an accounting system is response time. A response time of more than, say, seven seconds might not be acceptable for someone querying the system at a terminal.
Personnel—Another constraint is the personnel of the firm. To meet the objectives of an accounting system, it might be necessary to hire new personnel or provide training to current personnel.
Financial—An obvious constraint is financial. Resources are, unfortunately, limited and, therefore, so is the amount that can be spent on hardware and software.
Technology—An accounting system must be designed within the parameters of the technology that is available from an external party or that can be created internally.
Environmental—There are significant environmental constraints on accounting systems. There are governmental reporting requirements, competitive constraints, general economic conditions, and even customer requirements.
For an example of a government-imposed constraint, consider the calculation for depreciation. The general ledger system might compute depreciation using units-of-production for bookkeeping purposes; for tax purposes, however, the IRS requires using the Modified Cost Recovery System (MACRS).
An example of a customer-related constraint is the need to be able to track jobs in a large process with many jobs. Consider Federal Express. When a customer calls and asks about the whereabouts of a package, Federal Express must be able to respond fairly quickly. This imposes quite an additional constraint on Federal Express’s business. Besides billing and delivering, their system must be able to track individual packages.
Information Gathering and Documentation Techniques
In this section, we discuss different methods for gathering information and documenting an accounting system during the systems analysis and design phase. The methods include documentation review, questionnaires, interviews, and observation. The best results often are obtained by a combination of these methods. Existing documentation is reviewed to determine what needs clarification for interviews and questionnaires.
Questionnaires and interviews, both excellent data-gathering techniques, will be described in more detail in this section. Documentation reviews and observation also are excellent techniques for gathering information, but are fairly self-explanatory so we won’t discuss them in detail in this section. You should note, however, that systems often don’t operate as documented or even as you think they will. Other techniques are very useful, but nothing can take the place of observation to determine how a system actually operates.
Narratives and flowcharts are excellent tools for documenting a system. All of the techniques described in this section are widely used in industry. They also appear frequently in the CPA exam. Almost every major accounting system-related question on the CPA exam involves one of these techniques.
This technique requests answers to written questions. The questions can be general (open-ended) or quite specific (close-ended). Questionnaires can provide more thoughtful answers than in an interview situation, as the respondant has more time to reply. For example, one could ask an open-ended question such as, What is the greatest problem in using the current system?Close-ended questions also can be asked, such as, Where do the paychecks go after they are printed?
Questionnaires have the advantages of being relatively inexpensive to administer, taking little time to answer, and encouraging truthful responses by allowing those filling them out to remain anonymous. The questionnaire should never be used alone, however, as its greatest drawback is that it is too impersonal. One of the objectives of systems analysis is to build good relationships with the personnel involved. For this reason, interviews and other methods (discussed later) are good techniques to use in addition to questionnaires.
Other disadvantages of the questionnaire technique include the risk of respondents giving frivolous answers (especially with close-ended questions), the risk of questions being misunderstood, and the lack of in-depth responses.
Questionnaire design is crucial. Before the questionnaire is set, questions should be carefully analyzed to ensure that they are not ambiguous or confusing. Special care should be taken to ensure that the answers provided for respondents to select among, are both meaningful and not unnecessarily limited. For example, if the only answers available to choose from are yes, no, andno opinion, respondents may be frustrated if they feel an accurate answer to a particular question would be most but not all of the time or some other qualified answer. For this reason, it is beneficial to test a questionnaire before its first use so it can be validated, evaluated, and perhaps modified before it is administered to actual respondents. This would be somewhat like test marketing. Direct mail might be used with small samples to ensure the desired response before an expensive mass mailing. Fortunately, standard, well-tested questionnaires are available just as standard charts of accounts or audit checklists are available to practitioners.
Interviews can help you not only gain valuable information relating to systems, but also can help build good personal relationships with the interviewees. Depth interviews are general in nature and help the interviewer obtain a basic understanding of an accounting system. Structured interviews are more specific and often are used to obtain answers to detailed questions. Often, structured interviews are used as a followup to either depth interviews or questionnaires.
Besides building good relationships, interviews provide acceptance for new or improved systems. Interviews also have the advantage of asking more penetrating questions, and even allowing for followup questions, depending on answers to earlier questions. Such followups are not possible with questionnaires. Interviewing requires good listening skills and a lot of note-taking.
Unfortunately, interviews can be expensive and time-consuming. There also is the danger that answers given are not always truthful, but sometimes are motivated either by self-interest or out of an effort to please the interviewer (a relatively common sociological phenomenon that can occur with questionnaires, surveys, and interviews). Another disadvantage of this technique is that interviews are not anonymous and people could be uncooperative.
Narratives are highly useful for documenting accounting systems. Often, narratives are written after using data-gathering techniques such as questionnaires, interviews, documentation reviews, and observation. Narratives often are combined with flowcharts as part of the current system documentation. Users of the system can review the documentation and ensure there is a good understanding of the current system before modifications or new systems are proposed.
The narratives and other system documentation also could be very helpful in bringing new personnel up to speed on the current state of the system. This is especially true for new user personnel systems analysts.
Flowcharts are used extensively to document accounting systems. They are especially useful to show the responsibilities of various personnel and the flow of documents throughout the system. Flowcharts provide a pictorial, or graphic, overview of the human and information technology processes.
Advantages of using flowcharts include the following:
• A flowchart provides a very concise overall view of a system, in contrast to a very lengthy written narrative. As is very often said—A picture is worth a thousand words.
• Flowcharts highlight the strengths and weaknesses of a system. This is especially helpful for internal control considerations.
• Flowcharts help ensure more complete data gathering, as missing information is more obvious when omitted from a flowchart.
• Flowcharts help analysts, users, and auditors (especially new personnel) understand the system more quickly.
Of course, there are some disadvantages to flowcharts. For example, flowcharts:
• are relatively expensive to create and maintain.
• could be harmful if they contain errors through misunderstandings or lack of maintenance. In this case they become “flawcharts” and can be quite misleading to the users.
The key to understanding flowcharts (and even solving flowchart-related problems on the CPA exam) are the symbols. Consider a batch order entry program. The first step is to enter a group of orders into a program, which is a manual process (shown in figure 2.1).
Figure 2.1
Step 1. Order Input

The two outputs from this process include the original orders that were input and a disk file containing the order data. The original orders are filed in a filing cabinet for reference. The flowchart with this additional step appears in figure 2.2.
Figure 2.2
Step 2. The Order File

Continuing, the order data file now is validated for accuracy. The customer numbers and items numbers are checked to make sure they are valid and that required fields are present, in the proper format, and so on. This process produces three outputs: the original order data file (that was input to this process), a new file containing valid order data, and an error report. The complete flowchart appears in figure 2.3.
Figure 2.3
Order Entry

Erroneous orders would contain invalid customer or product numbers and could not be further processed. This points out an advantage of real-time processing over batch processing. As orders are entered using real-time processing, invalid data is immediately refused and gives personnel an opportunity to correct the error right then, rather than entering it along with valid data for processing.
One variation might be to also produce a file of erroneous orders for editing and reinput. It is not a bad idea, however, to resubmit the erroneous orders starting at the top. It might be a little more work, but there would be more control. The file of valid orders would be further processed to produce invoices, back-order data, sales history, and ultimately, reports.
A common flowchart-related multiple-choice question on the CPA exam is to present a flowchart like the one above and leave a symbol empty, perhaps the last one (erroneous orders report), and ask what that symbol might be. Four choices would be offered. Any of the possible choices given that are not reports would, obviously, be incorrect. For example, if “erroneous orders file” or “correct erroneous orders” were offered as possible choices for answers, one should immediately reject them because of the shape of the empty symbol. It clearly indicates a report of some kind.

Module 3: Controls
Adverse Effects
Controls are meant to minimize the risks of adverse effects. Adverse effects include:
• loss or misuse of assets
• waste and inefficiency
• errors
• failure to follow management policy
Each of these will be examined in this section along with controls that will help reduce the risks.
Loss or Misuse of Assets
Unfortunately, when theft occurs, employees of a company are, in general, more likely than outsiders to be involved. Theft is actually quite a broad category. We are not just referring here to the stealing of paperclips, pens, or petty cash—or even to someone walking off with a computer. This category of adverse effects also includes the loss of business opportunities through more sophisticated crimes such as fraud, unauthorized computer access, commercial espionage, collusion, and sabotage.
Fraud is defined as criminal deception. There are numerous categories of fraud, including employee, management, financial, reporting, and computer fraud. An example of employee fraud is an accounts receivable clerk misappropriating checks received. Management fraud can be difficult to detect as management usually can override the internal control system (see collusion, below). Fraudulent financial reporting is a serious problem as it misleads users of statements, often for a lengthy period of time, while losses mount. Computer fraud or computer crime is a very serious problem. Computers can be used to alter records, steal money, or illegally access information (see unauthorized access, below). Not only can vast amounts of money be involved, but computer crime can often be difficult to detect.
Unauthorized computer access to sensitive information is a very real problem. The media routinely reports stories of hackers who have illegally accessed computer systems and diverted funds, infected systems with viruses, or changed information. Besides loss of money through thefts, these incidents could, in the long run, cost a company even more through bad publicity and loss of consumer confidence, especially for online or Internet-based businesses.
Commercial espionage is another serious problem. In a recent case, a high-ranking employee of a large automobile manufacturer resigned and took a job with a competitor. He had been the head of procurement and so was in a position to know his former company’s entire product line strategy. The employee was accused of taking a large amount of proprietary information with him and providing it to his new employer. With today’s technological advancements in data storage, it is a lot easier than in the past to remove information. It is also a lot harder to find the evidence. What would have required many cartons of paper before, can now easily be stored on a diskette, CD, or microfiche.
Collusion is defined as two or more employees conspiring to perpetrate fraud. Even with a good system of internal controls in place, this type of fraud is very difficult to detect and overcome. Collusion also can defeat some of the strongest controls, such as separation of duties. The duties of recording transactions, custody of assets, and authorization are generally separated among employees to provide strong control. But if the person who has custody of assets and the person who records the transactions conspire to commit fraud, the result is the same as not having these duties separated.
Consider cash receipts. Suppose whoever handles the incoming checks cashes some of them for his or her own account, and their partner, who records transactions, covers for them. If they are really clever, the person recording the transaction might enter a debit to sales returns and allowances and a credit to accounts receivable. This method of theft would be difficult to detect, and circumvents the separation of duties control. Collusion is even a bigger problem when one of the parties is in a management position—someone who both authorizes transactions and has access to the records and assets.
Sabotage is another serious problem. Competitors can gain a major advantage if a company’s database is destroyed. For the most part, physical controls are relied upon to avoid acts of sabotage. Simple controls such as locks on sensitive area doors, data backups, and password-protected computer access help avoid this type of adverse effect.
Many of these types of more sophisticated problems are often linked together. For example, a recently fired employee, who is no longer authorized to access the computer system, might break in and sabotage information or steal sensitive information and pass it on to the new employer.
The controls that would be most helpful in preventing theft include separation of duties, rotation of duties, authorization of transactions, cancellation of used documents, prenumbered forms, internal audits, reliability of personnel, bonding, firewalls, and physical controls. Physical controls include passwords, employee badges, closed circuit TV, and security guards.
Waste and Inefficiency
Although it may not be as obvious a problem as stealing, waste and inefficiency could cost a company as much or even more. Most of us have used a computer without backup copies for our data—at least until the first time we lost data and had to redo a lot of work. Such carelessness is a waste of company resources. Another example of waste is work that has to be done over because it was done incorrectly. Many people don’t seem to have the time to do things correctly the first time, but they always somehow manage to have the time to do them over.
Frequently, processes are performed in stages. If there is a mistake made in any step along the way, all steps thereafter might have to be performed again. For example, consider the end-of-year processing and closing of a company’s books. If a material error is discovered after the process is finished and financial statements have been prepared, the whole process will have to be redone.
The very processes themselves are often wasteful. For example, some companies try to get by using old technology. They figure they will save money by avoiding the cost of new computers, software, or well-trained, competent personnel. The costs can be higher in the long run by trying to make do with slow-running or inadequate systems operated by inexperienced, inefficient personnel.
The most useful controls to avoid waste and inefficiency include competent, well-trained personnel, control totals, data backups, data input controls, and reconciliation.
There are errors in computations, recording, and completeness. Computation errors include incorrect calculation of discounts, payroll withholding, extensions, or allocations. Errors in recording include recording transactions twice, recording to the wrong account, and recording the wrong amount. An error in completeness means a transaction didn’t get recorded at all.
Some of these errors are difficult to discover. For example, recording a transaction twice, omitting a transaction, recording to the wrong account, or even recording the wrong amount would not cause the accounts to be out of balance. Consequently, the error would not be detected by preparing a trial balance.
Considering that most accounting systems are now computer-resident, there are also many types of processing errors. Processing steps can be performed out of sequence or accidentally omitted. The wrong data can be input to the system. An incorrect version of a program could be run. There could even be bugs in the programs themselves.
Many of the useful controls in this section are the same as those for waste and inefficiency. Controls include the hiring of competent personnel and proper training of personnel along with all of the data input-related controls such as control totals, batch totals, validity check, reasonableness check, and format check as well as balancing, aging, and reconciliation.
Failure to Follow Management Policy
There are many concerns in this area. Two of the most serious are bribes and sexual harassment. In 1977, The Foreign Corrupt Practices Act became law, largely in response to scandals involving the personnel of U.S. companies bribing people in foreign countries to secure business. As for sexual harassment, in recent years, many widely reported cases of sexual harassment have cost the companies involved millions of dollars in fines and bad publicity.
Every company should have a policy and procedures manual which should be continuously maintained by management. The manual should describe day-to-day and periodic operating policies such as vacation leave and performance evaluation. In addition, the manual should pay particular attention to potential major problem areas, such as sexual harassment and bribes. Training in these areas should be provided to all employees. If management policy is not followed, the consequences can be serious, including fines and lawsuits.
Unfortunately, even well-documented policies and employee awareness training still might not be enough to avoid costly lawsuits in sexual harassment situations. Management has to remain vigilant and be sure to avoid a hostile environment.
The Foreign Corrupt Practices Act, mentioned previously, deals with more than just bribes. In effect, the Act requires companies to have a good system of internal control for their accounting records. More will be said on this in the next section. In the meantime, you may want to access the following Web sites for more details regarding the FCPA:
Foreign Corrupt Practices Act
International Agreements Relating to Bribery of Foreign Officials
Promoting Global Corporate Transparency (a summary Federal government article on the FCPA as it relates to international issues)
Management policy related to accounting also should be followed. Not only should all accounting transactions be approved by authorized personnel, but assets should be released to outsiders and taken off the books only under proper authority. Often, signatures are required. Examples include requisition forms, petty cash vouchers, and time sheets.
The CPA Exam Focus on Internal Controls
The second standard of fieldwork established by the American Institute of Certified Public Accountants (AICPA) requires an auditor to evaluate and study a company’s system of internal control. Statement on Auditing Standards (SAS) No.20 requires an auditor to communicate to a company’s management any material weaknesses in internal control. Therefore, the auditing section of the CPA exam has a lot of questions related to internal control. The examples provided in this course are all from the Auditing section of the CPA exam. Generally, there are numerous multiple-choice questions related to accounting systems in the Auditing section of any given CPA exam. Of these, many are related to internal control or controls in general. Some of these multiple-choice questions have been selected as examples and appear as Self-Assessments in modules 2, 3, and 5.
The CPA exam also contains larger questions that require a longer written response. Some of these larger questions are related to internal control and involve some form of system documentation and internal controls. These questions often involve a specific accounting function, such as payroll or cash receipts. You are then asked to prepare an internal control questionnaire for it. As a good example, try to complete this question: Number 3, May 1993.
Frequently a description of an accounting system is offered and then you are required to list the weaknesses in internal control. The descriptions are generally in narrative form as in this question: Number 5, November 1994. Sometimes, a question provides a flowchart as well, in this example: Number 4, May 1998. Try to complete these questions now.

Module 4: General Ledger
Simple Manual System with No Interfaces
Figure 4.1 represents a simple manual general ledger system. We will review this system and then, in the next section, show how this system could be computerized.
Figure 4.1
A Simple Manual General Ledger System

As shown, source documents such as checks, invoices, and contracts are analyzed and entries are written into the general journal. A chart of accounts is consulted to obtain the correct account numbers. Actually, all transactions (including adjusting and closing entries) are journalized in this manner whether or not there are source documents.
An example of some journal entries representing four transactions appears in figure 4.2.
Figure 4.2
Sample General Journal Entries
General Journal Page 1
Date Account & Explanation Ref. Debit Credit
1-1-99 Cash
Sales 101
401 5,000
Accounts Payable 131
201 100
1-2-99 Equipment
Cash 171
101 8,500
Notes payable
9 % due 7-2-99 211 7,000
Accounts Payable
Cash 201
101 100
The entries are eventually posted to the general ledger. Figure 4.3 shows two ledger accounts—cash and accounts payable—that were posted from the above illustrated general journal.
Figure 4.3
Sample General Ledger Accounts
CASH Account No. 101
Date Explanation Ref. Debit Credit Balance
1-1-99 1 5,000 5,000
1-2 1 100 4,900
1 1,500 3,400

Date Explanation Ref. Debit Credit Balance
1-1-99 1 100 100
1-2 1 100 —
Referring back to the flowchart (figure 4.1), after all the transactions have been posted for the period, one can then manually produce reports from the general ledger, including a trial balance and financial statements.
None of this should be new, but the next section will describe how this manual system could be implemented on a computer. This will give some insight on how computerized systems differ from manual ones.
Simple Computerized System with No Interfaces
One of the first differences between the computerized system and the previous manual system is that the chart of accounts is stored on the computer as well as printed. Transactions are still analyzed and journalized, but the big difference is how all this information is stored. In the case of the manual system, the transactions are recorded in the general journal and then posted to the general ledger. So the data is stored in two different places.
For a computerized system, the data need only be stored once and can be manipulated to produce either a general journal or a general ledger (or even a trial balance or financial statements), as shown in figure 4.4.
Figure 4.4
A Simple Computerized General Ledger System

One design for accomplishing this would be to store the data in a file where each record represents one line of the general journal. In other words, each record is one debit or one credit entry of a transaction, rather than an entire transaction. The transactions from figure 4.2 might appear in a file as shown in figure 4.5.
Figure 4.5
Transaction File for General Ledger System
1 19990101 D 101 5,000
1 19990101 C 401 5,000
2 11990101 D 131 100
2 19990101 C 201 100
3 19990102 D 171 8,500
3 19990102 C 101 1,500
3 19990102 C 211 7,000
3 19990102 * * 9 % due 7-2-99
4 19990102 D 201 100
4 19990102 C 101 100
Note that there is a field called transaction number. Each transaction is assigned a unique number in sequential order. This serves two purposes: it acts as a control (the same as when checks, invoices, and other documents are uniquely numbered); the second purpose is for sorting.
Note that the date field is in the format yyyy/mm/dd. This is for ease of sorting or comparing. Furthermore, if only two digits were used for the year, such as 99, there would be a problem sorting when these transactions are combined with transactions from the year 2000. This is the infamous Y2K or Year 2000 problem.
The record type field identifies whether the record is a debit (d), credit (c), or comment (*). The account number, amount, and comment fields are self-explanatory.
Note that alternate designs that would work just as well. For one thing, instead of a separate comment field, one could use the account # and amount fields for storing the comments. Another option is not to use a “Rec Type” field. Instead, a positive number in the amount field would indicate a debit, and a negative number, a credit. Perhaps a zero would indicate that the record is a comment. There are advantages and disadvantages to these alternatives. The alternative we have chosen is a bit easier to work with.
The transaction file records are stored in the order input (chronologically), which also is the order required to print a general journal directly. The same transaction file could be sorted by transaction number within account number and then a general ledger could be printed directly using a fairly simple program.
Using a relational database, it would be easy to create a new file that would contain one record for each account with the ending balance of that account in the amount field. In Dbase, the command would be called Total. This file could then easily be used to print a trial balance or financial statements.
In summary, the main difference between the manual ledger system and the computerized ledger system is, conceptually, how the information is stored and processed. The manual system has two main collections of data—the general journal and the general ledger, which is created by posting from the general journal. The computerized version, however, has only one main collection of data—the transaction file. This file can then be processed (sorted, summarized, and so on) in various ways to produce all of the reports including the general journal, general ledger, financial statements, and other reports.
Manual System with Interfaces
Many organizations find it beneficial to use special journals and subsidiary ledgers that interface with their general ledger system. The specialized journals include purchases, sales, cash receipts, and cash disbursements. The subsidiary ledgers mainly include accounts receivable and accounts payable, but for manufacturing organizations, they also could include raw materials, work-in-process, finished goods, and factory overhead.
There are three advantages of using specialized journals and subsidiary ledgers. First, it considerably reduces the amount of posting required. Second, entering data is easier and could be handled by less-experienced personnel. The last, but certainly not the least, important advantage is the increased level of control. Because all similar transactions (such as purchases on account) are recorded in one place, there is a higher degree of control.
Note that there are many variations not only in the format of specialized journals and subsidiary ledgers, but also in the number used by an organization. In general, any organization that has a large amount of recurring similar transactions would probably find it beneficial to use specialized journals or subsidiary ledgers.
As an example, we will consider how the sales journal and subsidiary ledger are used in conjunction with a manual general ledger system. Later we will examine how a computerized general ledger system might interface sales, account receivables, and the general ledger. Figure 4.6 is a small example of a sales journal containing transactions of sales on account.
Figure 4.6
Sales Journal
A/R dr.
Date Invoice # Account debited Ref. Sales cr.
July 2 995642 Smith Co. 4,020
9 995643 Jones Co. 2,245
16 995644 Collins Co. 1,175
29 995645 Jones Co. 6,500
31 13,940
The corresponding accounts receivable subsidiary ledger appears in figure 4.7.
Figure 4.7
Accounts Receivable Subsidiary Ledger
NAME: Collins Co. Account 1
Date Item Ref. Debit Credit Balance
July 1 Balance x 2,480
16 SJ65 1,175 3,655

NAME: Jones Co. Account 2
Date Item Ref. Debit Credit Balance
July 9 SJ65 2,245 2,245
29 SJ65 6,500 8,745

NAME: Smith Co. Account 3
Date Item Ref. Debit Credit Balance
July 2 SJ65 4,020 4,020
18 CR49 4,020 —
The corresponding general ledger accounts appear in figure 4.8.
Figure 4.8
Selected General Ledger Accounts
ACCOUNT: Accounts Receivable Control Account # 121
Date Item Ref. Debit Credit Debit Credit
July 1 Balance x 2,480
31 SJ65 13,940 17,960

ACCOUNT: Sales Account # 401
Date Item Ref. Debit Credit Debit Credit
July 31 SJ65 9,600 9,600
Note the “Ref.” (posting reference) columns in both the accounts receivable subsidiary ledger in figure 4.7 and the general ledger in figure 4.8 contain “SJ65″—which means the journal transaction it was posted from is on page 65 of the sales journal (see figure 4.6). This latter is opposed to the last entry in the accounts receivable subsidiary ledger in figure 4.7 which contains “CR49” in the “Ref.” column. This represents a cash payment of the accounts receivable and was posted from the 49th page of the cash receipts journal (not shown in the example).
Without using a sales journal and subsidiary ledger, there would be four entries to the general ledger, one for each sales transaction. There also would be eight postings to the general ledger, four to the accounts receivable account and four to the sales account. Using a sales journal and subsidiary ledger, there would still be four entries in the sales journal (see figure 4.6), but the posting would be reduced. There would still be four posts to the subsidiary accounts receivable ledger (see figure 4.7), but there would only be two posts to the general ledger, one for the total sales and one for total accounts receivable (see figure 4.8).
If you had 1,000 credit sales a day, this would cut the posting from 2,000 to 1,002, which is a considerable savings, especially for a manual system. There would be the additional bonus of not having the general journal cluttered with many identical sales transactions which would make it difficult to find any other transaction in the general journal.
When a subsidiary ledger is used, there is a control account in the general ledger that ties the two ledgers. In our example, the account “Accounts receivable control” (see figure 4.7) in the general ledger should always have a balance equal to the total of all the individual accounts in the accounts receivable subsidiary ledger. Whenever the word control appears at the end of an account name in the general ledger, that means there is a subsidiary ledger with account balances that total to that account.
A purchases journal and an accounts payable subsidiary ledger are used in an analogous manner. As mentioned, many organizations also use a cash receipts and cash disbursements journal as well as subsidiary ledgers for cost accounting (finished goods, factory overhead, and the like).
Computerized System with Interfaces
Even though there are conceptual differences between manual and computerized systems, interfaces among the various accounting systems are still beneficial for the same reasons. Even for computerized accounting systems, there is a great amount of manual labor savings when data is input only once in one accounting system and then transferred to another, rather than inputting the same data again. Furthermore, there is still the advantage of stronger control, when the various accounting systems have strong interfaces.
To illustrate conceptually how computerized accounting systems interface, we will use the sales/accounts receivable example from the previous module. One of the main goals of an accounts receivable system is to print an individual statement for each customer that summarizes all of their transactions for the month. Keep in mind the different types of transactions that can occur. There could be a credit sale, cash receipt, bad debt write-off, or an adjustment (debit/credit memo) such as a sales return or allowance.
The original accounts receivable records would be created in the order entry/sales processing system, and the other records (cash receipts, sales returns, and the like) would be created in the accounts receivable/cash receipts accounting system. To print a monthly statement, a computer program would need access to all these records even though they are produced from different accounting systems. One obvious way around this requirement is the database or enterprise approach.
An example of a transaction file containing accounts receivable data for an integrated general ledger system appears in figure 4.9.
Figure 4.9
Accounts Receivable Transaction File
Date Source Rec Type A/R Account # Amount
19990701 D 1 2,480
19990702 1 D 3 4,020
19990709 1 D 2 2,245
19990716 1 D 1 1,175
19990729 1 D 2 6,500
19990718 2 C 3 4,020
19990731 3 C 1 500
Note the “Source” field. It is used like the “SJ” and “CR” under the “Ref.” column of the manual general ledger and subsidiary ledger of a manual system. These characters also could have been used in this field of the computerized system as well, but numbers as codes are easier to use in computer systems (especially for comparisons—one need not be concerned with cj versus CJ). In the example, the codes of 0, 1, 2, and 3 are used.
A “0” could signify a beginning balance (many accounts have no beginning balances and this record would not be necessary). A “1” could signify a sale which created the accounts receivable. A “2” could mean it was a cash receipt and was created from that system. A “3” could be a bad debt write-off. If the interface is well-defined between the systems that created the sales, cash receipts, bad debts, and adjustments records, a file like that shown in figure 4.9 could be built. This would make it simple to print statements and monitor customer account activity.
Module 5: Accounting Information Systems
Accounting Applications in General
As mentioned in module 1, all of the accounting applications have the same components. They consist of source documents (inputs), processing, stored data, outputs, controls, cycles, and interfaces (with other accounting applications). The documents referred to in this section are not necessarily paper; they may be electronic. The paper references are only to illustrate the flow. Although the controls described for each application can reduce risks, they can’t eliminate them.
In this module, we provide a description of each application, paying particular attention to the unique items of interest within the components for each application. These applications often are grouped differently, especially in textbooks. For example, many people would consider accounts receivable and cash receipts as separate applications. However, because many accounts receivable systems contain cash receipts as a component, we have grouped them together.
For most firms, all of these accounting applications are automated. For some very small firms, however, the applications of purchasing, receiving, shipping, personnel, and property may not be. In general, there is not as much of a requirement for these particular applications to be automated when compared to the other accounting applications. This section is divided more by accounting function than by individual applications.
Individual Accounting Applications
Some businesspeople, such as lawyers, accountants, and consultants, provide services instead of selling products, so they do not have inventory. Consequently, there is no inventory system to be concerned with. Retailers, such as supermarkets and discount drug stores, however, have large amounts of inventory. Manufacturers also have a large amount of inventory, but their inventory systems are further complicated by the fact that their inventory is in three different categories:
• raw materials
• work-in-process
• finished goods
Stores handles the raw materials inventory. See the section below on production/cost accounting for a more detailed discussion of the work-in-process and finished goods inventory.
A car manufacturer, such as General Motors, would have massive amounts of raw material, such as metal, plastic, cloth, and even screws, that must be purchased, stored, and used to manufacture cars. At any time, even at the end of a period, there are numerous cars in various states of completion. This type of inventory makes up the category work-in-process. In addition, there is a large inventory of finished goods that have not been shipped to the dealers yet.
Now that we have discussed some of the general characteristics of an inventory system, let’s move on to the individual components.
The source documents include a copy of the receiving report and the purchase order, so there are interfaces with receiving and purchasing. The major output of stores is a purchase requisition, although the requesting department sometimes prepares this form. Copies of the purchase requisition are sent to purchasing and accounts payable, which are additional interfaces.
An inventory system frequently involves a fair amount of complex processing. Some of the complexity relates more to production/cost accounting and will be further described later in that section. However, there is also a lot of processing involved in both costing inventory and reordering. With the inexpensive and widespread use of personal computers, perpetual inventory systems often are used with extensive calculations. Many firms use complicated mathematical modeling techniques, such as the economic order quantity, for determining when and how much inventory to order.
Many of today’s organizations use Just-in-Time (JIT) purchasing and production systems. Such systems are designed to reduce excess inventory stocking and the loss of orders from stockout situations. JIT will be discussed further in the production/cost accounting section of this module.
The major source document related to the purchasing application is the purchase requisition. This document, which begins the procurement process, is a request for goods. Because an authorizing signature is required, this document also provides control. From this document, purchasing prepares a purchase order.
Purchase orders—formal agreements to buy goods—are the major output of purchasing. Purchase orders are sent to vendors and also act as an interface with stores, receiving, and accounts payable. A copy of a purchase order is sent to stores (inventory) as an acknowledgement of the order. A copy of the purchase order is sent to receiving to alert them that soon they will be getting merchandise. (We will discuss this topic in more detail below.) A copy of the purchase order is also sent to accounts payable, because accounts payable has the responsibility of paying the vendor.
It is important to store purchase order information so that it can be retrieved in a number of different ways. This is true whether the information is in the form of hard copy records stored in file cabinet drawers (manual system) or electronic data stored on a computer (automated system). First, there must be a way of extracting only the open (still outstanding) purchase orders, so the firm can keep track of its obligations. This type of information is an example of a suspense file.
There also should be a capability to quickly access purchase orders by vendor name or by number. This type of access is necessary so that questions can be answered quickly when a vendor calls or when company personnel need information related to a specific vendor or purchase order. The key word here is quickly. For an automated application, you would want to have the capability of displaying all of a vendor’s (and just that vendor’s) purchase orders on a screen while talking to the vendor on the phone.
Without getting too technical, such access usually can be accomplished using index files. Relational databases provide the ability to select records from a file by a record field (the index), in this case, the vendor number. For a manual application, one can have a separate folder for each vendor containing their related purchase orders in numeric order.
The source documents relating to receiving include purchase orders and bills of lading. An important control is that the receiving copy of the purchase order should not have quantities on it. Why? Because it then forces the receiving department personnel to physically count the merchandise. Shipments delivered by common carrier should include a bill of lading, a document that lists the merchandise shipped by the vendor in satisfaction of the purchase order.
Authorized personnel in the receiving department compare the contents of each shipment to its corresponding purchase order to ensure that all of the quantities are in agreement. This verification is documented in the receiving report, which is the main output of this department. One copy goes to stores with the merchandise, another goes to purchasing, and one copy goes to accounts payable.
The interface with stores in the form of a receiving report copy takes on even more importance because it informs stores personnel of backorder situations and allows stores personnel to make other arrangements as necessary. The receiving report sent to purchasing informs that department of the goods’ arrival and when purchase orders are closed. The copy of the receiving report sent to accounts payable is another control over payment as described below in the section on accounts payable.
Accounts Payable/Cash Disbursements
The accounts payable/cash disbursements application is one of the most important of all the applications. Prompt payment of bills not only ensures a good reputation with suppliers, but also can save a lot of money by allowing a company to take advantage of trade discounts. A good system also can help immensely with cash budgeting and determining cash needs.
There are five major source documents:
• purchase requisitions
• purchase orders
• receiving reports
• vendor invoice
• adjustment forms
For each purchase, the first four documents are matched and comprise a voucher package for payment. Adjustments are debit and credit memos, such as purchase returns and allowances.
Vendor-related information needs to be stored. Information stored for each vendor would include name, address, phone number, and fax number. It also is important to store terms and discount-related information as well as identification numbers (for those vendors who will require issuance of a 1099). Obviously, information related to purchases, adjustments, and payments also must be stored.
There are many different outputs from this application, including vendor information, reports, checks, and 1099s. Vendor information output from accounts payable are in the form of a directory, vendor list, and mailing labels. The reports include vendor performance, open invoice/selected payments list, aged accounts payable/cash requirements, and a check register.
The open invoice/selected payments report lists invoice information by vendor with a subtotal of amount due for each vendor. Each line item of the report contains the vendor name, date of invoice, payment due date (for discount), purchase order number, invoice number, and amount. This report also could be used to choose invoices for payment. The same format could then be used to list only the invoices selected for payment, to input the choices into the application, and to print a payments list report using the same format.
An aged accounts payable/cash requirements report would separate the accounts payable by different periods, e.g., less than one month, from one month to two months, and so on. It is important to allow the user the flexibility in selecting the duration of each period, rather than have them hard-coded.
The greatest risks in accounts payable are:
• loss of purchase discounts
• liabilities recorded for merchandise never received
• incorrect amounts recorded as liabilities
• liabilities not recorded
• disbursing cash fraudulently
• disbursing the wrong amount of cash
• making duplicate payments
There are a lot of important controls to lessen these risks. Of course, there are the usual ones such as using prenumbered forms, restricting access (to checks and check signing equipment), and separation of duties (check preparation, check signing, and recording in the accounts).
One major control, one especially used by the government, is a voucher system. A voucher provides assurance that before a check is written, the supporting documentation in the form of the voucher package (mentioned earlier in this section) is reviewed. The purchase requisition, purchase order, and receiving report are matched to the vendor invoice. After the review, a voucher is prepared with an authorizing signature. An important related control is that the voucher package documents should be cancelled (or marked “paid”) so that an invoice is not paid twice. Another control is assigning the responsibility for mailing the checks with the same person who signs them.
The interfaces to other applications are many. They include the general ledger, inventory, production/cost accounting, purchasing, receiving, and sometimes, payroll (cash disbursements could process paychecks). These interfaces are either obvious or have already been discussed.
Payroll is one of an organization’s most complex accounting applications. Hardly any two organizations prepare payroll in the same manner. There are an incredible number of variations. Many companies even outsource their payroll to other companies.
Most organizations pay their employees every other week, but weekly, semi-monthly, and monthly are also viable alternatives. Even after choosing how often to pay the employees, there also is a monthly cycle for providing information to the general ledger. There is a quarterly cycle for reporting to the IRS and a yearly cycle for closing (as with other accounting applications) and also for printing and mailing W-2 forms to employees.
There also is an amazing array of possible deductions from an employee’s pay. There can be deductions for taxes, insurance, pre-tax expense accounts, investment/retirement, and many other items. Taxes that require withholding include federal, state, and local income taxes as well as FICA (social security). Insurance deductions include medical, life, disability, dental, and vision. Pre-tax expense accounts could be used for medical expenses or childcare. There are many possibilities for investment/retirement-related deductions, including pensions, IRAs, 401Ks, 403Bs, Simples, stock purchase plans, U.S. Savings Bonds, and employee stock ownership plans (ESOPs). Besides all of these deductions, there also could be deductions for charity donations, parking fees, union dues, employee loans, and court-ordered garnishments.
In addition to all of these deductions, there are different types of income as well. There are wages, bonuses, car allowances, moving reimbursements, educational benefits, group term life insurance, and personal use of a company car. Many of the deductions and categories of income also have to be specially indicated on a W-2 form when it is printed. So, as you can see, payroll can be a very complicated application.
One source document of a payroll application is a W-4 form. The form is filled out by employees and indicates the amount of exemptions they elect for calculating tax withholding. Another source document is the time card or time sheet.
The outputs of a payroll application consist of:
• paychecks
• quarterly information required by the IRS (941 forms)
• payroll register
• check register
• W-2s
• statistics
• labor distribution reports (in some circumstances)
A check register would merely consist of a listing of employee names and check amounts. Each line of a payroll register provides the details of earnings and deductions for each employee.
The outputs are further complicated by the requirement to provide payroll information to the federal government directly on magnetic tape. Furthermore, many employees choose to have their checks direct-deposited to their bank accounts, so there are some additional outputs.
Statistics, for example on absenteeism, average pay, vacation pay, and so on, are useful to management. For many manufacturing and even service firms, labor distribution could become a large part of payroll. For these situations, it is not enough to keep track of labor by the employee, but also by job, department, or contract. For example, a computer consulting company working on more than one contract, needs to keep records by contract for each employee’s hours. This recordkeeping is necessary so that each contract can be properly billed for the work performed. Many simple payroll applications (especially standalone ones) do not have this capability.
Because theft is a major concern, there are a lot of important controls in this area. The major risks include checks being issued to fictitious or terminated employees. However, there are other risks related to payroll. There could be fines and even prosecution, especially when federal government withholdings are not paid. There is also the risk that the company’s financial statements could be seriously flawed.
One of the major controls over payroll is the personnel department. Personnel, instead of payroll, has the responsibility for maintaining employee information, such as rate of pay and promotions. This is a classic example of separation of duties. Another example of separation of duties is the physical distribution of paychecks. The paychecks should be distributed by someone outside of payroll. Another very important control over payroll is internal auditing.
As a further control, many organizations use an imprest account for payroll. They have a separate checking account just for payroll, and after payroll is finished, the exact total of the all the employees’ net pay is moved to this account. This ensures that if someone changes the amount on a check, or a bogus check is cashed, the organization will immediately find out that there is a problem. Unfortunately, the way they find out is that paychecks bounce.
The major interfaces with other accounting applications include the general ledger, personnel, cash disbursements, and cost accounting. All of the payable totals related to the payroll application can be input to the general ledger, including not only the withholdings for third parties, such as union dues and insurance companies, but also the amounts withheld for payroll-related taxes. The expense totals can be input directly to the general ledger as well. As mentioned previously, there is an interface with personnel, as this application maintains payroll data. Often the payroll application uses the cash disbursements application to produce the checks. For a manufacturing firm, payroll provides input to the cost accounting application in the form of direct and indirect labor, so there is also an interface here.
Production/Cost Accounting
The primary source documents of the production/cost accounting application are sales orders and job time tickets. The sales orders originate in the sales department. Production is scheduled for each product based on the amount of sales and the inventory level.
Whether an automated or manual system is used, storing and printing massive quantities of data is a requirement. Production control originates the major output of this system, the production work order which authorizes work on a product. A copy of each production work order is kept on file in production control, and copies are sent to both cost accounting and the producing department.
Before production is authorized by the production work order, we must ensure that the proper resources are available. Each product should have a corresponding bill of materials and routing sheet. The bill of materials is a document that specifies all of the required material by part number and their quantities for a product. Similarly, the routing sheet (also called the operations list) specifies all of the labor and machines required and the order used to manufacture a product.
The materials requisition form authorizes stores to release to the production department the materials required by the bill of materials corresponding to a production order. The job time ticket records the labor used in production by specific jobs.
Most likely, the forms mentioned above would be stored as outputs of this application. Additional outputs from this application include department production schedules and cost accounting-related reports. Such reports would include price and usage variances for material, labor, and overhead.
Many companies use a Just-in-Time (JIT) production system. A JIT system produces each component of a product just before it is needed. For a JIT production system, many of the forms used by a traditional application are not necessary; this would include the bill of materials or the routing sheet. Instead, emphasis is placed on minimizing inventories and machine setup times.
Generally, JIT purchasing is implemented as a complement to JIT production. Goods are purchased so that delivery occurs just before the items are needed in production. In order for JIT production to work, strong relationships must be cultivated with suppliers.
There are many benefits of a JIT system. Stockpiling of inventory is less necessary, so less storage space is required, there is less insurance expense, and less risk of inventory becoming obsolete. Also there is less paperwork and more manufacturing cost savings. However, if a JIT system is not successful, it can be real disaster. A whole assembly can be stopped because one part is lacking.
Like all the accounting applications, there is an interface with the general ledger application. Cost accounting provides the cost of goods sold, work-in-process, and finished goods figures. This application also interfaces with the inventory/stores application through the materials requisition form. An interface with payroll would provide the labor costs for cost accounting.
The risks of adverse affects in production/cost accounting generally do not involve theft. Rather, the concerns here are errors, waste, inefficiencies, and management policy not being followed. The key remedy is to avoid both production of unauthorized products and incorrect computations. The source documents and outputs mentioned previously include:
• production work orders
• material requisitions
• bill of materials
• routing sheet
• time cards
• production schedules
These documents ensure authorization of work. Good quality control is also an important measure for avoiding waste and inefficiency.
Sales/Order Entry
The sales/order entry application can be a very complex one requiring access to various types of stored information, so there are a number of interfaces with other accounting applications. The credit department would generally have software to approve or reject orders based on credit criteria. Customer-related information, such as name and address, is necessary in order to print an invoice. The responsibility for maintaining this file would probably be in accounts receivable. Product information, such as description and price, are necessary to produce the line items of the invoice. This data would be most likely maintained by inventory personnel. Also a copy of the sales order produced here goes to shipping. So there are a lot of interfaces for this application in addition to the usual general ledger one.
Besides requiring customer and product information, this application also needs to store and access a lot of information relating to open orders, such as the customer number, purchase order (PO) number, PO date, invoice number, and invoice date. For each item purchased, the item number, quantity ordered, quantity shipped, and price needs to be stored as well. The source document for this application is a customer order, which in many cases, is a purchase order. The order-related information should be stored by customer number.
After orders are filled and enough time passes, many records of this order file can be deleted. Before deleting these records, some basic information can be saved in a history file so that sales-related reports could still be produced. For each item sold, it would only be necessary to store the customer number, item number, date sold, quantity, and amount; it also is necessary to store backordered information in a separate file for whenever an item is out of stock.
The stored backorder information is very useful. When an item becomes available, the backorder data could be accessed to obtain a list of customers who have backordered that item. The customers can then be contacted (either called or a letter automatically printed and sent) so if they still wish to buy the item, the information is already available in the backorder file.
There are some important data fields to consider related to all of the data storage requirements. For example, in the customer file, there may be a requirement to have more than one address. Companies often require that bills be sent to a different address from the one where the product is shipped. In fact, many large companies have locations in different areas of the country that may buy a company’s products, but one address (the home office) for billing.
Each one of the shipping locations probably should be a record in the customer file, but on sales reports by customer, it may be desirable to have all locations roll up to a subtotal. One way to handle this would be to have a consolidation code field in this file that is blank for individual companies but that contains a unique code for all branches of the same company, so subtotals could be provided.
Several other important, but unobvious fields should be included in customer records for order processing. One is a prepayment indicator. An indicator (or flag) field could contain either a blank or an X (or perhaps a Y for yes or a N for no). Prepayment indicators would be helpful for certain customers who owe the company a lot of money and are past due; we might want to avoid extending any more credit, and would only take additional orders if a check accompanies the order.
A similar indicator would be for sales tax. Some customers, such as state agencies and schools, are not required to pay sales tax. Before printing an invoice, this field could be checked to see whether or not to calculate and add the sales tax.
There is no cash handling for this application, so theft is not a great concern. The biggest risks include orders not invoiced, orders not filled properly, and backorders forgotten. There is a large risk here of having dissatisfied customers and lost business. One important control for this application is to ensure that all sales transactions are recorded in the accounts, so postings of invoices should be traced to the general ledger.
For order entry applications, real-time processing should be used with care. Even though the inventory file might show there are two items in stock, it does not necessarily mean there really are two items in stock. Inventory could have been stolen or damaged and the system not updated. For this reason, it is unwise to print the invoices, reduce the stock on the computer, and record a sale in real time until somebody actually gets the items and fills the order. It is nearly impossible to undo a sale once it has been processed. Certainly this cannot be accomplished through normal processing. You don’t want to have sales of minus units. Also you would need to create a backorder record somehow.
It is better to have the appearance (to the user) of real-time processing, but store sales data temporarily until orders could be filled for certain. Then, after everything is confirmed, a sales authorization process could be run to actually adjust the file quantities and store order and backorder data records. For the most part, all one would need to accomplish this is to store order data temporarily and have one extra data field in the inventory file for each inventory item (record).
Instead of using just a field with the current quantity on hand, you also could have a field for quantity allocated. As each item is ordered, this field would be increased instead of deducting from the quantity on hand field. This data field and method of counting could be invisible to the user, as the program could always net them and make sure there really are items on hand. Once all the orders are authorized (there is enough inventory physically on hand), all of the temporary orders could then be made permanent (actually added to the files) and the quantity allocated subtracted from the quantity on hand. This amount could then be stored in the quantity on hand field and the quantity allocated could be reset to zero.
The outputs from this application include:
• invoice
• sales order
• sales journal
• list of products backordered (by customer for each one)
• sales by product (within customers)
• sales by customers (within product)
There is also a pick list which is a special copy of the invoice to assist personnel in filling an order.
The only source document that is sent to shipping is a copy of the sales order. The major outputs would be a packing slip, a shipping advice, a bill of lading, and some simple reports. A packing slip often is just a special copy of the invoice simply listing the item names and quantities without prices. This document is enclosed in the shipment. A shipping advice is sent to billing to inform them the goods have been sent. This usually is just a copy of the sales order and matching bill of lading. A bill of lading is usually prepared by shipping to be given to the carrier (generally, a trucking company).
Generally, the shipping function is not automated, as it is fairly simple without even a need to store much data. The only interfaces would be with the billing function of accounts receivable through the billing advice and the sales/order entry application through the sales order.
Although this application does not involve cash, there is still a great risk of theft. This risk is especially prevalent when dealing with small, valuable products in great demand. Security and access restrictions both are very important control concerns. Checking to ensure that the sales order arrangements are followed, that everything that leaves the area has been authorized, and that the appropriate documentation is prepared are additional controls.
Accounts Receivable/Cash Receipts
An account receivable is created by a sale, but it can be removed from the books in various ways. Normally, it is removed by the collection of cash. It also can be removed (or at least partially removed) by the return of goods sold or by the write-off of bad debts. The source documents for this application relate to the different events. They include:
• sales order
• sales return advice
• write-off advice
• checks from customers
As usual, there is an interface with the general ledger, often through the accounts receivable control account (when an accounts receivable subsidiary ledger is used as described in module 4). Cash receipts provides another interface to the general ledger. Sales/order entry provides the sales orders, so there is an interface with this application as well. There is an interface with receiving as they provide the sales return advices. The treasurer’s department as a control (separation of duties) authorizes the write-off of bad debts, so there is also an interface here. Accounts receivable maintains the customer files, which the order entry application also accesses, so this is another interface.
One of the most important outputs of this application is the customer bills or statements. Another important output is the aged accounts receivables. This report is much like the aged accounts payable report discussed earlier in this module. Again, it is a benefit to have flexibility in the aging categories. As a control device, it is essential to have a log of all checks received.
Because this application processes a lot of checks, it is crucial to have tight control. As with most accounting applications, separation of duties is critical. Opening the mail, recording the cash receipts, making deposits at the bank, and authorizing account write-offs should each be handled by a different employee.
Another control in the accounts receivable application is the authorization of credit. As a separation of duties, credit authorization should be performed elsewhere (treasurer). Cash receipts should be processed and bank deposits made promptly.
A common control in cash receipts is the use of a lockbox where checks go directly to a bank and are processed there. This device not only avoids theft by employees, but also provides more interest income, as there is less of a delay in depositing the cash received. In a large, check-processing, cash receipts application (such as magazine subscriptions), it is beneficial to have a program that can allow for multiple workstations to input check data concurrently. This would, again, save time overall in depositing the cash and earning interest.
The personnel application can be very large and quite complicated with many functions. Besides maintaining employee records, personnel’s functions may include recruiting, benefits administration, government reporting, training, and safety. As a further complication, many firms provide their employees with the capability of changing their benefits and withholdings by touch-tone and voice-activated systems.
Benefits administration can be a major responsibility of personnel. Most companies provide a wide variety of insurance options including health, disability, dental, and life. Most organizations also provide a wide range of savings and post-retirement benefits, including employee stock ownership programs (ESOPs), 401Ks, company stock purchase plans, and pensions.
One interesting thing about personnel is that even if the application is automated and employee data is stored on the computer, there is still a need for physical files containing the source documents for each employee, including their resumes, applications, and personnel actions, reviews, commendation letters, disciplinary actions, and W-4s.
A lot of the data that would be stored for each employee is rather obvious and includes name, address, home phone number, department, supervisor, emergency contact, phone extension, and room number. Additional information that may not be so obvious includes date of hire, date of last review, date of last raise, raise percent, and salary. For many firms, especially those that bid on contracts, it also is helpful to have data relating to employees’ skills, experience, education, publications, and awards.
The only interfaces with other accounting applications is providing employee information for payroll, as mentioned previously under the payroll application.
An important control for a computerized application is to have password-controlled, authorized access to confidential employee information. There also should be an audit trail for all access to this file. Physical file access also should be controlled. This information should be kept locked at all times. Requests to hire new employees should be made by authorized personnel on a requisition form provided for that purpose.
The output requirements for a personnel application are fairly minimal compared to other accounting applications. Besides the need for employee phone listings and mailing labels, there are some reports required. The reports would include statistics on employee turnover, years of service, and the like. A monthly list of those employees who should be scheduled for review is beneficial.
The property accounting application keeps track of an organization’s fixed assets and investments. This generally is not a very complicated application and is usually automated for calculating depreciation. Records of cost, purchase date, and accumulated depreciation (for both books and tax purposes) should be kept for each fixed asset. In addition, the physical location and maintenance data also should be kept. This information is essential for preparing financial statements, capital budgeting, and insurance.
Similar records should be kept for investments. For each investment, the cost, certificate number (for the few that are certificated), and date of purchase should be kept. Information related to dividends or interest received from the investments also should be kept. Investments must be marked-to-market for accounting and disclosure purposes and often are valued electronically through feeds from outside sources.
The only source document for fixed assets is the invoice received upon purchase. Similarly, the source document for investments is the brokerage slip relating to their purchase. The only interface is the general ledger application for both the depreciation of fixed assets and gain or loss calculations for fixed assets and investments.
Safeguarding fixed assets and investments is critical because they are valuable and, in some cases, can be easily resold. Because of this, controls are crucial. All acquisitions or sales of property must be authorized and approved according to management policy. All of the fixed assets (except buildings and land) should have a number stamped right on them for ease of identification.
As mentioned previously, maintenance records should be kept and updated for equipment. A distinction should be made between repairs and improvements, because repairs are expensed and improvement costs are entered on the books as assets (capitalized) and depreciated.

Module 6: The Future
New Trends and Emerging Technologies in AIS
Today, there are many new trends and emerging technologies within the AIS (automated information systems) field. As technology continues to advance, business professionals of all types must become comfortable operating in a world of constant and unpredictable change.
Nothing is truer today in business than the fact that successful organizations have one key attribute in common—their ability to adapt to continuous change. Businesses that are trying to deliver products and services in the Information Age while relying on older, more primitive methods of supporting the business will, in all likelihood, fail.
There are different types of technological change that organizations can go through. Some experts provide a breakdown similar to the following :
• Development change is based on process improvement of existing systems.
• Transitional change is focused on replacing an existing system with a proven new process.
• Transformational change is more radical and deals with replacement of the old with an unproven practice.
Deciding when to go through a change process is often a difficult decision for organizations to make. Change can occur when operations are going well, when results are mixed, or when there is state of crisis. Regardless of the type of change or when it is undertaken, the process must be managed effectively so that the organization shares a common vision with all its stakeholder groups. An organization’s management, employees, and change agents—all are significant components to be considered in the change management process.
Business managers seek to continually champion ventures while effectively measuring the inherent risks against potential rewards. Managers frequently look to information technology as one of the areas that can assist them in achieving their goals.
The Role of IT in Solving Business Problems
Business solutions involve five key components:
1. business processes and events
2. business strategy
3. organizational structure
4. individual stewardship responsibilities
5. IT architecture and measurements
It is also critical that the solution be closely aligned with organizational structure. In addition, the solution must be readily adaptable to changes encountered by the organization.
IT Application Architecture
IT application architecture seeks to help management record, maintain, and report business events. In contrast, a business information warehouse allows management to store and retrieve such information on an as-needed basis. In fact, different views can be obtained by different functions in the enterprise such as production, finance, marketing, and senior/executive management. For example, one area of the company may want a view of payroll data by department, whereas another may want a view of the same data by employee. Management needs to authorize the views on a need-to-know basis.
Likewise, different stakeholders in the organization have different needs for information. The level of budget information that would be needed by a divisional manager would be different from the level needed by the shift supervisor, such as hourly wage data. A supporting area that can greatly influence business processes is the organization’s structure.
Organizational Structure for Business Processes
Organizations are frequently organized by business process. Historically, the organization type has governed how applications are developed. This logic, however, is one of the pitfalls of traditional IT systems development.
For instance, if one department thinks solely about its operations with a silo or stovepipe approach, that department often will loose sight of how its function relates to the overall business and its underlying goals and objectives. Imagine, if you will, how the engineering department at a large car manufacturer would do its job if it could not relate to the manufacturing plant personnel or even to external customers. During the development of any business solution, it is important to ensure that performance measurements can be assigned and tracked against key business processes.
Future Developments
What lies ahead for accounting, IT, and business solutions? Providing useful information to decisionmakers and helping organizations identify and control risks can be considered the two primary objectives of business. IS (information systems) professionals can assist organizations by providing integration and structure. Accountants often are faced with working in large, cross-functional teams. For example, when conducting a financial statement audit of a large governmental agency, you might need to audit the control environment in the payroll department and report the results of your work to a team of government administrators and accounting managers. At the same time, you might be working with different members of your accounting firm.
Although, this can be a challenge for new personnel, some people can master this situation and make it into an opportunity to share knowledge, gain useful information, and develop interpersonal skills. Various fields might suggest different benefits to their organizations, but for most accounting professionals, combining these skill sets will allow them to better assist their clients and companies.
Recently, the AICPA drafted five top competencies for accountants:
1. Communication Skills—These include oral, written, and interpersonal skills. For example, CPAs are often called upon to give presentations to audit committees and to write proposals for prospective new clients.
• Strategic and Critical Thinking Skills—Some of the specific elements described by the AICPA include: articulating the principles of the strategic planning process; identifying strengths, weaknesses, opportunities, and threats associated with a specific scenario, case, or business activity; identifying and gathering data from a wide variety of sources to provide insightful interpretations for decisionmaking; transferring knowledge from one situation to another; analyzing and preparing strategic information (e.g., market share, customer satisfaction, competitor actions, product innovation, and so on). In this regard, a CPA can analyze a business’es operations and bring valuable recommendations to management’s attention.
• Focus on the Client and Market—This focus includes seeking opportunities for client service and new offerings to potential clients. Specific components of this competency include recognizing and understanding employer/client protocol and expectations and building good working relationships. In some audit environments, clients can be somewhat hostile towards the auditors, who, in turn, should be sensitive to the standard operating practices and chain of command in the organization. Another component is identifying factors that motivate internal and external customers to enter into relationships or continue doing business with an organization.
• Interpretation of Converging Information—Advancements in technology have yielded an array of information sources. CPAs should strive to understand and interpret information for their own as well as their clients’ benefit.
• Being “Technologically Adept”—Technology is yielding constant change which requires accountants to continually learn new software and hardware to do their jobs more effectively. Specific elements described by the AICPA include: recognizing commonly used information architectures, recognizing business opportunities and risks associated with electronic commerce, mining of electronic data sources for business and industry information, and using technology to develop and present strategic information.
The top five core services offered by accounting firms per the AICPA are:
1. Assurance—primarily financial statement audits, but also can include performance measurement and information technology attestation.
• Management Consulting—various types of consulting services (e.g., taxation, cost management, and strategic planning).
• Financial Planning—for both businesses and individuals by helping them achieve their financial goals whether it be business growth, succession planning, or retirement.
• International Consulting—large-scale projects for the multinational corporation. For instance, a corporation based in the United States hires a CPA firm to assist with a reorganization of its accounting functions in Europe, Asia-Pacific, and South America by reviewing the local business operations in these different geographic areas, and ultimately, making recommendations back to the corporation’s board of directors regarding the possible alternatives for consolidation and streamlining.
• Technology Consulting—usually dealing with system integration, systems analysis, information management, and computer security.
The functions of IT components incorporate inputs, memory, processing, and outputs. All of these elements are used together to ensure efficient, effective, accurate, and secure data processing.
There is a significant need for accounting professionals to understand the key terminologies and concepts in information technology hardware. Some of the main hardware concepts in a computer information system include:
• output devices (printers, monitors)
• input devices (keyboard, mouse)
• storage devices (disk drive, floppy diskette, CD-ROM)
• CPU (processor)
The four goals of optimal IT are: seamless connectivity, intelligent software, instantaneous processing, and infinite storage.
Software applications are another important area for accounting. Accountants need to be familiar with software tools so that they can take advantage of new technologies as they develop and attempt to capitalize on these items for competitive advantage. In essence, software allows a company to fully use its other information technologies.
In daily business operations, organizations can use software to improve workflows, provide real-time information to decisionmakers, identify operational risks, and ultimately, achieve business objectives and overall strategy by providing a detailed set of instructions to the computer’s hardware in order to control processing.
There are six main software concepts that all accountants should be familiar with. These include:
1. Programming Languages—first generation (machine language in binary code), second generation (assembly language), third generation (procedural language), fourth generation (integrated development tools), and fifth generation (embedded intelligent software).
2. Translating Computer Languages—done through the use of a compiler, assembler, or interpreter.
3. Operating Software—used to manage basic computer operations.
4. Communications Software—used to transmit data between two systems (PC to PC, PC to LAN, PC to mainframe, and so on).
5. Application Software—used to process, record, store, update, and analyze various types of data including the use of Graphical User Interface (GUI).
• Personal Productivity Tools—Web browsers, spreadsheets, word processing packages, and Personal Digital Assistants (PDAs).
One of the major new approaches to computer software is object-oriented technology whereby a problem is examined in the context of semantic (real-world) modelling. By grouping objects in classes and subclasses, various models can be developed and put through different types of analysis. For instance, fuzzy logic is a technique that can assist forensic accountants and auditors in fraud detection. This technology uses a predictive set of measurements against a database to help predict which transactions might be fraudulent. Predictive measurements, which allow users to anticipate what should exist in a particular set of data, can help in the review of possible suspicious activities.
In the future, we can expect to see increased use of rapid application development, enterprise data storage where one technological platform can be used to control data files, maximizing client technologies, greater use of data forms in HTML or XML, and Web technology.
The Need for IT Security in Electronic Commerce
Without solid security measures, organizations run the risk of losing data and other organizational resources, that is, they are liable to be vulnerable to malicious parties. In addition, companies who are victimized in this way may face reduced customer confidence, lost sales, and bad publicity. Therefore, they must proactively think about the underlying factors of IT security in developing electronic commerce solutions.
To capitalize on proprietary data, businesses can exploit the customer information they have gathered. For instance, a supermarket chain can store its customers’ buying patterns in a database. This information can then be extracted for use by internal personnel or even sold to outside organizations.
Information technology security focuses on striking a balance between the ease of use by end users and the need for control in an organization. The key factors used to make an analysis include:
• Availability—Are resources available to users at the time and frequency required?
• Confidentiality—Do only authorized individuals have access to select types of data?
• Integrity—Is the data reliable? Has it been altered or modified in any way?
• Non-Repudiation—The transmission of the message can’t be denied once it has been sent.
Some of the leading technologies in this regard are digital signatures and certificate authorities. For example, if an organization cannot verify the identity of its customers, how can it be sure that orders being placed are bona fide? One specific way of making sure is to use a digital signature where electronic information about the sending party is validated by a certificate authority. Certificate authority can be used to manage the user-authentication process.
The E-Commerce Paradigm (Mode of Business)
E-commerce (also called electronic commerce or EC) uses information technology (most commonly, the Internet) to transmit trading information, which can include purchase orders, sales invoices, and shipping documents. Today, the highest volume of transactions relates to one business organization doing business with another business. An example would be Ford Motor Company ordering supplies from vendors over the Internet. However, consumer e-commerce, where individuals buy and sell products over the Internet, is growing at a very high rate. A sample transaction would be a university student ordering textbooks from Missouri Books instead of physically going to a university bookstore on a campus to make the same type of purchase.
Today, e-commerce is the business model of choice for many consumers and businesses. E-commerce is much more than Internet shopping, which is becoming so familiar today. Electronic commerce includes business processes that are enabled by the Internet and the World Wide Web (WWW or “the Web”) technologies. Broadly, electronic commerce includes using technology to:
• automate communication and business processes
• create closer relationships with partners, suppliers, and customers
• deliver information, goods, and services more efficiently and effectively
Thus, e-commerce is really a mindset of doing business by applying technology wherever appropriate within the business organization, its processes, and relationships. E-businesses use electronic information to improve performance and create value in terms of creating new business relationships between business partners (customers, manufacturers, and service providers).
Common technologies used by EC-enabled companies include electronic data interchange (EDI) and electronic funds transfers (EFTs). EC-enabled companies may continue to interact with customers in traditional ways, but can now use technology to enhance their customer relationships, for example, through Web storefronts and easy-to-use e-payments. Likewise, investor relations also may be enhanced by electronic means of communicating financial and other business information.
The major elements within an EC-enabled company are not new; they are customers, suppliers, creditors, and investors. Rather, it is the interfaces among these elements that have changed. Electronic technologies, such as Internet hardware and software, enable closer relationships, better communications, and the ability to improve performance. By electronically transmitting data, human intervention and error can be greatly reduced. Therefore, costs decrease, service improves, and competition is sustained. In reality, a company will likely gain many if not all of these advantages, providing it can successfully implement enterprise-wide e-commerce solutions.
E-Commerce and the Accounting Profession
This new business environment also has created a marketplace for the accounting profession to offer new assurance services. One particular service that provides an assessment of the information technology controls in place over a company’s Web services has been trademarked by the AICPA as WebTrust ™. Once the CPA gains comfort on a specified set of internal controls in place within the organization, a WebTrust™ symbol can be placed on the organization’s home page. This symbol provides customers and business partners with a level of comfort and, it is hoped, an increased level of confidence about transactions performed online. The effectiveness of the related internal controls needs to be re-verified by the assurance provider every three months for the symbol to remain in place. Otherwise, the CPA firm is required to remove it. At this time, only a small number of organizations have received this “Good Housekeeping”-type symbol of approval. If this assurance offering interests you, more information is available at the CPA Web Trust site.
Although the roll-out of this assurance offering has moved the accounting profession ahead, one must realize that accountants are not the only professionals attempting to solicit clients with these types of service offerings. Similar services are offered by the Better Business Bureau and by computer security organizations.
Today’s workforce requires increased flexibility; work environments are changing as more and more employees participate in telecommuting. This circumstance allows employees who are not in a traditional office to stay in touch with co-workers and be productive while working at home or in another location. To accomplish this, they use telecommunication links, Internet Service Providers (ISPs) to e-mail, and transfer data over a Virtual Private Network (VPN). This arrangement enables a company to allow employees to use an ISP and the whole Internet to transmit data over a public network instead of a high-cost private network. Should a company wish to take advantage of this low-cost method of communication, however, an IT security analysis should be performed because the Internet remains inherently insecure.
Enterprise Resource Planning
Since the early 1970s, companies traditionally have selected computer software based on unique functional and technical criteria for the application involved. For example, within one company, an accounting department would select its own financial reporting application and the human resources department would choose its own fringe benefits system. This process, commonly calledbest of breed, is considered a narrow view by today’s standards. For years, however, it was the normal operating procedure because the marketplace did not offer a suite of products that naturally integrated together.
This approach to software acquisition placed a huge burden on the information systems department. Ongoing support, end-user customizations, and interfaces to allow these different pieces of software to talk to each other were costly and time-consuming.
Over the past ten years, a number of highly integrated Enterprise Resource Planning (ERP) computer systems have come to market. Today, SAP R/3, PeopleSoft, BAAN, and Oracle all offer suites of applications that provide for all key business functions across the business enterprise. Their rise in popularity has come about from the following three factors:
• The Year 2000 Problem—Some companies elected to replace their software rather than repair/remedy their non-compliant software.
• The European Monetary Union—The advent of this union gave rise to a single currency in Europe, so that businesses and individuals will have one common medium of exchange to use when doing business with European-based enterprises.
• The Growth in Merger and Acquisition Activity—In order to grow into multinational corporations, some companies have engaged in a variety of merger and acquisition activities.
ERP Systems: Key Functions of New Applications
Because ERP systems seek to link all key business functions together, a number of modules work together to form one integrated program. For example, in SAP R/3, the10 key modules incorporate the following functions:
1. Human Resources (HR): personnel master data, time management, human resources planning, payroll accounting, international accounting, and travel expense accounting.
• Financial Accounting (FI): traditional accounting information (e.g., general ledger, accounts, payable, and so on).
• Controlling (CO): is central to the overall SAP functionality and includes cost accounting, currencies, number ranges, interfaces to other SAP modules, and information about employees and authorizations.
• Fixed Asset Management (AM): includes detail asset information, asset presentation sample master records, various sets of values, and integration.
• Project System (PS): defines and describes tasks with the following characteristics: project complexity (highly complex, unique, high-risk); agreed-upon precise goals, time, and cost limits; and capacity-intensive projects, quality requirements, projects that are strategically important to the company, and structured project activities.
• Office and Communication (OC): provides e-mail service, file-sharing, hypertext searching, forms management, and time planning.
• Plant Maintenance (PM): incorporates maintenance strategies, plans, and orders.
• Quality Management (QM): includes capabilities for inspection planning, internal quality audits, quality system documentation, statistical sampling, test equipment, locating material, and quality costing.
• Production Planning (PP): key functions are work centers, bills of materials, and routings.
• Materials Management (MM): up-to-date information on materials inventories, consumption patterns, forecast requirements, planned receipts, and most favorable supply relationships.
• Sales Distribution (SD): sales master data, sales order processing, shipping, billing, and communication control.
• Basis Component (BC): provides no direct functionality to the user, but is required for the system.
New enhancements are incorporated through the roll-out of additional modules and vendor-supplied upgrades (i.e., new versions of the software).
Many organizations have struggled to successfully implement such large and complex systems. The decision as to which ERP system is right for a given organization is a critical one. Selecting the wrong system can seriously affect an organization’s administrative and financial efficiency and effectiveness for years.
Other ERP Systems: Oracle, PeopleSoft, and BAAN
SAP is not the only ERP solution provider. Others that have successfully gained market share and are presently competing head-on with SAP.
SAP Web site: and
Oracle Web site:
PeopleSoft Web site:
BAAN Web site:


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