Rift Valley University, collage of business and economics department of accounting and finance

An handout (short note) for the course accounting information system.

Chapter One
Accounting Information System: Introduction

1.1 definitions of terms

A system is a set of two or more interrelated components to achieve a goal. Systems are almost
always composed of smaller subsystems, each performing specific function important to and
supportive of the larger system for which it is a part.

An accounting information system is a collection of resources such as people and equipment

designed to transform financial data into information. The information is communicated to a
wide variety of decision makers. AISs perform the transformation whether they are manual or
computerized.

Organizations depend on information system in order to stay competitive. Information is just as

resource as plant, equipment and any other assets. Productivity, which is crucial to stay
competitive, can be increased through better information systems. Accounting as an information
system identifies, collects, processes and communicates economic information about an entity to
a wide variety of people.

The accounting profession has been criticized for focusing too narrowly on the role of
accounting information which is quantitative in its nature; now a day, many scholars suggest that
accountancy should go beyond debit, credit, double entry accounting and GAAP so as to provide
useful information for decision making and help organizations to identify and control business
risks.

Modern managers need both financial and nonfinancial information in a format and at a level of
aggregation that traditionally GAAP based accounting systems fail to provide. To overcome this
failure many organizations come up with multiple information systems those are functionally
disconnected. Often data entered in one system need to be re-entered in the others. Therefore,
AIS can support multiple users’ views in a single information system which potentially can
overcome the problem.

Data and information

Data refers to any and all of the facts that are collected, stored, and processed by an information
system. Three kinds of data need to be collected for an entity. These are facts about the events
itself, the resource affected by the event, and the agents participated in that event.

 Information is different from data, once data have been collected; the AIS will transform
the facts in to information through process so that they will be used to make decisions.
Thus information is data that have been organized and processed to provide meaning hence

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Rift Valley University, collage of business and economics department of accounting and finance
An handout (short note) for the course accounting information system.

make them meaningful (helpful) for decision to be made. Usually, more information and
better information translates into better decisions. However, when you get more
information than you can effectively assimilate, you suffer from information overload.
When you’ve reached the overload point, the quality of decisions declines while the costs
of producing the information increases.
Data (raw facts; which are meaningless before process) →Process (series of activities) →Information it is meaningful (useful
for decision making). [Data → Process→ Information]

1.2 Component of AIS

AIS consists of five component:

2 The people who operate the system and perform various functions.
3 The procedures both manual and automated involved in collecting, processing, and storing
data about organization’s activities.
4 The data about organization’s transactions.
5 The software used to process the organization’s data.
6 The information technology infrastructure including computers, peripheral devices, and
network communication devices.

The five components together enable AIS to fulfill three important functions in any organization.

1. Collecting and storing data

2. Transferring data into information (processing)
3. Providing adequate controls to safeguard the organizations assets including its data and
information, to ensure that the assets (resources) are available when needed and are accurate and reliable.

1.3. Information Systems

The term information system suggests the use of computer technology in an organization to
provide information to users. A computer based information system is a collection of
computer hardware and software designed to transform data into useful information. There
are several types of computer based information systems which includes the following:

1. Data processing – electronic data processing (EDP):- is the use of computer technology
to perform an organization’s transaction oriented data processing. EDP is a fundamental
accounting information system application in every organization. As computer
technology has become commonplace, the term data processing has come to have the
same meaning as EDP.
2. Management Information System (MIS): describes the use of computer technology to
provide decision oriented information to managers. MIS provides a wide variety of
information beyond that which is associated with data processing in organizations. It
recognizes that managers within organizations use and require information in decision-

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Rift Valley University, collage of business and economics department of accounting and finance
An handout (short note) for the course accounting information system.

making, and that computer based information systems can assist in providing information
to managers.

Functional MIS Systems: many organizations apply the MIS concept to specific functional
areas within the organization. This indicates the tailoring of MIS concept to the development
of specific information systems to support decision-making in a particular well-defined
organization subunit:

a. Marketing Information System: is MIS that provide information to be used by the

marketing function. Much of the information is obtained from the organization’s
accounting information system. Example sales summaries and cost information. Other
information must be gathered from the organization’s environment. Examples of
environmental information would include customers’ preference data, customers’
profiles, and information on competitor’s products.
b. Manufacturing Information System: is MIS that provide information to be used by the
manufacturing function. Much of the information is obtained from the organization’s
accounting information system. Example inventory summaries and cost information.
Other information must be gathered from the organization’s environment. . Examples of
environmental information would include raw material data, potential new vendor
profiles, and information on new manufacturing techniques.
c. Human Resources Information System: : is MIS that provide information to be used by
the human resource (personnel) function. Much of the information is obtained from the
organization’s accounting information system. Example wage and payroll tax
summaries and benefit information. Other information must be gathered from the
organization’s environment. Examples of environmental information would include
government regulation data and general labor market information.
d. Financial Information System: is MIS that provide information to be used by the finance
function. Much of the information is obtained from the organization’s accounting
information system. Example cash flow summaries and payment information. Other
information must be gathered from the organization’s environment. . Examples of
environmental information would include interest rate data, lender profiles and
information on credit markets.
3. Decision Support System (DSS): provide data processed into a decision making format
for the end user. A DSS requires the use of decision models and specialized databases,
and differs significantly from a DP system. A DSS is designed for specific types of
decisions for specific users. It is directed at serving specific non-routine information
requests by managers. A familiar example is the use of spreadsheet software to perform
what if analysis of operating or budgeted data such as sales forecasts by marketing
personnel.
4. Expert System (ES): are knowledge based information systems that the knowledge about
specific application area to act as an expert consultant to end-users. Like DSS an ES is

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Rift Valley University, collage of business and economics department of accounting and finance
An handout (short note) for the course accounting information system.

also requires the development of a knowledge base-the special knowledge that an expert
possesses in a decision area and an inference engine- the process by which expert makes
decision. An ES attempts to replicate the decision that would be made by an expert,
human decision maker in the same decision situation. As ES differ from DSS in that the
DSS assists the user in making a decision, whereas an ES makes the decision.
5. Executive Information Systems (EISs): are systems tailored to the strategic information
needs of top-level management. Much of the information used by top-level management
comes from sources other than an organization’s information systems. Examples are
meetings, memos, television, periodicals, and social activities. But some information
must be processed by the organizational information systems. An EIS provides top-level
management has identified as being critical to the organization’s success. Actual versus
projected market share for product groups and budget versus actual profit and loss data
for divisions might be key success factors for top-level executive.
6. Accounting Information systems: are computer-based systems designed to transform
accounting data into information. However, AIS is used broadly to include transaction
processing cycles, the use of information technology and the development of information
systems.

1.4 Why Study the AIS?

Effective AIS is essential to the organization’s long run success.

 It enables monitoring the events that occurs and how well an organization works.
 It also tracks the effect of various events on the resources that the organization
controls.
 Information about the agents who participate in the events is used to assign
responsibility for actions taken.

The AIS course fits into both the accounting and information system curricula. Study of AIS
fundamental to accounting because changes shall be incorporated in the accounting curricula. It
is recommended that accounting curricula should be designed to provide the following three
essential concepts.

 The use of information in decision making

 The nature , design, use and implementation of AISs
 Financial information reporting

The other accounting courses, such as financial or tax accounting, focus on how to provide
information. In contrast, the AIS course focuses on understanding how the accounting system
works i.e. how to collect data about the organization’s activities and transactions; how to
transform that data into information that management can use to run the organization; and how to
ensure the availability, reliability and accuracy of that information, Hence, it complements the
other accounting courses.

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Rift Valley University, collage of business and economics department of accounting and finance
An handout (short note) for the course accounting information system.

There are many other systems courses that cover the design and implementation of information
systems and which help develop specialized skills in such area as databases, expert systems, and
telecommunications. The AIS course differs from these other information systems courses in its
focus on accountability and control.

These issues are important because in most large organizations, the managers are not owners.
Instead, the owners have entrusted the management with assets (including data and information)
and hold them accountable for their proper use. Hence, the AIS course complements the other
systems course.

Three factors influence the design of AIS:

 Developments in information technology (IT)

 T
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Organizational Strategy g
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AIS za
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Factors which influence the design of AIS
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 T
he organizational culture

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Rift Valley University, collage of business and economics department of accounting and finance
An handout (short note) for the course accounting information system.

IT is profoundly changing the way that accounting and many other business activities are
performed. It is also essential to know the cost and benefit of new IT developments. This
requires developing basic understanding of business strategies and how IT can be used to
implement those strategies as well as how new developments in IT create an opportunity to
modify those strategies.

Moreover, because the AIS functions within an organization, it should be designed to reflect the
values of that organizational culture. The design of AIS also influences the organizational culture
by controlling the flow of information within the organization. For instance, AIS that makes
information easily accessible and widely available is likely to increase pressures for more
decentralized and autonomy.

The Role of the AIS in the Value Chain

The objective of most organization is to provide value to their customers. This requires
performing a number of different activities. These activities are conceptualized as forming a
value chain. An organization’s value chain consists of five primary activities that directly
provide value to its customers.

These are:

1. Inbound logistics: consists of receiving, storing, and distributing the materials that are inputs
used by the organization to create the services and products that it sells.
2. Operations: activities that transform inputs into final products and\or services.
3. Outbound logistics: are the activities involved in distributing finished products and\or
services to customers.
4. Marketing and sales: refers to the activities involved in helping customers to buy the
organization’s products and\or services.
5. Services: activities that provide post sale support to customers. Examples are repairs and
maintenance services.

Organizations also perform a number of other support activities that enables the five primary
activities to be performed efficiently and effectively. Those support activities can be grouped
into four categories:

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Rift Valley University, collage of business and economics department of accounting and finance
An handout (short note) for the course accounting information system.

1. Firm Infrastructure: refers to the accounting, finance, legal support, and general
administrative activities that are necessary for any organization to function. The AIS is
part of the firm infrastructure.
2. Human resources: activities that include recruiting, hiring, training and providing
employee benefits and compensation.
3. Technology: activities that improve a product or service. Examples include research and
development, improvements in information technology, website development, and
product design.
4. Purchasing: includes all the activities involving in procuring raw materials, supplies,
machinery and the buildings used to carry out the primary activities.

It shall be recalled that systems are often composed of subsystems. Thus, each step in an
organization’s value chain in itself a system consisting of a set of activities. For example, the
sales and marketing step includes such activities as market research, calling on customers, order
processing, and credit approval. In addition, an organization’s value chain is itself a part of a
large system. Organizations interact with suppliers, distributors, and customers.

1. Firm Infrastructure How Can AIS Add

Value to an
2. Human Resources Organization?
3. Technology The value chain
model shows that
4. Purchasing
the AIS is a
support activity.
Thus, AIS can add
value to the organization by providing accurate and timely information so that the five primary
value chain activities can be performed more effectively and efficiently. A well-designed AIS
can do this by:

1. Improving the quality and reducing the cost of products and services: an AIS for example
can monitor machinery so that operates are notified immediately when the process falls
outside acceptable quality limits. This helps not only maintain product quality but also
reduces the amount of wasted materials and the costs of having to rework anything.

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Rift Valley University, collage of business and economics department of accounting and finance
An handout (short note) for the course accounting information system.

2. Improving efficiency: a well designed AIS can help improve the efficiency of operations
by providing more timely information. For example, a just in time production approach
requires constant, accurate and up to date information about raw material inventories and
their costs.
3. Improved decision making: An AIS can improve decision making by providing accurate
information in a timely manner.
4. Sharing of knowledge: A well designed AIS can make it easier to share knowledge and
expertise, perhaps thereby improving operations and even providing a competitive
advantage.

Well designed AIS can also help an organization profit by improving efficiency and
effectiveness of its supply chain. For example, allowing customers directly to access the
company’s inventory and sales order entry systems can reduce the cost of sales and marketing
activities. Moreover, if such access reduces customer’s costs and time of ordering, both sales and
customer retention rate may increase.

1.5 Data and information

Data refers to any and all of the facts that are collected. Stored, and processed by an information
system. Three kinds of data need to be collected for an entity. These are facts about the events
itself, the resource affected by the event, and the agents participated in that event. Consider
selling process as an example. Data need to be collected about the sales event itself (such as the
date of sales, total amount etc), data about the resource being sold (identity of the goods and
services) and data about the agent who participated in the sales event (the identity of the
customer and salesperson). Once data have been collected, the AIS will transform the facts so
that they will be used to make decisions. Thus information is data that have been organized and
processed to provide meaning.

There are different models of decision making and problem solving process. All those models
depict that decision making is a complex, multistep activity.

 First the problem has to be identified

 Then the decision maker must select a method for solving the problem
 Next the decision maker must collect the data needed to execute the decision the
decision model and, interpret the output of the model evaluating the merits of
each alternative
 Finally, the decision maker chooses and executes the preferred solution.

The AIS can assistance in all phase of decision making. Different decision models and analytical
tools can be provided to users. Query languages can facilitate the gathering of relevant data upon
which to make the decision. Various tools such as graphical interfaces can help the decision
maker interpret the results of a decision model and evaluate and choose among alternative course
of action. Finally the AIS can provide feedback on the results of actions.

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Rift Valley University, collage of business and economics department of accounting and finance
An handout (short note) for the course accounting information system.

The degree of which AIS can support decision making depends, however, on the type of decision
being made. Decisions may be categorized either in terms of degree of structure or by their
scope.

1.6. Decision Structure and scope

Decision structure

Decision vary in terms of the degree they are structured. Decisions are classified in to three in
this regard.

 Structured decision: are repetitive, routine, and understood well enough that they can be
deleted to lower level employees in the organization. For example, the decision about
extending credit to established customers require only knowledge about the customer’s
credit limit and current balance. Structured decisions can often be automated.
 Semi structured decisions: are characterized by incomplete rules for making the decisions
and the need for subjective assessments and judgments to supplement formal data
analysis. Setting marketing budget for new product is a typical example. Although such
decision cannot be fully automated, they are often supported by computer based decision
aids.
 Unstructured decisions: are nonrecurring and nonroutine decisions. For example,
choosing the cover of a magazine, hiring senior management and selecting basic research
projects to be undertaken. No framework or model exists to solve such problems. Instead,
they require considerable judgment and intuition. Nevertheless, unstructured decisions
can be supported by computer based decision aids that facilitate gathering information
from diverse sources.

Decision scope

Decisions vary in terms of the scope of their effect. This will include:

 Operational control: Concerns the effective and efficient performance of specific tasks.
Decision relating to inventory management and extending credit are examples of operational
control activities.
 Management control: Concerns the effective and efficient resources for accomplishing
organizational objectives. Budgeting, developing human resource practices and deciding on
research projects and product improvements are examples of management control activities.
 Strategic planning: Concerns the establishing of organizational objectives and policies for
accomplishing those objectives. Setting financial and accounting policies, developing new
product lines, and acquiring new businesses are examples of strategic planning decisions.

There exists a correspondence between a manager’s level in an organization and his decision
making responsibilities.

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Rift Valley University, collage of business and economics department of accounting and finance
An handout (short note) for the course accounting information system.

 Top management: Unstructured and semi-structured decisions, involving strategic

decisions
 Middle managers: Deals with semi-structured decisions, involving management control.
 Lower level supervisors and employees, faces semi-structured or structured decisions
involving operational control.

Value of information for decision making

The information produced by well-designed AIS can improve decision making in several ways:

 First, it identifies situation requiring management action. For example, a cost report
with a large variance might stimulate management to investigate and if necessary take
corrective action.
 Second, by reducing uncertainty, accounting information provides a basis for
choosing among alternative actions. For example, accounting information is often used t
set prices and determine credit policies.
 Third, information about the result of previous decisions provide valuable feedback
that can be used to improve future decisions.

Nevertheless, although more information is often better, this is only true to a point. There are
limits to the amount of information that the human mind can effectively absorb and process.
Information overload occurs when those limits are passed. Information overload is costly
because decision making quality declines while the cost of providing that information is
increases. Thus, information overload reduce the value of information. Consequently,
information system designers must consider how advances in IT can help decision makers
more effectively filter and condense information thereby avoiding information overload.

Moreover, it is important to recognize that there are costs associated with producing
information. Those costs include the time and resources spent in collecting, processing, and
storing data as well as the time and resources used in distributing the resulting information to
decision makers. There are also many opportunities to invest in additional IT to improve the
overall performance of the AIS. Most organizations, however, do not have unlimited
resources to invest in improving their information systems. Therefore, another important
decision involving, identifying which potential AIS improvements are likely to yield the
greatest return. Making this decision wisely requires that accountants and information system
professionals.

1.7 AIS and corporate strategy:

Strategy and strategy positions

There are two basic strategies that company can follow:

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Rift Valley University, collage of business and economics department of accounting and finance
An handout (short note) for the course accounting information system.

1. A product differentiation strategy entails adding some features or services to a

product that are not provided by competitors. Doing so allow a company to charge a
premium price to its customers.
2. A low cost strategy entails striving to be the most efficient producer of a product or
service.

Sometimes companies can succeed in both producing a better product than competitors and in
doing at costs below its industry average. Usually, however, companies must choose between the
two basic strategies. If they concentrate on being the lowest cost producers, they will have to
forego some value added feature that might differentiate their product. If they focus on product
differentiation, they most likely will not have the lowest cost in the industry. Thus a business
strategy involves making choices.

The choice of a business strategy involves the selection of a specific strategic position they shall
adopt.

There are three strategic positions:

1. A variety based strategic position involves producing or providing a subset of the

industry’s products and/or services.
2. A needs based strategic position involves trying to serve most or all of the needs of a
particular group of customers. This entails first identifying a target market.
3. An access based strategic position involves serving a subset of customers who differ
from other customers in terms of factors such as geographic locations or size, which
creates different requirements for serving those customers.

The above strategic positions are not mutually exclusive and indeed often overlap. For example,
a company may adopt elements of all the three. Choosing a strategic position is important
because it enables the company to focus its efforts; otherwise, it risks trying to be everything to
everybody.

Information technology and business strategy

We have seen that IT can affect strategy. In addition to directly affecting the way that
organizations carryout their value chain activities, IT such as Internet can also affect significantly
both strategy and strategic positioning. For example, it is dramatically cuts costs, thereby helping
companies to implement a low cost strategy.

1.8. The role of AIS

An organization’s AIS play an important role in helping it adopt and maintain a strategic
position. Achieving a close fit among activities requires that data to be collected about each
activity. It is also important that the information system collect and integrate both financial and
nonfinancial data about the organization’s activities. Traditionally, the AIS was used as

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Rift Valley University, collage of business and economics department of accounting and finance
An handout (short note) for the course accounting information system.

transaction processing system because it was concerned about financial data. To handle
nonfinancial data, other systems were used leading to redundancy and problem in updating data.

Enterprise resource planning (ERP) systems: are designed to overcome these problems as they
integrate all aspects of a company’s operation with its traditional AIS. For example, when a sales
order is entered by the sales force, the effect of the transaction automatically flows to all affected
parts of the company. Inventory is updated, production schedules are adjusted, and purchase
order of raw materials and supplies are initiated. Moreover, important nonfinancial data such as
the time of sales are collected and stored in the same system.

A key feature of ERP systems is the integration of financial with other nonfinancial operating
data. The value of such integration is to suggest that there may be strategic benefits to more
closely linking traditionally separate functions of information systems and accounting, and many
organizations are beginning to combine these two functions.

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