Accounting

Information
Systems

Chera Emiru
The Expenditure Cycle:
Purchasing and Cash Disbursements
Chapter 6
Learning Objectives
1 Describe the basic business activities and related data processing
operations performed in the expenditure cycle.
5 Discuss the key decisions to be made in the expenditure cycle, and
identify the information needed to make those decisions.
3 Document an understanding of the expenditure cycle activities.
Learning Objectives
4 Identify major threats in the expenditure cycle, and evaluate the
adequacy of various control procedures for dealing with those threats.
4 Read and understand a data model (REA diagram) of the expenditure
cycle.
Introduction
 Linda Spurgeon, Alpha Omega Electronics’ (AOE) president,
asked Elizabeth Venko, the controller, to address the following
issues:
– What must be done to ensure that AOE’s inventory records are current
and accurate?
– What can be done to ensure timely delivery of quality components?
Introduction
– Is it possible to reduce AOE’s investment in materials inventories?
– What must be done to ensure that available discounts are taken?
– How could the information system provide better information to guide
planning and production?
– How could IT be used to reengineer expenditure cycle activities?
Learning Objective 1
 Describe the basic business activities and related data
processing operations performed in the expenditure cycle.
 Expenditure Cycle:
Main Objective
 The expenditure cycle is a recurring set of business activities and
related data processing operations associated with the purchase of and
payment for goods and services.
 The primary objective of the expenditure cycle is to minimize the total
cost of acquiring and maintaining inventories, supplies, and the various
services necessary for the organization to function.
Expenditure Cycle:
Key Decisions
 What is the optimal level of inventory and supplies to carry?
 Which suppliers provide the best quality and service at the best
prices?
 Where should inventories and supplies be held?
 How can the organization consolidate purchases across units to obtain
optimal prices?
Expenditure Cycle:
Key Decisions
 How can information technology be used to improve both the
efficiency and accuracy of the inbound logistics function?
 Is sufficient cash available to take advantage of any discounts
suppliers offer?
 How can payments to vendors be managed to maximize cash flow?

Expenditure Cycle:
Business Activities
 What are the three basic business activities in the expenditure
cycle?
2 Ordering goods, supplies and services
3 Receiving and storing goods, supplies and services
3 Paying for goods, supplies and services
Ordering Goods, Supplies And Services
 The first major business activity in the expenditure cycle is
ordering inventory or supplies.
– The traditional inventory control method (often called economic order
quantity [EOQ]):
 This approach is based on calculating an optimal order size so as to minimize the
sum of ordering, carrying, and stockout costs.
Ordering Goods, Supplies And Services
 Alternative inventory control methods:
– MRP (material requirement planning)
 This approach seeks to reduce required inventory levels by scheduling production,
rather than estimating needs.
– JIT (just in time)
 JIT systems attempt to minimize both carrying and stockout costs.
Ordering Goods, Supplies And Services
 What is a major difference between MRP and JIT?
– MRP systems schedule production to meet estimated sales need,
thereby creating a stock of finished goods inventory.
– JIT systems schedule production to meet customer demands, thereby
virtually eliminating finished goods inventory.
Ordering Goods, Supplies And Services
 Documents and procedures:
 The purchase requisition is a document that identifies the
following:
– requisitioner and item number
– specifies the delivery location and date needed
– specifies descriptions, quantity, and price of each item requested
– may suggest a vendor
Ordering Goods, Supplies And Services
 What is a key decision?
– determine vendor
 What factors should be considered?
– price
– quality of materials
– dependability in making deliveries
Ordering Goods, Supplies And Services
 Documents and procedures:
 The purchase order is a document that formally requests a vendor to
sell and deliver specified products at designated prices.
 It is also a promise to pay and becomes a contract once it is accepted
by the vendor.
 Frequently, several purchase orders are generated to fill one purchase
requisition.
Receiving and Storing Goods, Supplies and
Services
 The second major business activity involves the receipt and
storage of ordered items.
 Key decisions and information needs:
 The receiving department has two major responsibilities:
1 Deciding whether to accept a delivery
2 Verifying quantity and quality
Receiving and Storing Goods, Supplies and
Services
 Documents and procedures:
 The receiving report documents details about each delivery,
including the date received, shipper, vendor, and purchase order
number.
– For each item received, it shows the item number, description, unit of
measure, and count of the quantity received.
Pay for Goods and Services:
Approve Vendor Invoices
 The third activity entails approving vendor invoices for
payments.
– The accounts payable department approves vendor invoices for
payment
– The cashier is responsible for making the payment

Pay for Goods and Services:

Approve Vendor Invoices
 The objective of accounts payable is to authorize payment only
for goods and services that were ordered and actually received.
 There are two ways to process vendor invoices:
 Nonvoucher system
  Voucher system
Pay for Goods and Services:
Improving Accounts Payable
Processing efficiency can be improved by:
 Requiring suppliers to submit invoices electronically, either
by EDI or via the Internet
 Eliminating vendor invoices. This “invoiceless” approach is
called evaluated receipt settlement (ERS).
Pay for Goods: Pay Approved Invoices
 The cashier approves invoices
 The combination of vendor invoice and supporting
documentation is called a voucher package.
 A key decision in the cash disbursement process is
determining whether to take advantage of discounts for prompt
payment.
Learning Objective 2
 Discuss the key decisions that need to be made in the
expenditure cycle, and identify the information needed to make
those decisions.
Information Needs
 The third function of the AIS is to provide information useful
for decision making.
 Usefulness in the expenditure cycle means that the AIS must
provide the operational information needed to perform the
following functions:
– Determine when and how much additional inventory to order.
Information Needs
AIS must provide the operational information needed to perform the following
functions (con’t):
– Select the appropriate vendors from whom to order.
– Verify the accuracy of vendor invoices.
– Decide whether purchase discounts should be taken.
– Monitor cash flow needs to pay outstanding obligations.
Information Needs
 What are examples of additional information The AIS should
provide?
– Efficiency and effectiveness of the purchasing department
– Analyses of vendor performance such as on-time delivery, quality,
etc.
– Time taken to move goods from the receiving dock into production
– Percentage of purchase discounts taken
Learning Objective 3
 Document your understanding of the expenditure cycle.
Expenditure Cycle
Expenditure Cycle
Expenditure Cycle
Expenditure Cycle
Expenditure Cycle
Learning Objective 4
 Identify major threats in the expenditure cycle and evaluate
the adequacy of various control procedures for dealing with those
threats.
Control: Objectives,
Threats, and Procedures
 Another function of a well-designed AIS is to provide
adequate controls to ensure that the following objectives are
met:
 Transactions are properly authorized.
 Recorded transactions are valid.
 Valid, authorized transactions are recorded.
 Transactions are recorded accurately.
Control: Objectives,
Threats, and Procedures
 Assets (cash, inventory, and data) are safeguarded from loss or theft.
 Business activities are performed efficiently and effectively.
 Control: Objectives,
Threats, and Procedures
 What are some threats?
– stockouts
– purchasing too many or unnecessary goods
– purchasing goods at inflated prices
– purchasing goods of inferior quality
– purchasing from unauthorized vendors
– kickbacks
Control: Objectives,
Threats, and Procedures
– receiving unordered goods
– errors in counting goods
– theft of inventory
– failure to take available purchasing discounts
– errors in recording and posting purchases and payments
– loss of data
Control: Objectives,
Threats, and Procedures
 What are some control procedures?
– inventory control system
– vendor performance analysis
– approved purchase requisitions
– restricted access to blank purchase requisitions
– price list consultation
– budgetary controls
Control: Objectives,
Threats, and Procedures
– use of approved vendor lists
– approval of purchase orders
– prenumbered purchase orders
– prohibition of gifts from vendors
– incentives to count all deliveries
– physical access control
– recheck of invoice accuracy
– cancellation of voucher package
Learning Objective 5
 Read and understand a data model (REA diagram) of the
expenditure cycle.
Expenditure Cycle Data Model
 The REA data model integrates both traditional accounting
transactions data with other operational data.
 What are some examples?
– the date and amount of each purchase
– information about where items are stored
– vendor performance measures, such as delivery date
Expenditure Cycle Data Model
Expenditure Cycle Data Model
 The REA diagram models the relationship between the
request goods and order goods events as being many-to-one.
 Why?
– The company sometimes issues purchase orders for individual
purchase requests.
– At other times it takes advantage of volume discounts by issuing one
purchase order for a set of requests.
Expenditure Cycle
Data Model
Expenditure Cycle Data Model
 Why is there a many-to-many relationship between the order
goods and receive goods events?
– Vendors sometimes make several separate deliveries to fill one
purchase order.
– Other times, vendors fill several purchase orders with one delivery.
– Sometimes, vendors make a delivery to fill a single purchase order
in full.
Case Conclusion
 What are the key points that Elizabeth Venko proposed?
1 Online terminals in each of AOE’s departments
2 JIT inventory system
3 Use of EDI to send purchase orders to vendors
4 Use of EFT as much as possible
5 Implementation of a relational data base

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Accounting
Information
Systems

Chera Emiru
The Production Cycle
Chapter 7
Learning Objectives
1 Describe the major business activities and related data processing
operations performed in the production cycle.
1 Explain how a company’s cost accounting system can help it achieve its
manufacturing goals.
1 Identify major threats in the production cycle, and evaluate the adequacy
of various control procedures for dealing with those threats.

Learning Objectives
5 Discuss the key decisions that must be made in the production
cycle, and identify the information needed to make those
decisions.
5 Read and understand an REA data model of the production
cycle.
5 Develop an REA data model for the production cycle.
Introduction
 LeRoy Williams, VP of manufacturing for Alpha Omega
Electronics (AOE), is concerned about problems associated with
AOE’s cost accounting system.
 Elizabeth Venko, AOE’s controller, and Ann Brandt, AOE’s
vice president of information systems, agreed to undertake a study
of how to modify the system.
Introduction
 This chapter is organized around the three major functions of
the AIS in the production cycle.
1 The description of production cycle activities and cost accounting
1 Introduction of major control objectives in the production cycle
1 Showing how the AIS can store and organize information needs
Learning Objective 1
Describe the major business activities and related data
processing operations performed in the production
cycle.
Production Cycle Activities
 The production cycle is a recurring set of business activities
and related data processing operations associated with the
manufacturing of products.

Production Cycle Activities

 Accurate and timely cost accounting information is essential
input to decisions about:
• Product mix
• Product pricing
• Resource allocation and planning
• Cost management
Production Cycle Activities
 There are four basic activities in the production cycle:
 Product design
 Planning and scheduling
 Production operations
 Cost accounting
Product Design (Activity 1)
 The first step in the production cycle is product design.
 The objective of this activity is to design a product that meets
customer requirements for quality, durability, and functionality
while simultaneously minimizing production costs.
Product Design (Activity 1)
 Documents and procedures:
 The product design activity creates two main documents:
1 Bill of materials
2 Operations list
Product Design (Activity 1)
 How can accountants be involved in product design?
– by showing how various design trade-offs affect production costs and thereby
profitability
– by ensuring that the AIS is designed to collect and provide information about the
machine setup and materials handling costs associated with alternative product designs
– by providing data about repair and warranty costs associated with existing
products
Planning and Scheduling (Activity 2)
 The second step in the production cycle is planning and
scheduling.
 The objective of this step is a production plan efficient
enough to meet existing orders and anticipate short-term demand
without creating excess finished goods inventories.
Planning and Scheduling (Activity 2)
 What are two common methods of production planning?
1 Manufacturing resource planning (MRP-II)
2 Just-in-time (JIT) manufacturing systems
 MRP-II is an extension of materials resource planning that seeks to match existing production
capacity and raw materials needs with forecasted sales demands.
 The goal of JIT is to minimize inventories of raw materials, work in process, and finished goods.

Planning and Scheduling (Activity 2)

 Documents, forms and procedures:
– The master production schedule (MPS) specifies how much of each
product is to be produced during the planning period and when that
production should occur.
– A materials requisition authorizes removal of materials from the
storeroom to the factory.
– Subsequent transfers of these materials are documented on move
tickets.
Planning and Scheduling (Activity 2)
 How can accountants be involved in planning and
scheduling?
– by ensuring that the AIS collects and reports costs in a manner
consistent with the production planning techniques used by the company
– by helping to choose whether MRP-II or JIT is more appropriate
Production Operations (Activity 3)
 The third step in the production cycle is the actual manufacture of
products.
 The manner in which this activity is accomplished varies greatly
across companies.
 What is computer-integrated manufacturing (CIM)?
– It is the use of information technology in the production process.
Production Operations (Activity 3)
 Computer-Integrated Manufacturing (CIM) is the use of various forms of IT in the
production process, such as robots and computer-controlled machinery, to reduce
production costs.
 Every firm needs to collect data about the following four facets of its production
operations:
1 Raw materials used
1 Labor-hours expended
1 Machine operations performed
1 Other manufacturing overhead costs incurred

Learning Objective 2
Explain how a company’s cost accounting system can
help it achieve its manufacturing goals
Cost Accounting (Activity 4)
 The final step in the production cycle is cost accounting.
 What are the three principal objectives of the cost accounting system?
1 To provide information for planning, controlling, and evaluating the performance
of production operations
2 To provide accurate cost data about products for use in pricing and product mix
decisions
2 To collect and process the information used to calculate the inventory and cost of
goods sold values
Cost Accounting (Activity 4)
 What are two types of cost accounting systems?
1 Job-order costing
2 Process costing
– Job-order costing assigns costs to specific production batches or to
individual jobs.
– Process costing assigns costs to each process, and then calculates the
average cost for all units produced.
Cost Accounting (Activity 4)
 The choice of job-order or process costing affects only the
method used to assign costs to products, not the method used for
data collection.
 Raw Materials:
– When production is initiated, the issuance of a materials requisition
triggers the journal entry.
Cost Accounting (Activity 4)
 Assume that $15,000 of raw materials were issued.
 What is the journal entry?
Work in Process 15,000 Raw Materials Inventory
15,000 To record issuance of raw materials
 Assume that $1,000 of raw materials were returned to
inventory.
Cost Accounting (Activity 4)
 What is the journal entry?
Raw Materials Inventory 1,000 Work in Process
1,000 To record return of raw materials to
inventory
 Most raw materials are bar-coded.
 Inventory clerks use online terminals to enter usage data for
those items that are not bar-coded.
Cost Accounting (Activity 4)
 Direct Labor:
 A job-time ticket is a paper document used to collect data
about labor activity.
 This document records the amount of time a worker spent on
each specific job task.
 Workers can enter this data using online terminals at each
factory workstation.
Cost Accounting (Activity 4)
 Machinery and Equipment:
As companies implement CIM to automate the production
process, an even larger proportion of product cost relate to the
machinery and equipment used to make the product.
Cost Accounting (Activity 4)
 Manufacturing Overhead:
 What is manufacturing overhead?
– all manufacturing costs that are not economically feasible to trace
directly to specific jobs or processes
Cost Accounting (Activity 4)
 Accounting for Fixed Assets:
 The AIS also needs to collect and process information about
investment in the property, plant, and equipment used in the
production cycle.
 Fixed assets should be bar-coded.
Cost Accounting (Activity 4)
– identification number
– serial number
– location
– cost
– date of acquisition
– vendor name and address
– expected life
– expected salvage value
– depreciation method
– depreciation charges to date
– improvements
– maintenance services performed

Learning Objective 3
Identify major threats in the production cycle, and
evaluate the adequacy of various control procedures for
dealing with them.
 Control: Objectives,
Threats, and Procedures
 The second function of a well-designed AIS is to provide adequate
controls to ensure that the following objectives are met:
1 All production and fixed asset acquisitions are properly authorized.
2 Work-in-process inventories and fixed assets are safeguarded.
3 All valid, authorized production cycle transactions are recorded.
Control: Objectives,
Threats, and Procedures
4 All production cycle transactions are recorded accurately.
5 Accurate records are maintained and protected from loss.
6 Production cycle activities are performed efficiently and effectively.
Control: Objectives,
Threats, and Procedures
 What are some threats?
– unauthorized transaction
– theft or destruction of inventories and fixed assets
– recording and posting errors
– loss of data
– inefficiencies and quality control problems
Control: Objectives,
Threats, and Procedures
 What are some control procedures?
– accurate sales forecasts and inventory records
– authorization of production
– restricted access to production planning program and to blank
production order documents
– review and approval of capital asset expenditures
Control: Objectives,
Threats, and Procedures
– documentation of all internal movements of inventory
– proper segregation of duties
– source data automation
– online data entry edit controls
– backup and disaster recovery procedures
– regular performance reports
– cost of quality control measurement
Learning Objective 4
Discuss the key decisions that must be made in the
production cycle, and identify the information required
to make those decisions.
Information Needs and
Procedures
 The third function of the AIS is to provide information useful
for decision making.
 In the production cycle, cost information is needed by
internal and external users.
 Traditionally, most cost accounting systems have been
designed primarily to meet financial reporting requirements.
Information Needs and
Procedures
 What are two major criticisms of traditional cost accounting
systems?
1 Inappropriate allocation of overhead costs
1 Inaccurate performance measures

Information Needs and

Procedures
What is a potential solution to the first criticism?
 Activity-Based Costing (ABC):
– ABC attempts to trace costs to the activities that create them and only
subsequently allocates those costs to products or departments.
Information Needs and
Procedures
 ABC systems distinguish three separate categories of overhead.
1 Batch-related overhead
2 Product-related overhead
 3 Company-wide overhead
 The bases used to allocate manufacturing overhead are the cost drivers.
 What is a cost driver?
– anything that has a cause-and-effect relationship on costs
Information Needs and
Procedures
 What are some benefits of ABC?
– better decisions
– improved cost management
 More accurate cost data results in better product mix and
pricing decisions.
 More detailed cost data improves management’s ability to
control and manage total costs.
Information Needs and
Procedures
 What is the potential solution to the second criticism?
– Integrated production cycle data model

Learning Objective 5
Read and understand a data model (REA diagram) of
the production cycle.
Production Cycle Data Model
 To maximize its usefulness for cost management and decision
making, production cycle data must be collected at the lowest possible level
of aggregation.
 The following diagram presents relationships between the work in
process (resource entity) and raw materials, labor, and machine operations
(event entities) used to produce a batch of goods.
Production Cycle Data Model
Learning Objective 6
Develop an REA data model for the
production cycle.
 Production Cycle
Production Cycle
Production Cycle
Production Cycle
Data Model
 What are the relationships among work in process and the
three event entities?
– all are one-to-many
 What do they reflect?
– Each production run may involve a number of raw materials
issuances, labor operations, and machine operations.
– Each of those activities, however, is linked to a specific production
run.
Production Cycle
Data Model
Production Cycle
Data Model
 What is the relationship between the two agent entities?
– many-to-one
 What does it reflect?
– Each employee is assigned to a specific supervisor.
– Each supervisor is responsible for many employees.
Case Conclusion
 What did Elizabeth Venko decide?
– Implement activity-based costing
– Change the reports produced
 She decided that two major changes were needed in the
reports produced by the AIS:
1 Quality control costs will be reported.
2 Nonfinancial as well as financial measures will be included in the
performance reports.