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CHAPTER 1
Introduction to Accounting Information Systems
David M. Shapiro
Overview of Accounting Information Systems
As duly noted in the New York Times approximately 100 years ago (Wildman 1916), accounting methods are designed and implemented not only to prevent and detect fraud and error but to make realistic the successful administration of big business. Accounting information systems (AISs) were and are essential for preparing external purpose financial statements such as those filed for analysis in the public domain with the U.S. Securities and Exchange Commission (SEC) and for preparing internal-use proprietary reports to empower managerial decision making. These two types of objectives are not met identically: The information needed and developed for management encompasses that which is prepared and publicly audited for the benefit of external users such as vanilla equity investors in secondary markets like the NYSE but supplements it with granular and specially classified data that may allow management to enhance its own market position. This granular, special information is proprietary to the reporting entity. Thus, AIS serves both private and public ends.
AISs predate computers, and they have become more prominent and expensive as the decades have unfolded since the late nineteenth-century notoriety and dominance of trusts and big business in the United States and elsewhere. They have enabled real growth in private and public sector organizations, and they have facilitated materially misleading and fraudulent financial reporting and other criminal activities and civil wrongs. AIS is a tool, an instrumentality that is manipulated in satisfaction of human ambitions, for better and for worse.
The term represented by the acronym AIS comprises three words signifying three key concepts or variables introduced as follows:
- ā¢Meaning of systemāan AIS is both a set of interrelated components of a physical process such as operational computer hardware and a logical process such as transformation of inputs into outputs under computer software applications. Systems may be closed and fixed by its rules of strict construction or open and flexible under rules allowing potential unlimited exception, illustrated by mere computing capacity to machine learning capacity. Systems are important for what they may include, such as records of cash receipts, and what they may exclude, such as updated financial status of borrowers.
- ā¢Meaning of informationāan AIS processes raw data, whether digitized for input into computer-based systems or manually input into multicolumn hardcopy journals and ledgers, into higher order final form information for communication among designated parties. Information is important for what it may represent in fact, such as truthful transactions, or what it may represent falsely, such as fictitious transactions. Alternatively, information may not represent anything real notwithstanding the absence of bad intent. Information is code for communication, including potential obfuscation, propaganda, and so on.
- ā¢Meaning of accountingāan AIS provides manual, semiautomated, or automated processes operating under rules of accountability to prepare records and reports necessary for stakeholders, such as high managerial agents, regulators, and other users to understand reporting entity performance, using both financial and nonfinancial inputs. Accounting is a mathematically derived set of constructs establishing the history, prospects, and agency behind decision making and results of operations. It commonly relies upon double-entry bookkeeping (DEB), forcing compliance with predefined accounting classifications such as assets, liabilities, equity, revenue, gain, expense, and loss accounts. It may be factual or fictive, that is, with or without support by any real-world transactions.
Systems broadly include all information systems, which specifically include all AISs. However, some systems are not information systems, and some information systems are not AIS. Whereas we are fairly familiar with the general characteristics of weather systems, which are an example of a natural science system, and human resources information systems, which are an example of a design science system, the AIS is a special case of design science; that is, the information, rules, and processes are purposefully designed by system architects based on accountability principles generally, including special compatibility with requirements of generally accepted accounting principles (GAAPs). The AIS provides a key feedback loop to management.
AISs are characterized by strengths and weaknesses. However, they are always incomplete; that is, a given AIS relates to the potential rights and obligations of the reporting entity for which it exists. For example, transactions that concern the private sector corporation GE and its employees and agents will exclude transactions that concern the public sector organization City University of New York, assuming no intercompany transactions. More importantly, transactions that concern a given reporting entity may not be included within its AIS absent general or specific managerial instruction to do so. AISs are manipulable and self-serving. If the high managerial agents elect to exclude related party transactions, these transactions may likely, absent the highly creative efforts of the public auditor, not be recorded and reported as such. In brief, AISs may not be neutral tools of measurement but capacities dedicated in support of managerial goals and objectives.
Moreover, identifying an AISās necessary attributes may not be clear. For example, a layperson presented with a hardcopy ledger of company accounts might conclude that itās ineluctably an AIS (albeit in manual form). However, what if the ledger does not conform to DEB; would it nonetheless comprise an AIS, or at least part of one? Additionally, how do digitally storing financial and transaction data change, if at all, the characteristics of the output information? Does the potential impermanence (or transience or malleability) of computer-based AIS data imply that there may be no unalterable and true history of the reporting entity; would the systemic and informational risks be intolerable under a computer-based system vulnerable to complete or partial erasure through intentional or inadvertent means? Resolution of these issues may be facilitated through an understanding of the history and evolution of the AIS.
History of Function and Use of AISs
Currently, efforts to deskill and reskill the labor workforce required to design, implement, and maintain AISs may be as disruptive as earlier efforts, implicating spreadsheet and database skill requirements for those working with AISs (Sy and Tinker 2010). An argument may be cogently put forth that the accountant, who is the primary but not the exclusive user of the AIS of his or her employer, is becoming more data entry clerk than required expert in DEB. Facility with the laptop computer and useful spreadsheet and similar applications (collectively, essential software) is the dominant skill requirement more so than transaction analysis demanding a deep understanding of DEB. In practice, the software may not require that the data entry clerk understand the transaction, unlike the traditional DEB accountant that needed to perform the deductive analysis of accounting against the records provided. The essential software has transformed the meaning of the essential employee or agent.
These recent developments did not arise from a vacuum. Research on AIS demonstrates that the discipline had been primarily viewed by academics as a blend of computer science, cognitive psychology, and organizational behavior (Poston and Grabski 2000), but AIS existed before the advent of computer-based processors. This is due to the informational needs of those directing the administration and management of commerce and government. Quality, quantity, and processing speed are materially affected by the evolution of computer-based technology, but the originating needs for such are longstanding.
Pre- to Mid-Twentieth Century (e.g., Manual AIS)
Using accounting to control the disposition of assets, including satisfaction of obligations to lenders and other providers of capital, routinely occurred well before computers became the primary required tool of persons in commerce. Importantly, with respect to accounting issues, computation of debts owed and profits retained remains not only an ancient problem but a current one, too. While DEB has been used for centuries, the question whether it is a necessary structure for AIS may be answered in part by examining how it functions in manual AISs that were the norm in commerce for centuries.
DEB requires both credit (right-side) and debit (left-side) entries for every transaction record, originally recorded in a chronological general journal known as the book of original entry and summarized by accounting classification such as cash, sales, and so on in a separate book known as the general ledger. Thus, the journal lists transactions by date, and the ledger lists them by type.
The accuracy, completeness, and timeliness of the reports potentially available and verifiable through public auditors or representatives of other stakeholders such as lenders under a manual AIS limit the quality of administration, including inspection and oversight, of the reporting entity. See Table 1.1 for an outline of some of the vulnerabilities and risks.
Table 1.1 High-level perspective of deficiencies of manual AIS
Accounting evidence | Initial balance | Updating | Audit capacity |
Records | Manual entry errors in journal(s) | Accruals and deferrals overlooked | Limited ability to trace to reports due to incompleteness |
Reports | Ledger incompleteness (from journal error) | Administrative inconvenience | Limited ability to vouch from reports due to costs |
Analyses | High-level DEB understanding and skill | Limited drill down and root cause | Fraud and error risks due to inaccuracies and incompleteness |
The deficiencies are clear, posing a risk to effective and fair administration. Stakeholders, including creditors, would be vulnerable to the limitations of the underlying accounting and corroborative data. Moreover, even the owner, especially where often absent from hands-on inspection and oversight of the business processes and accounting, therefore, would be hard-pressed to have significant confidence in a manual AIS, other than on a small and intimate scale. In brief, a manual AIS suffers from asymmetry of information risk; that is, the accuracy and precision of the outputs may not resemble economic and legal (true) reality as constructed by counterparties. Parenthetically, all computations, classifications, and indices of data prepared under a computer-based AIS could be theoretically performed by a manual AIS, given adequate resources such as accounting expertise, budget, and time to perform. Practicably, this is highly unlikely.
In further explanation of the asymmetry noted above, consider the following material elements of the AIS:
- ā¢Records: These comprise the building blocks of a manual AIS. Data contained within records corroborate journal entries and ledger balances. Auditors would vouch for the transaction processing of the auditee by reference to, among other sources of evidence, its records, and they would trace transactions from their records in books of original entry to financial reports such as general ledgers. This validates the integrity of AIS processing, comparing inputs to outputs and vice versa. A manual AIS is not merely labor intensive but...
