Transaction Processing and

Financial Reporting Systems Overview

Auditing in a CIS Environment
 Topics

• Transaction cycles
• Traditional accounting records vs. computerized
accounting systems
• Documentation techniques
• The general ledger system (GLS) and the financial
reporting system (FRS)
An Overview of Transaction Processing

• Transaction processing systems (TPS) applications

process financial transactions.
• A financial transaction is an economic event that affects
the assets and equities of the firm.
• To deal efficiently with such transactions, business firms
group similar types of transactions into transaction
cycles.
Transaction Cycles

1. The expenditure cycle

– acquisition of materials, property, and labor in exchange for
cash
2. The conversion cycle
– provides value added through its products or services
(production)
3. The revenue cycle
– receives revenue from outside sources
Relationship between Transaction Cycles
The Expenditure Cycle

• Two parts (systems perspective)

1. a physical component
• the acquisition of the goods
2. a financial component
• the cash disbursement to the supplier
• Major subsystems
1. Purchases/accounts payable system
2. Cash disbursements system
3. Payroll system
4. Fixed asset system
The Conversion Cycle

• Major subsystems
1. The production system
• involves the planning, scheduling, and control of the physical product
through the manufacturing process.
2. The cost accounting system
• monitors the flow of cost information related to production.
The Revenue Cycle

• Two parts:
1. Physical component
2. Financial component
• Major subsystems
1. Sales order processing
2. Cash receipts
Manual System Accounting Records

• Source Documents
– used to capture and formalize transaction data needed for
transaction processing (e.g., sales order)
• Product Documents
– the result of transaction processing (e.g., payroll check)
• Turnaround Documents
– a product document of one system that becomes a source
document for another system (e.g., the remittance advice in a
two-part bill or statement)
Manual System Accounting Records

• Journals - a record of chronological entry

1. special journals - specific classes of transactions that occur in
high frequency
2. general journal - nonrecurring, infrequent, and dissimilar
transactions
• Ledger - a book of financial accounts
1. general ledger - shows activity for each account listed on the
chart of accounts
2. subsidiary ledger - shows activity by detail for each account
type
The Audit Trail

• The accounting records described previously provide an

audit trail for tracing transactions from source documents
to the financial statements.
 Example of Tracing an Audit Trail
Verifying Accounts Receivable

Accounts Receivable Control Account-General Ledger

Accounts Receivable Subsidiary Ledger

(sum of all customers’ receivables)

Physical Financial

Sales Journal Cash Receipts Journal

Sales Order Deposit Slip

Shipping Notice
Remittance Advice
The Audit Trail

• Audit trails in computer-based systems are less

observable than in traditional manual systems, but they
still exist.
• Accounting records in computer-based systems are
represented by four different types of magnetic files.
Computer Files

• Master File
– generally contains account data (e.g., general ledger and subsidiary file)
• Transaction File
– a temporary file containing transactions since the last update of master
files (e.g., sales orders, inventory receipts, cash receipts)
• Reference File
– contains relatively constant information used in processing (e.g., tax tables,
customer addresses)
• Archive File
– contains past transactions for reference purposes (e.g., journals and prior-
period ledgers)
Accounting Records in a Computer-Based System
EXPLANATION OF STEPS IN
FIGURE:
1. Compare the AR balance in
the balance sheet with the
master file AR control account
balance.
2. Reconcile the AR control
figure with the AR subsidiary
account total.
3. Select a sample of update
entries made to accounts in the
AR subsidiary ledger
and trace these to transactions
in the sales journal (archive file).
4. From these journal entries,
identify source documents that
can be pulled from their files
and verified. If necessary,
confirm these source
documents by contacting the
customers.
Documentation Techniques

• Five common documentation techniques:

1. Entity Relationship Diagram
2. Data Flow Diagrams
3. Document Flowcharts
4. System Flowcharts
5. Program Flowcharts
Entity Relationship Diagram (ERD)

• A documentation technique to represent the relationship

between entities in a system.
• The REA model version of ERD is widely used in AIS.
REA uses 3 types of entities:
– resources (cash, raw materials)
– events (release of raw materials into the production process)
– agents (inventory control clerk, vendor, production worker)
Data Flow Diagrams (DFD)

• use symbols to represent the processes, data sources,

data flows, and entities in a system
• represent the logical elements of the system
• do NOT represent the physical system
Data Flow Diagram Symbols
Entity Data Store
Name Name

N
Process
Description
Direction of
data flow
System Flowcharts

• illustrate the relationship among processes and the

documents that flow between them
• contain more details than data flow diagrams
• clearly depict the separation of functions in a system
Symbol Set for Representing
Manual Procedures
Terminal showing source
or destination of documents
and reports Calculated batch total

Source document or
report On-page connector

Manual operation

Off-page connector
File for storing source
documents and
reports Description of process
or comments
Accounting records
(journals, registers,
Document flowline
logs, ledgers)
Symbol Set for Representing Computer
Processes
Hard copy Terminal input/
output device

Computer process
Process flow

Real-time
Direct access storage (online)
device connection

Video display
Magnetic tape device
Flowchart
Flowchart
System Flowcharts

• are used to represent the relationship between the key

elements--input sources, programs, and output
products--of computer systems
• depict the type of media being used (paper, magnetic
tape, magnetic disks, and terminals)
• in practice, not much difference between document and
system flowcharts
Program Flowcharts
illustrate the logic used in programs

Program Flowchart Symbols

Terminal start or
Logical process
end operation

Input/output
operation
Decision
Flow of logical
process
Modern Systems versus Legacy Systems
• Modern systems characteristics:
– client-server based and process transactions in real time
– use relational database tables
– have high degree of process integration and data sharing
– some are mainframe based and use batch processing
• Some firms employ legacy systems for certain aspects of their data
processing.
– Accountants need to understand legacy systems.
• Legacy systems characteristics:
– mainframe-based applications
– batch oriented
– early legacy systems use flat files for data storage
– later legacy systems use hierarchical and network databases
– data storage systems promote a single-user environment that discourages
information integration
Record Structures for Sales, Inventory, and Accounts
Receivable Files (Updating of Master Files from Transactions)
Computer-Based Accounting Systems

• Two broad classes of systems:

1. batch systems
2. real-time systems
Batch Processing

• A batch is a group of similar transactions that are

accumulated over time and then processed together.
• The transactions must be independent of one another
during the time period over which the transactions are
accumulated in order for batch processing to be
appropriate.
• A time lag exists between the event and the processing.
Real-Time Systems

• process transactions individually at the moment the

economic event occurs
• have no time lag between the economic event and the
processing
• generally require greater resources than batch processing
since they require dedicated processing capacity;
however, these cost differentials are decreasing
• oftentimes have longer systems development time
Data Coding Schemes

• Uses of Coding in AIS

– Concisely represent large amounts of complex information that
would otherwise be unmanageable
– Provide a means of accountability over the completeness of the
transactions processed
– Identify unique transactions and accounts within a file
– Support the audit function by providing an effective audit trail
Sequential Codes

• Represent items in sequential order

• Used to prenumber source documents
• Track each transaction processed
• Identify any out-of-sequence documents
• Disadvantages:
– arbitrary information
– hard to make changes and insertions
Block Codes

• Represent whole classes by assigning each class a

specific range within the coding scheme
• Used for chart of accounts
– The basis of the general ledger
• Allows for the easy insertion of new codes within a block
– Don’t have to reorganize the coding structure
• Disadvantage:
– arbitrary information
Group Codes
• Represent complex items or events involving two
or more pieces of data using fields with specific
meaning
• For example, a coding scheme for tracking sales
might be 04-09-476214-99, meaning:

Store Number Dept. Number Item Number Salesperson

04 09 476214 99

• Disadvantages:
– arbitrary information
– overuse resulting to increase in storage costs
Alphabetic Codes

• Used for many of the same purposes as numeric codes

• Can be assigned sequentially or used in block and group
coding techniques
• May be used to represent large numbers of items
– Can represent up to 26 variations per field
• Disadvantage:
– arbitrary information
Mnemonic Codes

• Alphabetic characters used as abbreviations, acronyms,

and other types of combinations
• Do not require users to memorize the meaning since the
code itself is informative – and not arbitrary
– NY = New York
• Disadvantages:
– limited usability and availability
The General Ledger System

• a hub connected to the other systems of the firm through

spokes of information flows.
• Notes:
1. TPS process various aspects of economic events, which are
recorded in their respective special journals and subsidiary
accounts.
2. Summaries of these transactions flow into the GLS and
become sources of input for the financial reporting system
(FRS).
 Financial
Reporting
System
Management
Billings
Reporting
System

Sales Inventory
Control
General
Ledger
System
Cash Payroll
Receipts (GLS)

Cost Cash
Accounting Disbursements

Accounts
Payable
The Journal Voucher

• the source of input to the general ledger.

The GLS Database
• General ledger master file
– principal FRS file based on chart of accounts
• General ledger history file
– used for comparative financial support
• Journal voucher file
– all journal vouchers of the current period
• Journal voucher history file
– journal vouchers of past periods for audit trail
• Responsibility center file
– financial data by responsibility centers for MRS
• Budget master file
– budget data by responsibility centers for MRS
GLS Reports
• General ledger analysis:
– listing of transactions
– allocation of expenses to cost centers
– comparison of account balances from prior periods
– trial balances
• Financial statements:
– balance sheet
– income statement
– statement of cash flows
• Managerial reports:
– analysis of sales
– analysis of cash
– analysis of receivables
– Chart of accounts: coded listing of accounts
Potential Risks in the GL/FRS

• Subsidiary not equal to G/L control accounts

• Unauthorized access to the G/L
• A defective audit trail
• Account balances that are wrong because of
unauthorized or incorrect journal vouchers
GL/FRS Control Issues

• Transaction authorization - transactions must be

authorized by a manager at the source dept
• Segregation of duties – G/L clerks should not:
– have recordkeeping responsibility for special journals or
subsidiary ledgers
– prepare journal vouchers
– have custody of physical assets
GL/FRS Control Issues

• Access controls:
– Unauthorized access to G/L can result in errors, fraud, and
misrepresentations in financial statements.
– An entity shall implement controls that limit database access to
only authorized individuals.
• Accounting records - Data files must be conveniently and
logically organized.
GL/FRS Control Issues

• Independent verification
– The G/L function serves as an independent verification step
within the accounting information system.
– Two important operational reports used:
• journal voucher listing – details of each journal voucher posted to the
G/L
• general ledger change report – the effects of journal voucher postings
on G/L accounts