Transaction Cycles Overview

MGMT 549

Overview of Transaction Cycles and Information Flows

Last Revised: 9/1/2011 2:35 PM

http://www.mgt.unm.edu/

Financial Transactions A financial transaction is an economic event that:

Affects the assets and equities of the firm Is reflected in its accounts Is measured in monetary terms

Similar types of transactions are grouped together into process categories or transaction cycles: Revenue cycle (sales and revenue collection) Expenditure cycle (purchases, payroll, fixed assets, and cash

disbursements) Conversion cycle (production, resource management, and logistics) Administrative processes (capital, investment, and general ledger) – not

a transaction cycle in the same sense as the other categories, if only because they are performed less frequently

The word cycle implies a looping or repetition For example, sales and collection processes are repeated many times

per operating period The revenue, conversion, and expenditure categories form a larger loop

(see next slide)

Relationship Among Transaction Cycles

Hall, Accounting Information Systems 6e (978-1-4390-7857-0), Figure 2-1, Copyright © 2011 Cengage Learning

Supply Chain

Closely related to transaction cycles is the concept of a supply chain Turner textbook definition: “… the entities, processes,

and information flows that involve the movement of materials, funds, and related information through the full logistics process, from the acquisition of raw materials to the delivery of finished products to the end user. The supply chain includes all vendors, service providers, customers, and intermediaries”

Sample Supply Chain – McDonald’s

Turner & Weickgenannt, Accounting Information Systems Controls and Processes (978-0-471-47951-2), Figure 1-2, Copyright © 2009 Wiley

Supply Chain - Continued

Supply chain implications for AIS: An organizations AIS and MIS are subsets of a larger

AIS/MIS that extend across all organizations in the supply chain In other words, your system is only a subsystem of a larger system

Transaction cycles extend out from your system to include reciprocal processes/cycles of partners For example, your purchasing and cash disbursements processes

combine with your vendors’ sales and cash receipts cycles to form a complete cycle

AIS auditing and security issues extend well beyond your own systems and organization For example, if you’re a power supply manufacturer who supplies

parts to Dell, how do you validate/authenticate Dell’s incoming orders and payments and how do you ensure that the “doorways” Dell uses to send/receive transaction data aren’t entry points for hackers?

Exercise

Create a short list of capital and investment transactions/processes.

How would you modify the transaction cycles figure (slide #3) to incorporate capital and investment processes?

What would a combined transaction cycle diagram for Dell and its power supply vendor(s) look like?

Documents

Most financial events have one or more documents associated with them (e.g., invoices, bills of lading, and deposit receipts)

Documents: Contain much of the financial information reflected in accounting records and

financial statements Are “consumed” and “produced” by accounting-related activities Play a significant role in internal control and auditing Exist even in “paperless” systems

Some document-related terminology: Source document - used to capture and formalize transaction data needed for

transaction processing (e.g., a purchase order sent by a customer Product document – generated by transaction processing activities (e.g.,

processing a purchase order generates an invoice) Turnaround document - a product document of one system that becomes a

source document for another system (e.g., data might be extracted from invoices for ordering and/or production scheduling)

Books of Record

Journal - a chronological record of transactions and other economic activity Special journals – record specific classes of transactions that occur frequently

and have similar information content and structure (e.g., a sales journal) – see next slide

General journal – records all transactions not recorded in special journals – such transactions are typically nonrecurring, infrequent, and dissimilar

Ledger – an account-by-account record of balances (beginning and ending) and transaction activity General ledger (G/L) - shows activity for each account listed on the chart of

accounts Subsidiary ledger - shows more detailed activity than the general ledger for a

specific account (e.g., subaccounts for accounts receivable – one subaccount per customer)

Ledgers and journals both record transactions but organize and/or summarize the financial data differently

Specialized Journal Examples

Arens & Ward, Systems Understanding Aid 7e (978-0-912503-27-1), page 13, Copyright © 2008 Armond Dalton Publishers

Chart of Accounts

The chart of accounts (COA) is a list of each general ledger account by number and name Usually sorted

numerically Usually grouped by

income statement or balance sheet category

A COA is customized to the needs of a specific organization.


Account Numbering and Coding

Some of the ways in which charts of accounts are customized to a specific organization include: Number of accounts in total and within specific

categories Length, structure, and coding of account numbers

Most account numbers employ block coding, in which one or a few leading digits of the account number indicate a meaningful category For example, in the COA on the preceding slide, the

first digit encodes an income statement or balance sheet category

Account Numbering and Coding - Continued

Account numbers often employ group coding to represent embedded information such as organizational unit, division, or location

For example: A chain of retail stores might add three digits to the end of

an account number to indicate a specific store number (e.g., xxx-yyy where xxx is the G/L account type and yyy is the store number)

Accounts that aren’t store-specific (e.g., equity accounts) have only one instance (e.g., 501-000)

There would be multiple store-specific accounts where needed/useful (e.g., 601-001, 601-002, …)

Account 601-000 would be a summary or consolidated account totaling the balances of 601-001 through 601-999

Transaction Data Flow Into the General Ledger

Hall, Accounting Information Systems 6e (978-1-4390-7857-0), Figure 2-8, Copyright © 2011 Cengage Learning

Data Flow Into the General Ledger - Continued

Customer order is the source document Sales order is a product document and includes all data

needed to record related financial/accounting data in: Sales journal (typically, debit cash or accounts receivable and

credit sales) Accounts receivable subsidiary ledger (record debit to accounts

receivable balance for specific customer Posting – Totals from special journals and all entries in

the general journal are periodically posted to related accounts in the G/L

Reconciliation – Subsidiary ledgers are periodically reconciled to the general ledger For example, the G/L accounts receivable balance should equal

the total of all subaccount balances in the accounts receivable subsidiary ledger), reconciliation verifies this equality and resolves any discrepancies – see Figure 2-10

Relationships Among Journals and Ledgers


Data Redundancy

The contents of various documents, journals, and ledgers are highly redundant (i.e., they contain overlapping information)

Eliminating data redundancy is a key information system design principle

Yet, redundancy is a fundamental basis for internal control and audit trails in both automated and manual systems (see next slide)

Tension between the desire to simplify a system by minimizing redundancy and the need for internal controls and an audit trail is a fundamental conundrum in AISs

Audit Trail

Source Document Journal General

Ledger Financial Statements

Financial Statements

General Ledger Journal

Source Document

Accountants should be able to trace in both directions. Sampling and confirmation are two common techniques.

Exercise

Consider a source document, for example: Customer purchase order Deposit receipt Invoice for equipment purchase Promissory note Payroll time card Check (customer payment on account)

Identify one key financial information item on the document

List all of the product documents, journals, and ledgers in which the financial information item should (eventually) appear

End of Period Processing


Trial Balance

A general ledger trial balance is a listing of general ledger account balances at a specific point in time – usually end of month, quarter, or year: Unadjusted trial balance – before journal entries to

correct errors and to record accruals and prepayments Adjusted trial balance – after journal entries to correct

errors and to record accruals and prepayments

A trial balance is prepared after all transactions for the period have been recorded

Sample Trial Balance


Adjusting Entries


Adjusting Entries - Continued

Adjusting entries are made in the general journal and posted to the general ledger

Each adjusting entry affects both the balance sheet and income statement (e.g., a depreciation entry debits an expense account (I/S) and credits an asset or asset offset account (B/S)

Adjusting entries are recorded in the general journal and posted individually to the general ledger to provide a maximal audit trail.

Adjusting entries are added to the unadjusted trial balance to produce the adjusted trial balance

Sample Adjusting Entries


Prepare Financial Statements

The adjusted trial balance is the primary input to preparing financial statements.

Rows of the adjusted trial balance are often combined into single lines of a financial statement (e.g., combining account balances for similar asset classes).

Except for footnotes, the adjusted trial balance is a complete source document for the income statement and balance sheet

Some information needed for the cash flow statement is not in the adjusted trial balance (e.g., loan payments and proceeds)

Closing Entries

Closing entries set income statement accounts to zero for the start of a new reporting period

Closing entry categories: Closing revenue accounts (to income summary) Closing expense accounts (to income summary) Transferring profit or loss to equity account(s)

Closing entries occur after period end and after the financial statements are prepared

Closing entries are recorded in the general journal and posted to the general ledger

Sample Closing Entries


Summary of Information Flows and Accounting Procedures


Exercise

Consult the previous slide and examine the “example” column on the right

Prepare an additional example column using a different type of transaction, for example: Purchase of inventory for sale Receipt of a payment from a customer for a previously

invoiced purchase Payment of a previously invoiced purchase of

equipment Payment of payroll for the last full period of the year

Be sure to identify specific specialized journals and subsidiary ledgers, if needed

Transaction Cycles Overview

Documents

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