Business: What’s It All About?Business: What’s It All About?

Purpose of a Business

For profit Not-for-profit

Purpose of a Business

Simple Model of a Business“The Firm”

INPUTS Value added

conversion

OUTPUTS

Capital, FinancingProperty, Plant, EquipmentRaw MaterialsLabourInventoryGoods & Services

Product or

Service

Acquisition/Payment Process Sales/Collection Process

Nature of Business Operations

Service business Provides services for consumers.

Merchandising business Wholesale company--buys goods, adds value,

and sells them to other companies. Retail company--buys goods, adds value, and

sells them to customers who consume them.

Nature of Business Operations

Manufacturing Makes the products it sells

Financial Service Deal in services related to money

All businesses have the same goal: to add value or provide value to customers/clients.

Typically they have three processes: Acquiring goods Conversion Selling the goods or

services

What Do All Business have in Common?

The three processes in common

ACQUISITION/PAYMENT: acquiring goods and services and paying for them.

CONVERSION: the firm then does something to add value by taking inputs and converting them into outputs.

SALES/COLLECTION: selling goods and services and collecting payment for them.

The Process of Starting a Business

Owners investment (Capital) Obtain additional financing if necessary Purchase necessary assets Add Value (Conversion) Sales (generate revenue) Collect money Repay any financing

Business Activities

Business transactions are exchanges. Who “gets” what and who “gives” what in return are

separate transactions. The exchange occurs between the business entity

and usually an outside agent. The business gives something and then gets

something in return.

Resources, Events, and Agents Every business transaction is made up of three

components: Resources are the things of economic value

exchanged. Events are the actual giving and getting of the

resources. Agents are the people who actually make the

exchange.

Exhibit 1-9 Steps and Documents in the Acquisition/Payment Process

Exhibit 1-10 Steps and Documents in the Sales/Collection Process

Who needs information about transactions?

A) Management

B) Regulatory agencies

C) Canada Customs and Revenue Agency

D) Creditors

E) Potential investors

F) Vendors (current and potential)

G) Customers

H) Employees

Assets = Claims Assets = Liabilities + Owner’s Equity

Asset: economic resources owned by the business.

Liability: obligations of the business to creditors.

Equity: owner’s claims to the assets.

The Accounting Equation

Four Basic Financial Statements

Balance SheetBalance SheetAssets = Liabilities + Equity

Income StatementIncome StatementRevenues - Expenses = Net income

Statement of Retained EarningsStatement of Retained EarningsBeginning RE + Net income - Dividends = Ending RE

Cash Flow StatementCash Flow StatementCash inflow - Cash outflow = Net cash flow

Traditional Approaches: User-View Orientation

When data-modeling and IS design is too oriented toward the user’s views, problems arise: multiple information systems duplication of data restricted user-view leads to poor decision-making inability to support change

Traditional Approaches: Financial Accounting Orientation

Dominance of traditional accounting as the primary information provider leads to problems: single view of business entity using the accounting/balance

sheet model:

double-entry, debits and credits high level of aggregation ignoring non-financial data inability to serve diverse enterprise-wide needs

Assets = Liabilities + Owners’ EquityAssets = Liabilities + Owners’ Equity

The REA Approach to Business Modeling

Resources, Events, and Agents (REA) Model

Developed in the ‘70's by Dr. Bill McCarthy of Michigan State University

The definition of events is broad enough to encompass both operational and accounting transactions. Expands the scope and usefulness of AIS by making it capable of

providing both financial and nonfinancial information. Data for each event is stored in disaggregated form.

Outputs are subsequently produced by assembling the required data from the various records.

Many firms have not adopted the REA model since it is a major change from the traditional double-entry approach. The REA or events perspective is increasingly seen as necessary

to meet changing information needs.

An approach to database design meant to overcome problems with traditional approaches: formalized data modeling and design of IS use of centralized database use of relational database structure collects detailed financial and non-financial data supports accounting and non-accounting analysis supports multiple user views supports enterprise-wide planning

Resources, Events, and Agents (REA) Model …

The REA model is an alternative accounting framework for modeling an organization’s economic resources economic events economic agents, and their interrelationships

A variation of entity-relationship diagramming (ERD) is used to model these relationships.

Resources, Events, and Agents (REA) Model …

Resources in the REA Model

Economic resources are the assets of the company. able to generate revenue objects that are scarce and under the control of the

organization can be tangible or intangible

Does not include some traditional accounting assets: for example, Accounts Receivables artifacts that can be generated from other primary data

Events in the REA Model

Economic events are phenomena that effect changes in resources. a source of detailed data in the REA approach to databases

Three classes of events: operating events--what happens information events--what is recorded decision/management events--what is done as a result

Only operating events are included in the REA model.

Agents in the REA Model

Can be individuals or departments Can participate in events Can affect resources

have discretionary power to use or dispose of resources Can be inside or outside the organization

clerks production workers customers suppliers, vendors departments, teams

A variation of the entity-relationship diagramming (ERD) is used in REA modeling.

Basic ERD symbols:

entity relationship(optional)

attribute(optional)

Resources, Events, and Agents (REA) Model …

Advantages of the REA Model

Using REA can lead to more efficient operations helps managers identify non-value added activities that can

be eliminated increased productivity via elimination of non-value added

activities generates excess capacity storing both financial and nonfinancial data in the same

central database reduces multiple data collection, data storage, and maintenance

detailed financial and nonfinancial business data supports a wider range of management decisions

increased competitive advantage by providing more relevant, timely, and accurate information to managers

Value Chain Analysis

Competitive advantages from the REA approach can be see via value chain analysis. Value chain analysis distinguishes between primary

activities (create value) and support activities (assist performing primary activities).

REA provides a model for identifying and differentiating between these activities.

Prioritizing Strategy: Focus on primary activities; eliminate or outsource support activities.

Porter’s Value Chain

Revenue

Costs

Firm Infrastructure

Human resource managementTechnology development

Procurement

Inbound Logistics

OperationsOutput

LogisticsMarketing

& SalesService

Sup

port

Act

ivit

ies

Primary Activities

Margin

Phase 1Flat Files

Phase 2Event-Driven Database

Phase 3REA-ModelDatabase

Limitations:Redundant data;Anomalies

Limitations:Loss of non-economic information

Limitations:Not widely used;Requires detailed analysis

Database Applications

Database Sales Order Entry/Cash Receipts System

Database Purchases/Cash Disbursement System

Limitations of Transaction-Based

Systems Event: a single business activity within a business

process which involves resources and agents Traditional event-based database systems tend to

focus exclusively on economic events. loss of non-economic/non-financial information

REA is event-oriented versus event-based. includes non-economic and economic event information

Developing an REA Model: Overview

Before developing the REA model, identify events and classify as: Operating events--activities that produce goods and

services Information events--activities associated with recording,

maintaining, and reporting information Decision/Management events--activities that lead to

decisions being taken REA model uses only operating events.

REA Example: Horizon Books

Horizon Books is a bookstore in downtown Philadelphia. It carries an inventory of approximately 5,000 books. Customers come in and browse the shelves, select their books, and take them to one of three cashiers positioned in different parts of the store. One of the cashiers is situated at an information desk where customers can discover whether a particular book is in stock, place orders for books not currently available in the bookstore, and collect and pay for books previously ordered. The cashier at the information desk has a book database that is consulted for every query. There are no credit sales. All customers pay for their purchases at the time of purchase.

Developing an REA Model: Step 1

Identify the operating events that are to be included in the model

These are the events that support the strategic objectives of the organization and about which we need to gather information.

REA Example: Horizon Books …

Step 1: Identify operating events in Horizon Books’ sales model

Answer Query Make

Sale

ReceivePayment

Developing an REA Model: Step 2 Organize the operating events identified in

sequence of occurrence Show each event as verb-object

This facilitates arranging them in order of occurrence. Note that the verb/event is represented from the

perspective of the organization, not the customer.

REA Example: Horizon Books …

Step 2: Place operating events in sequence

Developing an REA Model: Step 3

Identify the resources and agents involved in each operating event

This is most easily done by answering who, what, and where questions about each event. Who was involved? What was involved? Where did it take place?

REA Example: Horizon Books …

Step 3: Identify resources and agents associated with events

Developing an REA Model: Step 4

Identify the links between the resources, events, and agents

Start from each event and connect it to the resources and agents that are involved in the event

Draw a line connecting events that are logically related

REA Example: Horizon Books …

Step 4: Establish Horizon Books’ sales process relationships.

Developing an REA Model: Step 5 Assign the record associations or cardinalities of all

the entity relationships Five forms of associations (minimum-maximum

cardinalities) are used when constructing the REA model: zero-to-one (0,1) zero-to-many (0,M) one-to-one (1,1) one-to-many (1,M) many-to-many (M,M)—rare

REA Example: Horizon Books …

Step 5: Completed REA model of sales process with cardinalities.

REA Model v. ERD

The two methods have a lot in common, but there are differences: ERDs are more commonly found with traditional event-based

systems. REA-modeling is used with event-oriented systems. ERDs often use diamonds to show events, while REA model

always classifies events as a type of entity. REA includes only operating events, while ERDs can capture

all three types of event. REA facilitates placement of internal controls. REA is more focused on business needs and, as a result,

often simpler.

ERD of Manufacturing

REA Model of Manufacturing, 1

REA Model of Manufacturing, 2

Developing an REA Model: Attributes and User-Views

The final step is to define the attributes associated with the entities in the model.

These are used to populate the database. Also used to create the various physical user-views

needed in daily operations: reports, documents, computer interfaces

Developing an REA Model: Attributes

Financial Customer name Customer address Customer telephone numberAmount owed by customerValue of total sales to dateTerms of trade offered

NonfinancialCustomer credit ratingDamaged goods recordOn-time payment recordCustomer volume recordEDI accessInternet access

Using the customer as an example, these data include:

Developing an REA Model: User-Views

User-View #1

Past Due AccountsName AmountJames $500.00Henry $100.00 … …

Sales Report

User-View #2

REA Database