Capital expenditure are refered to as funds that are spent by an organization for acquiring or installing long-term assets to generate long term benefits.
This usually occurs when a firm wants to raise its operational capacities through investing in land, structures, machines, motors or any technology.
That does not seem to compare well with the running cost a company makes. It happens over time to ensure large money investment ensures the organization rises to growth and then attains a sustainable profitability threshold.
CAPEX takes the form of capital entries on the asset side of the balance sheet. They are capitalized, meaning they are invested in rather than expensed.
These assets over time deteriorate and the depreciating value of those assets is expensed in the income statement.
Examples include equipment, real estate, intangibles such as patents and trademarks. Capital Expenditure is crucial for boosting a company’s efficiency and expansion, impacting both short-term and long-term financial health of the company.
Formula to calculate CAPEX is:
Capital Expenditure = change in Property, Plant & Equipment (PP&E) + Depreciation Expense
Revenue expenses (OPEX) are the cost incurred to run a business, like employees’ salaries, rent, electricity, gas, insurance, stationery, and taxes.
The costs are essential to carry out the business but do not increase long-term assets or decrease liability. Generally, revenue expenses are short-term, where benefits realized fall within the current accounting period.
Common examples of revenue expenditure include rent, salaries, utilities, freight charges, and commissions.
These costs are very important for the running of the business but they are not productive costs since they do not enhance a company’s ability to generate profits over the long run.
They normally should not be capitalized or depreciated since they do not lead to creation of assets as capital expenditure does.
In accounting, revenue expenditure goes to the Income Statement for a given period and is not stated in the Balance Sheet.
They can qualify for tax relief or deduction due to their periodic nature. The classification of expense as revenue expenditure depends on the business entity, its nature of operation, and the activities being carried out.
Thus revenue expenditure directly does not boost a company’s asset, it is very important in that it creates a way through which the firm can muster its revenue in the short run.
Difference between the two is as follows
1. Time Span
Capital Expenditure is usually spent for the long term since investments over assets are going to benefit over many years. This type of expenditure is centered towards acquiring future growth, expansion, or improving operations.
However, Revenue Expenditure by nature is short-term in its measurement and spans only one accounting period. These expenses are necessarily made periodically so as to keep current operations functioning and they do not reduce the long term growth prospects of the business.
2. In Accounting Books
Capital Expenditure is shown on the company’s Balance Sheet as a fixed asset because it is a long-term benefit and also on the cash flow statement under investing activities because it explains cash outflows meant to enhance the asset base of the company.
Revenue Expenditure is recorded on the Income Statement as a running cost of the business. It does not appear on the Balance Sheet and is deducted from revenue to calculate the net profit or loss of the company for a period.
3. Purpose
Capital Expenditure increases a firm’s potential earnings since it works towards improving the firm’s capacity or productivity. A manufacturing company may, for example, be able to manufacture goods more effectively if a new machine were purchased to improve earning potential.
Revenue Expenditure is more of keeping profits rather than increasing them directly. These costs help companies to run their day to day activities without increasing their asset base and run smooth operations.
4. Yield
Capital Expenditure generates benefits that are for long-term benefits. For instance, if an organization buys new technology, the payback for increased efficiency or productivity may well be over years with its payoff spread out over a longer time period.
Revenue Expenditure usually results in benefits in the current accounting period. Since it usually involves costs of recurring nature and related to operations, these benefits of OpEx are immediate in nature and mostly confined to the same period of their incidence.
5. Occurrence
Capital Expenditure is a nonrecurring expense that arises only when there is a need for major investment in fixed assets.
Thus, it happens only on strategic requirements such as expansion projects or major upgrades, and not on the day-to-day needs.
Revenue Expenditure is cyclical and is thus incurred at set intervals. The operational costs, for example, include utility bills and wages to run a business on a day-to-day basis and are repetitive every accounting period.
6. Capitalization of Expenses
Capital Expenditure is capitalized. This means that the cost is not entirely expensed in the year it is incurred but expensed over time with an asset’s useful life through depreciation, which provides a better matching of the cost of the asset with that of revenue from the asset for a clearer picture of profitability.
Revenue Expenditure is not capitalized. This line is wholly expensed in the year it takes place and directly impacts the profitability of the company for that period.
7. Treatment of Depreciation
Capital Expenditure assets are also depreciated over their useful life. For example, if a company purchased a building, it would expense a portion of the cost of the building each year over the expected lifespan of the building.
Revenue Expenditure does not involve depreciation since these are costs directly consumed within the accounting period. For instance, salaries and rent are expenses for immediate consumption and are fully recognized in the Income Statement.
Conclusion
Capital and revenue expenses are different parts of a company’s financial architecture. Capital Expenditure focuses on the long-term capacity building and growth of the company.
These expenditures add to the company’s assets that yield profits for a number of years after they are purchased.
Revenue Expenditure is required for the running of day-to-day activities; it gives instant gains without increasing the asset base of the company.
Managing growth and efficiency is critical in ensuring that companies need to understand the difference between growth and operational efficiency, therefore ensuring efficient allocation of resources and hence creating a healthy cash inflow with increased long-term profitability.