Capital Expenditure vs Revenue Expenditure -- key differences

Every company must spend a part of its cash reserves, profits, or borrowed funds to provide products and services to customers or expand its operations. These expenses can be divided into two main categories based on their duration – capital expenditure and revenue expenditure. 

What is capital expenditure? 

Capital expenditures, also known as capex, are expenditures a company makes with the purpose of acquiring, maintaining, or upgrading long-term assets. Such expenditures do not occur frequently and usually require the mobilisation of a large fund due to the size of the expenses. 

Some examples of capital expenditure include the purchase of machinery, plots of land, office spaces, or other tangible assets. Any costs the company incurs on the acquisition of intangible assets such as patents, trademarks, or licenses are also considered capital expenditures. 

Capital expenditures typically have a significant impact on a company’s short-term finances and can lead to a higher debt. However, in the long term, such expenditures help a company boost its revenue and profits. 

How to calculate capital expenditure 

You can calculate the capex as follows:

Capital expenditure (capex) = Net increase in value of property, plant, and equipment + depreciation expense 

You can find the capital expenditure made by a company during a year in its yearly balance sheet under the heading of fixed assets. Depreciation refers to a decrease in the value of assets over time due to wear and tear. It is deducted every year and erodes the value of assets over time. 

Types of capital expenditures

Typically, you can divide capital expenditure into two categories: 

Maintenance capex 

These are expenses that are necessary to maintain the current pace of growth. This includes expenses on regular repairs and upgradation of machinery and equipment. 

Growth Capex

These are expenses that help the company boost its earnings. It includes expenses a company incurs in setting up a new plant or opening branches in new cities or markets. 

These expenses can help a company cut down its costs. For instance, buying a new technology that delivers more output using the same amount of raw material, or a more fuel-efficient machine. 

What is revenue expenditure? 

Revenue expenditures, also called operational expenses, or opex, refer to expenses that a company incurs to maintain its day-to-day business operations. Revenue expenditures are short-term in nature. Typically, these expenses do not result in any asset creation for a company or provide any economic gains in the long term. But they are vital for its existence nonetheless. Revenue expenditures are recurring in nature, meaning that it is spent several times during a set period.   

Some examples of revenue expenditures include rent, salaries, commission, freight charges, fees, cab expenses, and fuel, among others. According to the nature of business, revenue expenditures can be different for different types of companies. However, their purpose is the same – to help a company run its operations efficiently.   

You can find a company's revenue expenditure in its profit and loss statement under the heading called expenses.  As these expenses do not lead to the creation of any asset, they are not recorded in a company’s balance sheet. Moreover, there is no depreciation cost levied on these expenses. 

How to calculate revenue expenditure

You can calculate the Opex as follows: 

Operating Expense= Revenue – Operating Income – Cost Of Goods Sold.

Types of revenue expenditures

There are two main types of revenue expenditures: 

Direct expenses

These are the expenses a company incurs in the process of producing a product. For example, the purchase of raw materials, the payment of factory worker salaries, the payment of legal fees, the cost of power, and so on, are direct expenses.

Indirect expenses

A company typically incurs these expenses after manufacturing a product or once it is ready for delivery. These may include freight charges, tolls, custom duty, taxes, and so on. 

FAQs 

Q. How are capex and opex treated for tax purposes in India?

In general, capex is treated as a capital expense and may be eligible for depreciation and tax benefits over time. Opex, being a regular operating cost, is typically deductible as a business expense in the year it is incurred, reducing taxable income.

Q. Why is it important to distinguish between capex and opex?

Distinguishing between capex and opex is crucial for financial planning and decision-making. Capex represents long-term investments impacting future growth, while opex affects day-to-day expenses. Understanding this difference helps in budgeting, forecasting, and optimising financial resources. 

Q. Why is monitoring opex important for businesses?

Monitoring opex is important for businesses as it allows for effective cost management, budgeting, and financial planning. By understanding and controlling operating expenses, businesses can optimise their profitability, allocate resources efficiently, and make informed decisions to enhance their financial performance.