February 26th, 2019 • Capex Management
Capital expenditure (or CapEx) refers to the funds used by a business to acquire, maintain, and upgrade fixed assets. These might include Plants, Property, and Equipment (PP&E) like buildings, machinery, and office infrastructure. These are usually long-term assets that have a useful life or a productive purpose lasting longer than one accounting period.
When a business incurs expenses to generate profit in the future, it’s most likely that they are capital expenses. Asset purchases may either be a new one or something that improves the productive life of a previously existing asset.
A revenue expenditure (or Income Statement Expenditure) refers to expenses that are charged to expense accounts as soon as they’re incurred on a day-to-day basis. They are matched against the revenues in that same time period and deducted from those revenues.
In other words, these are the costs related to assets that are not capitalized because they do not provide benefits extending beyond the current year. They are incurred because of an asset, but don’t provide additional value or extend the useful life of the asset.
Capex approval processes are not fully deducted during the accounting period they were incurred in, but rather depreciated to spread this cost over the useful life of the asset. Every year, a part of the asset is “used up”.
Capital expenses are recorded as assets on the Balance Sheet under the “property, plant & equipment” section. On the cash flow statement, it’s recorded under “investing activities”. In the case of the Income Statement, the costs are charged to the expense account as depreciation.
For example, your company purchases machinery worth $40,000 and the life of the asset is ten years. As the machine ages, its value starts depreciating by 10 percent a year. At the end of each accounting year, the reduced value is reflected by the depreciation expense in the financial statement.
Revenue expenditures are matched against revenues each month, it is not reflected on the balance sheet the way a capital expenditure is. They’re listed on the Income Statement to calculate the net profit of any accounting period. They can be fully deducted when computing taxes.
When your company purchases a storage area, it’s recorded as a capital asset in the balance sheet. All the painting and refurbishing do not add to the revenue-generating capacity of the asset.
So, it’s recorded in the P/L statement as a revenue expense. Now, if you add a few more units to the storage area, it would be considered CapEx as it provides additional value to the asset.
No matter whether you are dealing with capital expenditures or revenue expenditures, you can build an automated workflow around it. CapEx workflows often require additional approvals which you can auto-assign based on the department and amount of expense. Revenue expenditures typically require fewer approvals, but still need to be handled in a streamlined way.
Businesses need to decide what model each expense would fall into, fully knowing the trade-offs. Sometimes the answer is quite obvious, while the line between the two is blurred in some cases. Classifying the expenses properly will save you a lot of trouble during tax time, while showing a strong financial statement.