Question

Distinguish between Capital Expenditure and Revenue Expenditure.

Distinguish clearly between capital expenditure and revenue expenditure.

Explain the major factors that you would take into consideration in allocation expenditure between capital and revenue.

Answer 1

Capital Expenditure: Capital expenditure is the sum that a business spends to acquire long-term capital assets, enhance their functionality, prolong their lifespan, produce cash flows, or lower production costs. Large expenditures are capitalised and distributed throughout the asset's useful life.
Capital expenditure refers to investments made for immediate and long-term economic benefits. The entity makes a long-term investment in assets to generate financial return for future years. For instance, purchasing or installing equipment can enhance the productivity and lifespan of machinery.

Revenue Expenditure: Revenue Expenditure refers to regular expenses incurred for commercial operations, such as stock purchases, carriage, and freight. Accrual accounting assumes that revenues are recognised when earned, and expenses are recognised when incurred. Revenue expenditures are charged to the Income Statement as they occur. This aligns with the Matching Principle, which states that expenses should be reported in the same month they occur.

Differences Between Capital Expenditure and Revenue Expenditure: 

The following are the main differences between capital and revenue expenditures:

1. Nature: Capital expenditure is non-recurring in nature. Revenue expenditure is recurring in nature.
2. Purpose: Capital spending is used to acquire permanent assets or improve their current capabilities. The organization's revenue expenditure covers day-to-day operations and fixed asset maintenance.
3. Benefit: Capital expenditure yields long-term benefits. Revenue spending provides benefits for a maximum of one year.
4. Earning: Capital spending serves to increase the business's earning capacity. Revenue spending contributes to the earning capacity of the business.
5. Treatment: Capital expenditure is reported on the asset side of the balance sheet. Revenue spending is reported on the debit side of the trading and profit and loss accounts.
6. Effects on Assets: Capital expenditure increases the value of fixed assets. However, revenue expenditure does not cause an increase in the value of these assets.