the distinction between capital expenditure and revenue expenditure

Cambridge International AS & A Level Business (9609) – Overview & Key Topics

1. Business & Its Environment

1.1 Enterprise & Business Types

• Economic Sectors: Primary, Secondary, Tertiary, Quaternary.
• Ownership Forms: sole trader, partnership, private limited company (Ltd), public limited company (PLC), franchise, cooperative, joint venture, multinational, social enterprise.

1.2 Business Structure (Ownership & Sector)

1.3 Business Objectives

• Profit maximisation
• Growth (market share, sales, product range)
• Survival & stability
• Corporate social responsibility (CSR) & sustainability
• Quality, innovation, and employee welfare

1.4 Stakeholders

• Owners / shareholders
• Managers & employees
• Customers & clients
• Suppliers & creditors
• Government & regulators
• Local community & NGOs

1.5 External Influences (PESTEL)

• Political: tax policy, trade restrictions, stability.
• Economic: inflation, exchange rates, interest rates, economic growth.
• Social: demographics, lifestyle changes, education levels.
• Technological: innovation, automation, R&D intensity.
• Environmental: climate change, resource scarcity, waste legislation.
• Legal: employment law, health & safety, consumer protection.

1.6 Strategic Analysis Tools

• SWOT (Strengths, Weaknesses, Opportunities, Threats)
• Porter’s Five Forces (industry competition)
• Ansoff Matrix (growth strategies)
• BCG Growth‑Share Matrix (portfolio analysis)

2. Human Resource Management (HRM) – AS Level

• Purpose of HRM: attract, develop, motivate and retain people.
• Workforce Planning: forecasting demand & supply; internal vs. external recruitment.
• Motivation Theories: Maslow’s hierarchy, Herzberg’s two‑factor, Taylorism, McGregor’s Theory X/Y.
• Leadership & Management Styles: autocratic, democratic, laissez‑faire; transformational vs. transactional.
• Training & Development: on‑the‑job, off‑the‑job, e‑learning, appraisal systems.
• Industrial Relations: trade unions, collective bargaining, grievance procedures.

3. Marketing – AS Level

• Marketing Mix (4 P’s): Product, Price, Place, Promotion.
• Market Research: primary vs. secondary data; qualitative & quantitative techniques.
• Segmentation, Targeting & Positioning (STP).
• Product Life‑Cycle (PLC): introduction, growth, maturity, decline – implications for pricing & promotion.
• Pricing Strategies: cost‑plus, penetration, skimming, psychological, dynamic.
• Promotion Tools: advertising, sales promotion, public relations, direct marketing, digital/social media.

4. Operations Management – AS Level

• Transformation Process: inputs → process → outputs.
• Production Methods: job, batch, flow, mass, project.
• Capacity Utilisation & Efficiency: break‑even capacity, economies of scale, diseconomies of scale.
• Inventory Management: Economic Order Quantity (EOQ), safety stock, Just‑In‑Time (JIT), ABC analysis.
• Quality Management: Total Quality Management (TQM), ISO standards, Six Sigma, quality circles.
• Outsourcing & Offshoring: advantages, risks and strategic considerations.

5. Finance & Accounting – AS Level

5.1 Working Capital

Working capital = Current Assets – Current Liabilities. It measures a firm’s short‑term liquidity and its ability to meet day‑to‑day obligations.

5.2 Sources of Finance

• Short‑term: overdraft, trade credit, factoring, commercial paper.
• Long‑term: equity (share issue, retained earnings), debt (term loan, debentures, lease finance), venture capital.

5.3 Cash‑Flow Forecasting

• Project cash inflows and outflows for a 12‑month period.
• Identify cash surpluses/deficits and plan financing or investment accordingly.

5.4 Costing & Break‑Even Analysis

• Fixed Costs (e.g., rent, salaries) vs Variable Costs (e.g., raw material, direct labour).
• Break‑Even Point (units) = Fixed Costs ÷ (Selling Price – Variable Cost per unit).
• Margin of Safety = (Actual/Projected Sales – Break‑Even Sales) ÷ Actual/Projected Sales × 100%.

5.5 Budgeting & Variance Analysis

• Prepare flexible budgets, compare with actual results, calculate favourable/unfavourable variances.

5.6 Capital Expenditure vs Revenue Expenditure

Key Definitions

• Capital Expenditure (CapEx): Outlays that create or enhance assets providing economic benefits for more than one accounting period. Recorded as non‑current assets on the balance sheet and depreciated (or amortised) over their useful life.
• Revenue Expenditure (RevEx): Outlays incurred in the normal course of business that generate benefits within the current accounting period. Recorded as expenses on the income statement and deducted from profit immediately.

Comparison Table

Illustrative Examples

1. New Production Line – £500,000 – Capital expenditure. Expected to be used for 10 years; depreciated over its estimated useful life.
2. Three‑Month Marketing Campaign – £20,000 – Revenue expenditure. Benefit realised within the current period; fully expensed.
3. Repair of a Broken Machine – £5,000 – Revenue expenditure because it restores the asset to its original condition without extending its life.
4. Installation of a New Roof – £80,000 – Capital expenditure as it extends the building’s useful life; capitalised and depreciated.
5. Purchase of Office Software (3‑year licence) – £12,000 – Capitalised (software licence) and amortised over three years.
6. Monthly Utility Bills – £3,000 – Revenue expenditure; recorded as an expense each month.

Decision‑Making Flowchart (Textual)

1. Does the outlay create a new asset or increase the future economic benefits of an existing asset?
   
   • Yes → Capital expenditure.
   • No → Go to step 2.
2. Will the benefit from the expenditure extend beyond the current accounting period?
   
   • Yes → Capital expenditure (subject to materiality).
   • No → Revenue expenditure.
3. Is the cost incurred to maintain the asset in its present operating condition?
   
   • Yes → Revenue expenditure.
   • No → Consider if it is a major improvement → Capital expenditure.

Why Correct Classification Matters

• Profit Measurement: Mis‑classifying CapEx as RevEx inflates expenses and understates profit; the opposite distorts profit upward.
• Tax Implications: Revenue costs are deductible in the year incurred, whereas capital costs are deducted through depreciation allowances.
• Financial Ratios:
  • Return on Assets (ROA) – affected by the asset base.
  • Current Ratio – impacted by changes in working capital.
  • Debt‑to‑Equity – financing of CapEx may increase long‑term debt.
• Budgeting & Control: Accurate classification aids in preparing capital budgets (investment appraisal) and operating budgets (cost control).

6. Finance & Accounting – A Level Extension

• Financial Statements: Income statement, statement of financial position, cash‑flow statement – purpose and inter‑relationships.
• Ratio Analysis: profitability, liquidity, efficiency, solvency ratios; interpretation for decision‑making.
• Investment Appraisal Techniques:
  • Payback period
  • Accounting Rate of Return (ARR)
  • Net Present Value (NPV)
  • Internal Rate of Return (IRR)
• Strategic Use of Accounting Data: budgeting, performance measurement, cost‑volume‑profit (CVP) analysis, variance analysis.
• Ethical & Regulatory Framework: IFRS vs. UK GAAP, corporate governance, sustainability reporting.

7. Summary of Capital vs Revenue Expenditure

• Capital expenditure creates or enhances long‑term assets; recorded on the balance sheet and depreciated/amortised.
• Revenue expenditure sustains day‑to‑day operations; recorded as an expense and deducted from profit immediately.
• Correct classification influences profit, tax, financial ratios, working‑capital calculations and strategic decision‑making.
• Use the decision‑making checklist (benefit period, asset creation/improvement, future cash recovery) to classify any outlay accurately.