What is Capital Outlay?
What are some examples of capital outlays?
What are the essential elements you should know!
In this article, we will break down the definition of Capital Outlay so you know all there is to know about it!
Keep reading as we have gathered exactly the information that you need!
Let’s dig into our business, accounting, and financial dictionary!
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What Is Capital Outlay
Capital outlay (or capital expenditure) is the amount of money spent to purchase, maintain and repair a capital asset.
Capital assets can include assets like land, equipment, plant, fixed assets, or machinery (among other things).
These are assets that a company generally does not need to purchase on a recurring basis.
Properly managed businesses know how important it is to manage their capital outlays (called capital budgeting).
For companies to remain competitive in the market and scale, they need to purchase assets allowing them to achieve their corporate mission.
Investing in new assets or materially improving already owned to extend their useful life is crucial for the long-term viability of a business.
For example, a manufacturing company must invest in manufacturing plants and equipment, it must ensure that it purchases new equipment as technologies evolve, and processes become more optimized.
A manufacturing company’s overall success is closely tied to the equipment and machinery it uses and how these machines are maintained or replaced over the years.
From an accounting perspective, capital outlays do not affect the net balance on a company’s balance sheet.
For example, if a company invests $200,000 in purchasing a facility, the $200,000 was initially recorded as “cash” on its balance sheet and now it is replaced by “capital asset”.
Even though $200,000 was spent on purchasing the capital asset, the overall impact on the company is neutral as the capital outlay is not an expense.
Another important aspect to consider is that the expense is not treated as a full and immediate expense for the company.
Instead, the company will gradually report the expense on its financial statements over the useful life of the asset for which the capital expenditure was made.
Capital budgeting is the process of financially planning for spending money towards the purchase of new equipment, assets, buildings, or other assets to keep the company operating efficiently.
Accountants and the finance guys in companies will generally look at forecasting:
- How much is the capital budgeting need for “maintaining” the business in its steady-state
- How much is the capital budgeting requirement to grow and scale the business
Define Capital Outlay
What is the capital outlay definition?
Capital outlay or capital outlay expenditures can be defined as an expenditure, cash outlay, or acquisition cost of capital assets.
It can also mean cash outlays to improve capital assets that help increase their market value or improve their useful life.
Type of Capital Outlay
Purchase of Capital Assets
When you refer to capital outlay, you should understand the fundamental purpose for which cash was spent.
Did you “invest” or did you incur “ongoing expenses”?
When a company invests in purchasing new assets, equipment, building, property, or machinery, the net outlay is considered a capital outlay on its balance sheet.
Let’s look at the difference between investment vs. maintenance.
When you record a net outlay as a “capital” outlay, you are “investing” in something.
For example, if you operate a trucking business, purchasing a truck is an investment in a capital asset.
As a result, you have a capital outlay.
On the other hand, if you regular and ongoing oil change, your expense is a “maintenance” expense and not a capital one.
When an asset is capitalized, it means that you are acquiring or investing in a new capital asset or materially improving an asset you already have (or increase its useful life).
Extending Capital Asset Useful Life
Another type of expenditure or cost outlay that will be capitalized is an investment to improve and enhance the useful life of fixed assets or equipment already owned by a company.
If the incurs an expense to improve the production capacity of its existing equipment or improve the total useful life of the equipment, that expense is a capitalized outlay.
For example, a company operating delivery trucks may replace one of its truck’s engines, allowing it to be used for another seven years.
That’s a material improvement of its delivery vehicle and will be recorded as capital outlay as the expenditure improves the useful life of its truck.
Capital Outlay Funds
Capital outlay funds are monies set aside by a company to invest towards the purchase of new capital assets or the improvement of existing ones.
Let’s take a company in the airline industry.
For a company to operate, it must purchase aircrafts and operate a fleet.
Once the aircrafts are purchased, through adequate capital budgeting, the company may choose to set aside a certain amount of money towards its capital outlay fund in anticipation of the possible investment in its fleet (to increase the useful life of its planes) or purchase of new aircrafts.
If the company invests in a new engine for its aircraft, that’s a capital expenditure as it allows the plane to be used for much longer.
Capital Outlay Examples
What are some examples of capital outlay?
Here are some examples to better illustrate the point:
- Site improvement
- Building construction
- Building maintenance
- Purchase of fixed assets
- Retrofitting of a building
- Purchase of equipment
- Purchase of machines
- Purchase of facilities
- Purchase of furniture
- Purchase of software
Advantages and Disadvantages
What are the advantages and disadvantages of capital outlays?
Let’s do a summary overview.
Here are the advantages of capital outlay:
- Allows companies to plan their growth strategically
- Enables companies to increase and improve their production or building capacity
- By acquiring better assets, companies can improve their profitability by reducing costs of production
- With the right equipment and properly functioning assets, companies can produce faster and with better quality
Here are the disadvantages of capital outlay:
- Companies must have a proper plan before incurring important capital expenditures
- If not properly planned, the company may suffer undesirable cash drainage
- A company could have outsourced a certain aspect of its operations instead of directly investing in the needed equipment or facilities
- Rapid changes in market conditions and pricing may result in adverse consequences to the company
So what is the definition of Capital Outlay?
What does capital outlay mean?
Let’s look at a summary of our findings.
Capital Outlay Meaning:
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Cash flow matching
Paid in capital