CAPEX: what it is and what it includes in a renewable energy project
CAPEX, which stands for Capital Expenditure, refers to the money a company allocates to acquiring, constructing, expanding, replacing or upgrading assets that will generate value over the long term. The concept is used in virtually all economic sectors: industry, telecommunications, transport, construction, technology, mining, property and, most notably, the energy sector.
CAPEX is therefore not a term exclusive to renewable energy. CAPEX may be involved in the construction of a solar photovoltaic plant, a wind farm, a nuclear power station, a combined-cycle power station, an electricity grid, a gas terminal, hydrogen infrastructure, a substation or a battery storage system.
From a financial perspective, CAPEX is particularly important because it determines how much capital must be committed before an asset can begin to generate revenue, savings or economic benefits. In infrastructure-intensive projects, an accurate estimate of total CAPEX is essential for analysing profitability, structuring financing and deciding whether an investment should go ahead.
In accounting, the difference between a capital expenditure and an operating expenditure does not depend solely on how much money is spent. According to the IAS 16 standard from the IFRS Foundation, an item of property, plant or equipment may be recognised as an asset when it is likely to generate future economic benefits and its cost can be measured reliably.
What is CAPEX and when is it used?
CAPEX is used to identify investments in assets that will remain with the company for more than one period and will contribute to the development of its future operations. Rather than necessarily recognising the entire outlay as an operating expense in the period in which it occurs, the asset is recognised on the balance sheet and its cost may be allocated for accounting purposes over its useful life through depreciation or amortisation, as appropriate. An outlay is generally classified as CAPEX when it enables:
- Acquiring a new asset: the purchase of machinery, transformers, wind turbines, photovoltaic modules, batteries, buildings or land, where such items qualify for recognition as assets.
- Building new infrastructure: the development of a power station, substation, transmission line, industrial facility or data centre.
- Expanding capacity: the addition of new equipment to increase the power, output or available capacity of an existing facility.
- Replacement of relevant components: the replacement of specific assets or significant parts where the work meets the criteria for capitalisation.
- Upgrading an asset: investments that increase its capacity, performance, efficiency, functionality or economic life.
In the energy sector, CAPEX begins to take on significance from the earliest stages of development. Before taking a Final Investment Decision (FID), project developers and investors need to know with sufficient accuracy how much capital will be required until the project becomes operational. The International Energy Agency uses capital expenditure specifically as a benchmark for measuring energy investment. In its investment methodology, the IEA It distinguishes between capital allocated to assets and other items such as operating and maintenance costs, R&D, finance costs and mergers and acquisitions.
What types of CAPEX are there?
Maintenance CAPEX or maintenance capital expenditure
Maintenance CAPEX is the investment required to maintain the production capacity, reliability or useful life of an existing asset. It should not be confused with routine operational maintenance. For example, the replacement of a main transformer, a major repowering of equipment or the replacement of a long-life component may constitute CAPEX if they meet the relevant accounting criteria. Their primary objective is not necessarily to increase the asset’s capacity, but rather to prevent it from losing functionality or to extend its economic life.
Growth CAPEX or growth capital expenditure
Growth CAPEX is used to expand the business or increase its future capacity. It may include the construction of new plants, the expansion of existing facilities, new production lines or the addition of further capacity. In an energy company, building a new 500 MW wind farm, expanding a distribution network or adding storage capacity to an existing plant would be examples of growth-oriented investments.
Expansion CAPEX
Expansion CAPEX is generally regarded as a form of growth CAPEX and refers specifically to investments aimed at increasing the capacity of existing infrastructure. For example, expanding a substation, increasing the capacity of a power station or installing new storage systems may require additional CAPEX without the need to develop a completely new asset.
Replacement CAPEX
Replacement CAPEX relates to the replacement of key assets that have reached the end of their useful life, are technologically obsolete, or need to be replaced to maintain the facility’s operation. This category is particularly important for energy assets with operational lifespans of several decades, where certain components may require one or more major replacements before the facility is permanently decommissioned.
What does the CAPEX for an energy project include?
The breakdown of a energy project’s CAPEX varies significantly depending on the technology. A photovoltaic plant does not have the same structure as a nuclear power station, an electricity grid or a BESS project. However, a capital expenditure budget may include the following categories:
- Key equipment: photovoltaic modules, inverters, wind turbines, turbines, generators, batteries, PCS, electrolysers, transformers or other key equipment.
- Balance of Plant or Balance of System: ancillary components required to integrate and operate the main technology.
- Civil engineering works: site preparation, foundations, buildings, access routes, drainage and structures.
- Electrical infrastructure: cabling, transformers, substations, transmission lines, protection systems and control systems.
- Grid connection: investments required to connect the asset to the electricity grid.
- Engineering, procurement and construction: costs associated with project delivery and the contract EPC (Engineering, Procurement and Construction).
- Development: certain costs relating to engineering, studies, permits, land and preliminary activities which may form part of the capitalisable cost in accordance with the regulations and structure of the project.
- Contingencies: budgetary provisions intended to cover certain risks or deviations during development and construction.
- Start-up: testing, commissioning, energisation and the activities required to prepare the asset for operation.
In complex projects, it is also common to distinguish between ‘overnight’ CAPEX and total financed cost. The former aims to represent approximately how much it would cost to build the asset without taking into account the effect of the construction period and certain financial costs, whilst the latter may incorporate other effects associated with the project’s financing and timetable. This distinction can be particularly relevant in infrastructure projects with long construction periods, where the cost of capital during development can have a significant impact on the final investment.
CAPEX vs OPEX: what’s the difference?
The difference between CAPEX and OPEX is crucial to correctly interpreting the costs of a company or project. OPEX, which stands for Operating Expenditure, refers to the costs associated with the day-to-day running of an asset or business. CAPEX, on the other hand, relates to the acquisition, construction or improvement of assets that will be of use over several periods.
| Concept | CAPEX | OPEX |
|---|---|---|
| Nature | Investment in assets | Operating expenditure |
| Temporality | Medium and long term | Day-to-day operations |
| General treatment | It is recognised as an asset when it meets the applicable criteria | It is normally recognised as an expense for the period |
| Examples relating to energy | Power station, turbine, battery, substation, expansion | Operation, routine maintenance, services and consumables |
This distinction means that not all maintenance is OPEX, and not every action taken on an existing asset is automatically CAPEX. For example, a routine inspection or a routine repair is usually classified as OPEX. However, the replacement of a significant component that meets the criteria for recognition as an asset may be treated as CAPEX.
IAS 16 also stipulates that the costs of day-to-day maintenance of an item of property, plant and equipment are not normally capitalised in the value of the asset. However, certain replacements or major inspections may be recognised as part of the asset where they meet the specified criteria. In a power station, recurring activities such as O&M (Operations and Maintenance) usually account for a significant proportion of OPEX, whilst certain major replacements or expansions may form part of CAPEX.
When should an expense not be classified as CAPEX?
Not all expenditure incurred by a company constitutes CAPEX. Nor does the fact that an item of expenditure is substantial automatically mean that it should be capitalised. Generally speaking, expenditure relating to ordinary business activities that does not create or improve a long-term asset is not usually included in CAPEX. Among the most common examples are:
- Routine maintenance: inspections, cleaning, lubrication and periodic tasks designed to ensure the equipment continues to operate as normal.
- Routine maintenance: inspections, cleaning, lubrication and periodic tasks designed to ensure the equipment continues to operate as normal.
- Consumables: materials used in the course of ordinary business.
- Operational services: surveillance, monitoring, certain types of insurance, management or recurring services.
- Routine administrative expenses: costs arising from the organisation’s day-to-day operations.
The final classification must be carried out in accordance with the applicable accounting standards and the specific characteristics of each investment. Therefore, the decision between CAPEX and OPEX should not be used solely as a tool to artificially improve certain financial indicators.
When is it worth making a CAPEX investment?
From an investment perspective, the key question is not merely how much CAPEX a project requires, but what value that capital generates over the asset’s lifetime. A project with high CAPEX may be economically superior to another that appears cheaper if it generates higher revenues, has a longer useful life, incurs lower operating costs or significantly reduces certain risks. To analyse whether a CAPEX investment is worthwhile, financial metrics such as NPV (Net Present Value), IRR (Internal Rate of Return), payback period, WACC and LCOE.
In simple terms, a CAPEX investment is financially attractive when the future profits, revenue or savings – adjusted for risk – justify the capital committed. However, there are investments that must be made even if their direct return on investment is difficult to quantify. A network operator may need to invest in a substation to ensure security of supply; a power station may require additional systems to meet regulatory requirements; and an industrial facility may undertake CAPEX to improve safety or reduce operational risks. Therefore, the analysis should not be limited to direct financial returns. There may also be benefits relating to availability, safety, regulatory compliance, emissions reduction, service life, resilience or the reduction of operational risk.
The energy sector is particularly capital-intensive because a large proportion of the technologies require significant investment before they start to generate revenue. La magnitud económica del CAPEX energético es considerable. La International Energy Agency estimated that global energy investment would reach approximately 3.3 trillion dollars by 2025, including investment in electricity generation, grids, storage, fuels and other energy infrastructure.
In Europe, the need for capital is also particularly high. The European Commission estimates that the investment in the energy sector required to meet European targets will need to reach approximately 660,000 million euros per year between 2026 and 2030. Consequently, the CAPEX estimate is one of the key variables during the development, the bankability, the financing and final investment decision for virtually any energy infrastructure project.