What Is an Operating Expense (OpEx)?
An operating expense (OpEx) is a cost a business incurs in the ordinary course of running day‑to‑day operations to generate revenue. Typical OpEx items include rent, wages, utilities, marketing, routine maintenance, insurance and office supplies. OpEx contrasts with capital expenditures (CapEx), which are investments in assets that provide benefit over multiple periods (e.g., equipment, buildings).
Key takeaways
– OpEx are recurring costs tied to normal operations; CapEx are longer‑term investments in assets.
– Operating expenses can be fixed (rent, insurance) or variable (sales commissions, shipping).
– OpEx typically appear on the income statement and are generally tax‑deductible when ordinary and necessary.
– Non‑operating expenses (interest expense, losses on asset sales) are unrelated to core operations and are shown separately.
– Managing OpEx well helps improve profitability, cash flow and competitiveness.
Understanding operating expenses
What counts as operating activity
Operational activities are the routine tasks required to produce and sell goods or services: manufacturing or service delivery, sales and marketing, customer support, order processing, and administrative functions. Costs directly associated with those activities are normally treated as operating expenses.
Common types of operating expenses
– Selling, general & administrative (SG&A): salaries for non‑production staff, office rent, utilities, advertising, travel.
– Research & development (R&D) (for many companies treated as OpEx).
– Routine repairs and maintenance.
– Insurance, licenses, subscriptions and software-as-a-service (SaaS) operating fees.
– Depreciation and amortization (non‑cash operating items reflecting allocated cost of capital assets).
How operating expenses appear on financial statements
On the income statement you’ll typically see:
Revenue
− Cost of goods sold (COGS)
= Gross profit
− Operating expenses (SG&A, R&D, depreciation)
= Operating income (also called EBIT)
Non‑operating items (interest, gains/losses)
= Pre‑tax income
Taxes
= Net income
Fixed and variable costs
– Fixed operating costs: do not change with production/sales in the short run (e.g., rent, salaried admin payroll, insurance).
– Variable operating costs: move with volume (e.g., sales commissions, direct shipping, piece‑rate labor, costs of certain supplies).
Classifying costs helps forecasting, break‑even analysis and decisions about scaling production.
Operating vs. non‑operating expenses
– Operating expenses: incurred from core business activities (sales, admin, production support).
– Non‑operating expenses: unrelated to everyday operations (interest expense, losses on asset disposals, certain one‑time charges).
Analysts often remove non‑operating items to evaluate operational performance (for example, using EBIT or EBITDA).
OpEx vs CapEx
– OpEx: recurring expenses recorded on the income statement in the period incurred and, if ordinary and necessary, generally deductible for tax purposes.
– CapEx: expenditures to acquire or improve long‑lived assets (property, plant, equipment, certain intangible assets). CapEx is capitalized on the balance sheet and expensed over time via depreciation or amortization per tax and accounting rules.
Tax treatment (summary; consult a tax advisor)
– In the U.S., the IRS generally allows deduction of ordinary and necessary operating expenses in the year incurred (see IRS Publication 535).
– Capital expenditures must be capitalized and recovered over multiple years according to depreciation/amortization rules and IRS guidelines.
– The line between OpEx and CapEx can sometimes be ambiguous (e.g., major software purchases, large repairs vs improvements); follow applicable tax/accounting guidance and document the business purpose.
Practical metrics to monitor OpEx
– Operating margin = Operating income / Revenue.
– OpEx ratio (OpEx / Revenue) — track over time and against peers.
– EBITDA = Earnings before interest, taxes, depreciation and amortization — useful to compare operating cash performance across firms.
– Cost per customer, cost per unit sold, and SG&A per dollar of revenue — operational KPIs for specific business models.
Practical steps to manage and optimize operating expenses
1. Establish clear KPIs and targets
– Set OpEx as a % of revenue goals, operating margin targets, and department budgets. Benchmark against peers.
2. Categorize and tag expenses
– Ensure accurate chart of accounts and coding so costs are identifiable by department, project and cost type (fixed vs variable).
3. Regular budgeting and rolling forecasts
– Use monthly or quarterly rolling forecasts to spot deviations early. Reforecast after major changes in sales or operations.
4. Implement cost controls and approval workflows
– Require approvals for hires, vendor contracts, and capital commitments above thresholds. Use purchase orders for visibility.
5. Prioritize high‑impact reductions (without harming growth)
– Reduce low‑value or redundant subscriptions, renegotiate vendor contracts, consolidate suppliers, and examine recurring discretionary spend first.
6. Improve process efficiency and automation
– Automate repetitive tasks (billing, data entry), digitize workflows, and apply lean principles to reduce labor and error costs.
7. Consider outsourcing and strategic partnerships
– Outsource non‑core functions (payroll, facilities management, IT support) where cost and service quality align.
8. Use activity‑based costing (ABC) for allocation clarity
– ABC identifies which activities drive costs and provides better insight for targeted reductions.
9. Revisit the OpEx vs CapEx decision
– Where appropriate, shift from CapEx to OpEx (e.g., cloud subscriptions or equipment leasing) to preserve cash or gain flexibility — weigh long‑term cost vs short‑term benefit.
10. Monitor one‑time and non‑recurring items separately
– Exclude one‑offs from ongoing operating budgets and track them as special items so recurring run‑rate is clear.
11. Employee engagement and incentives
– Make cost‑consciousness part of performance metrics and reward suggestions that sustainably reduce OpEx or improve productivity.
Example (simple income statement showing OpEx)
– Revenue: $1,000,000
– Cost of goods sold: $450,000
– Gross profit: $550,000
– Operating expenses:
– Salaries & wages: $200,000
– Rent & utilities: $60,000
– Marketing: $40,000
– Depreciation: $30,000
– Other SG&A: $20,000
Total OpEx = $350,000
– Operating income (EBIT) = $550,000 − $350,000 = $200,000
Metrics: Operating margin = $200,000 / $1,000,000 = 20%; OpEx ratio = $350,000 / $1,000,000 = 35%.
Practical checklist to classify an expenditure as OpEx or CapEx
– Is the purchase used repeatedly over several years (asset), or consumed in the current period? If multi‑year, it likely is CapEx.
– Does the spending materially extend the useful life or increase the value of an asset? If yes, capitalize.
– Is the expense necessary, ordinary and expected in the trade? If yes, OpEx is appropriate.
– Consult accounting policy, tax guidance, and an accountant for borderline cases.
What is a non‑operating expense?
Non‑operating expenses are costs not tied to core operations (for example, interest expense from borrowing, losses on selling an asset, or restructuring charges). Analysts separate these from operating results to evaluate recurring business performance.
What are capital expenses?
Capital expenses (CapEx) are outlays to acquire or upgrade physical or intangible assets that provide benefit for multiple periods: buying a factory machine, major building renovations, or acquiring patents. CapEx is capitalized on the balance sheet and expensed over time via depreciation or amortization.
The bottom line
Operating expenses are the routine, recurring costs of running a business. Effective classification, monitoring and management of OpEx are essential to profitability, forecasting and tax compliance. Managers should combine disciplined budgeting, process improvement, targeted cost reductions and strategic investments to optimize operating expense structure without undermining growth or service quality.
Sources and further reading
– Investopedia — “Operating Expense (OpEx)” (source material and definitions): https://www.investopedia.com/terms/o/operating_expense.asp
– Internal Revenue Service — Publication 535, Business Expenses (tax treatment guidance): https://www.irs.gov/publications/p535
– Harvard Business School Online — “How to Read and Understand an Income Statement” (overview of income statement structure)
Editor’s note: The following topics are reserved for upcoming updates and will be expanded with detailed examples and datasets.