Theorie is theory. Kapitel is chapter, as in a book.
In German universities it is expected not only in B.A. and M.A. theses, but also in course term papers, that the second chapter, after the introduction, be devoted to theory, the so-called Theoriekapitel.
In it the author demonstrates that she is aware (conscious) of the complexity of the subject matter, that she understands that subject matter in the broader context of current research on it, and most importantly that she can durchdringen (penetrate) that complexity.
