Paragraphs B15–B18 specify requirements that mean, in each of the following situations, a supplier’s substitution
right is not substantive (or the customer is not precluded from having the right to use an identified asset):
a. the supplier has a right or an obligation to substitute the asset only on or after either a particular date or
the occurrence of a specified event;
b. the supplier would benefit economically from the exercise of its right only on the occurrence of a future
event that, at inception of the contract, is not considered likely to occur; or
c. the supplier has a right or an obligation to substitute the asset only for repairs and maintenance, if the
asset is not operating properly or if a technical upgrade becomes available.
Paragraph B17 notes that the costs of substitution are more likely to exceed the associated benefits when the asset
is located at the customer’s premises or elsewhere.
Paragraphs BC112–BC115 of the Basis for Conclusions on IFRS 16 explain the IASB’s rationale in developing
the requirements on substitution rights. Paragraph BC113 states that ‘the IASB’s intention in including [these
requirements] is to differentiate between:
a. substitution rights that result in there being no identified asset because the supplier, rather than the
customer, controls the use of an asset; and
b. substitution rights that do not change the substance or character of the contract because it is not likely, or
practically or economically feasible, for the supplier to exercise those rights’.
Paragraph BC113 goes on to explain that, at the time of developing IFRS 16, the IASB was of the view ‘that, in
many cases, it will be clear that the supplier would not benefit from the exercise of a substitution right because of
the costs associated with substituting an asset’.
Paragraph B19 requires the customer to presume that a supplier’s substitution right is not substantive if the
customer cannot readily determine whether the supplier has a substantive substitution right. Paragraph BC115
notes:
a. the requirement in paragraph B19 responds to stakeholders concerns that ‘in some cases it would be
difficult, if not impossible, for a customer to determine whether a supplier’s substitution right is
substantive’.
b. ‘if substitution rights are substantive, then the IASB thinks that this would be relatively clear from the
facts and circumstances’.
Consequently, the Committee observed that the requirements in paragraphs B13–B19 set a high hurdle for a
customer to conclude that there is no identified asset when an asset is explicitly or implicitly specified.
The Committee also observed that determining whether a supplier’s right to substitute an asset is substantive
throughout the period of use, as required by paragraph B14, requires judgement. Paragraph B14(a) specifies that
a supplier has the practical ability to substitute alternative assets throughout the period of use even if the supplier
does not already have alternative assets but could source those assets within a reasonable period of time. This
illustrates that the term ‘throughout the period of use’ does not mean at all times within that period.
Applying the requirements in IFRS 16 to the fact pattern described in the request
In the fact pattern described in the request:
a. a customer enters into a 10-year contract with a supplier for the use of 100 similar new assets—batteries
used in electric buses. The customer uses each battery together with other resources readily available to
it (each battery is used in a bus that the customer owns or leases from a party unrelated to the supplier).
b. it is assumed that the supplier has the practical ability to substitute alternative assets throughout the
contract term such that the condition in paragraph B14(a) exists.
c. if a battery were to be substituted, the supplier would be required to compensate the customer for any
revenue lost or costs incurred while the substitution takes place. Whether substitution is economically
beneficial for the supplier at a point in time depends on both the amount of compensation payable to the
customer and the condition of the battery.
d. at inception of the contract, it is expected that the supplier would not benefit economically from
substituting a battery that has been used for less than three years but could benefit economically from
substituting a battery that has been used for three years or more.