IFRS 16 – Substitution Rights

Under the new standard, a lease is a contract, or part of a contract, that conveys the right to use an asset (the underlying asset) for a period of time in exchange for consideration.

In applying the definition of a lease, there are several criteria that must be met:

  1. There is an identified asset
  2. The lessee obtains substantially all the economic benefits
  3. The lessee has the right to direct use of the asset

However, even if a contract specifies a particular asset, a customer does not have the right to use that asset if the supplier has a substantive right to substitute the asset throughout the period of use.

A supplier’s right to substitute an asset would be substantive, and therefore the customer would not account for a lease of that asset, if both of the following conditions are met:

  1. The supplier has the practical ability to substitute alternative assets throughout the period of use; and
  2. The supplier would benefit economically from the exercise of its right to substitute the asset.

Example 1

A coffee vendor enters into a contract that conveys the right to 15 m2 of retail space within an airport terminal for a period of 3 years.

There is no specific location cited in the contract – it is stipulated by the contract that the airport operator can require the coffee vendor to move to any location next to, or near to, different boarding gates.

The coffee vendor can easily move its kiosk, and the airport operator has minimal costs to relocate the coffee vendor.

Solution 1

The substitution right is substantive because:

  • the airport operator has a practical ability to change the space used – it can choose between alternative locations near different boarding gates; and
  • the airport operator would benefit economically from substituting the space – there are minimal costs to move the kiosk and, over time, the operator could benefit from using space differently to meet changing circumstances.

In this instance, there is no lease, because there is no identified asset.