the joint arrangement would have similar rights and obligations as they would if they
individually signed the arrangement. In these situations, the facts and circumstances,
as well as the legal position of each entity, need to be evaluated carefully; and
• by the lead operator of the joint arrangement in its own name, i.e. as principal. This
may occur when the lead operator leases equipment which it then uses in fulfilling
its obligations as the lead operator of the joint arrangement and/or across a range
of unrelated activities, including other joint arrangements with unrelated activities,
such as with other joint operating parties.
A contract to receive goods or services may be entered into by a joint arrangement or
on behalf of a joint arrangement, as defined by IFRS 11 – Joint Arrangements. In this
case, the joint arrangement is considered to be the customer in the contract. [IFRS 16.B11].
Accordingly, in determining whether such a contract contains a lease, an assessment
needs to be made as to which party (e.g. the joint arrangement or the lead operator) has
the right to control the use of an identified asset throughout the period of use.
If the parties to the joint arrangement collectively have the right to control the use of an
identified asset throughout the period of use as a result of their collective control of the
operation, the joint arrangement is the customer to the contract that may contain a lease.
Leases (IFRS 16) 1697
It would be inappropriate to conclude that the contract does not contain a lease on the
grounds that each of the parties to the joint arrangement either has rights to a non-
physically distinct portion of an underlying asset and, therefore, does not have the right
to substantially all of the economic benefits from the use of that underlying asset or does
not unilaterally direct its use. Determining if the parties to the joint arrangement
collectively have the right to control the use of an identified asset throughout the period
of use would require a careful analysis of the rights and obligations of each party.
In the first three scenarios above, if it has been determined that a contract is, or contains,
a lease, each of the parties to the joint arrangement (i.e. the joint operators comprising
the lead operator and the non-operators) will account for their respective interests in
the joint arrangement (including any leases) under paragraphs 20-23 of IFRS 11.
Therefore, they will account for their individual share of any right-of-use assets and
lease liabilities, and associated depreciation and interest.
In the fourth scenario (i.e. where the lead operator enters the arrangement in its own
name), the lead operator will need to assess whether the arrangement is, or contains, a
lease. If the lead operator controls the use of the identified asset, it would recognise the
entire right-of-use asset and lease liability on its balance sheet. This would be the case
even if it is entitled to bill the non-operator parties their proportionate share of the costs
under the joint operating agreement.
If the lead operator determines it is the lessee, it would also evaluate whether it has
entered into a sublease with the joint arrangement (as the customer to the sublease). For
example, the lead operator may enter into a five-year equipment lease with a supplier,
but may then enter into a two-year arrangement with one of its joint arrangements,
thereby yielding control of the right to use the equipment to the joint arrangement
during the two-year period. In many cases, the lead operator will not meet the
requirements to recognise a sublease because the arrangement does not create legally
enforceable rights and obligations that convey the right to control the use of the asset
to the joint arrangement. However, the conclusion as to whether the joint arrangement
is a customer, i.e. the lessee in a contract with a lead operator, by virtue of the joint
operating agreement, would be impacted by the individual facts and circumstances.
If there is a sublease with the operator, IFRS 11 would require the non-operators to
recognise their respective share of the joint arrangement’s right-of-use asset and lease
liability and the lead operator would have to account for its sublease to the joint
arrangement separately. However, if no sublease existed, the non-operators would
recognise joint interest payables when incurred for their share of the costs incurred by
the operator in respect of the leased asset.
In limited cases, the lead operator and non-operators will enter into a contract directly
with the supplier in which the lead operator and non-operators are proportionately
liable for their share of the arrangement. In this case, the parties with interests in the
joint operation would recognise their proportionate share of the leased asset, liability
and lease expense in accordance with IFRS 11.
There has been, and continues to be, considerable debate as to how the term ‘on behalf of
the joint arrangement’ should be interpreted and applied in practice. In September 2018,
the IFRIC discussed the fact pattern that one of the joint operators (the lead operator) in
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an unincorporated joint arrangement (i.e. a joint operation), as the sole signatory enters into
a lease contract with a third-party lessor on an item of property, plant and equipment that
will be operated jointly as part of the JOA. In addition, the lead operator has the right to
recover a share of the lease costs from the other joint operators in accordance with the
contractual arrangement to the join operation. The submitter asked if the lead operator
should recognise in full the lease liability for the lease contract of which the lead operator
alone has the primary responsibility to make payment to the lessor.
The staff noted that paragraph B11 of IFRS 16 was developed by the Board to apply only
when assessing whether a contract contains a lease, and has no further effect on the
required accounting for the lease or the joint arrangement. In the tentative agenda
decision about the submission, the IFRIC noted that, in accordance with paragraph 20(b)
of IFRS 11, a joint operator is required to recognise both (a) liabilities that it incurs in
relation to its interest in the joint operation, and (b) its share of any liabilities incurred
jointly with other parties to the joint arrangement. It further observed that ‘the liabilities
that a joint operator recognises include those for which it has primary responsibility’. At
the time of writing, the tentative agenda decision is open for comment.
Depending on the conclusions reached, a lead operator may observe differences in the
recognition patterns in profit or loss between the head lease costs (which will have more
of a front-loaded expense profile) and the income received from billing the non-
operators (either through a sublease or joint interest billings).
3.1.2 Identified
asset
An arrangement only contains a lease if there is an identified asset. This concept is
generally consistent with the ‘specified asset’ concept in IFRIC 4 – Determining
whether an Arrangement contains a Lease.
An asset is typically identified by being explicitly specified in a contract. However, an
asset can also be identified by being i
mplicitly specified at the time that the asset is made
available for use by the customer. [IFRS 16.B13].
Example 24.1: Implicitly specified asset
Customer X enters into a five year contract with Supplier Y for the use of rolling stock specifically designed
for Customer X. The rolling stock is designed to transport materials used in Customer X’s production process
and is not suitable for use by other customers. The rolling stock is not explicitly specified in the contract, but
Supplier Y owns only one rolling stock that is suitable for Customer X’s use. If the rolling stock does not
operate properly, the contract requires Supplier Y to repair or replace the rolling stock. Assume that Supplier
Y does not have a substantive substitution right (see 3.1.3 below).
Analysis: The rolling stock is an identified asset. While the rolling stock is not explicitly specified in the
contract (e.g. by serial number), it is implicitly specified because Supplier Y must use it to fulfil the contract.
Example 24.2: Identified asset – implicitly specified at the time the asset is
made available for use by the customer
Customer X enters into a five year contract with Supplier Y for the use of a car. The specification of the car is
contained in the contract (brand, type, colour, options, etc.). At inception of the contract the car is not yet built.
Analysis: The car is an identified asset. Although the car cannot be identified at inception of the contract, it
is apparent that it will be identifiable at commencement of the lease. The car is identified by being implicitly
specified at the time it is made available for use by the customer (i.e. at the commencement date).
Leases (IFRS 16) 1699
A capacity portion of an asset is an identified asset if it is physically distinct (for example,
a floor of a building). A capacity or other portion of an asset that is not physically distinct
(for example, a capacity portion of a fibre optic cable) is not an identified asset, unless
it represents substantially all of the capacity of the asset and thereby provides the
customer with the right to obtain substantially all of the economic benefits from use of
the asset. [IFRS 16.B20].
Some contracts involve a dedicated cable that is part of the larger network infrastructure
(e.g. unbundled network element arrangements for the ‘last mile’ to a customer location,
‘special access’ arrangements for a dedicated connection between two locations). IFRS 16
does not specify or provide examples that clarify whether these arrangements are
identified assets. However, the FASB’s new standard includes an additional example that
is similar to a dedicated cable (i.e. a segment of a pipeline that connects a single customer
to a larger pipeline). That example clarifies that such segments of a larger pipeline are
identified assets. As the IASB has stated that it and the FASB have reached the same
conclusions on the definition of a lease, we believe that, under IFRS 16, the last mile of a
network that connects a single customer to a larger network may be an identified asset.
However, such arrangements may or may not meet the definition of a lease. Entities will
need to be sensitive to this matter in both these and similar arrangements.
Example 24.3: Identified asset – physically distinct portion of a larger asset
Customer X enters into a 12-year contract with Supplier Y for the right to use three fibres within a fibre optic
cable between New York and London. The contract identifies three of the cable’s 20 fibres for use by
Customer X. The three fibres are dedicated solely to Customer X’s data for the duration of the contract term.
Assume that Supplier Y does not have a substantive substitution right (see 3.1.3 below).
Analysis: The three fibres are identified assets because they are physically distinct and explicitly specified in
the contract.
Example 24.4: Identified asset – capacity portion of an asset
Scenario A:
Customer X enters into a five-year contract with Supplier Y for the right to transport oil from Country A to
Country B through Supplier Y’s pipeline. The contract provides that Customer X will have the right to use
95% of the pipeline’s capacity throughout the term of the arrangement.
Analysis: The capacity portion of the pipeline is an identified asset. While 95% of the pipeline’s capacity is
not physically distinct from the remaining capacity of the pipeline, it represents substantially all of the
capacity of the entire pipeline and thereby provides Customer X with the right to obtain substantially all of
the economic benefits from use of the pipeline.
Scenario B:
Assume the same facts as in Scenario A, except that Customer X has the right to use 60% of the pipeline’s
capacity throughout the term of the arrangement.
Analysis: The capacity portion of the pipeline is not an identified asset because 60% of the pipeline’s capacity
is less than substantially all of the capacity of the pipeline. Customer X does not have the right to obtain
substantially all of the economic benefits from use of the pipeline.
Land easements or rights of way are rights to use, access or cross another entity’s land for
a specified purpose. For example, a land easement might be obtained for the right to
construct and operate a pipeline or other assets (e.g. railway line, utility pipes or
telecommunication lines) over, under or through an existing area of land or body of water
while allowing the landowner continued use of the land for other purposes (e.g. farming),
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as long as the landowner does not interfere with the rights conveyed in the land easement.
A land easement may be perpetual or for a specified term. It may provide for exclusive or
non-exclusive use of the land, and may be prepaid or paid over a defined term.
Perpetual easements are outside the scope of IFRS 16, as the definition of a lease requires
the contract to be for a period of time. Therefore, entities must carefully evaluate
easement contracts to determine whether the contract is perpetual or for a period of time.
Examples of contracts that may appear perpetual but are term based include:
• very long-term contracts (e.g. the FASB indicated in the Basis for Conclusions (BC113)
that very long-term leases of land (e.g. 999 years) are in the scope of ASC 842);
• contracts with a stated, non-cancellable lease term that ‘automatically renews’ if
the lessee pays a periodic renewal fee. This is an in-substance fixed term contract
with optional renewal periods; and
• contracts that define the period of use as the period over which the assets are used
(e.g. as long as natural gas flows through a gathering system) is a fixed term contract
(i.e. terminated when production ceases) rather than a perpetual contract because
the gas reserves will ultimately be depleted.
When determining whether a contract for a land easement or right of way is a lease,
entities will need to assess whether there is an identified asset and whether the customer
obtains substantially all of the economic benefits of the identified asset and has the right
to direct the use of that asset throughout the period of use.
3.1.3 Substantive
substitution
rights
Even if an asset is specified, a customer does not have the right to use an identified asset
if, at incep
tion of the contract, a supplier has the substantive right to substitute the asset
throughout the period of use (i.e. the total period of time that an asset is used to fulfil a
contract with a customer, including the sum of any non-consecutive periods of time).
[IFRS 16 Appendix A]. A supplier’s right to substitute an asset is substantive when both of the
following conditions are met:
• the supplier has the practical ability to substitute alternative assets throughout the
period of use (e.g. the customer cannot prevent the supplier from substituting an
asset and alternative assets are readily available to the supplier or could be sourced
by the supplier within a reasonable period of time); and
• the supplier would benefit economically from the exercise of its right to substitute
the asset (i.e. the economic benefits associated with substituting the asset are
expected to exceed the costs associated with substituting the asset). [IFRS 16.B14].
The IASB indicated in the Basis for Conclusions to IFRS 16 that the conditions above
are intended to differentiate between substitution rights that result in a supplier
controlling the use of an asset, rather than the customer, and rights that do not change
the substance or character of the contract. [IFRS 16.BC113].
If 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, the supplier’s substitution right
is not substantive because the supplier does not have the practical ability to substitute
alternative assets throughout the period of use. [IFRS 16.B15].
Leases (IFRS 16) 1701
An entity’s evaluation of whether a supplier’s substitution right is substantive is based
on facts and circumstances at inception of the contract. At inception of the contract, an
entity should not consider future events that are not likely to occur. IFRS 16 provides
the following examples of circumstances that, at inception of the contract, are not likely
to occur and, thus, are excluded from the evaluation of whether a supplier’s substitution
right is substantive throughout the period of use:
• an agreement by a future customer to pay an above market rate for use of the asset;
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