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There have been extensive discussions on the XSL WG mailing list and in telcons over the last 4-6 weeks concerning the syntax and semantics of the xsl:function attributes @identity-sensitive and @cache. This bug entry provides a place to capture the results of this discussion. I tried to capture the consensus in this message: https://lists.w3.org/Archives/Member/w3c-xsl-wg/2015Aug/0012.html and was given an action to record this in the spec, while noting the need for a bug fix in F+O (bug #29058) in the definition of determinism.
For the record, the mail thread starting with https://lists.w3.org/Archives/Member/w3c-xsl-wg/2015Aug/0047.html contains some observations on other places in the spec that need updating after this change was applied. No new bug has been created for it.
The editorial corrections supplied in the cited email have been applied. On the question of compatibility rules for function overriding, the WG decided that an overriding function must have the same value for "new-each-time" as the overridden function, so that optimizations (e.g. loop-lifting of calls to the function) are not affected by overriding. However, there is no requirement for the value of @cache to be the same. The changes have been applied to the spec.