Cockie: my assumption is that the preamble wouldn't say that 'lengths in brackets refer to grid entries' unless the first possibility was the one intended. This means that (if I'm right) a completed grid won't show evidence that the solver has actually worked everything out - but I think that risk has been minimised by Sabre by making it necessary to perform a substitution on one of the letters that won't then appear. Devilish cunning is at work here!
On the other hand (so to speak), if that substitution is meant to appear in the grid, then the second possibility may well be correct. But then the unclued entry wouldn't 'illustrate the cause of the coincidence', which in the two examples requires absolute precision. If my entry is disallowed because I've chosen wrongly I shall be hopping mad.
Finally, if you don't work out what the letter pairs are telling you, how will you be able to carry out all the substitutions correctly?