Group Audit Reliance on a Component Auditor in a Regulated Market
Halden Group plc consolidates three subsidiaries. Halden Trading Ltd (UK) is 100% owned and represents 55% of group revenue and 70% of group assets. Nordika AB (Sweden) is 80% owned and represents 30% of revenue; it is audited by a local firm, Berg & Lind, which is not a member of the group auditor's network and is not subject to the same independent inspection regime. Meridian Inc (US) is a 45%-owned associate accounted for using the equity method and represents 12% of group profit. Group materiality is £900,000; performance materiality is £630,000. Berg & Lind has issued an unmodified opinion on Nordika but has not provided its working papers, citing local confidentiality rules. Nordika's revenue includes £2.1m of sales to Halden Trading at a 15% mark-up; £600,000 of that inventory remains in the group at year end.
1. Assess whether the group engagement team can obtain sufficient appropriate audit evidence over Nordika, and set out the procedures available if working papers are withheld.
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Nordika is significant: 30% of revenue and a substantial share of assets, and its contribution is well above group performance materiality of £630,000. Under ISA 600 the group engagement team must obtain sufficient appropriate evidence over the component, and cannot simply accept Berg & Lind's opinion without evaluating its competence, independence and work. The fact that Berg & Lind is outside the network and outside an equivalent inspection regime increases the risk that its work does not meet the standards the group auditor requires. Withheld working papers are a significant obstacle. The group team should first request a written summary of the component auditor's procedures, findings and any uncorrected misstatements, and hold a discussion with Berg & Lind about its approach to the areas of significant risk. If papers are still withheld, the group team can: (a) perform its own audit procedures on the component's balances, possibly using a component team under its direction; (b) review the component's trial balance and supporting schedules directly with Nordika management; (c) attend the component's closing meetings. If none of these yields sufficient evidence, the group team must consider a scope limitation and its effect on the group opinion, communicating with those charged with governance.
2. Explain the consolidation adjustments required for the intra-group sales and the 45%-owned associate, and identify the audit risk if they are omitted.
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The £2.1m of sales from Nordika to Halden Trading must be eliminated in full against Halden Trading's purchases, because both are within the consolidated group. The £600,000 of inventory still held at year end contains an unrealised profit of £600,000 × 15/115 = £78,261, which must be eliminated by reducing inventory and group retained earnings. £78,261 is below group performance materiality of £630,000, so it is not individually material, but it should still be recorded and its cumulative effect with other adjustments monitored. Meridian Inc is a 45%-owned associate, not a subsidiary, so it is not consolidated line by line; it is equity accounted, with the group recognising 45% of Meridian's profit after tax and any fair value adjustments. Meridian contributes 12% of group profit, which is below the 15% threshold often used to identify significant components, but the group team still needs sufficient evidence over the equity-accounted carrying amount and the share of profit. If the intra-group elimination is omitted, group revenue and inventory are overstated and the unrealised profit inflates group profit - a presentation and valuation risk. If Meridian is wrongly consolidated, the group balance sheet and profit are materially misstated. The auditor should test the consolidation schedule, agree the associate's figures to its audited accounts, and confirm the ownership percentage to the share register.