2333 Determining materiality in group audits

Jun-2018

OAG Guidance

In the context of a group audit, materiality levels are established for both the group financial statements as a whole, and for the financial information of the components. Determining materiality for group audits requires considerations in addition to those made when determining materiality for a single entity. These considerations are primarily related to the disaggregation of the group financial statements into the components that will be audited.

In addition to materiality, it will be necessary to determine the nature and scope of audit work to be performed at the components. Materiality and scoping decisions may well be iterative and, therefore, some familiarity with the group scoping guidance (OAG Audit 2335) may prove to be helpful before determining group and component materiality.

An Optional Component Materiality Framework can be found in OAG Audit 2334.

OAG Guidance

The guidance on overall and performance materiality in OAG Audit 2100 applies.

Group performance materiality is generally not a direct input used in determining component-level overall or performance materiality. Group performance materiality is used for procedures that are performed at the group level. Examples of these procedures include:

• Work on the consolidation.
• Setting thresholds for analytical procedures performed on the consolidated group financial statements.
• Detailed testing of balances accounted for on a centralized basis.

The group performance materiality needs to consider the aggregation of risk factors at the various components; therefore, the group materiality haircut percentage and the percentage utilized for the component materiality haircuts are generally consistent, although variances may exist, as explained in Determining Component Overall, Performance and Specific Materialities.

OAG Guidance

For those components where component auditors perform audit or review work for purposes of the group audit, the group engagement team:

• Determines component overall materiality;
• Determines or evaluates component performance and component specific materialities;
• Determines the de minimis SUM posting level applicable to group reporting; and
• Communicates materiality levels to the component auditors, or, where the group engagement team has delegated this responsibility to the component auditors, confirms approval of the materiality levels to the component auditors.

Further, if the group engagement team will use statutory, regulatory, or other similar component audits to provide audit evidence for the group audit, they need to evaluate those component overall, performance and specific materiality levels to determine whether they meet the requirements mentioned above.

The Component Materiality Framework, provided in OAG Audit 2334, provides an optional approach to comply with the component materiality requirements. However, group engagement teams may use other approaches to determine component materiality provided the approach complies with the requirements provided in this section.

OAG Guidance

Component Overall Materiality

Professional judgment is to be applied in establishing the overall materiality for a component where audit procedures will be performed in support of the group audit (i.e., by head office, significant components where audits of the component's financial information or selected audit procedures are performed, or timely statutory audits). In forming such professional judgments, generally consider the following:

• Sufficiency of evidence for the group as a whole, as component materiality and component performance materiality are used when establishing the overall audit strategy for a component.

• Aggregation risk for the possibility that misstatements of amounts less than group overall materiality could, in the aggregate, result in a material misstatement of the group financial statements.

• The sum of the overall materiality allocated to individual components generally exceeds group overall materiality.

• The greater the number of components where audit procedures will be performed in support of the group audit, the more the aggregated total of the overall materiality allocated to such individual components may exceed group overall materiality, as aggregation risk may be lower when spread amongst a larger number of components.

• The performance of timely statutory audits (fieldwork completed with results communicated to the group engagement team prior to the issuance of the group financial statements) at a stand-alone level of materiality that is lower than would typically be necessary for a component of a group audit may allow for higher levels of materiality to be allocated to the other components.

• Whether the materiality allocated to components is significantly affected by inter-company balances and transactions.

Document the rationale and judgment used for allocating overall materiality to components of group audits, including the basis for any adjustments for auditor judgment.

Our initial assessment of component overall materiality is to be revised in accordance with OAG Audit 2106, if necessary.

Note that each component of a group need not have the same component overall materiality.

Component Performance Materiality

In accordance with CAS 320, component performance materiality needs to be established at an amount lower than component overall materiality. Component performance materiality can be determined by either the group engagement team or by the component auditor with the approval of the group engagement team. The determination of component performance materiality is typically made by the group auditor absent statutory audit requirements. Where component performance materiality is determined by the component auditor, the group auditor needs to be satisfied that it is appropriate in the context of the group audit before significant work is performed by the component auditor.

The performance materiality guidance in OAG Audit 2103, including the haircut of 10 percent, 25 percent or 50 percent, is to be applied to individual components' overall materiality to determine individual component performance materiality. The group materiality haircut percentage and the percentage utilized for the component materiality haircuts generally are consistent. However, it may be appropriate to vary the haircut based on circumstances, for instance, where a group consists of components that have different levels of risk, quality of controls, or history of audit adjustments. This is because the performance materiality at the group level considers the risk factors at the component level. If performance materiality is determined by the component auditor, the group engagement team needs to understand the rationale for the haircut in order to understand the risk at that component. Note, however, that it would not be typical, for example, that the group materiality haircut was 25 percent and the average component performance materiality haircut was 50 percent or vice versa.

The haircut in arriving at performance materiality for a component reduces the level of aggregation risk. A history of misstatements at a component may reduce overall materiality levels allocated to the component. However, this may also be taken into account in arriving at the haircut percentage used in determining component performance materiality and needs to be addressed for one or the other, but not both.

Document the rationale and judgment for final amounts used in determining individual component performance materiality in a group audit, including the basis for any significant differences between group and component materiality and haircut.

Our initial assessment of component performance materiality needs to be revised in accordance with OAG Audit 2106, if necessary.

If procedures on a component are performed by the group engagement team, then an appropriate component materiality (rather than group performance materiality) is to be used for such procedures.

Particular Classes of Transactions, Account Balances or Disclosures Materiality

If applicable, amount(s) lower than component performance materiality for particular classes of transactions, account balances, or disclosures that are relevant for the group audit are to be determined by the group engagement team or the component auditor with the approval of the group engagement team. The guidance on materiality for particular classes of transactions, account balances or disclosures in OAG Audit 2104 is to be applied.

OAG Guidance

Some group engagement teams may, based on the structure of the group, its activities and systems, set their scopes initially based on financial statement line items. Under this approach, line items are assessed quantitatively and qualitatively and audit coverage is obtained by selecting transactions and balances at components that contribute to the consolidated line items. Such an approach is not precluded. However, engagement teams need to consider the following when selecting this approach:

• Whether financially significant components are ordinarily subject to full scope audits (OAG Audit 2335).
• The use of analytical or other procedures to assess the reasonableness of financial statement relationships.
• The need to obtain sufficient input from component audit teams when assessing qualitative materiality.

OAG Guidance

As discussed in OAG Audit 2105, the de minimis SUM posting level is an amount below which potential audit adjustments need not be accumulated (“clearly trivial”). Usually, in group audits the de minimis amount is the same for each component and the same as that for the group as a whole.

We generally expect to see the de minimis posting level to be five percent of overall materiality. However, as stated in OAG Audit 2105, a lower de minimis amount may be appropriate on large group audits. This may occur, for example, where there are a large number of components and the de minimis amount determined from group overall materiality is significant in relation to individual component's overall or performance materialities.

As a guide to assess the de minimis amount, typically the de minimis amount will not be greater than any of the components' performance materialities. However, there may be exceptions in situations where:

• very small components are audited, for example, because of audit rotation scoping decisions or statutory audit requirements; and
• statutory audit requirements result in a performance materiality that is significantly less than the performance materiality that would be determined without the statutory requirement.

The de minimis SUM posting level is to be revised in accordance with OAG Audit 2106, if necessary.

OAG Guidance

The group engagement team will often communicate a de minimis SUM level to be used by the component auditor for purposes of identifying misstatements to be communicated to the group engagement team. Thus, it will influence the SUM items communicated in a memorandum of work performed. The establishment of a de minimis SUM communication level does not, however, restrict the scope of the component auditor or influence the wording of the interoffice report.