diff --git a/functional/test_update.py b/functional/test_update.py
index 84c872c..da2b5e3 100644
--- a/functional/test_update.py
+++ b/functional/test_update.py
@@ -42,6 +42,17 @@
     type: My::RandomString
 '''
 
+    provider_group_template = '''
+heat_template_version: 2013-05-23
+resources:
+  random_group:
+    type: OS::Heat::ResourceGroup
+    properties:
+      count: 2
+      resource_def:
+        type: My::RandomString
+'''
+
     def setUp(self):
         super(UpdateStackTest, self).setUp()
         self.client = self.orchestration_client
@@ -181,3 +192,83 @@
                             'random2': 'OS::Heat::RandomString'}
         self.assertEqual(nested_resources,
                          self.list_resources(nested_identifier))
+
+    def test_stack_update_provider_group(self):
+        '''Test two-level nested update.'''
+        # Create a ResourceGroup (which creates a nested stack),
+        # containing provider resources (which create a nested
+        # stack), thus excercising an update which traverses
+        # two levels of nesting.
+        stack_name = self._stack_rand_name()
+        files = {'provider.yaml': self.template}
+        env = {'resource_registry':
+               {'My::RandomString': 'provider.yaml'}}
+
+        self.client.stacks.create(
+            stack_name=stack_name,
+            template=self.provider_group_template,
+            files=files,
+            disable_rollback=True,
+            parameters={},
+            environment=env
+        )
+        self.addCleanup(self.client.stacks.delete, stack_name)
+
+        stack = self.client.stacks.get(stack_name)
+        stack_identifier = '%s/%s' % (stack_name, stack.id)
+
+        self._wait_for_stack_status(stack_identifier, 'CREATE_COMPLETE')
+        initial_resources = {'random_group': 'OS::Heat::ResourceGroup'}
+        self.assertEqual(initial_resources,
+                         self.list_resources(stack_identifier))
+
+        # Prove the resource is backed by a nested stack, save the ID
+        rsrc = self.client.resources.get(stack_identifier, 'random_group')
+        physical_resource_id = rsrc.physical_resource_id
+
+        nested_stack = self.client.stacks.get(physical_resource_id)
+        nested_identifier = '%s/%s' % (nested_stack.stack_name,
+                                       nested_stack.id)
+        self.assertEqual(stack.id, nested_stack.parent)
+
+        # Then check the expected resources are in the nested stack
+        nested_resources = {'0': 'My::RandomString',
+                            '1': 'My::RandomString'}
+        self.assertEqual(nested_resources,
+                         self.list_resources(nested_identifier))
+
+        for n_rsrc in nested_resources:
+            rsrc = self.client.resources.get(nested_identifier, n_rsrc)
+            provider_stack = self.client.stacks.get(rsrc.physical_resource_id)
+            provider_identifier = '%s/%s' % (provider_stack.stack_name,
+                                             provider_stack.id)
+            provider_resources = {u'random1': u'OS::Heat::RandomString'}
+            self.assertEqual(provider_resources,
+                             self.list_resources(provider_identifier))
+
+        # Add one resource via a stack update by changing the nested stack
+        files['provider.yaml'] = self.update_template
+        self.update_stack(stack_identifier, self.provider_group_template,
+                          environment=env, files=files)
+        stack = self.client.stacks.get(stack_identifier)
+
+        # Parent resources should be unchanged and the nested stack
+        # should have been updated in-place without replacement
+        self.assertEqual(initial_resources,
+                         self.list_resources(stack_identifier))
+
+        # Resource group stack should also be unchanged (but updated)
+        nested_stack = self.client.stacks.get(nested_identifier)
+        self.assertEqual('UPDATE_COMPLETE', nested_stack.stack_status)
+        self.assertEqual(nested_resources,
+                         self.list_resources(nested_identifier))
+
+        for n_rsrc in nested_resources:
+            rsrc = self.client.resources.get(nested_identifier, n_rsrc)
+            provider_stack = self.client.stacks.get(rsrc.physical_resource_id)
+            provider_identifier = '%s/%s' % (provider_stack.stack_name,
+                                             provider_stack.id)
+            provider_resources = {'random1': 'OS::Heat::RandomString',
+                                  'random2': 'OS::Heat::RandomString'}
+            self.assertEqual(provider_resources,
+                             self.list_resources(provider_identifier))