US embassy cable - 05TAIPEI4624

C O N F I D E N T I A L SECTION 01 OF 03 TAIPEI 004624 
 
SIPDIS 
 
DEPT FOR EAP/TC 
DEPT PASS AIT/W 
 
E.O. 12958: DECL: 11/16/2015 
TAGS: EINV, ECON, CH, TW 
SUBJECT: RECHI CASE DRAWS ATTENTION TO LIMITS ON PRC 
INVESTMENT 
 
REF: A. TAIPEI 1924 
     B. TAIPEI 2743 
 
Classified By: AIT Director Douglas H. Paal, Reason 1.4 b 
 
Summary 
------- 
 
1. (C) Investigations of possible illegal investment 
transactions by Rechi Precision Co., Ltd., the world's 
third largest manufacturer of compressors for refrigerators 
and air conditioners, have attracted attention to Taiwan's 
regulations that limit investment in the PRC to a 
percentage of net worth.  Rechi has already been fined for 
violating this rule.  Many have criticized this regulation, 
but the Ministry of Economic Affairs (MOEA) and Taiwan 
Premier Frank Hsieh have stated that the government has no 
intention at this time of relaxing these restrictions.  The 
restrictions do little to limit the Taiwan economy's 
dependency on investment in the PRC.  More often, they 
encourage firms to disguise their Mainland investment and 
may lead more firms to abandon Taiwan and register or list 
in other jurisdictions such as Hong Kong or 
Singapore.  End summary. 
 
Rechi Under Investigation Blames "Worst Regulation" 
--------------------------------------------- ------ 
 
2. (U) Rechi Precision Co., Ltd, the world's third largest 
manufacturer of compressors for refrigerators and air 
conditioners, attracted media attention this week when its 
former chairman, Felix S.T. Chen, published an open letter 
in major Taiwan dailies calling Taiwan's 40 percent cap on 
investment in the PRC "the worst regulation" for Taiwan 
investors.  Although most people refer to the restriction 
as a 40 percent cap, Taiwan regulations actually impose a 
graduated set of percentage restrictions based on a firm's 
total paid-in capital.  Firms with net worth below NTD 5 
billion (about USD 150 million) may invest up to NTD 80 
million (USD 2.4 million) or 40 percent of net worth 
whichever is higher.  Firms with net worth between NTD 5 
billion and NTD 10 billion (USD 300 million) may invest 40 
percent of NTD 5 billion plus 30 percent of the firm's net 
worth over NTD 5 billion.  For firms with net worth over 
NTD 10 billion, they may invest 20 percent of the amount 
over NTD 10 billion. 
 
3. (U) Rechi is part of the Sampo Group, a large Taiwan 
conglomerate that makes appliances, computer peripherals, 
integrated circuits and other electronic components. 
Rechi was fined NTD 700,000 (about USD 21,000) in the first 
half of 2005 for violating the PRC investment restrictions. 
With total net worth of NTD 2.6 billion (about USD 78 
million), it was limited to just over NTD 1 billion (about 
USD 32 million).  To comply with the limits, Rechi 
subsequently increased its net worth in Taiwan. 
 
4. (U) Rechi was originally investigated because of 
irregular transfers into private bank accounts that caused 
Taiwan authorities to suspect its executives of embezzling 
funds.  To date the firm has only been fined for excessive 
investment in the PRC.  However, the Financial Supervisory 
Commission and the Taoyuan Prosecutors Office continue to 
investigate the firm for possible illegal transactions used 
to make the investment.  In addition, the firm may not have 
met Taiwan regulations requiring it to report such 
investment to stockholders. 
 
5. (U) The investigation caused Chen to resign from his 
positions as chairman of Rechi and the Sampo Group.  In 
September and October, the Taoyuan Prosecutors Office asked 
him to testify in the case.  On November 15, the 
Prosecutors Office issued a subpoena for Chen to testify. 
If he does not appear within 30 days a warrant will be 
issued for his arrest.  A Sampo Group spokesman said that 
Chen was in China and cannot return to Taiwan at this time 
due to health problems. 
 
6. (U) Interestingly, Taiwan media reported that United 
Microelectronics Corporation (UMC), Taiwan's second largest 
contract semiconductor manufacturer, acquired an 8 percent 
stake in Rechi in October.  UMC is under investigation for 
possible illegal investment in He Jian, a PRC chip foundry 
(ref A). 
 
PRC Investment Necessary for Rechi's Survival 
--------------------------------------------- 
 
7. (U) Chang Chung-ben, a former vice president of Taiwan's 
China Development Industrial Bank and one of Rechi's 
original investors, told the press that Rechi's investment 
in the PRC was necessary for the firm's survival.  Before 
Rechi invested in the Mainland in 2001, it nearly went 
bankrupt according to Chang.  He pointed out that with 
total demand of 60 million compressors per year, the PRC 
accounts for 90 percent of the world market.  Rechi's 
investment there was necessary not only to cut costs but 
more importantly to improve access to the industry's most 
important market.  The firm's competitors from Japan, South 
Korea, Europe and the United States also have large 
operations in the Mainland.  Chang said that Rechi 
currently produces 8 million compressors in the PRC 
annually out of total production of 9 million units. 
 
8. (SBU) A U.S. country risk manager told us this month 
that U.S. air conditioner manufacturers are now shifting 
operations out of Korea.  Labor costs in Korea for 
assembling an air conditioner total US$46 dollars while the 
same labor costs US$6 in China.  Parts for the air 
conditioner are about the same in both places, $46 in Korea 
and $47-$48 in China. 
 
Regulation Won't Change Soon 
---------------------------- 
 
9. (U) Many businesses and industry organizations have 
advocated changes to the 40-percent PRC investment cap. 
According to media reports, Taiwan's Financial Supervisory 
Commission has proposed to the Executive Yuan that the 
restrictions be loosened.  However, in a hearing before the 
Legislative Yuan (LY) on November 14, Ministry of Economics 
Affairs Vice Minister Steve Chen said that the 
administration has no intention of easing the restrictions 
at this time, calling the regulations necessary to prevent 
Taiwan firms from relying too much on the PRC.  Premier 
Frank Hsieh reiterated the point at the LY the following 
day. 
 
10. (U) Meanwhile, the Taiwan government continues to 
pursue a policy of "active opening, effective management" 
when it comes to PRC investment.  Recently, the emphasis 
has been on "effective management" in the form of stronger 
enforcement of investment restrictions.  Taiwan's 
Investment Commission says that they are currently 
investigating more than ten other cases of possible illegal 
investment in the PRC. 
 
Taiwan Firms Still Invest Heavily in PRC 
---------------------------------------- 
 
11. (C) Estimates of Taiwan investment in the PRC range as 
high as USD 200 billion.  Taiwan government approved 
investment in the PRC accounted for 69 percent of the 
island's total outward investment for the first half of the 
year.  The next largest destination for Taiwan foreign 
investment, accounting for more than 15 percent of the 
total, was the British Caribbean, which is often used as a 
channel for investment ultimately destined for the PRC. 
Taiwan authorities estimate that as many as 60,000 Taiwan 
firms have invested in the Mainland -- about three quarters 
of the total number of firms in Taiwan.  More than 70 
percent of IT hardware manufactured by Taiwan firms is made 
in the PRC.  Rechi claims that it is now nominally in 
compliance with the regulations, but still produces almost 
90 percent of its output in the Mainland. 
 
Comment - Futile, Punishing Transparency, Hurting Taiwan 
--------------------------------------------- ----------- 
 
12. (C) Even when Taiwan firms comply with the letter of 
the law, these regulations clearly do very little to limit 
the dependency of Taiwan firms on investment in the PRC. 
However, the regulations do change firm behavior.  They 
encourage firms to hide their investment in the PRC 
entirely or to seek creative means to understate its value 
and overstate net worth in Taiwan.  They encourage firms to 
use third territories and paper corporations to channel 
their investments.  They also discourage firms from 
remitting back to Taiwan PRC profits that can be invested 
locally.   In general, these regulations penalize those 
firms that try to observe them and maintain transparent 
business practices. 
 
13. (C) In addition, unless changed, these regulations may 
drive some firms to abandon Taiwan entirely.  Electronics 
conglomerate Hon Hai listed its cell phone manufacturing 
unit, Foxconn International Holdings, in Hong Kong last 
February in part to avoid restrictions on PRC investment. 
At least 20 other Taiwan firms have also listed in Hong 
Kong.  Semiconductor packaging and testing firm United Test 
and Assembly Center (UTAC) moved its headquarters from 
Taiwan to Singapore to avoid an industry specific 
prohibition on investment in the PRC (ref B).  More firms 
will consider this kind of strategy if Taiwan does not 
rationalize its cross-Strait investment regulations.  End 
comment. 
Paal