To say that Taiwanese-owned companies operating in China will face their biggest challenge ever in 2008 would in no way be an exaggeration.

These companies have always relied on their flexibility, resourcefulness and ability to produce goods at low cost to gain a competitive edge and conquer markets around the world. But with the Chinese government introducing a number of new policies in 2008, it remains an open question whether Taiwanese businesses can continue to fully manifest their manufacturing and commercial prowess in China.

Rainbow Stone Co., Ltd. Vice President Shi-wen Wang left Yilan at the age of 24 to set up a factory in Qingxi, in the manufacturing hotbed of Dongguan, Guangdong. Now, nearly 20 years later, Rainbowstone is China's third largest gemstone and jade jewelry supplier, but Wang acknowledges the new policies will make the new year difficult for many.

'This is the first round of a big shake-up. We are looking to see who will survive beyond July 2008. Those who make it past then will be the ones with real strength,' Wang says.

New Labor and Tax Laws Cause a Stir

One law that will have a resounding impact when it takes effect on January 1, 2008, is the new Labor Contract Law. The Far Eastern Economic Review predicts that the law will engender massive change in China's business environment, the most direct consequence being that of driving operating costs higher.

In truth, the law will be welcomed by some and disdained by others. One expert on Chinese labor laws indicated that the new statute primarily targets compliance in areas where companies in the past have not abided by local regulations and will especially focus on obligations such as pensions, medical benefits, maternity leave and workers' compensation.

A company like aluminum die-casting giant Catcher Technology Co., with a 30,000 employee operation in Suzhou, China, has followed the law in fulfilling its social obligations and therefore should not suffer any impact when the law takes effect. But in the Pearl River Delta, where labor-intensive Taiwan-invested business are concentrated, small- and medium-sized companies that process goods for export will be hard hit.

'Their profitability will fall by about four percent,' estimated Frank Lin, president of San Tai Management Consulting Co., Ltd.

By comparison, larger factories will not suffer as much.

Yuanta Securities Investment Consulting Vice President Kevin Chang believes that once it takes effect, the new Labor Contract Law will increase the costs of China-based manufacturers by about 15-20%. But for big companies such as Hon Hai Precision Industry Co., Ltd. and Innolux Display Corp. that have sophisticated management practices and have moved some of their production to inland China or Vietnam, Chang says the law should only impact profitability in 2008.

The new labor law gives greater protection to workers and asks corporations to bear social responsibilities. Once it takes effect, Taiwanese-owned businesses will be forced to revamp their human resource management and bring it into full compliance with the law. Under the new regulations, employees at companies that have relied on connections to cut corners ' paying workers below the minimum wage or not making the required contributions to social security funds ' will be legally entitled in the future to ask their employers for compensation.

'The law has turned the gray areas into black and white,' said one human resource manager at a Taiwanese-invested firm in China that employs 40,000 people.

What particularly concerns Taiwanese-invested businesses, however, is that because the law leans toward protecting employees, employers will pay a high price if they are not careful and violate the law. Even more importantly, they believe the new statute will lead to tenser labor-management relations.

According to a survey conducted this year by the Taiwan Electrical and Electronic Manufacturers Association on China's investment environments and risks, the most common problem faced by Taiwanese-invested businesses recently has been labor-management turmoil. Some 594 disputes with employees were reported in 2007, accounting for 18% of all problems noted by respondents.

Employees Cannot Be Arbitrarily Fired

Wenhsiung Tseng, a consultant with Deloitte & Touche's China tax division, said that Taiwanese businesses in China have never managed their operations with local requirements in mind. Many companies, for example, have not prepared an employee handbook that takes into account China's laws and business environment, preferring instead to take their employee guidelines from Taiwan and convert them into simplified characters. But under Article 46, Clause 1 of the new Labor Contract Law, workers can terminate the contract and ask for compensation if the rules stipulated in the employee handbook do not comply with Chinese law. The new law also requires employers to give cause when dismissing workers; if they fire workers arbitrarily, they must according to Article 87 pay compensation that is twice the normal fine for breach of contract, generally set at one month's pay for each year of service.

'Taiwanese employers used to enjoy saying 'I'm firing you.' But this kind of phrase can't be recklessly used in the future. You cannot bully the People's Republic of China's masters,' Tseng said.

Another condition stipulated in the new law is that corporations must sign each employee to a contract. If they fail to do so, employees are entitled to twice their normal pay for work performed from their second to twelfth month of employment. If workers are not given a contract after a year, they will be considered to be working under an open-ended employment contract. In other words, they will become permanent employees who cannot be let go without justification. The new law also stipulates that after completing two fixed-term contracts, employees are considered permanent employees effective with the third contract.

'Now when you hire workers you have to do so according to the law,' says Runny Su, general manager of Guangzhou I-Stone Jewelry Co., Ltd., China's biggest jewelry retail chain. 'But then again, if somebody has worked for you for 10 or 20 years, and you're not even willing to fulfill your legal responsibility to take care of that person, then you have no business being an entrepreneur.'

New Directions in China's Tax Policies

Taiwanese-invested corporations are also concerned about the impact on profitability of another new law that takes effect in China on January 1, 2008 ' the Enterprise Income Tax Law.

Otto Tu, who heads up Deloitte & Touche's China Business Cooperation & Development team, says that the Enterprise Income Tax Law has four main purposes: to simplify the tax system, broaden the tax base, lower tax rates, and strictly enforce tax collection. The new law, he says, will abolish preferential tax incentives for foreign-invested companies, placing domestic and foreign firms on an even competitive footing. A preferential 50% income tax reduction for exporters will also be eliminated.

Although the corporate income taxe rate will fall to 25% from the current 33% base rate, Tu stresses that China will not suffer a big drop in government revenues.

'China has already started to crack down on tax evasion. Whatever it loses in revenues by lowering rates, it will recover through more effective tax collection,' he says.

Tu recently returned from southern China, where he surveyed the tax status of Taiwanese-invested businesses. While there, however, he also warned companies to pay close attention to China's appreciating currency, which could hurt exporters, and its more restrictive monetary policy that is making financing less accessible.

'Regardless of whether companies plan to continue on, move, or shut down their businesses, they must all first put in place risk management mechanisms in response to the requirements of China's government,' Tu says.

As China Changes, So Must Corporations

With Taiwanese-invested corporations already feeling pressure from these new laws, their long-term plans in China will also inevitably be affected by China's ambitions and boldness in transforming its economy.

A report summarizing last October's 17th National Congress of the Communist Party of China noted that China's national development strategy stressed the pursuit of 'upgrading the country's capacity for independent innovation, and building an innovative nation.' In fact, many of China's related economic policies are like gears rotating precisely in harmony all for the sake of driving an innovation-based economy.

What is obvious is that China's policies on soliciting investment have become more selective. Now in the thirtieth year of its economic liberalization campaign, this rapidly ascending country is no longer the gold-digging paradise open to all that it once was.

Leu Horng Der, a professor in the Department of Business Administration at Chung Yuan Christian University, said that in the past China's approach to soliciting foreign investment was to 'draw in' capital. Now the approach is to 'choose' foreign investors, with energy-intensive, resource-based, or polluting companies denied access.

Along these lines, labor-intensive companies with low added-value output will also have to upgrade their operations or be forced to leave the highly-charged battlefield.

China's land zoning policies will also have an impact on the upgrading of industry. The existing policy has been to allocate land for industrial use based on 'sales agreements,' which has resulted in local governments undercutting each other on land prices to compete for foreign investment. According to Chinese media reports, however, industrial-use land will now be auctioned and sold to the highest bidder, with the winning bid not allowed to fall below the publicly declared standard for the land's floor price. 'The policy of tightening land availability is already upon us,' commented China's First Financial Daily.

Adding to the cost of land is that China has begun to levy land-use taxes on foreign-invested companies. One Taiwanese businessman in China said it was unreasonable for companies to pay property taxes after having previously signed 50-year leases for use of the land. 'But as long as the company can be profitable, in principle we'll go along with it,' the businessman said.

Heightened Environmental Standards

Environmental awareness is also being strengthened as part of China's new economic development course. In his report to the 17th National Congress of the Communist Party of China, Chinese President Hu Jintao acknowledged that, '(China's) economic growth is (being) realized at an excessively high cost of resources and the environment.'

To reverse the situation, China's government linked GDP (gross domestic product) and energy use for the first time in 2007, with cities having the highest rate of GDP growth forced to meet higher energy-saving standards.

'There are no polluting industries. There are only backward companies and backward technologies,' says Guangdong province Taiwan Affairs Office deputy director general Zhang Ke. 'We want to 'protect the superior,' which means protecting outstanding corporations and seeing them win while substandard companies fall by the wayside. That's called 'protecting the superior and eliminating the inferior.'

One company not likely to be affected by China's more stringent environmental standards is TG Changjiang Float Glass Co., Ltd., a subsidiary of Taiwan Glass Industry Corp. Taiwan Glass President Lin Por-fong is proud of the factory he built in China's Kunshan 20 years ago. Soon after setting up the plant, Lin spent 15 million yuan on dust collection equipment and a wastewater treatment plant for the facility. Today, the two sides of the factory's nearly 300-meter long walkway are spotless, and the facility also has stricter standards than the Chinese government for the disposal of polluting suspended solids. But Lin knows not all Taiwanese businesses in China have been as environmentally conscientious as Taiwan Glass.

Taiwanese-invested companies used to go to China to 'just make money,' Lin says, 'but now they have to become a part of society and pay attention to their corporate social responsibility.'

Chung Yuan Christian University's Leu says the new challenges will force those companies to ponder their future.

'No country in the world can permit companies to come and go at will, but do Taiwanese-owned businesses in China have a strategy for sustainable operations'? wonders Leu. This may be the question Taiwanese-invested businesses need to answer as they enter the new year with plenty of challenges on the horizon.

Seven Major Barriers Challenging Taiwanese Businesses

1. China's economy is in transition, with industrial and investment policies becoming innovation-oriented rather than manufacturing-oriented.

2. Environmental standards are being raised.

3. Export processing and land-use policies are getting stricter.

4. Monetary policy is being tightened, causing financing headaches for corporations.

5. The Chinese yuan continues to appreciate, hurting exporters.

6. The Labor Contract Law, which took effect at the stroke of midnight of the new year, will increase companies' labor costs and complicate businesses' operations.

7. A new Enterprise Income Tax will eliminate preferential incentives for foreign-invested companies and strengthen tax collection.

8. Translated from the Chinese by Luke Sabatier

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Chinese Version: 七大關卡夾攻　台商賺錢好難