CEPA : A Tentative Analysis of Its Impact on Hong Kong (hktdc.com)

Effect on manufacturing investment

While increased opportunities in exporting Hong Kong originated products to the Mainland market might encourage existing local industries to expand their output and production capacity, it is also expected that some Hong Kong and foreign companies might be attracted by CEPA to set up new production lines in Hong Kong.

At present, most Hong Kong factories on the Mainland are producing under OEM arrangements for overseas markets. Even though some companies have developed their own brands and started selling to the Mainland domestic market, most of them are positioned at the middle- or upper-middle end of the market. In light of the zero tariff arrangement, Hong Kong companies might be interested in starting a new product line in Hong Kong to process premium products or new brands to target at the higher end market of the Mainland.

It is agreed that though "made in Hong Kong" is able to charge a higher price for certain lifestyle and fashion products in the Mainland market, it must be complemented by a strong or premium brand image. This is because, for most mass market products on the Mainland, price is a dominating factor of consideration in purchase. Even for branded products, once the brand is accepted, its place of origin is of less importance. Hence, setting up a mass market product line in Hong Kong might not be feasible or profitable.

Industries that are likely to benefit from CEPA's zero tariff arrangement, and justify production in Hong Kong for selling to the Mainland market would need to fulfil one or more of the following criteria.

High savings in tariffs.
Depend on imported raw materials or intermediate goods from overseas rather than sourcing from the Mainland.
Production that Hong Kong commands a good image or reputation, hence able to charge a higher price for the "made in Hong Kong" label.
High-price products that are value-added in terms of brand, design, technology, etc. should be higher than the labour input.
Predominant share of intellectual property (IP) input in the overall cost structure, hence require strong IP protection.
Limited quantity rather than mass production.
Availability of sufficient skilled workers in Hong Kong, or more realistically, ability to adopt advanced technology in production.

Only niche and high-end products of traditional industries will benefit from CEPA. Lifestyle products such as high fashion and accessories, fur garment, precious jewellery and stylish watches are likely to be able to capitalise on the strength and reputation of Hong Kong in design and quality control, to develop upmarket brands or products for the Mainland's emerging middle class.

Apart from traditional industries, Hong Kong may also be able to attract some new local and foreign investment in industries that require strong protection of the proprietary technology or invention. This is particularly true for some industries that are still restricted from forming wholly-owned foreign companies on the Mainland. For example, foreign investors must form joint ventures on the Mainland if they invest in the "restricted industries"³ such as production of photosensitive materials, satellite television receivers and parts, and some pharmaceutical products like antibiotics and immunity vaccines on the Mainland. Since the IP value of the proprietary technologies or invention of these industries are high, foreign investors may prefer investing in a wholly-owned foreign venture in Hong Kong to forming a joint venture on the Mainland.

Even for some industries that do not have any restrictions in the shareholding by foreign investors in manufacturing projects on the Mainland, foreign investors may also be attracted to set up R&D facilities or production of proprietary products in Hong Kong if they are targeting at the Mainland market, or making use of the advantage derived from the economic synergy of Hong Kong and the Mainland. This is particularly true for medium sized foreign companies which do not understand the Mainland's business environment and cannot afford to invest in their own independent R&D facilities on the Mainland. Hong Kong's high standards of IPR protection, its status as a free port and the added advantage of CEPA that allows tariff free and more efficient trade with the Mainland would be an edge in attracting foreign companies to invest in Hong Kong.

Brand and designing consumer products

Mainland consumers' perception of Hong Kong as an international city serves as a valuable asset to Hong Kong manufacturers. Since Hong Kong's culture is considered to be closer to that of the western world, Hong Kong designers are also considered by Mainland consumers as more creative and sensitive to the international fashion trend. However, before CEPA, exports of high-end products from Hong Kong to the Mainland are not competitive due to high import tariffs. With CEPA, these Hong Kong products would become more price competitive and affordable in the Mainland market.

For most upmarket lifestyle products like designers' clothes, fine jewellery and fashion watches, the IP value of the brand and design is much higher than the actual production cost. Given the positive association of Hong Kong in design and quality, and since only limited pieces are produced for each design of these products, production in Hong Kong is viable. Moreover, as most high end products require imports of high quality raw materials, the savings in tariffs⁴ of these production inputs would be an additional advantage for placing the production in Hong Kong.

Table

Given the cost benefit derived from CEPA, and capitalising on the premium associated with "Made in Hong Kong", Hong Kong manufacturers may find new market opportunities in creating a new upmarket brand or producing a line of premium products in Hong Kong. This is especially attractive to Hong Kong manufacturers who have already established distribution networks on the Mainland. Given the strength and advantage of Hong Kong companies in distribution on the Mainland and their good track record in IPR protection, Hong Kong companies will be in a better position to form partnerships or negotiate licensing agreements withinternational brands to produce and distribute for the Mainland market.

For companies which do not have distribution networks on the Mainland, they may also find increased business opportunities in the Mainland market after CEPA. Because the import price of Hong Kong products becomes more competitive after CEPA, Mainland wholesalers and distributors are likely to be interested in buying more products from Hong Kong.

However, in order to increase the chance of market success of "made in Hong Kong" products on the Mainland, Hong Kong producers may find it necessary to invest further in product design and technology to differentiate themselves from Mainland competitors.

Table

Proprietary technology industries

For certain restricted industries on the Mainland such as pharmaceutical, foreign investors are allowed to set up joint ventures but not wholly owned factories. Under such circumstances, foreign investors might prefer to set up production lines in Hong Kong if they are reluctant to share their proprietary technology or invention with Mainland partners. Even for production that is not subject to investment restrictions on the Mainland, if the IP value of the production involved is high, foreign investors might prefer Hong Kong.

In the case of biotechnology industry, though the Mainland is very strong in this area and many foreign research projects are indeed collaborating with Mainland research institutes and scientists, some companies prefer to place the core R&D activities or production in Hong Kong, considering its advantages in IPR protection and proximity to the Mainland. For example, according to a company which has recently launched a new nutraceutical product in Hong Kong, the development and production of the core and the most high value-added components of this product are in Hong Kong, while mass production of the final product is subcontracted to factories on the Mainland.

The business model of the development and production of this nutraceutical product is advantageous because it will allow the investor to secure IPR protection in Hong Kong, and at the same time enjoy low production costs on the Mainland. While cross-border collaboration would also be applicable to other industries such as electronics and Chinese medicine, CEPA provisions in customs clearance facilitation, quarantine and inspection cooperation, and zero tariff imports of products with Hong Kong origin will be a further boost to the benefits and viability of this business model.

Even though the Mainland has become an ITA member and agrees to remove tariffs for most ITA products, import tariffs of certain higher-end electronics products are still as high as 17% to 30%. Given the rising importance of the Mainland and ASEAN countries as production bases of consumer electronics goods, it would make sense to set up a logistic and production centre in Hong Kong to facilitate production and sales in the region.

Hong Kong has the advantages of geographic proximity to its customers in the region particularly in southern China, low tax rates, good infrastructure and supporting services including logistics and finance, transparent government, sound legal system and high professional ethics. Moreover, as land and labour costs in Hong Kong have already adjusted downward substantially, the attractiveness of Hong Kong could increase, especially among small- and medium-size foreign companies that are not confident about managing investment risks on the Mainland.

Trade in Services

Overall

Under CEPA, Hong Kong companies in 17 services industries⁵ can have more effective access to the Mainland market. Hong Kong services companies can benefit from CEPA in two major ways, namely:

-	More effective market entry for Hong Kong SME services companies, through the lowering of asset, capital, turnover and operational requirements.

-	More opportunities for Hong Kong services professionals to practise on the Mainland.

To be eligible for enjoying the benefits of CEPA, a company, regardless of the nationality of its investors, must have substantive activity in Hong Kong by fulfilling the following criteria:

(1) The company must be incorporated under the laws of the HKSAR. The business on the Mainland that the company intends to engage in must be of the same nature as that in which company engages in Hong Kong.

(2) The company must be liable to pay profits tax in the HKSAR.

(3) For most services, the minimum period of the company's substantive business operations in the HKSAR is 3 years, but for construction and real estate, banking and insurance, the requirement is 5 years.

(4) There is no minimum size for constituting the substantive business activity of a company in Hong Kong. However, the company must own or rent business premises in Hong Kong in its operations and the scale of its business premises must be commensurate with the scope and the scale of the business of the company. ⁶

(5) The company must employ 50% or more of its total staff in Hong Kong.

Although the exact requirements for a company to be qualified vary from industry to industry, the assessment will be on a non-discriminatory and objective basis.

CEPA measures are therefore meant for all services companies, indigenous or foreign, as long as they conduct substantive business in Hong Kong. This is in line with the requirements of the WTO on FTAs as well as the international nature of the Hong Kong economy.

Distribution

Commission agents' services and wholesale trade services

Existing regulations	Access for Hong Kong under CEPA
Only JV trading companies and wholesaling companies are allowed. JV wholesaling companies are restricted to those set up in Beijing, Shanghai, Tianjin and Chongqing.	Hong Kong enterprises are permitted to supply commission agents' services and wholesale trade services on the Mainland on a wholly-owned basis, and to set up wholly-owned external trading companies. No geographic restriction is applied.
For setting up JV external trading companies, the foreign partners must have average annual trading values with China of not less than US$ 30 million in the 3 years prior to application (or US$ 20 million if the JV is setting up in the central and western regions). (continued) The minimum registered capital requirement of the JV is RMB50 million or RMB30 million in the central and western regions.	The average annual trading values with the Mainland is reduced to not less than US$ 10 million in the 3 years prior to application (or US$ 5 million if the trading companies are setting up in the central and western regions); and the minimum registered capital (continued) requirement is reduced to RMB20 million (or RMB10 million in the central and western regions).
For setting up JV wholesaling companies, the foreign partners must have average annual turnover of less than US$ 2. 5 billion in the 3 years prior to application and asset value of not less than US$ 300 million in the year prior to application. The minimum capital requirement of the JV is RMB80 million (RMB60 million in central and western regions).	The average annual turnover is reduced to not less than US$ 30 million in the 3 years prior to application (US$ 20 million in the case of setting up wholesaling companies in the central and western regions), and asset value is reduced to US$ 10 million. The minimum capital requirement is reduced to RMB50 million (RMB30 million in central and western regions).
Foreign companies can only provide commission agents' services or wholesale trade services in books, newspapers, magazines, pharmaceuticals, pesticides and mulching film 3 years after China's WTO accession; in chemical fertilizers, processed oil and crude oil 5 years after China's WTO accession.	The same.

Retail trade services

Existing regulations

Access for Hong Kong under CEPA

Only JV retail commercial enterprises are allowed.

Hong Kong investors are permitted to establish wholly-owned retail commercial enterprises on the Mainland.

For setting up JV retail commercial enterprises, the foreign partners must have average annual turnover of not less than US$ 2 billion in the 3 years prior to application and asset value of not less than US$ 200 million in the year prior to application. The minimum capital requirement of the JV is RMB50 million (RMB30 million in central and western regions).

The average annual turnover is reduced to not less than US$ 100 million in the 3 years prior to application and asset value is reduced to US$ 10 million. The minimum capital requirement is reduced to RMB10 million (RMB6 million in central and western regions).

JV are only allowed in the capital cities of provinces and autonomous regions, centrally administered municipalities, independent planning cities with provincial status and Special Economic Zones.

Hong Kong companies are permitted to set up retailing enterprises in all cities at the prefectural level, and cities at the county level in Guangdong province.

Only minority shareholding for foreign partners in chain stores (over 30 outlets) selling a single product category or brand. Restriction on car sale will be removed 5 years after China WTO accession.

Hong Kong companies are permitted to set up wholly-owned retail enterprises for sales of cars (up to 30 chain outlets). Restrictions on chain stores with more than 30 outlets remains the same.

Foreign companies can only provide retail trade services in pharmaceuticals, pesticides, mulching film and processed oil 3 years after China＊s WTO accession; in chemical fertilizers 5 years after China＊s WTO accession.

The same.

Independent legal entities with registered trademarks, company names, products and patents, as well as not less than one year's good operational performance are allowed to act as franchisers.

Hong Kong enterprises are permitted to engage in franchising on a wholly-owned basis.

Hong Kong permanent residents with Chinese citizenship are permitted to set up individually owned retail stores in Guangdong to provide retailing services excluding franchising operation without the prior approval applicable to foreign investments. The sales area of such stores shall not exceed 300 square metres.

Implications for Hong Kong distribution services industries

Trading firms and wholesalers

As the Mainland has emerged as a world leading production base in an array of products, more and more foreign buyers are interested in sourcing from the Mainland. At the same time, due to rapid industrialisation and growing affluence in the Mainland market, demand for imported industrial and consumer goods has also increased significantly. Given Hong Kong's strengths in international trade and merchandising, and its first mover advantage on the Mainland, Hong Kong companies are in a good position to help foreign companies to conduct sourcing and manage distribution on the Mainland.

Before CEPA, given the high entry thresholds, few Hong Kong companies have been able to participate directly in the foreign trade and wholesale distribution services on the Mainland. Even though Hong Kong trading firms are the sole agents and distributors of foreign brand products in the greater China region, they have to pay for the Mainland business licence holders in order to overcome customs and other legal barriers.

After CEPA, Hong Kong wholesale companies with annual sales of more than US$ 30 million for three years can set up wholly owned wholesale enterprises on the Mainland, and if Hong Kong trading firms have traded more than US$ 10 million with the Mainland for three years, they are eligible to set up wholly owned trading firms on the Mainland. Based on these criteria, it is estimated that some 1,200 trading companies and some 57 wholesale companies in Hong Kong will benefit.

As Hong Kong businessmen are allowed to conduct import/export trade and provide wholesale and commission agency services on the Mainland, they will have better bargaining power to negotiate agency and distributorship of international brand products. This in turn will strengthen Hong Kong's role as a trade platform for the Mainland market.

Retailers

The relaxation in restrictions for Hong Kong companies to set up wholly owned retail enterprises on the Mainland and the substantially lowered entry thresholds in terms of annual sales and assets will make possible more Hong Kong medium-sized retail companies to participate directly in the Mainland's retail business. Based on minimum annual sales of US$ 100 million, it is estimated that some 25 Hong Kong companies, including department stores, supermarkets, convenience stores, and specialty chains in cosmetics, personal goods, household electrical appliances and AV products will be able to meet the market entry requirements after CEPA.

Besides, as CEPA formalizes the practice of allowing Hong Kong permanent residents to set up individually owned retail stores in Guangdong, it should provide new opportunities for Hong Kong people who would like to venture into the Mainland retail business. In the recent year, TDC has received an increasing number of enquires from Hong Kong people about the possibility and procedure of setting up a retail store in Guangdong, indicating the great interest of Hong Kong people in this area.

Implications for Hong Kong in the Mainland market

Liberalisation of distribution services to Hong Kong companies will create a more conducive environment for Hong Kong manufacturers and traders to launch distribution of their products in the Mainland market.

Until now, Hong Kong companies or people have not been allowed to become involved directly in the retail and wholesale businesses on the Mainland unless approved by the State Council. They must be big players with turnover not less than US$ 2 billion and 2. 5 billion respectively. Even though Hong Kong companies that have factories on the Mainland can set up sale offices to start domestic distribution, they are not allowed to trade products that are not produced in their own Mainland factories. In the circumstances, Hong Kong traders and manufacturers have to appoint agents or distributors, or set up sale outlets by hiring local companies' business licenses or asking a Mainland relative to register the businesses on their behalf. However, all these methods are not very satisfactory. Complications such as cheating, bad debts and conflicts in profit sharing have deterred many Hong Kong companies to enter the Mainland market.

As Hong Kong people and companies are allowed to have their own retail and wholesale business licenses, Hong Kong traders and manufacturers will enjoy better controls in the distribution of their products, or alternatively would be able to partner up with a reliable Hong Kong distributor on the Mainland. This will encourage Hong Kong companies that were reluctant to appoint Mainland agents to reconsider starting product distribution on the Mainland. Especially with zero tariffs for exporting Hong Kong products to the Mainland, Hong Kong companies will find it more viable to develop brands for the Mainland "home" market.

Legal Services

CEPA includes significant market liberalisation measures for Hong Kong's legal firms and professionals.

Existing regulations

Access for Hong Kong under CEPA

Subject to approval, foreign law firms can set up profit-making representative offices with no geographic or quantitative restrictions.

Hong Kong law firms which have representative offices on the Mainland are permitted to run business jointly with Mainland law firms, except in the form of partnerships.

All representatives shall be residents of China for not less than 6 months each year.

Residency period shortened to 2 months each year.
Residency period for offices in Guangzhou and Shenzhen waived.

Cannot practise Chinese law.

The same.

Cannot employ Chinese national registered as lawyers.

The same.

Mainland Chinese law firms cannot employ foreign lawyers.

Mainland law firms can employ Hong Kong lawyers.

Hong Kong lawyers can sit for the National Lawyers Examination and qualify to practise as Mainland lawyers in non-litigation legal work.

Note: Major qualifying criteria for "Hong Kong law firm": (1) The sole proprietor and all partners of the law firm must be registered practising lawyers in Hong Kong; (2) The main scope of business must be to provide domestic legal services in Hong Kong.

Implications for Hong Kong law firms

Improved market access under CEPA, especially the "association" arrangement (i. e. running business jointly with Mainland law firms) and shortened residency requirement, will have a significant and immediate impact for Hong Kong law firms to extend their networks in the Mainland market.

It is much easier to serve Mainland clients through local contact points. With geographic and quantitative restrictions lifted one year after China's WTO accession, foreign law firms are now busy building up their networks by setting up more representative offices in different cities. Of the 51 Hong Kong law firms with a presence on the Mainland, only 8 have representative offices in more than one city.

Allowing the sharing of premises and administrative support with Mainland law firms will help resources-constrained Hong Kong law firms to extend their networks more easily and facilitates the formation of business alliances with their Mainland counterparts in various parts of the country. The shortened residence period further helps many of those who cannot afford to have a long station period on the Mainland to extend their services there.

Even with a shortened residence requirement, it will still be difficult for sole practitioners to take care of business both on the Mainland and in Hong Kong. As of June 2003, 42% of the 642 solicitor firms in Hong Kong are sole practitioners with limited resources. The waiving of the residency requirement for representative offices in Guangzhou and Shenzhen thus provides a valuable means for very small or even sole practitioners to set up a presence in the Pearl River Delta region.

Hong Kong barristers can provide similar services (as solicitors) to clients when outside the jurisdiction of Hong Kong. With its restrained structure of "sole practitioner" mode of operation, barristers may find greater opportunities to tap into the PRD market.

Implications for Hong Kong legal professionals

Allowing Mainland law firms to employ Hong Kong lawyers will provide immediate career opportunities for Hong Kong lawyers. Nevertheless, the opportunities may be more attractive to less experienced lawyers as there remains a substantial difference in professional fees between Hong Kong and the Mainland. The attractiveness of the option also depends on whether there are restrictions on Hong Kong lawyers becoming partners of Mainland law firms. Since a substantial proportion of the Mainland law firms are small in size, this measure may not create huge employment opportunities for Hong Kong lawyers.

The opportunities to sit for qualifying legal examinations on the Mainland will give Hong Kong's legal professionals an advantage over those from other foreign jurisdictions. Since China has not made any commitment to open up services relating to the practice of Mainland law, it would not have any obligation to provide or phase in similar opportunities for foreign lawyers. Nevertheless, the impact of this measure may only be felt in the longer term. To qualify for the National Legal Examination, Hong Kong professionals need a recognised Mainland law degree and msut take an internship on the Mainland. Owing to the very different legal system of the two jurisdictions, it will take quite some time to gain recognised qualifications in both places. Again, the benefits will be more attractive to less experienced legal professionals. In future, Hong Kong law firms will have lawyers with multi-jurisdiction qualifications, thus enhancing the status of Hong Kong as the platform to provide legal services to the Mainland.

Hong Kong law firms on the Mainland

As of end-May 2003, 51 Hong Kong-based solicitors firms have obtained approval to set up 59 offices on the Mainland.⁷ Eight of them have more than one Mainland office:

Beijing (22), Shanghai (20), Guangzhou (9), Shenzhen (4), Fuzhou (1), Chengdu (1), Xian (1), Tianjin (1).

Accounting Services

CEPA does not include significant market liberalisation measures for Hong Kong's accounting firms and professionals.

Existing regulations

Access for Hong Kong under CEPA

Can set up representative offices.

The same.

JV accounting firms allowed.

Requirements for foreign partner:
1. Annual income no less than US$ 20 million;
2. Employ at least 200 audit professionals;
3. Local hiring requirement: minimum 60 Chinese accounting staff;
4. Accounting firms providing taxation and management consultancy services will not be subject to JV restrictions;
5. Minimum capital requirement of US$ 200,000 for setting up consultancy business.

The same.

Foreign accounting firms can affiliate with Chinese firms and enter into contractual agreements with their affiliated firms in other WTO members.

The same.

Foreigners who have passed the Chinese Certified Public Accountants (CPA) examination will receive national treatment (i.e. they can form partnerships or incorporated accounting firms).

Hong Kong accountants who have already qualified as Chinese Certified Public Accountants (CPAs) and practised on the Mainland are treated on par with Chinese CPAs for the requirement for annual working hours on the Mainland.

Can apply for "Temporary Audit Business Permit" to conduct auditing services on the Mainland.
The permit is to be renewed on a half-yearly basis.

The validity of the "Temporary Audit Business Permit" is lengthened from 6 months to 1 year.

Implications for Hong Kong accounting firms

Foreign accounting firms have been entering into the Mainland market since the early 1990s. Since China's WTO accession, foreigners licensed as Chinese CPAs after passing the National Accounting Examination are allowed to form partnerships or incorporated accounting firms in China.

Nevertheless, the operational requirements for joint venture accounting firms effectively rule out market access for smaller Hong Kong accounting firms. For example, 99% of the 1,100 accounting firms in Hong Kong comprise less than 10 partners. Moreover, only a small proportion of Hong Kong accounting firms can meet the requirement of US$ 20 million in annual income. CEPA does not involve a lowering of such operational requirements for Hong Kong accounting firms.

In recent years, the Mainland authority has been encouraging Chinese firms to cooperate with foreign accounting firms and become "member firms" of foreign counterparts. The Chinese firms have to be restructured according to some regulations. In many cases, the successfully restructured Chinese accounting firms are large ones. They are more inclined to associate with very large international accounting practices. Many of them become members of the Big Four international accounting firms.

At present, many smaller Hong Kong accounting firms cooperate with Mainland counterparts via loose business alliances for job referrals.

Since the main option for smaller Hong Kong accounting firms to serve the Mainland market is via the "Temporary Audit Business Permit", the lengthening of the permit under CEPA reduces the administrative burden on Hong Kong accounting firms.

Hong Kong accounting firms on the Mainland

As of end-Feb 2003 ⁸, Hong Kong-based accounting firms (mainly branches of international accounting firms based in Hong Kong) have set up 18 representative offices, 7 joint-ventures (with 17 branches) and 28 member firms on the Mainland.

Real Estate and Construction

Real Estate

Real estate services are constituted into three major sectors, namely property agency, property management and surveying (valuation, building surveying and land surveying).

Real estate services is a relatively new industry in China. Foreign companies, particularly those from Hong Kong, have been active players. Local companies are gradually emerging.

Real Estate Services

Existing regulations	Access for Hong Kong under CEPA
Wholly foreign-owned property services firms are permitted to offer real estate services involving self-owned or leased property, except for high standard real estate projects	Wholly-owned property services firms are permitted to provide services for high standard real estate projects.
For property services on a fee/contract basis, joint ventures with foreign majority ownership are allowed.	For property services on a fee/contract basis, wholly-owned operations are allowed.

Opportunities

Under CEPA, the scope of services for Hong Kong wholly-owned property services firms in relation to self-owned or leased property is extended to high standard real estate projects.

Property services on a fee/contract basis are mainly property management services. At present, wholly foreign-owned property management companies are only allowed in the Pudong area of Shanghai. Under CEPA, Hong Kong property management services providers will have more flexibility in penetrating the Mainland market, especially real estate projects by domestic developers.

Limitations

There is a capital requirement for establishing a property management company in China, and the requirements vary in different cities. This is a major obstacle for most Hong Kong firms, as they are mainly SMEs. At present, there are about 20,000 domestic property management companies operating in China.

Mutual recognition of professional qualifications has not yet been reached under CEPA for surveying services.

Construction Professional Services

Existing regulations

Access for Hong Kong under CEPA

Foreign majority owned JVs allowed.
For cross-border supply of services, can only take place through co-operation with Chinese professional organisations.

Wholly-owned enterprises are allowed to provide consultancy services.

Opportunities

Hong Kong construction professional services firms will have more flexibility in entering the Mainland market, given that Hong Kong firms can now choose to provide services through wholly-owned enterprises on the Mainland.

Limitations

Most Hong Kong firms are small in size. It is costly for them to establish offices in China and to comply with professional requirements.

As in surveying services, CEPA has not provided a mechanism for mutual recognition of qualifications in construction professional services. Therefore, Hong Kong practitioners are still unable to practise on the Mainland.

Construction and Related Engineering Services

Major types of construction services that Hong Kong companies are currently exporting include project management, contracting and engineering consulting.

Existing regulations	Access for Hong Kong under CEPA
The establishment of a wholly foreign-owned construction and engineering design enterprise is already allowed.	The same.
Wholly foreign-owned construction enterprises may only undertake the following types of construction projects: Totally funded by foreign investment; Financed by international organisations; Sino-foreign jointly constructed projects where the foreign investment is equal to or greater than 50%; Sino-foreign jointly constructed projects where the foreign investment is less than 50% but which Chinese construction enterprises cannot undertake independently due to technical difficulties; China-invested construction projects which Chinese construction enterprises cannot undertake independently due to technical difficulties	Allowed to bid for Sino-foreign jointly invested construction projects regardless of the percentage of foreign investment.
Registered capital requirement for domestic and JV construction enterprises are slightly different.	The same.

Opportunities

According to Chapter 3 of the Regulations on Administration of Foreign-Invested Construction and Engineering Design Enterprises, the business scope of wholly foreign-owned construction enterprises in Mainland construction projects is restricted. CEPA allows Hong Kong companies to have more room to participate in foreign-invested projects.

As performance and experience of Hong Kong construction enterprises will be considered in assessing the qualification of Hong Kong construction enterprises to establish operations in China, it would enhance opportunities for market presence.

CEPA also explicitly states that Hong Kong invested enterprises on the Mainland that have acquired the quality construction certification are permitted to bid for projects in all parts of the Mainland. Moreover, Hong Kong companies are permitted to wholly acquire construction enterprises there.

Limitations

According to the Article 15 of the Regulations, a wholly foreign-owned construction and engineering design enterprise has to employ certified architects or certified engineers in China and the number should not be less than 1/4 of the total certified professionals required under the qualification grading criteria. The benchmark for a joint- venture is 1/8.

This restriction is not relaxed under CEPA. On the contrary, CEPA emphasises that "the number of managerial and technical staff in (Hong Kong invested) construction enterprises on the Mainland shall be the actual number working there".

According to Article 16 of the Regulations, each of the architects and engineers certified in China and the key technical personnel of the foreign service provider in a foreign-invested construction and engineering design enterprise shall reside in China for no less than 6 months each year. Again, CEPA has not touched on this restriction.

Registered capital requirement for domestic and JV construction enterprises still remain slightly different.

Banking

Hong Kong's banking sector is one of those that would benefit significantly under CEPA. CEPA not only opens the Mainland door wider for smaller Hong Kong banks, reduces the requirements for Hong Kong banks to conduct RMB business, but also encourages Mainland financial institutions to participate in Hong Kong, thus enhancing Hong Kong's status as an international financial centre.

Existing Requirements

Requirements under CEPA

To establish a branch in China, a foreign bank needs to have total assets of over US$ 20 billion.

Foreign banks can open sub-branches in cities where they already have a branch operation.

Requirement for conducting RMB business:

Minimum requirement for prior business operation on the Mainland for 3 years;

Profit making for the previous 2 years.

A Hong Kong bank needs to have total assets of over US$ 6 billion to establish a branch on the Mainland.

Removes requirement for setting up representative office before establishing a joint-venture bank.

Lower requirement for conducting RMB business:

Reduced minimum requirement for prior business operation on the Mainland to 2 years;

Profitability assessment is made on basis of overall position of all branches instead of individual branch.

Note: Major qualifying criteria for "Hong Kong Bank": (1) Hong Kong registered bank; (2) Engaged in substantive operations for 5 years or more in Hong Kong.

Hong Kong is the second largest foreign bank group on the Mainland, after Japan. As at May 2003, Hong Kong-based banks have established 35 branches and sub-branches on the Mainland, mostly in southern China.

The asset requirement of US$ 20 billion for opening a branch, introduced in 1994, puts a cap on the number of Hong Kong banks qualified to expand their business on the Mainland. A number of smaller Hong Kong banks, such as Wing Hang Bank, Liu Chong Hing Bank, Asia Commercial Bank, which entered the Mainland before 1994 but do not meet the current threshold, are allowed to maintain their existing networks but are not permitted to expand.

Under CEPA, Hong Kong banks will be allowed to open a branch on the Mainland if they have total assets of US$ 6 billion or more, significantly lower than the entrance requirement under WTO commitments. This will effectively allow almost all eight medium size Hong Kong banks to enter the Mainland market, and for those who have already had branches, to expand their network nationwide.

The requirement that Hong Kong banks must set up a representative office on the Mainland before establishing a joint-venture bank is also waived, though this has not been a popular option for Hong Kong banks to tap the Mainland market.

The easing of restrictions for operation of RMB business benefits not only Hong Kong newcomers to the Mainland market, but also the Hong Kong banks that have already operated on the Mainland to have better access to RMB business.

CEPA not only opens the Mainland door for Hong Kong's medium size banks, its "Financial Services Cooperation" provisions may also bring significant benefits to Hong Kong's status as an international financial centre. Mainland banks are encouraged to relocate their international treasury and foreign exchange trading centres to Hong Kong and to develop networks in Hong Kong through acquisition. Mainland financial institutions (e. g. insurance companies) are encouraged to seek stock listings in Hong Kong.

	Total Asset in US$ mn Dec 2002	No. of Branches/ Sub-branches in China May 2003
HSBC	763,565	9
Hang Seng Bank	60,846	4
Bank of East Asia	23,108	10
DBS Bank (Dao Heng Bank, DBS Kwong On Bank, Overseas Trust Bank)*	20,708	1
Nanyang Commercial Bank	11,199	6
Shanghai Commercial Bank	9,394	---
CITIC Ka Wah Bank	9,344	---
Wing Hang Bank	7,910	---
ICBC Asia	7,982	---
Dah Sing Financial Group (Dah Sing Bank + Mevas Bank)	7,799	---
Wing Lung Bank	7,322	1
Liu Chong Hing Bank	5,022	1
International Bank of Asia	4,143	---
Chiyu Banking Corporation	3,622	2
Chekiang First Bank**	3,564	---
Asia Commercial Bank	1,693	1

Note: * Effective 21 July 2003, the 3 banks will be merged into DBS Bank (Hong Kong); ** Feb 2002 figure.
Source: Annual reports of respective banks

Audio-Visual

Under CEPA, Chinese language films produced by Hong Kong companies can enjoy much wider access to the Mainland market. They can be imported for distribution on the Mainland on a quota-free basis upon vetting and approval by the relevant Mainland authority. At present, China maintains a global quota of 20 foreign films per year to be imported for distribution on a revenue-sharing basis. Requirements for co-productions have also been relaxed significantly.

Other provisions include the distribution of audio-visual products and the construction/renovation of cinemas.

Existing regulations

Access for Hong Kong under CEPA

Films

Imported films:

Imports of 20 foreign films per year on a revenue-sharing basis.
Hong Kong films are treated as foreign films.

Co-productions:

Ratio of foreign and Mainland crews: 50%-50%.
Story of the film should take place in China.

Imported films:

Hong Kong produced Chinese language films free from import quota.

Co-production:

At least 1/3 of the leading artists must be from the Mainland.
Film story no longer required to take place in China. Plot or leading characters should be China-related.

Audio-visual products

Distribution of audio-visual products (excluding films) in the form of contractual joint ventures.

Hong Kong companies can have majority ownership (but not over 70%) in such joint ventures.

Cinema

Foreign companies are allowed to build/renovate cinemas in the form of minority-owned joint venture.

Hong Kong companies can have majority ownership in cinema construction/renovation joint ventures.

Film

Cinematic release on a revenue sharing basis on the Mainland has always been the preferred distribution channel for Hong Kong's filmmakers. However, China maintains a global quota of only 20 foreign films per year (Hong Kong films are treated as foreign films), which means that in reality, this channel has not provided much market access opportunity for Hong Kong films.

Instead, co-production has been a popular route for Hong Kong filmmakers to access the Mainland market, since co-produced films are treated as local films. Nevertheless, there are a lot of restrictions on co-production films, such as the split between Mainland and foreign personnel and the story content.

With the relaxation of the importation of Hong Kong-produced Chinese language films, the Mainland market should create immense business potential for Hong Kong films. The actual scale of benefits hinges, however, on the vetting and approval procedure as well as the revenue-sharing mechanism.

The relaxation of co-production requirements is also encouraging news for Hong Kong's filmmakers.

Cinema

Foreign investors can form joint ventures to construct or renovate cinemas in China. Foreign ownership of up to 49% is allowed.

Hong Kong's cinema operators including Golden Harvest and Lark International are major investors in multiplexes in Mainland cities.

Under CEPA, Hong Kong investors are allowed to have majority ownerships in joint venture cinemas. With controlling right, the attractiveness of joint venture cinemas for Hong Kong investors will be enhanced.

Logistics Services

At present, out of the 3,000 international freight forwarding enterprises operating in China, about 500 are Sino-foreign joint ventures. Around 100 foreign-invested freight forwarders are from Hong Kong.

According to China's WTO commitments, most of the logistics and maritime auxiliary services sectors (except rail transport) will allow the establishment of majority ownership joint ventures immediately or 1 year after accession. Some sectors will also allow wholly foreign owned enterprises according to sector-specific timetables.

For example, China already allows foreign ownership of up to 70% in freight forwarding joint ventures. Minimum registered capital is US$ 1 million, plus an additional US$ 120,000 for each new branch.

China's WTO commitments related to logistics are made on an individual industry basis. There was no commitment on "integrated" logistics services. In June 2002, MOFTEC introduced a new pilot scheme which allowed foreign companies to set up joint-venture logistics services companies in eight provinces and cities (Guangdong, Jiangsu, Zhejiang, Shenzhen, Beijing, Tianjin, Chongqing and Shanghai) to provide a wide range of integrated logistics activities. Minimum registered capital is US$ 5 million, with foreign ownership of no more than 50%.

Present Timeframe for Establishing Wholly-owned Enterprises in Logistics Services

	WTO commitments	Under CEPA
Freight forwarding	Jan 2006	Jan 2004
Storage and warehousing	Jan 2005	Jan 2004
Freight transport by road	Jan 2005	Jan 2004
Freight transport by rail	Jan 2008
Courier services	Jan 2006
Maritime transport		Jan 2004
Logistics services		Jan 2004

According to CEPA, Hong Kong companies can set up wholly-owned enterprises on the Mainland starting from January 2004 to provide logistics services, freight forwarding agency services, storage and warehousing services, road freight transport services and maritime transport services.

The minimum registered capital requirement for international freight forwarding agency companies and storage and warehousing companies set up on the Mainland by Hong Kong companies will be the same as that for Mainland enterprises.

Opportunities

CEPA provisions mean that Hong Kong companies can have a head start of 1 to 2 years compared to other foreign companies. In logistics services, China does not even have a timetable for foreign companies to be allowed to set up wholly owned enterprises.

CEPA will therefore be a breakthrough for Hong Kong companies to penetrate the Mainland market. Hong Kong's freight forwarders and storage/warehousing operators, who already have a strong presence on the Mainland, may have more flexibility in business strategy without having to worrying about identifying good joint venture partners.

A niche area which Hong Kong companies may be interested in is that under CEPA, Hong Kong companies are permitted to provide direct non-stop road freight transport services between Hong Kong and each province on the Mainland.

Limitations

If the asset and capital requirements remain unchanged for integrated logistics services, Hong Kong players, particularly the smaller ones, may still have difficulties entering the market alone.

Convention and Exhibition Services

Under CEPA, Hong Kong companies can supply convention and exhibition services on the Mainland through setting up wholly-owned enterprises.

Existing regulations	Market access for Hong Kong under CEPA
Foreign companies are allowed to provide convention services through majority-owned joint ventures.	Hong Kong convention and exhibition companies are allowed to set up wholly-owned enterprises on the Mainland.

China did not make any commitment to open up the exhibition industry in its accession to the WTO. Foreign exhibition companies have to cooperate with the 200-plus appointed organisations to organise international exhibitions in China. The exhibition licence, however, is allocated to the Chinese company. Foreign exhibition companies face the uncertainties of ownership of the names and logos associated with exhibitions. The plan for allowing joint venture exhibition companies has yet to be implemented.

Opportunities under CEPA

Many of the difficulties faced by Hong Kong exhibition companies when entering the Mainland market can now be solved, since they will be allowed to organise exhibitions through wholly-owned enterprises. As the sole organiser of exhibitions, the intellectual property right issue should no longer be an issue. Exhibition companies will also be able to sell space to Mainland exhibitors directly.

Given the growth potential of the exhibition industry on the Mainland and Hong Kong's critical mass of exhibition organisers and professionals, the CEPA provisions would provide, for the first time, a direct and independent market entry channel for Hong Kong companies.

1	Since Hong Kong has already transformed into a service oriented economy, presently Hong Kong has only a very small manufacturing sector and most supporting industries no longer exist. On the other hand, as the Mainland's industrial clusters expanded rapidly in the pasts decade, most intermediate goods and products are able to be sourced within China. In terms of operation costs, the average wage and rent in Hong Kong are much higher than that on the Mainland, while there is a lack of workers and space in Hong Kong, for large scale low-cost manufacturing activities.
2	For the four major categories of consumer products, the items covered as garments included most cotton and synthetic trousers, shirts, blouses, T-shirts, skirts, jerseys, women's jacket and pajamas (suits and dresses not included); jewellery covering most precious and imitation jewellery; watches that are mainly electrically-operated; cosmetic including perfumes, toilet waters and face and manicure make-up preparations.
3	In line with the direction of its industrial development, the Chinese government has published an Interim Provisions on Guidance for Foreign Investment and Catalogue for the Guidance of Foreign Investment Industries. The Provisions divide foreign investment projects into four categories, namely encouraged, permitted, restricted and prohibited. For projects falling under the category of “restricted”, there are more stringent restrictions on foreign investors in terms of application procedures and equity shareholding of the joint venture. In the latest Catalogue, there are 13 major manufacturing sectors in the restricted list.
4	On the Mainland at present, imports of raw materials and intermediate goods will be exempted from tariff for production for the purposes of export processing. However, if the production is for domestic sales, tariffs of all imported raw materials and intermediate goods will have to be paid upfront.
5	Management consulting, convention, advertising, accounting, construction and real estate, medical and dental, distribution, logistics, freight forwarding agency, storage and warehousing, transport, tourism, audio-visual, legal, banking, securities, and insurance.
6	Ordinary liaison offices, “mail box companies” or companies specifically established for providing certain service to their parent companies cannot enjoy preferences under CEPA.
7	Source: According to Law Society of Hong Kong, 39 of them have actually set up 46 mainland offices as at 10 June 2003.
8	Source: Hong Kong Society of Accountants