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UNCLAS SECTION 01 OF 02 GUANGZHOU 000291 
 
SENSITIVE 
SIPDIS 
 
STATE FOR EAP/CM 
STATE PASS USTR CHINA OFFICE 
 
 
E.O. 12958: N/A 
TAGS: ETRD EIND ELAB ECON PGOV CH
SUBJECT: Uncomfortable Squeeze for South China Shoe Factories 
 
REF: A) GUANGZHOU 228; B) GUANGZHOU 121 
 
GUANGZHOU 00000291  001.2 OF 002 
 
 
(U) This document is sensitive but unclassified.  Please protect 
accordingly. Not for release outside U.S. government channels. Not 
for internet publication. 
 
¶1. (SBU) Summary: What do you do when it costs more to close a south 
China shoe factory than to continue operations?  Some Hong Kong and 
Taiwan investors downsize and keep their production lines open, 
adopting a wait-and-see approach.  Others turn the key on the door 
one evening and abscond at night, leaving unpaid workers and 
helpless landlords to clean up the mess.  Increasing costs have led 
many investors to consider closing or moving their factories, with 
availability of capital, dependence on local supply chains, age 
(their own as well that of their equipment) and ownership succession 
as key factors in such decisions.  What could trigger a move outside 
China?  If there are signs of footwear supply chains moving out, a 
mass exodus might happen fairly rapidly.  End summary. 
 
High Costs to Quit, Not as High Costs to Continue 
--------------------------------------------- ---- 
 
¶2. (SBU) Closing a south China shoe is not cheap, according to Una 
Tang of Brilliant Footwear in Dongguan.  The largest cost is 
severance pay for workers, which recently increased with passage of 
China's new Labor Contract Law in January 2008.  Under the new 
regulations, each employee is eligible for one month's salary for 
each year worked in the factory, which Tang estimates would quickly 
add up to RMB 5,000,000 (USD 715,000) at her factories.  In 
addition, Hong Kong and Taiwan investors -- who dominate many 
labor-intensive manufacturing industries in the area, including 
shoes -- would likely also incur substantial losses of real estate. 
Tang explained that because they are not citizens of the PRC, these 
investors are ineligible to hold land after they close the 
businesses for which the land was leased.  Instead, Hong Kong owners 
like Tang face a stark choice -- they must liquidate the lease 
immediately or risk forfeiture if it sits idle without a registered 
"Chinese legal entity" to hold it.  In Tang's case, she believes in 
the long-term potential of her businesses, and these regulatory 
factors helped her choose to keep her factories open but downsize 
their operations.  She transferred one to her eldest son and 
continued managing another even though she was ready to retire, in 
hopes of eventually attracting another son into carrying on the 
family business. 
 
¶3. (SBU) Tang's eldest son hesitated to take the reins two years 
ago, according to his mother.  Despite well-established customers 
like Gap and Gymboree, first pick of all his mother's employees and 
equipment, and no capital costs except materials, William Tang of 
Ever Bright Footwear was not sure he wanted to live in Dongguan and 
work the long hours it would take to keep the business viable and 
growing.  William said total costs for his small 500-person factory 
had risen approximately 20-30 per cent in the two years since he 
took over, and economic slowdowns in the United States and Europe 
have meant buyers are less willing to negotiate prices or place 
large orders.  As a result, Ever Bright's production has been cut to 
approximately 180,000 pairs per month.  He commented that small- and 
medium-scale manufactures have turned to in-house product design, 
increased automation and substitution of materials in order to lower 
costs while continuing to meet demand.  In one room of his factory, 
15 skilled employees operated computerized sewing machines, each 
with the daily output of eight people.  This is part of a trend 
towards automation in a market where even monthly salaries as low as 
RMB 1200 (USD 170) make it difficult to compete for customers buying 
labor-intensive footwear and apparel products. 
 
Some Owners Simply Run Away 
--------------------------- 
 
¶4. (SBU) Reports of runaway factory owners have been widespread in 
the Pearl River Delta (PRD).  Many describe owners shuttering 
facilities in the dead of night and leaving without paying workers. 
The situation hit home for Una Tang on the day we visited her 
factories.  Government officials called her to report that an 
overseas investor who rented and independently operated another of 
her factories had fled without paying worker salaries or utilities 
for approximately two months.  After heated discussion between 
officials and Tang's staff, she agreed to take responsibility for 
 
GUANGZHOU 00000291  002.2 OF 002 
 
 
the delinquent renter -- selling the land and factory and paying all 
overdue bills, including worker wages.  When asked what would happen 
to the former renter, Tang indignantly said he would be impossible 
to find or prosecute, having already changed all of his phone 
numbers and contact information, and probably even his name. 
 
Factory Owners Getting Older 
---------------------------- 
 
¶5. (SBU) Many Hong Kong and Taiwan investors in the PRD have reached 
retirement age and are ready to reduce their role in day-to-day 
operations, but succession is often a problem as many adult children 
are uninterested in living or working near the factories their 
parents built and operated for the last 20 years or more.  Tang 
pointed out that neither of her two younger sons seems willing to 
take control of one of her factories.  Instead, Tang's long-time 
general manager continues to run the downsized facility with almost 
no profit.  Meanwhile, she lives in Hong Kong and plans new 
strategies in a market fraught with constantly rising costs and 
tougher regulations. 
 
Considering a Move, But Not Yet Moving 
-------------------------------------- 
 
¶6. (SBU) Michael Yu, President of Pegasus Footwear in Panyu district 
of Guangzhou, said although he is exploring options for relocation 
or closure of his 18-year old shoe factory, he believes a 
wait-and-see approach is more prudent at this time.  Yu's family 
shoe business has operated since 1956, but was relatively late in 
relocating from Taiwan to Guangzhou in 1990.  Despite dramatically 
increased costs for PRD shoe factories and other labor-intensive 
industries in recent years, Yu said his factory currently employs 
20,000 workers and produces shoes worth USD 150 million per year, 
and he is not convinced that it makes sense to relocate again to an 
area with even lower wages.  Land and machinery at existing 
factories are completely paid off, and severance pay for workers 
would be costly, making the cost of continuing operations low 
compared with moving to inland areas of China or nearby southeast 
Asian countries like Vietnam, Thailand or Indonesia. 
 
¶7. (SBU) In addition, Yu identified supply chains as the most 
critical factor in deciding where to locate a factory.  According to 
Yu, the lack of a local supply chain in southeast Asian countries 
means the total cost of production is often higher than in China. 
Yu singled out Indonesia as the most dramatic example, saying the 
country's shoe industry has no supply chain and all materials must 
be imported from abroad.  A stable political system, the size of the 
labor market and domestic consumer markets are also important 
factors for companies hoping to relocate outside China, according to 
Yu.  Despite no immediate plans to leave, he is watching closely for 
signs of China's footwear supply chains moving out, predicting that 
such an exodus would quickly spell the end of his industry here.  He 
described how each of the previous migrations of the shoe industry, 
from Japan to Taiwan and later from Taiwan to China, were preceded 
by massive disappearances of supply chain industries from the 
established markets.  Yu warned that such a change would be so rapid 
as to catch many people by surprise, likely happening over a 12-24 
month period. 
 
GOLDBERG