HQ 0556190 - Application for Further Review of Protest No. 2704-91- 9102966 concerning the eligibility of artificial flowers from Macau for duty-free treatment under the GSP. - United States International Trade Commision Rulings

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HQ 556190

December 17, 1992

CLA-2 CO:R:C:S 556190 WAW

CATEGORY: CLASSIFICATION

District Director
U.S. Customs Service
300 S. Ferry St., Terminal Island
Los Angeles, CA 90731

RE: Application for Further Review of Protest No. 2704-91- 9102966 concerning the eligibility of artificial flowers from Macau for duty-free treatment under the GSP.

Dear Sir:

This is a decision on an Application for Further Review of the above-referenced protest filed by Siegel, Mandel & Davidson, P.C., on behalf of McCrory Stores against the assessment of duties on artificial flowers imported into the U.S. from Macau. We have considered the protest and additional submissions by counsel dated December 17, 1991, June 5, 1992, and July 2, 1992, which contest the denial of duty-free treatment for certain artificial flowers from Macau under the Generalized System of Preferences (GSP) (19 U.S.C. 2461-2466), and our decision follows.

FACTS:

A protest and Application for Further Review was made by the protestant against the tariff classification of artificial flowers under subheading 6702.90.4000, HTSUSA, at a duty-rate of 9 percent ad valorem. Protestant claims that the artificial flowers which were entered in 1989 are as follows: November 4, November 13, and December 6. Those entries which were entered in 1990 are as follows: January 17, January 18, February 14, February 16, April 21, May 7, May 15, July 23, July 24, July 26, August 1, August 11, August 27, September 11, 1990, should be classifiable under subheading A6702.90.4000, HTSUSA, and accorded duty-free treatment pursuant to the GSP.

By memorandum dated January 22, 1991 (INV 8-02 CO:T:O:C RG), the Assistant Commissioner for Commercial Operations instructed the Regional Commissioners that entries of artificial flowers claimed to be manufactured in Macau by certain factories should be denied GSP treatment and rate advanced via the issuance of a Proposed Notice of Action (CF 29). Furthermore, the Assistant Commissioner's memorandum stated that the Senior Customs Representative, Hong Kong (SCR/Hong Kong) had issued reports of investigation concerning the alleged transshipments of PRC-origin artificial flowers via Macau, which indicate that the named factories were either "not manufacturing artificial flowers in Macau, or were incapable of manufacturing them in the quantities exported to the U.S." Therefore, the Assistant Commissioner stated that in the absence of "compelling evidence" to the contrary, protests filed on the liquidation of entries from any of the named factories should be denied.

The factories involved in this protest, "Tai Keong," "Sun Nga," and "Boeing" are three of the factories which were precluded from being liquidated as duty-free under the GSP pursuant to the above memorandum. Protestant states that the artificial flowers at issue are produced by the "Tai Keong", "Sun Nga," and "Boeing" factories in Macau in the following manner:

(1) Production of the Stems - (a) wire on spools or in lengths, either imported from Hong Kong or produced in Macau, is fed into an injection molding machine where it is cut to required lengths; (b) plastic imported from Japan in powder or pellet form, is fed into the same injection molding machine where it is liquified through the application of heat; (c) the cut wire is encased in the plastic by the molding machine, thus producing flower and foliage "stems"; (d) these "stems" are then dropped into a bin to cool; (e) additional plastic components such as vines, pips and califs are produced through the molding process.

(2) Production of Petals and Leaves - (a) undyed polyester fabric, imported on large rolls from Taiwan, are fed into a dye tank and then through a dryer; (b) the fabric is placed on a spreader, i.e., it is unrolled and folded into layers; (c) a die cutting machine cuts through the layers of fabric to form stacks of petals and leaves; (d) in certain instances, these die cutting machines eject steam which, in conjunction with the pressure of the cutting machine, creates the desired indentation and ridges in the petals and leaves; (e) in certain instances, the petal edges are dyed to a darker shade than the body of the petal ("tipping"), the leaves are silk- screened to create multi-colors or the leaves are coated to create a shiny appearance. The processes involved in producing the petals and leaves are generally conducted at separate factory locations (within Macau) so that the fabric is not soiled by the molding operations which involve considerable grime and dirt. The stems for the "Tai Keong" factory products are molded at its related factory, "Diamante", in Macau.

(3) Pre-assembly operations - Pre-assembly operations are conducted in Macau which include (a) attaching califs and pips to the petals; and (b) adhering vine strands to the leaves for use in the bush design.

(4) Final Assembly - The pre-assembled petals, leaves and stems are sent to China where the components are snapped together by hand. The goods are then returned to the aforementioned Macau factories for inspection, labeling, packaging and exportation.

The protestant states that fully executed Form A's were acquired from the government of Macau and were included with the shipping documents accompanying the entries here at issue. The protestant claims that the Form A's accompanying these entries exhibit no irregularities and bear the signature of the certifying government authority in Macau. The protestant claims, based on the foregoing documentation, that all three of the factories which are the subject of this protest were fully operational during late 1989 and throughout 1990.

In addition, the protestant has submitted the following documentation relating to the operations of the "Tai Keong" (Great Strong/Diamante) factory in Macau which they believe further substantiates that this factory produced artificial flowers and foliage in Macau during the period here in question: (1) invoices and receipts for raw materials purchased in early 1990 by the Tai Keong/Diamante factories in Macau; (2) records of transportation costs dated February 28, 1990, for shipping materials from the pier to the Macau factory; (3) production records of August 10, 1990, reflecting folding, cutting and dyeing of petal materials; (4) production records of April 1, 1990, through April 14, 1990, for petal pressing, and time cards for employees operating presses, covering the period of August 16, 1990, through August 31, 1990; (5) statement for mold purchases by Diamante factory, dated January 2, 1990; (6) application for exporting stems and partially assembled petals to China for final assembly, Chinese invoices for assembly, and application for reimportation of assembled articles into Macau; (7) June 1990, invoices for labels and cartons used in packaging artificial flowers/foliage; (8) factory worker attendance records and bank payroll records for the period of January 1990; (9) utility, telephone and fax charges incurred by Tai Keong during the period of November, 1989, through January, 1990, and by the Diamante factory during the period of June through August, 1990; (10) total monthly production costs for the period of January 1, 1990, through October 31, 1990, and completion rates for orders placed for the period of January 1, 1990, through January 31, 1991; (11) details of production costs for canceled orders for the period of January 1, 1990, to October 31, 1990; (12) record of amount of materials used to produce artificial flowers/foliage during the period of January 1st through December 31, 1990; (13) month-by- month wage and salary records for the period of January 1, 1990, through October 31, 1990; (14) production cost and wage graphs on a month-by-month basis for the period of January 1st through October 31, 1990; (15) 1990 invoices for silk-screening, flocking and painting processes for certain flowers/foliage styles, which were subcontracted to other factories located in Macau.

For all of the entries subject to this protest, the Form A's state that the cost of the domestic material plus the direct cost of processing operations in Macau is equal to at least 35% of the "ex-factory price" of the goods here at issue. The protestant claims that the processes conducted in Macau by the "Sun Nga" factory to manufacture the subject flowers and foliage comprise approximately 37% of the appraised value of the merchandise, while materials produced in Macau (carton box) comprise approximately 5% of the value.

Similarly, the protestant claims that the manufacturing processes conducted by the "Tai Keong" factory in Macau comprise approximately 35% of the appraised value of the merchandise, while materials produced in Macau make up approximately 14% of the value. In support of the figures set forth in this affidavit, protestant provided further cost breakdowns from the manager of the Tai Keong factory which set forth actual cost figures for each manufacturing process and for the raw materials used in the production of the artificial flowers. A separate breakdown was provided for each style category covered by each of the subject entries. Protestant has noted that these costs vary depending upon the particular style number at issue and the complexity of the particular floral design, the amount of material required for that design, etc. Accompanying these cost figures was an affidavit from So Cho Hank, manager of the Artificial Flower Manufacturing Company Fabrica De Flores Artificials Tai Keong, attesting to the validity of the processing costs, materials cost and country of origin information contained in the documents.

The protestant states that the "Boeing" factory was closed in April, 1991, and as a result they were not able to obtain a value breakdown of the manufacturing processes.

The protestant has provided an affidavit by Mr. Herman Cheung, a market representative employed by McCrory's buying agent, Tradepower (Hong Kong) Ltd., which states that he has visited the aforementioned factories in Macau approximately 20 times over a period of seven years, during which he personally observed all phases of the above-described production processes. Furthermore, in an affidavit by Michael Capuano, Senior Vice President of Import Merchandising at McCrory Stores, he stated that on March 16, 1991, he visited the "Tai Keong" factory where he personally observed the dyeing and cutting processes involved in producing the petal and leaves in the manner described above.
A representative of the "Boeing" factory has also stated in an affidavit by Ho Shui Kwong, manager of Hung Wan Trading Company, that the merchandise involved in this protest was produced in Macau. Similarly, in a combined affidavit, Lao Peng Fai and Nga Pak Kan state that they were the individuals in charge of production records for the "Sun Nga" factory in Macau during the period of 1989 and 1990, which covers the merchandise which was claimed to be manufactured by their factory in Macau during the period of the subject protest.

The protestant claims that the procedures conducted in Macau constitute a substantial transformation of the raw materials used to produce the artificial flowers/foliage components into "products of" Macau and, further, that there is no subsequent substantial transformation which results from the assembly of these components in the PRC. Finally, the protestants argue that since at least 35% of the appraised value of the merchandise is attributable to the direct costs of processing operations incurred in Macau, and the merchandise will be imported directly from Macau into the U.S., it is clear that the artificial flowers are entitled to duty-free treatment pursuant to the GSP.

ISSUE:

Whether the artificial flowers manufactured by "Tai Keong", "Sun Nga" and "Boeing" factories in Macau are eligible for duty- free treatment under the GSP.

LAW AND ANALYSIS

Under the GSP, eligible articles the growth, product or manufacture of a designated beneficiary developing country (BDC) which are imported directly into the customs territory of the U.S. from a BDC may receive duty-free treatment if the sum of (1) the cost or value of materials produced in the BDC, plus (2) the direct costs of the processing operation in the BDC, is equivalent to at least 35% of the appraised value of the article at the time of entry. See 19 U.S.C. 2463(b).

The 35% value-content and "imported directly" requirements of 19 U.S.C. 2463(b) were conceived as separate and distinct country of origin tests designed to ensure that the benefits of the duty- free program actually accrue to the countries for which they were intended. See The Trade Act of 1973: Hearings on H.R. 10710 Before the Senate Committee on Finance, 93rd Cong., 2nd Sess. 326 (1974) (statement of William D. Eberle, U.S. Special Representative for Trade Negotiations). This goal is accomplished by limiting the opportunities during which non-eligible goods may be commingled with eligible goods. The importer must satisfy both requirements in order to receive duty-free treatment of its merchandise. In Madison Galleries, Ltd. v. United States, 688 F. Supp. 1544 (CIT 1988), aff'd, 870 F.2d 627 (Fed. Cir. 1989), the court concluded that, under the GSP statute, it is unnecessary for an article to be a "product of" a GSP country to be eligible for duty- free treatment under that program. However, section 226 of the Customs and Trade Act of 1990, includes an amendment to the GSP statute requiring articles entered on or after August 20, 1990, to be a "product of" a BDC to receive duty-free treatment. Therefore, artificial flower shipments from Macau which were entered on or after August 20, 1990, must also satisfy the "product of" requirement.

Macau is a BDC. See General Note 3(c)(ii)(A), Harmonized Tariff Schedule of the United States Annotated (HTSUSA). Based on the information provided, the artificial flowers are classified in Heading 6702, HTSUSA, which provides for Artificial flowers, foliage and fruit and parts thereof; articles made of artificial flowers, foliage or fruit. All of the subheadings under Heading 6702, HTSUSA, are GSP-eligible provisions. Accordingly, artificial flowers may be entered without payment of duty if they are considered to be a "product of" Macau, the GSP 35% value-content minimum is met, and they are "imported directly" into the U.S.

The first question presented in determining whether the artificial flowers are "products of" Macau, is whether die cutting the imported fabric in Macau into desired patterns for use as artificial flower components constitutes a substantial transformation. Based on prior court decisions, a substantial transformation occurs "when an article emerges from a manufacturing process with a name, character, or use which differs from those of the original material subjected to the process." Texas Instruments Inc. v. United States, 69 CCPA 152, 156, 681 F.2d 778, 782 (1982).

Customs has held under certain circumstances that the cutting of fabric into specific patterns and shapes suitable for use to form the completed article is sufficient to substantially transform the fabric into new and different articles of commerce. See Headquarters Ruling Letter (HRL) 731028 dated July 18, 1988 (cutting of fabric into garment parts for wearing apparel constitutes a substantial transformation), and HRL 555693 dated April 15, 1991 (cutting of fabric to create pattern pieces for an infant carrier results in a substantial transformation).

In this case, based on the information provided, we find that the die cutting of fabric for artificial flowers in Macau is analogous to the cutting of garment parts for wearing apparel and the cutting of pattern pieces for an infant carrier. In the instant case, the fabric is cut into various shapes and sizes suitable for use as individual flower components (e.g., petals and leaves) which, when assembled with other components, create the finished artificial flower. Accordingly, we find that the cutting to shape of the imported fabric substantially transforms the material into a new and different article of commerce. Therefore, the cut flower components are considered to be "products of" Macau for purposes of the GSP.

Furthermore, with regard to the injection molding process performed in Macau, Customs has consistently held that products created by a thermal injection molding process have undergone a substantial transformation. See HRL 071518 dated November 8, 1984; 071534 dated July 19, 1984; HRL 555659 dated December 3, 1990 (molded plastic parts, such as handles, folding hinges, brakes, and folding clip are different articles from the resins from which they are made). In the instant case, it is clear that the plastic pellets imported into Macau in connection with the production of the flowers and foliage, where they undergo a thermal injection molding process to create "stems" and other plastic parts are substantially transformed into new and different articles of commerce. Therefore, at this stage in the production process, the fabric and plastic flower components are considered "products of" Macau.

Furthermore, we have previously held that, for purposes of the GSP, an assembly process will not work a substantial transformation unless the operation is "complex and meaningful." See C.S.D. 85-25, 19 Cust. Bull. 544 (1985). In the instant case, we believe that the assembly of these flower components in the PRC, which consists of snapping the pre-assembled components together, is too minor a procedure to constitute a substantial tranformation of the components into "products of" the PRC. Furthermore, the flowers, stems and leaves are clearly recognizable as completed components prior to importation to the PRC and already possess the essential character of flowers as a result of the manufacturing processes in Macau. Thus, the simple assembly process which occurs in the PRC does not substantially transform the flower components into "products of" the PRC.

We have previously held that the "imported directly" requirement is not met where a product of a BDC is further processed in a non-BDC and then merely transshipped through the territory of the BDC without entering into the commerce of the BDC. See HRL 555398 dated December 12, 1989. In HRL 554027 dated January 13, 1987, we held that fabric which is imported into the Virgin Islands where it is cut into garment parts and shipped to the Dominican Republic where the parts are sewn into jackets and vests, and subsequently returned to the Virgin Islands where buttonholes are made and buttons sewn on, satisfies the "imported directly" requirement, since the merchandise ultimately travels directly from the insular possession to the U.S. Thus, based upon HRL 554027, despite the transfer of the artificial flower components to the PRC for assembly of the completed flowers in the instant case, the subsequent export of the components to Macau for final inspection, packaging, as well as labeling operations before shipment to the U.S., satisfies the "imported directly" requirement for purposes of the GSP.

In addition to the "imported directly" and "product of" requirements, to be eligible for duty-free treatment under the GSP statute, merchandise must also satisfy a 35% value-content requirement. There is no evidence that the raw materials imported into Macau underwent a double substantial transformation, for purposes of being counted as "materials produced in the BDC." See Torrington Co. v. United States, 8 CIT 150, 596 F. Supp. 1083 (1984), aff'd 764F.2d 1563 (1985). Thus, under the circumstances in this case, the 35% value-content requirement must be satisfied by calculating the "direct costs of processing operations" performed in Macau alone. Direct costs of processing operations include those costs which are either directly incurred in, or which can be reasonably allocated to, the growth, production, manufacture, or assembly of the specific merchandise in Macau. See section 10.197, Customs Regulations (19 CFR 10.197(a)). Therefore, the direct costs of processing incurred in connection with the assembly and any other operations which take place in the PRC, may not be counted toward satisfying the 35% value-content requirement.

Under an affidavit dated April 15, 1991, signed by So Cho Hang, alias Joe So, the manager of the "Tai Keong" (Great Strong) factory in Macau, a percentage breakdown of the processing and material costs involved in the production of the artificial flowers which are involved in this protest was provided. A separate breakdown was provided for each style category covered by each of the subject entries. To calculate the value-content requirement, we first added the costs of manufacturing (i.e., die cutting, coloring, molding, assembling in Macau, pressing, packing and transportation costs) excluding the costs for administration and assembling in China, to those materials produced in Macau (i.e., carton box, and label), excluding the costs of those materials not produced in Macau, and the resulting number was divided by the full appraised value of the shipment. Based on our calculations of the cost figures submitted on behalf of the "Tai Keong" factory, we have determined that the direct costs of processing operations in Macau for all of the artificial flowers manufactured in this factory represent at least 35% of the appraised value of the merchandise.

In another affidavit signed by Mr. Lao Peng Fai and Mr. Ng Pak Kan, who were in charge of the production records for the "Sun Nga" factory in Macau during the period of the protest, a general percentage breakdown of the material and labor costs involved in the manufacture of artificial flowers at the Sun Nga factory was provided. However, absent the actual costs of processing operations for each entry covered under this protest, or the total cost of processing operations upon which the percentages were based, such as protestant has provided for those artificial flowers manufactured at the Tai Keong factory, we cannot conclude that the GSP 35% value-content requirement has been satisfied. Moreover, inasmuch as protestant has not provided actual costs of processing for those artificial flowers manufactured in the "Boeing" factory and has stated that further cost information from this factory cannot be obtained because the factory has since closed, we cannot conclude that the GSP 35% value-content requirement has been satisfied. Thus, the subject artificial flowers from the Boeing and Sun Nga factories are not eligible for duty-free treatment under the GSP.

HOLDING:

It is the opinion of this office that those entries of artificial flowers manufactured in the "Tai Keong" factory in Macau are entitled to duty-free treatment under the GSP. We believe that in this instance, the manufacturing processes performed in Macau substantially transform the imported fabric and plastic materials into "products of" Macau. We also believe there is compelling evidence that the GSP 35% value-content requirement has been satisfied, and the merchandise has been "imported directly" to the U.S. from Macau. Thus, the portion of the protest relating to the entries of artificial flowers which are manufactured in this factory should be granted.

Because protestant has provided no evidence regarding the actual costs of processing operations for those entries of artificial flowers from the "Boeing" and "Sun Nga" factories, we find that the GSP 35% value-content requirement has not been satisfied. Therefore, the portion of the protest relating to the entries covering the "Boeing" and "Sun Nga" factories should be denied.

A copy of this decision should be attached to the Customs Form 19 and mailed to the protestant as part of the notice of action on the protest.

Sincerely,

John Durant, Director

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