CLA-2 CO:R:C:V 544067 BJO
Mr. Jeffrey G. Wood
GTE Sylvania Special Products, Inc.
P.O. Box 780
Luquillo, Puerto Rico 00673
RE: Entry of Network Interface Device Subassemblies under the
Caribbean Basin Initiative
Dear Mr. Wood:
This is in response to your letters of September 10, 1987
and December 16, 1988, concerning a ruling that Haitian-assembled
Network Interface Device subassemblies qualify for duty-free
entry under the Caribbean Basin Economic Recovery Act (CBERA)(19
U.S.C. 2701-2706). We regret the delay in responding to your
request.
FACTS:
You state that each subassembly is made in Haiti, and
includes 38 component parts of Puerto Rican and U.S. origin.
Upon completion, the subassemblies are shipped directly to the
U.S., where they are used in the manufacture of telephone network
interface devices. You further state that the value of the U.S.
components used in the production of each subassembly exceeds 15%
of the appraised value of each article, and that the value of the
components manufactured in Puerto Rico exceeds an additional 15%
of each article's value.
The major features of the Haitian assembly process, which
you state involve 19 different operations and 50 individual
procedures, are as follows:
1. Ring terminals and gold wire splices are crimped with a
crimping machine to opposite ends of each of four pre-cut
insulated wires, which are then inserted by hand and staked
with a seat lead fixture through a prefabricated base. On
the reverse side of the base, the gold wires protruding from
the staked wires are plunged with a contact wire fixture
into a cavity in the base, forming contact wires.
- 2 -
2. The staked wires are bent to the side of the base with a
hand tool, and, with an ultrasonic welder, the wires are
capped at the base with a plastic piece. Each wire is then
tested with a jack short tester for continuity.
3. The jacket of a separate cable is trimmed by hand with an
X-acto knife and the cable is inserted through a pre-cut
hole in the base. A plug is attached to the trimmed end of
this cable by means of a crimping fixture and pliers. The
other end of the cable is trimmed and a square terminal is
crimped to each of the 4 insulated wires contained within
the cable jacket. Epoxy encapsulant is injected into both
sides of the plug lead-in and to the cavity of the base
where the cable had been inserted, and the entire base
assembly is baked for one hour to solidify the epoxy.
4. A four-color adhesive strip is applied to the base. The
four square terminals are pulled through the base and
attached with screws according to the color strip to four
pre-cut holes in the reverse side of the base.
5. A pre-cut "pigtail" cable containing four insulated wires
is crimped at one end with four spade terminals, and each of
these 4 terminals, as well as the four ring terminals
described in the first step, are attached by power
screwdriver to 4 pre-cut points on the base. A gasket is
then applied to the face of the plug described in step 3
above, and the base assembly is tested for short and open
circuits.
6. Three-eighths of one inch of the insulation of three of
the four wires contained in the pigtail is hand stripped, a
resistance test is performed on the pigtail wires, excess
epoxy is removed with the X-acto knife, a UL sticker is
added, a retaining screw is inserted into a pre-cut hole in
the base, a retainer is attached, quality control performed,
and the assembly is packed for shipment.
You advise that the direct cost of the above described
processing operations is equivalent to 18.4% of the subassembly's
total value, if the following cost components are included within
the direct cost computation:
1. Direct labor and associated fringe benefits.
- 3 -
2. Indirect labor, including material handlers, group
leaders, and quality control inspectors, and associated
fringe benefits.
3. Electricity used for manufacturing equipment.
4. Haitian inland freight and brokers fees associated with
the raw materials used.
5. Manufacturing foreman and associated fringe benefits.
6. Equipment maintenance personnel and associated fringe
benefits.
7. Quality Control supervisor and associated fringe
benefits.
8. Cost of transportation provided to direct labor
employees.
9. Depreciation on machinery and equipment.
You state that the following costs have not been included as
direct processing costs:
10. Profit
11. Telephone and telex expenses.
12. Office supplies.
13. Facility maintenance expenses.
14. Electricity consumed for lighting and office air
conditioning.
15. Auto and truck expenses.
16. Plant manager and associated fringe benefits.
17. Facility maintenance personnel and associated fringe
benefits.
18. Accounting personnel and associated fringe benefits.
19. Industrial engineer and associated fringe benefits.
20. Shipping and receiving personnel and associated fringe
benefits.
- 4 -
21. Taxes and insurance expenses.
22. Plant security.
23. Other miscellaneous expenses.
Finally, your letter states that the subassemblies have been
manufactured at your company's facility in Haiti, which has a
labor force of nearly 800, and have been entered under item
685.90, Tariff Schedules of the United States.
ISSUE:
I. Whether the subassemblies assembled in Haiti from
components manufactured in Puerto Rico and the U.S. are products
of Haiti for purposes of the CBERA.
II. Whether the costs involved in assembling the
subassemblies in Haiti are direct costs of processing operations
for CBERA purposes.
LAW AND ANALYSIS:
Under the CBERA, eligible articles the growth, product, or
manufacture of a beneficiary country ("BC") which are imported
directly to the U.S. from a BC qualify for duty-free treatment,
provided the sum of (1) the cost or value of materials produced
in a BC or two or more BC's, plus (2) the direct costs of
processing operations performed in a BC or countries is not less
than 35% of the appraised value of the article at the time it is
entered. See 19 U.S.C. 2703(a)(1).
Haiti is a BC under CBERA, and the imported subassembly is
CBERA-eligible. Your letter indicates that the articles are
imported directly to the U.S. Accordingly, the articles may be
entered duty-free under CBERA if they are products of Haiti, and
if the 35% value-content requirement is met.
I. "Product of" Requirement
An article assembled in a BC from materials originating from
outside the BC, as here, is the "growth, product, or manufacture"
of the BC if the non-BC materials are substantially transformed
in the BC into a "new and different article of commerce." See 19
CFR 10.195(a)(1).
- 5 -
We find that the Haitian assembly operation substantially
transforms the materials imported into Haiti into a new and
different article of commerce. 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." See The Torrington
Co. v. United States, 764 F.2d 1563, 1568 (Fed. Cir. 1985). In
determining whether the combining of parts or materials
constitutes a substantial transformation, the issue is the extent
of operations performed and whether the parts lose their identity
and become an integral part of a new article. Belcrest Linens v.
United States, 741 F.2d 1368, 1373 (Fed. Cir. 1984) If the
combining process is merely a minor one which leaves the identity
of the imported article intact, a substantial transformation has
not occurred. Uniroyal, Inc. v. United States, 542 F.Supp.1026,
1029 (CIT 1982), aff'd, 702 F.2d 1022 (Fed. Cir. 1983); see also
19 C.F.R. 10.195 ("No article or material shall be considered to
have been grown, produced, or manufactured in a beneficairy
country by virtue of having undergone simple (as opposed to
complex or meaningful) combining or packaging operations.").
In C.S.D. 85-25, we found that an assembly operation was
"complex and meaningful" in view of:
"a very large number of components, a significant number of
different operations, [which] required a relatively
significant period of time, as well as skill, attention to
detail and quality control, and...significant economic
benefit to the BC from the standpoint of both value added to
each article, and the overall employment generated thereby."
The assembly process described in your letter also involves
a significant number of components and assembly procedures, and
requires use or operation of a number of different tools and
pieces of equipment, and consequent skill and attention to
detail. In addition, the resultant economic benefit to Haiti
appears significant in light of your statement that the Haitian
production facility employs 800 workers, and the per item direct
cost of the processing is equivalent to 18.4% of the total value
of the article.
As a result of the Haitian assembly operation, the
subassembly is a new article which has a distinct electronic
function apart from its component parts, and is ready for
incorporation into a telephone network interface device when
- 6 -
completed. Further, the component materials, such as the
insulated wires, cable, plug, terminals, and bare base assembly,
lose their own identity and become integral parts of the
subassembly. In The Diamond Match Company v. United States, 49
CCPA 52 (1961), the court found that wooden sticks, which had
been inserted into ice cream and frozen to form "ice-cream-on-a-
stick," lost their identity and became integral parts of the new
article because the new article could not function without them,
and the sticks could not be removed without destroying the
product. In a similar manner, subassembly here will not function
without the component parts, and the component parts are
physically altered and permanently affixed in the new article.
For these reasons, we find that the subassemblies are products of
Haiti for purposes of CBERA.
II. The 35% Value-Content Requirement
The CBERA provides that the cost or value of materials
incorporated in the final article which are produced in the
customs territory of the U.S., excluding Puerto Rico, may be
included in the 35% value-content calculation, but in an amount
not to exceed 15% of the appraised value of the article at the
time it is entered. See 19 U.S.C. 2703(a)(1). The cost of
materials produced in Puerto Rico may be applied to satisfy the
35% value-content requirement without limitation. Id. You may
therefore apply all costs of materials which are produced in
Puerto Rico and incorporated in the subassemblies toward the 35%
value-content minimum; the 15% cap applies only to costs of
materials produced in the customs territory of the U.S. other
than Puerto Rico.
"Direct costs of processing operations" are 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 under consideration. See 19 CFR
10.197(a). They include "all actual labor costs involved in the
growth, production, manufacture, or assembly of the specific
merchandise, including fringe benefits, on the job training, and
the cost of engineering, supervisory, quality control, and
similar personnel." See 19 CFR 10.197(a)(1). Profit and general
expenses of doing business, such as administrative salaries and
casualty and liability insurance are not direct costs of the
processing operation. See 19 CFR 10.197(b).
The salaries, wages, and fringe benefits of those workers,
including quality control inspectors, who are directly engaged in
- 7 -
the production of the subassemblies may be included in the 35%
value-content requirement as a direct cost of the processing
operation. See C.S.D. 80-246, dated April 23, 1980 (HQ
542097)(Salaries, wages, fringe benefits of production workers
are direct costs for purposes of the GSP).
The costs of transportation provided to direct labor
employees is a direct processing cost. See HQ 554246, dated July
29, 1987 (Expenses incurred in transporting personnel to and from
the production facility to render services which are directly
related to the production process are includable as direct
processing costs for purposes of the CBERA.)
Compensation, including fringe benefits, of material
handlers and shipping and receiving employees is also includable
to the extent it is for handling of materials used in the
production of the subassemblies, or the finished subassemblies
themselves. See C.S.D. 80-208, dated March 24, 1980 (HQ
542035)(Cost of employees who receive, unload, and stock raw
materials in manufacturer's plant, distribute materials to
assembly line, maintain storage area and raw material inventory
records, and pack and prepare the eligible articles for shipment
are direct costs of processing operations for GSP purposes).
Compensation of group leaders, quality control supervisors,
and manufacturing foremen are direct processing costs to the
extent these personnel function as first line supervisors of
workers directly involved in the production operation. See HQ
554246, dated July 29, 1987. Compensation of a plant manager is
generally not considered a direct cost of the processing
operation, since such personnel ordinarily perform only
administrative functions. However, we have held that a plant
manager's compensation, including fringe benefits, is a direct
cost to the extent he or she functions as a first-line production
foreman. See HQ 543748, dated June 18, 1987. If the plant
manager, or other administrative personnel, perform such a
function, then a percentage of their salary and fringe benefits
related to the performance of such functions would be a direct
cost of processing operation. Id.
Compensation of maintenance personnel is a direct processing
cost to the extent they maintain equipment used in the production
of the subassemblies. See HQ 543748, dated June 18, 1987.
Similarly, the cost of engineering personnel, including fringe
benefits, is a direct cost of the processing operation if
- 8 -
directly incurred in the production of the specific merchandise.
See 19 CFR 10.178(a)(1). Accordingly, a pro-rata portion of the
compensation paid to the industrial engineer may be considered a
direct processing cost to the extent his or her services relate
to the subassembly production equipment or process.
Utility costs are direct processing costs to the extent
actually incurred in production of the eligible article. See HQ
543748, dated June 18, 1987. Accordingly, the electricity used
to operate equipment in the production of the subassemblies is a
direct processing cost. A pro-rata share of the cost of
electricity used for lighting the work area where the
subassemblies are manufactured would be a direct cost of
processing (C.S.D. 80-208, dated April 23, 1980), but the cost of
electricity used for lighting or air conditioning administrative
offices would not be includable.
Depreciation on machinery and equipment that is used in the
production of the subassemblies is a direct processing cost.
See 19 CFR 10.197(a)(2), C.S.D. 80-246, dated April 23, 1980 (HQ
542097).
The Haitian inland freight charges and brokers fees
associated with the raw materials used in the production of the
subassemblies are not direct processing costs, but are properly
considered a cost of the raw materials. See 19 CFR
10.196(c)(1)(ii), HQ 554246, dated July 29, 1987. As stated
above, costs of raw materials produced in the U.S. may be
included, but in an amount not to exceed 15% of the entered value
of the articles. Costs of raw materials produced in Puerto Rico
may be included without limitation. Accordingly, if the broker's
fees and inland freight charges relate to U.S. produced
materials, they may be included as part of the material costs,
subject to the 15% limitation. If such costs relate to Puerto
Rican materials, they may be included as part of the materials
cost without limitation. If such charges relate to materials not
produced in the U.S., Puerto Rico, or other BC, they may not be
included.
While casualty and liability insurance is not a direct
processing cost, the costs of property insurance covering
machinery and equipment used in the production process and group
insurance provided to production employees as a fringe benefit
are includable as direct processing costs. See HQ 543748, dated
June 18, 1987. Taxes are not includable unless they meet the
- 9 -
criteria of 19 CFR 10.197. See HQ 056936, dated August 22, 1978
(A pro-rata share of taxes on that part of the building used
in the processing operation is includable for GSP purposes.)
In C.S.D. 80-208, we stated that costs of janitorial
services, to the extent incurred in the plant or factory area,
were analogous to other includable items of factory overhead
necessary to production, such as electricity to keep the machines
running and heat to keep the workers comfortable. In the same
manner, we find that the facility maintenance expenses, including
compensation of maintenance personnel, are direct costs of the
processing operation to the extent they relate to the plant area
where the articles are produced. Those maintenance costs
incurred for upkeep of administrative offices or other areas of
the facility not related to the production area are not
includable.
The costs of plant security, accounting personnel, office
supplies, telephone and telex, and automobiles and trucks are not
includable as direct processing costs. See HQ 543748, dated June
18-1987, HQ 541249, dated February 24, 1977, C.S.D. 80-208, dated
March 24, 1980 (HQ 542035), and HQ 541215, dated February 25,
1977.
In sum, items 1 through 3, 5 through 9, 13, 14, 16, 17, 19,
20, and 21 are direct costs of the processing operation subject
to the limitations discussed above. Items 4, 10, 11, 12, 15, 18,
and 22 are not direct processing costs. Item 23, which you
describe as "miscellaneous expenses," must be further described.
CONCLUSION:
The subassemblies assembled in Haiti from materials of U.S.
and Puerto Rican origin will be considered products of Haiti for
purposes of the CBERA. Based on the cost information provided,
the 35 percent value-content requirement of the CBERA will be
met. Accordingly, based on the information provided, and
assuming the articles will be imported directly to the U.S., the
articles will be eligible for duty-free treatment under the
CBERA.
Sincerely,
John Durant, Director
Commercial Rulings Division