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Updated: 2007-06-28 15:52

China's latest decision to knock two percent off the export tax rebate on clothing, a move seen as mild and long expected, could encourage restructuring in the domestic apparel and textile industry, analysts say.

The government announced last week that it would slash export tax rebates from July on nearly 3,000 types of goods, or 37 percent of all the items that are subject to customs tax regulations, in a revamp believed to be the most sweeping adjustment so far to China's rebate regime.

Among them, the rebate for clothing, one of the country's most important export items, will be reduced from 13 percent to 11 percent.

Analysts say although the cut can be well digested by most of the market, it will still raise export costs to Chinese firms, especially small ones.

The market had expected the reduction to come as early as May and had speculated it would be a four percent cut for garments and two percent cut for textiles. But export rebates for textiles are unchanged at 11 percent.

Cheng Xueting, an analyst at Changjiang Securities Co in Shanghai, said one immediate result of the adjustment is that some small garment companies that make low-grade products would be forced to quit the market.

Such companies are set to lose their only sharp competitive edge, low price, after the new rebate takes effect because they are unable to freely pass on the higher costs to customers. Their situation will get even worse as the yuan, China's currency, is set to appreciate faster and the costs of labor and raw materials are also climbing.

Lower-end clothing will also be more easily exposed to anti-dumping charges from Europe and the United States, Cheng added.

But in another sense, industry leaders may benefit from the rebate adjustment, underscoring the government's effort to improve the industry structure and adjust the export mix.

"The biggest challenge to Chinese textile and garment industries is coming from domestic competition," Cheng, who has a "neutral" rating on the domestic garment and textile sector, said in a research note. "Bigger firms can become even bigger now simply because they will fill some of the gap left by small manufacturers who will quit."

Competitors from Southeast Asia and South Asia would also grab a share of the export market for certain low-end products with the departure of small Chinese players, according to Wang Wei, an analyst at China Merchants Securities Co in Shenzhen.

China's clothing exports totaled US$28.2 billion in the first five months, a jump of 17.6 percent from a year before. China is cutting the export tax rebate in a move to reduce rising trade surplus and ease trade friction with its trading partners. China is a key exporter of clothing and textiles to the United States, Europe and Japan.

Analysts said the government has only cut the rebate by two percent for garment exports this time due partly to the important position of the textile and garment industries in the country, which employ 20 million people. But they also believe this cut would not be the last one.

Gao Fangmin, a Guosen Securities Co analyst, said a mild reduction would leave room and allow time for leading companies to conduct internal restructuring and readjust their strategies.

Gao, who has a "cautiously recommend" rating for the industry, said companies which are shifting exports to the domestic market and actively expanding distribution channels and building brands domestically should be favored.

Shi Hongmei, at Orient Securities Co, said the industry is in a transition period in which textile firms that rely on volume rather than added value will no longer be favored, but companies with better innovation, brand awareness and marketing channel will.

"Rebate cuts will accelerate the transition process," Shi said. "Unlike the fast pace we saw in past years, earnings growth in China's clothing and textile sector is set to slow over the next three to five years. Like any other industries, the picture is: survival of the fittest."