CZECH REPUBLIC: 2005 INVESTMENT CLIMATE STATEMENT

UNCLAS SECTION 01 OF 07 PRAGUE 000068

SIPDIS

STATE FOR EUR/NCE AND EB/IFD/OIA
STATE PASS USTR FOR LERRION
COMMERCE FOR 4232/ITA/MAC/MROGERS

E.O. 12958: N/A
TAGS: EINV KTDB EZ OPIC USTR
SUBJECT: CZECH REPUBLIC: 2005 INVESTMENT CLIMATE STATEMENT

REF: STATE 250356


1. Post's updated investment climate statement for 2005
follows para 2.


2. THE INVESTMENT CLIMATE

Maintaining an open investment climate has been a key
element of the Czech Republic's transition from a Communist,
centrally planned economy to a functioning market economy.
The Czech Republic's stable political and economic
environment, its location on the doorstep of the European
Union, its low cost structure and its well-qualified labor
force make it an attractive destination for foreign
investment. Prior to its accession to the European Union on
May 1, 2004, the Czech government harmonized its laws and
regulations with those of the European Union. The Czech
economy has experienced moderate growth in the past few
years. A rising government budget deficit could put
continued growth at risk in the medium to long term,
particularly if the current strong direct foreign investment
flows slow down and European demand remains weak. The Czech
government offers attractive incentives for foreign direct
investment. Legally, foreign and domestic investors are
treated equally. Enforcement of intellectual property
rights is improving. According to U.S. Embassy
calculations, the U.S. is currently the third largest
investor in the Czech Republic, behind Germany and the
Netherlands.

Openness to Foreign Investment

For several years, the Czech Republic has received more
foreign direct investment (FDI) per capita than any other
country of the former Soviet bloc. Gross Domestic Product
(GDP) has been growing recently (2.9% in 2003, and an
estimated 3-4% in 2004),based largely on significant
inflows of foreign investment and growing consumer demand
supported in part by rising wages influenced by that
investment. Foreign investment is boosting productivity,
creating new jobs and raising wages and domestic
consumption. It is also contributing to a trend of
appreciation in the value of the Czech currency, the crown.
This phenomenon is helping to keep inflation low (0.1% in
2003, about 3.5% in 2004),but somewhat reduces the
competitiveness of Czech exports. Some unfinished elements
in the transition, such as slow and uneven enforcement of
contracts by the Czech courts, have adversely affected
investment, competitiveness, and company restructuring.

There have been numerous major U.S. investments since 1990,
and many American firms are looking closely at investing
directly into the Czech Republic. The government has
harmonized most relevant laws with EU legislation and the so-
called "acquis communautaire". This effort has involved
positive reforms of the judicial system, civil
administration, financial markets regulation, intellectual
property rights protection, and many other areas important
to investors. While there have been many success stories, a
handful of investors have experienced problems, mainly in
heavily regulated sectors of the economy such as the media
and in enterprises where the state is a partner. Investors
also complain about difficulties in enforcing contractual
rights, including security interests. The slow pace of the
court system is often compounded by judges' lack of
familiarity with commercial cases. Needed reforms of the
system for registering companies and the bankruptcy laws
have been slow in coming. Concerns about corruption have
been voiced by foreign and domestic businesses alike.

Organizational Structure of Investments

Foreign investors can, as individuals or business entities,
establish sole proprietorships, joint ventures, and branch
offices in the Czech Republic. In addition, the government
recognizes joint-stock companies, limited liability
companies, general commercial partnerships, limited
commercial partnerships, partnerships limited by shares, and
associations. The government imposes a Czech language
requirement for issuance of the trade licenses needed for
most forms of business. The requirement has been waived for
citizens of EU countries, and under the terms of the U.S.-
Czech bilateral investment treaty should be waived for U.S.
citizens as well.

National Treatment

Legally, foreign and domestic investors are treated
identically. Both are subject to the same tax codes and
laws. The government does not differentiate between foreign
investors from different countries, and does not screen
foreign investment projects other than in the banking,
insurance and defense sectors. Upon accession to the OECD,
the Czech government agreed to meet (with a small number of
exceptions) the OECD standards for equal treatment of
foreign and domestic investors and limitations on special
investment incentives. The U.S.-Czech Bilateral Investment
Treaty contains specific guarantees of National Treatment
and Most Favored Nation treatment for U.S. investors in all
areas of the economy other than insurance and real estate.
(See the section on the Bilateral Investment Treaty below)

Exempted Sectors

According to CzechInvest, the Czech agency tasked with
attracting and facilitating FDI, all sectors of the Czech
economy are open to foreign investment. Investors in
banking, financial services, insurance and broadcast media
sectors must meet certain licensing requirements. Some
professions, such as architects, physicians, lawyers and tax
advisors, require memberships in the appropriate
professional chamber. These licensing and membership
requirements apply equally to foreign and domestic
investors.

Privatization

More than eighty percent of the Czech economy is now in
private hands after several waves of privatization of
formerly state-owned companies since 1989. Privatization
programs have been open to foreign investors. In fact, most
major state-owned companies have been privatized with
foreign participation. The government evaluates all
investment offers for state enterprises. Non-transparent
and unfair practices have been alleged in connection with
some recent privatizations.

Conversion and Transfer Policies

The Czech crown is fully convertible for business purposes,
including all trade transactions and investment transactions
with one limitation: non-resident foreign individuals and
companies without registered offices in the Czech Republic
cannot purchase real estate. Imports or exports of more
than 350,000 Czech crowns in cash, travelers' checks or
money orders must be declared at the border.

The U.S.-Czech Bilateral Investment Treaty guarantees
repatriation of earnings from U.S. investments. A 15%
withholding tax is charged on repatriation of profits from
the Czech Republic. This tax is reduced under the terms of
applicable double taxation treaties. For instance, under
the U.S. treaty, the rate is 5% if the U.S. qualifying
shareholder is a company controlling more than 10% of the
Czech entity, and 15% otherwise. There are no
administrative obstacles for removing capital. The law
permits convertibility into any currency. The average delay
for remitting investment returns meets the international
standard of three working days.

Expropriation and Compensation

The Embassy is unaware of any expropriation of foreign
investment since 1989. Acquisition of property by the
government is now only for public purposes (similar to
property condemnation in the United States for public works
projects) in a non-discriminatory manner, and in full
compliance with international law. It is unlikely that any
investor losing property due to a governmental taking would
not receive full compensation.

Another issue of concern to foreign investors in the Czech
Republic is restitution. In 1990 and 1991, the federal
government of Czechoslovakia enacted various laws aimed at
compensating those people whose property was confiscated by
the communist regime during the period of 1948-1989. Under
the restitution laws, persons have the right to claim
compensation for property taken from them by the communist
government. Most claims for restitution of non-agricultural
property had to be filed by October 31, 1991, and
agricultural property by December 1992. There were
additional open seasons for claims in 1994 and 1998
respectively but all deadlines for these claims expired on
July 8, 1999. In 2000, however, a new Law to Alleviate Some
of the Property Damages Caused by the Holocaust entered into
force. It amends the restitution laws allowing the state,
subject to certain conditions, to return communal Jewish
property, works of art and land illegally seized by the
Nazis to entitled Jewish communities and individuals.

Although deadlines for submitting restitution claims are now
past, it is nevertheless important that foreigners seeking
to invest in the Czech Republic first ensure that they have
clear title to all land and property associated with
potential projects. The process of tracing the history of
property and land acquisition can be complex and time-
consuming, but it is necessary to ensure clear title. Title
insurance is not yet offered in the Czech Republic.
Investors participating in privatization of state-owned
companies are protected from restitution claims through a
binding contract signed with the government.

Dispute Settlement

The Czech Republic has a commercial code and a civil code
that are largely based on the German legal system. The
commercial code details rules pertaining to legal entities
and is analogous to corporate law in the United States. The
civil code deals primarily with contractual relationships
among parties. When the Czech Republic was formed in 1993,
the new Czech government maintained the previous commercial
and civil codes. The laws have been extensively amended
since then, but gray areas still remain. The judiciary is
independent, but decisions may vary from court to court.
Commercial disputes, particularly those related to
bankruptcy proceedings, can drag on for years. Companies
registration is in the hands of the courts and is sometimes
slow and overly complicated.

The need for an improved bankruptcy law remains an important
structural impediment. Most observers believe the slow and
uneven performance of the courts and weakness of creditors'
legal standing is an impediment to increased lending to
small and medium enterprises. The law also lacks provisions
for corporate restructuring. The Ministry of Justice has
identified bankruptcy reform as a priority and appointed a
commission to draft a completely new, effective bankruptcy
law. Progress has been slow and competing versions of the
law are now under consideration.

The Czech Republic ratified the Convention on the Settlement
of Investment Disputes between States and Nationals of Other
States in 1993. The U.S.-Czech Bilateral Investment Treaty
provides for international arbitration of investment
disputes with the state. The Czech Republic has also
ratified the New York Convention on the Recognition and
Enforcement of Arbitral Awards. As a signatory of the latter
convention, it is required to uphold binding arbitration
awards in disputes between Czech and foreign parties.
However, arbitration of disputes between two Czech
corporations outside the Czech Republic is not permitted,
even if the owners are foreign. Applications for enforcement
of foreign judgments can be made to the Czech courts and
will be determined in accordance with a bilateral
recognition treaty, if any, or otherwise pursuant to the
requirements of Czech law. Judgments rendered in other EU
countries are enforceable in accordance with applicable EU
regulations.

Investment Incentives

In 1998 the Czech government approved a package of
incentives to attract investment. The incentives are offered
to foreign and domestic firms that make a $10 million
manufacturing investment through a newly registered company.
The package includes relief from corporate taxes for up to
ten years, job-creation grants, re-training grants and
opportunities to obtain low-cost land. A tax incentive is
also available for expansion of an existing manufacturing
investment. Subsidies are offered for services centers for
software development, customer service and repairs. More
recently, subsidies to attract high technology and research
and development centers have been added. Tax deductions for
new machinery, real estate tax relief, job creation grants,
re-training grants, simplified customs procedures and duty-
free import of machinery are also available under certain
conditions to qualified companies. The incentives were
developed with the assistance of the EU in order to ensure
their compatibility with EU rules on industrial subsidies.
Therefore, there has been no change to the incentive program
as a result of the Czech Republic's accession to the
European Union.

The Czech Republic is in compliance with WTO TRIMs
requirements. There are currently no general performance
requirements imposed on foreign firms for establishing,
maintaining, or expanding their investments, except in
connection with the incentives described above. These
performance requirements generally relate to the amount of
investment or hiring of employees if special job-creation
grants are received with the incentive package. For more
information contact CzechInvest, Director Mr. Radomil Novak,
phone: 420-296 342 501, fax: 420-296 342 502, address:
Stepanska 15, 120 00 Praha 2, Czech Republic,
marketing@czechinvest.org, www.czechinvest.org. Special
performance requirements are negotiable.

Foreign workers in the Czech Republic must obtain permits
and visas in advance of their taking up employment and
residence. The process of obtaining the required permits
can be time-consuming.

Right to Private Ownership and Establishment

The right of foreign and domestic private entities to
establish and own business enterprises is guaranteed by law
in the Czech Republic. Enterprises are permitted to engage
in any legal activity with the previously noted limitations
in some sensitive sectors. Personal ownership of real estate
by non-resident foreign individuals is not permitted, but
since January 1, 2002, foreign companies registered to do
business in the Czech Republic and Czech branches of foreign
entities may own real estate, other than agricultural and
forest land. Since May 1, 2004, EU, U.S. and some other
nationals can purchase real property if they comply with
temporary residence requirements. Czech legal entities,
including 100% foreign-owned subsidiaries, may own real
estate without any limitations.

Protection of Property Rights

Existing legislation guarantees protection of all forms of
property rights, both intellectual and physical. Secured
interests in land (mortgages) and in personal property are
permitted. Government subsidy programs are making mortgage
financing more accessible, and consumers are becoming more
used to using both secured and unsecured forms of credit.
According to U.S. lawyers in the Czech Republic, enforcing
judgments and foreclosing security interests in land and
personal property can still be difficult in practice.

Major amendments to the Commercial Code came into force in
2001 that strengthen protection of creditors and minority
shareholders. The law includes detailed provisions for
mergers and places time limits on decisions by the
authorities on registering of companies. New laws on
auditing and on accounting were also enacted. These laws
include the use of international accounting standards (IAS)
for consolidated corporate groups.

The Czech Republic is a signatory to the Bern, Paris, and
Universal Copyright Conventions. In 2001, the government
ratified the WIPO Copyright Treaty and the WIPO Treaty on
Performances and Phonograms. Domestic legislation protects
all intellectual property rights, including patents,
copyrights, trademarks, and semiconductor chip layout
design. Amendments to the trademark law and the copyright
law have brought Czech law into compliance with relevant EU
directives and WTO TRIPs requirements. Changes to the civil
procedure code, effective January 1, 2001, provide for ex
parte search and seizure in enforcement actions. The Czech
Republic increased copyright protection for literary works
from 50 to 70 years, effective December 1, 2000, and boosted
the powers of the customs service and the Czech Commercial
Inspection to seize counterfeit goods. The Embassy continues
to work with U.S. industry and Czech government officials to
further improve enforcement of intellectual property rights.

Transparency of the Regulatory System

Tax, labor, environment, health and safety, and other laws
generally do not distort or impede investment. Policy
frameworks are consistent with a market economy. All laws
and regulations are published before they enter into force.
Opportunities for prior consultation on pending regulations
exist, and all interested parties, including foreign
entities, can participate. A biannual governmental plan of
legislative and non-legislative work is available on the
Internet, along with information on draft laws and
regulations (often only in Czech language). Comments can be
and are made by business associations, consumer groups and
other non-governmental organizations, including the American
Chamber of Commerce.
However, bureaucracy and unnecessary red tape remain a
source of complaints by both domestic and foreign investors.
Delays and allegations of corruption are common, especially
in the process of registering companies and changes to
corporate structure, and are of particular concern to
foreign companies operating in the Czech Republic.

In content and principle, Czech competition policy meets
OECD standards. A new Act on the Protection of Economic
Competition entered into force in 2001, adopting rules
consistent with EU competition policy as regards restrictive
agreements, abuse of dominant position and merger control.

Efficient Capital Markets and Portfolio Investments

The government privatized the last state-owned bank in 2001
and foreign-controlled banks now manage 90% of total banking
assets. The banking sector has recovered from the 1998-99
recession, the poor payment discipline of many of the banks'
clients, and non-competitive loans offered in the early
1990s. Stricter oversight by the central bank has been
imposed. Commercial banks have returned to profitability
after posting losses in 1999. As of April 1, 2004, the total
assets of commercial banks stood at $14.1 billion. As of the
same date, non-performing loans amounted to 11.2% of total
credit volume, compared to 28.8% in 2000. This figure does
not include non-performing loans (with a face value of $5.5
billion as of March 31, 2003) transferred to the Czech
Consolidation Agency, which is charged with liquidating
them. Foreign investors have access to bank credit on the
local market, and credit is generally allocated on market
terms. In 2002, the banks for the first time established a
mechanism for sharing credit histories of borrowers.

The Czech securities market is still handicapped by a poor
reputation generated by several years of lax regulation,
fraud and scandals. Market capitalization of equities traded
on the Prague Stock Exchange was 27.0% of GDP in 2003. Only
a handful of stocks are actively traded. The first
successful initial public offering of a company's shares
since the stock market opened in 1992 took place in 2004. In
1998 the government created a Securities and Exchange
Commission to function as capital market watchdog. The
Commission has made important strides in establishing a
regulatory framework for Czech capital markets and enforcing
new rules. It has employed a large number of new staff. A
new securities law was adopted in 2001 to improve regulation
of brokers and dealers. Legislation adopted in 2002 gives
the SEC more flexibility in issuing guidelines and requiring
reporting of information.

Political Violence

The risk of political violence in the Czech Republic is
extremely low. The Czech lands have never had a history of
political violence or terrorism in modern times. Two recent
historic political changes -- the "Velvet Revolution" which
ended the Communist era in 1989 and the division of
Czechoslovakia into the Czech Republic and Slovakia in 1993
-- occurred without loss of life or significant violence.

Corruption

Current law makes both giving and receiving bribes criminal
acts, regardless of the actor's nationality. Jail sentences
have been increased to up to eight years for officials, with
stiffer penalties for bribery previously enacted by
Parliament. Bribes cannot be deducted from taxes. Law
enforcement authorities are responsible for combating
corruption. These laws are applied equally to Czech and
foreign investors. The Czech Republic ratified the OECD anti-
bribery convention in January 2000.

While there has been no lack of public accusations and
suspicions of bribery, only a few cases have reached the
prosecution and conviction stage. Allegations of corruption
are most pervasive in connection with the court-controlled
system of company registration and the police. Such
allegations have also been raised in the course of recent
privatizations and government procurements. A new government
procurement law, required for EU accession, is intended to
curb illegal activities in this sphere. The Transparency
International chapter in the Czech Republic actively
conducts public information campaigns through distribution
of posters and has given numerous broadcast and print media
interviews on corruption and bribery cases. In 2004, the
government proposed legislative changes and other actions to
reduce corruption in public life.

Bilateral Investment Agreements
The former government of Czechoslovakia signed a bilateral
investment treaty (BIT) with the United States, which came
into effect in 1992. The Czech Republic adopted this treaty
after the split with Slovakia. Changes to the treaty were
agreed with the Czech Republic after extensive negotiations
with the EU Commission and the Czech government during 2003.
The amendments were narrowly tailored to meet EU concerns
about perceived conflicts with the EU acquis communautaire.
Subsequently, the Czech government is seeking further
changes to the treaty that would affect its coverage and
dispute settlement provisions. To date, 70 countries have
signed and ratified similar agreements with the Czech
Republic. They include: Australia, Austria, Belgium-
Luxembourg, Bulgaria, Canada, China, Denmark, Finland,
France, Germany, Greece, Hungary, Israel, Indonesia, Italy,
Jordan, Kazakhstan, Lebanon, North and South Korea,
Mongolia, Norway, Paraguay, Poland, Russia, Slovakia, South
Africa, Spain, Sweden, Switzerland, Thailand and the United
Kingdom. Agreements with other countries are in the process
of ratification. A bilateral U.S.-Czech Convention on
Avoidance of Double Taxation has been in force since 1993.

OPIC and Other Investment Insurance Programs

Finance programs of the Overseas Private Investment
Corporation (OPIC),including investment insurance, have
been available in the Czech Republic since 1991. Investors
are urged to contact OPIC's offices in Washington directly
for up-to-date information regarding availability of
services and eligibility. The OPIC InfoLine (202) 336-8799
offers general information 24 hours a day. Application forms
and detailed information may be obtained from OPIC, 1100 New
York Avenue, NW, Washington D.C. 20527. The Czech Republic
is a member of the Multilateral Investment Guarantee Agency
(MIGA).

Labor

The wide availability of educated, low-cost labor on the
doorstep of the more expensive Western European labor market
is a major attraction for foreign investors, particularly
those looking to invest in manufacturing industries. Wages
and benefits are on the rise, but the Czech Republic will
still have far lower labor costs in the year 2004 than those
in Western Europe. There are currently no significant
shortages of specialized labor skills, though foreign
investors still cite weaknesses in middle-management levels.
Various factors, including rigidities in the housing market,
reduce the mobility of Czech workers within the country.

By law, all workers have the right to strike once mediation
efforts have been exhausted, with the exception of workers
in sensitive positions (nuclear power plant operators,
military, police, etc.) Significant labor unrest remains
rare, particularly in the private sector. Public sector
unions, notably the rail workers and health workers, have
staged strikes when the government tried to limit public
sector wage increases. Increased labor activity has been
noted in mining and steel industries due to current economic
problems. Workers in the Czech Republic have the legal right
to form and join unions of their own choosing without prior
authorization. Currently, about one-third of the total labor
force is a member of some labor organization. The overall
number of union members has fallen sharply since 1991,
reflecting the fact that union membership is no longer
compulsory.

The Ministry of Labor and Social Affairs sets minimum wage
standards. On January 1, 2001, a new labor code entered into
force, harmonizing domestic rules with the EU. The standard
workweek is 40 hours. Caps exist for overtime. Workers are
assured 30 minutes of paid rest per work day and annual
leave of at least four weeks per year.

Foreign-Trade Zones and Free Ports

Czech law permits foreign investors involved in joint
ventures to take advantage of commercial or industrial
customs-free zones into which goods may be imported and
later exported without depositing customs duty. Duties need
be paid only in the event that the goods brought into the
free zone are introduced into the local economy. The
investment incentive package also permits duty-free import
of high tech goods and creation of additional foreign-trade
zones.

Currently authorized foreign trade zones in the Czech
Republic are Cheb, Ostrava, Pardubice, Prague (2),Zlin,
Trinec, Bor u Tachova, Frantiskov nad Ploucnici and Hradec
Kralove. Rules for operations within a commercial or
industrial customs-free zone are the same as in the EU.

Foreign Direct Investment Statistics

According to data compiled by the Czech National Bank and
the U.S. Embassy, the stock of foreign investment in CR
(including reinvestment of profits) totaled $41.1 billion in
1993-2003 (56.4% of 2002 GDP). Germany and the Netherlands
are officially the leading foreign investors. Their
investments totaled $11.3 billion (31%) and $9.6 billion
(26.0%) respectively, followed by the United States and
Austria with $3.6 billion (10.1%) each, France with $2.2
billion (6%),UK with $1.9 billion (5.2%). Other major
investors include Belgium, Switzerland and Slovakia. In 2002
inward flows of FDI reached $9.3 billion (13.3% of GDP and
the second largest inflow per capita in Central and Eastern
Europe, after Slovenia; as for FDI stock per capita, the
Czech Republic is number one among these countries). The
upswing in investment since 1998 is generally attributed to
the introduction of investment incentives, as well as the
Czech Republic's natural advantages.

By sector, from 1993-2003 foreign direct investment flowed
into manufacturing ($11.9 billion or 32.6%),financial
services ($5.8 billion or 16%); trade, hotels and
restaurants ($4.8 billion or 13.1%); transportation and
telecommunications ($7.3 billion or 20%); real estate and
business activities ($3.6 billion or 9.8%); and electricity,
gas and water supply ($2.0 billion or 5.4%). Other sectors
attracting foreign investment included mining and
construction. Government officials anticipate the steady
inflow of investment to continue, augmented among others by
the eventual sale of the government shares in companies like
the electrical utility CEZ and the telecom company Cesky
Telecom.

The stock of Czech direct investment abroad totaled $1.4
billion as of December 2002. The flow of Czech investment
abroad was $276 million in 2002, with principal destinations
of Slovakia (40%),followed by Slovenia (26%),British
Virgin Islands (11.0%),and the U.S. (4.6%).

Significant foreign investors include:

U.S.

Conoco/Dupont $665 mil
Philip Morris $420 mil
Pepsi-Cola $291 mil
International
Coca Cola $200 mil
IFC Kaiser $176.4 mil
Cable, Design and $170 mil
Technology (CDT)
Ford Motor Company $115 mil
E.M. Warburg Pincus $110 mil
and Co. LLC
Proctor and Gamble $109 mil

Other Countries

RWE Gas AG Germany $3.6 bil
Toyota/PSA Japan/France $1.3 bil
KBC Bank NV Belgium $1.2 bil
Volkswagen AG Germany $1.2 bil
Societe Generale France $1.0 bil
ING Holdings Netherlands $936 mil
Philips Netherlands $733 mil
South African South Africa $619 mil
Breweries
Kappa Packaging Netherlands $445 mil
BV
Siemens Germany $373 mil
Daewoo Korea $357 mil
DHL Germany $230 mil

Sources of data for this report included the Czech
Statistical Office, the Czech National Bank, CzechInvest,
OECD and Central European Advisory Group.

CABANISS