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BT keeps door open to C&W merger

Merger expectations remain high, while Oftel sticks to tough line on future pricing controls

British Telecom is still hopeful of eventually securing an agreed merger with Cable & Wireless, despite the recent impasse in talks between the two over valuation and strategy.

For the time being talks have stalled, but BT is confident that they can be reopened once C&W has appointed a new chief executive to fill the gap left by the recent enforced departures of Lord Young and James Ross, chairman and chief executive of the company respectively. The new chief is thought almost certain to be one of the American candidates.

At the same time BT can expect little easing of the tough stance taken on pricing controls by the industry regulator, Oftel, in proposals to be published this week. Despite a fierce lobbying campaign from BT, Don Cruickshank, the director general of Oftel, is sticking to his guns in demanding a much lower rate of return on capital than BT has enjoyed in the past.

Any deal between BT and C&W would face formidable regulatory hurdles in Britain and Hong Kong, where C&W's most valuable asset is based - its 57.5 per cent stake in Hongkong Telecom. The merger would also encounter difficulties in Germany, where the two companies have stakes in rival telecommunications groups.

However, none of these obstacles are thought insurmountable. BT is confident that the deal would win the support of ministers.

As part of the takeover, BT would undertake to dispose of Mercury, its chief rival in the UK, and its stake in One-2-One, the mobile phone company. If the disposals were to one of the big foreign telecoms companies, the effect might be to strengthen competition in the UK market rather than dilute it, regulators have been told.

Ministers have already indicated that they would use the Government's golden share in C&W to block any foreign bid for C&W as a whole while rules remain in place that prevent UK companies acquiring controlling interests in overseas telephone groupings.

However, they would not in principle be opposed to a foreign takeover of Mercury by itself if the effect were to facilitate the deal with BT.

BT this week faces further confrontation with Oftel over new price controls expected to be announced on Wednesday.

Mr Cruickshank has already proposed a very substantial cut in the rate of return BT is allowed to earn on assets. This in turn would mean a further tightening of the present formula governing tariffs.

BT has lobbied hard against the new rate-of-return proposal, claiming that it is too low to ensure adequate investment in Britain's telecoms infrastructure, but there is no evidence that Mr Cruickshank is prepared to ease his position.

In a recent interview with the Independent Sir Peter Bonfield, newly appointed chief executive of BT, said: "Everyone likes low prices but we are now amongst the lowest in the world. If return on capital is set too low you will get long-term under-investment. The best way to get sustainable lower prices is through competition and decent levels of investment, not artificial price caps".

Sir Peter insisted that the rest of the industry had been generally supportive of BT's position. He was hopeful that differences with the regulator could be sorted out during the process of consultation, but if BT fails to get an acceptable solution, it is prepared to test its case with the Monopolies and Mergers Commission.

Sir Peter said BT would seem a very different sort of company five years hence, much more international and operating in many more different services - "a communications company rather than a telecoms company". "We would certainly expect to be the best service provider in the UK. We have a reputation internationally for technical excellence which we intend to build on. But the regulator needs to support us in this endeavour".

Oftel promises that a tougher price cap will be accompanied by greater pricing freedoms for BT. "The price cap will remain after the summer of 1997", Mr Cruickshank says, "but what it will be and what proportion of charges it applies to is still up for grabs".

Unusually, Mr Cruickshank has found some support for his view in the City, generally highly critical of the regulator's initiatives. A recent report from Robert Fleming, the investment bank, suggests that BT is exaggerating the likely effect of Mr Cruickshank's proposals on its profits.