Mercury may call halt to expansion: Returns on investment could prove too small to justify building a full national telephone network

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MERCURY Communications may stop building its national telephone network as a result of a fundamental review of its strategy, expected to be concluded later this year.

A decision to stop building would almost certainly worsen the relationship between Mercury and the industry regulator, Oftel. Don Cruickshank, the director-general of Oftel, is understood to favour those rivals to BT that are willing to build new networks and offer domestic and business customers real choice.

The company, set up 10 years ago as BT's main rival, does not cover large parts of the country, including Wales, Cornwall and the north of Scotland, and fears that the returns on investment may be too small to justify its continued expansion throughout the UK.

Mercury believes it could cover new areas of the country by leasing high-capacity links from BT. Leasing trunk rather than just local BT wires, however, would be a departure for Mercury and could hugely increase the amount it pays for interconnecting to BT wires, already running to many millions of pounds.

The review also calls into question whether Mercury or its parent, Cable & Wireless, should bid for new cable television franchises which are becoming available. The winners of dozens of new franchises in areas including Blackpool and Northern Ireland will be able to provide local television and telephone services using cable or radio. Mercury was expected to be among the keenest bidders.

The review is being conducted by Mike Harris, chief executive of Mercury, and is expected to be concluded by the end of this year. The result could be a Mercury that focuses even more on becoming a provider of sophisticated services for businesses and a small proportion of wealthy domestic customers, rather than a national alternative to BT as once envisaged by the Government.

An industry source said Mercury felt increasingly trapped by the need to keep its prices competitive with BT, which must keep increases in charges for its basket of basic services within a regulatory cap of inflation minus 7.5 percentage points. At the same time, the company is feeling the impact of burgeoning competition from cable companies and a plethora of new telephone companies, including Energis, the telecommunications subsidary of the National Grid Company.

The source said: 'Mike Harris looked at the future and he saw it getting difficult. BT's prices are continually coming down and to sell on price alone is to become a hostage to fortune.' He said Mercury saw its future in services, ranging from call-transfer and home shopping or banking to interactive educational and business services.

Last year, Mercury's operating profit rose by 5 per cent to pounds 99m on turnover up 24 per cent to pounds 701m. Announcing the results in May, Mr Harris said the company had been held up by the inequitable regulatory regime.

Mercury is already at loggerheads with Oftel over the way in which BT is allowed to charge other companies to use its wires, and is trying to pursue the issue through the courts. The company is also campaigning against additional payments, sanctioned by Oftel, which it must make to BT to help to cover the losses incurred in providing and maintaining local telephone wires.

An industry analyst said: 'Mercury's business is not fundamentally in trouble but regulation is working against them and they feel their interests should be considered at this stage.'

He said a decision to stop rolling out the network would send a message to the Government and to Oftel on the depths of the company's frustration.