Mercury plans big expansion to boost sales

'High-risk strategy' to connect businesses and small subscribers could lift spending to pounds 500m

Mercury Communications, the UK's second-largest telephones operator, is planning a large expansion of its network into local areas, installing direct connections to small businesses and even to some residential customers for the first time.

Senior executives are pressing Mercury's parent, Cable & Wireless, to come up with funding for the high-risk plan, which could see annual investment soar by two-thirds, to around pounds 500m.

The expansion strategy follows a confidential review of prospects at Mercury, which has been squeezed by increasingly tough competition for larger business customers.

Managers see an assault on the so-called "local loop" for small business and high-spending residential customers as their best hope to boost sales, which has slowed considerably in recent years. Last year Mercury's turnover rose by just 3 per cent, to pounds 1.7bn.

Currently, only Mercury's largest spending customers, those with phone bills running into tens of thousands of pounds, have direct connections to the company's national fibre optic network, the result of a pounds 3.5bn investment since the mid-Eighties.

The rest have indirect connections mainly using BT's local infrastructure and the "Mercury button" built into the phone. If Mercury installed its own direct connections, customer would receive one bill instead of two.

There are three options under consideration, the most promising of which revolves around wireless telephony, where the phone is connected to a base station using a radio signal from an aerial.

Mercury has been awarded a licence to operate radio connections, though the terms and conditions have yet to be finalised with the Government.

A trial of 22 small businesses in Reading was completed last month. Mercury's chief executive, Peter Howell-Davies, described the experiment as "successful". He explained: "Mercury has the second-largest local loop in Britain, primarily aimed at medium to large customers. As technology changes, so does the capability to service different segments of the market."

Mercury's second option is to extend its fibre optic links under the ground to much smaller-spending businesses. Another trial took place in Bristol last spring, though in marketing terms it is thought to have been less successful.

The most ambitious proposition remains a deal with the cable companies to use the infrastructure built up since the deregulation of the UK phone market five years ago. This would give Mercury direct access to homes for the first time, gaining a firmer foothold in the highly profitable top end of the residential market.

The problem for Mercury is that its preferred partner, the third-largest UK cable firm, Bell Cablemedia, appears on the verge of an alliance with the German telephones giant Deutsche Telekom. Mercury has a 13 per cent stake in Bell Cablemedia and two seats on its board and the negotiations with Deutsche Telekom are the source of growing concern to insiders.

Results of the review are being put to Cable & Wireless's new chief executive, Dick Brown, who joined the company in July after the enforced departure of James Ross and Lord Young and the failure to agree a merger with BT. Mr Brown is conducting a strategic review, but is understood to have reaffirmed that Mercury is "not for sale".

Mr Brown's warmer attitude to Mercury's prospects has pleased managers, who watched with growing frustration as the parent group appeared to vacillate over its long-term future. Mr Howell Davies said: "Dick came over to our offices on his first day in the job and has spent a lot of time with us since. He's made it very clear that he sees Mercury as a key part of Cable & Wireless's business and the cornerstone of his European strategy."

The expansion would end a long period of consolidation at Mercury, which two years ago announced 2,500 job cuts and an exit from the phone market. The restructuring, which involved an end to high-profile residential marketing campaigns, cost pounds 122m, but reduced Mercury's cost base by over pounds 60m.

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