(Adds notice of mediation in 7th paragraph)
TORONTO, April 25 (Reuters) - If Telus Corp hopes to press its advantage in an upcoming auction of wireless airwaves, the Canadian telecom may need to abandon its plan to snatch a floundering rival out of creditor protection and back away from a nasty fight with the government.
Canada's Conservative government has aggressively opposed the carrier's expansion plans, which Ottawa sees as a challenge to its policy of encouraging more competition in an industry dominated for years by Telus and its two main rivals, BCE Inc and Rogers Communications Inc.
In effect, Ottawa has warned the entire industry that it will not tolerate any move that could interfere with its initiative.
The government has already blocked two previous bids by Telus to swallow Mobilicity, a low-cost carrier that owns valuable spectrum assets. The third attempt, a C$350 million ($317 million) bid, was announced late last week by Mobilicity and its court-appointed monitor.
Ottawa is now waving a big stick at Telus, warning of dire consequences if the carrier fails to abandon the pursuit, according to a report in the Globe and Mail newspaper on Friday. If Telus will not stand down, the government threatened to shut it out of an upcoming auction of airwaves, the lifeblood of the wireless industry, by changing the rules of the sale, the paper said, citing unnamed government sources.
Telus declined to comment on the Globe and Mail report.
But the company and the government, along with Mobilicity and its debtholders, will have a chance to hash out their differences next week after the court dealing with the issue ordered mediation, to be overseen by a veteran retired judge.
A spokesman for Industry Minister James Moore, when asked about the newspaper report, said the government's policy of transferring the rights to use airwaves remained the same, and that it would block any deals that decrease competition.
Moore himself said on Thursday that a decision on the Telus bid would come soon. Even so, the Globe and Mail story suggests he has already made up his mind to stop Telus from taking Mobilicity and its coveted airwaves, even if that means the small carrier could cease operating.
Even if Ottawa's threat is empty, Telus would likely be best-served by walking away to fight another day, experts say.
"In a battle against government, Telus will lose. And I think Telus knows that," said telecom analyst Iain Grant of consultancy Seaboard Group.
Telus is well-placed to win big in the upcoming 2500 MHz auction, since the rules severely restrict bids from Rogers and BCE, which already own large chunks of similar frequencies.
"Mobilicity's spectrum is a very narrow swath of less useful spectrum" compared with what is on offer in the upcoming auction, Grant said.
One industry source who declined to be identified said the government message was likely a warning shot it hopes will stave off further legal challenges or public disputes.
Telus, Rogers and BCE last summer teamed up to launch an intense lobbying effort after U.S. giant Verizon Communications Inc showed interest in rules that allow it to enter the domestic industry under favorable terms. Verizon later decided not to proceed, highlighting the government's challenge in trying to foster more competition and drive down consumer prices.
Mobilicity entered Canada's wireless industry via a 2008 auction in which it bid on airwaves that Ottawa marked as off-limits for the established operators.
The effort to encourage competition has had limited effect. Only one of the three newcomers to the industry, Wind Mobile, is still in business, and its financial backer, Russia-based Vimpelcom, is reluctant to sink more cash into Canada.
A third newcomer, Public Mobile, has already been swallowed by Telus, while Shaw Communications Inc, an established regional carrier, bought spectrum in 2008 but decided against building out a mobile network.
Quebecor's Videotron bought regional airwaves in that auction and then expanded its reach outside its home base in the mostly French-speaking province of Quebec with a purchase in a 700 MHz auction earlier this year.
Some industry insiders think Telus' latest bid, which comes after a moratorium on the transfer of spectrum owned by Mobilicity has ended, may have been an attempt to force the government to bar the deal. Lawyers say that would open the door to Telus suing Ottawa and posing a direct challenge to the government's ability to rule on such matters.
Telus has not commented in this line of thinking.
By threatening to bar Telus from the coming auction process, the government may not only have signaled its intention to block this deal, but also to discourage Telus from launching legal action against its final ruling on the Mobilicity deal. ($1 = 1.1030 Canadian dollars) (Additional reporting by Louise Egan in Ottawa and Euan Rocha in Toronto; Editing by Matthew Lewis and Dan Grebler)