* Peugeot says GM small-car programme like to be scrapped
* Peugeot quarterly revenue falls on European sales slide
* Competition from premiums, low-cost hits market share
By Laurence Frost
PARIS, Oct 23 PSA Peugeot Citroen and General Motors are scaling back their alliance, undermining a central pillar of the French carmaker's recovery plan as the U.S. group exhibits growing confidence about its own European business.
Peugeot, which is pursuing an investment by Chinese partner Dongfeng as it struggles to stem losses, said on Wednesday a small car programme at the heart of the GM partnership was likely to be cancelled.
"Further analysis showed that the business model just wasn't there," a Peugeot spokesman said, without elaborating. A GM spokesman declined to comment on the project.
Peugeot, which is cutting domestic jobs and plant capacity after losing 5 billion euros ($6.9 billion) last year, hopes to raise 3 billion from a capital increase in which the French state and Dongfeng would each take a 20-30 percent stake, Reuters first reported earlier this month.
While Peugeot may need the cash injection to survive a collapse in demand from recession-hit Mediterranean markets, the unravelling of ties with GM threatens the longer-term recovery of its core European operations, analysts say.
"Peugeot thought it had found a long-term partner, but the alliance seems to be disintegrating," said Paris-based Natixis analyst Georges Dieng.
"This leaves a hole in their strategy, and I don't see how they can fill it," he added. "Dongfeng doesn't really offer an alternative."
GM, the No. 1 U.S. carmaker, took a 7 percent stake in Peugeot after the companies announced what was billed as a broad-based alliance in February 2012, promising eventual savings of $1 billion each.
Peugeot, which reported a drop in third-quarter sales and further market share losses on Wednesday, said the figure may now be "readjusted downwards", without elaborating.
In the early days of the alliance, Peugeot and GM unveiled plans for at least five vehicle and powertrain programmes.
But that was followed by unsuccessful talks on a deeper combination and a steady scaling back of plans.
Besides joint purchasing now underway, just two minivans have survived from "about forty" projects initially floated, according to Peugeot programmes chief Jean-Christophe Quemard.
The dropped plan to replace the Peugeot 208, Citroen C3 and Opel Corsa with a common small car was "absolutely key" to the partnership, Barclays analyst Kristina Church said.
"It certainly seems GM has no focus on the alliance with Peugeot any more. There's some backing away going on," she said.
GM TAKES CONTROL
The loosening of ties signals GM's renewed commitment to manage its own European turnaround independently, following in domestic rival Ford's footsteps.
Around the time it partnered with Peugeot, a distant European second to Volkswagen by sales, GM was still wavering over the future of its European Opel division.
But after several high-level departures and a deal with unions to close its inefficient Bochum plant in Germany, GM appears to have settled on a new course.
In March, it hired former VW executive Karl-Thomas Neumann as its new Europe chief, and within four months announced a partial transfer of Opel Mokka compact SUV production from Korea to Spain.
Neumann scored another victory last week by bringing GM's profitable Russian operations under his remit.
Detroit-based GM is also stepping up efforts to win economies of scale by using its own vehicle platforms globally.
"They don't want to be partnered with a struggling company, and they have alternative methods to turn things around," Barclays' Church said of GM's alliance with Peugeot.
Over the past 12 years, GM has lost around $18 billion in Europe, where the company expects to break even only in mid-decade after its regional operating loss widened to $1.8 billion last year from $700 million in 2011.
Peugeot's problems have been even deeper recently, reflecting its heavy exposure to southern European auto markets.
Third-quarter sales fell 3.7 percent to 12.11 billion euros as it continued to lose ground to VW and other major competitors at home. The group claimed 10.9 percent of regional car sales in January-September, down almost a percentage point.
The revenue decline reflects "growing pressure on market shares from premium and low-cost brands", Peugeot said, as well as the impact of a weaker Brazilian real and other currencies against the euro.
Peugeot nonetheless reiterated its goal to cut 2013 operational cash consumption at least by half to 1.5 billion euros, with a further "very significant reduction" next year.
Peugeot shares had risen 3 percent by 1515 GMT to 10.71 euros - still more than 80 percent below a 2008 high of almost 59 euros. GM shares were down 1.4 percent.