LONDON/PARIS Britain turned up the volume in a dispute over French state involvement in any tie-up of aerospace groups EADS and BAE Systems on Monday, leaving the European mega-merger on a knife-edge less than 48 hours before a deadline for the deal.
The disagreement over whether Paris can increase its shareholding in future is the latest obstacle to plans to create the world's largest aerospace group, with Berlin's desire for a more favorable deal also a possible hitch ahead.
Resurrecting an idea abandoned by European government leaders in the late 1990s, the new combine would employ 220,000 people and team Airbus airliners with BAE's weapons factories.
To succeed, the deal must balance industrial and security sensitivities in Europe and avoid fuelling concerns over foreign state ownership that could damage BAE's standing in the United States, which is a key priority for Britain.
British Defence Secretary Philip Hammond told Reuters that his opposition to France, which owns 15 percent of EADS, lifting its stake in the merged group beyond a diluted level of 9 percent implied by the proposed deal, was "not a momentary one".
But a French government source insisted Paris must have the option to buy shares in future from French company Lagardere; the firm wants to sell its stake - currently 7.5 percent of EADS - in order to focus on its core media business.
"If France does not even have the possibility to consider buying the stake which Lagardere wants to sell, then for us it is not doable," the French source told Reuters.
Confirming the Anglo-French split had become a key sticking point, after Germany's demands for equal status dominated earlier talks, people familiar with the matter said British and French officials held discussions without the Germans on Monday.
A German demand to host the group's headquarters remains another potential hurdle, however.
With a put-up-or-shut-up deadline set by London stock market rules looming on Wednesday, criticism from private investors in the two firms also raised questions about whether managers have the momentum needed to argue for extra time for negotiations.
Invesco Perpetual, a fund manager which owns 13 percent of BAE, blasted the proposed deal, citing state interference, poor terms and a lack of strategic rationale.
BAE shareholders' concerns include likely changes to BAE's generous dividends and share buyback programs, as well as the uncertainty posed by introducing French and German stakeholders to the mix of BAE's business interests.
In the past three weeks, the rough outline of a deal first broached by chief executives Tom Enders of EADS and Ian King of BAE has taken shape; under it, owners of EADS would have 60 percent of the merged group and BAE shareholders 40 percent.
But there are heated negotiations between the three governments as they haggle over the details. France appears set to accept about a 9-percent stake in the new company with the German government, probably via a state bank, seeking parity.
But BAE and the British government want to limit Paris and Berlin to that and nothing more. They want a block on France or Germany buying more shares, or being able to appoint directors.
"If they can get the central issue of shareholding resolved, then there'll probably be some more time to tie up other issues like headquarters, weights on the board and other matters," said a senior diplomat following the talks.
"Otherwise, Enders and King have signaled they will pull the plug on the 10th."
Officials failed to resolve incompatible demands over state involvement in a video conference on Friday. Britain's Hammond later warned that London would block the deal if "red line" demands were not met, including an ability to cap the influence the French and German governments would have on the new company.
One issue hanging over the talks is that the United States, where BAE has 36,000 employees and works on top secret military programs, might impose tougher restrictions on those operations if it deems the European government stakes in the new company too high.
Such U.S. restrictions could prompt BAE to stop the deal.
British Prime Minister David Cameron faced a revolt within his own party when 45 members of parliament signed a letter last week asking him to bar France and Germany from the new company.
Ben Wallace, the lawmaker who organized the letter, said he would visit Washington to find out how state stakes in the new company might affect BAE's U.S. businesses.
The merger comes as Airbus still faces thin margins on its A380 superjumbo while needing to fund development of its new A350 model.
Sharp cuts in defense spending are bad news for both firms but especially BAE, which is heavily exposed to the U.S. defense market, by far the world's largest.
The British company is also facing a downturn in demand for long-running programs such as the Eurofighter Typhoon fighter jet as well as for equipment it supplies to U.S. forces now planning to withdraw from Afghanistan.
(Additional reporting by Tim Hepher, Kate Holton, Andrea Shalal-Esa, Paul Taylor, Mohammed Abbas and Jason Neely; Editing by Peter Millership and Alastair Macdonald)