The European Union Commission launched a probe today into whether the €9 billion credit line that debt-ridden France Telecom SA (NYSE: FTE) received last December could be considered a violation of European state bailout laws (see EU Investigates FT Bailout).

The Commission is also investigating whether France Telecom’s exemption from certain business taxes might constitute unlawful state aid.

European law allows state governments to fund companies, but only if the investment is made on the same terms as it would be in the private sector. This policy is meant to stop European governments from unfairly subsidizing former state monopolies like France Telecom, giving them an unfair advantage over new entrants to the market. The Commission said it wants further proof from French authorities that terms of the France Telecom investment would have been acceptable to a private investor.

“[T]he Commission cannot rule out the possibility that the financial measures put in place by the State for [France Telecom] contain elements of state aid,” the EU Commission said in a statement today.

The French government, which still holds a 56.4 percent stake in France Telecom, unveiled a rescue package in the form of a €9 billion credit line for the carrier over the last two months, beginning in November 2002 (see France Telecom: Not Out of the Woods). The funds will be channeled to the company indirectly through state holding company ERAP (Entreprise de recherche et d'activités pétrolières), which will raise the money on the public markets. The carrier’s repayments will also go to ERAP and are supposed to be at market rates.

"France Telecom believes that, as a majority stakeholder, the French State’s participation in the company’s action plan is no different to that of a private investor and does not contain any element of state aid," France Telecom said in its own announcement today (see FT Unflustered by EU Investigation). The company also said that it will cooperate fully with regulators during the investigation.

"If it isn't state aid, then what the hell is it?" writes Craig Johnson, an independent analyst based in Portland, Ore., in an email. "As we all know, a pig with lipstick is still a pig. They can 'dress it up' anyway they want, but it was still state aid - it is just an accounting trick to call it otherwise."

Facing huge pressures from unions and stringent national labor laws, Johnson says many European governments, and France in particular, will go a long way to avoid the massive layoffs that would inevitably follow the downfall of a national company like France Telecom.

Johnson says he expects that other European governments may attempt bailouts of incumbent telecom companies in their own countries. "You will find even more creative ways the [governments] will use to shore up their PTTs in order to not have labor riding their backs," he writes.

Not everyone agrees. Infonetics Research Inc. European market analyst Richard Webb points out that all the publicity surrounding the French probe will probably scare other governments away from trying anything similar. "Other governments would probably hold back quite a bit," he says.

The French government has yet to pay out a single Euro of the promised credit line, and many industry observers say it may never have to. Following the announcement of the state-sponsored credit line, the Commission points out, France Telecom was able to raise money on the bond market for the first time in 18 months.

Earlier this month, France Telecom said that it had issued €5.5 billion in bonds, and said it had plenty of cash to make its debt payments this year (see FT Launches €5.5B Bond Issue).

The Commission, however, says it will investigate whether the promise of aid broke European antitrust laws and unfairly boosted France Telecom’s ability to raise money. The carrier has said it hopes the credit line will help it cut its towering €70 billion debt load to €40 billion by 2005.

— Eugénie Larson, Reporter, Light Reading