Telecom Italia has kicked off negotiations with Open Fiber about combining fiber assets to create a nationwide broadband network in Italy.

The Italian phone incumbent confirmed late Thursday it was in talks with Open Fiber's state-backed shareholders -- Cassa Depositi e Prestiti (CDP) and Enel -- about options including a possible merger.

"The objective of the discussions is to verify the feasibility of such operation, the related procedures and the perimeter of activity subject to a possible agreement, based on the will of the parties and on the legislative and regulatory frameworks," said the operator in a statement published on its website.

Telecom Italia remains Italy's biggest fixed-line operator but has been challenged in the last couple of years by Open Fiber, a state-backed company making investments in higher-speed full-fiber networks.

A tie-up could speed up the rollout of fiber networks and address government concern about Italy's broadband lag: Data shared by the FTTH Council, an industry association, shows that Italy trails most other European countries on the take-up of full-fiber services, with penetration at around 5%.

Italian authorities are understood to be in favor of a tie-up and have built up a stake of around 10% in Telecom Italia through CDP, which is now the operator's second-biggest shareholder behind French media giant Vivendi.

But the proposals have been largely responsible for a long-running shareholder battle within Telecom Italia. Elliott, an activist investor that took control of Telecom Italia's board last year, supports the government's interest in a merger of fixed-line assets, while Vivendi has been hostile to those plans.

Although some form of deal seems likely, finding a solution that keeps all parties happy will be a challenge. Earlier this year, Telecom Italia CEO Luigi Gubitosi tried to address the concern of Vivendi shareholders by arguing that Telecom Italia would be able to maintain control of a new network business formed from an Open Fiber merger, according to press reports.

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Telecom Italia is under growing pressure to improve its financial position. The earnings outlook has weakened in Italy's mobile market following the arrival last year of Iliad, a low-cost challenger with headquarters in France. Telecom Italia also spent far more than analysts were expecting to acquire new 5G spectrum licenses during a government auction last year.

The company today ranks as one of Europe's most leveraged telecom incumbents. At €28.4 billion ($32.1 billion), its net debts in March were equal to about 3.2 times what it made in earnings last year.

The sale of a broadcasting business called Persidera will reduce borrowings by €160 million ($181 million), said Telecom Italia earlier this month, but make little difference to the operator's net-debt-to-earnings ratio.

Within Europe, Telecom Italia has few other ways to improve its situation. A merger of mobile assets is unlikely to be an option because regulators have historically opposed such consolidation. The recent merger of 3 Italia and Wind was made conditional on their sale of assets to another player, facilitating the market entry of Iliad.

Telecom Italia's share price was up 1.9% in Milan this morning at the time of writing.

— Iain Morris, International Editor, Light Reading