Spanish telecoms group Telefonica yesterday broke off merger talks with KPN of the Netherlan ds after objections from the Mad rid government and key share holders.

They made this announcement after a second marathon session by Telefonica's board, called to give the go-ahead for a deal. A full merger would have created a group ranking fourth among European telecoms firms.

But Spanish banking groups BBVA and La Caixa, which together control 14 per cent of Telefonica, balked at the plan because of uncertainty over the future shareholding structure of a merged company.

They objected to pressing ahead with a full or partial merger before clarification of the Dutch government's plans for selling its 43.5 per cent stake in KPN.

Spain's economy ministry, which has "golden share" veto rights in Telefonica, had said on Thursday it wanted a firm commitment to speed up the sale.

The two banking shareholders also raised questions about the future position of Bell South, the US group that is the Dutch group's partner in Germany's EPlus mobile telephone company and which has an option for converting its stake into shares of KPN or its mobile division.

The collapse of plans, announced after the close of European stock markets, raised questions about the future of Mr Juan Villalonga, Telefonica's high-profile chairman. He presided over the tense board discussions through a video conference link from Miami.

The breakdown was his biggest setback since he took over the chairmanship of the company, then still partly state-owned, four years ago.

Telefonica said the firms decided to end talks because "the right circumstances do not exist for ensuring the success of the operation".