Sept. 8 (Bloomberg) -- Deutsche Telekom AG, Europe’s biggest telephone company, and France Telecom SA are close to an agreement to merge their U.K. units to create the country’s largest mobile-phone operator, according to two people familiar with the matter.

The two companies may announce the combination as soon as today, said the people, who declined to be identified before an announcement. The talks haven’t been finalized so far, the people said. The venture would oust Telefonica SA’s O2 service from the top spot and will have 30 million subscribers, or 38 percent of the U.K. market, based on second-quarter results.

The merger would allow Deutsche Telekom and France Telecom to slash costs by combing their networks and cutting jobs. A deal would reduce the number of mobile-phone operators in the U.K. to four, with the others being Vodafone Group Plc and Hutchison Whampoa Ltd.’s 3. The accord would also end months of speculation during which Deutsche Telekom was predicted to sell or fold its U.K. unit into a joint venture.

“Deutsche Telekom’s U.K. unit is just too small to compete in this crowded and saturated market and profitability is declining as a result,” Theo Kitz, an analyst at Merck Finck in Munich, said. Kitz has a “sell” rating on the shares.

France Telecom may get cash or assets from Deutsche Telekom in return for contributing its stake in Orange to the joint venture, the people said. Orange is the U.K.’s third-biggest mobile operator.

Vodafone, KPN

Deutsche Telekom spokeswoman Anna Bischof declined to comment as did Michael Lange, a spokesman for T-Mobile International, and Tom Wright, a spokesman for Paris-based France Telecom.

Phone companies are looking to reduce costs as clients spend less amid the economic slowdown. Vodafone, Deutsche Telekom, Royal KPN NV and Mobistar SA said in May that the recession was eroding profit as consumers and businesses reduced mobile-phone use.

Bonn, Germany-based Deutsche Telekom had been in talks with Vodafone, Telefonica and France Telecom, and retained JPMorgan Chase & Co. to review options, three people familiar with the talks said in June. Newbury, England-based Vodafone and Telefonica made informal offers to buy it for about 4 billion pounds, the Financial Times said yesterday.

Subscribers to T-Mobile UK services fell 0.6 percent in the second quarter from the preceding three months, according to Deutsche Telekom. It was the only one of the company’s 16 mobile divisions to post a decline in users.

O2, owned by Telefonica, had 27.7 percent of the U.K. mobile-phone market by revenue in the second quarter, followed by Vodafone’s 24.7 percent and Orange with 21.5 percent, based on the companies’ results.

To contact the reporters on this story: Anne-Sylvaine Chassany in Paris at achassany@bloomberg.net; Jacqueline Simmons in Paris at jackiem@bloomberg.net.

Last Updated: September 7, 2009 18:01 EDT