Mobilicity, which has about 250,000 customers, said Monday that it will instead go ahead with a recapitalization plan, which will be voted on by debtholders June 25.
"The company will continue to provide updates as warranted," Mobilicity said in a brief statement announcing the deal's demise.
Telus, which refused further comment on the decision, had offered to pay $380 million for Mobilicity. However, the deal required the federal government to make an exception to certain rules and allow the larger company to transfer ownership of wireless spectrum owned by Mobilicity.
But federal Industry Minister Christian Paradis quashed that idea last week, saying current rules that prevent the sale of Mobilicity's spectrum licence to one of the larger companies before 2014 would stand.
The government has tried to increase competition in the wireless sector, which is dominated by Bell (TSX:BCE), Rogers (TSX:RCI.B) and Telus (TSX:T).
During a 2008 sale of wireless spectrum, Ottawa set aside a portion for new entrants, including Mobilicity, and placed restrictions on it to prevent it from being easily acquired by the larger companies.
Formerly known as Data & Audio-Visual Enterprises Wireless Inc., Mobilicity provides no-contract cellphone service in Toronto, Ottawa, Calgary, Edmonton and Vancouver.
Under the recapitalization plan, the share capital of the company will be reorganized, certain debt will be repaid and Mobilicity would get funds to continue operating.
Telus had argued that it should be allowed to acquire the company and the wireless spectrum because Mobilicity would not be able to survive without financial help.
However, Paradis has said the government would use all tools at its disposal to ensure there are at least four wireless competitors in every region of Canada.
Last week, private equity firms Thomvest Seed Capital Inc. of Toronto and Cartesian Capital of New York announced a deal to buy Public Mobile, another of the small players that emerged after the 2008 spectrum auction.
Public Mobile has more than 250,000 subscribers and operates in the Greater Toronto Area, swaths of southern Ontario and in the Montreal area.
Wind Mobile, with its just more than 600,000 subscribers and no-contract service, also faces an uncertain future as its Dutch owner, VimpelCom, has also put it up for sale.
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