Companies file state aid complaint against Birmingham city council over launch of network which will compete with their own

Virgin Media and BT are taking legal action against Birmingham city council over the use of public money to build a broadband network that directly competes with their own.

The complaint was filed last week and is expected to be raised by Labour peer Lord Howarth in a House of Lords debate on Monday. It is the latest in a series of rows that have dogged the government's programme for improving broadband in the UK.

Birmingham has raised £10m to lay high-speed fibre optic cables in areas including its historic Jewellery Quarter. The money would come from the "superconnected cities" fund announced last year by George Osborne, which is to plough £150m into wiring up 20 cities.

The council said it was "extremely disappointed" that the case was being brought as it could prevent the creation of 1,000 jobs.

The European commission, which has to approve government infrastructure spending to ensure that public money is not used to compete with private companies, signed off Birmingham's plans over the summer.

This has infuriated Virgin and BT, which have extensive networks in Britain's second city capable of delivering 100 megabits a second to homes in Birmingham. They believe the city's project, which will offer speeds of more than 100 megabits, will significantly overlap with their own networks. "We believe it involves a significant overbuild with our network," said a Virgin spokesman. "It's a poor implementation of what is otherwise a sensible policy. It sets a bad precedent and sends a really bad signal to our investors."

Controversy already surrounds the government's £530m rural broadband initiative, which has seen every contract awarded so far go to BT.

Rival companies say they have been hamstrung in competing for the work because contracts are being let by individual local authority areas, which means economies of scale are limited.

The rural broadband process has been in a deadlock with the European commission since the beginning of the year. Brussels is unhappy with the contracts being used by local authorities and wants greater competition.

"It's another example of the chaos and incompetence at the heart of the government's broadband strategy," said Chi Onwurah, shadow minister for business, innovation and skills. "We are further and further away from the government's 2015 targets."

Ministers have promised the UK will have universal broadband access and the "best" broadband network of any leading European economy by 2015.

James McKay from Birmingham city council said: "Birmingham is extremely disappointed in Virgin Media's decision to appeal this landmark ruling. The city has worked in a very positive and collaborative way with them over the last few years to help inform and develop our business case and we are surprised that they have now chosen to appeal at such a late stage."