The European Commission is questioning the government's plans to write off Malta Shipyards' losses through public funds so that the new operator can start off with a clean slate when the 'yards are privatised next year.

"Strictly speaking, the striking-off of the company's losses constitutes direct state aid and we are still not sure whether this is legal and according to EU Competition rules," Commission sources have told The Times.

European Competition Commissioner Neelie Kroes will next month hold talks with the government aimed at wrapping up discussions between Brussels and the government over the privatisation.

"The Maltese government has submitted to us all its plans and we have already had a very fruitful series of discussions. However, we need more clarifications and that is why Commissioner Kroes will be coming over. She wants to clear the air and try to reach some kind of agreement on the way forward of this privatisation process," the sources said.

The Times has learnt that Ms Kroes has scheduled two days of meetings in Malta between September 10 and 11 which will focus entirely on the shipyards' privatisation process. The main bilateral meetings will be held with Prime Minister Lawrence Gonzi and Finance Minister Tonio Fenech.

Sources in Brussels said that although the Commission is looking positively at the government's decision to privatise the state-owned shipyards, the Commission has concerns over how the government plans to write off the €100 million of losses expected to be registered by the company by the end of this year.

According to a pre-accession agreement between the EU and Malta, further state aid to the ailing company is illegal post-2008.

However, the government is insisting on a one-time concession by the EU in order to be able to fork out these losses through public funds thus providing the new operator with a clean balance sheet.

The EU sources said that one of the alternatives being suggested by Brussels is that the government declares Malta Shipyards bankrupt and starts a process of liquidation.

"This will mean that the eventual new owners/managers of the shipyards would need to register a new company to manage the facility and still start afresh. This will also mean that the government would not need to fork out any money and give out more subsidies. However, the government is still resisting this idea," the EU sources said while explaining that liquidation is the natural and normal way of wrapping up commercial companies when these are making heavy losses.

Contacted by The Times, Finance Minister Tonio Fenech confirmed the Commission had made the suggestion but said that the government does not agree that it should follow this path.

"At this stage I prefer not to comment further as these are very sensitive discussions," Mr Fenech said citing the upcoming discussions with Commissioner Kroes.

"Although it is true that the government has the option of liquidating the company we are choosing to go along a different path particularly in the interest of the shipyard's current workforce. I hope that the EU also understands our position," he said.

According to company law, if Malta Shipyards Ltd is declared bankrupt by its shareholder (the government) and a liquidation process is started, the government will not need to write off any of the company's losses, thus saving €100 million. At the same time, however, the workers would not be entitled to any retirement schemes as they would be made redundant through normal channels.

Meanwhile, no direct talks took place yesterday between the government and the General Workers Union over the privatisation of the shipyards, a spokesman of the Finance Ministry told The Times.

However, the mediation efforts by a so far unnamed mediator, who stepped in on Monday, continued.

The government and the GWU are at loggerheads over the privatisation process with the former wanting to downsize the company to a workforce of 700 employees from the current 1,600 by offering early retirement schemes. The GWU is insisting on guaranteed employment for those who do not opt for early retirement, something the government has ruled out.

Instead the government has offered to "fine tune" the retirement packages, something it says may be achieved in the talks.