Banco BPM, Italy's third-largest bank, has formally rejected a €13 billion takeover bid from larger rival UniCredit, citing undervaluation concerns and potential shareholder disadvantages.

The bank's board officially recommended on Thursday that shareholders decline UniCredit's offer, which begins on Monday and runs until 23 June. The rejection comes as UniCredit faces additional hurdles from the Italian government, which has imposed conditions that could jeopardise the deal's completion.

"We find it really quite awkward that already three of the conditions UniCredit has included in their offer have not been fulfilled," Banco BPM chairman Massimo Tononi told a conference call. "We cannot understand why UniCredit is not making clear what their intentions are: whether or not they intend to waive those conditions... or terminate their offer."

UniCredit's proposal of 0.175 new shares for each BPM share represents a 9 per cent discount to BPM's current market price, based on Thursday's trading. Banco BPM argued that UniCredit was not offering any premium, and the transaction would give BPM shareholders only a 14 per cent stake in the combined entity, below their expected 18 per cent contribution to 2027 profit.

The Italian government has complicated matters by setting requirements under its "golden power" rules, which UniCredit claims could harm its operational freedom and potentially result in penalties. These conditions include constraints on credit activities, liquidity management, and UniCredit's operations in Russia.

UniCredit stated on Tuesday it was "not in a position to take any conclusive decision on the way forward" regarding its bid after Prime Minister Giorgia Meloni's government imposed these conditions. The bank questioned the unusual application of special powers in a domestic transaction between two Italian banks, suggesting the conditions might not align with Italian and EU law.

"The use of special powers in a domestic deal between two Italian banks is unusual, and it is not clear why it was invoked in relation to this transaction, but not on similar transactions currently under way in the Italian market," UniCredit said in a statement.

According to the Financial Times, Meloni's government was caught off guard by UniCredit's November bid for Banco BPM, which disrupted plans to create a larger national banking champion by merging BPM with Monte dei Paschi di Siena. The government is currently returning Monte dei Paschi to private ownership.

UniCredit has said it intends to wait until the end of the offer period before deciding whether to proceed with the takeover attempt. The bank has until 30 June to drop the offer.

Banco BPM has long been considered a natural acquisition target for UniCredit due to its strong presence in Italy's wealthy Lombardy region, where UniCredit's market share remains relatively small despite being the country's second-biggest bank.

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