LONDON (Reuters) - Co-Operative Group said it may not be able to complete its purchase of some of Lloyds retail bank branches, worth about 1 billion pounds, due to regulatory and financial hurdles.

Financial regulator has held up the branch sale, a move one insider at the watchdog last week said was due to worries the eclectic board of the food-to-funerals conglomerate lacked the necessary experience to manage one of the country's biggest retail banking networks.

"I cannot predict right now whether we will get to the end on this," Peter Marks, chief executive of mutually owned Co-Op, told reporters on a conference call on Thursday.

"Talks with both Lloyds and the FSA (Financial Services Authority) are ongoing and we are working constructively with both parties. There is no certainty that we will reach a final agreement," he said.

"There are a number of regulatory and economic issues that we have to be clear about, before we make a transaction."

Marks said Co-Op was conducting thorough due diligence on the deal, in order to avoid a situation such as Royal Bank of Scotland's disastrous role in the 2007 takeover of Dutch bank ABN AMRO, which nearly led to the collapse of RBS.

One obstacle to a takeover has been a funding gap between the assets and liabilities in the branches, while the deal would also incur expensive integration costs.

Analysts have also said Co-Op might have to tap the debt markets for capital to fund the deal, which could impact the group's overall financial position.

Credit rating agency Fitch said the deal remained a highly risky one for the Co-Op, which also reported on Thursday group operating profit of 585 million pounds, with profit of 54 million pounds at its Co-Operative Bank unit.

"While the deal - if completed - offers the potential to transform Co-Op's business, an acquisition of this scale comes with considerable financial, execution and integration risks," Fitch said in a research note.

Marks said the Co-Op would decide whether to go ahead with its bid for the 632 Lloyds branches in "weeks rather than months."

The Co-Op, which expanded its small presence in financial services by acquiring the Britannia Building Society, would be catapulted to Britain's seventh-biggest bank with the Lloyds deal.

The FSA has been looking closely at the bid because of the proposed new bank's importance to consumers.

The FSA was expected to want reassurances that the Co-Op has strong enough capital, an experienced board and adequate systems and business plan before it gives the go-ahead.

Marks said he had no concerns over the Co-Op's corporate governance systems or the company's funding capabilities, and added that the group had a chief executive for its financial services business "waiting in the wings."

"This is nothing to do with our ability to run a bank or our governance," he said.

NBNK LIES IN WAIT

Regulators have ordered Lloyds to sell the branches as payback for the company's state bailout by the British government during the 2008 credit crisis, which left Britain with a 40 percent stake in Lloyds after it pumped around 20 billion pounds into the bank.

Lloyds shares fell 2.9 percent to 33.42 pence in late afternoon trade, still well below the average 63 pence price at which the British taxpayer effectively acquired its stake in the bank.

Espirito Santo analyst Shailesh Raikundlia said a collapse of the Co-Op deal would only hurt Lloyds' shares in the short term, as the bank still had a good chance of disposing of the branches, either through an initial public offering (IPO) or a sale to new British banking venture NBNK.

Lloyds has always kept a fallback option of spinning off the assets and then listing them on the stock market through an IPO, while NBNK, which lost out to the Co-Op last year in the bid to become Lloyds' preferred partner in the branch deal, remains interested.

However, Oriel Securities analyst Mike Trippitt cautioned that NBNK might face the same regulatory concerns as the Co-Op.

"This looks like a regulatory own-goal. They want to increase competition in banking, but if you set the regulatory barrier so high, you end up deterring new entrants," he said.

Lloyds has to sell the branches by 2013, a task which has been code-named "Project Verde". On their own, they represent 4.6 percent of UK personal current or checking accounts and 5 percent of the mortgage market.

A sale would mark an important step in Britain's longer-term plans of selling off its Lloyds holding and its 82 percent stake in rival bailed-out lender Royal Bank of Scotland, which like Lloyds has also been ordered to sell a string of assets.

Investment banks Credit Suisse and Barclays are advising the Co-Op on the Lloyds deal, while Lloyds is being advised by JP Morgan Cazenove and Citi.

(Reporting by Sudip Kar-Gupta; Editing by Mike Nesbit and Elaine Hardcastle)