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RPT-UPDATE 2-China's Dongfeng and Peugeot to agree on capital tie-up-source

(Repeats to additional subscribers)

* MOU to be signed later on Tuesday - source

* Dongfeng, French govt to each inject 800 mln euros - source

* PSA fundraising to total 3 bln euros - sources

SHANGHAI, Feb 18 (Reuters) - China's Dongfeng Motor Group Co Ltd and PSA Peugeot Citroen will agree on Tuesday to a capital tie-up as part of a broader 3 billion euro fundraising that will end the Peugeot family's control of the 200-year-old French carmaker, a source said.

A non-binding memorandum of understanding will be signed whereby China's second-biggest carmaker and the French government each will inject 800 million euros ($1.10 billion) for 14 percent stakes in PSA Peugeot, a Dongfeng executive with direct knowledge of the talks told Reuters.

Peugeot will also sell new shares to existing shareholders, bringing the total fundraising effort to 3 billion euros ($4.1 billion), the source said, confirming earlier Reuters' reports. The source declined to be identified because the information was not yet public.

The rescue deal will help Peugeot - founded in 1810 as a maker of tools and coffee grinders - survive the withdrawal next year of 7 billion euros in state guarantees to its sales financing arm, which are keeping the French firm afloat.

The company that beat Ford by 22 years to make the first series-manufactured car back in 1891, survived two world wars and become a champion of French industry is struggling to contain losses that burnt 3 billion euros of cash last year.

For Dongfeng, the tie-up represents the expansion of another Chinese giant through an investment in a struggling Western brand. Just last month Lenovo Group Ltd said it would buy Motorola Mobility from Google Inc for $2.91 billion in the fourth-largest U.S. acquisition by a Chinese company.

Dongfeng is the latest Chinese carmaker to either fully or partially acquire foreign rivals after Zhejiang Geely Holding bought Sweden's Volvo Car in 2010 and SAIC Group's purchase of South Korea's SSangyong.

Under the deal between Dongfeng and PSA, the Peugeot family's 25 percent stake and 38 percent of voting rights would be diluted to parity with the government and Dongfeng, short of the one-third required to veto decisions.

Sources have said Peugeot plans to sell new stock to Dongfeng and the French state priced at 7.50 euros, a 41 percent discount on Monday's 12.79 euro closing price, followed by a rights issue to existing shareholders.

Dongfeng spokesman Zhou Mi said an announcement related to the PSA deal would be made on Wednesday. A Peugeot spokesman declined to comment on the discussions.

Sources on Monday said the Peugeot family had given the go-ahead and Peugeot's board would approve the tie-up on Tuesday, with an announcement the following day.

DOUBTS, DIVISIONS

Peugeot is among the worst casualties of Europe's six-year market slump and is being kept alive by state guarantees that expire next year.

The company has been slow to adapt to competition and critics argue it has missed opportunities for strategic partnerships in the past, such as with German group BMW or Japan's Mitsubishi Motors.

Even so, the tie-up with Dongfeng has divided the Peugeot family and some analysts have cast doubts over the logic behind the deal, saying Peugeot could instead sell its lending arm or Faurecia parts division.

Questions also have been raised over what Dongfeng would gain through the tie-up beyond putting some of its excess cash to work. As of the end of June, Dongfeng had 24 billion yuan ($3.96 billion) worth of cash or cash equivalents, according to its mid-year report.

The Dongfeng source said the MOU would include cooperation on technology but industry experts doubt Peugeot will be willing to share engineering know-how that would upgrade the Chinese firm's Fengshen line of vehicles.

It took lengthy negotiations for Geely to convince Volvo to make technology available, and in the end the European carmaker only parted with platform technology that it had decided to retire. The two companies recently agreed however to jointly develop small-car technology.

"That was tough even though Geely owns 100 percent of Volvo. Try convincing Peugeot to cough up technology when you own only a small stake. Good luck," said Yale Zhang, head of Shanghai-based consulting firm Automotive Foresight.

Sources have said Peugeot and Dongfeng will cooperate to expand into Southeast Asia, although Peugeot has limited market penetration in the region.

PSA sold around 6,500 cars in Malaysia, its biggest market in Southeast Asia, in 2013, accounting for just one percent of the overall market, according to research firm LMC Automotive.

Shares of Dongfeng were suspended on Tuesday pending an announcement, it said in a filing to the Hong Kong stock exchange. The shares closed down 1.6 percent at HK$10.96 on Monday. ($1 = 0.7298 euros) ($1 = 6.0641 Chinese yuan)

(Additional reporting by Norihiko Shirouzu; Editing by Stephen Coates)

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