UPDATE: Market Uneasy Over Portuguese Stake In Brazil Oi

Market unease was palpable Wednesday after Portugal Telecom SGPS SA (PT, PTC.LB) announced acquisition of a 22.4% stake in Brazil's largest telecommunications company, Oi (TNE, TNLP4.BR), mainly because of a provision for sale of new shares.

The Portuguese company will pay 8.44 billion reals ($4.76 billion) for its stake, but part of the deal calls for what could turn out to be a massive share offer.

The share offer will dilute minority stakes in the Brazilian company, although some of the proceeds will be used to pay down existing Oi debt.

Market reaction was swift and negative.

As of 1420 GMT, Oi's shares were down 7.5% at BRL28.33 even as the main Ibovespa stocks index was down only 0.3%.

In a later stage, Oi will acquire a stake of up to 10% in Portugal Telecom. That operation must still be approved by the board of directors of the Portuguese company.

In a filing with Brazilian authorities Wednesday, Oi's management described the deal as "a partnership" with the Portuguese company.

Through the partnership, both companies will develop new technologies, gain scale in the growing Brazilian market and expand international operations, Oi said in its filing.

Portugal Telecom will acquire its stake from Oi shareholders AG Telecom Participacoes SA and LF Tel SA (PITI4.BR).

Control of Oi will remain in Brazilian hands. Oi is controlled by local groups Andrade Gutierrez and La Fonte and Fundo Atlantico.

The operation is linked with a deal between Portugal Telecom and Telefonica SA (TEF, TEF.MC) announced Wednesday in Europe.

Portugal Telecom will sell its stake in Brazil's mobile operator Vivo Participacoes SA (VIV, VIVO4.BR) to Telefonica for EUR7.5 billion and use some of the proceeds to buy Oi's stake. The deal came after months of struggle between the two Iberian telecoms.

Brazil is a key market for both Telefonica and Portugal Telecom as they face declining revenue in their mature home markets and suffer the lingering impact of a severe recession.

Brazil's telecom market, including fixed and mobile-phone components, has four big players. Vivo, which before the current deal was jointly owned by Telefonica and Portugal Telecom; Claro and Embratel, both controlled by Mexican billionaire Carlos Slim; TIM Participacoes, which is the local unit of Telecom Italia SpA (TIA, TIT.MI); and Oi, the only local company controlled by Brazilian groups.

-By Rogerio Jelmayer and Tom Murphy, Dow Jones Newswires; 55-11-3544-7071; [e-mail]