Terra and Lycos hope to party in Rio

For $12.5bn you could fill a Spanish football team full of Brazilians and still have change for a David Beckham haircut. Terra Networks, the internet arm of Spanish telco Telefonica, however, spent this sum acquiring US internet portal, Lycos.

In a sector where commercial traffic and buy-outs have been largely one-way in the US's favour, this deal seems to suggest that Europeans may finally be ready to become major players on the American continent. But the tie-up has also raised larger questions about the general web economy and its current state of fluidity.

Mike Thompson, director of research at the Butler Group, believes the deal has highlighted certain assumptions being made about the global economy. "We tend to talk of global networking and global enterprises, but I still think it does indicate we are regionalised to a certain extent," he says. "America Online, by its very name, tends to limit its market potential. Creating a European challenge to someone like AOL is quite positive."

Terra is part of the Spanish telephone company Telefonica, which is already the dominant ISP in South America, boasting more than 12 million lines. Just as in the UK where BT is trying to redefine itself as more than a phone company in the face of increasing competition, Telefonica is also faced with stiff competition at home.

As a result, expanding its internet arm and exploiting its business outside of the domestic market makes sense. In an increasingly promiscuous telecoms environment, there are even rumours that BT may get into bed with Telefonica.

Alex Kovach, Lycos' managing director for the UK and Ireland, says the tie-up will not only boost the company in terms of size, providing economy of scale benefits, but also provide it with access to Terra's broadband and wireless initiatives.

"The Terra deal helps with the overall size, which is important. Lycos Europe is currently 15 million users. Terra in Spain has about two million ISP users and in South America has fairly low levels of internet penetration. South America will grow internet penetration," says Kovach.

Content is king
The Lycos acquisition is also a continuation of the trend of portal buyouts and tie-ups that are shaping the web economy - although up until now, this has been a purely US phenomenon. NBC and Disney, for example, bought into Snap and Infoseek respectively, fostering the first law of the new net economy that 'content is king'.

Lycos has been a partner of German media giant Bertelsmann for a number of years, and as part of the deal Bertelsmann will invest $1bn in the new Terra/Lycos company and provide it with media content. Lycos hopes that this content may help it leave its competitors in its wake.

While Terra's link with Telefonica will obviously bring a certain amount of brand recognition to an untapped Latin American market, Lycos has also been active on the marketing front. Its recent ubiquitous UK TV ad pictured the search engine as a gambolling dog sniffing out information.

Butler's Thompson says: "Lycos has really pushed its brand over the last 18 months or so. It has moved up into the same circles as Yahoo. The important thing to stress about this deal is that it underlines the strength of the information presentation market - the portal market."

However, response to the deal has been mixed. The share prices of both companies have dropped - Lycos' by about 10 per cent and Terra's by about seven per cent.

Thompson believes this is evidence of general concern in the market about internet companies, and people wanting more time to take stock as a result - something that is particularly poignant following Boo.com's entry into receivership last week.

The challenge facing dotcoms
The bursting of the dotcom bubble would imply that internet companies are no longer a safe bet, but people are also confused by the fluidity of the internet as an entity and the almost daily changes in technology, business and the basic definitions of what a company actually does.

It is not so very long ago that new media companies ruled the roost in a technology sense, but they have now realised that content is necessary and have became dependent on old media.

Until recently, for example, Yahoo or Lycos were simply 'search engines' and like the dog in the Lycos ad, were simply information retrievers. But every man and his dog now has a search engine and increasingly the portal is becoming an all-singing-and-dancing TV channel, corner shop and dating service rolled into one.

But precisely because things are changing almost daily, investors are becoming increasingly aware that they can only hope to have a very general picture of what they are actually buying into.

For example, Simon Moores, chairman of The Research Group, has coined the phrase "fuzzy telcos" to describe a situation where the distinction between portal and telecoms providers has blurred - and the phrase could be extended to cover the whole 'fuzzy' internet economy.

Counting the cost
While Terra and Lycos may see their marriage as a match made in heaven, Moores claims that others are not impressed by the price of the engagement.

"Lycos is trying to build network share, but some analysts are saying that it was very expensive. The problem with the Latino audience is that the disposable income is not particularly high and penetration isn't high, but it's a growing market. Whether in the longer term, the company can make something of this remains to be seen," he says.

Although Terra/Lycos is expected to generate $500m in revenue this year, the two would appear to be gambling on the future, says Moores.

"The deal is evidence of the 'Ricky Martin effect'. First, there is the importance of the Latin American audience, of which there are about 500 million potential users worldwide. Second, we saw at the end of last year Microsoft investing over $100m in Telmex in Mexico, wanting to grab a share of the Latin American audience. The Ricky Martin audience is a very valuable one. But as with La Vida Loca, the deal could be questionable," Moores said.

A Terra spokesman replied: "Of course it's a high price, but it's what Terra had to do to become one of the two or three top internet companies in the world."

He added that the South American element of the deal is very important, "taking into account that Lycos is going to be 70 per cent of the revenues of the new company and that Terra shareholders will own 60 per cent of it. Lycos saw that Terra has a very important potential market of 550 million people in Latin America."

However, while the Latin American market might be sexy, the issue that concerns analysts is whether current interest in the region is merely a flash in the pan or the start of something more long term.