On the Rocks.

SPANISH TELEPHONE COMPANY TELEFONICA RECENTLY signed a deal with International Discount Telecommunications Corp. (IDT) to expand its presence in the United States. In and of itself, the pact is not that remarkable except that it raises serious questions about Telefonica's strategic partnership with MCI WorldCom, the No. 2 U.S. long-distance carrier.

Telefonica dumps MCI to go with an aggressive upstart in the United States.

At one time, the two companies were going to offer joint services to large businesses in South America, Telefonica's fiefdom. MCI WorldCom, in turn, would help Telefonica reach into Mexico and the United States.

Now Telefonica and IDT are going to market telephone and Internet service to 18 million Spanish-speakers in the United States. IDT will also take a 25% participation in Sam-1, a 23,000-kilometer fiber-optic cable in Latin America that Telefonica is currently building with Tyco International. MCI was not invited in on the deal.

Sam-1 will, in fact, compete directly with MCI WorldCom's project, called the Pan-American cable, which it considers an integral piece in its plans to serve large multinationals globally.

MCI WorldCom Vice Chairman John Sidgmore discussed his company's Latin American strategy with journalists and analysts at length in June without once mentioning Telefonica, its strategic partner since 1998. When he was asked about the omission, his answer was vague. Both MCI Worldcom and Telefonica refused to make official comments, but executives from both companies say privately that the two companies have been cooling off for some time. Recently, MCI acquired Sprint in the largest telecom merger to date.

At this point, it is unclear how, or if, Telefonica or MCI will manage to reconcile. "Our original plans for going into the U.S. with MCI were not materializing, so we decided to take the risk of partnering with a much smaller company," says one Telefonica executive, who asked that his name not be used.

* IDT, with 1998 sales of US$35 million, pales compared with the $17 billion raked in last year by MCI WorldCom. The small phone company was, however, a pioneer of so-called call-back services that allow international callers to bypass steep rates charged by local phone monopolies. IDT's Net2Phone unit, which was recently spun off in an initial public stock offering, is generally considered the largest carrier of calls over the Internet.

At the beginning of the year, the company began marketing Internet calling to Hispanic users. IDT also has struck a deal with Telemundo, the Spanish-language television channel, to help with marketing.