LISBON (Reuters) - China Three Gorges won the competition to buy Portugal's stake in utility EDP (EDP.LS), paying 2.7 billion euros ($3.5 billion), in a privatization seen key to the indebted euro zone country's ability to sell state assets.

The deal, which also includes Chinese investment in the wider economy, is the brightest news for Portugal since it was forced to seek a 78 billion euro bailout from the European Union and International Monetary Fund in the spring after its financing costs soared.

State holding company Parpublica said on Thursday that China Three Gorges' offer for the 21 percent stake in EDP, Portugal's largest company, was at a 53 percent premium to its share price.

The Chinese energy giant beat Germany's E.ON (EONGn.DE) and Brazil's Eletrobras (ELET6.SA) after a tough competition in which Three Gorges had promised to sharply raise financing in EDP, enabling it to pay down debts and boost expansion plans in renewable energy projects.

Treasury secretary Maria Luis Albuquerque said the total investment in EDP and Portugal's economy could reach 8 billion euros when financing by Chinese banks is included.

"This commitment is a vote of confidence in Portugal's economy and in one of its biggest companies," Albuquerque told journalists after the cabinet met to choose the winning bid.

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Albuquerque said the offer included financing for Portugal's economy which China Three Gorges would promote, such as "lines of financing for banks and other companies."

China Three Gorges is a state-owned company that operates the dam by the same name, which is the world's largest hydropower project, as well as other hydropower projects in the country. It has around a dozen subsidiaries, including listed unit China Yangtze Power Co Ltd (600900.SS).

China Three Gorges, based in the central province of Hubei, has until now been mainly involved in domestic business, but it recently set up a planning and development office in Beijing in what it said was a necessary step to "meet the development needs of corporate strategy."

PRE-CONDITION

Andrew Horstead, head of research at UK-based energy consultancy Utilyx, said the sale was "great news for Portugal as this was a pre-condition," of its bailout.

"It seems that this is a changing of the old guard," said Horstead. "Although still a European stalwart, E.ON is now seeing competition from the Chinese in its own backyard," he said, referring to the losing German bidder.

As the largest member of the euro zone, Germany is the biggest contributor to Portugal's EU/IMF bailout.

E.ON Chief Executive Johannes Teyssen said: "We were not in a position to offer more than what we can justify as an appropriate and value creating investment."

The funding that should come from China will be welcome, especially as Portugal's banks have a strong need for money to boost their capital ratios to higher levels under new European capital adequacy ratios.

Millennium bcp (BCP.LS), the country's largest listed bank, may be one of the banks to receive capital, a Three Gorges official has said.

EDP said through the purchase it and Three Gorges will "combine efforts to become worldwide leaders in renewable energy generation" through a strategic partnership.

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Three Gorges will invest 2 billion euros for minority stakes in EDP renewable energy projects until 2015 and EDP has received a commitment from a Chinese bank of 2 billion euros in funding for up to 20 years.

That allows EDP to extend its financing coverage needs by two years until mid-2015 and the partnership should raise earnings per share from 2012, EDP said.

Shares in EDP, which had been suspended before the announcement, closed 3.74 percent higher at 2.33 euros per share, outperforming the Lisbon PSI20 .PSI20 index which gained 1 percent.

EDP's strong presence in alternative energy and its business in fast-growing Brazil attracted strong interest from bidders even though EDP has been hit at home as debt-laden Portugal struggles through its worst recession in decades.

The government is also selling a stake in state-controlled power grid company REN (RENE.LS).

($1 = 0.7654 euros)

(Reporting By Axel Bugge, Filipa Lima, Daniel Alvarenga and Christoph Steitz in Frankfurt; Additional reporting by Karolin Schaps in London and Jason Subler in Shanghai; Editing by Erica Billingham and Muralikumar Anantharaman)