Marriage of convenience for two Canadian giants

Former rivals thwart potential bids by foreigners

Chief Business Correspondent In typically Canadian fashion, they thwarted the enemy on friendly terms.

For the past decade, they could hear the big footsteps of the diversified Europeans, the Russians and the Chinese stomping around, hunting for prey on which to build their expanding behemoths.

Yesterday, two Canadian mining companies may have ducked the bull’s eye by striking a “friendly takeover bid” that will see Inco Ltd. purchase all of the outstanding common shares of rival Falconbridge Ltd. in a $12.8-billion cash and stock offer. The deal between the two Ontario-based mining companies will create the world’s largest producer of nickel and a significant copper miner.

“ This is a historic day for Canadian mining,” gushed Scott Hand, Inco’s chairman and chief executive, yesterday as he publicly unveiled the blockbuster offer. “ As a combined entity, we have global reach and global clout,” added his Falconbridge counterpart, Derek Pannell.

Still, amid the high fives and boasts of a global “mining and metals powerhouse,” the sigh of relief was audible. Synergies aside, this deal likely has more to do with self-preservation than it does with expanding global reach or even ensuring the long-term viability of Sudbury, Ont.

After all, Inco and Falconbridge have been working side by side in the northern Ontario city for decades, despite the glaringly apparent rationale for merging the two.

For analysts and investors, it had become one of the most anticipated marriages in the mining industry that seemed would never be consummated.

But that changed with the recent buying binge by the giant mining firms and rampant speculation that have, in effect, grudgingly put such mid-size firms as Inco and Falconbridge into play.

“ You have to wonder if the merger of two companies relatively equal in size isn’t in part motivated by a desire to stay independent, along with a lot of fundamental value creating reasons for putting the companies together,” said Victor Lazarovici, a New York-based mining analyst at BMO Nesbitt Burns.

Consider what Mr. Lazarovici calls the “sweet spot” for strategic consolidation: the strength of such bulk commodities as coal and iron ore have unleashed players in the US$30-billion to US$90-billion range, such as BHP Billiton, Anglo American and Rio Tinto, on a shopping spree for mid-size companies worth US$5-billion to US$10-billion.

Until recently, the targets have been mostly Australian, but their ranks have now been depleted.

Enter the Canadians.

Two months ago, Falconbridge became a likely target when Swiss mining giant Xstrata PLC purchased a 20% stake in the company after it merged with Noranda. Xstrata became Falconbridge’s largest shareholder in a deal with Brascan, which sold its block for $28 a share. Once Xstrata secured a seat on Falconbridge’s board of directors, the company promptly began agitating for more. With deep pockets, and no apparent Canadian challenger, the ambitious Swiss miner looked ready to launch a hostile bid.

Meanwhile, Inco was staring down speculation that it, too, would be receiving takeover advances.

“If Falconbridge was already in play and you’re Inco, you realize that probably if you’re not the next in line, you’re pretty close to the front of the line,” Mr. Lazarovici said.

Thus the marriage of convenience unveiled yesterday. If the deal meets investor and regulatory approval, the newly created Inco would have a market cap of about US$18-billion. Messrs. Hand and Pannell become CEO and president respectively, and the company stays wrapped in the Canadian flag.

More importantly, the newly merged entity is a decidedly more expensive target, especially with the US$320-million breakup fee. It may be even more so for Xstrata. In addition to the breakup fee, the Swiss company may be forced to pay a premium over the $28-ashare it paid Brascan. Adding to the price tag is a clause in its deal that entitles Brascan to receive the same offer Xstrata may bid for Falconbridge shares over $28 a share during the next nine months.

And even though it is not likely that potential acquirers are going to stand by and watch these assets get away without lifting a finger, Inco and Falconbridge appear to have manoeuvred a gentlemanly reprieve.