New plot twist roils the mining takeover saga

SINCLAIR STEWART AND ANDREW WILLIS

Globe and Mail Update

July 29, 2006 at 1:59 AM EDT

Mexico's largest mining conglomerate is considering a bid for Phelps Dodge Corp., an unexpected twist that could cloud the takeover battle for Inco Ltd. and further complicate one of the most convoluted rounds of merger negotiations in Canadian history.

Financial sources said Friday that holding company Grupo Mexico SA, the parent of Southern Copper Corp., has hired U.S. financial advisers to explore a potential acquisition of its larger competitor, Phoenix-based copper giant Phelps.

The move would inject further doubt about the future for Inco, the Canadian nickel miner whose fevered pursuit of Falconbridge Inc. ended in disappointment Friday morning after it failed to get enough shareholder approval for the acquisition. That failure has opened up the door for rival bidder Anglo-Swiss miner Xstrata PLC to scoop up Falconbridge with an all-cash offer.

It has also made Inco the most sought-after quarry in the Canadian mining sector. Phelps, which had intended to buy a combined Inco-Falconbridge, says it will now bid solely for Inco. Yet in keeping with the labyrinthine nature of the current mining manoeuvres, it will face a host of complications.

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A takeover offer from Grupo's Southern Copper unit, of course, could throw Phelps's play for Inco into doubt. Then there are the other Inco suitors. Teck Cominco Ltd., whose bid for Inco was spurned two months ago, has waited patiently in the wings while the Falconbridge affair ran its course. Now that it appears to be over, Teck is said to be preparing for another offensive. The Vancouver company is expected next week to increase its existing cash and share bid, valued at about $74.10 Friday, to as much as $88, according to a report from investment dealer UBS Securities. Inco shares closed Friday at $86.57.

“We estimate that this bid would be higher than the Phelps bid for Inco, while at the same time being accretive to Teck,” said Brian MacArthur, the mining analyst at UBS.

The issue now is whether Phelps will become a target itself.

Southern Copper, in which Grupo holds a 75-per-cent ownership stake, is a $14.2-billion (U.S.) miner with operations in Mexico and Peru. Another financial source suggested Southern is on the hunt for high-quality assets, and views Phelps as a way to solidify its business in Latin America. Phelps owns 54 per cent of Sociedad Minera Cerro Verde, Peru's number three copper producer.

The two companies are no strangers. Several years ago, Grupo outbid Phelps to gain control of Asarco Inc., a smelting and refining company.

“Grupo Mexico would love to do a paper deal that sees them merge Southern Copper with Phelps Dodge,” said one investment banker working for a rival bidder. “They want that deal because it would give them a fabulous collection of copper assets.”

Officials at Southern Copper could not be reached for comment.

Only two months ago, Southern confirmed it was holding talks with several companies, including Phelps Dodge, about the possibility of forming a strategic alliance. In April, Grupo, said it would consider diluting its ownership stake to below 75 per cent. An acquisition of a larger player such as Phelps would certainly accomplish that goal. As of Friday's close, Phelps's market value was more than $16.6-billion.

In addition to being the world's third-largest copper producer, Grupo also boasts one of the world's largest molybdenum operations, second only to Phelps.

In the meantime, there are rumours that other bidders, like Brazilian mining colossus Companhia Vale do Rio Doce (CVRD) or Rio Tinto PLC, could also join the fray.

CVRD has a dual share structure, similar to that of Teck Cominco. In recent weeks, the gap between the two classes has narrowed, and there has been speculation among some bankers that CVRD could scrap its supervoting shares to make its stock more attractive to Inco.