HudBay Minerals to merge with Skye Resources

HudBay Minerals (HBM-T) and aspiring nickel producer Skye Resources (SKR-T, SKRZF-O) are combining forces, expanding HudBay’s zinc and copper portfolio to nickel. Skye’s flagship asset is its past producing Fenix nickel-laterite project in eastern Guatemala.

Under the proposed transaction, one Skye share will be exchanged for 0.61 of a Hudbay share. The deal represents a 35% premium over Skye’s 20-day volume weighted average trading price and a 17% premium over Skye’s closing price on June 20.

If the merger goes ahead, HudBay will have about 160.9 million shares outstanding, of which current HudBay shareholders will hold 79.9% and former Skye shareholders will own 20.3%.

As part of the transaction, HudBay will acquire 12.6 million shares of Skye at a price of C$7.51 per share in a private placement totaling C$95.2 million.

The proceeds will be used to ramp up the engineering, procurement and construction activities at Fenix, including the purchase of long lead-time equipment that had been suspended previously.

The news sent shares of Skye soaring 97 apiece to $8.69, an increase of 12.5%, on a trading volume of 3.4 million shares. By contrast, HudBay fell 78 to $14.01 per share on a trading volume of 7.1 million.

Skye’s Fenix nickel project in the Lake Izabal region of Guatemala is expected to move into production in the last quarter of 2010 and has an estimated mine life of 30 years. The project has a proven and probable reserve of 41.4 million tonnes grading 1.63% nickel, plus additional saprolite and limonite resources in various categories.

“I like the idea of they’re going into nickel; I like the idea that they’re going into nickel in a development project; and I like the idea that they’re going into a nickel development project that has been shopped around and found unattractive by the deep-pocketed majors because they don’t want to pay Vale the 3% merchandising fee for the final product,” says Mike Collison, an analyst with Dundee Securities.

Collison has raised his rating on HudBay from neutral to a buy and has a 52-week target price on the stock of C$21 per share. “It puts the company’s cash balance to work, diversifies the zinc price exposure, and the Fenix deposit has upside potential with expansions down the road.”

Inco operated the Fenix project (then known as Exmibal) in the late 1970s. Inco developed the deposit, mining and processing about 800,000 tonnes of material from 1977 to 1980. But the smelter was closed in 1980 due to high oil prices and a weak nickel market.

The project has a US$238 million pyrometallurgical nickel processing plant and related facilities, which have been on care and maintenance for the last 28 years. It processed saprolitic nickel-laterite mined from the deposit’s La Gloria pit.

Skye acquired 70% of Fenix from Inco in 2004. Since then the Vancouver-based junior has boosted its project interest through development spending that has diluted its partner, the Guatemalan government. Skye’s subsidiaries currently own 98.2% of the project with the government of Guatemala holding the remaining 1.8%.

Skye has received environmental and construction permits for Fenix and basic engineering has been completed on the project. Detailed engineering is about half-way finished.

But the project could face opposition from the local Qeqchi indigenous people, whose leaders have staged numerous land blockades in the past.

Under the proposed merger, Vale Inco has the right to participate in the financing to maintain its current 11% equity interest in Skye. If Vale participates, HudBay’s holding in Skye would represent about 19.4% of its outstanding shares.

The boards of HudBay and Skye have both endorsed the proposal.

The merger will be a win-win for both companies, HudBay and Skye Resources’ management believes. It gives Skye access to HudBay’s financial and technical capacity to bring Fenix into production, while it boosts HudBay’s development pipeline.

HudBay will enlarge its reserves and resources and diversify its base metals base with a healthy mixture of producing, development and exploration assets and a strong balance sheet. It will have a cash balance of about C$861 million with no debt, and solid operating cash flow.

Vice Chairman and chief executive of Skye Resources, Colin Benner, will join HudBay’s board of directors.

Traditionally HudBay’s focus has been on zinc and copper in the Flin Flon greenstone belt of Manitoba. The company operates mines, concentrators and metal production facilities in northern Manitoba and Saskatchewan, a zinc oxide production facility in Ontario, the White Pine copper refinery in Michigan and the Balmat zinc mine in New York state.

HudBay has a 52-week trading range of $13.70-$29.63 with 126.4 million shares outstanding.

Skye Resources has a 52-week trading range of $3.85-$17.20 with 51 million shares outstanding.