Rio Tinto has rejected an offer from BHP Billiton to merge the two Anglo-Australian companies and create an iron giant valued at some $350 billion (see Commentary, facing page).

A merger would create a base metals colossus with powerful positions in coking coal, iron ore, copper and aluminium. BHP’s offer – three BHP shares for every Rio share, which values the bid at $145 billion (£69 billion) including debt – was rejected by Rio at a board meeting held earlier this week to consider the proposal. Rio shares gained 946p, or 22 per cent, to £52.96 in response to news of BHP’s interest, while BHP fell 100p, or 5.6 per cent, to £16.56.

In rejecting the proposal, Rio said it had given it careful consideration but “concluded that it significantly undervalues Rio Tinto and its prospects”. One person with knowledge of the talks said the offer was “a million miles away” from one that Rio would contemplate. “What they have put forward is a skinny premium . . . it’s a long way away from the kind of value that would be sensible.”

BHP’s offer coincides with completion of Rio’s $38 billion takeover of Alcan, the Canadian aluminium group, where Rio outbid Alcoa, the American aluminium producer.

A merger between Rio and BHP could provoke a political storm and push the mining sector to the fore-front of government concern about the emergence of cartels in strategic commodities.

The price of iron ore and coal, key ingredients in the production of steel, has soared over the past two years and a combined BHP-Rio group would have more than a third of the market in both iron ore and coking coal.

“There is going to be a lot of noise from the Japanese and Chinese steelmakers,” a leading mining analyst said yesterday.

Rio itself has been the subject of takeover speculation. Once the leader in the mining lists, Rio was overtaken in 2001 by the merger of Australia’s BHP and the Anglo-South African group Billiton.

Following that deal, BHP’s then chief executive, Brian Gilbertson, made an approach to Rio. It was rebuffed and Mr Gilbertson’s initiative caused a rift in the BHP board that led to his departure.

Until its bid for Alcan, Rio stood aside from the past year’s frenzied dealmaking in the mining sector. Analysts believed it was keeping its powder dry in the expectation of a metal price downturn.

Instead, demand for iron ore has continued to soar and a price leap of as much as 50 per cent is expected in 2008. Queues of bulk carriers are creating bottlenecks at terminals operated by BHP and Rio in Western Australia. Pricing is negotiated annually by three producers, BHP, Rio and CVRD, the Brazilian miner. BHP and Rio set prices in Asia in bench-mark deals with Japanese steelmakers while CVRD negotiates with European steel mills.

Sources close to BHP suggest the company would consider iron ore disposals to satisfy competition concerns.

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