Domtar Inc. said Wednesday it will merge with the fine paper business of U.S. forest products company Weyerhaeuser Co. in a $3.3 billion US cash-and-stock deal.

The companies said the deal will create the largest manufacturer and marketer of uncoated freesheet paper in North America, and the second largest in the world.

The new company will operate as Domtar, with its head office in Montreal and its operating headquarters in Fort Mill, S.C.

The transaction has been approved by the boards of directors of both companies.

Current Weyerhaeuser shareholders will wind up with 55 per cent ownership of the new company, while current Domtar share owners will get 45 per cent of the shares of the new firm.

The deal includes a $1.35-billion US payment in cash to Weyerhaeuser from the new firm.

"This transaction will create the North American market leader in fine paper and we anticipate that the combination will generate approximately $200 million US in annual synergies within the next two years," said Steven Rogel, the chairman, president and chief executive of Weyerhaeuser, which is based in Federal Way, Wash..

The deal is expected to close in the first quarter of 2007.

"In addition to more than doubling Domtar's current paper production capacity, this compelling strategic and operational fit will make the new company financially stronger with prominent brands, a lower cost base and the necessary scale and scope to succeed in the highly competitive global marketplace," said Raymond Royer, the president and CEO of Domtar.

Shares of Domtar slipped 22 cents on the TSX to finish at $7.43, while Weyerhaeuser was up $1.32 US at $61.35 US on the NYSE.