nicorincform10q093010.htm


   
UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549

FORM 10-Q

        [X]
QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
 
                              For the quarterly period ended September 30, 2010

or

        [   ]
TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

Commission File Number 1-7297

NICOR INC. LOGO
NICOR INC.
(Exact name of registrant as specified in its charter)

Illinois
36-2855175
(State of Incorporation)
(I.R.S. Employer
 
Identification No.)

1844 Ferry Road
 
Naperville, Illinois 60563-9600
(630) 305-9500
(Address of principal executive offices) (Zip Code)
(Registrant’s telephone number, including area code)

Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months and (2) has been subject to such filing requirements for the past 90 days.  Yes [X]   No [   ]

Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T during the preceding 12 months.  Yes [X]   No [   ]

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer or a smaller reporting company.  See definitions of “large accelerated filer,” “accelerated filer” and “smaller reporting company” in rule 12b-2 of the Exchange Act.

Large accelerated filer    [X]
Accelerated filer                     [   ]
   
Non-accelerated filer      [   ]
Smaller reporting company   [   ]

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).  Yes [  ] No [X]

Indicate the number of shares outstanding of each of the issuer’s classes of common stock, as of the latest practicable date.  Common stock, par value $2.50, outstanding at October 26, 2010, were 45,534,284 shares.




 
 

 

Table of Contents

 
ii
       
Part I - Financial Information
 
       
 
Item 1.
Financial Statements (Unaudited)
 
       
   
1
   
 
 
   
2
   
 
 
   
3
   
 
 
   
4
       
 
Item 2.
23
       
 
Item 3.
36
       
 
Item 4.
36
       
Part II - Other Information
 
       
 
Item 1.
37
       
 
Item 2.
37
       
 
Item 6.
38
       
   
39
 

Glossary

ALJs.  Administrative Law Judges.

Central Valley.  Central Valley Gas Storage, L.L.C., a wholly owned business that is developing a natural gas storage facility in the Sacramento River valley of north-central California.

Chicago Hub.  A venture of Nicor Gas, which provides natural gas storage and transmission-related services to marketers and other gas distribution companies.

Degree day.  The extent to which the daily average temperature falls below 65 degrees Fahrenheit.  Normal weather for Nicor Gas’ service territory, for purposes of this report, is considered to be 5,600 degree days.
 
EN Engineering.  EN Engineering, L.L.C., a previously owned joint venture that provides engineering and consulting services.  Nicor sold its ownership on March 31, 2009.

FERC.  Federal Energy Regulatory Commission, the agency that regulates the interstate transportation of natural gas, oil and electricity.

Financial Reform Legislation.  Dodd-Frank Wall Street Reform and Consumer Protection Act.

Health Care Act.  Patient Protection and Affordable Care Act and the Health Care and Education Reconciliation Act of 2010.

ICC.  Illinois Commerce Commission, the agency that establishes the rules and regulations governing utility rates and services in Illinois.

IDR.  Illinois Department of Revenue.

IRS.  Internal Revenue Service.

Jobs Act.  American Jobs Creation Act of 2004.

LIBOR.  London Inter-bank Offered Rate.

LIFO.  Last-in, first-out.

Mcf, MMcf, Bcf.  Thousand cubic feet, million cubic feet, billion cubic feet.

Nicor.  Nicor Inc., or the registrant.

Nicor Advanced Energy.  Prairie Point Energy, L.L.C. (doing business as Nicor Advanced Energy), a wholly owned business that provides natural gas and related services on an unregulated basis to residential and small commercial customers.

Nicor Enerchange.  Nicor Enerchange, L.L.C., a wholly owned business that engages in wholesale marketing of natural gas supply services primarily in the Midwest, administers the Chicago Hub for Nicor Gas, serves commercial and industrial customers in the Chicago market area, and manages Nicor Solutions’ and Nicor Advanced Energy’s product risks, including the purchase of natural gas supplies.

Nicor Gas.  Northern Illinois Gas Company (doing business as Nicor Gas Company) is a regulated wholly owned public utility business and one of the nation’s largest distributors of natural gas.
 

Nicor Services.  Nicor Energy Services Company, a wholly owned business that provides customer move connection services for utilities and product warranty contracts, heating, ventilation and air conditioning repair, maintenance and installation services and equipment to retail markets, including residential and small commercial customers.

Nicor Solutions.  Nicor Solutions, L.L.C., a wholly owned business that offers residential and small commercial customers energy-related products that provide for natural gas cost stability and management of their utility bill.
 
NYMEX.  New York Mercantile Exchange.
 
PBR.  Performance-based rate, a regulatory plan which ended on January 1, 2003, that provided economic incentives based on natural gas cost performance.

Rider.  A rate adjustment mechanism that is part of a utility’s tariff which authorizes it to provide specific services or assess specific charges.

Sawgrass Storage.  Sawgrass Storage, L.L.C., a 50-percent-owned natural gas storage development joint venture with Mill Creek Gas Storage, L.L.C., an affiliate of Samson Contour Energy E&P, L.L.C., involving the proposed development of a depleted natural gas reservoir located near Monroe, Louisiana.

SEC.  The United States Securities and Exchange Commission.

TEL.  Tropic Equipment Leasing, Inc., a wholly owned subsidiary of Nicor, holds the company’s interest in Triton.

TEU.  Twenty-foot equivalent unit, a measure of volume in containerized shipping equal to one 20-foot-long container.

Triton.  Triton Container Investments L.L.C., a cargo container leasing company in which Nicor Inc. has an investment.

Tropical Shipping.  A wholly owned business and a carrier of containerized freight in the Bahamas and the Caribbean region.
 
 
Part I - FINANCIAL INFORMATION
                       
                         
Item 1.  Financial Statements
                       
                         
Nicor Inc.
                       
                       
(millions, except per share data)
                       
                         
   
Three months ended
      Nine months ended  
   
September 30
     September 30  
   
2010
   
2009
   
2010
   
2009
 
Operating revenues
                       
Gas distribution (includes revenue taxes of $14.0, $13.1, $111.8 and $114.5, respectively)
  $ 233.5     $ 215.0     $ 1,601.8     $ 1,525.3  
Shipping
    83.9       83.3       253.4       256.5  
Other energy ventures
    41.2       34.7       157.2       163.0  
Corporate and eliminations
    (6.1 )     (7.4 )     (41.4 )     (60.8 )
Total operating revenues
    352.5       325.6       1,971.0       1,884.0  
                                 
Operating expenses
                               
Gas distribution
                               
Cost of gas
    75.5       70.2       982.3       943.2  
Operating and maintenance
    74.2       63.3       217.1       223.0  
Depreciation
    45.9       44.4       137.8       133.4  
Taxes, other than income taxes
    18.3       17.6       124.4       127.3  
Mercury-related
    (1.3 )     -       (1.3 )     -  
Shipping
    80.3       76.7       246.1       240.8  
Other energy ventures
    34.1       31.0       134.3       144.0  
Other corporate expenses and eliminations
    (4.9 )     (7.4 )     (39.5 )     (56.9 )
Total operating expenses
    322.1       295.8       1,801.2       1,754.8  
                                 
Operating income
    30.4       29.8       169.8       129.2  
Interest expense, net of amounts capitalized
    9.7       9.3       28.4       27.4  
Equity investment income, net
    1.5       1.0       5.1       14.3  
Interest income
    .2       .7       1.1       1.8  
Other income, net
    .3       .4       .8       .9  
                                 
Income before income taxes
    22.7       22.6       148.4       118.8  
Income tax expense, net of benefits
    9.1       9.0       50.1       38.5  
                                 
Net income
  $ 13.6     $ 13.6     $ 98.3     $ 80.3  
                                 
Average shares of common stock outstanding
                               
Basic
    45.7       45.4       45.6       45.4  
Diluted
    45.9       45.5       45.8       45.5  
                                 
Earnings per average share of common stock
                               
Basic
  $ .30     $ .30     $ 2.16     $ 1.77  
Diluted
    .30       .30       2.15       1.77  
                                 
Dividends declared per share of common stock
  $ .465     $ .465     $ 1.395     $ 1.395  
                                 
The accompanying notes are an integral part of these statements.
                         


Nicor Inc.
           
           
(millions)
           
   
Nine months ended
 
   
September 30
 
   
2010
   
2009
 
             
Operating activities
           
Net income
  $ 98.3     $ 80.3  
Adjustments to reconcile net income to net cash flow provided from operating activities:
               
Depreciation
    151.9       147.0  
Deferred income tax expense (benefit)
    (9.9 )     1.8  
Gain on sale of equity investment
    -       (10.1 )
Changes in assets and liabilities:
               
Receivables, less allowances
    256.4       444.4  
Gas in storage
    (90.6 )     14.6  
Deferred/accrued gas costs
    6.9       90.4  
Derivative instruments
    6.6       (104.7 )
Margin accounts - derivative instruments
    (1.7 )     110.4  
Other assets
    23.2       13.5  
Accounts payable
    (68.1 )     (147.9 )
Customer credit balances and deposits
    (10.5 )     (19.6 )
Other liabilities
    (6.3 )     (11.2 )
Other items
    (8.4 )     9.7  
Net cash flow provided from operating activities
    347.8       618.6  
                 
Investing activities
               
Additions to property, plant & equipment
    (148.7 )     (165.0 )
Purchases of held-to-maturity securities
    (8.0 )     -  
Proceeds from maturities of held-to-maturity securities
    .9       2.0  
Net (increase) decrease in other short-term investments
    10.8       (9.3 )
Proceeds from sale of equity investment
    .9       13.0  
Business acquisitions, net of cash acquired
    (2.8 )     (.4 )
Other investing activities
    (.6 )     5.1  
Net cash flow used for investing activities
    (147.5 )     (154.6 )
                 
Financing activities
               
Proceeds from issuing long-term debt
    -       50.0  
Disbursements to retire long-term debt
    -       (50.0 )
Net repayments of commercial paper
    (120.7 )     (374.9 )
Debt issuance costs
    (5.8 )     (2.5 )
Dividends paid
    (63.8 )     (63.5 )
Proceeds from exercise of stock options
    9.0       -  
Borrowing against cash surrender value of life insurance policies
    -       3.4  
Other financing activities
    .4       .2  
Net cash flow used for financing activities
    (180.9 )     (437.3 )
                 
Net increase in cash and cash equivalents
    19.4       26.7  
                 
Cash and cash equivalents, beginning of period
    55.7       26.0  
                 
Cash and cash equivalents, end of period
  $ 75.1     $ 52.7  
                 
The accompanying notes are an integral part of these statements.
               


Nicor Inc.
                 
                 
(millions)
                 
   
September 30
   
December 31
   
September 30
 
   
2010
   
2009
   
2009
 
Assets
                 
Current assets
                 
Cash and cash equivalents
  $ 75.1     $ 55.7     $ 52.7  
Short-term investments
    66.8       78.0       77.3  
Receivables, less allowances of $37.7, $33.0 and $42.0, respectively
    235.7       492.1       245.7  
Gas in storage
    227.8       137.2       193.9  
Derivative instruments
    70.4       30.9       52.1  
Margin accounts - derivative instruments
    58.8       46.1       50.2  
Other
    148.8       163.3       151.8  
Total current assets
    883.4       1,003.3       823.7  
                         
Property, plant and equipment, at cost
                       
Gas distribution
    4,680.3       4,598.2       4,575.1  
Shipping
    332.2       330.0       322.1  
Other
    48.1       32.8       31.5  
Property, plant and equipment, at cost
    5,060.6       4,961.0       4,928.7  
Less accumulated depreciation
    2,081.1       2,021.9       2,008.0  
Total property, plant and equipment, net
    2,979.5       2,939.1       2,920.7  
                         
Long-term investments
    133.9       128.8       127.8  
Other assets
    373.6       364.5       359.9  
                         
Total assets
  $ 4,370.4     $ 4,435.7     $ 4,232.1  
                         
Liabilities and Capitalization
                       
Current liabilities
                       
Long-term debt due within one year
  $ 75.0     $ -     $ -  
Short-term debt
    373.3       494.0       365.0  
Accounts payable
    285.8       353.9       263.4  
Customer credit balances and deposits
    131.2       141.7       167.7  
Derivative instruments
    115.9       72.3       78.7  
Other
    96.3       106.2       140.7  
Total current liabilities
    1,077.5       1,168.1       1,015.5  
                         
Deferred credits and other liabilities
                       
Regulatory asset retirement liability
    836.0       796.8       791.6  
Deferred income taxes
    416.2       409.9       398.7  
Health care and other postretirement benefits
    201.9       199.7       198.0  
Asset retirement obligation
    188.6       191.6       190.1  
Other
    148.0       133.6       138.6  
Total deferred credits and other liabilities
    1,790.7       1,731.6       1,717.0  
                         
Commitments and contingencies
                       
                         
Capitalization
                       
Long-term obligations
                       
Long-term debt, net of unamortized discount
    423.4       498.2       498.2  
Mandatorily redeemable preferred stock
    -       .1       .6  
Total long-term obligations
    423.4       498.3       498.8  
                         
Common equity
                       
Common stock
    113.8       113.1       113.1  
Paid-in capital
    67.0       54.6       53.1  
Retained earnings
    915.4       881.0       847.0  
Accumulated other comprehensive loss, net
    (17.4 )     (11.0 )     (12.4 )
Total common equity
    1,078.8       1,037.7       1,000.8  
                         
Total capitalization
    1,502.2       1,536.0       1,499.6  
                         
Total liabilities and capitalization
  $ 4,370.4     $ 4,435.7     $ 4,232.1  
                         
The accompanying notes are an integral part of these statements.
                       

 
Nicor Inc.

Notes to the Condensed Consolidated Financial Statements (Unaudited)

1.         BASIS OF PRESENTATION

The unaudited Condensed Consolidated Financial Statements of Nicor have been prepared by the company pursuant to the rules and regulations of the SEC.  Certain information and note disclosures normally included in financial statements prepared in accordance with accounting principles generally accepted in the United States have been condensed or omitted pursuant to SEC rules and regulations.  The unaudited Condensed Consolidated Financial Statements and Notes should be read in conjunction with the financial statements and the notes thereto included in the company’s 2009 Annual Report on Form 10-K.

The information furnished reflects, in the opinion of the company, all adjustments (consisting only of normal recurring adjustments) necessary for a fair statement of the results for the interim periods presented.  Results for the interim periods presented are not necessarily indicative of the results to be expected for the full fiscal year due to seasonal and other factors.

The company’s management evaluated subsequent events for potential recognition and disclosure through the date the financial statements were issued.

2.         ACCOUNTING POLICIES

Gas in storage.  Nicor Gas’ inventory is carried at cost on a LIFO basis.  Inventory decrements occurring during interim periods that are expected to be restored prior to year-end are charged to cost of gas at the estimated annual replacement cost, and the difference between this cost and the actual LIFO layer cost is recorded on the balance sheet as a temporary LIFO inventory liquidation.  Interim inventory decrements not expected to be restored prior to year-end are charged to cost of gas at the actual LIFO cost of the layers liquidated.

There was no inventory decrement as of September 30, 2010.  At September 30, 2009, Nicor Gas had an inventory decrement of approximately 1 Bcf which was not restored prior to year-end.  The liquidated inventory was charged to cost of gas at a LIFO cost of $8.22 per Mcf.  Applying LIFO cost in valuing the decrement, as opposed to the estimated annual replacement cost of $3.93 per Mcf, had the effect of increasing the cost of gas distributed by $3.1 million for the three and nine months ended September 30, 2009.  Since the cost of gas, including inventory costs, is charged to customers without markup, subject to ICC review, this difference had no impact on net income.

Nicor Enerchange’s inventory is carried at the lower of weighted-average cost or market (market is represented by the cash price per the close of business on the last trading day of the period).  In the first and third quarters of 2010, Nicor Enerchange recorded charges of $5.0 million and $2.4 million, respectively, resulting from lower of cost or market valuations.  In the first quarter of 2009, Nicor Enerchange recorded a charge of $2.8 million resulting from a lower of cost or market valuation.

Regulatory assets and liabilities.  Nicor Gas is regulated by the ICC, which establishes the rules and regulations governing utility rates and services in Illinois.  As a rate-regulated company, Nicor Gas is required to recognize the economic effects of rate regulation and, accordingly, has recorded regulatory assets and liabilities.  Regulatory assets represent probable future revenue associated with certain costs that are expected to be recovered from customers through rate riders or base rates, upon approval by the ICC.  Regulatory liabilities represent probable future reductions in revenues collected from ratepayers through a rate rider or base rates, or probable future expenditures.  If Nicor Gas’ operations become no longer subject to rate regulation, a write-off of net regulatory liabilities would be required.


The company had regulatory assets and liabilities as follows (in millions):

   
September 30
   
December 31
   
September 30
 
   
2010
   
2009
   
2009
 
Regulatory assets - current
                 
Regulatory postretirement asset
  $ 20.6     $ 20.6     $ 23.3  
Deferred gas costs
    18.1       24.9       -  
Other
    11.4       5.4       4.0  
Regulatory assets - noncurrent
                       
Regulatory postretirement asset
    183.6       195.4       218.0  
Deferred gas costs
    4.3       4.4       3.2  
Deferred environmental costs
    24.8       18.1       17.1  
Unamortized losses on reacquired debt
    13.4       14.2       14.5  
Other
    11.4       8.9       10.5  
    $ 287.6     $ 291.9     $ 290.6  

Regulatory liabilities - current
                 
Regulatory asset retirement liability
  $ 14.5     $ 14.5     $ 13.8  
Accrued gas costs
    -       -       39.6  
Other
    11.5       2.7       1.5  
Regulatory liabilities - noncurrent
                       
Regulatory asset retirement liability
    836.0       796.8       791.6  
Regulatory income tax liability
    19.1       39.1       44.2  
Other
    10.2       .8       .8  
    $ 891.3     $ 853.9     $ 891.5  

All items listed above are classified in Other on the Condensed Consolidated Balance Sheets, with the exception of the noncurrent portion of the Regulatory asset retirement liability, which is stated separately.

The ICC does not presently allow Nicor Gas the opportunity to earn a return on its regulatory postretirement asset.  This regulatory postretirement asset is expected to be recovered from ratepayers over a period of approximately 10 to 12 years.  The regulatory assets related to debt are not included in rate base, but are recovered over the term of the debt through the rate of return authorized by the ICC.  Nicor Gas is allowed to recover and is required to pay, using short-term interest rates, the carrying costs related to temporary under or overcollections of natural gas costs and certain environmental costs charged to its customers.

Goodwill.  Tropical Shipping had goodwill of $23.5 million, $20.9 million and $19.4 million at September 30, 2010, December 31, 2009 and September 30, 2009, respectively.  The increase in goodwill from December 31, 2009 to September 30, 2010 is due primarily to the acquisition of the assets of V.I. Cargo Services, Inc., a provider of less-than-container load and full container load consolidation services from the United States to the island of St. Croix (in the U.S. Virgin Islands).

Revenue recognition.  Nicor Gas accrues revenues for estimated deliveries to customers from the date of their last bill until the balance sheet date.  Receivables include accrued unbilled revenues of $29.7 million, $141.0 million and $28.6 million at September 30, 2010, December 31, 2009 and September 30, 2009, respectively, related primarily to gas distribution operations.

Nicor Gas classifies revenue taxes billed to customers as operating revenues and related taxes incurred as operating expenses.  Revenue taxes included in operating expense for the three and nine months ended September 30, 2010 were $13.8 million and $110.2 million, respectively, and $12.9 million and $112.8 million, respectively, for the same periods in 2009.
 

Derivative instruments.  Cash flows from derivative instruments are recognized in the Condensed Consolidated Statements of Cash Flows, and gains and losses are recognized in the Condensed Consolidated Statements of Operations, in the same categories as the underlying transactions.

Cash flow hedge accounting may be elected only for highly effective hedges, based upon an assessment, performed at least quarterly, of the historical and probable future correlation of cash flows from the derivative instrument to changes in the expected future cash flows of the hedged item.  To the extent cash flow hedge accounting is applied, the effective portion of any changes in the fair value of the derivative instruments is reported as a component of accumulated other comprehensive income.  Ineffectiveness, if any, is immediately recognized in operating income.  The amount in accumulated other comprehensive income is reclassified to earnings when the forecasted transaction is recognized in the Condensed Consolidated Statement of Operations, even if the derivative instrument is sold, extinguished or terminated prior to the transaction occurring.  If the forecasted transaction is no longer expected to occur, the amount in accumulated other comprehensive income is immediately reclassified to operating income.

Nicor Gas.  Derivative instruments, such as futures contracts, options and swap agreements, are utilized primarily in the purchase of natural gas for customers.  These derivative instruments are carried at fair value.  Realized gains or losses on such instruments are included in the cost of gas delivered and are passed directly through to customers, subject to ICC review, and therefore have no direct impact on earnings.  Unrealized changes in the fair value of these derivative instruments are deferred as regulatory assets or liabilities.

At times, Nicor Gas enters into futures contracts, options, swap agreements and fixed-price purchase agreements to reduce the earnings volatility of certain forecasted operating costs arising from fluctuations in natural gas prices, such as the purchase of natural gas for use in company operations.  These derivative instruments are carried at fair value, unless they qualify for the normal purchases and normal sales exception, in which case they are carried at cost.  To the extent hedge accounting is not elected, changes in such fair values are immediately recorded in the current period as operating and maintenance expense.

Nicor Enerchange.  Derivative instruments, such as futures contracts, options, forward contracts, swap agreements and other energy-related contracts are held by Nicor’s wholesale natural gas marketing business, Nicor Enerchange, for trading purposes.  Certain of these derivative instruments are used to economically hedge price risk associated with inventories of natural gas, fixed-price purchase and sale agreements and other future natural gas commitments.  Nicor Enerchange records such derivative instruments at fair value and generally does not elect hedge accounting.  As a result, changes in derivative fair values may have a material impact on Nicor’s financial statements.  Other derivative instruments are used by Nicor Enerchange to hedge price risks related to certain utility-bill management products.  These derivative instruments are carried at fair value and cash flow hedge accounting may or may not be elected.

Nicor.  Derivative instruments, such as forward-starting interest rate swaps, are utilized to hedge the interest payments associated with long-term debt.  These derivative instruments are carried at fair value and cash flow hedge accounting is elected.  The effective portion of any changes in the fair value of the derivative is deferred in accumulated other comprehensive income.  Upon settlement, the deferred amount is amortized to interest expense over the life of the debt.

Credit risk and concentrations.  Nicor’s major subsidiaries have diversified customer bases and the company believes that it maintains prudent credit policies which mitigate customer receivable, supplier performance and derivative counterparty credit risk.  The company is exposed to credit risk in the event a customer or supplier defaults on a contract to pay for or deliver product at agreed-upon terms and conditions, or a counterparty to a derivative instrument defaults on a settlement or otherwise fails to perform under contractual terms.  To manage this risk, the company has established procedures to determine and monitor the creditworthiness of counterparties, to seek guarantees or collateral back-up in the form of cash or letters of credit, to acquire credit insurance in certain instances, and to limit its

 
exposure to any one counterparty.  Nicor also, in some instances, enters into netting arrangements to mitigate counterparty credit risk.  Fair value measurements consider credit risk.  For assets and liabilities not carried at fair value, credit losses are accrued when probable and reasonably estimable.

On February 2, 2010, the ICC approved a bad debt rider that was filed in 2009 by Nicor Gas.  The bad debt rider provides for the recovery from (or refund to) customers of the difference between the actual bad debt expense Nicor Gas incurs on an annual basis and the benchmark bad debt expense included in its rates for the respective year.

3.          INVESTMENTS

The company’s investments in debt and equity securities are as follows (in millions):

   
September 30
   
December 31
   
September 30
 
   
2010
   
2009
   
2009
 
                   
Money market funds
  $ 128.8     $ 121.1     $ 115.9  
Corporate bonds
    6.8       1.3       2.8  
Other investments
    6.1       4.8       4.1  
    $ 141.7     $ 127.2     $ 122.8  

Investments in debt and equity securities are classified on the Condensed Consolidated Balance Sheets as follows (in millions):

   
September 30
   
December 31
   
September 30
 
   
2010
   
2009
   
2009
 
                   
Cash equivalents
  $ 62.3     $ 43.8     $ 40.8  
Short-term investments
    66.8       78.0       77.3  
Long-term investments
    12.6       5.4       4.7  
    $ 141.7     $ 127.2     $ 122.8  

Investments categorized as trading (including money market funds) totaled $130.8 million, $122.7 million and $117.5 million at September 30, 2010, December 31, 2009 and September 30, 2009, respectively.  Corporate bonds and certain other investments are categorized as held-to-maturity.  The contractual maturities of the held-to-maturity investments at September 30, 2010 are as follows (in millions):
 
Years to maturity
Less
than 1 year
   
1-5
Years
   
5-10
Years
   
Total
 
                     
$   .2     $   7.7     $   .9     $   8.8  

Nicor’s investments also include certain restricted investments, including certificates of deposit and bank accounts, maintained to fulfill statutory or contractual requirements.  These investments totaled $2.1 million, $3.1 million and $2.5 million at September 30, 2010, December 31, 2009 and September 30, 2009, respectively.

4.         SHORT-TERM AND LONG-TERM DEBT

In February 2009, the $50 million 5.37 percent First Mortgage Bond series matured and was retired.  In July 2009, Nicor Gas issued $50 million First Mortgage Bonds at 4.70 percent, due in 2019 through a private placement.  In determining that these bonds qualified for exemption from registration under

 
Section 4(2) of the Securities Act of 1933, Nicor Gas relied on the facts that the bonds were offered only to a limited number of large institutional investors and each institutional investor that purchased the bonds represented that it was purchasing the bonds for its own account and not with a view to distribute them. 

In April 2010, Nicor Gas established a $400 million, 364-day revolver, expiring April 2011 to replace the $550 million, 364-day revolver, which was set to expire in May 2010 and Nicor and Nicor Gas established a $600 million, three-year revolver, expiring April 2013 to replace the $600 million, five-year revolver, which was set to expire in September 2010.  These facilities were established with major domestic and foreign banks and serve as backup for the issuance of commercial paper.  The company had $373.3 million, $494.0 million and $365.0 million of commercial paper borrowings outstanding at September 30, 2010, December 31, 2009 and September 30, 2009, respectively.

In 2010, Nicor entered into $90 million notional of forward-starting interest rate swaps. The swaps hedge the risk associated with the interest payments attributable to the probable issuance of long-term fixed-rate debt in 2012 intended to finance the development of a natural gas storage facility.  Under the terms of the swaps, Nicor agrees to pay a fixed swap rate and receive a floating rate based on LIBOR.

The company believes it is in compliance with all debt covenants.

5.          INCOME TAXES

The effective income tax rate for the three months ended September 30, 2010 increased to 39.9 percent from 39.6 percent in the prior year.  The effective income tax rate for both quarters is higher than the expected annual effective income tax rate as it reflects the impact of a reduction in projected annual untaxed foreign shipping earnings identified in the quarters.  The effective income tax rate for the nine months ended September 30, 2010 increased to 33.7 percent from 32.4 percent in the prior year. The higher effective income tax rate for the nine months ended September 30, 2010 is due primarily to lower forecasted annual untaxed foreign shipping earnings, the unfavorable impact of the tax law change with respect to Medicare Part D subsidies and higher forecasted annual pretax income (which causes a higher effective income tax rate since permanent differences and tax credits are a smaller share of pretax income).  The higher effective income tax rate for the nine month period is offset, in part, by favorable tax reserve adjustments recognized in the first quarter of 2010.

In March 2010, the Health Care Act was signed into law resulting in comprehensive health care reform.  The Health Care Act contains a provision that eliminates the tax deduction related to Medicare Part D subsidies received after 2012.  Federal subsidies are provided to sponsors of retiree health benefit plans, such as Nicor Gas, that provide a benefit that is at least actuarially equivalent to the benefits under Medicare Part D.  Such subsidies have reduced the company’s actuarially determined projected benefit obligation and annual net periodic benefit costs.  Due to the change in taxation, in the first quarter of 2010 Nicor Gas reduced deferred tax assets by $17.5 million, reversed an existing regulatory income tax liability of $10.0 million, established a regulatory income tax asset of $7.0 million and recognized a $0.5 million charge to income tax expense.  Beginning in 2010, the change in taxation will also reduce earnings by an estimated $1.6 million annually for periods subsequent to the enactment date.

In 2006, the company reorganized certain shipping and related operations.  The reorganization allows the company to take advantage of certain provisions of the Jobs Act that provide the opportunity for tax savings subsequent to the date of the reorganization.  Generally, to the extent foreign shipping earnings are not repatriated to the United States, such earnings are not expected to be subject to current taxation.  In addition, to the extent such earnings are determined to be indefinitely reinvested offshore, no deferred income tax expense would be recorded by the company.  For the three months ended September 30, 2010 and 2009, income tax expense has not been provided on approximately $1 million and $3 million, respectively, of foreign company shipping earnings.  There were no significant untaxed foreign company

 
shipping earnings for the nine months ended September 30, 2010.  For the nine months ended September 30, 2009, income tax expense has not been provided on approximately $8 million of foreign company shipping earnings. As of September 30, 2010, Nicor has not recorded deferred income taxes of approximately $58 million on approximately $165 million of cumulative undistributed foreign earnings.

The company's major tax jurisdictions include the United States and Illinois, with tax returns examined by the IRS and IDR, respectively.  At September 30, 2010, the years that remain subject to examination include years beginning after 2006 for the IRS and years beginning after 2005 for the IDR.  The company’s liability for unrecognized tax benefits was $5.2 million at September 30, 2010 of which about $3 million, if recognized, would impact the company’s effective income tax rate.  The decrease in the liability for unrecognized tax benefits from $9.6 million at December 31, 2009 was due primarily to the settlement of an item concerning the timing of inclusion in taxable income of recoveries for environmental clean-up expenditures, lapses of statute of limitations and other tax reserve adjustments.  The company believes that it is reasonably possible that a change in the liability for unrecognized tax benefits could occur within 12 months, potentially decreasing it by about $5 million.

The balance of unamortized investment tax credits at September 30, 2010, December 31, 2009 and September 30, 2009 was $23.7 million, $25.2 million and $24.5 million, respectively.


6.          FAIR VALUE MEASUREMENTS

The fair value of assets and liabilities that are measured on a recurring basis are categorized in the table below (in millions) into three broad levels (with Level 1 considered the most reliable) based upon the valuation inputs.
 
   
Quoted prices in active markets
   
Significant observable inputs
   
Significant unobservable inputs
       
   
(Level 1)
   
(Level 2)
   
(Level 3)
   
Total
 
September 30, 2010
 
Assets
 
Money market funds
  $ 128.8     $ -     $ -     $ 128.8  
Commodity derivatives
    42.0       42.4       9.0       93.4  
    $ 170.8     $ 42.4     $ 9.0     $ 222.2  
   
Liabilities
 
Commodity derivatives
  $ 83.1     $ 40.6     $ 15.9     $ 139.6  
Interest rate derivatives
    -       7.5       -       7.5  
    $ 83.1     $ 48.1     $ 15.9     $ 147.1  
                                 
December 31, 2009                                
Assets                                
    Money market funds   $ 121.1     $ -     $ -     $ 121.1  
    Commodity derivatives     14.6       16.8       8.8       40.2  
    $ 135.7     $ 16.8     $ 8.8     $ 161.3  
Liabilities                                
    Commodity derivatives   $ 54.2     29.3     $ 3.8      $ 87.3  
                                 
September 30, 2009                                
Assets
                               
    Money market funds   $ 115.9     -     $  -      115.9  
    Commodity derivatives      27.8        25.1        8.4        61.3  
     143.7      25.1      8.4      177.2  
                                 
Liabilities                                 
Commodity derivatives
   62.5      23.9      2.5      88.9  
 
When available and appropriate, the company uses quoted market prices in active markets to determine fair value and classifies such items within Level 1.  For derivatives, Level 1 values include only those derivative instruments traded on the NYMEX.  The company enters into over-the-counter instruments with values that are similar to, and correlate with, quoted prices for exchange-traded instruments in active markets; the fair values of these over-the-counter items consider credit risk and are classified within Level 2.  In certain instances, the company may be required to determine a fair value using significant unobservable inputs such as indicative broker prices; the resulting valuation is classified as Level 3.

The net fair value of commodity derivatives relates largely to Nicor Gas.  The majority of commodity derivatives held by Nicor Gas are for the purpose of hedging natural gas purchases for its customers, and therefore their fair values do not affect net income, as their settlement is passed directly through to customers without markup, subject to ICC review.  The change in fair value for these derivatives is accounted for through regulatory assets and liabilities.

 
The net fair value of the interest rate derivatives relates to $90 million notional of forward-starting interest rate swaps. The swaps hedge the risk associated with the interest payments attributable to the probable issuance of long-term fixed-rate debt in 2012.  Under the terms of the swaps, Nicor agrees to pay a fixed swap rate and receive a floating rate based on LIBOR.

The following table presents a reconciliation of the Level 3 beginning and ending net derivative asset (liability) balances (in millions):
 
   
Three months ended
September 30
   
Nine months ended
September 30
 
   
2010
   
2009
   
2010
   
2009
 
                         
Beginning of period
  $ 7.1     $ 5.3     $ 5.0     $ 1.6  
Net realized/unrealized gains (losses)
                               
Included in regulatory assets and liabilities
    (.9 )     .1       (1.7 )     (1.6 )
Included in net income
    4.8       2.1       (2.0 )     12.4  
Settlements, net of purchases
    .6       (3.0 )     4.5       (1.7 )
Transfers into Level 3
    (13.6 )     1.5       (10.8 )     5.8  
Transfers out of Level 3
    (4.9 )     (.1 )     (1.9 )     (10.6 )
End of period
  $ (6.9 )   $ 5.9     $ (6.9 )   $ 5.9  
                                 
Net realized/unrealized gains (losses) included in net income are attributable to Nicor Enerchange and are classified as operating revenues.  For the three and nine months ended September 30, 2010, net unrealized gains (losses) included in net income in the table above relating to derivatives still held and classified as level 3 were $1.7 million and $(4.0) million, respectively.

Transfers into and out of Level 3 reflect the liquidity at the relevant natural gas trading locations and dates which affects the significance of unobservable inputs used in the valuation.  In 2010, in accordance with new accounting guidance, the company elected to determine both transfers into and out of Level 3 using values at the end of the interim period in which the transfer occurred.  In 2009, transfers into Level 3 were determined using beginning of period values and transfers out of Level 3 were determined using end of period values.

Nicor maintains margin accounts related to financial derivative transactions.  The company’s policy is not to offset the fair value of assets and liabilities recognized for derivative instruments or any related margin account.  The following table represents the balance sheet classification of margin accounts related to derivative instruments (in millions):

   
September 30
   
December 31
   
September 30
 
   
2010
   
2009
   
2009
 
Assets
                 
  Margin accounts - derivative instruments
  $ 58.8     $ 46.1     $ 50.2  
  Other - noncurrent
    9.5       13.8       7.0  
                         
Liabilities
                       
  Other - current
  $ 2.2     $ -     $ 4.0  
  Other - noncurrent
    4.5       -       -  

In addition, the recorded amount of restricted short and long-term investments and short-term borrowings approximates fair value.  Long-term debt outstanding, including current maturities, is recorded at the principal balance outstanding, net of unamortized discounts.  The principal balance of Nicor Gas’ First Mortgage Bonds outstanding at September 30, 2010, December 31, 2009 and September 30, 2009 was $500 million.  Based on quoted prices or market interest rates, the fair value of the company’s First

 
Mortgage Bonds outstanding was approximately $575 million, $543 million and $546 million at September 30, 2010, December 31, 2009 and September 30, 2009, respectively.

7.         DERIVATIVE INSTRUMENTS

A description of the company’s objectives and strategies for using derivative instruments, and related accounting policies, is included in Note 2 – Accounting Policies – Derivative instruments and Credit risk and concentrations.  All derivatives recognized on the Condensed Consolidated Balance Sheets are measured at fair value, as described in Note 6 – Fair Value Measurements.

Condensed Consolidated Balance Sheets.  Derivative assets and liabilities are classified as shown in the table below (in millions):

   
September 30
   
December 31
   
September 30
 
   
2010
   
2009
   
2009
 
Derivatives designated as hedging instruments
                 
Assets
                 
Derivative instruments
  $ -     $ .3     $ .6  
                         
Liabilities
                       
Derivative instruments
  $ 3.4     $ 1.0     $ 1.8  
Other - noncurrent
    7.7       -       -  
    $ 11.1     $ 1.0     $ 1.8  
                         
Derivatives not designated as hedging instruments
                       
Assets
                       
Derivative instruments
  $ 70.4     $ 30.6     $ 51.5  
Other - noncurrent
    23.0       9.3       9.2  
    $ 93.4     $ 39.9     $ 60.7  
                         
Liabilities
                       
Derivative instruments
  $ 112.5     $ 71.3     $ 76.9  
Other - noncurrent
    23.5       15.0       10.2  
    $ 136.0     $ 86.3     $ 87.1  

Volumes.  As of September 30, 2010, December 31, 2009 and September 30, 2009, Nicor Gas held outstanding derivative contracts of approximately 48 Bcf, 64 Bcf and 62 Bcf, respectively, to hedge natural gas purchases for customer use, with hedges spanning approximately three years for each of the respective periods.  Commodity price-risk exposure arising from Nicor Enerchange’s activities and Nicor Gas’ natural gas purchases for company use is mitigated with derivative instruments that total to a net short position of 3.0 Bcf, 1.3 Bcf and 0.4 Bcf as of September 30, 2010, December 31, 2009 and September 30, 2009, respectively.  The above volumes exclude contracts such as variable-priced contracts and basis swaps, which are accounted for as derivatives but whose fair values are not directly impacted by changes in commodity prices.

As of September 30, 2010, Nicor held $90 million notional of forward-starting interest rate swaps. The swaps hedge the risk associated with the interest payments attributable to the probable issuance of long-term fixed-rate debt in 2012.

 
Condensed Consolidated Statements of Operations cash flow hedges.  Changes in the fair value of derivatives designated as a cash flow hedge are recognized in other comprehensive income until the hedged transaction is recognized in the Condensed Consolidated Statements of Operations.  Cash flow hedges used by the company’s other energy ventures, to hedge utility-bill management products, are eventually recognized within operating revenues.  Cash flow hedges used by Nicor Gas, to hedge purchases of natural gas for company use, are eventually recorded within operating and maintenance expense.  Cash flow hedges used by Nicor, to hedge the interest payments attributable to long-term fixed-rate debt, will eventually be recorded within interest expense.

Cash flow hedges affected accumulated other comprehensive income (effective portion) as shown in the following table (in millions):

   
Three months ended
September 30
   
Nine months ended
September 30
 
   
2010
   
2009
   
2010
   
2009
 
Pretax gain (loss) recognized in
other comprehensive income
  $ (5.8 )   $ .7     $ (13.1 )   $ (5.9 )

The pretax loss reclassified from accumulated other comprehensive income into income (effective portion) is shown in the following table (in millions):

   
Three months ended
September 30
   
Nine months ended
September 30
 
Location
 
2010
   
2009
   
2010
   
2009
 
Operating revenues
  $ (.1 )   $ (.4 )   $ (1.1 )   $ (10.4 )
Operating and maintenance
    (.5 )     (1.2 )     (1.1 )     (6.9 )
    $ (.6 )   $ (1.6 )   $ (2.2 )   $ (17.3 )

Any amounts recognized in operating income, related to ineffectiveness or due to a forecasted transaction that is no longer expected to occur, were immaterial for the three and nine months ended September 30, 2010 and 2009.

As of September 30, 2010, December 31, 2009 and September 30, 2009, the time horizon of cash flow hedges of natural gas purchases for Nicor Gas company use and for utility-bill management products sold by Nicor’s other energy ventures span as long as two years.  For these hedges, the total pretax loss deferred in accumulated other comprehensive income at September 30, 2010, December 31, 2009 and September 30, 2009 was $4.2 million ($2.5 million after taxes), $0.9 million ($0.5 million after taxes) and $2.1 million ($1.3 million after taxes), respectively.  At the respective reporting dates, substantially all of these amounts were expected to be reclassified to earnings within the next 12 months.

The amounts deferred in accumulated other comprehensive income for the forward-starting interest rate swaps entered into in 2010 will be amortized to interest expense upon the issuance of long-term fixed rate debt.  The total pretax loss deferred in accumulated other comprehensive income relating to the interest rate swaps at September 30, 2010 was $7.5 million ($4.5 million after taxes).

 
Condensed Consolidated Statements of Operations – derivatives not designated as hedges.  The earnings of the company are subject to volatility for those derivatives not designated as hedges.  Non-designated derivatives used by the company’s other energy ventures, to hedge energy trading activities and utility-bill management products, are recorded in operating revenues.  Non-designated derivatives used by Nicor Gas, to hedge purchases of natural gas for company use, are recorded within operating and maintenance expense.  Pretax net gain (loss) recognized in income are summarized in the table below (in millions):
 
   
Three months ended
September 30
   
Nine months ended
September 30
 
Location
 
2010
   
2009
   
2010
   
2009
 
Operating revenues
  $ 5.3     $ (5.6 )   $ 3.9     $ (14.3 )
Operating and maintenance
    (.3 )     -       (1.0 )     (1.8 )
    $ 5.0     $ (5.6 )   $ 2.9     $ (16.1 )

Nicor Gas’ derivatives used to hedge the purchase of natural gas for its customers are also not designated as hedging instruments.  Gains or losses on these derivatives are not recognized in pretax earnings, but are deferred as regulatory assets or liabilities until the related revenue is recognized.  Net losses deferred for the three and nine months ended September 30, 2010 were $47.5 million and $121.6 million, respectively, and $8.1 million and $133.6 million, respectively, for the same periods in 2009.

Credit-risk-related contingent features.  Provisions within certain derivative agreements require the company to post collateral if the company’s net liability position exceeds a specified threshold.  Also, certain derivative agreements contain credit-risk-related contingent features, whereby the company would be required to provide additional collateral or pay the amount due to the counterparty when a credit event occurs, such as if the company’s credit rating was to be lowered.  As of September 30, 2010, December 31, 2009 and September 30, 2009 for agreements with such features, derivative contracts with liability fair values totaled approximately $17 million, $20 million and $16 million, respectively, for which the company had posted no collateral to its counterparties.  If it was assumed that the company had to post the maximum contractually specified collateral or settle the liability, the company would have been required to pay approximately $16 million, $19 million and $11 million at September 30, 2010, December 31, 2009 and September 30, 2009, respectively.

8.         POSTRETIREMENT BENEFITS

Nicor Gas maintains a noncontributory defined benefit pension plan covering substantially all employees hired prior to 1998.  Pension benefits are based on years of service and the highest average salary for management employees and job level for collectively bargained employees (referred to as pension bands).  The benefit obligation related to collectively bargained benefits considers the company’s past practice of regular benefit increases.  Nicor Gas also provides health care and life insurance benefits to eligible retired employees under a plan that includes a limit on the company’s share of cost for employees hired after 1982.

The company’s postretirement benefit costs have historically been considered in rate proceedings in the period they are accrued.  As a regulated utility, Nicor Gas expects continued rate recovery of the eligible costs of its defined benefit postretirement plans and, accordingly, associated changes in the plan’s funded status have been deferred as a regulatory asset or liability until recognized in net income, instead of being recorded in accumulated other comprehensive income.  However, to the extent Nicor Gas employees perform services for non-regulated affiliates and to the extent such employees are eligible to participate in these plans, the affiliates are charged for the cost of these benefits and the changes in the funded status relating to these employees are recorded in accumulated other comprehensive income.
 

About one-fourth of the net benefit cost related to these plans has been capitalized as a cost of constructing gas distribution facilities and the remainder is included in gas distribution operating and maintenance expense, net of amounts charged to affiliates.  Net benefit cost included the following components (in millions):

   
Pension benefits
   
Health care and
other benefits
 
   
2010
   
2009
   
2010
   
2009
 
Three months ended September 30
                       
Service cost
  $ 2.4     $ 2.1     $ .6     $ .6  
Interest cost
    4.0       4.2       3.0       3.1  
Expected return on plan assets
    (7.2 )     (6.3 )     -       -  
Recognized net actuarial loss
    3.0       3.8       1.0       1.1  
Amortization of prior service cost
    .1       .1       -       (.1 )
Net benefit cost
  $ 2.3     $ 3.9     $ 4.6     $ 4.7  

Nine months ended September 30
                       
Service cost
  $ 7.3     $ 6.4     $ 1.7     $ 1.7  
Interest cost
    12.0       12.4       8.9       9.1  
Expected return on plan assets
    (21.7 )     (18.9 )     -       -  
Recognized net actuarial loss
    8.9       11.5       3.1       3.4  
Amortization of prior service cost
    .3       .3       .1       (.1 )
Net benefit cost
  $ 6.8     $ 11.7     $ 13.8     $ 14.1  
                                 
The decrease in postretirement benefit expense in 2010 compared to 2009 is due to the positive impact on the value of plan assets of the partial capital market recovery in 2009, which was somewhat offset by the negative impact of a decrease in the discount rate.

The company is evaluating the provisions of the Health Care Act and will evaluate future interpretations to determine the impact it may have on the company’s future results of operations, cash flows and financial condition.

9.         EQUITY INVESTMENT INCOME, NET

Equity investment income includes investment income from Triton of $1.5 million and $4.7 million for the three and nine months ended September 30, 2010, respectively, and $1.4 million and $3.9 million, for the same periods in 2009.  Nicor received cash distributions from equity investees for the three and nine months ended September 30, 2010 of $6.1 million and $14.0 million, respectively, and $2.0 million and $8.5 million, respectively, for the same periods in 2009.  On March 31, 2009, the company sold its 50-percent interest in EN Engineering.  The company’s share of the sale price was $16.0 million, with an additional $1.5 million which is contingent on EN Engineering’s 2010 performance and would be due in 2011.  After closing costs and other adjustments, Nicor received cash of $13.0 million and recorded a gain on the sale of $10.1 million.


10.       COMPREHENSIVE INCOME

Total comprehensive income is as follows (in millions):

   
Three months ended
   
Nine months ended
 
   
September 30
   
September 30
 
   
2010
   
2009
   
2010
   
2009
 
                         
Net income
  $ 13.6     $ 13.6     $ 98.3     $ 80.3  
Other comprehensive income (loss), after tax
    (3.0 )     1.5       (6.4 )     7.3  
Total comprehensive income
  $ 10.6     $ 15.1     $ 91.9     $ 87.6  
 
Other comprehensive income (loss) consists primarily of net unrealized gains and losses from derivative financial instruments accounted for as cash flow hedges.

11.       BUSINESS SEGMENT INFORMATION

Financial data by reportable segment is as follows (in millions):

 
Nicor Inc.                        
Business Segments - Financial Data
                       
    Three months ended     Nine months ended  
    September 30     September 30  
    2010     2009     2010     2009  
Gas distribution
                       
Operating revenues
                       
External customers
  $ 229.0     $ 210.3     $ 1,571.3     $ 1,493.5  
Intersegment
    4.5       4.7       30.5       31.8  
    $ 233.5     $ 215.0     $ 1,601.8     $ 1,525.3  
                                 
Operating income
  $ 20.9     $ 19.5     $ 141.5     $ 98.4  
                                 
Shipping
                               
Operating revenues
                               
External customers
  $ 83.9     $ 83.3     $ 253.4     $ 256.5  
Intersegment
    -       -       -       -  
    $ 83.9     $ 83.3     $ 253.4     $ 256.5  
                                 
Operating income
  $ 3.6     $ 6.6     $ 7.3     $ 15.7  
                                 
Other Energy Ventures
                               
Wholesale marketing
                               
Operating revenues
                               
External customers
  $ 7.1     $ (0.9 )   $ 20.5     $ (.8 )
Intersegment
    1.1       2.2       9.3       27.5  
    $ 8.2     $ 1.3     $ 29.8     $ 26.7  
                                 
Operating income (loss)
  $ 0.7     $ (4.8 )   $ 8.1     $ 6.5  
                                 
Other
                               
Operating revenues
                               
External customers
  $ 32.5     $ 32.9