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 June 30, 2004 or [ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 Commission File Number 1-7297 NICOR INC. (Exact name of registrant as specified in its charter) Illinois 36-2855175 (State of Incorporation) (I.R.S. Employer Identification Number) 1844 Ferry Road Naperville, Illinois 60563-9600 (630) 305-9500 (Address of principal executive offices) (Registrant's telephone number) 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 is an accelerated filer (as defined in Rule 12b-2 of the Exchange Act). Yes [X] No [ ] 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 August 6, 2004, were 44,064,616 shares. Nicor Inc. Page i - ------------------------------------------------------------------------------- Table of Contents Part I - Financial Information Item 1. Financial Statements (Unaudited) ................................ 1 Consolidated Statements of Operations: Three and six months ended June 30, 2004 and 2003 ........................................ 2 Consolidated Statements of Cash Flows: Six months ended June 30, 2004 and 2003 ........................................ 3 Consolidated Balance Sheets: June 30, 2004 and 2003, and December 31, 2003 ............................................. 4 Notes to the Consolidated Financial Statements .................. 5 Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations ...........................19 Item 3. Quantitative and Qualitative Disclosures about Market Risk.......33 Item 4. Controls and Procedures .........................................33 Part II - Other Information Item 1. Legal Proceedings ...............................................34 Item 2. Changes in Securities, Use of Proceeds and Issuer Purchases of Equity Securities ................................34 Item 4. Submission of Matters to a Vote of Security Holders .............35 Item 6. Exhibits and Reports on Form 8-K ................................36 Signature .......................................................37 Exhibit Index ...................................................38 Glossary 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 about 6,000 degree days per year. ICC.............Illinois Commerce Commission, the agency that regulates investor-owned Illinois utilities. FERC............Federal Energy Regulatory Commission, the agency that regulates the interstate transportation of natural gas, oil and electricity. Mcf, MMcf, Bcf..Thousand cubic feet, million cubic feet, billion cubic feet. PBR.............Performance-based rate, a regulatory plan that provided economic incentives based on natural gas cost performance. TEU.............Twenty-foot equivalent unit, a measure of volume in containerized shipping equal to one 20-foot-long container. Nicor Inc. Page 1 - ------------------------------------------------------------------------------- PART I - FINANCIAL INFORMATION Item 1. Financial Statements The following condensed unaudited consolidated financial statements of Nicor Inc. (Nicor) have been prepared by the company pursuant to the rules and regulations of the Securities and Exchange Commission (SEC). Certain information and footnote 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 condensed financial statements should be read in conjunction with the financial statements and the notes thereto included in the company's 2003 Annual Report on Form 10-K/A (Amendment No. 1). 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. Nicor Inc. Page 2 - ------------------------------------------------------------------------------- Consolidated Statements of Operations (Unaudited) (millions, except per share data) Three months ended Six months ended June 30 June 30 ------------------ ----------------- 2004 2003 2004 2003 -------- ------- -------- ------- Operating revenues Gas distribution (includes revenue taxes of $25.2, $24.6, $96.1 and $86.9, respectively) $ 338.4 $ 379.5 $1,373.5 $1,476.2 Shipping 72.4 67.1 140.2 133.6 Other energy ventures 33.5 17.5 85.2 38.6 Corporate and eliminations (14.8) (11.3) (53.7) (24.3) ------- ------- -------- ------- 429.5 452.8 1,545.2 1,624.1 Operating expenses Gas distribution Cost of gas 200.5 241.0 992.7 1,103.9 Operating and maintenance 54.6 54.7 118.5 113.1 Depreciation 37.4 36.0 74.6 72.1 Taxes, other than income taxes 29.1 28.0 103.8 93.9 Mercury-related costs (recoveries), net .2 (17.4) .1 (17.8) Property sale gains (5.5) (.4) (5.5) (.4) Shipping 65.5 62.2 129.1 123.0 Other energy ventures 28.1 18.1 76.9 35.6 Litigation charge - - 38.5 - Other corporate expenses and eliminations (13.5) (8.3) (50.9) (19.6) ------- ------- -------- ------- 396.4 413.9 1,477.8 1,503.8 ------- ------- -------- ------- Operating income 33.1 38.9 67.4 120.3 Equity investment income (loss), net 1.7 6.7 2.9 8.0 Other income (expense), net .9 .6 1.3 1.1 Interest expense, net of amounts capitalized 8.3 9.2 19.5 18.9 ------- ------- -------- ------- Income before income taxes and cumulative effect of accounting change 27.4 37.0 52.1 110.5 Income taxes 7.9 13.2 13.1 36.3 ------- ------- -------- ------- Income before cumulative effect of accounting change 19.5 23.8 39.0 74.2 Cumulative effect of accounting change, net of $3.0 income tax benefit - - - (4.5) ------- ------- -------- ------- Net income 19.5 23.8 39.0 69.7 Dividends on preferred stock - - - - ------- ------- -------- ------- Earnings applicable to common stock $ 19.5 $ 23.8 $ 39.0 $ 69.7 ======= ======= ======== ======= Average shares of common stock outstanding Basic 44.1 44.0 44.0 44.0 Diluted 44.3 44.2 44.2 44.1 Earnings per average share of common stock Basic Before cumulative effect of accounting change $ .44 $ .54 $ .89 $ 1.68 Cumulative effect of accounting change, net of tax - - - (.10) ------- ------- -------- ------- Basic earnings per share $ .44 $ .54 $ .89 $ 1.58 ======= ======= ======== ======= Diluted Before cumulative effect of accounting change $ .44 $ .54 $ .88 $ 1.68 Cumulative effect of accounting change, net of tax - - - (.10) ------- ------- -------- ------- Diluted earnings per share $ .44 $ .54 $ .88 $ 1.58 ======= ======= ======== ======= Dividends declared per share of common stock $ .465 $ .465 $ .93 $ .93 The accompanying notes are an integral part of these statements. Nicor Inc. Page 3 - ------------------------------------------------------------------------------- Consolidated Statements of Cash Flows (Unaudited) (millions) Six months ended June 30 ------------------- 2004 2003 -------- --------- Operating activities Net income $ 39.0 $ 69.7 Adjustments to reconcile net income to net cash flow provided from operating activities: Depreciation 83.6 80.9 Deferred income tax expense 3.0 12.3 Cumulative effect of accounting change - 4.5 Gain on sale of property, plant and equipment (5.5) (1.7) Other noncash items 1.6 (6.5) Changes in assets and liabilities: Receivables, less allowances 195.7 122.2 Gas in storage 190.3 5.1 Deferred/accrued gas costs (4.9) (73.6) Prepaid pension costs (2.2) - Other assets (20.6) 35.5 Accounts payable 43.3 (104.8) Temporary last-in, first-out liquidation 77.8 18.0 Other liabilities 34.0 (23.2) -------- --------- Net cash flow provided from operating activities 635.1 138.4 -------- --------- Investing activities Capital expenditures (80.1) (85.1) Purchases of restricted short-term investments (38.5) - Purchases of marketable securities (19.9) - Proceeds from disposal of marketable securities 4.7 - Net decrease (increase) in other short-term investments 5.7 (6.5) Net proceeds from sale of property, plant and equipment 7.4 2.4 Repayments from joint ventures - 5.6 Other investing activities (.4) (.4) -------- --------- Net cash flow used for investing activities (121.1) (84.0) -------- --------- Financing activities Disbursements to retire long-term debt - (100.0) Short-term borrowings (repayments), net (446.0) 20.0 Dividends paid (41.0) (40.8) Borrowing against cash surrender value of life insurance policies 26.1 - Repayment of loan against cash surrender value of life insurance policies (11.7) - Disbursements to reacquire stock - (2.3) Other financing activities 1.2 .8 -------- --------- Net cash flow used for financing activities (471.4) (122.3) -------- --------- Net increase (decrease) in cash and cash equivalents 42.6 (67.9) Cash and cash equivalents, beginning of period 50.3 75.2 -------- --------- Cash and cash equivalents, end of period $ 92.9 $ 7.3 ======== ========= Supplemental schedule of noncash investing and financing activities: One of Nicor's Directors and Officers insurance carriers paid $29 million into an escrow account as described in Note 4. Assets and liabilities were recorded as follows: Restricted short-term investments $ 29.0 - Obligation related to restricted investments 29.0 - The accompanying notes are an integral part of these statements. Nicor Inc. Page 4 - ------------------------------------------------------------------------------- Consolidated Balance Sheets (Unaudited) (millions) June 30 December 31 June 30 2004 2003 2003 --------- ----------- --------- Assets ------ Current assets Cash and cash equivalents $ 92.9 $ 50.3 $ 7.3 Restricted short-term investments 67.5 - - Short-term investments, at cost which approximates market 29.9 32.9 32.2 Receivables, less allowances of $29.3, $21.2 and $24.6, respectively 281.1 476.8 343.3 Gas in storage 43.3 236.0 35.4 Deferred gas costs - - 6.3 Deferred income taxes 71.8 66.8 42.9 Other 70.0 53.1 39.0 --------- --------- --------- 656.5 915.9 506.4 --------- --------- --------- Property, plant and equipment, at cost Gas distribution 3,753.8 3,694.8 3,622.6 Shipping 299.0 296.6 306.2 Other 9.0 8.1 6.5 --------- --------- --------- 4,061.8 3,999.5 3,935.3 Less accumulated depreciation 1,557.2 1,515.3 1,488.1 --------- --------- --------- 2,504.6 2,484.2 2,447.2 --------- --------- --------- Prepaid pension costs 179.3 177.1 177.1 Other assets 216.1 220.0 198.2 --------- --------- --------- $ 3,556.5 $ 3,797.2 $ 3,328.9 ========= ========= ========= Liabilities and Capitalization ------------------------------ Current liabilities Long-term obligations due within one year $ .2 $ - $ - Short-term borrowings 129.0 575.0 335.0 Accounts payable 428.7 385.4 445.2 Temporary last-in, first-out liquidation 77.8 - 18.0 Accrued gas costs 42.1 47.0 - Dividends payable 20.5 20.5 20.5 Obligations related to restricted investments 67.5 - - Other 29.3 40.8 24.4 --------- --------- --------- 795.1 1,068.7 843.1 --------- --------- --------- Deferred credits and other liabilities Accrued future removal costs 694.0 670.0 645.0 Deferred income taxes 567.9 561.4 407.9 Regulatory income tax liability 46.5 48.4 60.3 Unamortized investment tax credits 34.2 35.6 36.5 Other 167.9 161.6 179.5 --------- --------- --------- 1,510.5 1,477.0 1,329.2 --------- --------- --------- Capitalization Long-term obligations Long-term bonds 495.0 495.1 396.4 Mandatorily redeemable preferred stock 1.6 1.8 - --------- --------- --------- 496.6 496.9 396.4 --------- --------- --------- Mandatorily redeemable preferred stock - - 2.0 Common equity Common stock 110.1 110.1 110.1 Paid-in capital 4.7 3.6 1.9 Retained earnings 645.2 647.1 652.5 Unearned compensation (.2) (.2) (.3) Accumulated other comprehensive income (loss), net (5.5) (6.0) (6.0) --------- --------- --------- 754.3 754.6 758.2 --------- --------- --------- $ 3,556.5 $ 3,797.2 $ 3,328.9 ========= ========= ========= The accompanying notes are an integral part of these statements. Nicor Inc. Page 5 - ------------------------------------------------------------------------------- Notes to the Consolidated Financial Statements (Unaudited) The following notes should be read in conjunction with the consolidated financial statement notes included in the Nicor Inc. (Nicor) 2003 Annual Report on Form 10-K/A (Amendment No. 1). 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. 1. ACCOUNTING POLICIES Gas in storage. Gas distribution inventory is carried at cost applying a last-in, first-out (LIFO) method on a calendar-year basis. For interim periods, the difference between estimated replacement cost and the LIFO cost for quantities of gas temporarily withdrawn from storage is recorded in cost of gas and in current liabilities as a temporary LIFO liquidation. Regulatory assets and liabilities. Northern Illinois Gas Company (Nicor Gas), a wholly owned subsidiary of Nicor, is regulated by the Illinois Commerce Commission (ICC), which establishes the rules and regulations governing utility rates and services in Illinois. The company applies accounting standards that recognize the economic effects of rate regulation and, accordingly, has recorded regulatory assets and liabilities. The company had regulatory assets (liabilities) as follows (in millions): June 30 December 31 June 30 2004 2003 2003 --------- ------------ --------- Accrued future removal costs $ (694.0) $ (670.0) $ (645.0) Deferred (accrued) gas costs (42.1) (47.0) 6.3 Regulatory income tax liability (46.5) (48.4) (60.3) Deferred environmental costs 31.5 37.0 33.5 Unamortized losses on reacquired debt 20.4 20.9 18.5 Other noncurrent regulatory assets 1.2 - - Other noncurrent regulatory liabilities (2.2) - - --------- ------------ --------- $ (731.7) $ (707.5) $ (647.0) ========== ============ ========= Deferred environmental costs and unamortized losses on reacquired debt are classified in other noncurrent assets. At December 31, 2003, accrued future removal costs for all periods presented were reclassified from accumulated depreciation to a noncurrent liability to conform to new guidance issued to the utility industry. Accrued future removal costs at June 30, 2003 have similarly been reclassified to conform to that presentation. Marketable securities. Investments in marketable securities are classified into held-to-maturity or available-for-sale categories. Securities are classified as held-to-maturity when the company has the positive intent and ability to hold the securities to maturity. The company carries held-to-maturity securities at amortized cost. Securities not classified as held-to-maturity are classified as available for sale and are carried at fair market value, with unrealized gains and losses, net of tax, reported in common equity as a component of accumulated other comprehensive income. Investments in both classifications are primarily debt securities, which are included in either short-term investments or other noncurrent assets based upon contractual maturity date. Nicor's shipping segment held approximately $7.6 million, $7.3 million and $7.2 million of held-to-maturity securities at June 30, 2004, December 31, 2003 and June 30, 2003, respectively. The recorded amount of these held-to-maturity securities approximated fair value at June 30, 2004. Nicor's shipping segment held approximately $15 million of available-for-sale securities at June 30, 2004 and none in prior periods. Nicor Inc. Page 6 - ------------------------------------------------------------------------------- Notes to the Consolidated Financial Statements (Unaudited) (continued) Revenue taxes. 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 six months ended June 30, 2004 were $24.5 million and $94 million, respectively, and $23.9 million and $85.4 million, respectively, for the same periods ending June 30, 2003. Income taxes. The company's effective income tax rate declined to 29 percent and 25 percent for the three and six months ended June 30, 2004, respectively, from 36 percent and 33 percent for the corresponding 2003 periods. The decline in 2004 was due principally to reduced projected income, which causes a lower effective income tax rate since permanent differences and tax credits are a larger share of pretax income, and a favorable IRS settlement in the second quarter of 2004 ($.7 million). In the first quarter, Nicor recorded an income tax benefit on the securities class action litigation charge at its marginal income tax rate of about 40 percent. As a result, the 25 percent effective income tax rate for the six months ended June 30, 2004, is lower than the estimated rate for the full year of 28 percent. Stock Options and Awards. Nicor does not recognize compensation expense for awards granted under its stock-based compensation plans as it continues to apply the intrinsic value accounting method. The effect on net income and earnings per share had it applied the fair value accounting method is as follows (in millions, except per share data): Three months ended Six months ended June 30 June 30 ------------------ ------------------ 2004 2003 2004 2003 -------- -------- -------- ------- Net income - as reported $ 19.5 $ 23.8 $ 39.0 $ 69.7 Less: Total stock-based employee compensation expense determined under the fair value method for all awards, net of tax .3 .1 .5 .3 -------- -------- -------- ------- Net income - pro forma $ 19.2 $ 23.7 $ 38.5 $ 69.4 ======== ======== ======== ======= Earnings per share Basic - as reported $ .44 $ .54 $ .89 $ 1.58 Basic - pro forma .44 .54 .88 1.58 Diluted - as reported .44 .54 .88 1.58 Diluted - pro forma .43 .54 .87 1.57 2. CUMULATIVE EFFECT OF CHANGE IN ACCOUNTING Effective January 1, 2003, Nicor's wholesale natural gas marketing business, Nicor Enerchange, began applying accrual accounting rather than fair value accounting to gas in storage and certain energy-related contracts, such as storage and transportation agreements. The change in accounting method relates to a rescission of Emerging Issues Task Force Consensus No. 98-10, Accounting for Contracts Involved in Energy Trading and Risk Management Activities, and a prohibition against recording inventory at fair value. Effective with the change, Nicor recorded a $4.5 million cumulative effect loss from the change in accounting principle, which was net of $3 million in income tax benefits. Nicor Inc. Page 7 - ------------------------------------------------------------------------------- Notes to the Consolidated Financial Statements (Unaudited) (continued) 3. NEW ACCOUNTING PRONOUNCEMENTS Accounting for Medicare Prescription Drug, Improvement and Modernization Act. In May 2004, the Financial Accounting Standards Board (FASB) issued FASB Staff Position No. FAS 106-2, Accounting and Disclosure Requirements Related to the Medicare Prescription Drug, Improvement and Modernization Act of 2003 (FSP FAS 106-2). The Medicare Prescription Drug, Improvement and Modernization Act of 2003 (the Act) provides a prescription drug benefit as well as a potential federal subsidy to sponsors of certain retiree health care benefit plans. FSP FAS 106-2 provides guidance on accounting for the effects of the Act, including the potential subsidy, and requires public companies to reflect the impact by the third quarter of 2004, if determinable and significant. This requires an employer to determine whether the prescription drug benefits it provides are actuarially equivalent to Medicare Part D, thereby making the employer eligible for a subsidy under the Act. These financial statements and accompanying notes do not reflect the effects of FSP FAS 106-2. Without clarifying regulations, the company is unable to determine the extent to which its prescription drug benefits are actuarially equivalent. Any subsidy it might receive is not expected to have a significant impact on periodic postretirement health care costs or net income. Consolidation of Variable Interest Entities. In December 2003, the FASB issued Interpretation 46(R), Consolidation of Variable Interest Entities (FIN 46R). FIN 46R addresses the application of Accounting Research Bulletin 51, Consolidated Financial Statements, to certain entities in which equity investors do not have the characteristics of a controlling financial interest or do not have sufficient equity at risk for the entity to finance its activities without additional subordinated financial support. FIN 46R was effective for Nicor on January 1, 2004, and had no impact on the company's financial position or results of operations. 4. RESTRICTED SHORT-TERM INVESTMENTS At June 30, 2004 Nicor had $67.5 million of restricted short-term investments and a corresponding $67.5 million current liability. These amounts are comprised of two escrow funds established in the second quarter of 2004. The first escrow fund was established by a $38.5 million payment under an agreement to settle securities class actions. Subsequent to final court approval of the settlement in July 2004, lead plaintiff's counsel became the sole custodian of the escrow fund. The second escrow fund was established through a $29 million deposit by one of Nicor's Directors and Officers insurance carriers to be used to satisfy Nicor directors' and officers' liabilities and expenses associated with claims asserted against them. (See also Note 14 Contingencies). 5. ACCRUED UNBILLED REVENUES Receivables include accrued unbilled revenues of $46.4 million, $140 million and $57.4 million at June 30, 2004, December 31, 2003, and June 30, 2003, respectively, related primarily to gas distribution operations. Nicor Gas accrues revenues for estimated deliveries to customers from the date of their last bill until the balance sheet date. Nicor Inc. Page 8 - ------------------------------------------------------------------------------- Notes to the Consolidated Financial Statements (Unaudited) (continued) 6. EQUITY INVESTMENT INCOME (LOSS), NET Equity investment income (loss), net includes the following (in millions): Three months ended Six months ended June 30 June 30 ------------------ ---------------- 2004 2003 2004 2003 -------- -------- ------- ------- Triton Container Investments (Triton) $ 1.5 $ 1.3 $ 3.0 $ 2.6 Nicor Energy - 5.6 - 5.6 Affordable housing investments (.4) (.4) (.9) (1.0) Horizon Pipeline .5 .4 .8 .7 All other .1 (.2) - .1 -------- -------- ------- ------- $ 1.7 $ 6.7 $ 2.9 $ 8.0 ======== ======== ======= ======= 7. OTHER INCOME (EXPENSE), NET Other income (expense), net includes the following (in millions): Three months ended Six months ended June 30 June 30 ------------------ ---------------- 2004 2003 2004 2003 -------- -------- ------- ------- Interest income $ .7 $ .5 $ 1.1 $ 1.1 Other income .3 .6 .5 .6 Other expense (.1) (.5) (.3) (.6) -------- -------- ------- ------- $ .9 $ .6 $ 1.3 $ 1.1 ======== ======== ======= ======= 8. COMPREHENSIVE INCOME Total comprehensive income, as defined by FAS 130, Reporting Comprehensive Income, is equal to net income plus other comprehensive income and is as follows (in millions): Three months ended Six months ended June 30 June 30 ------------------ ---------------- 2004 2003 2004 2003 -------- -------- ------- ------- Net income $ 19.5 $ 23.8 $ 39.0 $ 69.7 Other comprehensive income (loss), net of tax .4 (.6) .5 .3 -------- -------- ------- ------- Total comprehensive income $ 19.9 $ 23.2 $ 39.5 $ 70.0 ======== ======== ======= ======= Net other comprehensive income (loss) consists primarily of unrealized gains and losses from derivative financial instruments accounted for as cash flow hedges, including Nicor's share of such amounts from joint ventures and other equity-method investees. Nicor Inc. Page 9 - ------------------------------------------------------------------------------- Notes to the Consolidated Financial Statements (Unaudited) (continued) 9. BUSINESS SEGMENT INFORMATION Financial data by major business segment is presented below (in millions): Other Corporate Gas energy and distribution Shipping ventures eliminations Total ------------ ---------- --------- ------------- --------- Three months ended June 30, 2004 Operating revenues External customers $ 323.9 $ 72.4 $ 33.2 $ - $ 429.5 Intersegment 14.5 - .3 (14.8) - ------------ ---------- --------- ------------- --------- $ 338.4 $ 72.4 $ 33.5 $ (14.8) $ 429.5 ============ ========== ========= ============= ========= Operating income (loss) $ 22.1 $ 6.9 $ 5.4 $ (1.3) $ 33.1 ============ ========== ========= ============= ========= Three months ended June 30, 2003 Operating revenues External customers $ 368.7 $ 67.1 $ 17.0 $ - $ 452.8 Intersegment 10.8 - .5 (11.3) - ------------ ---------- --------- ------------- --------- $ 379.5 $ 67.1 $ 17.5 $ (11.3) $ 452.8 ============ ========== ========= ============= ========= Operating income (loss) $ 37.6 $ 4.9 $ (.6) $ (3.0) $ 38.9 ============ ========== ========= ============= ========= Six months ended June 30, 2004 Operating revenues External customers $ 1,323.9 $ 140.2 $ 81.1 $ - $ 1,545.2 Intersegment 49.6 - 4.1 (53.7) - ------------ ---------- --------- ------------- --------- $ 1,373.5 $ 140.2 $ 85.2 $ (53.7) $ 1,545.2 ============ ========== ========= ============= ========= Operating income (loss) $ 89.3 $ 11.1 $ 8.3 $ (41.3) $ 67.4 ============ ========== ========= ============= ========= Six months ended June 30, 2003 Operating revenues External customers $ 1,452.6 $ 133.6 $ 37.9 $ - $ 1,624.1 Intersegment 23.6 - .7 (24.3) - ------------ ---------- --------- ------------- --------- $ 1,476.2 $ 133.6 $ 38.6 $ (24.3) $ 1,624.1 ============ ========== ========= ============= ========= Operating income (loss) $ 111.4 $ 10.6 $ 3.0 $ (4.7) $ 120.3 ============ ========== ========= ============= ========= The majority of intersegment revenues represent Nicor Gas revenues related to customers purchasing utility-bill management products from Nicor Solutions. Under these products, Nicor Solutions bills a fixed amount to a customer and in exchange pays the customer's utility bills from Nicor Gas. Intersegment revenues have been eliminated in the consolidated financial statements. The $41.3 million operating loss in the "Corporate and eliminations" column for the six months ended June 30, 2004 includes a $38.5 million litigation charge related to an agreement to settle securities class actions as described in Note 14 Contingencies - Securities Class Actions. Nicor Inc. Page 10 - ------------------------------------------------------------------------------- Notes to the Consolidated Financial Statements (Unaudited) (continued) 10. FAIR VALUE OF FINANCIAL INSTRUMENTS The recorded amount of short-term investments and short-term borrowings approximates fair value because of the short maturity of the instruments. Long-term debt outstanding, including current maturities, is recorded at the principal balance outstanding. The principal balance of Nicor Gas' First Mortgage Bonds outstanding was $500 million at June 30, 2004 and December 31, 2003, and $400 million at June 30, 2003. Based on quoted market interest rates, the fair value of the company's First Mortgage Bonds outstanding, including current maturities, was approximately $517 million, $530 million and $446 million at June 30, 2004, December 31, 2003 and June 30, 2003, respectively. 11. 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 highest average salary for management employees and job level for unionized employees. The benefit obligation related to collectively bargained benefits considers the company's past practice of regular benefit increases to reflect current wages. 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 most future retirees. The company's postretirement benefit costs have been considered in rate proceedings on the accrual basis. About one-fourth of the net periodic benefit cost or credit 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 periodic benefit cost (credit) included the following components (in millions): Pension benefits Other benefits ---------------- --------------- 2004 2003 2004 2003 ------- ------- ------- ------ Three months ended June 30 Service cost $ 2.2 $ 1.8 $ .6 $ .5 Interest cost 3.9 4.1 2.5 2.8 Expected return on plan assets (7.9) (7.2) (.2) (.3) Recognized net actuarial loss .5 1.1 1.2 .7 Amortization of unrecognized transition obligation - - - .8 Amortization of prior service cost .2 .2 - - ------- ------- ------- ------ Net periodic benefit cost (credit) $ (1.1) $ - $ 4.1 $ 4.5 ======= ======= ======= ====== Six months ended June 30 Service cost $ 4.5 $ 3.7 $ 1.2 $ 1.0 Interest cost 7.9 8.2 5.1 5.6 Expected return on plan assets (15.9) (14.4) (.5) (.6) Recognized net actuarial loss 1.0 2.2 2.3 1.5 Amortization of unrecognized transition obligation - - - 1.5 Amortization of prior service cost .3 .3 - - ------- ------- ------- ------ Net periodic benefit cost (credit) $ (2.2) $ - $ 8.1 $ 9.0 ======= ======= ======= ====== Nicor Inc. Page 11 - ------------------------------------------------------------------------------- Notes to the Consolidated Financial Statements (Unaudited) (continued) In 2003, the company amended the retiree health care plan as it applies to non-unionized employees to improve consistency of benefits among participant groups and reduce the company's share of plan costs effective January 1, 2004. The resultant cost reduction is reflected in the 2004 net periodic benefit costs presented above. In 2004, further cost-sharing amendments were made to the plan for all employees. The impact of the 2004 amendments is not expected to be material. 12. RELATED PARTY TRANSACTIONS Horizon Pipeline, a 50-percent-owned joint venture of Nicor, charged Nicor Gas $2.6 million and $5.3 million for the three and six months ended June 30, 2004, respectively, for natural gas transportation under rates that have been accepted by the Federal Energy Regulatory Commission. For the three and six months ended June 30, 2003, Horizon Pipeline charged Nicor Gas $2.5 million and $5.1 million, respectively, for this service. EN Engineering, a 50-percent-owned joint venture of Nicor, charged Nicor Technologies, a wholly owned subsidiary of Nicor, $.9 million and $1.7 million for the three and six months ended June 30, 2004, respectively, for engineering and corrosion services. For the three and six months ended June 30, 2003, EN Engineering charged Nicor Technologies $1.2 million and $2.1 million, respectively, for these services. 13. GUARANTEES AND INDEMNITIES Nicor and certain subsidiaries enter into various financial and performance guarantees and indemnities providing assurance to third parties. Financial guarantees. The company has issued guarantees of affiliate obligations to vendors and other third parties, requiring Nicor to repay the obligations should its affiliates default. The obligations of the company's wholly owned subsidiaries are reflected in Nicor's consolidated balance sheet, while the obligations of its unconsolidated equity investments are not. As of June 30, 2004 Nicor had guaranteed the payment of approximately $1 million of lease obligations in support of one of its unconsolidated equity investee's operations. Tropic Equipment Leasing Inc. (TEL), an indirectly wholly owned subsidiary of Nicor, holds the company's interests in Triton, a cargo container leasing company. TEL has a contingent liability to restore to zero any deficit in its equity account for income tax purposes in the unlikely event that Triton is liquidated and a deficit balance remains. This contingent liability continues for the life of the Triton partnerships and any payment is effectively limited to the assets of TEL, which were about $4 million at June 30, 2004. Nicor believes the likelihood of any such payment by TEL is remote and has recorded no liability for this contingency. Performance guarantees. Nicor Services markets separately priced product warranty contracts that provide for the repair of heating, ventilation and air conditioning (HVAC) equipment, natural gas lines, and other appliances within homes. Revenues from these product warranty contracts are recognized ratably over the coverage period, and related repair costs are charged to expense as incurred. Repair expenses of $1.1 million and $2 million were incurred in the three and six months ended June 30, 2004, respectively, and $.7 million and $1.8 million, respectively, for the same periods last year. Nicor Inc. Page 12 - ------------------------------------------------------------------------------- Notes to the Consolidated Financial Statements (Unaudited) (continued) Indemnities. In certain instances, Nicor has undertaken to indemnify current property owners and others against costs associated with the effects and/or remediation of contaminated sites for which the company may be responsible under applicable federal or state environmental laws, generally with no limitation as to the amount. Aside from liabilities recorded in connection with coal tar cleanup, as discussed in Note 14 Contingencies - Manufactured Gas Plant Sites, Nicor believes that the likelihood of payment under these indemnifications is either remote or the amount would be immaterial. As such, no liability has been recorded for these indemnifications. Nicor has also indemnified, to the fullest extent permitted under the laws of the State of Illinois and any other applicable laws, its present and former directors, officers and employees against expenses they may incur in connection with litigation they are a party to by reason of their association with the company, subject to certain limitations. Through June 30, 2004 the company has incurred approximately $1.5 million of legal defense costs for such individuals in connection with this indemnification, of which $.5 million was reflected as a liability at June 30, 2004. 14. CONTINGENCIES The following contingencies of Nicor are in various stages of investigation or disposition. Although in some cases the company is unable to estimate the amount of loss reasonably possible in addition to any amounts already recognized, it is possible that the resolution of these contingencies, either individually or in aggregate, will require the company to take charges against, or will result in reductions in, future earnings. It is the opinion of management that the resolution of these contingencies, either individually or in aggregate, could be material to earnings in a particular period but is not expected to have a material adverse impact on Nicor's liquidity or financial condition. Performance-Based Rate (PBR) Plan. Nicor Gas' PBR plan for natural gas costs went into effect in 2000 and was terminated by the company effective January 1, 2003. Under the PBR plan, Nicor Gas' total gas supply costs were compared to a market-sensitive benchmark. Savings and losses relative to the benchmark were determined annually and shared equally with sales customers. The PBR plan is currently under Illinois Commerce Commission (ICC) review. There are allegations that the company acted improperly in connection with the PBR plan, and the ICC and others are reviewing these allegations. On June 27, 2002 the Citizens Utility Board (CUB) filed a motion to reopen the record in the ICC's proceedings to review the PBR plan (the ICC Proceedings). As a result of the motion to reopen, Nicor Gas, the Cook County State's Attorney Office (CCSAO), the staff of the ICC and CUB entered into a stipulation providing for additional discovery. The Illinois Attorney General's Office has also intervened in this matter. In addition, the Illinois Attorney General's Office issued Civil Investigation Demands (CIDs) to CUB and the ICC staff. The CIDs ordered that CUB and the ICC staff produce all documents relating to any claims that Nicor Gas may have presented, or caused to be presented, false information related to its PBR plan. Parties who were plaintiffs in a dismissed class action proceeding against the company could potentially intervene in these proceedings. The company has committed to cooperate fully in the reviews of the PBR plan. In response to these allegations, on July 18, 2002, the Nicor Board of Directors appointed a special committee of independent, non-management directors to conduct an inquiry into issues surrounding natural gas purchases, sales, transportation, storage and such other matters as may come to the attention of Nicor Inc. Page 13 - ------------------------------------------------------------------------------- Notes to the Consolidated Financial Statements (Unaudited) (continued) the special committee in the course of its investigation. The special committee presented the report of its counsel (Report) to Nicor's Board of Directors on October 28, 2002. In response, the Nicor Board of Directors directed the company's management to, among other things, make appropriate adjustments to account for, and fully address, the adverse consequences to ratepayers of the items noted in the Report, and conduct a detailed study of the adequacy of internal accounting and regulatory controls. The adjustments were made in financial statements resulting in a $24.8 million liability at June 30, 2004. Included in such $24.8 million liability is a $4.1 million loss contingency. In addition, Nicor Gas estimates that there is $26.9 million due to the company from the 2002 PBR plan year, which has not been recognized in the financial statements due to uncertainties surrounding the PBR plan. The net of these items and interest income on certain components results in a $2.8 million reimbursement the company is seeking as of June 30, 2004, pending resolution of the proceedings discussed below. The company took steps to correct the weaknesses and deficiencies identified in the detailed study of the adequacy of internal controls. Pursuant to the agreement of all parties, including the company, the ICC re-opened the 1999 and 2000 purchased gas adjustment filings for review of certain transactions related to the PBR plan and consolidated the reviews of the 1999-2002 purchased gas adjustment filings with the PBR plan review. On February 5, 2003, the CCSAO and CUB filed a motion for $27 million in sanctions against the company in the ICC Proceedings. In that motion, CCSAO and CUB alleged that Nicor Gas' responses to certain CUB data requests were false. Also on February 5, 2003, CUB stated in a press release that, in addition to $27 million in sanctions, it would seek additional refunds to consumers. On March 5, 2003, the ICC staff filed a response brief in support of CUB's motion for sanctions. On May 1, 2003, the Administrative Law Judges issued a ruling denying CUB and CCSAO's motion for sanctions. CUB has filed an appeal of the motion for sanctions with the ICC, and the ICC has indicated that it will not rule on the appeal until the final disposition of the ICC proceedings. It is not possible to determine how the ICC will resolve the claims of CCSAO, CUB or other parties to the ICC Proceedings. In November 2003, the ICC staff, CUB, CCSAO and the Illinois Attorney General's Office (IAGO) filed their respective direct testimony in the ICC Proceedings. The ICC staff is seeking refunds to customers of approximately $108 million and CUB and CCSAO were jointly seeking refunds to customers of approximately $143 million. The IAGO direct testimony alleges adjustments in a range from $145 million to $190 million. The IAGO testimony as filed is presently unclear as to the amount which IAGO seeks to have refunded to customers. On February 27, 2004 the above referenced intervenors filed their rebuttal testimony in the ICC Proceedings. In such rebuttal testimony, CUB and CCSAO amended the alleged amount to be refunded to customers from approximately $143 million to $190 million. Nicor Gas filed rebuttal testimony in January 2004, which is consistent with the findings of the special committee Report and, as noted above, seeks a reimbursement to Nicor Gas of approximately $2.8 million. The parties to the ICC Proceedings have agreed to a stay of the evidentiary hearings on this matter in order to undertake additional third party discovery from Entergy-Koch Trading, LP (EKT), a natural gas, storage and transportation trader and consultant with whom Nicor did business under the PBR plan. During the course of the SEC investigation discussed below, the company became aware of additional information relating to the activities of individuals affecting the PBR plan for the period from 1999 through 2002, including information consisting of third party documents and recordings of telephone conversations from EKT. The company has recently obtained access to and reviewed this information. Nicor Inc. Page 14 - ------------------------------------------------------------------------------- Notes to the Consolidated Financial Statements (Unaudited) (continued) The company's management has determined this information does not affect the company's previously issued financial statements. In addition, the company's management has determined that no adjustment to the accrual for loss contingencies in the company's second quarter financial statements is required as a result of this information. Although the Report of the special committee's counsel did not find that there was criminal activity or fraud, a review of this newly available information (which was not available to the independent counsel who prepared the Report) and recent re-interviews of certain Nicor Gas personnel indicate that certain Nicor Gas personnel may have engaged in potentially fraudulent conduct regarding the PBR plan in violation of company policy, and in possible violation of SEC rules and applicable law. Further, certain Nicor Gas personnel also may have attempted to conceal their conduct in connection with an ICC review of the PBR plan. The company continues to cooperate with the SEC, the U.S. Attorney's office and the ICC on this matter and to review and produce additional documents as requested by these agencies. The company also will review any third party information the company obtains. The company has recently terminated four employees in connection with this matter. Nicor is unable to predict the outcome of any of the foregoing reviews or the company's potential exposure thereunder. Because the PBR plan and historical gas costs are still under ICC review, the final outcome could be materially different than the amounts reflected in the company's financial statements as of June 30, 2004. Nicor Energy. Nicor is a 50-percent owner of Nicor Energy, a retail energy marketing joint venture with Dynegy Marketing and Trade. As a result of an audit and review process in 2002, accounting irregularities were identified at Nicor Energy. Appropriate accounting adjustments were made by Nicor in restated financial statements previously filed with the United States Securities and Exchange Commission (SEC). Nicor Energy has disposed of all of its customer accounts and is in the process of liquidating its remaining assets and resolving remaining contingent liabilities. Nicor's investment in Nicor Energy was written off in the third quarter of 2002 due to the belief at that time that Nicor ultimately would not recover its investment balance. During 2003, Nicor recorded gains of $9.6 million upon the receipt of cash from Nicor Energy. No recoveries occurred in the six months ended June 30, 2004, and any future gains or losses are not expected to be material. On December 10, 2003, the United States Attorney for the Northern District of Illinois indicted three former employees of Nicor Energy and an outside lawyer for Nicor Energy. The indictments alleged that the defendants fraudulently deprived Nicor Energy of their honest services and caused a loss to investors in Nicor Inc. and Dynegy Inc. During the time period covered by the indictments, Nicor Energy was a stand alone entity with its own management and was operated independently from Nicor Inc. and Nicor Gas. None of the individuals indicted are employees of Nicor Inc. or Nicor Gas nor were they at the time of the charged conduct. The three former employees of Nicor Energy have pled guilty to certain charges. Separately, on December 10, 2003, the SEC filed its own civil enforcement action against the same three former employees and one additional former employee of Nicor Energy. While Nicor is unable to predict the final outcome of these matters, the resolution of such matters is not expected to have a material adverse impact on the company's financial condition or results of operations. Nicor Inc. Page 15 - ------------------------------------------------------------------------------- Notes to the Consolidated Financial Statements (Unaudited) (continued) SEC and U.S. Attorney Inquiries. In 2002, the staff of the SEC informed Nicor and Nicor Energy that the SEC is conducting a formal inquiry regarding both the PBR plan and Nicor Energy. A representative of the Office of the United States Attorney for the Northern District of Illinois has notified Nicor that that office is conducting an inquiry on the same matters that the SEC is investigating, and a grand jury is also reviewing these matters. In April 2004, Nicor was advised by the SEC Division of Enforcement that it intended to recommend to the SEC that it bring a civil injunctive action against Nicor, alleging that Nicor violated Sections 17(a) of the Securities Act of 1933 and Sections 10(b) and 13(a) of the Securities Exchange Act of 1934 and Rules 10b-5, 12b-20, 13a-1 and 13a-13 thereunder. The SEC may also seek injunctive relief, disgorgement and civil penalties. The SEC staff invited Nicor to make a formal response (known as a Wells Submission) with respect to the proposed recommendation. In June 2004, Nicor filed its Wells Submission with the SEC. In addition, in connection with the SEC's invitation to the company to make a Wells Submission, the SEC informed the company of additional sources of information relating to activities affecting the PBR plan, the status of which is addressed in detail in the Performance-Based Rate (PBR) Plan section set forth above. Nicor is unable to predict the outcome of these inquiries or Nicor's potential exposure related thereto and has not recorded a liability associated with the outcome of these contingencies. Securities Class Actions. Following a July 18, 2002 Nicor press release concerning Nicor Energy and the PBR plan, several purported class actions were brought against Nicor, Thomas Fisher (Chairman and CEO) and Kathleen Halloran (former Executive Vice President Finance and Administration and former Executive Vice President and Chief Risk Officer). The actions were brought in the United States District Court for the Northern District of Illinois, Eastern Division, and have been consolidated. On February 14, 2003, plaintiffs filed an amended complaint adding as defendants George Behrens (Vice President and Treasurer), Philip Cali (former Executive Vice President of Operations) and Arthur Andersen LLP, the company's former independent auditor. The plaintiffs sought to represent a class consisting of all persons or entities who purchased Nicor common stock on the open market during the period from November 24, 1999 through and including July 19, 2002. They alleged that the defendants violated Section 10(b) and Section 20(a) of the Securities Exchange Act of 1934 and Rule 10b-5 thereunder. Plaintiffs alleged that during the class period defendants misrepresented the PBR plan, Nicor's historical financial condition and results of operations, and its future prospects. The class sought compensatory damages, prejudgment interest, and attorneys' fees and costs. On April 16, 2004 Nicor announced that its board of directors had approved an agreement to settle the above referenced action. Under the terms of the settlement, all claims against Nicor and Nicor-related defendants have been dismissed without any finding or admission of wrongdoing or liability, for a payment of $38.5 million. On July 13, 2004 the court granted final approval of the settlement. All appeal rights expire on August 12, 2004. In the first quarter of 2004 the company recorded an accrual, as a litigation charge, of $38.5 million related to this agreement (the related liability is included in other current liabilities). See Note 4 Restricted Short-Term Investments. Nicor Inc. Page 16 - ------------------------------------------------------------------------------- Notes to the Consolidated Financial Statements (Unaudited) (continued) Shareholder Derivative Lawsuits. Also following Nicor's issuance of the press release concerning Nicor Energy and the PBR plan, three purported derivative lawsuits were brought against Thomas Fisher (Chairman and CEO), Kathleen Halloran (former Executive Vice President Finance and Administration and former Executive Vice President and Chief Risk Officer) and all members of Nicor's Board of Directors (the "individual defendants"). Nicor was named as a nominal defendant in all three suits, which have since been consolidated in an amended complaint. The actions were brought in the Circuit Court of Cook County, Illinois, Chancery Division. The plaintiffs allege that the individual defendants breached their fiduciary duties to Nicor by allegedly causing or allowing Nicor to disseminate to the market materially misleading and inaccurate information, failing to establish and maintain adequate accounting controls and approving the PBR plan despite allegedly knowing that the plan was unlawful or that ICC approval would be improperly obtained. Plaintiffs also contend that two of the defendants (Mr. Fisher and Mr. Birdsall) engaged in improper insider selling of Nicor stock at inflated prices. The plaintiffs seek compensatory and punitive damages, attorneys' fees and costs, and other relief against the individual defendants on behalf of Nicor but do not seek any damages against the company. On May 8, 2003, Nicor filed a Motion to Dismiss. On October 7, 2003, the Court granted Nicor's Motion to Dismiss and Plaintiffs were granted leave to file a Consolidated Third Amended Complaint. In November 2003, the Plaintiffs filed a Consolidated Third Amended Complaint and in December 2003, Nicor filed a Motion to Dismiss. The Court denied Nicor's Motion to Dismiss on March 26, 2004. Nicor is unable to predict the outcome of this litigation or Nicor's potential exposure related thereto and has not recorded a liability associated with the outcome of this contingency. Fixed Bill Service. On April 29, 2003, a second amended purported class action complaint was filed in the Circuit Court of Cook County, Illinois against Nicor Energy Services Company (Nicor Services) alleging violation of the Illinois Consumer Fraud and Deceptive Practices Act (ICFA) by Nicor Services relating to the fixed bill service offered by Nicor Services. Nicor Services offered a fixed bill product under which it paid the annual gas service portion of a customer's Nicor Gas utility bill in exchange for twelve equal monthly payments by the customer to Nicor Services, regardless of changes in the price of natural gas or weather. The plaintiff is seeking compensatory damages, prejudgment and postjudgment interest, punitive damages, attorneys' fees and injunctive relief. Nicor is unable to predict the outcome of this litigation or to reasonably estimate its potential exposure related thereto and has not recorded a liability associated with this contingency. Horizon Pipeline Lien. The general contractor on the construction of the Horizon Pipeline (Horizon) filed a $5.7 million Notice of Claim for Lien against Horizon. On May 23, 2003, Horizon filed a Declaratory Judgment Complaint in the United States District Court for the District of Colorado seeking resolution of this dispute. On June 23, 2003, the general contractor filed an answer and counterclaim to Horizon's complaint seeking in excess of $11 million in damages from Horizon. On June 25, 2004 the parties to the above referenced actions entered into a final settlement agreement. In consideration for a payment of $6.8 million by Horizon to the general contractor, which was capitalized by Horizon as a construction cost, all claims by the parties have been dismissed with prejudice and all recorded liens have been or will be released. FERC Stipulation. On August 2, 2004, Nicor Gas entered into a settlement with the Federal Energy Regulatory Commission (FERC) that resolves an investigation by the Office of Market Oversight and Investigations involving the sharing of confidential storage information with one of Nicor Gas' interstate storage customers in violation of FERC's regulations. FERC's regulations prohibit the provision of Nicor Inc. Page 17 - ------------------------------------------------------------------------------- Notes to the Consolidated Financial Statements (Unaudited) (continued) undue preferences among customers. There was no evidence that Nicor Gas profited either directly or indirectly by communicating its storage information to its customer. Under the settlement, Nicor Gas will pay a civil penalty in the amount of $600,000, and will implement a compliance plan to prevent similar violations in the future. The June 30, 2004 financial statements include an accrual for this penalty. Mercury. Nicor Gas has incurred, and expects to continue to incur, costs related to its historical use of mercury in various kinds of company equipment. Nicor Gas is a defendant in several private lawsuits, all in the Circuit Courts of Cook and DuPage Counties, Illinois, claiming a variety of unquantified damages (including bodily injury, property and punitive damages) allegedly caused by mercury-containing regulators. Under the terms of a class action settlement agreement, Nicor Gas will continue, until 2006, to provide medical screening to persons exposed to mercury from its equipment, and will use its best efforts to replace any remaining inside residential mercury regulators by 2005. The class action settlement permitted class members to "opt out" of the settlement and pursue their claims individually. Nicor Gas is currently defending claims brought by 30 households. As of June 30, 2004, Nicor Gas had remaining an estimated liability of $20.9 million, representing management's best estimate of future costs, including potential liabilities relating to remaining lawsuits, based on an evaluation of currently available information. Actual costs may vary from this estimate. The company will continue to reassess its estimated obligation and will record any necessary adjustment, which could be material to operating results in the period recorded. Nicor Gas continues to pursue recovery from insurers and independent contractors that had performed work for the company, but believes that it has now collected the majority of such recoveries. When received, these recoveries are recorded as a reduction to gas distribution operating expense. Nicor Gas recovered approximately $18 million and $20 million of pretax mercury-related costs, net of legal fees, from insurers and independent contractors in 2003 and 2002, respectively. Amounts recovered during the six months ended June 30, 2004 were immaterial. The final disposition of these mercury-related matters is not expected to have a material adverse impact on the company's financial condition. Manufactured Gas Plant Sites. Manufactured gas plants were used in the 1800's and early to mid 1900's to produce manufactured gas from coal, creating a coal tar byproduct. Current environmental laws may require the cleanup of coal tar at certain former manufactured gas plant sites. To date, Nicor Gas has identified about 40 properties for which it may, in part, be responsible. Most of these properties are not presently owned by the company. Information regarding preliminary site reviews has been presented to the Illinois Environmental Protection Agency (IEPA) for certain properties. More detailed investigations and remedial activities are complete, in progress or planned at many of these sites. The results of the detailed site-by-site investigations determine the extent additional remediation is necessary and provide a basis for estimating additional future costs which, based on industry experience, could be significant. In accordance with ICC authorization, the company is and has been recovering these costs from its customers, subject to annual prudence reviews. Nicor Inc. Page 18 - ------------------------------------------------------------------------------- Notes to the Consolidated Financial Statements (Unaudited) (concluded) In December 2001, a purported class action lawsuit was filed against Exelon Corporation, Commonwealth Edison Company and Nicor Gas in the Circuit Court of Cook County alleging, among other things, that the ongoing cleanup of a former manufactured gas plant site in Oak Park, Illinois is inadequate. Since then, additional lawsuits have been filed related to this same former manufactured gas plant site. These lawsuits seek, in part, unspecified damages for property damage, nuisance, and various personal injuries that allegedly resulted from exposure to contaminants allegedly emanating from the site, and punitive damages. Management cannot predict the outcome of this litigation or the company's potential exposure thereto and has not recorded a liability associated with this contingency. In April 2002, Nicor Gas was named as a defendant, together with Commonwealth Edison Company, in a lawsuit brought by the Metropolitan Water Reclamation District of Greater Chicago (the MWRDGC) under the Federal Comprehensive Environmental Response, Compensation and Liability Act seeking recovery of past and future remediation costs and a declaration of the level of appropriate cleanup for a former manufactured gas plant site in Skokie, Illinois now owned by the MWRDGC. In January 2003, the suit was amended to include a claim under the Federal Resource Conservation and Recovery Act. The suit was filed in the United States District Court for the Northern District of Illinois. Management cannot predict the outcome of this litigation or the company's potential exposure thereto and has not recorded a liability associated with this contingency. Since costs and recoveries relating to the cleanup of manufactured gas plant sites are passed directly through to customers in accordance with ICC regulations, subject to an annual ICC prudence review, the final disposition of manufactured gas plant matters is not expected to have a material impact on the company's financial condition or results of operations. Other. In a recent Illinois Supreme Court decision, the court affirmed the appellate court's decision to permit proceedings to move forward against Nicor Gas relating to a home explosion, which resulted in a fatality, allegedly caused by a faulty gas appliance connector installed by the homeowner. Although unable to determine the ultimate outcome of the above-referenced proceeding, the resolution is not expected to have a material adverse impact on the company's financial condition or results of operations. The company is unable to predict any potential operational impact of the Illinois Supreme Court decision on Nicor. On April 27, 2004 one of Nicor's Directors and Officers (D&O) insurance carriers agreed to pay $29 million to a third party escrow agent on behalf of Nicor and its insured directors and officers to be used to satisfy Nicor directors' and officers' liabilities and expenses associated with claims asserted against them in a securities class action, a related shareholder derivative lawsuit and related matters, with any remaining balance to be paid to Nicor. Nicor's financial statements do not reflect any benefit related to such potential future payment because the amount of funds held in escrow ultimately attributable to Nicor, if any, is not presently determinable. Nicor also continues to seek coverage from its other D&O insurance carrier for additional coverage in connection with the same matters but is unable to predict the outcome of this matter and therefore no additional potential insurance recoveries have been reflected in the financial statements. In addition to the matters set forth above, the company is involved in legal or administrative proceedings before various courts and agencies with respect to general claims, rates, taxes, environmental, gas costs prudence reviews and other matters. Although unable to determine the ultimate outcome of these other contingencies, management believes that it has recorded appropriate liabilities when reasonably estimable. Nicor Inc. Page 19 - ------------------------------------------------------------------------------- Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations The following discussion should be read in conjunction with the Management's Discussion and Analysis section of the Nicor Inc. (Nicor) 2003 Annual Report on Form 10-K/A (Amendment No. 1). 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. SUMMARY Nicor's 2004 year-to-date earnings were significantly impacted by a $38.5 million pretax litigation charge recorded in the first quarter of 2004 related to an agreement in April 2004 to settle securities class actions. The charge reduced net income by $23.2 million and diluted earnings per share by $.52. More information about this agreement is presented within the Notes to the Consolidated Financial Statements - Note 14 - Contingencies - Securities Class Actions. The following table provides a comparison of Nicor's results as reported for the second quarter and year-to-date periods of 2004 and 2003 (in millions, except per share data): Three months ended June 30 ------------------ 2004 2003 -------- -------- Net income $ 19.5 $ 23.8 Diluted earnings per average share of common stock .44 .54 Six months ended June 30 ------------------ 2004 2003 -------- -------- Income before cumulative effect of accounting change $ 39.0 $ 74.2 Net income 39.0 69.7 Earnings per average share of common stock: Diluted - before cumulative effect of accounting change .88 1.68 Diluted .88 1.58 Second quarter 2004 net income and diluted earnings per share decreased compared to the reported 2003 amounts due primarily to lower operating results in the gas distribution segment and a decrease in equity investment income relating to Nicor Energy. These negative impacts relate primarily to the absence of insurance and other recoveries that occurred in 2003. Partially offsetting these negative factors were higher operating results at Nicor's other energy ventures and in the shipping segment. Net income and diluted earnings per share for the 2004 year-to-date period decreased due primarily to the first-quarter 2004 litigation charge. Also contributing to the decrease were lower operating results in the gas distribution segment and a decrease in equity investment income, both relating to the absence of recoveries noted above, and the impacts of rising operating costs and warmer weather on Nicor Gas. Partially offsetting these negative factors were higher operating results at Nicor's other energy ventures and in the shipping segment. In the first quarter of 2003, a $4.5 million cumulative effect loss from an accounting change was recorded for Nicor Enerchange, Nicor's wholesale natural gas marketing company. Nicor Inc. Page 20 - ------------------------------------------------------------------------------- Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations (continued) Operating income (loss) by major business segment is presented below (in millions): Three months ended Six months ended June 30 June 30 ------------------ ---------------- 2004 2003 2004 2003 -------- -------- -------- ------- Gas distribution $ 22.1 $ 37.6 $ 89.3 $ 111.4 Shipping 6.9 4.9 11.1 10.6 Other energy ventures 5.4 (.6) 8.3 3.0 Corporate and eliminations (1.3) (3.0) (41.3) (4.7) -------- -------- -------- ------- $ 33.1 $ 38.9 $ 67.4 $ 120.3 ======== ======== ======== ======= The following summarizes operating income comparisons for major business segments: o Gas distribution operating income decreased $15.5 million in the second quarter of 2004 compared to the 2003 second quarter due primarily to the absence of recoveries relating to the mercury inspection and repair program in the 2003 quarter ($17.4 million, net of recovery costs), lower natural gas deliveries due to warmer weather (approximately $2.4 million), and higher depreciation expense ($1.4 million). These negative factors were partially offset by an increase in property sale gains in the second quarter of 2004 ($5.1 million). The $22.1 million decrease in operating income for the six-month period was due primarily to decreased net mercury-related recoveries ($17.9 million), the negative impact of warmer weather than in 2003 (approximately $3.5 million), higher operating and maintenance expenses ($5.4 million), and higher depreciation expense ($2.5 million). These negative factors were partially offset by an increase in property sale gains ($5.1 million). o Shipping operating income increased $2 million and $.5 million for the quarter and six-months ended June 30, 2004, respectively, compared to the year-earlier periods, due to the impact of higher volumes shipped, partially offset by cost increases unrelated to volumes and lower average rates related to a change in cargo mix. o Operating income at Nicor's other energy ventures increased $6 million in the second quarter of 2004 compared to the 2003 second quarter due primarily to higher operating results at Nicor Solutions, one of Nicor's retail energy-related products and services businesses ($7.5 million), partially offset by lower operating results at Nicor Enerchange, the company's wholesale natural gas marketing business ($1.3 million). The $5.3 million increase in operating income for the six-month period was due primarily to higher operating results at Nicor Enerchange ($3.1 million) and Nicor Solutions ($1.3 million), and the absence of prior-year losses from former business activities ($1.1 million). o Corporate and eliminations operating loss decreased $1.7 million in the second quarter of 2004 compared to the 2003 second quarter due primarily to lower legal expenses ($1.2 million). The $36.6 million increase in corporate and eliminations operating loss for the six-month period is due to the first-quarter 2004 litigation charge ($38.5 million) related to the securities class actions. These factors are discussed in more detail in the Results of Operations section. Nicor Inc. Page 21 - ------------------------------------------------------------------------------- Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations (continued) RESULTS OF OPERATIONS The following discussion provides additional information about the major items impacting Nicor's results of operations. Operating revenues. Operating revenues by major business segment are presented below (in millions): Three months ended Six months ended June 30 June 30 ------------------- ------------------- 2004 2003 2004 2003 -------- -------- --------- --------- Gas distribution $ 338.4 $ 379.5 $ 1,373.5 $ 1,476.2 Shipping 72.4 67.1 140.2 133.6 Other energy ventures 33.5 17.5 85.2 38.6 Corporate and eliminations (14.8) (11.3) (53.7) (24.3) -------- -------- --------- --------- $ 429.5 $ 452.8 $ 1,545.2 $ 1,624.1 ======== ======== ========= ========= Gas distribution revenues decreased in the quarter and year-to-date periods of 2004 compared with a year ago due primarily to warmer weather. Revenues also decreased due to lower natural gas costs, which are passed directly through to customers without markup subject to Illinois Commerce Commission (ICC) review. Warmer weather decreased revenues by approximately $30 million and $80 million for the three and six months ended June 30, 2004, respectively. The revenue effect of lower natural gas costs was $14 million and $18 million for the three-month and six-month periods, respectively. Second quarter 2004 shipping revenues increased $5.3 million due to higher volumes shipped ($7.3 million) partially offset by lower average rates ($1.1 million) and decreased charter activity ($.9 million). The $6.6 million increase for the six-month period related primarily to higher volumes shipped ($11.8 million) partially offset by lower average rates ($4 million) and decreased charter activity ($1.2 million). Higher volumes reflect increased tourism and construction activity in the Caribbean region while lower average rates reflect a change in cargo mix. The increase in second quarter and year-to-date revenues for other energy ventures resulted primarily from higher revenues at Nicor Solutions, reflecting increases in the number of customers purchasing utility-bill management products. For the quarter, the $16 million revenue increase resulted from higher revenue at Nicor Solutions ($14.8 million) and Nicor Services ($2.3 million), partially offset by decreased revenues from Nicor Enerchange ($.8 million). For the six-month period, the $46.6 million increase in revenues for other energy ventures resulted primarily from higher revenues at Nicor Solutions ($38.6 million). Also contributing to the increased year-to-date revenues were higher revenues at Nicor Enerchange ($4.4 million) and Nicor Services ($4.2 million). Corporate and eliminations reflects primarily the elimination of intersegment revenues, as described in the Notes to the Consolidated Financial Statements - Note 9 Business Segment Information. Nicor Inc. Page 22 - ------------------------------------------------------------------------------- Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations (continued) Gas distribution margin. Nicor utilizes a measure it refers to as "gas distribution margin" to evaluate the operating income impact of gas distribution revenues. Gas distribution revenues include natural gas costs, which are passed directly through to customers without markup, subject to ICC review, and revenue taxes, for which Nicor Gas earns a small administrative fee. These items often cause significant fluctuations in gas distribution revenues, and yet they have virtually no direct impact on gas distribution operating income. Therefore, Nicor Gas excludes these items in evaluating performance. A reconciliation of gas distribution revenues and margin follows (in millions): Three months ended Six months ended June 30 June 30 ------------------ ---------------------- 2004 2003 2004 2003 -------- -------- ---------- ---------- Gas distribution revenues $ 338.4 $ 379.5 $ 1,373.5 $ 1,476.2 Cost of gas (200.5) (241.0) (992.7) (1,103.9) Revenue tax expense (24.5) (23.9) (94.0) (85.4) -------- -------- ---------- ---------- Gas distribution margin $ 113.4 $ 114.6 $ 286.8 $ 286.9 ======== ======== ========== ========== For the quarter, gas distribution margin decreased slightly due primarily to lower natural gas deliveries due to warmer weather (approximately $2.4 million) and lower average rates charged during the period ($1.1 million). These negative factors were partially offset by larger contributions from the Chicago Hub ($1.5 million) and increased natural gas deliveries unrelated to weather ($.7 million). For the six-month period, gas distribution margin remained essentially unchanged. Positively impacting margin were increased natural gas deliveries unrelated to weather ($1.8 million), higher revenue tax administration fees ($.6 million), increased customer finance and late payment charges ($.6 million), and larger contributions from the Chicago Hub ($.5 million). These positive factors were offset by the negative impact of warmer weather than in 2003 (approximately $3.5 million). Gas distribution operating and maintenance expense. Gas distribution operating and maintenance expense remained essentially unchanged at $54.6 million in the second quarter of 2004 versus $54.7 million in the 2003 quarter. The $5.4 million increase in the six-month period was due primarily to higher bad debt expense ($4.8 million), an increase to the estimated liability for legal defense costs related to the PBR plan review ($3 million), higher payroll costs ($2.1 million), and higher costs related to property and casualty insurance ($1.2 million). These negative factors were partially offset by the absence of expenses related to a 2003 service outage ($2 million), higher pension credits ($1.8 million), and the absence of weather protection expense in 2004 ($1.4 million). Mercury-related costs (recoveries), net. In the second quarter of 2003, Nicor Gas recovered approximately $17.4 million of mercury-related costs, net of legal fees, from insurers and independent contractors. Property sale gains. In June 2004, Nicor Gas realized a $5.5 million gain on the sale of land. Nicor Inc. Page 23 - ------------------------------------------------------------------------------- Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations (continued) Shipping operating expenses. Shipping segment operating expenses increased $3.3 million in the second quarter of 2004 due primarily to higher expenses related to an increase in volumes shipped. Other cost increases included higher leased equipment repair expenses ($1.2 million) and the absence of a favorable 2003 bad debt adjustment ($.8 million). For the 2004 six-month period, shipping segment operating expenses increased $6.1 million to $129.1 million due primarily to higher expenses related to an increase in volumes shipped. Other cost increases included higher wage and benefit costs ($1.8 million), the absence of a vessel sale gain recognized in the first quarter of 2003 ($1.3 million), increased leased equipment repair expenses ($.8 million), and the absence of the prior-year bad debt adjustment ($.8 million). Other energy ventures operating expenses. The $10 million increase in the second quarter 2004 operating expenses compared to 2003 was due primarily to increased expenses at Nicor Solutions ($7.3 million) largely associated with increased revenues. Also contributing to the increase were higher expenses at Nicor Services ($2.8 million). The $41.3 million increase in the 2004 year-to-date operating expenses compared to 2003 was due primarily to higher expenses at Nicor Solutions ($37.3 million) largely associated with increased revenues. Also contributing to the year-to-date increase were higher expenses at Nicor Services ($4.5 million) and Nicor Enerchange ($1.3 million). Partially offsetting the negative factors was a decrease in expenses related to former business activities ($1.2 million, respectively). Litigation charge. The year-to-date 2004 litigation charge ($38.5 million) relates to an agreement to settle the securities class actions. More information about this agreement is presented within the Notes to the Consolidated Financial Statements - Note 14 Contingencies - Securities Class Actions. Other corporate operating expenses and eliminations. Other corporate operating expenses were $1.6 million and $2.9 million in the second quarter of 2004 and 2003, respectively. The decrease is attributable primarily to lower corporate legal expenses ($1.2 million). Intercompany eliminations aggregated $15.1 million and $11.2 million in the second quarter of 2004 and 2003, respectively, related primarily to utility-bill management products. For the six-month period, other corporate operating expenses were $1.6 million and $4.6 million in 2004 and 2003, respectively. The decrease is attributable primarily to lower legal expenses ($2 million). Intercompany eliminations aggregated $52.5 million and $24.2 million in the 2004 and 2003 year-to-date periods, respectively, related primarily to utility-bill management products. Equity investment income (loss), net. Quarterly equity investment income (loss) decreased from $6.7 million in 2003 to $1.7 million in 2004 and decreased for the six-month period from $8 million in 2003 to $2.9 million in 2004 due primarily to $5.6 million of cash received in 2003 on the previously written off investment in Nicor Energy. Developments related to this investment are more fully described in the Notes to the Consolidated Financial Statements - Note 14 Contingencies - Nicor Energy. Nicor Inc. Page 24 - ------------------------------------------------------------------------------- Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations (continued) Interest expense. Interest expense for the three months ended June 30, 2004 decreased $.9 million, due primarily to lower average borrowing levels and lower estimated interest on income tax matters, partially offset by the impact of higher effective interest rates. The reduction in estimated interest expense on income tax matters relates to a favorable IRS settlement in 2004. For the year-to-date period, interest expense increased $.6 million, due to the effect of higher average borrowing levels, partially offset by lower estimated interest expense on income tax matters. Income taxes. The company's effective income tax rate declined to 29 percent and 25 percent for the three and six months ended June 30, 2004, respectively, from 36 percent and 33 percent for the corresponding 2003 periods. The decline in 2004 was due principally to reduced projected income, which causes a lower effective income tax rate since permanent differences and tax credits are a larger share of pretax income, and a favorable IRS settlement in the second quarter of 2004 ($.7 million). In the first quarter, Nicor recorded an income tax benefit on the securities class action litigation charge at its marginal income tax rate of about 40 percent. As a result, the 25 percent effective income tax rate for the six months ended June 30, 2004, is lower than the estimated rate for the full year of 28 percent. Cumulative effect of accounting change. The cumulative effect of a January 1, 2003 required accounting change relates to the application of accrual accounting, rather than fair value accounting, to gas in storage and certain energy-related contracts, such as storage and transportation contracts, at Nicor Enerchange. Nicor Inc. Page 25 - ------------------------------------------------------------------------------- Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations (continued) Gas Distribution Statistics Three months ended Six months ended June 30 June 30 ------------------ -------------------- 2004 2003 2004 2003 -------- -------- --------- --------- Operating revenues (millions) Sales Residential $ 216.2 $ 250.5 $ 936.2 $ 1,016.3 Commercial 48.3 53.0 206.3 224.9 Industrial 5.8 6.6 28.5 33.4 -------- -------- --------- --------- 270.3 310.1 1,171.0 1,274.6 -------- -------- --------- --------- Transportation Residential 5.0 4.7 13.1 11.8 Commercial 13.8 14.6 38.9 40.6 Industrial 9.4 10.0 20.3 21.3 Other 2.2 4.1 7.4 9.1 -------- -------- --------- --------- 30.4 33.4 79.7 82.8 -------- -------- --------- --------- Other revenues Revenue taxes 25.2 24.6 96.1 86.9 Environmental cost recovery 3.3 4.0 9.9 19.7 Chicago Hub 2.6 1.1 4.0 3.5 Weather insurance - - - (3.5) Other 6.6 6.3 12.8 12.2 -------- -------- --------- --------- 37.7 36.0 122.8 118.8 -------- -------- --------- --------- $ 338.4 $ 379.5 $ 1,373.5 $ 1,476.2 ======== ======== ========= ========= Deliveries (Bcf) Sales Residential 24.9 28.4 124.9 136.0 Commercial 5.8 6.3 27.4 29.7 Industrial .7 .8 3.9 4.5 -------- -------- --------- -------- 31.4 35.5 156.2 170.2 -------- -------- --------- -------- Transportation Residential 2.1 2.1 10.9 10.3 Commercial 12.3 13.4 49.7 53.1 Industrial 26.2 25.5 63.1 62.0 -------- -------- --------- -------- 40.6 41.0 123.7 125.4 -------- -------- --------- -------- 72.0 76.5 279.9 295.6 ======== ======== ========= ======== Customers at end of period (thousands) Sales Residential 1,769.5 1,740.7 Commercial 115.9 111.5 Industrial 7.4 7.1 -------- -------- 1,892.8 1,859.3 -------- -------- Transportation Residential 133.9 127.5 Commercial 57.3 59.2 Industrial 6.0 6.4 -------- -------- 197.2 193.1 -------- -------- 2,090.0 2,052.4 ======== ======== Other statistics Degree days 591 743 3,621 3,997 Colder (warmer) than normal (12)% 10% (4)% 6% Average gas cost per Mcf sold $ 6.28 $ 6.64 $ 6.30 $ 6.42 Nicor Inc. Page 26 - ------------------------------------------------------------------------------- Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations (continued) Shipping Statistics Three months ended Six months ended June 30 June 30 ------------------ ----------------- 2004 2003 2004 2003 -------- -------- -------- -------- TEUs shipped (thousands) 46.8 42.2 92.5 84.9 Revenue per TEU $ 1,546 $ 1,570 $ 1,516 $ 1,559 Ports served 24 24 Vessels operated 17 16 FINANCIAL CONDITION AND LIQUIDITY Operating cash flows. The gas distribution business is highly seasonal and operating cash flow may fluctuate significantly during the year and from year-to-year due to factors such as weather, natural gas prices, the timing of collections from customers, and natural gas purchasing and storage practices. The company relies on short-term financing to meet seasonal increases in working capital needs. Cash requirements generally increase over the third and fourth quarters due to increases in natural gas purchases, gas in storage and accounts receivable. Over the first and second quarters, positive cash flow generally results from the sale of gas in storage and the collection of accounts receivable. This cash is typically used to reduce short-term debt to near zero during the second quarter. As discussed in the 2003 Form 10-K/A (Amendment No. 1), the 2003 year-end gas in storage balance was higher than a year earlier due to an increased quantity of owned natural gas. In the fourth quarter of 2003, Nicor received an income tax refund of approximately $100 million attributable to a tax loss carryback associated with a change in tax accounting methods, subject to future Internal Revenue Service review and approval. Decisions by taxing authorities may significantly impact the company's cash flow. Investing activities. In April 2004, Nicor transferred $38.5 million to restricted short-term investments in an escrow account in response to the agreement to settle the securities class actions. One of Nicor's Directors and Officers insurance carriers also paid $29 million into an escrow account for use in settling outstanding shareholder litigation. In June 2004, Nicor Gas realized net proceeds of $7.2 million on the sale of land. In the second quarter of 2004, Tropical Shipping sold $15 million of short-term investments and invested the proceeds in available-for-sale marketable securities. Additional information about these investments is presented in the Notes to the Consolidated Financial Statements - Note 1 - Accounting Policies - Marketable Securities. Financing activities. Nicor Inc. and Nicor Gas maintain short-term line of credit agreements with major domestic and foreign banks. These agreements, which serve as backup for the issuance of commercial paper, allow for borrowings of $500 million through September 2004. The company is currently in the process of establishing new revolving credit facilities to replace these agreements. The company had $129 million of commercial paper borrowings outstanding at June 30, 2004. The company is in Nicor Inc. Page 27 - ------------------------------------------------------------------------------- Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations (continued) compliance with the covenants relating to its short-term line of credit agreements at June 30, 2004. The company expects that funding from commercial paper and related backup line of credit agreements will continue to be available in the foreseeable future and sufficient to meet estimated cash requirements. On April 15, 2004, Nicor announced a quarterly dividend on common stock of 46.5 cents per share payable August 1, 2004. On July 15, 2004, Nicor announced a quarterly dividend on common stock of 46.5 cents per share payable November 1, 2004. On June 29, 2004, Fitch Ratings (Fitch) downgraded Nicor Inc.'s long-term ratings to A, Nicor Gas' First Mortgage Bonds from AA to AA-, and affirmed Nicor Inc.'s and Nicor Gas' commercial paper at F1 and F1+, respectively. Fitch revised the ratings outlook for the company to Stable from Negative. Contractual obligations. In addition to the long-term debt obligations reported in the company's 2003 Annual Report on Form 10-K/A (Amendment No. 1), the company was obligated to make related interest payments as of December 31, 2003 as follows (in millions): Payments due by period --------------------------------------------- Less More Than 1 1-3 3-5 than 5 Total Year years years years -------- ------- ------- ------- -------- Fixed interest on long-term debt $ 432.1 $ 30.5 $ 60.8 $ 53.7 $ 287.1 CRITICAL ACCOUNTING ESTIMATES See Management's Discussion and Analysis - Critical Accounting Estimates in the 2003 Annual Report on Form 10-K/A (Amendment No. 1) for a detailed discussion of the company's critical accounting policies. Nicor Inc. Page 28 - ------------------------------------------------------------------------------- Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations (continued) FACTORS THAT MAY AFFECT BUSINESS PERFORMANCE Weather. Natural gas deliveries are temperature-sensitive and seasonal since about one-half of all deliveries are used for space heating. Typically, about 70 percent of deliveries and revenues occur from October through March. Fluctuations in weather have the potential to significantly impact year-to-year comparisons of operating income and cash flow. In the first quarter of 2003, Nicor Gas purchased earnings protection against the impact of significantly warmer-than-normal or colder-than-normal weather. No such protection has been in effect since the first quarter of 2003. It is estimated that a 100-degree-day variation from normal weather affects Nicor's gas-distribution earnings by about 2-1/2 cents per share, and since mid-2003 Nicor bears the partially offsetting weather risk associated with the utility-bill management products marketed by Nicor Solutions. The amount of this offset will vary depending upon the time of year, weather patterns, the number of customers for these products and the market price for natural gas. In the three and six months ended June 30, 2004, the weather impact of utility-bill management products was insignificant. The company continues to evaluate its coverage options to determine whether it wishes to purchase any external weather protection. Gas distribution operating and maintenance expenses. Operating and maintenance expenses at Nicor Gas have increased in recent years, and it is expected that they will continue to rise in the near future. As regulated by the ICC, base rates are designed to allow the company an opportunity to recover its costs and to earn a fair return for its investors. These base rates are determined as part of a rate relief proceeding, the last of which was completed in 1996 for Nicor Gas. Nicor Gas has the option to seek ICC approval for a base rate increase through a rate relief proceeding, which generally takes about one year. Gas distribution labor negotiations. On April 7, 2004, Nicor Gas announced that the International Brotherhood of Electrical Workers Local 19 ratified a new five-year labor agreement which expires on February 28, 2009. This agreement covers approximately 1,500 physical and clerical employees of Nicor Gas. Property sales. Property sale gains and losses vary from year-to-year depending upon property sales activity, and the company continues to assess its ownership of real estate holdings. Contingencies. The following contingencies of Nicor are in various stages of investigation or disposition. Although in some cases the company is unable to estimate the amount of loss reasonably possible in addition to any amounts already recognized, it is possible that the resolution of these contingencies, either individually or in aggregate, will require the company to take charges against, or will result in reductions in, future earnings. It is the opinion of management that the resolution of these contingencies, either individually or in aggregate, could be material to earnings in a particular period but is not expected to have a material adverse impact on Nicor's liquidity or financial condition. Performance-based rate plan. Nicor Gas' PBR plan for natural gas costs went into effect in 2000 and was terminated by the company effective January 1, 2003. Under the PBR plan, Nicor Gas' total gas supply costs were compared to a market-sensitive benchmark. Savings and losses relative to the benchmark were determined annually and shared equally with sales customers. The PBR is currently under Illinois Commerce Commission (ICC) review. Nicor Inc. Page 29 - ------------------------------------------------------------------------------- Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations (continued) There are allegations that the company acted improperly in connection with the PBR plan, and the ICC and others are reviewing these allegations. On June 27, 2002 the Citizens Utility Board (CUB) filed a motion to reopen the record in the ICC's proceedings to review the PBR plan (the ICC Proceedings). As a result of the motion to reopen, Nicor Gas, the Cook County State's Attorney Office (CCSAO), the staff of the ICC and CUB entered into a stipulation providing for additional discovery. The Illinois Attorney General's Office has also intervened in this matter. In addition, the Illinois Attorney General's Office issued Civil Investigation Demands (CIDs) to CUB and the ICC staff. The CIDs ordered that CUB and the ICC staff produce all documents relating to any claims that Nicor Gas may have presented, or caused to be presented, false information related to its PBR plan. Parties who were plaintiffs in a dismissed class action proceeding against the company could potentially intervene in these proceedings. The company has committed to cooperate fully in the reviews of the PBR plan. In response to these allegations, on July 18, 2002, the Nicor Board of Directors appointed a special committee of independent, non-management directors to conduct an inquiry into issues surrounding natural gas purchases, sales, transportation, storage and such other matters as may come to the attention of the special committee in the course of its investigation. The special committee presented the report of its counsel (Report) to Nicor's Board of Directors on October 28, 2002. The findings of the Report include: o Certain transactions increased customer costs in the aggregate amount of approximately $15 million. o No improper Nicor affiliated-party transactions or improper hedging activities were identified. o Inadvertent accounting errors occurred, sometimes to the benefit of customers and sometimes to the benefit of Nicor Gas. o No criminal activity or fraud was identified. In response, the Nicor Board of Directors directed the company's management to, among other things, make appropriate adjustments to account for, and fully address, the adverse consequences to ratepayers of the items noted in the Report, and conduct a detailed study of the adequacy of internal accounting and regulatory controls. The adjustments were made in financial statements resulting in a $24.8 million liability at June 30, 2004. Included in such $24.8 million liability is a $4.1 million loss contingency. In addition, Nicor Gas estimates that there is $26.9 million due to the company from the 2002 PBR plan year, which has not been recognized in the financial statements due to uncertainties surrounding the PBR plan. The net of these items and interest income on certain components results in a $2.8 million reimbursement the company is seeking as of June 30, 2004, pending resolution of the proceedings discussed below. The company took steps to correct the weaknesses and deficiencies identified in the detailed study of the adequacy of internal controls. Pursuant to the agreement of all parties, including the company, the ICC re-opened the 1999 and 2000 purchased gas adjustment filings for review of certain transactions related to the PBR plan and consolidated the reviews of the 1999-2002 purchased gas adjustment filings with the PBR plan review. On February 5, 2003, the CCSAO and CUB filed a motion for $27 million in sanctions against the company in the ICC Proceedings. In that motion, CCSAO and CUB alleged that Nicor Gas' responses to certain CUB data requests were false. Also on February 5, 2003, CUB stated in a press release that, in addition to $27 million in sanctions, it would seek additional refunds to consumers. On March 5, 2003, the ICC staff filed a response brief in support of CUB's motion for sanctions. On May 1, 2003, the Administrative Law Judges issued a ruling denying CUB and CCSAO's motion for sanctions. CUB has Nicor Inc. Page 30 - ------------------------------------------------------------------------------- Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations (continued) filed an appeal of the motion for sanctions with the ICC, and the ICC has indicated that it will not rule on the appeal until the final disposition of the ICC proceedings. It is not possible to determine how the ICC will resolve the claims of CCSAO, CUB or other parties to the ICC Proceedings. In November 2003, the ICC staff, CUB, CCSAO and the Illinois Attorney General's Office (IAGO) filed their respective direct testimony in the ICC Proceedings. The ICC staff is seeking refunds to customers of approximately $108 million and CUB and CCSAO were jointly seeking refunds to customers of approximately $143 million. The IAGO direct testimony alleges adjustments in a range from $145 million to $190 million. The IAGO testimony as filed is presently unclear as to the amount which IAGO seeks to have refunded to customers. On February 27, 2004 the above referenced intervenors filed their rebuttal testimony in the ICC Proceedings. In such rebuttal testimony, CUB and CCSAO amended the alleged amount to be refunded to customers from approximately $143 million to $190 million. Nicor Gas filed rebuttal testimony in January 2004, which is consistent with the findings of the special committee Report and, as noted above, seeks a reimbursement to Nicor Gas of approximately $2.8 million. The parties to the ICC Proceedings have agreed to a stay of the evidentiary hearings on this matter in order to undertake additional third party discovery from Entergy-Koch Trading, LP (EKT), a natural gas, storage and transportation trader and consultant with whom Nicor did business under the PBR plan. During the course of the SEC investigation discussed below, the company became aware of additional sources of information relating to the activities of individuals affecting the PBR plan for the period from 1999 through 2002, including information consisting of third party documents and recordings of telephone conversations from EKT. The company has recently obtained access to and reviewed this information. The company's management has determined this information does not affect the company's previously issued financial statements. In addition, the company's management has determined that no adjustment to the accrual for loss contingencies in the company's second quarter financial statments is required as a result of this information. Although the Report of the special committee's counsel did not find that there was criminal activity or fraud, a review of this newly available information (which was not available to the independent counsel who prepared the Report) and recent re-interviews of certain Nicor Gas personnel indicate that certain Nicor Gas personnel may have engaged in potentially fraudulent conduct regarding the PBR plan in violation of company policy, and in possible violation of SEC rules and applicable law. Further, certain Nicor Gas personnel also may have attempted to conceal their conduct in connection with an ICC review of the PBR plan. The company continues to cooperate with the SEC, the U.S. Attorney's office and the ICC on this matter and to review and produce additional documents as requested by these agencies. The company also will review any third party information the company obtains. The company has recently terminated four employees in connection with this matter. Nicor is unable to predict the outcome of any of the foregoing reviews or the company's potential exposure thereunder. Because the PBR plan and historical gas costs are still under ICC review, the final outcome could be materially different than the amounts reflected in the company's financial statements as of June 30, 2004. Nicor Inc. Page 31 - ------------------------------------------------------------------------------- Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations (continued) Nicor Energy. Significant developments occurred in 2002 and 2003 relating to Nicor's 50-percent interest in Nicor Energy. Information about these developments is presented within the Notes to the Consolidated Financial Statements - Note 14 Contingencies - Nicor Energy. On December 10, 2003, the United States Attorney for the Northern District of Illinois indicted three former employees of Nicor Energy and an outside lawyer for Nicor Energy. The indictments alleged that the defendants fraudulently deprived Nicor Energy of their honest services and caused a loss to investors in Nicor Inc. and Dynegy Inc. During the time period covered by the indictments, Nicor Energy was a stand alone entity with its own management and was operated independently from Nicor Inc. and Nicor Gas. None of the individuals indicted are employees of Nicor Inc. or Nicor Gas nor were they at the time of the charged conduct. The three former employees of Nicor Energy have pled guilty to certain charges. Separately, on December 10, 2003, the United States Securities and Exchange Commission (SEC) filed its own civil enforcement action against the same three former employees and one additional former employee of Nicor Energy. While Nicor is unable to predict the final outcome of these matters, the resolution of such matters is not expected to have a material adverse impact on the company's financial condition or results of operations. SEC and U.S. Attorney Inquiries. In 2002, the staff of the SEC informed Nicor and Nicor Energy that the SEC is conducting a formal inquiry regarding both the PBR plan and Nicor Energy. A representative of the Office of the United States Attorney for the Northern District of Illinois has notified Nicor that that office is conducting an inquiry on the same matters that the SEC is investigating, and a grand jury is also reviewing these matters. In April 2004, Nicor was advised by the SEC Division of Enforcement that it intended to recommend to the SEC that it bring a civil injunctive action against Nicor, alleging that Nicor violated Sections 17(a) of the Securities Act of 1933 and Sections 10(b) and 13(a) of the Securities Exchange Act of 1934 and Rules 10b-5, 12b-20, 13a-1 and 13a-13 thereunder. The SEC may also seek injunctive relief, disgorgement and civil penalties. The SEC staff invited Nicor to make a formal response (known as a Wells Submission) with respect to the proposed recommendation. In June 2004, Nicor filed its Wells Submission with the SEC. In addition, in connection with the SEC's invitation to the company to make a Wells Submission, the SEC informed the company of additional sources of information relating to activities affecting the PBR plan, the status of which is addressed in detail in the Performance-Based Rate (PBR) Plan section set forth above. Nicor is unable to predict the outcome of these inquiries or Nicor's potential exposure related thereto and has not recorded a liability associated with the outcome of these contingencies. Securities Class Actions. Nicor and certain of its executives were defendants in a consolidated class action lawsuit. Information about the settlement of this action is presented within the Notes to the Consolidated Financial Statements - Note 14 Contingencies - Securities Class Actions. Shareholder Derivative Lawsuits. Certain Nicor executives and all members of its Board of Directors are defendants in a consolidated derivative lawsuit. Further information about this lawsuit is presented within the Notes to the Consolidated Financial Statements - Note 14 Contingencies - Shareholder Derivative Lawsuits. Mercury. Future operating results may be impacted by adjustments to the company's estimated mercury liability or by related recoveries. Additional information about mercury contingencies is presented in the Notes to the Consolidated Financial Statements - Note 14 Contingencies - Mercury. Nicor Inc. Page 32 - ------------------------------------------------------------------------------- Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations (continued) Manufactured gas plant sites. The company is conducting environmental investigations and remedial activities at former manufactured gas plant sites. Additional information about these sites is presented in the Notes to the Consolidated Financial Statements - Note 14 Contingencies - Manufactured Gas Plant Sites. Fixed Bill Service. Nicor Energy Services Company is a defendant in a purported class action. Information about this lawsuit is presented within the Notes to the Consolidated Financial Statements - Note 14 Contingencies - Fixed Bill Service. Horizon Pipeline Lien. Horizon Pipeline, LLC was a party to a lien action relating to the construction of the Horizon Pipeline. Information about the settlement of this action is presented within the Notes to the Consolidated Financial Statements - Note 14 Contingencies - Horizon Pipeline Lien. FERC Stipulation. Nicor Gas entered into a settlement with the Federal Energy Regulatory Commission (FERC). Further information about this settlement is presented within the Notes to the Consolidated Financial Statements - Note 14 Contingencies - FERC Stipulation. Other contingencies. The company is involved in legal or administrative proceedings before various courts and agencies with respect to general claims, rates, taxes, environmental, gas costs prudence reviews and other matters. See the Notes to the Consolidated Financial Statements - Note 14 Contingencies. On April 27, 2004 one of Nicor's Directors and Officers (D&O) insurance carriers agreed to pay $29 million to a third party escrow agent on behalf of Nicor and its insured directors and officers to be used to satisfy Nicor directors' and officers' liabilities and expenses associated with claims asserted against them in a securities class action, a shareholder derivative lawsuit and related matters, with any remaining balance to be paid to Nicor. Nicor's financial statements do not reflect any benefit related to such future payment because the amount of funds to be held in escrow ultimately attributable to Nicor, if any, is not presently determinable. Nicor also continues to seek coverage from its other D&O insurance carrier for additional coverage in connection with the same matters but is unable to predict the outcome of this matter and therefore no potential insurance recoveries have been reflected in the financial statements. Market risk. Nicor is exposed to market risk in the normal course of its business operations, including the risk of loss arising from adverse changes in natural gas and fuel commodity prices, and interest rates. There has been no material change in the company's exposure to market risk since the filing of the 2003 Annual Report on Form 10-K/A (Amendment No. 1). Energy trading activities. At June 30, 2004, Nicor Enerchange, Nicor's wholesale natural gas marketing business, held derivative contracts with the following fair values (in millions): Maturity --------------------------- Total Less than 1 to 3 3 to 5 Source of Fair Value Fair Value 1 Year Years Years - ---------------------------------- ---------- --------- ------- ------- Prices actively quoted $ 2.5 $ 2.2 $ .3 $ - Prices based on pricing models - - - - ---------- --------- ------- ------- Total $ 2.5 $ 2.2 $ .3 $ - ========== ========= ======= ======= Nicor Inc. Page 33 - ------------------------------------------------------------------------------- Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations (concluded) CAUTION CONCERNING FORWARD-LOOKING STATEMENTS This document includes certain forward-looking statements about the expectations of Nicor, and its subsidiaries and affiliates. Although Nicor believes these statements are based on reasonable assumptions, actual results may vary materially from stated expectations. Such forward-looking statements may be identified by the use of forward-looking words or phrases such as "anticipate," "believe," "expect," "intend," "may," "planned," "potential," "should," "will," "would," "project," "estimate," or similar phrases. Actual results may differ materially from those indicated in the company's forward-looking statements due to the direct or indirect effects of legal contingencies (including litigation) and the resolution of those issues, including the effects of an ICC review and SEC and U.S. Attorney inquiries, and undue reliance should not be placed on such statements. Other factors that could cause materially different results include, but are not limited to, weather conditions; natural gas and other fuel prices; fair value accounting adjustments; health care costs; insurance costs or recoveries; legal costs; borrowing needs; interest rates; credit conditions; economic and market conditions; Caribbean tourism; energy conservation; legislative and regulatory actions; tax rulings or audit results; asset sales; significant unplanned capital needs; future mercury-related charges or credits; changes in accounting principles, methods, judgments or estimates; performance of major suppliers and contractors; labor relations; and acts of terrorism. Readers are cautioned not to place undue reliance on these forward-looking statements, which speak only as of the date of this filing. Nicor undertakes no obligation to publicly release any revision to these forward-looking statements to reflect events or circumstances after the date of this filing. Item 3. Quantitative and Qualitative Disclosures about Market Risk For disclosures about market risk, see Management's Discussion and Analysis - Market Risk, which is incorporated herein by reference. Item 4. Controls and Procedures The company carried out an evaluation under the supervision and with the participation of the company's management, including its Chief Executive Officer and Chief Financial Officer, of the effectiveness of the design and operation of the company's disclosure controls and procedures as of the end of the period covered by this Quarterly Report on Form 10-Q (the "Evaluation"). In designing and evaluating the disclosure controls and procedures, management recognizes that any disclosure controls and procedures, no matter how well designed and operated, can provide only reasonable assurance of achieving the desired control objectives, and management is required to apply its judgment in evaluating the cost-benefit relationship of possible disclosure controls and procedures. Based on the Evaluation, the company's Chief Executive Officer and Chief Financial Officer concluded that the company's disclosure controls and procedures, as of the end of the period covered by this Quarterly Report on Form 10-Q, were effective at the reasonable assurance level to ensure that information required to be disclosed by the company in reports that it files or submits under the Securities Exchange Act of 1934 is recorded, processed, summarized and reported within the time periods specified in SEC rules and forms. There has been no change in the company's internal controls over financial reporting during the company's most recent fiscal quarter that has materially affected, or is reasonably likely to materially affect, the company's internal control over financial reporting. Nicor Inc. Page 34 - ------------------------------------------------------------------------------- PART II - OTHER INFORMATION Item 1. Legal Proceedings See Management's Discussion and Analysis - Contingencies and the Notes to the Consolidated Financial Statements - Note 14 Contingencies, which are incorporated herein by reference. Item 2. Changes in Securities, Use of Proceeds and Issuer Purchases of Equity Securities (c) Total (d) Number of Approximate Shares Dollar Value Purchased of Shares that as Part of May Yet Be (a) Total Publicly Purchased Number of (b) Average Announced Under the Shares Price Paid Plans or Plans or Period Purchased per Share Programs (1) Programs (1) - -------------------- ---------- ----------- ------------ ------------ April 1 to 30, 2004 - $ - - $21,513,176 May 1 to 31, 2004 - - - $21,513,176 June 1 to 30, 2004 - - - $21,513,176 ---------- ----------- ----------- - $ - - ========== =========== =========== (1) In September 2001, Nicor announced a $50 million common stock repurchase program, under which Nicor may purchase its common stock as market conditions permit through open market transactions and to the extent cash flow is available after other cash needs and investment opportunities. There were no repurchases under this program in 2004. At June 30, 2004, $21,513,176 remained authorized for the repurchase of common stock. Nicor Inc. Page 35 - ------------------------------------------------------------------------------- Item 4. Submission of Matters to a Vote of Securities Holders The Annual Meeting of Stockholders of the company was held on April 15, 2004, for the purpose of electing the Board of Directors. Proxies for the meeting were solicited pursuant to Section 14(a) of the Securities Exchange Act of 1934 and there has been no solicitation in opposition to the board of directors' solicitation. Voting results reported below are for shares eligible to vote as of the record date, February 17, 2004. Nominees for directors, as listed in the proxy statement, were elected as indicated below. There were no "broker nonvotes." Votes were cast as follows: Nominee For Withheld ---------------------- ----------- ------------ Robert M. Beavers, Jr. 36,394,566 1,057,588 Bruce P. Bickner 35,518,119 1,934,035 John H. Birdsall, III 26,510,872 10,941,282 Thomas A. Donahoe 35,509,946 1,942,208 Thomas L. Fisher 36,329,507 1,122,647 John E. Jones 35,295,976 2,156,178 Dennis J. Keller 36,582,400 869,754 William A. Osborn 35,770,499 1,681,655 John Rau 35,773,636 1,678,518 John F. Riordan 36,356,877 1,095,277 Russ M. Strobel 36,386,566 1,065,588 Patricia A. Wier 36,334,438 1,117,716 The stockholders ratified the appointment of Deloitte and Touche LLP as independent public accountants of the company for 2004. Votes were cast as follows: For Against Abstain ------------- ------------ ------------ 36,437,486 670,874 343,798 The stockholders approved a stockholder proposal regarding shareholder rights plan implementation. The proposal requested that the board of directors submit the adoption, maintenance or extension of any poison pill to a shareholder vote. Also, once this proposal is adopted, dilution or removal of this proposal is requested to be submitted to a shareholder vote at the earliest possible shareholder election. Under the proposal the board of directors has discretion to set the earliest election date and in responding to shareholder votes. Votes were cast as follows: Broker For Against Abstain Non-Votes ------------- ------------ ------------ ---------- 16,529,240 10,805,558 1,026,025 9,091,331 Nicor Inc. Page 36 - ------------------------------------------------------------------------------- Item 6. Exhibits and Reports on Form 8-K (a) See Exhibit Index beginning on page 38 filed herewith. (b) On April 15, 2004, Nicor furnished a Form 8-K*, under Item 9, regarding remarks of Thomas L. Fisher, Chairman and Chief Executive Officer, to be made at the Annual Meeting of Stockholders on April 15, 2004. On April 19, 2004, Nicor filed a Form 8-K under Item 5, regarding a press release dated April 16, 2004 announcing updates on pending legal proceedings. On April 28, 2004, Nicor filed a Form 8-K, under Item 5, regarding a press release dated April 27, 2004 announcing an insurance settlement. On April 30, 2004, Nicor furnished a Form 8-K* under Items 7 and 12, regarding a press release dated April 29, 2004 announcing earnings for the quarter ended March 31, 2004 and providing 2004 earnings guidance. On May 3, 2004, Nicor furnished a Form 8-K*, under Item 9, regarding an analyst presentation of May 3, 2004. * This furnished Form 8-K is not to be deemed filed or incorporated by reference into any filing. Nicor Inc. Page 37 - ------------------------------------------------------------------------------- Signature Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized. Nicor Inc. August 9, 2004 /s/ JEFFREY L. METZ ---------------- -------------------------------- (Date) Jeffrey L. Metz Vice President and Controller (Chief Accounting Officer) Nicor Inc. Page 38 - ------------------------------------------------------------------------------- Exhibit Index Exhibit Number Description of Document ------- ------------------------------------------------------------- 3.01 * Articles of Incorporation of the company. (File No. 2-55451, Form S-14, Nicor Inc., Exhibit 1-03 and Exhibit B of Amendment No. 1 thereto.) 3.02 * Amendment to Articles of Incorporation of the company. (Proxy Statement dated April 20, 1979, Nicor Inc., Item 3 thereto.) 3.03 * Amendment to Articles of Incorporation of the company. (File No. 2-68777, Form S-16, Nicor Inc., Exhibit 2-01.) 3.04 * Amendment to Articles of Incorporation of the company. (File No. 1-7297, Form 10-K for 1985, Nicor Inc., Exhibit 3-03.) 3.05 * Amendment to Articles of Incorporation of the company. (Proxy Statement dated March 12, 1987, Nicor Inc., Exhibit A and Exhibit B thereto.) 3.06 * Amendment to Articles of Incorporation of the company. (File No. 1-7297, Form 10-K for 1992, Nicor Inc., Exhibit 3-06.) 3.07 * Amendments to Articles of Incorporation of the company. (Proxy Statement dated March 9, 1994, Nicor Inc., Exhibit A-1 and Exhibit B thereto.) 3.08 * Amendment to Articles of Incorporation of the company. (Proxy Statement dated March 6, 1998, Nicor Inc., Item 2 thereto.) 3.09 * By-Laws of the company as amended by the company's Board of Directors on January 15, 2004. (File No. 1-7297, Form 10-K for 2003, Nicor Inc., Exhibit 3.09.) 10.1 Stipulation of Settlement of Securities Class Action dated as of April 23, 2004. 10.2 Agreement and Mutual Release, dated as of April 23, 2004, among Nicor Inc., the D&O Insurance Carrier and the individuals on the signature page thereto. 10.3 Escrow Agreement, dated as of April 23, 2004, among Nicor Inc., BNY Midwest Trust Company and the individuals on the signature blocks thereto. 31.1 Rule 13a-14(a)/15d-14(a) Certification. 31.2 Rule 13a-14(a)/15d-14(a) Certification. 32.1 Section 1350 Certification. 32.2 Section 1350 Certification. Nicor Inc. Page 39 - ------------------------------------------------------------------------------- Exhibit Index (concluded) Exhibit Number Description of Document ------- ------------------------------------------------------------- * These exhibits have been previously filed with the Securities and Exchange Commission as exhibits to registration statements or to other filings with the Commission and are incorporated herein as exhibits by reference. The file number and exhibit number of each such exhibit, where applicable, are stated, in parentheses, in the description of such exhibit. Upon written request, the company will furnish free of charge a copy of any exhibit. Requests should be sent to Investor Relations at the corporate headquarters.