UNITED
STATES
 SECURITIES
AND EXCHANGE COMMISSION
 Washington,
D.C. 20549
 
 FORM
10-Q
 
 [X]
                QUARTERLY
      REPORT PURSUANT TO SECTION 13 OR 15(d) OF THESECURITIES
      EXCHANGE ACT OF 1934
 
 For
the quarterly period ended June 30, 2008
 
 or
 
 [   ]
                TRANSITION
      REPORT PURSUANT TO SECTION 13 OR 15(d) OF THESECURITIES
      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.
      EmployerIdentification
      Number)
 
 1844
      Ferry RoadNaperville,
      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 a large accelerated filer, an
accelerated filer, a non-accelerated filer or a smaller reporting
company.  See definitions of “large accelerated filer,” “accelerated
filer” and “smaller reporting company” in rule 12b-2 of the Exchange
Act.
 
 Large
      accelerated filer    [X]
                Accelerated
      filer                   
       [   ]Non-accelerated
      filer      [   ]
                Smaller
      reporting
  company   [   ]
 
 Indicate by check mark whether the
registrant is a shell company (as defined in Rule 12b-2 of the Exchange
Act).  Yes [  ] No [X]
 
 Indicate
the number of shares outstanding of each of the issuer’s classes of common
stock, as of the latest practicable date.  Common stock, par value
$2.50, outstanding at July 30, 2008, were 45,149,020 shares.
 
 
 
  
  Table of Contents
 
 Glossary
                
                iiPart
      I - Financial InformationItem
      1.
                Financial
      Statements (Unaudited)Condensed Consolidated Statements of
      Operations:
                1Three
      and six months ended June 30, 2008 and 2007Condensed Consolidated Statements of Cash
      Flows:
                2Six
      months ended June 30, 2008 and 2007Condensed Consolidated Balance
      Sheets:
                3June
      30, 2008 and 2007, and December 31, 2007Notes to the Condensed Consolidated Financial
      Statements
                4Item
      2.
                Management’s Discussion and Analysis of
      Financial
                18Condition and Results of OperationsItem
      3.
                Quantitative and Qualitative Disclosures About Market
      Risk
                29Item
      4.
                Controls and Procedures
                29Part
      II - Other InformationItem
      1.
                Legal Proceedings
                30Item
      1A.
                Risk Factors
                30Item
      2.
                Unregistered Sales of Equity Securities and Use
      of Proceeds
                30Item
      4.
                Submission of Matters to a Vote of Security
      Holders
                30Item
      6.
                Exhibits
                32Signature
                34
 
 
 
 
 
 
 
 
 
 
 
 
 
  Table of Contents
  Glossary
 
 Chicago Hub.  A
venture of Nicor Gas, which provides natural gas storage and
transmission-related services to marketers and other gas distribution
companies.
 
 Degree day.The
extent to which the daily average temperature falls below 65 degrees
Fahrenheit.  Normal weather for Nicor Gas’ service territory, for
purposes of this report, is considered to be 5,830 degree days per
year.
 
 EN Engineering.EN
Engineering, L.L.C.,a 50-percent-owned joint
venture that provides engineering and consulting services.
 
 FASB.  Financial
Accounting Standards Board.
 
 FIN.  FASB
Interpretation.
 
 FSP.  FASB Staff
Position.
 
 ICC.Illinois
Commerce Commission, the agency that establishes the rules and regulations
governing utility rates and services in Illinois.
 
 IRS.  Internal
Revenue Service.
 
 Jobs Act.  American
Jobs Creation Act of 2004.
 
 LIFO.  Last-in,
first-out.
 
 Mcf, MMcf,
Bcf.Thousand cubic feet, million cubic feet, billion cubic
feet.
 
 MMBtus.  Million
British thermal units.
 
 Nicor.  Nicor Inc.,
or the registrant.
 
 Nicor Advanced
Energy.  Prairie Point Energy, L.L.C. (doing business as Nicor
Advanced Energy), a wholly owned business that provides natural gas and related
services on an unregulated basis to residential and small commercial
customers.
 
 Nicor
Enerchange.Nicor Enerchange, L.L.C., a wholly owned business
that engages in wholesale marketing of natural gas supply services primarily in
the Midwest, administers the Chicago Hub for Nicor Gas, and manages Nicor
Solutions’ and Nicor Advanced Energy’s product risks, including the purchase of
natural gas supplies.
 
 Nicor Gas.Northern
Illinois Gas Company (doing business as Nicor Gas Company) is a
regulated  wholly owned public utility business and one of the
nation’s largest distributors of natural gas.
 
 Nicor
Services.Nicor Energy Services Company,a wholly owned business
that provides customer and prospect management services to businesses and
product warranty contracts, heating, ventilation and air conditioning repair,
maintenance and installation services and equipment to retail markets, including
residential and small commercial customers.
 
 Nicor
Solutions.Nicor Solutions, L.L.C., a wholly owned business
that offers residential and small commercial customers energy-related products
that provide for natural gas cost stability and management of their utility
bill.
   Table of Contents
 NYMEX.  New York Mercantile
Exchange
 PBR.Performance-based
rate, a regulatory plan which ended on January 1, 2003, that provided economic
incentives based on natural gas cost performance.
 
 PCBs.Polychlorinated
Biphenyls.
 
 PGA.  Purchased Gas
Adjustment.
 
 SEC.The United
States Securities and Exchange Commission.
 
 SFAS.  Statement of
Financial Accounting Standards.
 
 TEL.Tropic
Equipment Leasing Inc., a wholly owned subsidiary of Nicor, holds the company’s
interests in Triton.
 
 TEU.Twenty-foot
equivalent unit, a measure of volume in containerized shipping equal to one
20-foot-long container.
 
 Triton.  Triton
Container Investments L.L.C., a cargo container leasing company in which Nicor
Inc. has an investment.
 
 Tropical
Shipping.A wholly owned business and a carrier of
containerized freight in the Bahamas and the Caribbean region.
 
 USEPA.  United
States Environmental Protection Agency.
     Table of Contents
 Part
      I - FINANCIAL INFORMATIONItem
      1.Financial
      StatementsNicor Inc.Condensed
      Consolidated Statements of Operations (Unaudited)(millions,
      except per share data)
 Three
      months ended
              
              
              Six
      months endedJune
      30
              
              
              June
      302008
              
              
              2007
              
              
              2008
              
              
              2007Operating
      revenuesGas
      distribution (includes revenue taxes of$36.7,
      $28.9, $117.0 and $101.2, respectively)
              
              $
              560.1
              
              
              $
              431.4
              
              
              $
              2,024.3
              
              
              $
              1,639.8Shipping
              
              
              102.6
              
              
              
              97.0
              
              
              
              200.3
              
              
              
              196.1Other
      energy ventures
              
              
              52.7
              
              
              
              45.1
              
              
              
              122.9
              
              
              
              121.7Corporate
      and eliminations
              
              
              (15.6
              )
              
              
              (16.6
              )
              
              
              (52.0
              )
              
              
              (66.0
              )Total
      operating revenues
              
              
              699.8
              
              
              
              556.9
              
              
              
              2,295.5
              
              
              
              1,891.6Operating
      expensesGas
      distributionCost
      of gas
              
              
              396.2
              
              
              
              281.6
              
              
              
              1,582.9
              
              
              
              1,230.0Operating
      and maintenance
              
              
              59.7
              
              
              
              62.1
              
              
              
              148.3
              
              
              
              141.8Depreciation
              
              
              42.9
              
              
              
              41.5
              
              
              
              85.7
              
              
              
              83.0Taxes,
      other than income taxes
              
              
              40.6
              
              
              
              33.2
              
              
              
              124.4
              
              
              
              109.1Mercury-related
      recoveries, net
              
              
              -
              
              
              
              -
              
              
              
              -
              
              
              
              (8.0
              )Property
      sale gains
              
              
              -
              
              
              
              (.8
              )
              
              
              -
              
              
              
              (.8
              )Shipping
              
              
              96.9
              
              
              
              88.7
              
              
              
              190.7
              
              
              
              177.9Other
      energy ventures
              
              
              41.7
              
              
              
              37.1
              
              
              
              110.9
              
              
              
              116.4Other
      corporate expenses and eliminations
              
              
              (18.8
              )
              
              
              (16.4
              )
              
              
              (51.2
              )
              
              
              (64.3
              )Total
      operating expenses
              
              
              659.2
              
              
              
              527.0
              
              
              
              2,191.7
              
              
              
              1,785.1Operating
      income
              
              
              40.6
              
              
              
              29.9
              
              
              
              103.8
              
              
              
              106.5Interest
      expense, net of amounts capitalized
              
              
              9.1
              
              
              
              10.1
              
              
              
              19.7
              
              
              
              23.9Equity
      investment income, net
              
              
              2.8
              
              
              
              1.2
              
              
              
              4.3
              
              
              
              2.0Interest
      income
              
              
              4.2
              
              
              
              3.2
              
              
              
              5.5
              
              
              
              4.8Other
      income, net
              
              
              .2
              
              
              
              -
              
              
              
              .2
              
              
              
              .2Income
      before income taxes
              
              
              38.7
              
              
              
              24.2
              
              
              
              94.1
              
              
              
              89.6Income
      tax expense
              
              
              9.8
              
              
              
              6.2
              
              
              
              23.8
              
              
              
              24.4Net
      income
              
              $
              28.9
              
              
              $
              18.0
              
              
              $
              70.3
              
              
              $
              65.2Average
      shares of common stock outstandingBasic
              
              
              45.3
              
              
              
              45.2
              
              
              
              45.3
              
              
              
              45.1Diluted
              
              
              45.3
              
              
              
              45.3
              
              
              
              45.3
              
              
              
              45.2Earnings
      per average share of common stockBasic
              
              $
              .64
              
              
              $
              .40
              
              
              $
              1.55
              
              
              $
              1.45Diluted
              
              
              .64
              
              
              
              .40
              
              
              
              1.55
              
              
              
              1.44Dividends
      declared per share of common stock
              
              $
              .465
              
              
              $
              .465
              
              
              $
              .930
              
              
              $
              .930The
      accompanying notes are an integral part of these
    statements.
 
  Table of Contents


Nicor Inc.Condensed
      Consolidated Statements of Cash Flows (Unaudited)(millions)Six
      months endedJune
      302008
            
            
            2007*
      As AdjustedOperating
      activitiesNet
      income
            
            $
            70.3
            
            
            $
            65.2Adjustments
      to reconcile net income to net cash flowprovided
      from operating activities:Depreciation
            
            
            95.1
            
            
            
            92.3Deferred
      income tax benefit
            
            
            (20.5
            )
            
            
            (6.9
            )Gain
      on sale of property, plant and equipment
            
            
            (.1
            )
            
            
            (.6
            )Changes
      in assets and liabilities:Receivables,
      less allowances
            
            
            128.2
            
            
            
            187.9Gas
      in storage
            
            
            78.3
            
            
            
            142.4Accrued
      gas costs
            
            
            41.2
            
            
            
            (43.9
            )Derivative
      instruments
            
            
            (163.4
            )
            
            
            (29.0
            )Margin
      accounts - derivative instruments
            
            
            91.2
            
            
            
            (5.2
            )Other
      assets
            
            
            (32.2
            )
            
            
            (18.5
            )Accounts
      payable and customer credit balances and deposits
            
            
            30.9
            
            
            
            (36.8
            )Temporary
      LIFO inventory liquidation
            
            
            399.2
            
            
            
            263.0Litigation
      charge
            
            
            -
            
            
            
            (10.0
            )Other
      liabilities
            
            
            (13.8
            )
            
            
            (25.8
            )Other
      items
            
            
            9.6
            
            
            
            12.8Net
      cash flow provided from operating activities
            
            
            714.0
            
            
            
            586.9Investing
      activitiesAdditions
      to property, plant & equipment
            
            
            (97.1
            )
            
            
            (78.4
            )Purchases
      of held-to-maturity securities
            
            
            (1.1
            )
            
            
            (1.3
            )Proceeds
      from sales or maturities of held-to-maturity securities
            
            
            1.4
            
            
            
            1.9Release
      of restricted short-term investments
            
            
            -
            
            
            
            10.0Net
      increase in other short-term investments
            
            
            (5.5
            )
            
            
            (17.5
            )Business
      acquisition, net of cash acquired
            
            
            (5.6
            )
            
            
            -Other
      investing activities
            
            
            6.2
            
            
            
            (2.7
            )Net
      cash flow used for investing activities
            
            
            (101.7
            )
            
            
            (88.0
            )Financing
      activitiesNet
      repayments of commercial paper with maturities of90
      days or less
            
            
            (351.0
            )
            
            
            (350.0
            )Dividends
      paid
            
            
            (42.2
            )
            
            
            (41.9
            )Proceeds
      from exercise of stock options
            
            
            -
            
            
            
            8.1Repayment
      of loan against cash surrender value of life insurance
      policies
            
            
            (11.2
            )
            
            
            -Other
      financing activities
            
            
            (.1
            )
            
            
            .4Net
      cash flow used for financing activities
            
            
            (404.5
            )
            
            
            (383.4
            )Net
      increase in cash and cash equivalents
            
            
            207.8
            
            
            
            115.5Cash
      and cash equivalents, beginning of period
            
            
            42.8
            
            
            
            41.1Cash
      and cash equivalents, end of period
            
            $
            250.6
            
            
            $
            156.6* 
      Prior
      periods were adjusted due to the retrospective application of FSP No. FIN
      39-1. See New Accounting Pronouncements footnote for further
      information.The
      accompanying notes are an integral part of these
    statements.






Table of Contents


Nicor Inc.Condensed Consolidated Balance Sheets
    (Unaudited)(millions)June
      30
              
              
              December
      31
              
              
              June
      302008
              
              
              2007
              
              
              2007Assets
              
              
              
              
              *
      As Adjusted
              
              
              *
      As AdjustedCurrent
      assetsCash
      and cash equivalents
              
              $
              250.6
              
              
              $
              42.8
              
              
              $
              156.6Short-term
      investments, at cost which approximates market
              
              
              53.2
              
              
              
              49.1
              
              
              
              33.8Receivables, less allowances of $55.5, $35.1 and $34.7,
      respectively
              
              
              514.6
              
              
              
              641.5
              
              
              
              359.4Gas
      in storage
              
              
              75.7
              
              
              
              154.0
              
              
              
              43.6Deferred
      income taxes
              
              
              49.4
              
              
              
              37.5
              
              
              
              34.1Derivative
      instruments
              
              
              226.4
              
              
              
              28.4
              
              
              
              23.5Other
              
              
              74.0
              
              
              
              89.8
              
              
              
              112.1Total
      current assets
              
              
              1,243.9
              
              
              
              1,043.1
              
              
              
              763.1Property,
      plant and equipment, at costGas
      distribution
              
              
              4,348.2
              
              
              
              4,279.7
              
              
              
              4,205.6Shipping
              
              
              312.2
              
              
              
              309.2
              
              
              
              303.8Other
              
              
              25.1
              
              
              
              22.8
              
              
              
              21.24,685.5
              
              
              
              4,611.7
              
              
              
              4,530.6Less
      accumulated depreciation
              
              
              1,905.3
              
              
              
              1,854.4
              
              
              
              1,809.9Total
      property, plant and equipment, net
              
              
              2,780.2
              
              
              
              2,757.3
              
              
              
              2,720.7Pension
      benefits
              
              
              223.2
              
              
              
              215.5
              
              
              
              166.9Long-term
      investments
              
              
              141.8
              
              
              
              132.9
              
              
              
              134.7Other
      assets
              
              
              166.6
              
              
              
              122.5
              
              
              
              168.5Total
      assets
              
              $
              4,555.7
              
              
              $
              4,271.3
              
              
              $
              3,953.9Liabilities and
      CapitalizationCurrent
      liabilitiesLong-term
      debt due within one year
              
              $
              125.0
              
              
              $
              75.0
              
              
              $
              -Short-term
      debt
              
              
              18.0
              
              
              
              369.0
              
              
              
              -Accounts
      payable
              
              
              555.1
              
              
              
              428.2
              
              
              
              368.8Customer
      credit balances and deposits
              
              
              138.5
              
              
              
              234.5
              
              
              
              156.5Temporary
      LIFO inventory liquidation
              
              
              399.2
              
              
              
              -
              
              
              
              263.0Accrued
      gas costs
              
              
              91.3
              
              
              
              50.1
              
              
              
              6.1Dividends
      payable
              
              
              21.0
              
              
              
              21.0
              
              
              
              21.0Margin accounts - derivative instruments
              
              
              79.4
              
              
              
              -
              
              
              
              -Other
              
              
              133.9
              
              
              
              117.9
              
              
              
              143.0Total
      current liabilities
              
              
              1,561.4
              
              
              
              1,295.7
              
              
              
              958.4Deferred
      credits and other liabilitiesRegulatory
      asset retirement cost liability
              
              
              739.8
              
              
              
              720.7
              
              
              
              698.4Deferred
      income taxes
              
              
              399.4
              
              
              
              400.4
              
              
              
              391.7Health
      care and other postretirement benefits
              
              
              186.2
              
              
              
              185.1
              
              
              
              183.3Asset
      retirement obligation
              
              
              181.6
              
              
              
              177.5
              
              
              
              173.2Regulatory
      income tax liability
              
              
              48.1
              
              
              
              49.5
              
              
              
              52.2Unamortized
      investment tax credits
              
              
              26.4
              
              
              
              27.5
              
              
              
              28.6Other
              
              
              55.0
              
              
              
              46.3
              
              
              
              53.6Total
      deferred credits and other liabilities
              
              
              1,636.5
              
              
              
              1,607.0
              
              
              
              1,581.0Commitments
      and contingenciesCapitalizationLong-term
      obligationsLong-term
      debt, net of unamortized discount
              
              
              372.9
              
              
              
              422.8
              
              
              
              497.6Mandatorily
      redeemable preferred stock
              
              
              .6
              
              
              
              .6
              
              
              
              .6Total
      long-term obligations
              
              
              373.5
              
              
              
              423.4
              
              
              
              498.2Common
      equityCommon
      stock
              
              
              112.9
              
              
              
              112.8
              
              
              
              112.8Paid-in
      capital
              
              
              46.6
              
              
              
              44.8
              
              
              
              43.8Retained
      earnings
              
              
              823.5
              
              
              
              795.5
              
              
              
              767.6Accumulated
      other comprehensive income (loss), net
              
              
              1.3
              
              
              
              (7.9
              )
              
              
              (7.9
              )Total
      common equity
              
              
              984.3
              
              
              
              945.2
              
              
              
              916.3Total
      capitalization
              
              
              1,357.8
              
              
              
              1,368.6
              
              
              
              1,414.5Total
      liabilities and capitalization
              
              $
              4,555.7
              
              
              $
              4,271.3
              
              
              $
              3,953.9*
              Prior periods were adjusted due to the retrospective application of FSP
      No. FIN 39-1.  See New Accounting Pronouncements footnote for further
      information.The
      accompanying notes are an integral part of these
    statements.




Table of Contents


Nicor Inc.
 
 Notes
to the Condensed Consolidated Financial Statements (Unaudited)
 
 1.
              BASIS
      OF PRESENTATION
 
 The
unaudited Condensed Consolidated Financial Statements of Nicor have been
prepared by the company pursuant to the rules and regulations of the
SEC.  Certain information and note disclosures normally included in
financial statements prepared in accordance with accounting principles generally
accepted in the United States have been condensed or omitted pursuant to SEC
rules and regulations.  The unaudited Condensed Consolidated Financial
Statements and Notes should be read in conjunction with the financial statements
and the notes thereto included in the company’s 2007 Annual Report on Form 10-K.
 
 The
information furnished reflects, in the opinion of the company, all adjustments
(consisting only of normal recurring adjustments and adjustments to reflect the
changes in accounting policy as described in Note 3 – New Accounting
Pronouncements) 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.
 
 2.
              ACCOUNTING
      POLICIES
 
 Gas in storage.  Gas
distribution segment inventory is carried at cost on a LIFO
basis.  Inventory decrements occurring during interim periods that are
expected to be restored prior to year-end are charged to cost of gas at the
estimated annual replacement cost, and the difference between this cost and the
actual LIFO layer cost is recorded on the balance sheet as a current temporary
LIFO liquidation.  Interim inventory decrements not expected to be
restored prior to year-end are charged to cost of gas at the actual LIFO cost of
the layers liquidated.  The inventory decrement as of June 30, 2008 is
expected to be restored prior to year-end.
 
 Nicor
Enerchange inventory is carried at the lower of weighted-average cost or market
(market is represented by the cash price per the close of business on the last
trading day of the period).  In 2007, Nicor Enerchange recorded a
charge of $5.0 million in the second quarter resulting from a lower of cost or
market valuation.
 
 Regulatory assets and
liabilities.  Nicor Gas is regulated by the ICC, which
establishes the rules and regulations governing utility rates and services in
Illinois.  As a rate-regulated company, Nicor Gas applies SFAS No. 71,
Accounting for the Effects of
Certain Types of Regulation, which requires Nicor Gas to recognize the
economic effects of rate regulation and, accordingly, has recorded regulatory
assets and liabilities.  Regulatory assets represent probable future
revenue associated with certain costs that are expected to be recovered from
customers through rate riders or base rates, upon approval by the
ICC.  Regulatory liabilities represent probable future reductions in
revenues collected from ratepayers through a rate rider or base
rates.  If Nicor Gas’ operations become no longer subject to the
provisions of SFAS No. 71, a write-off of net regulatory liabilities would be
required.
 
  4
 
 Table of Contents
  The
company had regulatory assets and liabilities as follows (in
millions):
 
 June
      30
              
              
              December
      31
              
              
              June
      302008
              
              
              2007
              
              
              2007Regulatory
      assetsRegulatory
      postretirement asset – current
              
              $
              5.2
              
              
              $
              5.2
              
              
              $
              8.8Regulatory
      postretirement asset – noncurrent
              
              
              61.9
              
              
              
              64.2
              
              
              
              102.2Deferred
      environmental costs
              
              
              8.0
              
              
              
              9.5
              
              
              
              11.7Unamortized
      losses on reacquired debt
              
              
              15.9
              
              
              
              16.5
              
              
              
              17.0Deferred
      rate case costs
              
              
              4.2
              
              
              
              2.6
              
              
              
              2.8Other
              
              
              .1
              
              
              
              .1
              
              
              
              1.4$
              95.3
              
              
              $
              98.1
              
              
              $
              143.9
 
 Regulatory
      liabilitiesRegulatory
      asset retirement cost liability – current
              
              $
              8.0
              
              
              $
              8.0
              
              
              $
              8.0Regulatory
      asset retirement cost liability – noncurrent
              
              
              739.8
              
              
              
              720.7
              
              
              
              698.4Accrued
      gas costs
              
              
              91.3
              
              
              
              50.1
              
              
              
              6.1Regulatory
      income tax liability
              
              
              48.1
              
              
              
              49.5
              
              
              
              52.2Other
              
              
              6.1
              
              
              
              1.1
              
              
              
              -$
              893.3
              
              
              $
              829.4
              
              
              $
              764.7
 
 The
current portion of the regulatory postretirement asset is classified in current
other assets and all other regulatory assets are classified in noncurrent other
assets.  The current portion of the regulatory asset retirement cost
liability is classified in current other liabilities.  Regulatory
liabilities – other is classified in noncurrent other liabilities.
 
 The ICC
does not presently allow Nicor Gas the opportunity to earn a return on its
regulatory postretirement asset.  This regulatory asset is expected to
be recovered from ratepayers over a period of approximately 10 to 15
years.  The regulatory assets related to debt are not included in rate
base, but are recovered over the term of the debt through the rate of return
authorized by the ICC.
 
 Goodwill.  Tropical
Shipping had goodwill of $18.7 million, $15.6 million and $15.6 million at June
30, 2008, December 31, 2007 and June 30, 2007, respectively.  The
increase in goodwill from December 31, 2007 to June 30, 2008 is due to the
acquisition of the assets of Caribtran, Inc., a provider of less-than-container
load and full container load consolidation services from the United States to
the Caribbean and Central America.
 
 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, 2008 were $36.1
million and $115.0 million, respectively, and $28.5 million and $99.6 million,
respectively, for the same periods ending June 30, 2007.
 
 Mercury-related recoveries,
net.  Mercury-related recoveries, net reflect the estimated
costs, recoveries and reserve adjustments associated with the company’s mercury
inspection and repair program.
 
 Reclassifications.Certain
reclassifications have been made to conform the prior year’s financial
statements to the current year’s presentation.
 
 
  5
 
 Table of Contents
  3.
              NEW
      ACCOUNTING PRONOUNCEMENTS
 
 Fair value
measurements.  Effective January 1, 2008, the
company adopted SFAS No. 157, Fair Value Measurements,
which defines fair value, establishes a consistent framework for measuring fair
value, and expands disclosure requirements about fair value
measurements.  This Statement does not require any new fair value
measurements, rather it provides guidance on how to perform fair value
measurements as required or permitted under other accounting
pronouncements. It also provides for immediate recognition of trade-date
gains and losses related to certain derivative transactions whose fair value has
been determined using unobservable market inputs.  Nicor elected the
one-year deferral allowed by FSP SFAS 157-2, Effective Date of FASB Statement No.
157,for
certain nonfinancial assets and liabilities.  As it applies to Nicor,
the deferral pertains to fair value measurements for business combinations,
impairment testing of goodwill and other intangible assets, as well as asset
retirement obligations.  The effect of adopting SFAS No. 157 was not
material to Nicor’s results of operations or financial condition.
 
 Offsetting of amounts related to
certain contracts.  Effective January 1, 2008, Nicor adopted
FSP No. FIN 39-1,Amendment of
FIN 39, Offsetting of Amounts Related to Certain
Contracts.  This FSP amends FIN 39 to replace the terms
“conditional contracts” and “exchange contracts” with the term “derivative
instruments” as defined in SFAS No. 133,Accounting for Derivative
Instruments and Hedging Activities.  Also, this FSP provides
guidance on whether the receivable or liability recognized upon payment or
receipt of cash collateral in a master netting agreement must be offset against
fair value amounts recognized for contracts that have been offset in the same
master netting agreement.   Upon adoption of this FSP, the company
elected not to offset fair value assets and liabilities recognized for
derivative instruments.  As a result, any related cash collateral is
not offset against the derivatives.
 
 This FSP
was required to be applied retrospectively to all prior periods. As a result of
the application of this FSP, the company’s Condensed Consolidated Balance Sheets
line items increased (decreased) by the following amounts (in
millions):
 June
      30 2008
              
              
              December
      31 2007
              
              
              June
      30
                2007AssetsReceivables
              
              $
              (37.9
              )
              
              $
              (22.5
              )
              
              $
              (25.3
              )Derivative
      instruments
              
              
              160.8
              
              
              
              13.0
              
              
              
              12.5Current
      other assets
              
              
              17.0
              
              
              
              28.8
              
              
              
              50.3LiabilitiesMargin
      accounts – derivative instruments
              
              $
              79.4
              
              
              $
              -
              
              
              $
              -Current
      other liabilities
              
              
              60.5
              
              
              
              19.3
              
              
              
              37.5
 
 Defined benefit pension and other
postretirement plans.On December 31, 2006, Nicor adopted the recognition
provisions of SFAS No. 158, Employers’ Accounting for Defined
Benefit Pension and Other Postretirement Plans.In addition,
SFAS No. 158requires Nicor to
change its plan measurement date to match its fiscal year-end.  Such
provision is effective for Nicor no later than December 31, 2008 and will be
adopted prospectively at that time.  In accordance with SFAS No. 158,
Nicor has elected to use a 15-month approach for transitioning from an October 1
measurement date to a December 31 measurement date.  An adjustment to
retained earnings will be recorded on December 31, 2008 to account for the
transition since the total impact will not be known until the December 31, 2008
actuarial valuation of the plan is complete.
 
  6
 
 Table of Contents
  4.
              RESTRICTED
      SHORT-TERM INVESTMENTS
 
 In July
2006, Nicor reached a tentative agreement with the staff of the Enforcement
Division of the SEC in settlement of an anticipated civil action against the
company for a payment of $10 million.  At that time, the company
deposited $10 million in an escrow account pending review and final approval of
the tentative settlement by the SEC commissioners.  The SEC
commissioners approved the tentative settlement in March 2007.  A
final judgment, dated April 30, 2007, was entered by a federal court approving
the settlement and the funds held in escrow were released.
 
 5.
              SHORT-TERM
      AND LONG-TERM DEBT
 
 In April
2008, Nicor Gas entered into an agreement for the issuance of $75 million First
Mortgage Bonds at 6.25 percent, due in 2038.  The issuance is expected
to occur, subject to the satisfaction of the conditions in the underlying
agreements, on the maturity date of the $75 million 5.875 percent First Mortgage
Bond series due in August 2008.
 
 In
October 2007, Nicor Gas established a $400 million, 210-day seasonal revolver,
which expired in May 2008, to replace the $400 million, 210-day seasonal
revolver, which expired in May 2007.  In September 2005, Nicor and
Nicor Gas established a $600 million, five-year revolver, expiring September
2010.  These facilities were established with major domestic and
foreign banks and serve as backup for the issuance of commercial
paper.  The company had $18 million and $369 million of commercial
paper borrowings outstanding at June 30, 2008 and December 31, 2007,
respectively.  The company had no commercial paper borrowings
outstanding at June 30, 2007.
 
 The
company believes it is in compliance with all debt covenants.
 
 6.         INCOME
TAXES
 
 The
effective income tax rate for the three months ended June 30, 2008 decreased to
25.3 percent from 25.6 percent for the prior-year period.  The
effective income tax rate for the six months ended June 30, 2008 decreased to
25.3 percent from 27.2 percent for the prior-year period.  The lower
effective income tax rate for 2008 reflects the impact of lower projected annual
pretax income (which causes a lower effective income tax rate since permanent
differences and tax credits are a larger share of pretax income) and tax reserve
adjustments offset, in part, by lower untaxed foreign shipping
earnings.
 
 In 2006,
the company reorganized certain shipping and related operations.  The
reorganization allows the company to take advantage of certain provisions of the
Jobs Act that provide the opportunity for tax savings subsequent to the date of
the reorganization. Generally, to the extent foreign shipping earnings are not
repatriated to the United States, such earnings are not expected to be subject
to current taxation.  In addition,
to the extent such earnings are determined to be indefinitely reinvested
offshore, no deferred income tax expense would be recorded by the
company.  For the three and six months ended June 30, 2008, income tax
expense has not been provided on approximately $3 million of foreign company
shipping earnings that are expected to be indefinitely reinvested offshore
compared to approximately $5 million and $13 million, respectively, for the
comparable periods in 2007.  As of June 30, 2008, Nicor has not
recorded deferred income taxes of approximately $44 million on approximately
$126 million of cumulative undistributed foreign earnings that are expected in
management’s judgment to be indefinitely reinvested offshore.
 
 The
company’s liability for unrecognized tax benefits was $8.0 million at June 30,
2008 of which about $1 million, if recognized, would impact the company’s
effective income tax rate.  The increase in unrecognized tax benefits
from $5.7 million at December 31, 2007 is due primarily to an item concerning
the timing of inclusion in taxable income of recoveries for environmental
clean-up expenditures, partially offset by settlements and adjustments to
estimates.  The company believes that it is reasonably possible
   Table of Contents
  that a
change in its unrecognized tax benefits could occur within 12 months,
potentially increasing by $7 million or decreasing by $13 million its
unrecognized tax benefits.
 
 The
company has approximately $7 million of net interest receivable related to
interest and penalties at June 30, 2008 compared with $8 million of net interest
payable related to interest and penalties at December 31, 2007.  The
change is due primarily to an interest payment made in the second quarter of
2008.
 
 7.
              ACCRUED
      UNBILLED REVENUES
 
 Receivables
include accrued unbilled revenues of $58.6 million, $191.2 million and $61.6
million at June 30, 2008, December 31, 2007 and June 30, 2007, 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.
 
 8.         FAIR
VALUE
 
 Effective
January 1, 2008, SFAS No. 157, Fair Value Measurements,
defines a three-level hierarchy which prioritizes the inputs to valuation
techniques used to measure fair value into three broad levels, with Level 1
considered the most reliable.  For assets and liabilities measured at
fair value on a recurring basis on the Condensed Consolidated Balance Sheets,
the table below categorizes those fair values across the three levels as of June
30, 2008 (in millions):
 
 Fair
      Value AmountQuoted
      Prices in Active Markets
              
              
              Significant
      Observable Inputs
              
              
              Significant
      Unobservable Inputs(Level 1)
              
              
              (Level 2)
              
              
              (Level 3)
              
              
              TotalAssetsCommodity
      Derivatives:Financial
      - current
              
              $
              158.1
              
              
              $
              55.2
              
              
              $
              1.3
              
              
              $
              214.6Financial
      - noncurrent
              
              
              -
              
              
              
              3.3
              
              
              
              -
              
              
              
              3.3Physical
      - current
              
              
              -
              
              
              
              4.0
              
              
              
              7.8
              
              
              
              11.8Physical
      - noncurrent
              
              
              -
              
              
              
              .4
              
              
              
              .9
              
              
              
              1.3Total
              
              $
              158.1
              
              
              $
              62.9
              
              
              $
              10.0
              
              
              $
              231.0LiabilitiesCommodity
      Derivatives:Financial
      - current
              
              $
              53.2
              
              
              $
              9.5
              
              
              $
              1.3
              
              
              $
              64.0Physical
      - current
              
              
              -
              
              
              
              .7
              
              
              
              1.7
              
              
              
              2.4Physical
      - noncurrent
              
              
              -
              
              
              
              -
              
              
              
              .1
              
              
              
              .1Total
              
              $
              53.2
              
              
              $
              10.2
              
              
              $
              3.1
              
              
              $
              66.5
 
 When
available and appropriate, the company uses quoted market prices in active
markets to determine fair value, and classifies such items within Level
1.  Level 1 values only include derivative instruments traded on the
NYMEX.  The company enters into over-the-counter instruments with
values that are similar to, and correlate with, quoted prices for
exchange-traded instruments in active markets; these over-the-counter items are
classified within Level 2.  In certain instances, the company may be
required to use one or more significant unobservable inputs for a model-derived
valuation; the resulting valuation is classified as Level 3.
 
 
  8
 
 Table of Contents
  The net
fair value of commodity derivatives relates largely to Nicor Gas.  The
majority of derivatives held by Nicor Gas are for the purpose of hedging natural
gas purchases for its customers, and therefore their values do not affect net
income, as their settlement is passed directly through to customers without
markup, subject to ICC review.  The change in fair value for these
derivatives is accounted for through regulatory assets and
liabilities.
 
 The
current asset portion of the derivatives is stated separately within current
assets on the Condensed Consolidated Balance Sheets.  The current
liabilities and the noncurrent assets and liability noted in the above table are
classified as other.
 
 The
following table presents a reconciliation of the Level 3 beginning and ending
net derivative asset balance for the periods ended June 30, 2008 (in
millions):
 
 Three
      months ended
              
              
              Six
      months
                endedBeginning
      of Period
              
              $
              9.3
              
              
              $
              8.2Net
      realized/unrealized gainsIncluded
      in regulatory assets and liabilities
              
              
              -
              
              
              
              5.9Included
      in net income
              
              
              -
              
              
              
              2.5Settlements,
      net of purchases
              
              
              (1.0
              )
              
              
              (8.2
              )Transfers
      in and/or out of Level 3
              
              
              (1.4
              )
              
              
              (1.5
              )End
      of period
              
              $
              6.9
              
              
              $
              6.9Net
      realized/unrealized gains included in net income
                relating
      to derivatives still held at June 30, 2008
              
              $
              -
              
              
              $
              2.5
 Net realized/unrealized gainsincluded in net income are attributable to
Nicor Enerchange and are classified asoperating revenues.
 
 Nicor
maintains margin accounts related to financial derivative
transactions.  As of June 30, 2008, Nicor Gas recorded $79.3
million in margin accounts - derivative instruments and Nicor Enerchange
recorded $17.0 million in current other assets related to margin
accounts.  The company’s policy is not to offset fair value assets and
liabilities recognized for derivative instruments or any related margin
account.
 
 The
recorded amount of short-term investments, restricted 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, net of unamortized
discounts.  The principal balance of Nicor Gas’ First Mortgage Bonds
outstanding at June 30, 2008, December 31, 2007 and June 30, 2007 was $500
million.  Based on quoted market interest rates, the fair value of the
company’s First Mortgage Bonds outstanding was approximately $503 million at
June 30, 2008, $513 million at December 31, 2007 and $505 million at June
30, 2007.
 
 9.
              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 collectively bargained employees.  The benefit obligation
related to collectively bargained employee 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 limits on the company’s share of cost for
employees hired after 1982.  The company’s postretirement benefit
costs have historically been considered in rate proceedings in the period they
are accrued.  To the extent Nicor Gas employees
   Table of Contents
  perform
services for non-regulated affiliates and to the extent such employees are
eligible to participate in these plans, the affiliates are charged for the cost
of these benefits.
 
 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
of amounts charged to affiliates.  Net periodic benefit cost (credit)
included the following components (in millions):
  Pension
      benefits
              
              
              Health
      care and
                other
      benefits2008
              
              
              2007
              
              
              2008
              
              
              2007Three
      months ended June 30Service
      cost
              
              $
              2.2
              
              
              $
              2.3
              
              
              $
              .5
              
              
              $
              .6Interest
      cost
              
              
              3.9
              
              
              
              3.8
              
              
              
              3.0
              
              
              
              2.7Expected
      return on plan assets
              
              
              (10.0
              )
              
              
              (9.0
              )
              
              
              -
              
              
              
              -Recognized
      net actuarial loss
              
              
              -
              
              
              
              -
              
              
              
              1.1
              
              
              
              1.2Amortization
      of prior service cost
              
              
              .1
              
              
              
              .1
              
              
              
              -
              
              
              
              -Net
      periodic benefit cost (credit)
              
              $
              (3.8
              )
              
              $
              (2.8
              )
              
              $
              4.6
              
              
              $
              4.5Six
      months ended June 30Service
      cost
              
              $
              4.3
              
              
              $
              4.6
              
              
              $
              1.0
              
              
              $
              1.2Interest
      cost
              
              
              7.9
              
              
              
              7.5
              
              
              
              6.0
              
              
              
              5.4Expected
      return on plan assets
              
              
              (20.0
              )
              
              
              (18.0
              )
              
              
              -
              
              
              
              -Recognized
      net actuarial loss
              
              
              -
              
              
              
              -
              
              
              
              2.3
              
              
              
              2.3Amortization
      of prior service cost
              
              
              .2
              
              
              
              .3
              
              
              
              -
              
              
              
              -Net
      periodic benefit cost (credit)
              
              $
              (7.6
              )
              
              $
              (5.6
              )
              
              $
              9.3
              
              
              $
              8.9
 
 10.
              EQUITY
      INVESTMENT INCOME, NET
 
 Net
equity investment income includes investment income from Triton of $2.2 million
and $3.2 million, respectively, for the three and six months ended June 30, 2008
and $1.3 million and $2.2 million for the same periods ended June 30, 2007,
respectively.  Nicor received cash distributions from equity investees
for the three and six months ended June 30, 2008 of $4.0 million and $7.3
million, respectively, and $2.2 million and $6.3 million, respectively, for the
same periods ended June 30, 2007.
 
 11.
              COMPREHENSIVE
      INCOME
 
 Total
comprehensive income is as follows (in millions):
 
 Three
      months ended
              
              
              Six
      months endedJune
      30
              
              
              June
      302008
              
              
              2007
              
              
              2008
              
              
              2007Net
      income
              
              $
              28.9
              
              
              $
              18.0
              
              
              $
              70.3
              
              
              $
              65.2Other
      comprehensive income (loss), after tax
              
              
              4.0
              
              
              
              (1.3
              )
              
              
              9.2
              
              
              
              5.4Total
      comprehensive income
              
              $
              32.9
              
              
              $
              16.7
              
              
              $
              79.5
              
              
              $
              70.6
  Other
comprehensive income (loss) consists primarily of net 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.
   Table of Contents
 
 12.      BUSINESS
SEGMENT INFORMATION
 
 Financial
data by major business segment is presented below (in millions):
 
 Gas
      distribution
              
              
              Shipping
              
              
              Other
      energy ventures
              
              
              Corporate
      and
                eliminations
              
              
              ConsolidatedThree
      months ended June 30, 2008Operating
      revenuesExternal
      customers
              
              $
              543.3
              
              
              $
              102.6
              
              
              $
              53.9
              
              
              $
              -
              
              
              $
              699.8Intersegment
              
              
              16.8
              
              
              
              -
              
              
              
              (1.2
              )
              
              
              (15.6
              )
              
              
              -$
              560.1
              
              
              $
              102.6
              
              
              $
              52.7
              
              
              $
              (15.6
              )
              
              $
              699.8Operating
      income
              
              $
              20.7
              
              
              $
              5.7
              
              
              $
              11.0
              
              
              $
              3.2
              
              
              $
              40.6Three
      months ended June 30, 2007Operating
      revenuesExternal
      customers
              
              $
              416.7
              
              
              $
              97.0
              
              
              $
              43.2
              
              
              $
              -
              
              
              $
              556.9Intersegment
              
              
              14.7
              
              
              
              -
              
              
              
              1.9
              
              
              
              (16.6
              )
              
              
              -$
              431.4
              
              
              $
              97.0
              
              
              $
              45.1
              
              
              $
              (16.6
              )
              
              $
              556.9Operating
      income (loss)
              
              $
              13.8
              
              
              $
              8.3
              
              
              $
              8.0
              
              
              $
              (.2
              )
              
              $
              29.9Six
      months ended June 30, 2008Operating
      revenuesExternal
      customers
              
              $
              1,976.0
              
              
              $
              200.3
              
              
              $
              119.2
              
              
              $
              -
              
              
              $
              2,295.5Intersegment
              
              
              48.3
              
              
              
              -
              
              
              
              3.7
              
              
              
              (52.0
              )
              
              
              -$
              2,024.3
              
              
              $
              200.3
              
              
              $
              122.9
              
              
              $
              (52.0
              )
              
              $
              2,295.5Operating
      income (loss)
              
              $
              83.0
              
              
              $
              9.6
              
              
              $
              12.0
              
              
              $
              (.8
              )
              
              $
              103.8Six
      months ended June 30, 2007Operating
      revenuesExternal
      customers
              
              $
              1,593.0
              
              
              $
              196.1
              
              
              $
              102.5
              
              
              $
              -
              
              
              $
              1,891.6Intersegment
              
              
              46.8
              
              
              
              -
              
              
              
              19.2
              
              
              
              (66.0
              )
              
              
              -$
              1,639.8
              
              
              $
              196.1
              
              
              $
              121.7
              
              
              $
              (66.0
              )
              
              $
              1,891.6Operating
      income (loss)
              
              $
              84.7
              
              
              $
              18.2
              
              
              $
              5.3
              
              
              $
              (1.7
              )
              
              $
              106.5
 
 The
majority of intersegment revenues represent gas distribution revenues related to
customers entering into utility-bill management contracts with Nicor
Solutions.  Under the utility-bill management contracts, Nicor
Solutions bills a fixed amount to a customer, regardless of changes in natural
gas prices or weather, and in exchange pays the customer’s utility bills from
Nicor Gas.  Intersegment revenues are eliminated in the Condensed
Consolidated Financial Statements.
 
 Benefits
(costs) associated with Nicor’s other energy ventures’ utility-bill management
contracts attributable to warmer (colder) than normal weather for the three and
six months ended June 30, 2008 were ($0.2) million and ($4.0) million,
respectively, and $0.5 million and ($0.1) million, respectively, for the same
periods in 2007.  This benefit (cost) is recorded at the corporate
level as a result of an agreement between the parent company and certain of its
subsidiaries.  The weather impact of these contracts generally serves
to partially offset the gas distribution segment’s weather
risk.
  11
 
 Table of Contents
  13.
              RATE
      PROCEEDING
 
 On April
29, 2008, Nicor Gas filed with the ICC for an overall increase in rates of
$140.3 million.  The company’s filing provides for a rate of return on
rate base of 9.21 percent, which reflects an 11.05 percent cost of common
equity.  The requested rate increase is needed to recover higher
operating costs and increased capital investments.
 
 In its
rate filing, Nicor Gas has proposed some new rate adjustment
mechanisms.  These include mechanisms that would adjust rates to
reflect certain changes in the company’s bad debt expense and cost of gas used
for operations.  Also included are a volume balancing rider that would
adjust rates to recover fixed costs, an energy efficiency rider that would fund
energy efficiency programs and a rider that would adjust rates to recover a
portion of capital expenditures incurred to replace certain older
infrastructure.
 
 The ICC
normally has 11 months to complete its review of the filing and to issue an
order.  The proposed rate increase has been suspended pending the
completion of the ICC’s review.
 
 14.
              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 pay the
obligations should its affiliates default.  The obligations of the
company’s wholly owned subsidiaries are reflected in Nicor’s Condensed
Consolidated Balance Sheets, while the obligations of its unconsolidated equity
investments are not.
 
 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 approximately $5 million at June 30,
2008.  Nicor believes the likelihood of any such payment by TEL is
either remote, or the fair value of the indemnification was immaterial, and no
liability has been recorded for this contingent liability.
 
 Performance guarantees.Nicor
Services markets separately priced product warranty contracts that provide for
the repair of heating, ventilation and air conditioning 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
$1.6 million and $3.3 million were incurred in the three and six months ended
June 30, 2008, respectively, and $1.5 million and $3.2 million, respectively,
for the same periods last year.
 
 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
clean-up, as discussed in Note 15 – Contingencies – Manufactured Gas Plant
Sites, Nicor believes that the likelihood of payment under these
indemnifications is either remote, or the fair value of the indemnification was
immaterial, and no liability has been recorded for these
indemnifications.
 
 
  12
 
 Table of Contents
  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.  There is generally no limitation as to the
amount.  During 2007, the SEC filed a civil injunctive action against
three former officers of Nicor relating to the PBR Plan.  Defense
costs that are being incurred by these former officers in connection with the
SEC action currently are being tendered to, and paid by, the company’s
insurer.  While the company does not expect to incur significant costs
relating to the indemnification of present and former directors, officers and
employees after taking into account available insurance, it is not possible to
estimate the maximum future potential payments.
 
 15.
              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.
 
 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 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 (“IAGO”) has also intervened in this matter.  In addition, the
IAGO 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.  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.
 
 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 prior years’
financial statements resulting in a $24.8 million liability.  Included
in such $24.8 million liability is a $4.1 million loss contingency.  A
$1.8 million adjustment to the previously recorded liability, which is discussed
below, was made in 2004 increasing the recorded liability to $26.6
million.  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.  In addition, interest due to the company on certain components
of these amounts has not been recognized in the financial statements due to the
same uncertainties.  By the end of 2003, the company completed steps
to correct the weaknesses and deficiencies identified in the detailed study of
the adequacy of internal controls.
   Table of Contents
 
 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 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.  In 2004,
the evidentiary hearings on this matter were stayed in order to permit the
parties 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.  In December 2006, the
additional third party discovery from EKT was obtained, Nicor Gas withdrew its
previously filed testimony and the Administrative Law Judges issued a scheduling
order that provided for Nicor Gas to submit direct testimony by April 13,
2007.  In its direct testimony filed pursuant to the scheduling order,
Nicor Gas seeks a reimbursement of approximately $6 million, which includes
interest due to the company as noted above of $1.6 million, as of March 31,
2007.  No date has been set for evidentiary hearings on this
matter.
 
 In 2004,
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.  Review of additional information
completed in 2004 resulted in the $1.8 million adjustment to the previously
recorded liability referenced above.
 
 Although
the Report of the special committee’s counsel did not find that there was
criminal activity or fraud, a review of this additional information (which was
not available to the independent counsel who prepared the Report) and
re-interviews of certain Nicor Gas personnel in 2004 indicated that certain
former 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 former Nicor Gas
personnel also may have attempted to conceal their conduct in connection with an
ICC review of the PBR plan.  The company has reviewed all third party
information it has obtained and will continue to review any additional third
party information the company may obtain.  The company terminated four
employees in connection with this matter in 2004.
 
 Nicor is
unable to predict the outcome of the ICC’s review 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,
2008.
 
 
 Table of Contents
  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.
 
 In the
first quarter of 2007, Nicor Gas recorded a $7.2 million reduction to its
previously established reserve for mercury-related matters.  The
reduction was attributable primarily to the favorable settlement during that
quarter of certain lawsuits that had been pending against Nicor
Gas.  As of June 30, 2008, Nicor Gas had remaining an estimated
liability of $2.3 million related to inspection, clean-up and legal defense
costs.  This represents management’s best estimate of future costs
based on an evaluation of currently available information.  Actual
costs may vary from this estimate.
 
 Nicor Gas
remains a defendant in several private lawsuits, all in the Circuit Court of
Cook County, Illinois, seeking a variety of unquantified damages (including
bodily injury and property damages) allegedly caused by mercury spillage
resulting from the removal of mercury-containing
regulators.  Potential liabilities relating to these claims have been
assumed by a contractor’s insurer subject to certain limitations.
 
 Nicor Gas
continues to pursue recovery from insurers and independent contractors that had
performed work for the company.  In the first quarter of 2007, the
company recorded a net recovery of approximately $0.8 million.
 
 The final
disposition of these mercury-related matters is not expected to have a material
adverse impact on the company’s liquidity or 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 clean-up of
coal tar at certain former manufactured gas plant sites.
 
 To date,
Nicor Gas has identified about 40 properties for which it may have some
responsibility.  Most of these properties are not presently owned by
the company.  Nicor Gas and Commonwealth Edison Company (“ComEd”) are
parties to an interim agreement to cooperate in cleaning up residue at many of
these properties.  Under the interim agreement, mutually agreed costs
are to be evenly split between Nicor Gas and ComEd until such time as they are
finally allocated either through negotiation or arbitration.  On April
17, 2006, Nicor Gas initiated arbitration to determine the final allocations of
these costs between Nicor Gas and ComEd.  On January 3, 2008, Nicor
Gas and ComEd entered into a definitive agreement concerning final cost
allocations.  The definitive agreement allocates to Nicor Gas 51.73
percent of clean-up costs for twenty-four sites, no portion of the clean-up
costs for fourteen other sites and 50 percent of general remediation program
costs that do not relate exclusively to particular sites.  The
definitive agreement is subject, among other things, to approval by the
ICC.  The arbitration that was initiated by Nicor Gas in 2006
currently is stayed pursuant to the arbitration panel’s order and is expected to
be stayed pending the ICC review of the definitive allocation
agreement.  Information regarding preliminary site reviews has been
presented to the Illinois Environmental Protection Agency 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 will determine the extent additional
remediation is necessary and provide a basis for estimating additional future
costs.  As of June 30, 2008, the company had recorded a liability in
connection with these matters of $12.7 million.  In accordance with
ICC authorization, the company has been recovering, and expects to continue to
recover, these costs from its customers, subject to annual prudence
reviews.
 
 In
December 2001, a purported class action lawsuit was filed against Exelon
Corporation, ComEd and Nicor Gas in the Circuit Court of Cook County alleging,
among other things, that the clean-up of a former manufactured gas plant site in
Oak Park, Illinois was inadequate.  Additional lawsuits were later
filed related to this same former manufactured gas plant site.  These
lawsuits have sought, in part, unspecified damages for property damage,
nuisance, and various personal injuries that allegedly resulted from exposure to
contaminants allegedly emanating from the site, injunctive relief to compel the
defendants to
   Table of Contents
  engage in
various clean-up activities and punitive damages.  An agreement in
principle to settle the purported class action was reached in the first quarter
of 2006 at which time a $2.3 million reserve for this matter was recorded by the
company.  The settlement was approved by the trial court and the
lawsuit was dismissed during the second quarter of 2007.  Under the
settlement, the company made a payment of $2.2 million which was charged against
a previously established reserve.  The remaining lawsuits relating to
the Oak Park site were settled and the claims dismissed during the first quarter
of 2008. In accordance with ICC authorization, the company expects to recover
costs of such settlements from its customers, subject to an annual prudence
review.
 
 In April
2002, Nicor Gas was named as a defendant, together with ComEd, 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 clean-up 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, if any, and has not recorded a
liability associated with this contingency.
 
 Since
costs and recoveries relating to the clean-up 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.
 
 PCBs.In June 2007,
Nicor Gas notified the USEPA of the discovery by Nicor Gas of PCBs at four homes
in Park Ridge, Illinois.  Nicor Gas has cleaned up the PCBs at these
four homes.  In July 2007, the USEPA issued a subpoena to Nicor Gas
pursuant to Section 11 of the Toxic Substances Control Act.  In the
subpoena, the USEPA indicated that it was investigating Nicor Gas’
identification of PCB-contaminated liquids in its distribution
system.  The subpoena sought documents related to Nicor Gas’ pipeline
liquids and the extent and location of PCBs contained
therein.  The Illinois Attorney General made a similar request for
information from Nicor Gas.  Nicor Gas has provided documentation to
the USEPA and the Illinois Attorney General, including information about the
presence of PCBs in its system, and has conducted sample testing at additional
customer locations.  While Nicor is unable to predict the outcome of
these inquiries or to reasonably estimate its potential exposure related
thereto, if any, and has not recorded a liability associated with this
contingency, the final disposition of this matter is not expected to have a
material adverse impact on the company’s liquidity or financial
condition.
 
 Municipal Tax
Matters.  Many municipalities in Nicor Gas’ service territory
have enacted ordinances that impose taxes on gas sales to customers within
municipal boundaries.  Most of these municipal taxes are imposed on
Nicor Gas based on revenues generated by Nicor Gas within the
municipality.  Other municipal taxes are imposed on natural gas
consumers within the municipality but are collected from consumers and remitted
to the municipality by Nicor Gas.  A number of municipalities have
instituted audits of Nicor Gas’ tax remittances.  In May 2007, five of
those municipalities filed an action against Nicor Gas in state court in DuPage
County, Illinois claiming that Nicor Gas has not provided information requested
by the municipalities’ audit firm.  The action seeks an accounting and
other unspecified relief against Nicor Gas.  Nicor Gas filed a motion
to dismiss the action. In June 2008, the trial court granted the motion to
dismiss without prejudice.  In December 2007, twenty-five additional
municipalities, all represented by the same audit firm involved in the lawsuit,
issued assessments to Nicor Gas claiming that it failed to provide information
requested by the audit firm and owed the municipalities back
taxes.  Nicor believes the assessments are improper and has challenged
them.  While the company is unable to predict the outcome of these
matters or to reasonably estimate its potential exposure related thereto, if
any, and has not recorded a liability associated with this contingency, the
final disposition of these matters is not expected to have a material adverse
impact on the company’s liquidity or financial condition.
   Table of Contents
 
 Other.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, taxes, environmental, gas cost prudence reviews and other
matters.  Although unable to determine the ultimate outcome of these
other contingencies, management believes that these amounts are appropriately
reflected in the financial statements, including the recording of appropriate
liabilities when reasonably estimable.
          
 
  17
 
 Table of Contents
  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 2007 Annual Report on Form
10-K.  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 is
a holding company.  Gas distribution is Nicor’s primary
business.  Nicor’s subsidiaries include Nicor Gas, one of the nation’s
largest distributors of natural gas, and Tropical Shipping, a transporter of
containerized freight in the Bahamas and the Caribbean region.  Nicor
also owns several energy-related ventures, including Nicor Services, Nicor
Solutions and Nicor Advanced Energy, which provide energy-related products and
services to retail markets, and Nicor Enerchange, a wholesale natural gas
marketing company.  Nicor also has equity interests in energy-related
businesses.
 
 Net
income and diluted earnings per common share are presented below (in millions,
except per share data):
  Three
      months ended
              
              
              Six
      months endedJune
      30
              
              
              June
      302008
              
              
              2007
              
              
              2008
              
              
              2007Net
      income
              
              $
              28.9
              
              
              $
              18.0
              
              
              $
              70.3
              
              
              $
              65.2Diluted
      earnings per common share
              
              $
              .64
              
              
              $
              .40
              
              
              $
              1.55
              
              
              $
              1.44
 
 Net
income and diluted earnings per common share for the six months ended June 30,
2007 includes pretax mercury-related recoveries of $8.0 million ($.11 per share)
associated with Nicor Gas’ mercury inspection and repair program which included
a reduction of $7.2 million to the company’s previously established reserve and
$0.8 million in cost recoveries.
 
 Comparisons
of the three months ended results reflect higher operating results in the
company’s gas distribution and other energy-related businesses and higher
corporate operating income, partially offset by lower operating results in the
company’s shipping business.  Comparisons of the six months ended
results (excluding the effect of the mercury-related item noted above) reflect
higher operating results in the company’s gas distribution and other
energy-related businesses and improved corporate operating results, partially
offset by lower operating results in the company’s shipping
business.
 
 Rate proceeding.On
April 29, 2008, Nicor Gas filed with the ICC for an overall increase in rates of
$140.3 million.  The company’s filing provides for a rate of return on
rate base of 9.21 percent, which reflects an 11.05 percent cost of common
equity.  The requested rate increase is needed to recover higher
operating costs and increased capital investments.
 
 In its
rate filing, Nicor Gas has proposed some new rate adjustment
mechanisms.  These include mechanisms that would adjust rates to
reflect certain changes in the company’s bad debt expense and cost of gas used
for operations.  Also included are a volume balancing rider that would
adjust rates to recover fixed costs, an energy efficiency rider that would fund
energy efficiency programs and a rider that would adjust rates to recover a
portion of capital expenditures incurred to replace certain older
infrastructure.
 
 The ICC
normally has 11 months to complete its review of the filing and to issue an
order.  The proposed rate increase has been suspended pending the
completion of the ICC’s review.
 
 
 Table of Contents
  Operating income by
segment.Operating income (loss) by major business segment is
presented below (in millions):
  Three
      months ended
              
              
              Six
      months endedJune
      30
              
              
              June
      302008
              
              
              2007
              
              
              2008
              
              
              2007Gas
      distribution
              
              $
              20.7
              
              
              $
              13.8
              
              
              $
              83.0
              
              
              $
              84.7Shipping
              
              
              5.7
              
              
              
              8.3
              
              
              
              9.6
              
              
              
              18.2Other
      energy ventures
              
              
              11.0
              
              
              
              8.0
              
              
              
              12.0
              
              
              
              5.3Corporate
      and eliminations
              
              
              3.2
              
              
              
              (.2
              )
              
              
              (.8
              )
              
              
              (1.7
              )$
              40.6
              
              
              $
              29.9
              
              
              $
              103.8
              
              
              $
              106.5
 
 The
following summarizes operating income (loss) comparisons by major business
segment:
 
 ·
              Gas
      distribution operating income increased $6.9 million for the three months
      ended June 30, 2008 compared to the prior-year period due to higher gas
      distribution margin ($6.5 million increase) and lower operating and
      maintenance expense ($2.4 million decrease), partially offset by higher
      depreciation expense ($1.4 million
increase).
 
 Operating
income decreased $1.7 million for the six months ended June 30, 2008 compared to
the prior-year period due primarily to the absence of mercury-related recoveries
recorded during the first quarter of 2007 ($8.0 million decrease), higher
operating and maintenance expenses ($6.5 million increase) and depreciation
expense ($2.7 million increase), partially offset by higher gas distribution
margin ($16.2 million increase).
 
 ·
              Shipping
      operating income decreased $2.6 million and $8.6 million for the three and
      six months ended June 30, 2008, respectively, compared to the
      corresponding prior-year periods due to higher operating costs ($8.2
      million and $12.8 million increases, respectively), which were partially
      offset by higher operating revenues ($5.6 million and $4.2 million
      increases, respectively).  Operating costs were higher
      attributable to increased transportation-related costs ($6.6 million and
      $11.7 million increases, respectively) due primarily to increased fuel
      costs.  Operating revenues were higher due to higher average
      rates ($8.6 million and $12.8 million increases, respectively), partially
      offset by lower volumes shipped ($3.0 million and $8.6 million decreases,
      respectively).
 
 ·
              Nicor’s
      other energy ventures operating income increased $3.0 million for the
      three months ended June 30, 2008 compared to the prior-year period due to
      improved results at Nicor’s wholesale natural gas marketing business,
      Nicor Enerchange ($5.5 million increase), partially offset by lower
      operating income at Nicor’s energy-related products and services
      businesses ($2.2 million decrease). Improved operating results at
      Nicor Enerchange were due to favorable costing of physical sales activity
      and improved results from the company’s risk management activities
      associated with hedging the product risks of the utility-bill management
      contracts offered by Nicor’s energy-related products and services
      businesses, partially offset by unfavorable changes in valuations of
      derivative instruments used to hedge purchases and sales of natural gas
      inventory.  Lower operating results at Nicor’s energy-related
      products and services businesses were due to lower operating revenues
      ($3.7 million decrease), partially offset by lower operating expenses
      ($1.5 million decrease).
 
 Operating
income increased $6.7 million for the six months ended June 30, 2008 compared to
the prior-year period due to higher operating results at Nicor’s energy-related
products and services businesses ($8.4 million increase), partially offset by
lower operating income at Nicor
   Table of Contents
  Enerchange
($1.4 million decrease).  Improved operating results at Nicor’s
energy-related products and services business were due to lower operating
expenses ($17.7 million decrease), partially offset by lower operating revenues
($9.3 million decrease).  Lower operating results at Nicor Enerchange
were due primarily to unfavorable changes in valuations of derivative
instruments used to hedge purchases and sales of natural gas inventory,
partially offset by favorable costing of physical sales activity and improved
results from the company’s risk management activities associated with hedging
the product risks of the utility-bill management contracts offered by Nicor’s
energy-related products and services businesses.
 
 Nicor
Enerchange purchases and holds natural gas in storage to earn a profit margin
from its ultimate sale.  Nicor Enerchange uses derivatives to mitigate
commodity price risk in order to substantially lock-in the profit margin that
will ultimately be realized.  However, gas stored in inventory is
required to be accounted for at the lower of weighted-average cost or market,
whereas the derivatives used to reduce the risk associated with a change in the
value of the inventory are accounted for at fair value, with changes in fair
value recorded in operating results in the period of change.  As a
result, earnings are subject to volatility as the fair value of derivatives
change, even when the underlying hedged value of the inventory is
unchanged.  The volatility resulting from this accounting can be
significant from period to period.
 
 ·
              Corporate
      and eliminations operating results increased $3.4 million for the
      three months ended June 30, 2008 compared to the prior-year period due to
      recoveries of previously incurred legal costs ($3.1 million) and
      benefits realized on life insurance contracts ($1.0
      million).  The legal cost recoveries were from a counterparty
      with whom Nicor previously did business during the PBR
      timeframe.  The total recovery was $5.0 million, of which $3.1
      million was allocated to corporate and $1.9 million was allocated to the
      gas distribution segment (recorded as a reduction to operating and
      maintenance expense).  Operating results increased $0.9 million
      for the six months ended June 30, 2008 compared to the prior-year period
      due primarily to the previously mentioned recoveries of legal costs ($3.1
      million) and benefits realized on life insurance contracts ($1.3 million),
      partially offset by the impact of a natural weather hedge associated with
      the utility-bill management products offered by Nicor’s energy-related
      products and services business ($3.9 million
      decrease).  Benefits or costs resulting from variances from
      normal weather related to these products are recorded primarily at the
      corporate level as a result of an agreement between the
      parent company and certain of its subsidiaries.  The
      weather impact of these products generally serves to partially offset the
      gas distribution segment’s weather risk.  The amount of the
      offset attributable to the utility-bill management contracts marketed by
      Nicor’s other energy ventures will vary depending upon a number of factors
      including the time of year, weather patterns, the number of customers for
      these products and the market price for natural
  gas.
 
 RESULTS
OF OPERATIONS
 
 Details
of various financial and operating information by segment can be found in the
tables throughout this review.  The following discussion summarizes
the major items impacting Nicor’s operating income.
 
 Operating
revenues.  Operating revenues by major business segment are
presented below (in millions):
 
 Three
      months ended
              
              
              Six
      months endedJune
      30
              
              
              June
      302008
              
              
              2007
              
              
              2008
              
              
              2007Gas
      distribution
              
              $
              560.1
              
              
              $
              431.4
              
              
              $
              2,024.3
              
              
              $
              1,639.8Shipping
              
              
              102.6
              
              
              
              97.0
              
              
              
              200.3
              
              
              
              196.1Other
      energy ventures
              
              
              52.7
              
              
              
              45.1
              
              
              
              122.9
              
              
              
              121.7Corporate
      and eliminations
              
              
              (15.6
              )
              
              
              (16.6
              )
              
              
              (52.0
              )
              
              
              (66.0
              )$
              699.8
              
              
              $
              556.9
              
              
              $
              2,295.5
              
              
              $
              1,891.6
    Table of Contents
  Gas
distribution revenues are impacted by changes in natural gas costs, which are
passed directly through to customers without markup, subject to ICC
review.  Gas distribution revenues increased $128.7 million for
the three months ended June 30, 2008 compared to the prior-year period due
primarily to higher natural gas costs (approximately $95 million
increase). Gas distribution revenues increased $384.5 million for the six
months ended June 30, 2008 compared to the prior-year period due primarily to
higher natural gas costs (approximately $265 million increase) and colder
weather in 2008 (approximately $105 million increase).
 
 Shipping
segment operating revenues increased $5.6 million and $4.2 million for the three
and six months ended June 30, 2008, respectively, compared with the
corresponding prior-year periods due to higher average rates ($8.6 million and
$12.8 million increases, respectively), partially offset by lower volumes
shipped ($3.0 million and $8.6 million decreases,
respectively).  Rates were higher due primarily to cost-recovery
surcharges for fuel.  Volumes shipped were adversely impacted by
decreased construction cargo, decreased tourism and increased
competition.  Tropical Shipping recently completed an acquisition of
the assets of Caribtran, Inc., which is expected to add approximately 4 percent
to expected shipping revenues on an annual basis.
 
 Nicor’s
other energy ventures operating revenues increased $7.6 million for the three
months ended June 30, 2008 compared to the prior-year period due to higher
revenues at Nicor Enerchange ($11.3 million increase), partially offset by lower
revenues at Nicor’s energy-related products and services businesses ($3.7
million decrease).  Operating revenues increased $1.2 million for the
six months ended June 30, 2008 compared to the prior-year period due to higher
revenues at Nicor Enerchange ($10.5 million increase), partially offset by lower
revenues at Nicor’s energy-related products and services businesses ($9.3
million decrease).  Higher revenues at Nicor Enerchange were due
primarily to favorable costing of physical sales activity and improved results
from the company’s risk management activities associated with hedging the
product risks of the utility-bill management contracts offered by Nicor’s
energy-related products and services business, partially offset by unfavorable
changes in valuations of derivative instruments used to hedge purchases and
sales of natural gas inventory.  Lower revenues at Nicor’s
energy-related products and services businesses were due to lower average
utility-bill management contract volumes.
 
 Corporate
and eliminations reflects primarily the elimination of gas distribution revenues
against Nicor Solutions’ expenses for customers purchasing the utility-bill
management products.
 
 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, with equal and offsetting fluctuations in cost of gas and
revenue tax expense, with no direct impact on gas distribution
margin.
 
 A
reconciliation of gas distribution revenues and margin follows (in
millions):
 
 Three
      months ended
              
              
              Six
      months endedJune
      30
              
              
              June
      302008
              
              
              2007
              
              
              2008
              
              
              2007Gas
      distribution revenues
              
              $
              560.1
              
              
              $
              431.4
              
              
              $
              2,024.3
              
              
              $
              1,639.8Cost
      of gas
              
              
              (396.2
              )
              
              
              (281.6
              )
              
              
              (1,582.9
              )
              
              
              (1,230.0
              )Revenue
      tax expense
              
              
              (36.1
              )
              
              
              (28.5
              )
              
              
              (115.0
              )
              
              
              (99.6
              )Gas
      distribution margin
              
              $
              127.8
              
              
              $
              121.3
              
              
              $
              326.4
              
              
              $
              310.2
  
  21
 
 Table of Contents
  Gas
distribution margin increased $6.5 million for the three months ended June 30,
2008 compared to the corresponding prior-year period due primarily to higher
demand unrelated to weather (approximately $3 million increase) and the impact
of customer interest (approximately $3 million increase).  Gas
distribution margin increased $16.2 million for the six months ended June 30,
2008 compared to the corresponding prior-year period due primarily to colder
weather in 2008 (approximately $7 million increase), the impact of customer
interest (approximately $5 million increase) and higher demand unrelated to
weather (approximately $4 million increase).
 
 Gas distribution operating and
maintenance expense.  Gas distribution operating and
maintenance expense decreased$2.4 million for the
three months ended June 30, 2008 compared to the corresponding prior-year period
due primarily to recoveries of previously incurred costs ($3.9 million, of which
$2.0 million relates to a recovery of costs associated with the prior year PCB
matter and $1.9 million relates to legal cost recoveries from a
counterparty with whom Nicor previously did business during the PBR timeframe)
and lower company use gas and storage-related gas costs ($3.1 million decrease
attributable primarily to favorable fair value adjustments on derivatives
hedging company usage), partially offset by higher bad debt expense ($2.8
million increase) and payroll and benefit-related costs ($2.2 million
increase).  Operating and maintenance expense increased $6.5 million
for the six months ended June 30, 2008 compared to the corresponding prior-year
period due primarily to higher bad debt expense ($13.4 million increase),
partially offset by lower company use gas and storage-related gas costs ($4.2
million decrease) and the previously mentioned cost recoveries ($3.9
million).
 
 Other gas distribution operating
expenses.Mercury-related recoveries, net reflect the
estimated costs, recoveries and reserve adjustments associated with the
company’s mercury inspection and repair program.  For the six months
ended June 30, 2007, net recoveries reflect a $7.2 million reserve adjustment
and $0.8 million in cost recoveries.  Additional information about the
company’s mercury inspection and repair program is presented in Item 1 – Notes
to the Condensed Consolidated Financial Statements – Note 15 – Contingencies –
Mercury.
 
 Shipping operating
expenses.  Shipping segment operating expenses increased $8.2
million and $12.8 million for the three and six months ended June 30, 2008,
respectively, compared to the corresponding prior-year
periods.  Higher operating costs were attributable to increased
transportation-related costs ($6.6 million and $11.7 million increases,
respectively) due primarily to increased fuel costs.
 
 Other energy ventures operating
expenses.Other energy ventures operating expenses increased
$4.6 million for the three months ended June 30, 2008 compared to the
corresponding prior-year period due primarily to an increase in operating
expenses at Nicor Enerchange ($5.8 million increase), partially offset by a
decrease in operating expenses at Nicor’s energy-related products and services
businesses ($1.5 million decrease).  The variance in operating expense
at Nicor Enerchange was due primarily to transportation and storage
charges.   The decrease in operating expenses at Nicor’s
energy-related products and services businesses was due primarily to lower
average utility-bill management contract volumes.  Operating expenses
decreased $5.5 million for the six months ended June 30, 2008 compared to the
corresponding prior-year period due to a decrease in operating expenses at
Nicor’s energy-related products and services businesses ($17.7 million
decrease), partially offset by an increase in operating expenses at Nicor
Enerchange ($11.9 million increase).   The decrease in operating
expenses at Nicor’s energy-related products and services businesses was due
primarily to lower average-utility bill management contract volumes and lower
average costs associated with customer contracts.  The variance in
operating expense at Nicor Enerchange was due primarily to transportation and
storage charges.
 
 Interest
expense.  Interest expense decreased$1.0 million for the
three months ended June 30, 2008 compared to the prior-year period due primarily
to lower estimated interest on income tax matters ($0.7 million
decrease).  Interest expense decreased$4.2 million for the six
months ended June 30, 2008 compared to the prior-year period due primarily to
lower estimated interest on income tax matters ($2.6 million decrease), lower
average interest rates ($1.0 million decrease) and lower average borrowing
levels ($0.5 million decrease).
   Table of Contents
  Net equity investment
income.  Net equity investment income increased $1.6 million
and $2.3 million for the three and six months ended June 30, 2008, respectively,
compared to the corresponding prior-year periods due primarily to an increase in
income from the company’s investment in Triton ($0.9 million and $1.0 million
increases, respectively) and reduced losses from affordable housing investments
($0.7 million decrease for the three and six months ended).
 
 Income taxes.  In
2006, the company reorganized certain shipping and related
operations.  The reorganization allows the company to take advantage
of certain provisions of the Jobs Act that provide the opportunity for tax
savings subsequent to the date of the reorganization.  Generally, to
the extent foreign shipping earnings are not repatriated to the United States,
such earnings are not expected to be subject to current taxation.  In
addition, to the extent such earnings are determined to be indefinitely
reinvested offshore, no deferred income tax expense would be recorded by the
company.  For the three and six months ended June 30, 2008, income tax
expense has not been provided on approximately $3 million of foreign company
shipping earnings that are expected to be indefinitely reinvested offshore
compared to approximately $5 million and $13 million, respectively, for the
comparable periods in 2007.
 
 As of
June 30, 2008, Nicor has not recorded deferred income taxes of approximately $44
million on approximately $126 million of cumulative undistributed foreign
earnings that are expected in management’s judgment to be indefinitely
reinvested offshore.
 
 The
effective income tax rate for the three months ended June 30, 2008 decreased to
25.3 percent from 25.6 percent for the prior-year period.  The
effective income tax rate for the six months ended June 30, 2008 decreased to
25.3 percent from 27.2 percent for the prior-year period.  The lower
effective income tax rate for 2008 reflects the impact of lower projected annual
pretax income (which causes a lower effective income tax rate since permanent
differences and tax credits are a larger share of pretax income) and tax reserve
adjustments offset, in part, by lower untaxed foreign shipping
earnings.


Table of Contents


Nicor
      Inc.Gas
      Distribution StatisticsThree
      months ended
            
            
            Six
      months endedJune
      30
            
            
            June
      302008
            
            
            2007
            
            
            2008
            
            
            2007Operating revenues(millions)SalesResidential
            
            $
            363.1
            
            
            $
            282.4
            
            
            $
            1,376.3
            
            
            $
            1,120.2Commercial
            
            
            101.9
            
            
            
            73.7
            
            
            
            351.6
            
            
            
            268.9Industrial
            
            
            11.1
            
            
            
            7.7
            
            
            
            42.1
            
            
            
            31.5476.1
            
            
            
            363.8
            
            
            
            1,770.0
            
            
            
            1,420.6TransportationResidential
            
            
            8.0
            
            
            
            6.0
            
            
            
            21.2
            
            
            
            15.6Commercial
            
            
            11.8
            
            
            
            12.2
            
            
            
            43.0
            
            
            
            41.1Industrial
            
            
            7.6
            
            
            
            7.4
            
            
            
            19.4
            
            
            
            18.7Other
            
            
            5.5
            
            
            
            1.3
            
            
            
            22.7
            
            
            
            9.332.9
            
            
            
            26.9
            
            
            
            106.3
            
            
            
            84.7Other
      revenuesRevenue
      taxes
            
            
            36.7
            
            
            
            28.9
            
            
            
            117.0
            
            
            
            101.2Environmental
      cost recovery
            
            
            1.1
            
            
            
            1.6
            
            
            
            6.1
            
            
            
            7.1Chicago
      Hub
            
            
            2.5
            
            
            
            2.2
            
            
            
            5.9
            
            
            
            9.7Other
            
            
            10.8
            
            
            
            8.0
            
            
            
            19.0
            
            
            
            16.551.1
            
            
            
            40.7
            
            
            
            148.0
            
            
            
            134.5$
            560.1
            
            
            $
            431.4
            
            
            $
            2,024.3
            
            
            $
            1,639.8Deliveries(Bcf)SalesResidential
            
            
            26.1
            
            
            
            24.9
            
            
            
            130.3
            
            
            
            124.7Commercial
            
            
            7.9
            
            
            
            7.1
            
            
            
            33.7
            
            
            
            30.4Industrial
            
            
            .9
            
            
            
            .7
            
            
            
            4.2
            
            
            
            3.734.9
            
            
            
            32.7
            
            
            
            168.2
            
            
            
            158.8TransportationResidential
            
            
            3.1
            
            
            
            2.4
            
            
            
            14.8
            
            
            
            11.7Commercial
            
            
            11.7
            
            
            
            11.7
            
            
            
            52.2
            
            
            
            48.5Industrial
            
            
            23.1
            
            
            
            23.6
            
            
            
            55.4
            
            
            
            56.437.9
            
            
            
            37.7
            
            
            
            122.4
            
            
            
            116.672.8
            
            
            
            70.4
            
            
            
            290.6
            
            
            
            275.4Customers at end of period(thousands)SalesResidential
            
            
            1,777
            
            
            
            1,799Commercial
            
            
            128
            
            
            
            125Industrial
            
            
            7
            
            
            
            71,912
            
            
            
            1,931TransportationResidential
            
            
            205
            
            
            
            169Commercial
            
            
            53
            
            
            
            55Industrial
            
            
            5
            
            
            
            6263
            
            
            
            2302,175
            
            
            
            2,161Other
      statisticsDegree
      days
            
            
            690
            
            
            
            636
            
            
            
            3,962
            
            
            
            3,654Colder
      (warmer) than normal (1)
            
            
            0%
            
            
            
            (7)%
            
            
            
            7%
            
            
            
            (1)%Average
      gas cost per Mcf sold
            
            $
            11.29
            
            
            $
            8.56
            
            
            $
            9.37
            
            
            $
            7.65(1)
      Normal weather for Nicor Gas' service territory, for purposes of this
      report, is considered to be 5,830 degree days per year.









Table of Contents


Shipping
Statistics


Three
      months ended
            
            
            Six
      months endedJune
      30
            
            
            June
      302008
            
            
            2007
            
            
            2008
            
            
            2007TEUs
      shipped (thousands)
            
            
            48.8
            
            
            
            50.5
            
            
            
            96.8
            
            
            
            101.3Revenue
      per TEU
            
            $
            2,098
            
            
            $
            1,923
            
            
            $
            2,068
            
            
            $
            1,936At
      end of periodPorts
      served
            
            
            25
            
            
            
            27Vessels
      operated
            
            
            17
            
            
            
            18





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, natural gas purchasing, and storage and hedging
practices.  The company relies on short-term financing to meet
seasonal increases in working capital needs.  Cash requirements
generally increase over the last half of the year due to increases in natural
gas purchases, gas in storage and accounts receivable.  During the
first half of the year, positive cash flow generally results from the sale of
gas in storage and the collection of accounts receivable.  This cash
is typically used to substantially reduce, or eliminate, short-term debt during
the first half of the year.  Net cash flow provided from operating
activities increased$127.1 million for the
six months ended June 30, 2008 compared to the corresponding prior-year
period.





Nicor
maintains margin accounts related to financial derivative
transactions.  These margin accounts may cause large fluctuations in
cash needs or sources in a relatively short period of time due to daily
settlements resulting from changes in natural gas futures prices.  The
company manages these fluctuations with short-term borrowings and
investments.





Investing
activities.Net cash flow used for investing activities
increased $13.7 million for the six months ended June 30, 2008 compared to the
corresponding prior-year period.





During
the second quarter of 2008, Tropical Shipping acquired the assets of Caribtran,
Inc., a provider of less-than-container load and full container load
consolidation services from the United States to the Caribbean and Central
America.





Financing
activities.  The current credit ratings for Nicor and Nicor Gas
have not changed since the filing of the December 31, 2007 Annual Report on Form
10-K.In
April 2008, Standard & Poor’s affirmed its credit ratings and changed its
outlook from Negative to Stable on both Nicor and Nicor Gas.





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





Long-term debt.In
April 2008, Nicor Gas entered into an agreement for the issuance of $75 million
First Mortgage Bonds at 6.25 percent, due in 2038.  The issuance is
expected to occur, subject to the satisfaction of the conditions in the
underlying agreements, on the maturity date of the $75 million 5.875 percent
First Mortgage Bond series due in August 2008.





The
company expects to refinance the $50 million First Mortgage Bonds due in
February 2009.





Short-term
debt.In October 2007, Nicor Gas established a $400 million,
210-day seasonal revolver, which expired in May 2008, to replace the $400
million, 210-day seasonal revolver, which expired in May 2007.  In
September 2005, Nicor and Nicor Gas established a $600 million, five-year
revolver, expiring September 2010.  These facilities were established
with major domestic and foreign banks and serve as backup for the issuance of
commercial paper.  The company had $18 million and $369 million
of






Table of Contents




commercial
paper borrowings outstanding at June 30, 2008 and December 31, 2007,
respectively.  The company had no commercial paper borrowings
outstanding at June 30, 2007.  As mid to late-year seasonal
purchases of natural gas are made to replenish gas in storage, the company
intends to rely on existing and/or replacement credit agreements, which the
company expects to establish later in 2008.  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.





Dividends. Nicor maintained
its quarterly common stock dividend rate of $0.465 per common share during the
three months ended June 30, 2008.  This quarterly dividend rate was
also applicable in 2007.  The company paid dividends on its common
stock of $42.2 million and $41.9 million for the six months ended June 30,
2008 and 2007, respectively.  Nicor currently has no contractual or
regulatory restrictions on the payment of dividends.





Contractual
obligations.In 2006, Nicor Gas signed an agreement to
purchase approximately 16 Bcf of synthetic natural gas annually for a 20-year
term beginning as early as 2010.  The agreement was contingent
upon various milestones to be achieved by the counterparty to the
agreement.  The counterparty failed to achieve certain of
these milestones and the agreement terminated on July 1,
2008.





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.





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 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 (“IAGO”) has also intervened in this matter.  In addition, the
IAGO 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.  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.  A copy of the Report is available at
the Nicor website and has been previously produced to all parties in the ICC
Proceedings.





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 prior years’
financial statements resulting in a $24.8






Table of Contents




million
liability.  Included in such $24.8 million liability is a $4.1 million
loss contingency.  A $1.8 million adjustment to the previously
recorded liability, which is discussed below, was made in 2004 increasing the
recorded liability to $26.6 million.  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.  In addition, interest due to the company on certain
components of these amounts has not been recognized in the financial statements
due to the same uncertainties.  By the end of 2003, the company
completed 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 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.  In 2004,
the evidentiary hearings on this matter were stayed in order to permit the
parties 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.  In December 2006, the
additional third party discovery from EKT was obtained, Nicor Gas withdrew its
previously filed testimony and the Administrative Law Judges issued a scheduling
order that provided for Nicor Gas to submit direct testimony by April 13,
2007.  In its direct testimony filed pursuant to the scheduling order,
Nicor Gas seeks a reimbursement of approximately $6 million, which includes
interest due to the company as noted above of $1.6 million, as of March 31,
2007.  No date has been set for evidentiary hearings on this
matter.





In 2004,
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.  Review of additional information
completed in 2004 resulted in the $1.8 million adjustment to the previously
recorded liability referenced above.





Although
the Report of the special committee’s counsel did not find that there was
criminal activity or fraud, a review of this additional information (which was
not available to the independent counsel who prepared the Report) and
re-interviews of certain Nicor Gas personnel in 2004 indicated that certain
former 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 former Nicor Gas
personnel also may have attempted to conceal their conduct in connection with an
ICC review of the PBR plan.  The company has reviewed all third party
information it has obtained






Table of Contents




and will
continue to review any additional third party information the company may
obtain.  The company terminated four employees in connection with this
matter in 2004.





Nicor is
unable to predict the outcome of the ICC’s review 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,
2008.





Mercury.  Information
about mercury contingencies is presented in Item 1 – Notes to the Condensed
Consolidated Financial Statements – Note 15 – Contingencies –
Mercury.





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 Item
1 – Notes to the Condensed Consolidated Financial Statements – Note 15 –
Contingencies – Manufactured Gas Plant Sites.





PCBs.  Information
about PCB contingencies is presented in Item 1 – Notes to the Condensed
Consolidated Financial Statements – Note 15 – Contingencies – PCBs.





Municipal tax
matters.  Information about municipal tax contingencies is
presented in Item 1 – Notes to the Condensed Consolidated Financial Statements –
Note 15 – Contingencies – Municipal Tax Matters.





Other.The company is involved
in legal or administrative proceedings before various courts and agencies with
respect to general claims, taxes, environmental, gas cost prudence reviews and
other matters.  See Item 1 – Notes to the Condensed Consolidated
Financial Statements – Note 15 – Contingencies.





CRITICAL
ACCOUNTING ESTIMATES





See Item
7 – Management’s Discussion and Analysis of Financial Condition and Results of
Operations – Critical Accounting Estimates in the 2007 Annual Report on Form
10-K for a discussion of the company’s critical accounting
estimates.





NEW
ACCOUNTING PRONOUNCEMENTS





For
information concerning SFAS No. 157, Fair Value Measurements, FSP
No. FIN 39-1, Amendment of FIN
39, Offsetting of Amounts Related to Certain Contracts, and SFAS No. 158,
Employers’ Accounting for
Defined Benefit Pension and Other Postretirement Plans, see Item 1 –
Notes to the Condensed Consolidated Financial Statements – Note 3 – New
Accounting Pronouncements.





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,” “ultimate,” 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 undue reliance should not be
placed on such statements.





28
 
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Other
factors that could cause materially different results include, but are not
limited to, weather conditions; natural disasters; natural gas and other fuel
prices; fair value accounting adjustments; inventory valuation; health care
costs; insurance costs or recoveries; legal costs; borrowing needs; interest rates;
credit conditions; economic and market conditions; accidents, leaks, equipment
failures, service interruptions, environmental pollution, and other operating
risks; tourism and construction in the Bahamas and Caribbean region; 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, interpretations, methods,
judgments or estimates; performance of major customers, transporters, 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





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.  Nicor’s practice is to manage
these risks utilizing derivative instruments and other methods, as deemed
appropriate.





There has
been no material change in the company’s exposure to market risk since the
filing of the 2007 Annual Report on Form 10-K.





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 United
States Securities and Exchange Commission 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.





29
 
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PART
II - OTHER INFORMATION





Item
1.   Legal
Proceedings





See Part
I, Item 1 – Notes to the Condensed Consolidated Financial Statements – Note 13 –
Rate Proceeding and Note 15 – Contingencies, which are incorporated herein by
reference.





Item
1A.  Risk
Factors





The
company has disclosed the most significant factors that can impact year-to-year
comparisons and may affect the future performance of the company’s businesses in
the company’s 2007 Annual Report on Form 10-K.  On a quarterly basis,
the company reviews these risks and makes updates as appropriate.  The
following factor has been added based upon those reviews.





Changes
in the laws and regulations regarding the sale and marketing of products
and services offered by Nicor’s other energy ventures could adversely
affect the results of operations, cash flows and financial condition of
Nicor.




Nicor’s
other energy ventures provide various energy-related products and services.
These include sales of natural gas and utility bill management services to
residential and small commercial customers, the sale, repair, maintenance and
warranty of heating, air conditioning and indoor air quality equipment and
wholesale natural gas supply services.  The sale and marketing of these
products and services by Nicor’s other energy ventures are subject to various
state and federal laws and regulations.  Changes in these laws and
regulations could impose additional costs on, or restrict or
prohibit certain activities by, Nicor’s other energy
ventures which could adversely affect the results of operations, cash
flows and financial condition of Nicor.





Item
2.  Unregistered Sales of Equity
Securities and Use of Proceeds





In 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 have been no repurchases under this
program during the first six months of 2008 or 2007.  As of June 30,
2008, $21.5 million remained authorized for the repurchase of common
stock.





Item
4.  Submission of Matters to a
Vote of Security Holders





The
Annual Meeting of Stockholders of the company was held on April 24,
2008.  Proxies for the meeting were solicited pursuant to Section
14(a) of the Securities Exchange Act of 1934 and there was no solicitation in
opposition to the board of directors’ solicitation.  Voting results
reported on the following page are for shares eligible to vote as of the record
date, February 26, 2008.








30
 
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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
            
            WithheldRobert
      M. Beavers, Jr.
            
            38,248,759
            
            1,048,219Bruce
      P. Bickner
            
            38,271,589
            
            1,025,389John
      H. Birdsall, III
            
            38,239,895
            
            1,057,083Norman
      R. Bobins
            
            38,200,635
            
            1,096,343Brenda
      J. Gaines
            
            38,143,911
            
            1,153,067Raymond
      A. Jean
            
            38,329,268
            
            967,710Dennis
      J. Keller
            
            38,241,756
            
            1,055,222R.
      Eden Martin
            
            37,821,734
            
            1,475,244Georgia
      R. Nelson
            
            38,345,799
            
            951,179John
      Rau
            
            38,204,098
            
            1,092,880Russ
      M. Strobel
            
            38,275,788
            
            1,021,190





The
stockholders ratified the appointment of Deloitte & Touche LLP as the
company’s independent registered public accounting firm for
2008.  There were no “broker nonvotes.”  Votes were cast as
follows:





For
            
            Against
            
            Abstain38,340,256
            
            466,617
            
            490,105





The following
proposals were presented by management as a result of a stockholder proposal at
the 2007 Annual Meeting of Stockholders that recommended “adoption of a
simple majority stockholder vote requirement applicable to the greatest number
of shareholder voting issues possible.”  In response to this proposal,
the Board adopted resolutions to submit to a vote of stockholders amendments to
Nicor's Articles of Incorporation to reduce supermajority common stock voting
requirements to simple majority votes.  These supermajority voting
provisions appear in a number of sections of the Articles of
Incorporation.  In addition, the Illinois Business Corporation Act
permits stockholders of Illinois corporations to opt out of certain
supermajority voting provisions contained in the statute.  Therefore,
separate resolutions were required to address different supermajority voting
requirements.  Votes on those proposals related to this issue
were cast as follows:





Amendment
of Article 12 (affirmative vote of two-thirds of outstanding shares required for
approval) – Not Approved




For
            
            Against
            
            Abstain
            
            Broker
      Nonvotes25,373,261
            
            1,926,723
            
            1,404,365
            
            10,592,629





Amendment
of Article 13 (affirmative vote of 80% of outstanding shares required for
approval) – Not Approved




For
            
            Against
            
            Abstain
            
            Broker
      Nonvotes24,723,998
            
            2,001,598
            
            1,977,430
            
            10,593,952





Amendment
to Opt-out of Supermajority Voting Provisions of Certain Sections of Governing
State Law


(affirmative
vote of majority of outstanding shares required for approval) –
Approved




For
            
            Against
            
            Abstain
            
            Broker
      Nonvotes24,941,119
            
            2,108,209
            
            1,629,307
            
            10,618,343





Amendment
of Article 14 (affirmative vote of 80% of outstanding shares required for
approval) – Not Approved




For
            
            Against
            
            Abstain
            
            Broker
      Nonvotes25,158,363
            
            2,026,208
            
            1,525,321
            
            10,587,086


31
 
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Item
6.   Exhibits





ExhibitNumber
            
            Description of
      Document3.1
            
            Amended and Restated Articles of
      Incorporation of Nicor Inc., as further amended by the amendment
      filed with the Illinois Secretary of State on June 2,
      2008.3.2
            *
            Nicor
      Inc. Amended and Restated By-laws effective as of July 24,
      2008.  (File No. 1-7297, Form 8-K for July 28, 2008, Nicor Inc.,
      Exhibit 3.1.)10.1
            *
            Nicor
      Inc. Salary Deferral Plan (as Amended and Restated for Post-2004 Benefits,
      Effective January 1, 2008). (File No. 1-7297, Form 8-K for July 28, 2008,
      Nicor Inc., Exhibit 10.1.)10.2
            *
            Amendment
      to Nicor Inc. Salary Deferral Plan (as in Effect on October 3, 2004, for
      Pre-2005 Benefits). (File No. 1-7297, Form 8-K for July 28, 2008, Nicor
      Inc., Exhibit 10.2.)10.3
            *
            Nicor
      Inc. Stock Deferral Plan (as Amended and Restated for Post-2004 Benefits,
      Effective January 1, 2008). (File No. 1-7297, Form 8-K for July 28, 2008,
      Nicor Inc., Exhibit 10.3.)10.4
            *
            Amendment
      to Nicor Inc. Stock Deferral Plan (as in Effect on October 3, 2004, for
      Pre-2005 Benefits). (File No. 1-7297, Form 8-K for July 28, 2008, Nicor
      Inc., Exhibit 10.4.)10.5
            *
            Nicor
      Inc. Supplemental Senior Officer Retirement Plan (as Amended and Restated
      for Post-2004 Benefits, Effective January 1, 2008). (File No. 1-7297, Form
      8-K for July 28, 2008, Nicor Inc., Exhibit 10.5.)10.6
            *
            Amendment
      to Nicor Inc. Supplemental Senior Officer Retirement Plan (as in Effect on
      October 3, 2004, for Pre-2005 Benefits). (File No. 1-7297, Form 8-K for
      July 28, 2008, Nicor Inc., Exhibit 10.6.)10.7
            *
            Fourth
      Amendment to Nicor Inc. 1997 Long-Term Incentive Plan. (File No. 1-7297,
      Form 8-K for July 28, 2008, Nicor Inc., Exhibit 10.7.)10.8
            *
            First
      Amendment to Nicor Inc. 2006 Long Term Incentive Plan. (File No. 1-7297,
      Form 8-K for July 28, 2008, Nicor Inc., Exhibit 10.8.)10.9
            *
            Amended
      and Restated Supplemental Retirement Benefit Plan Agreement between Russ
      M. Strobel and Nicor Inc. (File No. 1-7297, Form 8-K for July 28, 2008,
      Nicor Inc., Exhibit 10.9.)10.10
            *
            Nicor
      Claims and Procedures for Nonqualified Plans. (File No. 1-7297, Form 8-K
      for July 28, 2008, Nicor Inc., Exhibit 10.10.)10.11
            *
            Nicor
      Gas Supplementary Retirement Plan (as Amended and Restated for Post-2004
      Benefits, Effective January 1, 2008). (File No. 1-7297, Form 8-K for July
      28, 2008, Nicor Inc., Exhibit 10.11.)


Table of Contents


ExhibitNumber
            
            Description of
      Document10.12
            *
            Amendment
      to Nicor Gas Supplementary Retirement Plan (as in Effect on October 3,
      2004, for Pre-2005 Benefits). (File No. 1-7297, Form 8-K for July 28,
      2008, Nicor Inc., Exhibit 10.12.)31.01
            
            Rule 13a-14(a)/15d-14(a)
      Certification.31.02
            
            Rule 13a-14(a)/15d-14(a)
      Certification.32.01
            
            Section 1350
      Certification.32.02
            
            Section 1350
      Certification.





*
            These
      exhibits have been previously filed with the SEC as exhibits to
      registration statements or to other filings with the SEC 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.








33
 
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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
      4, 2008
            
            /s/
      KAREN K. PEPPING(Date)
            
            Karen
      K. PeppingVice
      President and Controller(Principal
      Accounting Officer and


Duly
      Authorized Officer)