##### Table of Contents



UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
 Washington, D.C. 20549
 FORM 10-Q
 
 þ
    
    QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
 For the quarter ended September 30, 2008
 OR
 o
    
    TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
 For the transition period from  to
 Commission file number 033-43007
 TERRA NITROGEN COMPANY, L.P.
  Delaware
    
    73-1389684(State or other jurisdiction of
    
    (I.R.S. Employerincorporation or organization)
    
    Identification No.)Terra CentrePO Box 6000600 Fourth StreetSioux City, Iowa
    
    51102-6000(Address of principal executive office)
    
    (Zip Code)
 Registrants telephone number, including area code: (712) 277-1340
 þ o
  Large accelerated filer o
    
    Accelerated filer þ
    
    Non-accelerated filer o
    
    Smaller reporting company o(Do not check if a smaller reporting company)
 o Yes þ No




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TABLE OF CONTENTS
 Part I  FINANCIAL INFORMATIONItem 1. Financial StatementsConsolidated Balance Sheets
    
    
    3Consolidated Statements of Operations
    
    
    4Consolidated Statements of Cash Flows
    
    
    5Consolidated Statements of Partners Capital
    
    
    6Notes to Consolidated Financial Statements
    
    
    7Item 2. Management Discussion and Analysis of Financial Condition and
Results of Operations
    
    
    18Item 3. Quantitative and Qualitative Disclosures about Market Risk
    
    
    23Item 4. Controls and Procedures
    
    
    23Part II  OTHER INFORMATIONItem 1. Legal Proceedings
    
    
    25Item 1A. Risk Factors
    
    
    25Item 2. Unregistered Sales of Equity Securities and Use of Proceeds
    
    
    25Item 3. Defaults upon Senior Securities
    
    
    25Item 4. Submission of Matters to a Vote of Security Holders
    
    
    25Item 5. Other Information
    
    
    25Item 6. Exhibits
    
    
    26Exhibit 31.1Exhibit 31.2Exhibit 32.1Exhibit 32.2
   2




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PART I. FINANCIAL INFORMATION
 
 ITEM 1. FINANCIAL STATEMENTS
 TERRA NITROGEN COMPANY, L.P.
 
 CONSOLIDATED BALANCE SHEETS   unaudited
 September 30,
    
    
    December 31,
    
    
    September 30,2008
    
    
    2007
    
    
    2007ASSETSCurrent assets:Cash and cash equivalents
    
    $
    185,763
    
    
    $
    246,140
    
    
    $
    93,549Demand deposits with affiliate
    
    
    4,369
    
    
    
    
    
    
    
    Accounts receivable
    
    
    57,140
    
    
    
    49,635
    
    
    
    40,174Inventory
    
    
    43,697
    
    
    
    19,343
    
    
    
    30,487Prepaid expenses and other current assets
    
    
    12,703
    
    
    
    4,906
    
    
    
    3,747Total current assets
    
    
    303,672
    
    
    
    320,024
    
    
    
    167,957Property, plant and equipment, net
    
    
    68,480
    
    
    
    71,289
    
    
    
    72,413Other assets
    
    
    12,137
    
    
    
    22,473
    
    
    
    24,975Total assets
    
    $
    384,289
    
    
    $
    413,786
    
    
    $
    265,345LIABILITIES AND PARTNERS CAPITALCurrent liabilities:Derivative hedge liabilities
    
    $
    81,653
    
    
    $
    7,959
    
    
    $
    14,041Accounts payable and accrued liabilities
    
    
    38,079
    
    
    
    41,866
    
    
    
    37,971Customer prepayments
    
    
    92,092
    
    
    
    154,644
    
    
    
    39,762Total current liabilities
    
    
    211,824
    
    
    
    204,469
    
    
    
    91,774Other long-term liabilities
    
    
    1,071
    
    
    
    2,218
    
    
    
    1,979Total liabilities
    
    
    212,895
    
    
    
    206,687
    
    
    
    93,753Partners capital:Limited partners interests, 18,502 Common Units
and 184 Class B Common Units authorized and
outstanding
    
    
    204,868
    
    
    
    221,726
    
    
    
    193,860General partners interest
    
    
    35,830
    
    
    
    (9,928
    )
    
    
    (10,200
    )Accumulated other comprehensive income (loss)
    
    
    (69,304
    )
    
    
    (4,699
    )
    
    
    (12,068
    )Total partners capital
    
    
    171,394
    
    
    
    207,099
    
    
    
    171,592Total liabilities and partners capital
    
    $
    384,289
    
    
    $
    413,786
    
    
    $
    265,345
   3




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##### Table of Contents



TERRA NITROGEN COMPANY, L.P.
 
 CONSOLIDATED STATEMENTS OF OPERATIONS   (unaudited)
 Three Months Ended
    
    
    Nine Months EndedSeptember 30,
    
    
    September 30,2008
    
    
    2007
    
    
    2008
    
    
    2007Revenues
    
    $
    246,450
    
    
    $
    133,009
    
    
    $
    677,495
    
    
    $
    438,019Other income
    
    
    135
    
    
    
    142
    
    
    
    293
    
    
    
    729Total revenues
    
    
    246,585
    
    
    
    133,151
    
    
    
    677,788
    
    
    
    438,748Cost of goods sold
    
    
    138,286
    
    
    
    86,490
    
    
    
    352,118
    
    
    
    291,371Gross profit
    
    
    108,299
    
    
    
    46,661
    
    
    
    325,670
    
    
    
    147,377Operating expenses
    
    
    3,196
    
    
    
    2,452
    
    
    
    12,833
    
    
    
    13,100Operating income
    
    
    105,103
    
    
    
    44,209
    
    
    
    312,837
    
    
    
    134,277Interest expense
    
    
    (82
    )
    
    
    (115
    )
    
    
    (245
    )
    
    
    (341
    )Interest income
    
    
    1,179
    
    
    
    1,517
    
    
    
    5,359
    
    
    
    4,062Net income
    
    $
    106,200
    
    
    $
    45,611
    
    
    $
    317,951
    
    
    $
    137,998Net income allocable to
Common Units
    
    $
    63,169
    
    
    $
    44,699
    
    
    $
    210,058
    
    
    $
    135,239Net income per Common Unit
    
    $
    3.41
    
    
    $
    2.42
    
    
    $
    11.35
    
    
    $
    7.31
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TERRA
NITROGEN COMPANY, L.P.
 
 CONSOLIDATED STATEMENTS OF CASH FLOWS   (unaudited)
 Nine Months EndedSeptember 30,2008
    
    
    2007Operating activities:Net income
    
    $
    317,951
    
    
    $
    137,998Adjustments to reconcile net income to net cash
flows from operating activities:Depreciation and amortization
    
    
    17,287
    
    
    
    11,976Non-cash loss on derivative instruments
    
    
    1,093
    
    
    
    362Changes in operating assets and liabilities:Receivables
    
    
    (7,505
    )
    
    
    (2,498
    )Inventories
    
    
    (24,354
    )
    
    
    (7,778
    )Accounts payable and customer prepayments
    
    
    (62,254
    )
    
    
    12,116Other assets and liabilities
    
    
    (2,974
    )
    
    
    (259
    )Net cash flows from operating activities
    
    
    239,244
    
    
    
    151,917Investing activities:Capital expenditures and plant turnaround expenditures
    
    
    (6,201
    )
    
    
    (18,523
    )Change in demand deposits with affiliate
    
    
    (4,369
    )
    
    
    2,457Net cash flows from investing activities
    
    
    (10,570
    )
    
    
    (16,066
    )Financing activities:Partnership distributions paid
    
    
    (289,051
    )
    
    
    (104,589
    )Net cash flows from financing activities
    
    
    (289,051
    )
    
    
    (104,589
    )Net increase (decrease) in cash and cash equivalents
    
    
    (60,377
    )
    
    
    31,262Cash and cash equivalents at beginning of year
    
    
    246,140
    
    
    
    62,287Cash and cash equivalents at end of period
    
    $
    185,763
    
    
    $
    93,549Supplemental disclosure of cash flow information:Cash paid during the year for interest
    
    $
    191
    
    
    $
    64
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TERRA NITROGEN COMPANY, L.P.
 
 CONSOLIDATED STATEMENTS OF PARTNERS CAPITAL   (unaudited)
 AccumulatedClass B
    
    
    General
    
    
    Other
    
    
    TotalCommon
    
    
    Common
    
    
    Partners
    
    
    Comprehensive
    
    
    Partners
    
    
    Comprehensive(in thousands, except for Units)
    
    Units
    
    
    Units
    
    
    Interests
    
    
    Income (Loss)
    
    
    Capital
    
    
    IncomePartners capital at January 1, 2008
    
    $
    221,153
    
    
    $
    573
    
    
    $
    (9,928
    )
    
    $
    (4,699
    )
    
    $
    207,099Net income
    
    
    210,058
    
    
    
    3,100
    
    
    
    104,793
    
    
    
    
    
    
    
    317,951
    
    
    $
    317,951Change in fair value of derivatives
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    (64,605
    )
    
    
    (64,605
    )
    
    
    (64,605
    )Comprehensive income
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    $
    253,346Distributions
    
    
    (227,198
    )
    
    
    (2,818
    )
    
    
    (59,035
    )
    
    
    
    
    
    
    (289,051
    )Partners capital at September 30, 2008
    
    $
    204,013
    
    
    $
    855
    
    
    $
    35,830
    
    
    $
    (69,304
    )
    
    $
    171,394Limited partner units issued and
outstanding September 30, 2008:Common Units
    
    
    
    
    
    
    
    
    
    
    18,501,576Class B Common Units
    
    
    
    
    
    
    
    
    
    
    184,072Total units outstanding at September 30, 2008
    
    
    
    
    
    
    
    
    
    
    18,685,648
 AccumulatedClass B
    
    
    General
    
    
    Other
    
    
    TotalCommon
    
    
    Common
    
    
    Partners
    
    
    Comprehensive
    
    
    Partners
    
    
    Comprehensive(in thousands, except for Units)
    
    Units
    
    
    Units
    
    
    Interests
    
    
    Income (Loss)
    
    
    Capital
    
    
    IncomePartners capital at January 1, 2007
    
    $
    160,836
    
    
    $
    (41
    )
    
    $
    (10,544
    )
    
    $
    (6,179
    )
    
    $
    144,072Net income
    
    
    135,239
    
    
    
    1,344
    
    
    
    1,415
    
    
    
    
    
    
    
    137,998
    
    
    $
    137,998Change in fair value of derivatives
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    (5,889
    )
    
    
    (5,889
    )
    
    
    (5,889
    )Comprehensive income
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    $
    132,109Distributions
    
    
    (102,499
    )
    
    
    (1,019
    )
    
    
    (1,071
    )
    
    
    
    
    
    
    (104,589
    )Partners capital at September 30, 2007
    
    $
    193,576
    
    
    $
    284
    
    
    $
    (10,200
    )
    
    $
    (12,068
    )
    
    $
    171,592Limited partner units issued and
outstanding at September 30, 2007:Common Units
    
    
    
    
    
    
    
    
    
    
    18,501,576Class B Common Units
    
    
    
    
    
    
    
    
    
    
    184,072Total units outstanding at September 30, 2007
    
    
    
    
    
    
    
    
    
    
    18,685,648
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TERRA NITROGEN COMPANY, L.P.
 
 Notes to Consolidated Financial Statements (Unaudited)
 1.
    
    Financial Statement PresentationBasis of PresentationThe condensed consolidated financial statements contained herein should be read in conjunction
with the consolidated financial statements and notes thereto contained in the Terra Nitrogen
Company, L.P. (TNCLP, our, we, or us) Annual Report on Form 10-K for the year ended
December 31, 2007. TNCLP and its operating partnership subsidiary, Terra Nitrogen, Limited
Partnership (the Operating Partnership), are referred to herein, collectively, as the
Partnership.The accompanying unaudited condensed consolidated financial statements reflect all adjustments,
which are, in the opinion of management, necessary for the fair statement of the results for
the periods presented. All of these adjustments are of a normal and recurring nature. Results
for the quarter are not necessarily indicative of our future financial results.Derivatives and Financial InstrumentsWe account for derivatives in accordance with Statement of Financial Accounting Standards
(SFAS) No. 133, Accounting for Derivative Instruments and Hedging Activities(SFAS 133),
which requires that derivatives be reported on the balance sheet at fair value and, if the
derivative is not designated as a hedging instrument, changes in fair value must be recognized
in earnings in the period of change. If the derivative is designated as a cash flow hedge and
to the extent such hedge is determined effective, changes in fair value are reported as a
component of accumulated other comprehensive income (loss) in the period of change, and
subsequently recognized in the determination of net income in the period that the offsetting
hedged transaction occurs.Terra Industries Inc. and its subsidiaries (Terra) enter into derivative instruments with
counterparties for our operations. When Terra enters into a derivative instrument for our
operations, we simultaneously enter into a derivative instrument with Terra as the
counterparty. The terms of the derivative instruments between us and Terra are identical to the
terms of the derivative instruments between Terra and Terras counterparty. The types of
derivative instruments entered into include swaps, basis swaps, and options to cap or fix
prices for a portion of our natural gas production requirements. Terra may also enter into
similar derivative instruments to fix or set floor prices for a portion of our nitrogen sales
volumes.Revenue RecognitionRevenue is recognized when persuasive evidence of a transaction exists, delivery has occurred,
the price is fixed or determinable, no obligations remain and collectibility is probable. We
classify any discounts and trade allowances as a reduction in revenue. Gains or losses
associated with settled nitrogen derivative contracts are classified as revenue. We classify
amounts directly or indirectly billed to our customers for shipping and handling as revenue.
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Cost of Goods SoldThe cost of manufacturing fertilizer products is recorded when the fertilizer products are sold
and revenue is recognized. We classify amounts directly or indirectly billed for delivery of
products to our customers or our terminals as cost of goods sold. Gains and losses on
derivative activities are recognized in cost of goods sold.InventoriesInventories are stated at the lower of average cost or estimated net realizable value. We
perform a monthly analysis of our inventory balances to determine if the carrying amount of
inventories exceeds its net realizable value. The analysis of estimated realizable value is
based on customer orders, market trends and historical pricing. If the carrying amount exceeds
the estimated net realizable value, the carrying amount is reduced to the estimated net
realizable value.Production costs include the cost of direct labor and materials, depreciation and amortization,
and overhead costs related to manufacturing activities. The cost of inventories is determined
using the first-in, first-out method.We estimate a reserve for obsolescence and excess of our materials and supplies inventory.
Inventory is stated net of the reserve.Plant Turnaround CostsPlant turnarounds are periodically performed to extend the useful life, increase output and/or
efficiency and ensure the long-term reliability and safety of integrated plant machinery at our
continuous process production facilities. The nature of a turnaround is such that it occurs on
less than an annual basis and requires a multi-week shutdown of plant operations. Specific
procedures performed during the turnaround include the disassembly, inspection and replacement
or overhaul of plant machinery (boilers, pressure vessels, piping, heat exchangers, etc.) and
rotating equipment (compressors, pumps, turbines, etc.), equipment recalibration and internal
equipment efficiency assessments.Preceding a turnaround, plants experience decreased efficiency in resource conversion to
finished products. Replacement or overhaul of equipment and items such as compressors,
turbines, pumps, motors, valves, piping and other parts that have an estimated useful life of
at least two years, the internal assessment of production equipment, replacement of aged
catalysts, and new installation/recalibration of measurement and control devices result in
increased production output and/or improved plant efficiency after the turnaround. Turnaround
activities are betterments that meet at least one of the following criteria: 1) extend the
equipment useful life, or 2) increase the output and/or efficiency of the equipment. As a
result, we follow the deferral method of accounting for these turnaround costs and thus they
are capitalized and amortized over the period benefited, which is generally the two-year period
until the next turnaround. The turnaround activities may extend the useful life of the assets
since the overhaul of heat exchangers, pressure vessels, compressors, turbines, pumps, motors,
etc. allow the continued use beyond the original design. If
criteria for betterment or useful life extension are not met, we expense the turnaround
expenditures as repair and maintenance activities in the period performed.
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In addition, state and certain other regulatory agencies require a scheduled biennial safety
inspection of plant components, such as steam boilers and registered pressure vessels and
piping, which can only be performed during the period of shut down. A full shutdown and
dismantling of components of the plant is generally mandatory to facilitate the inspection and
certification. We defer costs associated with regulatory safety inspection mandates that are
incurred during the turnaround. These costs are amortized over the period benefited, which is
generally the two-year period until the next turnaround.During a turnaround event, there will also be routine repairs and maintenance activities
performed for normal operating purposes. The routine repairs and maintenance costs are expensed
as incurred. We do not classify routine repair and maintenance activities as part of the
turnaround cost capitalization since they are not considered asset betterments.The installation of major equipment items can occur at any time, but frequently occur during
scheduled plant outages, such as a turnaround. During a plant turnaround, expenditures for
replacing major equipment items are capitalized as separate fixed assets.TNCLP classifies capitalized turnaround costs as an investing activity under the caption
Capital expenditures and plant turnaround expenditures in the Statement of Cash Flows, since this cash outflow relates to
expenditures related to productive assets. Repair and maintenance costs are expensed as
incurred and are included in the operating cash flow.There are three acceptable methods of accounting for turnaround costs: 1) direct expensing
method, 2) built-in overhaul method and 3) deferral method. Terra utilizes the deferral method
and recognizes turnaround expense over the period benefited since these expenditures are asset
betterments. If the direct expense method was utilized, all turnaround expenditures would be
recognized in the income statement as a period cost when incurred and reflected in cash flows
from operating activities in the statement of cash flows.Impairment of Long-Lived AssetsWe review our long-lived assets for impairment whenever events or changes in circumstances
indicate that the carrying amount of an asset may not be recoverable. If the sum of the
undiscounted future cash flows expected to result from the use of the asset is less than the
carrying amount of the asset, an impairment loss is recognized based on the difference between
the carrying amount and the fair value of the asset.Natural Gas Swaps, Options and Basis SwapsThe estimated fair value of each class of derivatives is based on published referenced prices
and quoted market prices from brokers.
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Cash and Cash EquivalentsWe classify cash and short-term investments with an original maturity of three months or less
as cash and cash equivalents. Demand deposits with affiliates are not classified as cash and
cash equivalents.Demand Deposits with AffiliateOur cash receipts are generally received by Terra. Cash receipts, net of cash payments made by
Terra, are transferred to us from Terra on a weekly basis. As a result of this cash collection
and distribution arrangement, Terra is a creditor to us.Use of Estimates in Preparation of the Financial StatementsThe preparation of financial statements in conformity with accounting principles generally
accepted in the United States requires management to make estimates and assumptions that affect
the reported amounts of assets and liabilities, disclosure of contingent assets and liabilities
at the date of the financial statements, and reported amounts of revenues and expenses during
the reporting period. Actual results could differ from those estimates.2.
    
    Agreement of Limited PartnershipWe make quarterly distributions to our partners based on available cash for the quarter as
defined in our Agreement of Limited Partnership. Available Cash is defined generally as all
cash receipts less all cash disbursements, adjusted for changes in certain reserves established
as the General Partner determines in its reasonable discretion to be necessary. We paid
distributions of $289.1 million to our partners in the first nine months of 2008 and $104.6
million for the same period in 2007.We receive 99% of the Available Cash from Terra Nitrogen, Limited Partnership (the Operating
Partnership) and 1% is distributed to its General Partner. Cash distributions from the
Operating Partnership generally represent the Operating Partnerships Available Cash from
operations. Our cash distributions are made 99.975% to Common and Class B Common Unitholders
and 0.025% to our General Partner except when cumulative distributions of Available Cash exceed
specified target levels above the Minimum Quarterly Distributions (MQD) of $0.605 per unit.
Under such circumstances, our General Partner is entitled, as an incentive, to larger
percentage interests.
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On October 23, 2008, we announced a $2.80 distribution to be paid to Common Unit holders in the
2008 fourth quarter. We have exceeded the cumulative MQD amounts and will distribute Available
Cash as summarized in the following table:
 Income and Distribution AllocationClass BTarget
    
    
    Target
    
    
    Common
    
    
    Common
    
    
    GeneralLimit
    
    
    Increment
    
    
    Units
    
    
    Units
    
    
    Partner
    
    
    TotalMinimum Quarterly Distribution
    
    $
    0.605
    
    
    $
    0.605
    
    
    
    98.990
    %
    
    
    0.985
    %
    
    
    0.025
    %
    
    
    100.000
    %First Target
    
    
    0.715
    
    
    
    0.110
    
    
    
    98.990
    %
    
    
    0.985
    %
    
    
    0.025
    %
    
    
    100.000
    %Second Target
    
    
    0.825
    
    
    
    0.110
    
    
    
    85.859
    %
    
    
    0.985
    %
    
    
    13.156
    %
    
    
    100.000
    %Third Target
    
    
    1.045
    
    
    
    0.220
    
    
    
    75.758
    %
    
    
    0.985
    %
    
    
    23.257
    %
    
    
    100.000
    %Final Target and Beyond
    
    
    1.045
    
    
    
    
    
    
    
    50.505
    %
    
    
    0.985
    %
    
    
    48.510
    %
    
    
    100.000
    %
 The General Partner is required to remit the majority of cash distributions it receives from
the Partnership, in excess of its 1% Partnership equity interest, to an affiliated company.At September 30, 2008, the General Partner and its affiliates owned 75.3% of our outstanding
units. When less than 25% of the issued and outstanding units are held by non-affiliates of
the General Partner, we, at the General Partners sole discretion, may call, or assign to the
General Partner or its affiliates, our right to acquire all such outstanding units held by
non-affiliated persons. If the General Partner elects to acquire all outstanding units, we are
required to give at least 30 but not more than 60 days notice of our decision to purchase the
outstanding units. The purchase price per unit will be the greater of 1) the average of the
previous 20 trading days closing prices as of the date five days before the purchase is
announced and 2) the highest price paid by the General Partner or any of its affiliates for any
unit within the 90 days preceding the date the purchase is announced. Additional purchases of
common units by the General Partner may be restricted under the terms of Terras bank credit
agreement as described therein.3.
    
    Net Income per Common UnitBasic and diluted income per Common Unit is based on the weighted-average number of Common
Units outstanding during the period. The following table provides a reconciliation for basic
and diluted income per Common Unit for the three-and nine-month periods ended September 30,
2008 and 2007:
 Three Months Ended
    
    
    Nine Months EndedSeptember 30,
    
    
    September 30,(in thousands, except per-unit amounts)
    
    2008
    
    
    2007
    
    
    2008
    
    
    2007Basic income per Common Unit:Net income allocable to Common Unit
class
    
    $
    63,169
    
    
    $
    44,699
    
    
    $
    210,058
    
    
    $
    135,239Weighted average units outstanding
    
    
    18,502
    
    
    
    18,502
    
    
    
    18,502
    
    
    
    18,502Net income per Common Unit
    
    $
    3.41
    
    
    $
    2.42
    
    
    $
    11.35
    
    
    $
    7.31
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There were no dilutive Common Units outstanding for the three- and nine-month periods ended
September 30, 2008 and 2007.4.
    
    InventoriesInventories consisted of the following:
 September 30,
    
    
    December 31,
    
    
    September 30,(in thousands)
    
    2008
    
    
    2007
    
    
    2007Materials and supplies
    
    $
    11,343
    
    
    $
    8,231
    
    
    $
    7,737Finished goods
    
    
    32,354
    
    
    
    11,112
    
    
    
    22,750Total
    
    $
    43,697
    
    
    $
    19,343
    
    
    $
    30,487
 Inventory is valued at actual first in, first out cost. Costs include raw materials, labor and
overhead.5.
    
    Derivative Financial InstrumentsWe manage risk using derivative financial instruments for changes in natural gas supply prices
and changes in nitrogen prices. Derivative financial instruments have credit risk and market
risk.Terra enters into derivative instruments with counterparties for our operations. When Terra
enters into a derivative instrument for our operations, we simultaneously enter into a
derivative instrument with Terra as the counterparty. The terms of the derivative instruments
between us and Terra are identical to the terms of the derivative instruments between Terra and
Terras counterparty.We classify a derivative financial instrument as a hedge if all of the following conditions are
met:
 1.
    
    The item to be hedged must expose us to currency or price risk.2.
    
    It must be probable that the results of the hedge position substantially offset
the effects of currency or price changes on the hedged item (e.g., there is a high
correlation between the hedge position and changes in market value of the hedge item).3.
    
    The derivative financial instrument must be designated as a hedge of the item
at the inception of the hedge.
 Natural gas supplies to meet production requirements at our production facilities are purchased
at market prices. Natural gas market prices are volatile and we effectively hedge a portion of
our natural gas production requirements and inventory through the use of swaps, basis swaps and
options. These contracts reference physical natural gas prices or approximate NYMEX futures
contract prices. Contract physical prices are frequently based on prices at the Henry Hub in
Louisiana, the most common and financially liquid location of reference for financial
derivatives related to natural gas. However, natural gas supplies for our production facilities
are purchased at locations other than Henry Hub, which often creates a location basis
differential between the contract price and the physical price of natural gas. Accordingly, the
use of financial derivatives may not exactly offset the changes in the price of physical gas.
The contracts are traded in months forward and settlement dates are scheduled to coincide with
gas purchases during that future period.
  12




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##### Table of Contents



A swap is a contract between us and a third party to exchange cash based on a designated price.
Option contracts give the holder the right to either own or sell a futures or swap contract.
The option contracts require initial premium payments ranging from 2% to 5% of contract value.
Basis swap contracts require payments to or from us for the amount, if any, that monthly
published gas prices from the source specified in the contract differ from the prices of a
NYMEX natural gas futures during a specified period. There are no initial cash requirements
related to the swap and basis swap agreements.The following summarizes the position of open natural gas derivative contracts at September 30,
2008, December 31, 2007 and September 30, 2007:
 Other
    
    
    AccruedCurrent
    
    
    Current
    
    
    Net(in thousands)
    
    Assets
    
    
    Liabilities
    
    
    Asset (Liability)September 30, 2008
    
    $
    11,779
    
    
    $
    (81,653
    )
    
    $
    (69,874
    )December 31, 2007
    
    $
    3,101
    
    
    $
    (7,959
    )
    
    $
    (4,858
    )September 30, 2007
    
    $
    2,867
    
    
    $
    (14,041
    )
    
    $
    (11,174
    )
 Certain derivatives outstanding at September 30, 2008 and 2007, which settled during October
2008 and 2007, respectively, are included in the position of open natural gas derivatives in
the table above. The October 2008 derivatives settled for an approximate $16.0 million loss as
compared to the October 2007 derivatives which settled for an approximate $4.0 million loss.
All open derivatives will settle during the next 12 months.We determined that certain derivative contracts were ineffective hedges for accounting purposes
and recorded a credit of $1.1 million and $1.2 million to cost of sales for the nine-month
periods ending September 30, 2008 and 2007, respectively.The effective portion of gains and losses on settlement of these contracts that qualify for
hedge treatment are carried as accumulated other comprehensive income (loss) and are credited
or charged to cost of sales in the month in which the hedged transaction settles. Gains and
losses on the contracts that do not qualify for hedge treatment are credited or charged to cost
of sales based on the positions fair value. The risk and reward of outstanding natural gas
positions are directly related to increases or decreases in natural gas prices in relation to
the underlying NYMEX natural gas contract prices.The activity related to accumulated other comprehensive income (loss) for the three-month
periods ended September 30, 2008 and 2007 is:
 (in thousands)
    
    2008
    
    
    2007Beginning accumulated gain (loss)
    
    $
    32,235
    
    
    $
    (13,753
    )Reclassification into earnings
    
    
    (7,060
    )
    
    
    (12,884
    )Net change associated with current period hedging transactions
    
    
    (94,479
    )
    
    
    14,569Ending accumulated loss
    
    $
    (69,304
    )
    
    $
    (12,068
    )
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##### Table of Contents



The activity related to accumulated other comprehensive income (loss) for the nine-month
periods ended September 30, 2008 and 2007 is:
 (in thousands)
    
    2008
    
    
    2007Beginning accumulated loss
    
    $
    (4,699
    )
    
    $
    (6,179
    )Reclassification into earnings
    
    
    15,185
    
    
    
    13,160Net change associated with current period hedging transactions
    
    
    (79,790
    )
    
    
    (19,049
    )Ending accumulated loss
    
    $
    (69,304
    )
    
    $
    (12,068
    )
 Approximately $69.3 million of the net accumulated loss at September 30, 2008 will be
reclassified into earnings during the next twelve months as compared to $12.1 million of the
net accumulated loss at September 30, 2007.At times, we also use forward derivative instruments to fix or set floor prices for a portion
of our nitrogen sales volumes. At September 30, 2008, we had no open contracts covering
nitrogen solutions. When outstanding, the nitrogen solution contracts do not qualify for hedge
treatment due to inadequate trading history to demonstrate effectiveness. Consequently, these
contracts are marked-to-market and unrealized gains or losses are reflected in revenue in the
statement of operations. For the three- and nine-month periods ending September 30, 2008, there
were no gains or losses on nitrogen forward derivative instruments. For the three- and
nine-month periods ending September 30, 2007, we recognized a loss of $0.7 million and $2.6
million, respectively, on nitrogen forward derivative instruments.6.
    
    Fair Value MeasurementsOn January 1, 2008, we adopted SFAS No. 157, Fair Value Measurements(SFAS 157), which, among
other things, requires enhanced disclosure of assets and liabilities measured and reported at
fair value. In February 2008, the Financial Accounting Standards Board (FASB) issued FASB Staff
Position No. 157-2, Effective Date of FASB Statement No. 157,which delayed for one year the
applicability of SFAS 157s fair-value measurements to certain nonfinancial assets and
liabilities. We adopted SFAS 157 in 2008, except as it applies to those nonfinancial assets and
liabilities affected by the one-year delay. The adoption of SFAS 157 did not have a material
impact on our financial statements.SFAS 157 establishes a hierarchal disclosure framework that prioritizes and ranks the level of
market price observability used in measuring assets and liabilities at fair value. Market price
observability is impacted by a number of factors, including the type of asset or liability and
their characteristics. Assets and liabilities with readily available active quoted prices or
for which fair value can be measured from actively quoted prices generally will have a higher
degree of market price observability and a lesser degree of judgment used in measuring fair
value.
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##### Table of Contents



The three levels are defined as follows:
 
    
    Level 1  inputs to the valuation methodology are unadjusted quoted prices for
identical assets or liabilities in active markets.
    
    Level 2  inputs to the valuation methodology include quoted prices for similar
assets and liabilities in active markets, and inputs that are observable for the asset
or liability, either directly or indirectly, for substantially the full term of the
financial instrument.
    
    Level 3  inputs to the valuation methodology are observable and significant to
the fair value measurement.
 We evaluated our assets and liabilities to determine which items should be disclosed according
to SFAS 157. We currently measure our derivative contracts on a recurring basis at fair value.
The inputs included in the fair value measurement of our derivative contracts use adjusted
quoted prices from an active market which are classified at level 2 as a significant other
observable input in the disclosure hierarchy framework as defined by SFAS 157.The following table summarizes the valuation of our assets and liabilities in accordance with
SFAS 157 fair value hierarchy levels as of September 30, 2008:
 Quoted Market
    
    
    Significant Other
    
    
    SignificantPrices in Active
    
    
    Observable
    
    
    UnobservableMarkets
    
    
    Inputs
    
    
    Inputs(in thousands)
    
    (Level 1)
    
    
    (Level 2)
    
    
    (Level 3)AssetsDerivative contracts
    
    $
    
    
    
    $
    11,779
    
    
    $
    Total
    
    $
    
    
    
    $
    11,779
    
    
    $
    LiabilitiesDerivative contracts
    
    $
    
    
    
    $
    (81,653
    )
    
    $
    Total
    
    $
    
    
    
    $
    (81,653
    )
    
    $
    
 7.
    
    Turnaround CostsThe following represents a summary of the deferred plant turnaround costs for the nine months
ended September 30, 2008:
 Turnaround
    
    
    
    
    
    
    CurrencyBeginning
    
    
    Costs
    
    
    Turnaround
    
    
    Translation
    
    
    Ending(in thousands)
    
    Balance
    
    
    Capitalized
    
    
    Amortization
    
    
    Adjustments
    
    
    BalancePeriod ended:September 30, 2008
    
    $
    16,841
    
    
    $
    341
    
    
    $
    (10,048
    )
    
    $
    
    
    
    $
    7,134
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##### Table of Contents



8.
    
    Revolving Credit FacilityWe have a $50.0 million revolving credit facility available that expires January 31, 2012. The
revolving credit facility bears interest at a variable rate plus a margin (London Interbank
Offer Rate (LIBOR) plus 175 basis points, or 5.68% at September 30, 2008). Under the credit
facility, we may borrow an amount generally based on eligible cash balances, 85% of eligible
accounts receivable and 60% of eligible finished goods inventory, less outstanding letters of
credit. Our borrowings under the credit facility are secured by substantially all of our working capital. The
agreement also requires us to adhere to certain limitations on additional debt, capital
expenditures, acquisitions, liens, asset sales, investments, prepayments of subordinated
indebtedness, changes in lines of business and transactions with affiliates. At September 30,
2008, we had $50.0 million of borrowing availability and there were no outstanding borrowings
or letters of credit under the facility.9.
    
    New Accounting PronouncementsIn December 2007, the Financial Accounting Standards Board (FASB) issued Statement of Financial
Accounting Standards (SFAS) 141R, Business Combination,which changes how business acquisitions
are accounted. SFAS 141R requires the acquiring entity in a business combination to recognize
all (and only) the assets acquired and liabilities assumed in the transaction, and establishes
the acquisition-date fair value as the measurement objective for all assets acquired and
liabilities assumed in a business combination. Certain provisions of this Standard will, among
other things, impact the determination of acquisition-date fair value of consideration paid in
a business combination (including contingent consideration); exclude transaction costs from
acquisition accounting; and change accounting practices for acquired contingencies,
acquisition-related restructuring costs, in-process research and development, indemnification
assets, and tax benefits. SFAS 141R is effective for business combinations and adjustments to
an acquired entitys deferred tax asset and liability balances occurring after December 31,
2008. We are currently evaluating the future impacts and disclosures of SFAS 141R.In December 2007, the FASB issued SFAS 160, Noncontrolling Interests in Consolidated Financial
Statements,an amendment of ARB No. 51, (SFAS 160). SFAS 160 improves the comparability and
transparency of financial statements when reporting minority interest. Entities with a
noncontrolling interest will be required to clearly identify and present the ownership interest
in the consolidated statement of financial position within equity, but separate from the
parents equity. The amount of consolidated net income attributable to the parent and to the
noncontrolling interest will be identified and presented on the face of the consolidated
statement of income. The statement offers further guidance on changes in ownership interest,
deconsolidation, and required disclosures. The statement is effective for fiscal years and
interim periods within those fiscal years beginning January 1, 2009. We are currently assessing
the impact SFAS 160 may have on our financial statements.In March 2008 the FASB issued SFAS 161, Disclosures about Derivative Instruments and Hedging
Activities(SFAS 161). SFAS 161 is an amendment of SFAS 133, Accounting for Derivative
Instruments and Hedging Activities(SFAS 133). To address concerns that the existing
disclosure requirements of SFAS 133 do not provide adequate information, this Statement
requires enhanced disclosures about an entitys derivative and hedging activities and thereby
improves the transparency of financial reporting. This statement shall be effective for
financial statements issued for fiscal years and interim periods beginning after November 15,
2008. We are currently evaluating the future impacts and disclosures of SFAS 161.
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##### Table of Contents



The FASB has issued Draft Abstract Emerging Issues Task Force (EITF) Issue 07-4, Application of
the Two-Class Method under FASB Statement No. 128 to Master Limited Partnerships(EITF 07-4).
EITF 07-4 specifies the treatment of earnings per unit calculations when incentive distribution
rights exist. The issue shall be effective for financial statements issued for fiscal years
and interim
periods within those fiscal years beginning January 1, 2009. We are currently assessing the
impact EITF 07-4 may have on our financial statements.In May 2008, the FASB issued SFAS 162, The Hierarchy of Generally Accepted Accounting
Principles(SFAS 162). SFAS 162 identifies the sources of accounting principles and the
framework for selecting the principles to be used in the preparation of financial statements of
nongovernmental entities that are presented in conformity with generally accepted accounting
principles (GAAP) in the United States (the GAAP hierarchy). This Statement is effective 60
days following the Security and Exchange Commissions approval of the Public Company Accounting
Oversight Board amendments to Auditing Standards Section 411. We do not expect the adoption of
SFAS 162 to have a material impact on our results of operations or financial condition.
  17




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##### Table of Contents



ITEM 2.
    
    MANAGEMENTS DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
 Introduction
     Dependence on Terra Industries
   18




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##### Table of Contents



Three months ended September 30, 2008 compared with
three months ended September 30, 2007
  2008
    
    
    2007Volumes
    
    
    Unit Price
    
    
    Volumes
    
    
    Unit Price(000 tons)
    
    
    ($/ton)2
    
    
    (000 tons)
    
    
    ($/ton)2Ammonia
    
    
    68
    
    
    $
    664
    
    
    
    57
    
    
    $
    367UAN (32% basis)1
    
    
    536
    
    
    $
    342
    
    
    
    432
    
    
    $
    233
 1.
    
    The nitrogen content of UAN is 32% by weight.2.
    
    After deducting outbound freight costs.    19




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##### Table of Contents



Nine months ended September 30, 2008 compared with
nine months ended September 30, 2007
  2008
    
    
    2007Volumes
    
    
    Unit Price
    
    
    Volumes
    
    
    Unit Price(000 tons)
    
    
    ($/ton)2
    
    
    (000 tons)
    
    
    ($/ton)2Ammonia
    
    
    222
    
    
    $
    582
    
    
    
    221
    
    
    $
    370UAN (32% basis)1
    
    
    1,560
    
    
    $
    321
    
    
    
    1,486
    
    
    $
    215
 1.
    
    The nitrogen content of UAN is 32% by weight.2.
    
    After deducting outbound freight costs.   Capital resources and liquidity
      20




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##### Table of Contents



21




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##### Table of Contents



Income and Distribution AllocationClass BTarget
    
    
    Target
    
    
    Common
    
    
    Common
    
    
    GeneralLimit
    
    
    Increment
    
    
    Units
    
    
    Units
    
    
    Partner
    
    
    TotalMinimum Quarterly Distribution
    
    $
    0.605
    
    
    $
    0.605
    
    
    
    98.990
    %
    
    
    0.985
    %
    
    
    0.025
    %
    
    
    100.000
    %First Target
    
    
    0.715
    
    
    
    0.110
    
    
    
    98.990
    %
    
    
    0.985
    %
    
    
    0.025
    %
    
    
    100.000
    %Second Target
    
    
    0.825
    
    
    
    0.110
    
    
    
    85.859
    %
    
    
    0.985
    %
    
    
    13.156
    %
    
    
    100.000
    %Third Target
    
    
    1.045
    
    
    
    0.220
    
    
    
    75.758
    %
    
    
    0.985
    %
    
    
    23.257
    %
    
    
    100.000
    %Final Target and Beyond
    
    
    1.045
    
    
    
    
    
    
    
    50.505
    %
    
    
    0.985
    %
    
    
    48.510
    %
    
    
    100.000
    %
      22




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##### Table of Contents



ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
   
 ITEM 4. CONTROLS AND PROCEDURES
   FORWARD-LOOKING INFORMATION IS SUBJECT TO RISK AND UNCERTAINTY
   23




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##### Table of Contents




    
    changes in financial markets,
    
    general economic conditions within the agricultural industry,
    
    competitive factors and price changes (principally, sales prices of nitrogen products
and natural gas costs),
    
    changes in product mix,
    
    changes in the seasonality of demand patterns,
    
    changes in weather conditions,
    
    changes in environmental and other government regulations,
    
    changes in agricultural regulations, and
    
    other risks detailed in the section entitled Risk Factors.
 Business Managements Discussion and Analysis of Financial Condition and Results of
Operations Notes to our Consolidated Financial Statements
  24




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##### Table of Contents



PART II. OTHER INFORMATION
 
 ITEM 1. LEGAL PROCEEDINGS
  
 ITEM 1A. RISK FACTORS
  
 ITEM 2. UNREGISTERED SALES OF EQUITY SECURITIES AND USE OF PROCEEDS
  
 ITEM 3. DEFAULTS UPON SENIOR SECURITIES
  
 ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
  
 ITEM 5. OTHER INFORMATION
   25




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##### Table of Contents



ITEM 6. EXHIBITS
 (a) Exhibits:
 Exhibits 31.1
    
    Certification of the Chief Executive Officer Pursuant to
Section 302 of the Sarbanes-Oxley Act of 2002Exhibits 31.2
    
    Certification of the Vice President and Chief Accounting
Officer Pursuant to Section 302 of the Sarbanes-Oxley Act of
2002Exhibit 32.1
    
    Certification of the Chief Executive Officer Pursuant to
Section 906 of the Sarbanes-Oxley Act of 2002Exhibit 32.2
    
    Certification of the Vice President and Chief Executive
Officer Pursuant to Section 906 of the Sarbanes-Oxley Act of
2002
  26




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##### Table of Contents



SIGNATURE
  TERRA NITROGEN COMPANY, L.P.By:
    
    TERRA NITROGEN GP INC.as General PartnerBy:
    
    /s/ DANIEL D. GREENWELLDaniel D. GreenwellVice President andChief Accounting Officer
(Principal Financial Officer)
   27




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##### Table of Contents



EXHIBIT INDEX
 Exhibits 31.1
    
    Certification of the Chief Executive Officer Pursuant to
Section 302 of the Sarbanes-Oxley Act of 2002Exhibits 31.2
    
    Certification of the Vice President and Chief Accounting
Officer Pursuant to Section 302 of the Sarbanes-Oxley Act of
2002Exhibit 32.1
    
    Certification of the Chief Executive Officer Pursuant to
Section 906 of the Sarbanes-Oxley Act of 2002Exhibit 32.2
    
    Certification of the Vice President and Chief Executive
Officer Pursuant to Section 906 of the Sarbanes-Oxley Act of
2002
  28