UNITED STATES SECURITIES AND EXCHANGE COMMISSION

                             WASHINGTON, D. C. 20549
                                    FORM 10-Q

(Mark One)
 X  QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE
---
    ACT OF 1934

For the quarterly period ended       September 30, 1996

                                       OR

    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      1-7179

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

           DELAWARE                                            63-0647939
(State or other jurisdiction of                             (I.R.S. Employer
 incorporation or organization)                            Identification No.)

           AMSOUTH-SONAT TOWER
           BIRMINGHAM, ALABAMA                                  35203
(Address of principal executive offices)                     (Zip Code)

Registrant's telephone number:                             (205) 325-3800


     NO CHANGE  (Former name,  former address and former fiscal year, if changed
since last report)


     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  (or for such  shorter  period  that the
registrant was required to file such reports),  and (2) has been subject to such
filing requirements for the past 90 days.

                                   Yes X No _

     Indicate the number of shares  outstanding of each of the issuer's  classes
of common stock, as of the latest practicable date.

                         COMMON STOCK, $1.00 PAR VALUE:

                           86,257,117 SHARES OUTSTANDING ON OCTOBER 31, 1996



<PAGE>



                           SONAT INC. AND SUBSIDIARIES


                                      INDEX
<TABLE>
<CAPTION>
<S>                                                                                       <C>    
                                                                                               
                                                                                          Page No.

PART I.    Financial Information

           Item 1.    Financial Statements

                      Condensed Consolidated Balance Sheets
                          (Unaudited)--September 30, 1996 and
                          December 31, 1995                                               1

                      Condensed Consolidated Statements of Income
                          (Unaudited)--Three Months and Nine Months Ended
                          September 30, 1996 and 1995 2

                      Condensed Consolidated Statements of Cash Flows
                          (Unaudited)--Nine Months Ended
                          September 30, 1996 and 1995                                     3

                      Notes to Condensed Consolidated Financial
                          Statements (Unaudited)                                          4 - 11

           Item 2.    Management's Discussion and Analysis of Financial
                          Condition and Results of Operations                             12 - 26

PART II.   Other Information

           Item 1.    Legal Proceedings                                                   27

           Item 6.    Exhibits and Reports on Form 8-K                                    27
</TABLE>





<PAGE>


                          
                          PART I. FINANCIAL INFORMATION
Item 1.  Financial Statements
                           SONAT INC. AND SUBSIDIARIES
                      CONDENSED CONSOLIDATED BALANCE SHEETS
                                   (Unaudited)

<TABLE>
<CAPTION>


                                                               September 30,          December 31,
                                                                    1996                      1995
                                                                          (In Thousands)
                                     ASSETS
Current Assets:
<S>                                                               <C>                   <C>

   Cash and cash equivalents                                        $ 20,008              $ 37,289
   Accounts receivable                                               338,602               349,441
   Inventories                                                        37,938                23,956
   Gas imbalance receivables                                          16,047                16,556
   Federal income taxes                                               16,324                12,979
   Other                                                              39,646                54,210
                                                                    --------              --------
      Total Current Assets                                           468,565               494,431
                                                                    --------              --------

Investments in Unconsolidated Affiliates and Other                   454,828               432,769
                                                                    --------              --------

Plant, Property and Equipment                                      5,090,707             4,822,879
   Less accumulated depreciation, depletion
      and amortization                                             2,641,253             2,545,320
                                                                  ----------            ----------
                                                                   2,449,454             2,277,559
                                                                  ----------            ----------
Deferred Charges and Other:
   Gas supply realignment costs                                       21,115               199,073
   Other                                                              94,355               107,609
                                                                    --------              --------
                                                                     115,470               306,682
                                                                    --------              --------

                                                                  $3,488,317            $3,511,441
                                                                  ==========            ==========

                      LIABILITIES AND STOCKHOLDERS' EQUITY

Current Liabilities:
   Long-term debt due within one year                               $ 53,524              $ 18,750
   Unsecured notes and commercial paper                              128,120               218,900
   Accounts payable                                                  338,426               297,660
   Accrued state income taxes                                          8,689                10,579
   Accrued interest                                                   28,751                27,115
   Gas imbalance payables                                             17,944                21,444
   Other                                                              52,140                45,677
                                                                    --------              --------
      Total Current Liabilities                                      627,594               640,125
                                                                    --------              --------

Long-Term Debt                                                       867,606               770,313
                                                                    --------              --------

Deferred Credits and Other:
   Deferred income taxes                                             285,911               213,122
   Reserves for regulatory matters                                    14,358               181,798
   Other                                                             155,686               223,441
                                                                    --------              --------
                                                                     455,955               618,361
                                                                    --------              --------
Commitments and Contingencies

Stockholders' Equity:
   Common stock and other                                            122,533               127,039
   Retained earnings                                               1,451,492             1,387,137
                                                                  ----------            ----------
                                                                   1,574,025             1,514,176
   Less treasury stock                                               (36,863)              (31,534)
                                                                    --------              --------
      Total Stockholders' Equity                                   1,537,162             1,482,642
                                                                  ----------            ----------

                                                                  $3,488,317            $3,511,441
                                                                  ==========            ==========
</TABLE>

                             See accompanying notes.



                           SONAT INC. AND SUBSIDIARIES
                   CONDENSED CONSOLIDATED STATEMENTS OF INCOME
                                   (Unaudited)

<TABLE>
<CAPTION>


                                                        Three Months                  Nine Months
                                                 Ended September 30,          Ended September 30,
                                                1996          1995         1996           1995
                                                    (In Thousands, Except Per-Share Amounts)
<S>                                           <C>            <C>         <C>            <C> 

Revenues                                      $788,161       $509,429    $2,369,718     $1,410,807
                                              --------       --------    ----------     ----------

Costs and Expenses:
   Natural gas cost                            513,673        289,053     1,452,140        741,795
   Transition cost recovery                      7,309         32,259       160,445         40,665
   Operating and maintenance                    70,948         41,645       167,122        119,811
   General and administrative                   34,089         34,517       108,202        101,017
   Depreciation, depletion
      and amortization                          74,670         67,110       213,421        208,161
   Taxes, other than income                     12,312          9,641        35,756         31,294
                                               -------       --------       -------     ----------
                                               713,001        474,225     2,137,086      1,242,743
                                              --------       --------    ----------     ----------

Operating Income                                75,160         35,204       232,632        168,064

Other Income (Loss), Net:
   Equity in earnings of
      unconsolidated affiliates                  8,832         11,037        25,285         35,920
   Sale of subsidiary stock                         -         188,012            -         188,012
   Minority interest                               (87)           (95)       (5,196)           (95)
   Other                                         4,697            232         6,586        (35,492)
                                                ------          -----        ------     ----------
                                                13,442        199,186        26,675        188,345
                                               -------       --------       -------     ----------

Interest:
   Interest income                                 988          1,929         3,311          5,617
   Interest expense                            (21,888)       (25,074)      (70,023)       (83,476)
   Interest capitalized                          1,240          1,534         3,918          4,973
                                                ------       --------        ------     ----------
                                               (19,660)       (21,611)      (62,794)       (72,886)
                                              --------       --------      --------     ----------

Income before Income Taxes                      68,942        212,779       196,513        283,523

Income Tax Expense                              20,908         82,259        62,315         98,045
                                               -------       --------       -------     ----------

Net Income                                    $ 48,034       $130,520     $ 134,198     $  185,478
                                              ========       ========     =========     ==========

Earnings Per Share of Common Stock               $ .56       $   1.51        $ 1.56     $     2.15
                                                 =====       ========        ======     ==========

Weighted Average Shares Outstanding             86,228         86,273        86,188         86,332

Dividends Paid Per Share                         $ .27       $    .27         $ .81     $      .81
                                                 =====       ========         =====     ==========
</TABLE>








                             See accompanying notes.


<PAGE>

                           SONAT INC. AND SUBSIDIARIES
                 CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
                                   (Unaudited)

<TABLE>
<CAPTION>

                                                                            Nine Months
                                                                        Ended September 30,
                                                                    1996                 1995
                                                                          (In Thousands)
Cash Flows from Operating Activities:
<S>                                                                <C>                 <C>    

   Net income                                                      $ 134,198           $   185,478
   Adjustments to reconcile net income to net
      cash provided by operating activities:
         Depreciation, depletion and amortization                    213,421               208,161
         Deferred income taxes                                        72,851                34,094
         Equity in earnings of unconsolidated affiliates,
           less distributions                                        (18,324)              (28,184)
         Gain on sale of subsidiary stock and
           disposal of assets, net                                    (3,390)             (147,807)
         Reserves for regulatory matters                            (167,440)               (6,330)
         Gas supply realignment costs                                182,325               (50,319)
         Change in:
           Accounts receivable                                        10,839                23,057
           Inventories                                               (13,982)                  606
           Accounts payable                                           40,766                (9,448)
           Accrued interest and income taxes, net                     (4,806)               15,332
           Other current assets and liabilities                       19,301                (4,179)
         Other                                                       (40,716)              (59,346)
                                                                    --------           -----------

           Net cash provided by operating activities                 425,043               161,115
                                                                    --------           -----------

Cash Flows from Investing Activities:
   Plant, property and equipment additions                          (399,522)             (357,441)
   Net proceeds from sale of subsidiary stock and
      disposal of assets                                              10,270               593,213
   Advances to unconsolidated affiliates
      and other                                                      (13,883)              (10,833)
                                                                    --------           -----------

           Net cash provided by (used in)
              investing activities                                  (403,135)              224,939
                                                                   ---------           -----------

Cash Flows from Financing Activities:
   Proceeds from issuance of long-term debt                          400,000             3,103,000
   Payments of long-term debt                                       (267,933)           (3,295,495)
   Changes in short-term borrowings                                  (90,780)             (100,000)
                                                                    --------           -----------
      Net changes in debt                                             41,287              (292,495)
   Dividends paid                                                    (69,843)              (69,930)
   Other                                                             (10,633)               25,383
                                                                    --------           -----------

           Net cash used in financing activities                     (39,189)             (337,042)
                                                                    --------           -----------

Net Increase (Decrease) in Cash and Cash Equivalents                 (17,281)               49,012

Cash and Cash Equivalents at Beginning of Period                      37,289                 9,131
                                                                     -------           -----------

Cash and Cash Equivalents at End of Period                          $ 20,008           $    58,143
                                                                    ========           ===========

Supplemental Disclosures of Cash Flow Information
Cash Paid for:
   Interest (net of amount capitalized)                             $ 49,497           $    65,812
   Income taxes, net                                                   5,907                77,150


                             See accompanying notes.
</TABLE>



<PAGE>



                           SONAT INC. AND SUBSIDIARIES

                       NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
                                   (Unaudited)

1.      Basis of Presentation

        The accompanying  condensed  consolidated  financial statements of Sonat
Inc. (Sonat) and its subsidiaries (the Company) have been prepared in accordance
with the  instructions  to Form 10-Q and include the  information  and footnotes
required by such  instructions.  In the opinion of management,  all  adjustments
including those of a normal  recurring  nature have been made that are necessary
for a fair presentation of the results for the interim periods presented herein.

        Certain amounts in the 1995 condensed  consolidated financial statements
have been reclassified to conform with the 1996 presentation.

        Statement of Financial  Accounting  Standards (SFAS) No. 123, Accounting
for  Stock-Based  Compensation,  became  effective  for  years  beginning  after
December  15,  1995.  SFAS No.  123  allows a choice  between  either the method
required by Accounting Principles Board (APB) Opinion No. 25 or a new fair-value
based method. Under either method new disclosures will be required.  The Company
has elected to continue  to apply the  provisions  of APB Opinion No. 25 for its
stock-based compensation awards.

2.      Derivative Financial Instruments

Commodity Price Risk

        The  Company  uses  futures  contracts,  options and oil and natural gas
price  swap  agreements  to hedge  its  commodity  price  risk.  Gains or losses
experienced  on hedging  transactions  are offset by the related gains or losses
recognized on the sale of the commodity.

        Futures - Natural  gas  futures  contracts  and  options on natural  gas
futures  contracts  are  traded  on the New York  Mercantile  Exchange  (NYMEX).
Contracts  are for fixed units of 10,000  MMBtu and are  available  for up to 36
months in the future.  NYMEX  requires  both  parties  (buyers  and  sellers) to
futures  contracts to deposit cash or other assets (the margin) with a broker at
the time the contract is initiated.  Brokers mark open positions to market daily
and require  additional  assets to be  maintained  on deposit  when  significant
unrealized  losses  are  experienced  or  allow  deposits  to  be  reduced  when
unrealized gains are experienced. At September 30, 1996, Sonat Marketing Company
L.P. (Sonat Marketing), a 65 percent-owned subsidiary of Sonat, had $6.1 million
on deposit with brokers for margin calls,  included in other  current  assets on
the Consolidated Balance Sheet.

        Sonat Marketing uses futures  contracts to reduce exposure to price risk
when gas is not bought and sold  simultaneously.  At September  30, 1996,  Sonat
Marketing  had a total of 130 net  contracts  open  (4,959  long and 4,829 short
futures contracts) and a deferred loss of $.3 million,  representing  unrealized
losses on contracts  that will mature  throughout  1996,  1997 and 1998.  Option
activity during the third quarter of 1996 was not material.

2.      Derivative Financial Instruments (Cont'd)

        Sonat's wholly owned subsidiary Sonat Exploration Company, through Sonat
Marketing,  may use futures  contracts to lock in the price for a portion of its
expected  future  natural gas  production  when it  believes  that prices are at
acceptable  levels.  Sonat  Exploration  had  lower  revenues  of $18.8  million
relating to losses on gas futures in the 1996 nine-month period.

        Swaps  - Price  swap  agreements  call  for one  party  to make  monthly
payments to (or receive payments from) another party based upon the differential
between a fixed and a variable price  (fixed-price  swap) or two variable prices
(basis swap) for a notional volume specified by the contract.  Sonat Exploration
uses swap  agreements to hedge exposure to changes in spot-market  prices on the
amount of production  covered in the  agreement.  Sonat  Marketing uses swaps to
lock in a margin on its gas transactions.

        Sonat  Exploration  has one oil price swap  agreement for 1996,  hedging
approximately  40 percent of the expected oil  production  for the  remainder of
1996, which sets a fixed price of $18.00 per barrel.  This swap is not in effect
during  days when the market  price  falls  below  $16.39.  Oil  revenues in the
nine-month  1996 period were  reduced by $8.0 million for the effect of oil swap
transactions.  Sonat  Exploration has two natural gas price swap agreements that
tend to offset each other. Sonat Exploration has incurred a loss of $2.2 million
on gas swap agreements for the current nine-month period.

        Sonat  Marketing had a total of 38  fixed-price  swap  agreements and 62
variable-price swap agreements at September 30, 1996, to exchange payments based
on a total notional  volume of 85 TBtu of natural gas over periods  ranging from
one month to seven years.  Sonat Marketing also has a gas price collar agreement
which provides it a floor price of $1.80 on notional volumes of 37 TBtu and sets
a ceiling  price of $2.56 on  notional  volumes  of 30 TBtu.  In the first  nine
months of 1996, a loss of $2.2 million was recognized under these agreements.

        The Company's  credit exposure on swaps is limited to the value of swaps
that are in a favorable  position to the  Company.  At September  30, 1996,  the
market value of the Company's  fixed-price  favorable swaps was $.3 million. The
net position of all fixed-price swaps, both favorable and unfavorable,  was $1.5
million  unfavorable.  The market value of the basis swaps is not material.  The
market value of the gas price collar agreement is $1.7 million unfavorable.

        Sonat  Exploration has hedged a portion of its production of oil and gas
starting  in  January  1997 by  entering  into  fixed  price  swaps  with  Sonat
Marketing.  Oil  production  in  the  amount  of  1,290,000  barrels  is  hedged
throughout  1997 with Sonat  Exploration  to receive  fixed  prices of $20.25 to
$21.75 per barrel.  Gas production in the amount of 78,470,000  MMBtus is hedged
throughout 1997 and 1998 with Sonat Exploration to receive fixed prices of $2.00
to $2.04 per MMBtu.

<PAGE>


2.      Derivative Financial Instruments (Cont'd)

Sonat  Marketing  Company has hedged its risk from  entering into these swaps by
putting on futures  positions  and  entering  into  offsetting  swaps with third
parties with aggregate volumes equal to its swaps with Sonat Exploration.

Financial Risk

        On January 22, 1996,  Southern  Natural Gas Company  (Southern)  entered
into a forward rate  agreement to hedge the interest rate risk of an anticipated
future  borrowing under an existing shelf  registration  statement.  The base 10
year treasury rate for this future  borrowing was hedged at  approximately  5.78
percent on a notional  amount of $97 million.  In September 1996, due to revised
expectations of external financing requirements,  50 percent of the forward rate
agreement was liquidated  resulting in a gain of $3.9 million.  At September 30,
1996, the fair market value of the remaining  $48.5 million  notional  amount of
this agreement was approximately $3 million.

3.      Unconsolidated Affiliates

        The  following  table  presents the  components of equity in earnings of
unconsolidated affiliates.

<TABLE>
<CAPTION>


                                                         Three Months                 Nine Months
                                                   Ended September 30,         Ended September 30,
                                                 1996          1995           1996          1995
                                                                 (In Thousands)

Company's Share of Reported Earnings (Losses):
<S>                                              <C>          <C>            <C>          <C>

   Exploration and Production                    $ 102        $   140         $ 290        $   475
                                                 -----        -------         -----        -------

   Natural Gas Transmission:
      Citrus Corp.                               5,770          7,290        15,779         19,475
      Amortization of Citrus basis
         difference                                345            345         1,037          1,037
      Bear Creek Storage Company                 2,433          2,385         7,462          7,307
      Other                                        (91)           (67)         (226)          (145)
                                                  ----        -------         -----        -------
                                                 8,457          9,953        24,052         27,674
                                                 ------        -------       -------        -------

   Energy Marketing                                 -              (2)           -             (10)
                                                   ---            ---           ---           ----

   Other:
      Sonat Offshore Drilling                       -             606            -           6,735
      Other affiliates                             273            340           943          1,046
                                                  ----        -------          ----        -------
                                                   273            946           943          7,781
                                                  ----        -------          ----        -------

                                                $8,832        $11,037       $25,285        $35,920
                                                ======        =======       =======        =======
</TABLE>


3.      Unconsolidated Affiliates (Cont'd)

        Natural Gas  Transmission  Affiliates  - Sonat owns 50 percent of Citrus
Corp.,  the  parent  of  Florida  Gas  Transmission  Company  (Florida  Gas).  A
subsidiary  of  Southern  owns 50 percent of Bear Creek  Storage  Company  (Bear
Creek), an underground gas storage company.

        The following is summarized income statement information for Citrus:
<TABLE>
<CAPTION>


                                                        Three Months                  Nine Months
                                                 Ended September 30,          Ended September 30,
                                                1996          1995           1996          1995
                                                                 (In Thousands)
<S>                                           <C>            <C>           <C>            <C>  

Revenues                                      $205,801       $186,104      $583,183       $505,959
Expenses (Income):
   Natural gas cost                            118,407        102,930       322,435        272,480
   Operating expenses                           30,733         34,432        97,087         97,893
   Depreciation and amortization                11,668         11,651        35,127         31,248
   Allowance for funds used
      during construction                         (129)       (12,144)         (275)       (32,441)
   Interest and other                           26,283         25,471        77,277         73,327
   Income taxes                                  7,299          9,184        19,974         24,502
                                                ------       --------       -------       --------

Income Reported                               $ 11,540       $ 14,580      $ 31,558       $ 38,950
                                              ========       ========      ========       ========
</TABLE>


        Florida Gas' Phase III  expansion,  which began in 1994,  was  completed
during  February  1995.  Income  for the  first  nine  months  of 1995  reflects
significant  allowance for funds used during  construction  attributable  to the
Phase III expansion.

        The following is summarized income statement information for Bear Creek.
No provision for income taxes has been included  since its income taxes are paid
directly by the joint-venture participants.
<TABLE>
<CAPTION>


                                                        Three Months                  Nine Months
                                                 Ended September 30,          Ended September 30,
                                                1996          1995           1996          1995
                                                                 (In Thousands)
<S>                                             <C>            <C>          <C>            <C> 

Revenues                                        $8,924         $8,885       $27,117        $27,113
Expenses:
   Operating expenses                            1,262          1,206         3,797          3,732
   Depreciation                                  1,354          1,350         4,061          4,049
   Other expenses, net                           1,441          1,560         4,335          4,718
                                                ------         ------        ------        -------

Income Reported                                 $4,867         $4,769       $14,924        $14,614
                                                ======         ======       =======        =======
</TABLE>


4.      Debt and Lines of Credit

        Long-Term  Debt -  Sonat  has a bank  revolving  credit  agreement  that
provides for periodic  borrowings and  repayments of up to $500 million  through
June 30, 2001.  Borrowings are supported by unsecured  promissory notes that, at
the option of the Company,  will bear interest at the banks' prevailing prime or
international  lending rate, or such rates as the banks may  competitively  bid.
During the first nine months of 1996, $400 million was borrowed and $250 million
was repaid  under the  revolving  credit  agreement,  resulting  in $150 million
outstanding at September 30, 1996, at a rate of 5.60 percent.

        Unsecured  Notes  -  Loans   outstanding  under  all  short-term  credit
facilities are for a duration of less than three months.

        Sonat and Southern  have  available  short-term  lines of credit of $200
million and $50 million,  respectively, for a period of 364 days. Borrowings are
available  through May 27,  1997,  and are in the form of  unsecured  promissory
notes  that  bear  interest  at rates  based  on the  banks'  prevailing  prime,
international  or money-market  lending rates. At September 30, 1996, no amounts
were outstanding under Sonat's agreement or Southern's agreement.

        Sonat had $128.1 million in commercial  paper  outstanding at an average
rate of 5.57 percent at September 30, 1996.

5.      Commitments and Contingencies

        Rate Matters - Periodically,  Southern and its subsidiaries make general
rate filings with the Federal Energy Regulatory Commission (FERC) to provide for
the recovery of cost of service and a return on equity. The FERC normally allows
the filed rates to become  effective,  subject to refund,  until it rules on the
approved level of rates. Southern and its subsidiaries provide reserves relating
to such amounts collected  subject to refund,  as appropriate,  and make refunds
upon  establishment of the final rates. At September 30, 1996,  Southern's rates
are  established  by the  Customer  Settlement  and a FERC order  effective  for
parties  contesting  the Customer  Settlement and are not subject to refund (see
discussion below).

        Customer  Settlement  - In 1992 the FERC  issued  its Order No. 636 (the
Order).  The Order  required  significant  changes  in  interstate  natural  gas
pipeline  services.  Interstate  pipeline  companies,  including  Southern,  are
incurring  certain  costs  (transition  costs)  as a result  of the  Order,  the
principal one being costs related to amendment or termination  of, or purchasing
gas at above-market  prices under,  existing gas purchase  contracts,  which are
referred to as gas supply realignment (GSR) costs.

        In an order issued on September 29, 1995,  (the Settlement  Order),  the
FERC approved a comprehensive settlement (the Customer Settlement) that

<PAGE>


5.      Commitments and Contingencies (Cont'd)

Southern  had  filed  on March  15,  1995.  The  Customer  Settlement,  which is
effective  as to all  Southern's  customers,  except one  customer  representing
approximately  2  percent  of the firm  transportation  capacity  on  Southern's
system,  resolved all of  Southern's  previously  pending rate  proceedings  and
proceedings  to  recover  GSR and other  transition  costs  associated  with the
implementation  of Order No.  636.  The four major rate  cases  resolved  by the
Customer  Settlement cover consecutive  periods beginning  September 1, 1989. In
May 1996, the Settlement became final and Southern credited in the aggregate the
full amount of Southern's  rate reserves as of February 28, 1995, plus interest,
less certain amounts withheld for potential  refunds to contesting  parties,  to
reduce the GSR costs borne by Southern's customers. The total credit recorded in
May 1996 amounted to $164 million. Southern implemented reduced settlement rates
effective  March 1, 1995.  The  Customer  Settlement  provides  that,  except in
certain limited circumstances,  Southern will not file a general rate case to be
effective  prior to March 1, 1998. The Settlement  also provides for Southern to
recover $363 million of GSR costs incurred or reserved as of September 30, 1996,
and 50 percent of future GSR costs that  Southern  may incur  thereafter,  which
future costs the Company believes will not be material to its financial position
or results of operations.

        Several parties that opposed the Customer  Settlement had filed with the
FERC requests for rehearing of the Settlement Order. On April 11, 1996, the FERC
denied those  requests for  rehearing of the  Settlement  Order and also decided
certain issues in prior rate proceedings  that affect the contesting  parties to
the  Customer  Settlement  (April  11  Order).  Pursuant  to the April 11 Order,
Southern made refunds to the  contesting  parties in May 1996  covering  various
rate  periods  from January 1, 1991,  through  December  31, 1995.  Southern was
adequately reserved for these refunds. The only issues remaining to be litigated
at the FERC by the one remaining  contesting party concern the recoverability of
certain GSR and other  transition  costs under Order No. 636, which would not be
material  even if  such  issues  were  determined  adversely  to  Southern.  The
contesting  party,  and one  other  entity  that may  potentially  compete  with
Southern in providing  storage  services,  have each appealed the April 11 Order
and the Settlement  Order to the D.C.  Circuit Court of Appeals.  Although there
can be no assurances,  the Company  believes that the  Settlement  Order and the
April 11 Order should be upheld on appeal.

        Sea Robin - In January 1995, Sea Robin Pipeline Company, a subsidiary of
Southern,  filed with the FERC a petition for a declaratory  ruling that the Sea
Robin  pipeline  system is  engaged  in the  gathering  of  natural  gas and is,
therefore,  exempt from FERC regulation under the Natural Gas Act. In June 1995,
the FERC denied Sea Robin's  petition on the basis that the primary  function of
the Sea Robin  system  is the  interstate  transportation  of gas.  Sea  Robin's
request for  rehearing  of that ruling was denied by the FERC on June 26,  1996.
Sea Robin filed on August 15, 1996,  for judicial  review of the orders  denying
its petition.

5.      Commitments and Contingencies (Cont'd)

        Following the filing of Sea Robin's petition for a gathering  exemption,
several of the  shippers on the Sea Robin system filed with the FERC in February
1995 a  complaint  against  Sea Robin  under  Section 5 of the  Natural  Gas Act
claiming that Sea Robin's rates are unjust and unreasonable.  In its answer, Sea
Robin asked the FERC to dismiss the complaint or to find that its rates continue
to be just and reasonable based on the data it presented.  On July 31, 1996, the
FERC issued an order on the complaint,  instituting an investigation and hearing
under  Section 5 of the  Natural  Gas Act.  Sea Robin is unable to  predict  the
outcome of this  proceeding,  but any reduction in Sea Robin's rates as a result
of this  complaint can be implemented  only on a prospective  basis and any such
change is not  expected to be material to the  Company's  financial  position or
results of operations.

        Gas Purchase  Contracts - Southern currently is incurring no take-or-pay
liabilities under its gas purchase  contracts.  Southern regularly evaluates its
position relative to gas purchase contract matters,  including the likelihood of
loss from asserted or unasserted take-or-pay claims or above-market prices. When
a loss is probable and the amount can be reasonably estimated, it is accrued.

        Briggs v. Sonat  Exploration - On October 18, 1996, the Court  certified
two  settlement  classes  and  entered a final  order  approving  the terms of a
settlement   agreement,   which  had  been  previously  negotiated  between  the
Plaintiffs and Sonat  Exploration  under which Sonat  Exploration  agreed to pay
approximately   $8.5  million  (including  $1.6  million  of  interest)  into  a
settlement  fund for the  benefit  of the class  members.  Under the  settlement
agreement,  all claims raised in the litigation  have been  dismissed,  and with
respect to the respective class members,  other than those that elect to opt out
of the settlement,  the following  claims have been released (i) all claims that
the members of the first  settlement  class have  relating  to any  adjustments,
deductions  or charges  made by Sonat  Exploration,  Sonat  Marketing or certain
affiliated  gathering entities against the production revenue share of the class
members for periods prior to the effective date of the settlement,  (ii) for all
periods  prior to the  effective  date of the  settlement  all  claims  that the
members  of the  second  settlement  class  may have  relating  to any  proceeds
received by Sonat  Exploration under two term gas sales contracts to which Sonat
Exploration  was a party and (iii) for all periods prior to January 1, 1996, all
claims that members of the second settlement class have relating to any proceeds
received by Sonat  Exploration  allocated to such members'  share of production,
the sale of natural gas by Sonat Exploration to Sonat Marketing,  including such
sales at index prices and the marketing fees charged Sonat  Exploration by Sonat
Marketing and the margins realized by Sonat Marketing upon the sale by it of gas
purchased from Sonat Exploration.  The approximately  2,800 members of the first
settlement  class  include the persons who own  interests in onshore  wells that
were provided gathering services by three affiliated  gathering systems operated
by Sonat Exploration.  The approximately 40,500 members of the second settlement
class include the persons that own

<PAGE>


5.      Commitments and Contingencies (Cont'd)

interests in onshore  wells in Texas,  Louisiana,  Arkansas,  Oklahoma,  and New
Mexico whose natural gas has been sold by Sonat  Exploration  and whose share of
revenue was reduced by marketing fees charged by Sonat Marketing, except certain
royalty  interest  owners in wells in Oklahoma  who are  presently  members of a
class certified in an action pending in an Oklahoma state court. Pursuant to the
settlement agreement,  Sonat Exploration did not admit any liability.  The court
also awarded  attorneys'  fees and costs of $3.15  million.  The  judgment  will
become final, if no post-judgment motions are filed or appeals taken, sixty days
from October 18.  Payment under the judgment will be made as soon  thereafter as
practical.

        FERC Audit of Florida Gas - The FERC's  Division  of Audits  completed a
compliance  review of Florida  Gas' books and records for the period  January 1,
1991,  through  February  28,  1995.  Among  other  things,  the  FERC  auditors
questioned  certain  aspects of Florida Gas'  procedures  for accounting for the
costs of financing Florida Gas' Phase III expansion facilities and have proposed
adjustments to the capitalization by Florida Gas of AFUDC during construction of
its Phase III expansion facilities.  Pursuant to an agreement in principle among
Florida Gas, FERC staff and customer intervenors, Florida Gas filed a settlement
agreement  on July 30, 1996,  which was approved by FERC order issued  September
27, 1996.  The  settlement  provides  for a reduction  of $18.75  million in its
Account No. 101, Gas Plant in Service.  The  settlement is without  prejudice to
Florida Gas seeking Commission approval to recover the $18.75 million,  required
to be removed from its plant  account,  in the rate case filed by Florida Gas on
August 30, 1996, in Docket No. RP96-366-000.




<PAGE>



Item 2.        Management's Discussion and Analysis of Financial Condition and
               Results of Operations

                           SONAT INC. AND SUBSIDIARIES
                        MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL
                       CONDITION AND RESULTS OF OPERATIONS

RESULTS OF OPERATIONS

Operating Income

        Operating  results for the Company's  business segments are in the table
below.  The table also shows the effect of four unusual  items  recorded in 1995
that affect operating income and net income comparisons.  The sale of properties
and  terminations of long-term gas sales contracts by Sonat  Exploration and the
sale of the Company's  investment in Baker Hughes  Incorporated  Preferred Stock
were  recorded  in the  second  quarter  of  1995.  The  sale  of the  remaining
investment in Sonat  Offshore  common stock was recorded in the third quarter of
1995.
<TABLE>
<CAPTION>

                                                        Three Months                  Nine Months
                                                  Ended September 30,          Ended September 30,
                                                1996           1995          1996          1995
                                                     (In Millions, Except Per-Share Amounts)
<S>                                             <C>          <C>            <C>           <C>  

Operating Income (Loss):
   Exploration and production                   $38.2        $ (2.8)        $ 97.2        $ 37.2
   Natural gas transmission                      36.2          36.1          120.7         126.1
   Energy marketing                              (0.7)          1.0           11.6           5.1
   Other                                          1.4           0.9           3.1           (0.3)
                                                -----          ----          ----         ------

Operating Income                                 75.1          35.2          232.6         168.1

Less Unusual Items:
   Exploration and Production
      Termination of gas
         sales contracts                           -              -             -           37.5
                                                  ---            ---           ---        ------
Operating Income Excluding
   Unusual Items                                $75.1        $ 35.2         $232.6        $130.6
                                                =====        ======         ======        ======

Net Income As Reported                          $48.0        $130.5         $134.2        $185.5
Less Unusual Items:
   Exploration and Production
      Termination of gas
         sales contracts                          -             -              -            24.4
      Property sales                              -             -              -           (20.0)
      Sale of Offshore stock                      -           110.1            -           110.1
   Other
      Sale of Baker Hughes Stock                   -              -             -           (8.2)
                                                  ---            ---           ---        ------
Net Income Excluding
   Unusual Items                                $48.0        $ 20.4         $134.2        $ 79.2
                                                =====        ======         ======        ======
Earnings Per Share of Common Stock              $ .56         $ 1.51        $ 1.56        $ 2.15
                                                =====         ======        ======        ======
Earnings Per Share of Common
   Stock Excluding Unusual
   Items                                        $ .56          $ .24        $ 1.56         $ .92
                                                =====          =====        ======         =====
</TABLE>


<PAGE>



EXPLORATION AND PRODUCTION


        The  Company  is  engaged in the  exploration  for and the  acquisition,
development  and  production of oil and natural gas in the United States through
Sonat Exploration Company.  From 1988 through 1995, Sonat Exploration's  reserve
growth  strategy  was  based  on  acquiring   properties  that  have  additional
exploitation drilling potential,  developing those properties and conducting low
risk exploration  activities.  In 1996 the Company has made a strategic shift to
increase  exploratory  activity  due to the size of the acreage  position it has
established and its increased use of technology,  such as three-dimensional (3D)
seismic surveys.

        During the first nine  months of 1996,  Sonat  Exploration  successfully
completed several  exploratory  wells.  Early in the second quarter of 1996, the
Company had a  significant  find in Leon County,  Texas,  where it completed its
first  Cotton  Valley  pinnacle  reef  discovery,  the  Fountain  No.  1.  Sonat
Exploration  has a 64  percent  working  interest  in this  well.  In the  third
quarter,  Sonat Exploration  announced completion of its second discovery in the
Cotton Valley Pinnacle Reef Trend,  the Scurlock No. 1 well.  Sonat  Exploration
has a 67 percent working  interest in this well. In October,  Sonat  Exploration
announced  that its  Blanton  No. 1  exploratory  well in the Bear Grass area of
Freestone  County,  Texas,  encountered  520 feet of Cotton Valley Pinnacle Reef
development with very active gas shows  throughout the entire section.  Based on
geological   and   geophysical   analysis  of  this  result  and  the   drilling
characteristics  of the well, Sonat Exploration  believes the Blanton No. 1 will
be its third and most significant exploratory success thus far in the Bear Grass
area. Sonat Exploration has a 100 percent working interest in this well.

        In the Austin Chalk Trend of west Louisiana, Sonat Exploration completed
an important dual-lateral horizontal discovery, the Sonat Minerals 1 No. 1, that
had an initial production rate of eight million cubic feet (MMcf) of natural gas
and 1,300 barrels of condensate  per day. Sonat  Exploration  also completed two
significant wells in High Island Block 39 in the Gulf of Mexico, one exploratory
and one development,  with a combined initial production rate of 85 MMcf per day
of natural gas and 720 barrels of condensate.

        In addition to its exploratory activity, Sonat Exploration maintained an
active  development   drilling  program  in  the  first  nine  months  of  1996,
participating in the completion of 246 gross development wells. Also, during the
same period,  the Company  completed  several  acquisitions at a net cost of $46
million  that added 105  billion  cubic feet of natural gas  equivalent  (Bcfe).
Property  sales of $34 million  during the first nine  months of 1996  decreased
proved  reserves by 50 Bcfe.  Proved  reserves at September 30, 1996, were 1.896
trillion cubic feet of natural gas equivalent, up 126 Bcfe from year-end 1995.

        Natural gas production is sold by Sonat  Exploration to Sonat Marketing,
the  Company's  affiliate  operating  in the Energy  Marketing  segment,  and is
marketed  primarily in the spot market by Sonat  Marketing.  Sonat  Exploration,
through Sonat  Marketing,  uses derivative  financial  instruments to manage the
risks  associated with price  volatility for both its natural gas production and
its oil production,  which it sells in the spot market.  (See discussion  below,
Market  Risk  Management  and  Note 2 of the  Notes  to  Condensed  Consolidated
Financial Statements.)

EXPLORATION AND PRODUCTION OPERATIONS
<TABLE>
<CAPTION>


                                                       Three Months                  Nine Months
                                                 Ended September 30,          Ended September 30,
                                                1996          1995           1996          1995
                                                                  (In Millions)
<S>                                            <C>           <C>            <C>           <C>

Revenues:
   Sales to others                             $ 43.3        $ 31.2         $100.4        $139.8
   Intersegment sales                            97.6          53.4          291.2         162.8
                                                -----        ------         ------        ------
      Total Revenues                            140.9          84.6          391.6         302.6
                                               ------        ------         ------        ------

Costs and Expenses:
   Operating and maintenance                     14.3          15.6           45.1          49.1
   Exploration expense                            7.0           2.5           15.6           6.0
   General and administrative                    13.1          12.3           39.1          33.7
   Depreciation, depletion and
      amortization                               61.5          52.9          175.6         162.9
   Taxes, other than income                       6.8           4.1           19.0          13.7
                                                 ----        ------          -----        ------
                                                102.7          87.4          294.4         265.4
                                               ------        ------         ------        ------
      Operating Income (Loss)                  $ 38.2        $ (2.8)        $ 97.2        $ 37.2
                                               ======        ======         ======        ======


Net Sales Volumes:
   Gas (Bcf)                                       54             45           152           139
   Oil and condensate (MBbls)                   1,366            983         3,748         2,944
   Natural gas liquids (MBbls)                    643            302         1,579         1,158
------------------------------------------------------------------------------------------------

Average Sales Prices:
   Gas ($/Mcf)                                 $ 2.09         $ 1.41        $ 2.07        $ 1.46
   Oil and condensate ($/Bbl)                   19.09          17.78         18.99         17.48
   Natural gas liquids ($/Bbl)                  11.10           9.28         10.77          8.82
------------------------------------------------------------------------------------------------
</TABLE>



Quarter-to-Quarter Analysis

        Operating  income  for the third  quarter  of 1996 was up $41.0  million
compared with the same 1995 period.  Natural gas production  increased 9 billion
cubic feet (Bcf) to 54 Bcf and average realized natural gas prices for the third
quarter of 1996 were $2.09 per thousand cubic feet (Mcf) compared with $1.41 per
Mcf in  1995.  The  increase  in  natural  gas  production  reflects  successful
exploration  and  development   programs   throughout  the  Company's  areas  of
operations.  Oil and condensate  production  increased 39 percent to 1.4 million
barrels for the third quarter of 1996,  primarily  due to growing  production in
the eastern Austin Chalk Trend where in 1996 the Company  increased its drilling
program from three to seven rigs. Average realized oil prices rose to $19.09 per
barrel for the third  quarter of 1996 from $17.78 per barrel in 1995.  Operating
income for the third  quarter  of 1996 was  reduced  by $5.5  million  for costs
associated  with the  settlement  of the  Briggs,  et. al. v. Sonat  Exploration
litigation. See Item 1 of Part II of this report.

        Exploration expense increased $4.5 million due to increased  exploration
activity in 1996.  Although  amortization  rates declined from $1.00 to $.93 per
Mcf of natural gas equivalent,  depreciation, depletion and amortization expense
for the  current  period  increased  by 16 percent  compared  with the same 1995
period due to higher  production  levels in 1996. Other tax expense increased by
$2.7 million  primarily  due to higher  severance  taxes  resulting  from higher
revenues.

Year-to-Date Analysis

        Operating  income for the first nine months of 1996 was up $97.5 million
compared with the same period of 1995,  after excluding the recognition of $37.5
million of operating  revenue from the  termination  of two  long-term gas sales
contracts  in the 1995 period.  The  increase was due to both higher  prices and
increased production. Average realized natural gas prices increased to $2.07 per
Mcf in 1996 from $1.46 per Mcf in 1995, a 42 percent  increase.  Gas revenues in
the 1996  period  were  reduced by $21.0  million  for the effect of gas hedging
transactions.  Realized  oil  prices  rose to an average of $18.99 per barrel in
1996 from  $17.48 per  barrel in 1995.  Oil  revenues  in the 1996  period  were
reduced  by $8.0  million  for the  effect of oil  hedging  transactions.  Sonat
Exploration has hedged  approximately  40 percent of expected oil production for
the remainder of 1996 at an $18 per barrel West Texas  Intermediate  index price
(see Note 2 of the Notes to Condensed Consolidated  Financial  Statements).  Oil
and condensate production increased by 27 percent. Operating income of the first
nine  months  of 1996 was  reduced  by $12.0  million  for  litigation  accruals
associated with the Briggs, et. al. v. Sonat Exploration litigation.

        Costs and expenses were higher in the first nine months of 1996 compared
with the same 1995 period due to several factors.  Exploration expense increased
$9.6   million  due  to  more   exploration   activity  in  1996.   General  and
administrative  expenses  increased $5.4 million due to higher employee  related
costs,  including  stock-based employee  compensation expense, and less overhead
costs  charged to  producing  properties  due to property  sales.  Depreciation,
depletion  and  amortization  expense  increased  $12.7  million  due to  higher
production  levels  partially  offset  by lower  amortization  rates.  Other tax
expense  increased $5.3 million due to higher  severance taxes related to higher
revenues.  Operating  and  maintenance  expenses were $4.0 million lower for the
first nine months of 1996 compared with 1995, primarily due to reduced levels of
workovers in 1996, which partially offset the higher expenses mentioned above.

NATURAL GAS TRANSMISSION

     The  Company is engaged in the natural gas  transmission  business  through
Southern and its subsidiaries, and Citrus Corp. (a 50 percent-owned company).

        Southern continues to pursue opportunities to expand its pipeline system
in its traditional  market area and to connect new gas supplies.  Southern filed
an application on January 24, 1996, with the FERC seeking approval to expand its
pipeline  system to provide firm gas  transportation  service to three  existing
customers   and  to  two  new   customers   in  North   Alabama.   The  proposed
76-million-cubic-feet-per-day   expansion  is   supported   by  long-term   firm
transportation agreements, including the cities of Huntsville and Decatur, which
have executed  20-year service  agreements for 40 million cubic feet per day and
25 million cubic feet per day,  respectively.  The $53 million project  includes
118 miles of new pipeline and  additional  compression  on  Southern's  existing
system. The earliest in-service date for the proposed expansion,  which requires
FERC  approval,  would be November  1997.  The company that  currently  provides
transportation  service to the cities of Huntsville  and Decatur has  challenged
this project in Alabama state court and with the FERC.

        In May 1996,  Southern filed an application  with the FERC to expand its
pipeline  system in Zone 3 of its market area.  This $36 million  expansion will
enable Southern to provide additional firm  transportation  services totaling 46
million  cubic feet per day to 11  customers in Georgia and  Tennessee.  If FERC
approval is received,  the in-service date for this firm transportation  service
is expected to be November 1997.

        In 1996,  Southern formed Destin  Pipeline  Company Inc., a wholly owned
subsidiary.  Destin filed an application with the FERC seeking  authorization to
construct,  own,  and operate a  large-diameter  interstate  pipeline  system to
transport approximately one billion cubic feet of gas per day from the deepwater
and corridor areas being developed in the eastern Gulf of Mexico for delivery to
pipeline interconnections in central Mississippi.  The estimated capital cost of
the  facilities  is $294  million.  Destin  Pipeline has  requested  preliminary
regulatory  approval  for  the  project  by  January  1997  so  that  commercial
agreements  can be entered  into in early 1997.  Engineering  would be completed
during 1997, and construction would begin in 1998. The projected in-service date
is scheduled for January 1999.  In addition to FERC  authorization,  Southern is
seeking, but does not yet have, contractual commitments to support the project.



<PAGE>


NATURAL GAS TRANSMISSION
<TABLE>
<CAPTION>


                                                       Three Months                  Nine Months
                                                 Ended September 30,          Ended September 30,
                                                1996          1995           1996          1995
                                                                  (In Millions)
<S>                                            <C>           <C>            <C>           <C>

Operating Income (Loss):
   Southern Natural Gas Company
      and subsidiaries                         $ 36.2        $ 36.7         $120.9        $127.5
   Other                                           -           (0.6)          (0.2)         (1.4)
                                                  ---        ------          -----        ------

      Total Operating Income                   $ 36.2        $ 36.1         $120.7        $126.1
                                               ======        ======         ======        ======


SOUTHERN NATURAL GAS COMPANY AND SUBSIDIARIES

Revenues:
   Gas sales                                   $ 39.8        $ 44.9         $154.4        $138.9
   Market transportation and
      storage                                    76.9          75.4          237.4         243.9
   Supply transportation                         12.5          12.7           35.8          38.6
   Other                                         13.0          41.5          180.8          63.2
                                                -----        ------         ------        ------
      Total Revenues                            142.2         174.5          608.4         484.6
                                               ------        ------         ------        ------

Costs and Expenses:
   Natural gas cost                              39.2          44.7          151.2         137.1
   Transition cost recovery                       7.3          32.3          160.4          40.7
   Operating and maintenance                     24.6          23.2           66.9          63.5
   General and administrative                    18.9          20.5           58.9          61.1
   Depreciation and amortization                 11.3          12.3           36.1          39.8
   Taxes, other than income                       4.7           4.8           14.0          14.9
                                                 ----        ------          -----        ------
                                                106.0         137.8          487.5         357.1
                                               ------        ------         ------        ------
      Operating Income                         $ 36.2        $ 36.7         $120.9        $127.5
                                               ======        ======         ======        ======

Equity in Earnings of
   Unconsolidated Affiliates                    $ 2.3        $  2.3          $ 7.2        $  7.1
                                                =====        ======          =====        ======

                                                              (Billion Cubic Feet)
Volumes:
   Intrastate gas sales                             2              1             6             5
   Market transportation                          133            143           483           448
                                                  ---            ---           ---           ---
      Total Market Throughput                     135            144           489           453
   Supply transportation                           77            101           242           288
                                                  ---            ---           ---           ---
      Total Volumes                               212            245           731           741
                                                  ===            ===           ===           ===

   Transition gas sales                            16             21            51            70
                                                  ===            ===           ===           ===
</TABLE>



<PAGE>


CITRUS CORP.
<TABLE>
<CAPTION>

                                                       Three Months                  Nine Months
                                                 Ended September 30,          Ended September 30,
                                                1996          1995           1996          1995
                                                                  (In Millions)
<S>                                              <C>            <C>          <C>           <C>

Equity in Earnings of
   Citrus Corp.                                  $6.1           $7.6         $16.8         $20.5
                                                 ====           ====         =====         =====

                                                              (Billion Cubic Feet)
Florida Gas Volumes (100%):
   Market transportation                          126            129           331           348
   Supply transportation                            6              6            22            20
                                                   --            ---           ---           ---
      Total Volumes                               132            135           353           368
                                                  ===            ===           ===           ===
</TABLE>



Quarter-to-Quarter Analysis

        Southern  Natural Gas Company and  Subsidiaries - Operating  results for
the third quarter of 1996 were relatively flat compared with the prior year. Gas
sales  revenues  and natural  gas cost  decreased  compared  with the 1995 third
quarter  due to  declining  transition  gas sales from  supply  remaining  under
contract  partially  offset by higher prices.  Both other revenue and transition
cost recovery in the 1995 period include a $17.7 million  adjustment  related to
the Customer Settlement. The adjustment did not impact operating income. General
and  administrative  expenses  decreased due to lower employee benefit expenses,
including  stock-based  compensation.  Depreciation and amortization in the 1996
period includes a favorable $0.9 million  adjustment  related to a change in the
estimated life of leasehold improvements.

        Citrus - Equity in earnings of Citrus declined from $7.6 million to $6.1
million in 1996.  The 1995 period  benefited from an adjustment to allowance for
funds used during  construction  (AFUDC) related to the Florida Gas Transmission
Company Phase III expansion  project (Phase III). The effect of this  adjustment
was partly offset by the effect of out-of-period expense adjustments in 1995 and
1996.

Year-to-Date Analysis

        Southern  Natural Gas Company and  Subsidiaries - Operating  results for
the nine-month  period  decreased  $6.6 million  primarily  because  incremental
revenues from the sale of firm  transportation  capacity  were  collected in the
1995 period prior to revised rates going into effect on March 1, 1995.  The 1995
period  also  included  positive  adjustments  to reflect  actual  interruptible
transportation revenue and cost recovery in the first year of post Order No. 636
operations and the reduction of a take-or-pay liability.

        Gas sales revenues and natural gas cost increased compared with the 1995
period  reflecting  higher  gas  prices  on  transition  gas sales  from  supply
remaining under contract.  Supply transportation revenues decreased due to lower
supply-area  transportation  volumes.  Both other  revenue and  transition  cost
recovery  in the 1996  period  include  $163.9  million  recorded as a result of
Southern's  Customer  Settlement  becoming final.  Depreciation and amortization
decreased in the 1996 period due to lower rates  implemented  March 1, 1995, and
the adjustments discussed in the preceding paragraph.

        Citrus - Equity in earnings of Citrus  were $3.7  million  lower than in
1995.  1996  results  reflect  revenues  and  operating  costs  relating  to the
operations of the Phase III expansion  project while 1995 results include AFUDC,
including the AFUDC adjustment discussed previously,  related to Phase III which
was placed in service on March 1, 1995.  Also  contributing  to the decline were
lower  margins due to lower  interruptible  transportation  volumes.  These were
partly offset by the effect of  out-of-period  expense  adjustments  in 1995 and
1996.

Natural Gas Sales and Supply

        Sales by Southern of natural gas are  anticipated to continue only until
Southern's  remaining supply contracts expire, are terminated,  or are assigned.
As a result of Order No. 636,  Southern has terminated or renegotiated to market
pricing  substantially  all of its gas  supply  contracts  through  which it had
historically  obtained its long-term gas supply. Some of the remaining contracts
contain clauses  requiring  Southern  either to purchase  minimum volumes of gas
under the contract or to pay for it (take-or-pay clauses).  Although the cost of
gas under some of these  contracts is in excess of current  spot-market  prices,
Southern  currently is incurring no take-or-pay  liabilities  under any of these
contracts.  Two  market-priced  contracts entered into with Exxon Corporation in
1995 as part of a settlement of certain other gas purchase contracts account for
92  percent  and 85  percent  in 1996 and 1997,  respectively,  of the  purchase
commitments described below. Of such purchase  commitments,  the percent that is
priced in excess of current  spot-market  prices is 1 percent in 1996, 2 percent
in 1997,  8 percent in 1998,  and  substantially  all of the  volumes  for years
thereafter.  (See  Note 5 of  the  Notes  to  Condensed  Consolidated  Financial
Statements  for a  discussion  of price  differential  GSR  costs.)  Pending the
termination of these remaining supply contracts,  Southern has sold a portion of
its remaining gas supply to a number of its firm transportation  customers under
contracts  that have been extended  through  November 30, 1997. The remainder of
Southern's gas supply will continue to be sold on a month-to-month basis.



<PAGE>


        Southern's purchase commitments under its remaining gas supply contracts
for the remainder of 1996 and years 1997 through 2000 are estimated as follows:

                                                                Estimated
                                                                Purchase
                                                               Commitments
                                                              (In Millions)

        1996                                                       $ 72
        1997                                                        137
        1998                                                         22
        1999                                                         22
        2000                                                         19

        These  estimates are subject to significant  uncertainty due both to the
number of  assumptions  inherent  in these  estimates  and to the wide  range of
possible  outcomes  for each  assumption.  None of the three major  factors that
determine purchase commitments  (underlying reserves,  future deliverability and
future price) is known today with certainty.

        See Note 5 of the Notes to Condensed  Consolidated  Financial Statements
for a discussion regarding Southern's rate proceedings to recover its GSR costs.

Rate Matters

        The Customer  Settlement  resolves,  as to all of  Southern's  customers
except  one  contesting  party  that  represents   approximately  2  percent  of
Southern's firm  transportation  volumes,  all of Southern's  previously pending
rate  proceedings  and  proceedings  to recover GSR and other  transition  costs
associated with the  implementation of Order No. 636. See Note 5 of the Notes to
Condensed  Consolidated  Financial  Statements  for a discussion of the Customer
Settlement and other rate matters.

ENERGY MARKETING

     Sonat Energy Services,  through its  subsidiaries,  Sonat Marketing Company
L.P. and Sonat Power Marketing L.P.,  conducts marketing business in the natural
gas and electric industries.

        Sonat  Marketing  has  experienced  rapid growth as reflected by average
daily sales  volumes of 2.9 billion cubic feet during the third quarter of 1996.
For the current  three-month  period,  total sales volumes grew from 201 billion
cubic feet in 1995 to 262 billion cubic feet in 1996. Sonat Marketing  purchases
and  resells  substantially  all of  Sonat  Exploration  Company's  natural  gas
production.

        Sonat  Marketing uses natural gas futures  contracts,  options,  and gas
price swap  agreements to hedge the effects of spot-market  price  volatility on
its operating  results.  These  instruments are used to lock in margins on Sonat
Marketing's gas transactions.  Sonat Marketing also uses futures  derivatives to
enable it to offer  fixed-price  contracts to its suppliers and customers.  (See
Market  Risk  Management  and  Note 2 of the  Notes  to  Condensed  Consolidated
Financial Statements.)

        Sonat  Power   Marketing  has  executed   power   purchase,   sales  and
transmission  agreements  with  numerous  U.S.  utilities.  It  is  focusing  on
expanding its wholesale  business.  Sonat and AGL Resources Inc., which has a 35
percent  ownership  interest in Sonat  Marketing,  completed an agreement in the
second  quarter of 1996 whereby AGL  Resources  Inc.  also acquired a 35 percent
interest in Sonat Power  Marketing.  The  transaction  resulted in a $.5 million
pretax gain, which is included in other income for the nine-month period.

ENERGY MARKETING OPERATIONS
<TABLE>
<CAPTION>


                                                       Three Months                  Nine Months
                                                 Ended September 30,          Ended September 30,
                                                1996          1995           1996          1995
                                                                  (In Millions)
<S>                                            <C>           <C>           <C>            <C>   


Revenues                                       $636.1        $318.3        $1,759.2       $846.7
                                               ======        ======        ========       ======

Operating Income (Loss)                        $ (0.7)       $  1.0          $ 11.6       $  5.1
                                               ======        ======          ======       ======

Sonat Marketing Gas Sales
   Volumes (100%)
      (Billion Cubic Feet)                        262            201             685         519
                                                 ====            ===            ====         ===

Sonat Power Marketing Sales
   Volumes (100%)
      (Thousands of Megawatt Hours)             1,035              -           1,684           -
                                                =====             ==           =====          ==
</TABLE>



Quarter-to-Quarter Analysis

        Although  revenues  doubled  due to both  higher  volumes and higher gas
prices,  operating  results  for the energy  marketing  segment  decreased  $1.7
million  in the third  quarter  of 1996  compared  with the 1995  period.  Sonat
Marketing's  natural gas sales volumes increased 61 billion cubic feet, but unit
trading margins were lower due to intense competition.  Energy marketing results
were also reduced by start-up  losses  associated  with the  development  of its
electric power marketing operations.

Year-to-Date Analysis

        Revenues  increased  for the  nine-month  period  for the  same  reasons
mentioned above. Operating results for the energy marketing segment for the nine
months  ended  September  30,  1996,  were up  substantially  over  1995  levels
primarily  due to much higher unit trading  margins in the spring as a result of
unusually  cold weather in certain of Sonat  Marketing's  markets.  This created
intense demand for natural gas during peak periods resulting in a volatile price
environment which created exceptional trading opportunities for Sonat Marketing.




Other Income Statement Items
<TABLE>
<CAPTION>


                                                       Three Months                  Nine Months
                                                 Ended September 30,          Ended September 30,
                                                1996          1995           1996          1995
                                                                  (In Millions)
<S>                                            <C>           <C>             <C>          <C> 

Other Income (Loss), Net:
   Equity in earnings of
      unconsolidated affiliates                 $ 8.9        $ 11.0          $25.3        $ 36.0
   Minority interest                             (0.1)         (0.1)          (5.2)         (0.1)
   Sale of subsidiary stock                       -           188.0            -           188.0
   Other                                          4.7           0.3            6.6         (35.5)
                                                 ----          ----           ----        ------
                                                $13.5        $199.2          $26.7        $188.4
                                                =====        ======          =====        ======
</TABLE>


        The decrease in equity in earnings of unconsolidated  affiliates in both
periods reflects the absence of earnings from the Company's  investment in Sonat
Offshore Drilling Inc., which was sold in July 1995, and a decrease in equity in
earnings of Citrus (discussed earlier in the Natural Gas Transmission  section).
Minority  interest is AGL Resources  Inc.'s 35 percent share of Sonat  Marketing
and Sonat Power Marketing's earnings. The 1995 periods include the gain from the
Company's  sale  of its  remaining  interest  in  Sonat  Offshore  stock.  Other
increased for the  three-month  period due to the  recognition of a $3.9 million
gain on partial  termination of an interest rate swap in September  1996.  Other
for the nine-month  period of 1996 also includes a $2.4 million gain on the sale
of oil and gas  properties  and the $.5 million gain on the sale of a 35 percent
interest in Sonat Power Marketing discussed earlier.  The comparable 1995 period
includes a $28.9  million  loss on the sale of oil and gas  properties,  a $13.0
million  loss  on  the  sale  of  the  Company's   investment  in   Baker-Hughes
Incorporated  convertible  preferred stock, and $6.0 million of dividends on the
Baker Hughes stock.
<TABLE>
<CAPTION>
<S>                                             <C>          <C>             <C>          <C>  

Interest Expense, Net                           $19.7        $ 21.6          $62.8        $ 72.9
</TABLE>


        Net interest  expense  decreased  compared with the three and nine-month
periods of 1995. Interest expense for the three-month period decreased primarily
due to  lower  average  revenue  reserve  balances.  Interest  expense  for  the
nine-month  period decreased  primarily due to lower average outside debt levels
and revenue reserves balances.



<PAGE>

<TABLE>
<CAPTION>                                                   
                                                       Three Months                  Nine Months
                                                 Ended September 30,          Ended September 30,
                                                1996          1995           1996          1995
                                                                  (In Millions)
<S>                                             <C>          <C>             <C>          <C> 


Income Taxes                                    $20.9        $ 82.3          $62.3        $ 98.0
</TABLE>


        Income  taxes  decreased  for the three and  nine-month  periods  due to
income taxes associated with the unusual items  (discussed  earlier) in the 1995
period.  Absent these unusual  items,  the effective tax rate was higher for the
three and nine-month periods reflecting a lower percentage of earnings receiving
tax preferential rates and lower non-conventional fuel tax credits.

LIQUIDITY AND CAPITAL RESOURCES

CASH FLOWS
<TABLE>
<CAPTION>                                                                                           
                                                                                     Nine Months
                                                                              Ended September 30,
                                                                             1996          1995
                                                                                 (In Millions)
<S>                                                                        <C>           <C>

Operating Activities                                                       $ 425.0       $ 161.1
</TABLE>


        Cash flow from  operations  increased  $263.9 million  compared with the
1995  period  primarily  due  to  improved   operating  results  at  both  Sonat
Exploration and Sonat Marketing which were discussed earlier. At Southern,  cash
flow from operations improved,  primarily due to lower GSR payments in 1996. The
1995 period also included a large third quarter tax payment  related to the sale
of the remaining shares of Sonat Offshore common stock.

        Other  than the GSR  payments  discussed  above,  both the change in gas
supply  realignment costs and the change in reserves for regulatory matters were
attributable to recognition of the Customer  Settlement in the second quarter of
1996 (see earlier discussion).  The change in deferred income taxes reflects the
deductibility  of certain oil and gas drilling  costs in the current  period and
the  disposal  of  the  Company's   investment  in   Baker-Hughes   Incorporated
convertible  preferred stock in the 1995 period.  The change in accounts payable
is primarily  attributable to higher gas prices and to the expanding business of
Sonat Exploration and Sonat Marketing. The change in accrued interest and income
taxes  primarily  reflects  accrued  taxes related to the Sonat  Offshore  stock
disposition  in the 1995  period.  The  change  in  inventories  relates  to gas
inventory purchases at Sonat Marketing. The increase in other current assets and
liabilities  is primarily  due to lower margin  requirements  on futures  broker
accounts at Sonat Marketing in the 1996 period.  Other includes $32.9 million of
accrual reversals  related to the Customer  Settlement in the current period. In
addition,  the 1995  period  includes  $37.5  million  from the  termination  of
long-term gas sales  contracts,  as well as $14.4  million in  transition  costs
deferred at Southern.



<PAGE>

<TABLE>
<CAPTION>                                                                                           
                                                                                     Nine Months
                                                                              Ended September 30,
                                                                             1996          1995
                                                                                 (In Millions)
<S>                                                                        <C>           <C> 

Investing Activities                                                       $(403.1)      $ 224.9
</TABLE>


        Investing  activities  required  $403.1  million  of net  cash  in  1996
compared to providing  $224.9 million in 1995,  which  included  sources of cash
from unusual items.  In 1995, the Company  received $326.0 million from the sale
of its remaining interest in Sonat Offshore stock,  $167.0 million from the sale
of four million shares of Baker Hughes  convertible  preferred  stock, and $98.9
million in proceeds from the sale of Sonat  Exploration  oil and gas properties.
Capital  expenditures  (see  discussion  below)  were  higher in the 1996 period
compared to the 1995 period primarily due to Southern's system expansion.
<TABLE>
<CAPTION>

<S>                                                                        <C>           <C> 

Financing Activities                                                       $ (39.2)      $(337.0)
</TABLE>


        Net cash used in  financing  activities  was $297.8  million less in the
1996 period compared to the 1995 period.  Proceeds from the unusual transactions
discussed  above were used in part to repay  borrowings  under Sonat's  floating
rate facilities in the 1995 period.

Capital Expenditures

        Capital  expenditures  for the Company's  business  segments  (excluding
unconsolidated affiliates) were as follows:
<TABLE>
<CAPTION>

<S>                                                                         <C>           <C> 

        Exploration and Production                                          $298.1        $314.8
        Natural Gas Transmission                                              94.9          36.8
        Energy Marketing                                                       3.3           1.9
        Other                                                                  3.2           3.9
                                                                              ----        ------

        Total                                                               $399.5        $357.4
                                                                            ======        ======
</TABLE>


        The  Company's  share  of  capital  expenditures  by its  unconsolidated
affiliates  was $8.9 million and $100.4 million in the first nine months of 1996
and 1995, respectively.  The 1995 period included spending at Florida Gas on the
Phase III expansion project placed in service on March 1, 1995.

Capital Resources

        At September  30, 1996,  the Company had lines of credit and a revolving
credit  agreement with a total capacity of $750 million.  Of this,  $472 million
was available.  The amount available under the lines of credit and the revolving
credit agreement has been reduced by the amount of commercial paper  outstanding
of $128 million to reflect the Company's  policy that bank and commercial  paper
borrowings in the aggregate will not exceed the maximum amount  available  under
its lines of credit and revolving credit agreement.

        Sonat  has  a  shelf  registration  with  the  Securities  and  Exchange
Commission  (SEC)  that  provides  for  issuance  of up to $500  million in debt
securities  of which $200  million has been  issued.  Southern  also has a shelf
registration  with the SEC for up to $200 million in debt  securities,  of which
$100 million has been issued.

        The Company has a stock  repurchase  program in effect through April 30,
1997, which authorizes the purchase of approximately three million shares of the
Company's  common stock.  Through  September 30, 1996, the Company has purchased
2,274,860  shares and will continue to purchase shares from  time-to-time on the
open market or in privately negotiated transactions.  Shares purchased under the
authorization  are being reissued in connection  with employee stock options and
restricted stock programs.

        Cash  flow from  operations  and  borrowings  in the  public or  private
markets  provide the Company  with the means to fund  operations  and  currently
planned investment and capital expenditures.

MARKET AND FINANCIAL RISK MANAGEMENT

        The  Company's  primary  market  risk  exposure  is  the  volatility  of
spot-market natural gas and oil prices, which affects operating results of Sonat
Exploration and Sonat Marketing. The Company's use of derivatives to reduce this
volatility  is  described  in  Note 2 of the  Notes  to  Condensed  Consolidated
Financial Statements.

        The Company also has exposure to financial market risks. In anticipation
of a future  borrowing,  Southern has entered  into a forward rate  agreement to
hedge its interest rate risk (see Note 2 of the Notes to Condensed  Consolidated
Financial Statements).

        The Company's use of these derivative instruments is implemented under a
set of policies approved by the Board of Directors. Speculative transactions are
prohibited.  These  policies  presently  prohibit  transactions  not  matched by
physical  commodity  positions in the case of Sonat Exploration or corresponding
trading  positions in the case of Sonat Marketing and determine  approval levels
for each  transaction.  For commodity  price hedges,  these  policies set limits
regarding volumes relative to budgeted production or sales levels.  Individually
material  forward rate  agreement  and swap  counterparties  are approved by the
Board, and volume limits for swaps are set for any single counterparty.  Reports
detailing each  transaction are reviewed by management.  In addition,  all hedge
activities are internally reviewed to ensure compliance with all policies.  (See
Note 2 of the Notes to Condensed Consolidated Financial Statements.)

FORWARD LOOKING STATEMENTS

        Disclosures  provided in this Quarterly  Report contain  forward looking
statements  regarding  the  Company's  future  plans,  objectives,  and expected
performance. These statements are based on assumptions that the Company believes
are  reasonable,  but are  subject  to a wide  range of  risks,  and there is no
assurance that actual results may not differ materially.  Important factors that
could cause actual results to differ  include  changes in oil and gas prices and
underlying demand,  which would affect profitability and might cause the Company
to  alter  its  plans,  the  timing  and  results  of oil and gas  drilling  and
acquisition  programs,  which  determine  production  levels and  reserves,  the
success of the Company's  exploratory  drilling  activities,  the results of the
Company's  hedging  activities,  and the success of management's  cost reduction
activities. Realization of the Company's objectives and expected performance can
also be adversely affected by the actions of customers and competitors,  changes
in governmental  regulation of the Company's businesses,  and changes in general
economic conditions and the state of domestic capital markets.


<PAGE>



                           PART II. OTHER INFORMATION


Item 1. Legal Proceedings

        The  Company  reported in Item 5 of Part II of the  Company's  Report of
Form 10-Q for the quarter ended June 30,1996,  that it is one of many defendants
in an action styled Jack J. Grynberg, et al. v Alaska Pipeline Company, et al.

     A. L.  Briggs,  et al.  v.  Sonat  Exploration  Company,  et al.,  which is
described in Item 3 of Part I of the Company's  Report on Form 10-K for the year
ended  December 31, 1995,  has been settled,  pending  expiration of the appeals
period for the judgment  certifying  the  settlement  classes and  approving the
terms  of  the  settlement  agreement.  See  Note 5 of the  Notes  to  Condensed
Consolidated Financial Statements in Part I of this report.


Item 6. Exhibits and Reports on Form 8-K

(a)     Exhibits(1)

Exhibit
Number                       Exhibits

10*            Amendatory Agreement dated August 23, 1996, to Service
               Agreement No. 902470 dated September 1, 1994, as amended 
               March 1, 1995; No. 904460 dated November 1, 1994, as amended June
               1, 1995;  and Nos.  904461 and S20150 dated  November 1, 1994, as
               amended March 1, 1995,  between  Southern Natural Gas Company and
               Atlanta Gas Light Company

11*            Computation of Earnings per Share

12*            Computation of Ratio of Earnings to Fixed Charges

27*            Financial Data Schedules for the period ended September 30, 1996
-------------
*   Filed herewith

(b)     Reports on Form 8-K

        The Company did not file any report on Form 8-K during the quarter ended
September 30, 1996.



     -----------------  (1) The  Company  will  furnish to  requesting  security
holders the  exhibits on this list upon the payment of a fee of $.10 per page up
to a maximum of $5.00 per  exhibit.  Requests  must be in writing  and should be
addressed  to  Beverley T.  Krannich,  Secretary,  Sonat  Inc.,  P. O. Box 2563,
Birmingham, Alabama 35202-2563.






<PAGE>





                                 SONAT INC. AND SUBSIDIARIES




                                   SIGNATURES




        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.




                                                        SONAT INC.



Date:      November 7, 1996                    By:    /s/ James A. Rubright
       -------------------------                      -----------------------
                                                      James A. Rubright
                                                      Senior Vice President and
                                                      General Counsel

                                                  (Principal Accounting Officer)




Date:     November 7, 1996                     By:    /s/ Thomas W. Barker, Jr.
      -------------------------                       --------------------------
                                                      Thomas W. Barker, Jr.
                                                      Vice President-Finance and
                                                      Treasurer

                                                   (Principal Financial Officer)