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<SEC-DOCUMENT>0000072020-05-000007.txt : 20050301
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<ACCEPTANCE-DATETIME>20050228191507
ACCESSION NUMBER: 0000072020-05-000007
CONFORMED SUBMISSION TYPE: 10-K
PUBLIC DOCUMENT COUNT: 7
CONFORMED PERIOD OF REPORT: 20041231
FILED AS OF DATE: 20050301
DATE AS OF CHANGE: 20050228
FILER:
COMPANY DATA:
COMPANY CONFORMED NAME: NICOR INC
CENTRAL INDEX KEY: 0000072020
STANDARD INDUSTRIAL CLASSIFICATION: NATURAL GAS DISTRIBUTION [4924]
IRS NUMBER: 362855175
STATE OF INCORPORATION: IL
FISCAL YEAR END: 1231
FILING VALUES:
FORM TYPE: 10-K
SEC ACT: 1934 Act
SEC FILE NUMBER: 001-07297
FILM NUMBER: 05647515
BUSINESS ADDRESS:
STREET 1: 1844 FERRY RD
CITY: NAPERVILLE
STATE: IL
ZIP: 60563
BUSINESS PHONE: 6303059500
MAIL ADDRESS:
STREET 1: PO BOX 3014
CITY: NAPERVILLE
STATE: IL
ZIP: 60566-7014
</SEC-HEADER>
<DOCUMENT>
<TYPE>10-K
<SEQUENCE>1
<FILENAME>nicor10k.txt
<DESCRIPTION>NICOR INC. 2004 10-K
<TEXT>
UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-K
[X] ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
For the fiscal year ended December 31, 2004
or
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934
Commission File Number 1-7297
NICOR INC.
(Exact name of registrant as specified in its charter)
Illinois 36-2855175
(State of Incorporation) (I.R.S. Employer
Identification Number)
1844 Ferry Road
Naperville, Illinois 60563-9600 (630) 305-9500
(Address of principal executive offices) (Registrant's telephone number)
Securities registered pursuant to Section 12(b) of the Act:
Name of each exchange on
Title of each class which registered
- ----------------------------------------- -------------------------------
Common Stock, par value $2.50 per share New York Stock Exchange
Chicago Stock Exchange
Securities registered pursuant to Section 12(g) of the Act: None
----
Indicate by check mark whether the registrant (1) has filed all reports
required to be filed by Section 13 or 15(d) of the Securities Exchange Act of
1934 during the preceding 12 months and (2) has been subject to such filing
requirements for the past 90 days. Yes [X] No [ ]
Indicate by check mark if disclosure of delinquent filers pursuant to Item
405 of Regulation S-K is not contained herein, and will not be contained, to the
best of registrant's knowledge, in definitive proxy or information statements
incorporated by reference in Part III of this Form 10-K or any amendment to this
Form 10-K. [X]
Indicate by check mark whether the registrant is an accelerated filer
(as defined in rule 12b-2 of the Act). Yes [X] No [ ]
The aggregate market value of common stock (based on the June 30, 2004
closing price of $33.97) held by non-affiliates of the registrant was
approximately $1.5 billion. As of February 22, 2005, there were 44,113,480
shares of common stock outstanding.
DOCUMENTS INCORPORATED BY REFERENCE
Portions of the company's 2005 Annual Meeting Definitive Proxy Statement, to be
filed on or about March 11, 2005, are incorporated by reference into Part III.
<PAGE>
Nicor Inc. Page i
- -------------------------------------------------------------------------------
Table of Contents
- -----------------
Item No. Description Page No.
- -------- ----------- --------
Glossary ii
Part I
------
1. Business ........................................................ 1
2. Properties ...................................................... 6
3. Legal Proceedings................................................ 6
4. Submission of Matters to a Vote of Security Holders.............. 6
Executive Officers of the Registrant............................. 7
Part II
-------
5. Market for Registrant's Common Equity, Related Stockholder
Matters and Issuer Purchases of Equity Securities............... 8
6. Selected Financial Data ......................................... 9
7. Management's Discussion and Analysis of Financial
Condition and Results of Operations............................. 10
7A. Quantitative and Qualitative Disclosures about Market Risk....... 33
8. Financial Statements and Supplementary Data ..................... 34
9. Changes in and Disagreements with Accountants on
Accounting and Financial Disclosure............................. 71
9A. Controls and Procedures.......................................... 71
9B. Other Information................................................ 72
Part III
--------
10. Directors and Executive Officers of the Registrant............... 73
11. Executive Compensation........................................... 73
12. Security Ownership of Certain Beneficial Owners and
Management and Related Stockholder Matters...................... 74
13. Certain Relationships and Related Transactions................... 74
14. Principal Accountant Fees and Services........................... 74
Part IV
-------
15. Exhibits and Financial Statement Schedules....................... 75
Signatures....................................................... 77
Exhibit Index.................................................... 78
<PAGE>
Nicor Inc. Page ii
- -------------------------------------------------------------------------------
Glossary
- --------
Chicago Hub. A wholly owned venture of Nicor Gas which provides natural gas
storage and transmission-related services to marketers and other gas
distribution companies.
Degree day. The extent to which the daily average temperature falls below 65
degrees Fahrenheit. Normal weather for Nicor Gas' service territory, for
purposes of this report, is considered to be about 6,000 degree days per year.
EN Engineering. A 50-percent-owned joint venture that provides engineering and
corrosion services.
FERC. Federal Energy Regulatory Commission, the agency that regulates the
interstate transportation of natural gas, oil and electricity.
Horizon Pipeline. A 50-percent-owned joint venture that operates a natural gas
pipeline of approximately 70 miles, stretching from Joliet, Illinois to near the
Wisconsin/Illinois border.
HVAC. Heating, ventilation and air conditioning.
ICC. Illinois Commerce Commission, the agency that establishes the rules and
regulations governing utility rates and services in Illinois.
Mcf, MMcf, Bcf. Thousand cubic feet, million cubic feet, billion cubic feet.
Nicor Enerchange. A wholly owned business that engages in wholesale marketing of
natural gas supply services primarily in the Midwest, administers the Chicago
Hub for Nicor Gas, and manages Nicor Solutions' product risks.
Nicor Energy. A 50-percent-owned retail energy marketing joint venture which
disposed of its customer contracts and ceased operations during 2003.
Nicor Gas. Northern Illinois Gas Company (doing business as Nicor Gas Company)
is a wholly owned public utility business and one of the nation's largest
distributors of natural gas.
Nicor Services. A wholly owned business that provides product warranty
contracts, repair, maintenance and installation services and equipment to retail
markets, including residential and small commercial customers.
Nicor Solutions. A wholly owned business that offers its residential and small
commercial customers energy-related products that provide for natural gas price
stability and management of their utility-bill.
PBR. Performance-based rate, a regulatory plan which ended on January 1, 2003,
that provided economic incentives based on natural gas cost performance.
TEU. Twenty-foot equivalent unit, a measure of volume in containerized shipping
equal to one 20-foot-long container.
Triton. Triton Container Investments LLC, a cargo container leasing company in
which Nicor has an investment.
Tropical Shipping. A wholly owned business and a leading carrier of
containerized freight in the Bahamas and the Caribbean region.
<PAGE>
Nicor Inc. Page 1
- -------------------------------------------------------------------------------
PART I
Item 1. Business
- ------- --------
Nicor Inc. (Nicor), an Illinois corporation formed in 1976, is a holding
company. Gas distribution is Nicor's primary business. Nicor's principal
subsidiaries are Northern Illinois Gas Company (doing business as Nicor Gas
Company (Nicor Gas)), one of the nation's largest distributors of natural gas,
and Tropical Shipping, a leading transporter of containerized freight in the
Bahamas and the Caribbean region. Nicor also owns several energy-related
ventures, including Nicor Services and Nicor Solutions, which provide
energy-related products and services for retail markets, and Nicor Enerchange, a
wholesale natural gas marketing company. As a consolidated group, Nicor had
approximately 3,600 employees at year-end 2004.
Summary financial information for Nicor's major business segments is included in
the Notes to the Consolidated Financial Statements - Note 12 Business Segment
and Geographic Information. The following sections describe Nicor's larger
businesses. Certain terms used herein are defined in the glossary on page ii.
GAS DISTRIBUTION
General
- -------
Nicor Gas, a regulated natural gas distribution utility, serves over 2.1 million
customers in a service territory that encompasses most of the northern third of
Illinois, excluding the city of Chicago. The company's service territory is
diverse and its customer base has grown steadily over the years, providing the
company with a well-balanced mix of residential, commercial and industrial
customers. Residential customers typically account for approximately 45 to 50
percent of natural gas deliveries, while commercial and industrial customers
each typically account for about 25 to 30 percent. See Gas Distribution
Statistics on page 16 for operating revenues, deliveries and number of customers
by customer classification. Nicor Gas had approximately 2,300 employees at
year-end 2004.
Nicor Gas maintains franchise agreements with most of the communities it serves,
allowing it to construct, operate and maintain distribution facilities in those
communities. Franchise agreement terms range up to 50 years. Currently, about 15
percent of the agreements will expire within five years.
Customers have the option of purchasing their own gas supplies, with delivery of
the gas by Nicor Gas. The larger of these transportation customers also have
options that include the use of Nicor Gas' storage system and the ability to
choose varying supply backup levels. The choice of transportation service as
compared to gas sales service results in less revenue for Nicor Gas but has no
direct impact on net operating results.
Nicor Gas also operates other ventures, such as the Chicago Hub, which provides
natural gas storage and transmission-related services to marketers and other gas
distribution companies.
Sources of Natural Gas Supply
- ------------------------------
Nicor Gas purchases natural gas supplies in the open market by contracting with
producers and marketers. Pipeline transportation and purchased storage services
are regulated by the Federal Energy Regulatory Commission (FERC). When firm
pipeline services are temporarily not needed, Nicor Gas may release the services
in the secondary market under FERC-mandated capacity release provisions, with
proceeds reducing the company's cost of gas charged to customers.
<PAGE>
Nicor Inc. Page 2
- -------------------------------------------------------------------------------
Item 1. Business (continued)
- ------- --------------------
Peak-use requirements are met through utilization of company-owned storage
facilities, pipeline transportation capacity, purchased storage services and
other supply sources, arranged by either Nicor Gas or its transportation
customers. Nicor Gas has been able to obtain sufficient supplies of natural gas
to meet customer requirements. The company believes natural gas supply and
pipeline capacity will be sufficiently available to meet market demands in the
foreseeable future.
Natural gas supply. Nicor Gas maintains a diversified portfolio of natural gas
supply contracts. Supply purchases are diversified by supplier, producing
region, quantity, credit limits and available transportation. Gas supply pricing
is generally tied to published price indices so as to approximate current market
prices. These supply contracts also may provide for the payment of fixed demand
charges to ensure the availability of supplies on any given day and are
typically negotiated annually.
The company also purchases gas supplies on the spot market to fulfill its supply
requirements or to take advantage of favorable short-term pricing. Spot gas
purchases accounted for about one-half of the company's total gas purchases in
the last three years. The majority of such spot purchases are made during the
summer months and are directed toward satisfying storage injection requirements.
As part of its purchasing policy, Nicor Gas maintains a price risk hedging
strategy to reduce the risk of short-term price volatility. A disciplined
approach is used to systematically forward hedge a predetermined portion of
forecasted monthly volumes.
As noted previously, transportation customers purchase their own gas supplies.
About one-half of the gas that the company delivers is purchased by
transportation customers directly from producers and marketers rather than from
Nicor Gas.
Pipeline transportation. Nicor Gas is directly connected to eight interstate
pipelines, providing access to most of the major natural gas producing regions
in North America. The company's primary long-term transportation contracts are
as follows (daily availability in MMBtus):
Availability Contract Expiration
------------ -------------------
Natural Gas Pipeline Company (NGPL) 698,000 March 2006
Horizon Pipeline 300,000 May 2012
Tennessee Gas Pipeline Company (TGPC) 300,000 October 2009
Midwestern Gas Transmission Company (MGT) 297,000 October 2006
Northern Natural Gas Company 206,000 October 2008
Natural Gas Pipeline Company (NGPL) 200,000 March 2007
ANR Pipeline (ANR) 25,000 October 2009
The company has a right of first refusal for contract extensions except for the
TGPC contract. In addition, Nicor Gas enters into short-term transportation
contracts that extend for one heating season only. Nicor Gas has also entered
into agreements with NGPL, Northern Border Pipeline, ANR and MGT for additional
capacity that is generally for the purpose of transporting natural gas within
Illinois, after receiving the natural gas from producing regions.
Storage. Nicor Gas owns and operates eight underground natural gas storage
facilities. This storage system is one of the largest in the gas distribution
industry. With about 140 Bcf of annual storage capacity, the system is designed
to meet about 50 percent of the company's estimated peak-day deliveries and
approximately 30 percent of its normal winter deliveries. In addition to
company-owned facilities, Nicor Gas has about 40 Bcf of purchased storage
services under contracts with NGPL that expire in 2006
<PAGE>
Nicor Inc. Page 3
- -------------------------------------------------------------------------------
Item 1. Business (continued)
- ------- --------------------
and 2007. This level of storage capability provides Nicor Gas with supply
flexibility, improves the reliability of deliveries and can mitigate the risk
associated with seasonal price movements.
Competition/Demand
- ------------------
Nicor Gas is the largest natural gas distributor in Illinois and, as a regulated
monopoly, has the exclusive right to distribute natural gas in its service
territory. Substantially all single-family homes in Nicor Gas' service territory
are heated with natural gas. In the commercial and industrial markets, the
company's natural gas services compete with other forms of energy, such as
electricity, coal, propane and oil, based on such factors as price, service,
reliability and environmental impact. Other significant factors that impact
demand for natural gas include weather and economic conditions.
Natural gas deliveries are temperature-sensitive and seasonal since about
one-half of all deliveries are used for space heating. Typically, about 70
percent of deliveries and revenues occur from October through March.
Fluctuations in weather have the potential to significantly impact year-to-year
comparisons of operating income and cash flow.
In 2002 and in the first quarter of 2003, Nicor Gas purchased earnings
protection against the impact of significantly warmer-than-normal or
colder-than-normal weather. No such protection has been in effect since the
first quarter of 2003 due to partially offsetting weather risks within the
consolidated Nicor group.
Nicor Gas' large residential customer base provides for a relatively stable
level of natural gas deliveries during weak economic conditions. The company's
industrial and commercial customer base is well diversified, lessening the
impact of industry-specific economic swings. However, management believes that
declines since 2000 in natural gas deliveries to industrial customers may be
permanent. Management also believes that deliveries for power generation, which
have declined in recent years, will remain relatively flat.
During periods of high natural gas prices, deliveries of natural gas can be
negatively affected by conservation and the use of alternative energy sources.
While natural gas prices have fluctuated greatly over the last several years,
natural gas has traditionally maintained a pricing advantage over electricity
and it is expected to maintain an advantage in the foreseeable future.
Regulation
- ----------
Nicor Gas is regulated by the Illinois Commerce Commission (ICC), which
establishes the rules and regulations governing utility rates and services in
Illinois. Those rules or regulations that may significantly affect business
performance include the following:
o Base rates, which are set by the ICC, are designed to allow the company an
opportunity to recover its costs and earn a fair return for investors. On
November 4, 2004, Nicor Gas filed with the ICC for an overall increase in
rates of approximately $83 million (or about 16.5 percent of base rates
revenue). For additional information about the rate proceeding, see the Notes
to the Consolidated Financial Statements - Note 17 Rate Proceeding.
o The company's ICC-approved tariffs provide that the cost of natural gas
purchased for customers will be fully charged to customers without markup.
Therefore, the company does not make any profit from the sale of natural gas.
Rather, the company earns income from a fixed monthly charge and from
variable transportation charges for delivering the natural gas to customer
premises. The ICC
<PAGE>
Nicor Inc. Page 4
- -------------------------------------------------------------------------------
Item 1. Business (continued)
- ------- --------------------
annually reviews the company's natural gas purchasing practices for prudence,
and may disallow the pass-through of costs considered imprudent.
o As with the cost of natural gas, the company has a tariff that provides for
the pass-through of prudently incurred environmental clean-up costs related
to former manufactured gas plant sites. This pass-through is also subject to
annual ICC review.
o The ICC also has other rules that impact the company's operations. Changes in
these rules can impact operating and capital costs. For example, past changes
relating to customer payment plans and credit/collection policies have
impacted the company's accounts receivable write-off experience.
A performance-based rate (PBR) plan for natural gas costs went into effect in
2000 and was terminated by the company effective January 1, 2003. Under the PBR
plan, Nicor Gas' total gas supply costs were compared to a market-sensitive
benchmark. Savings and losses relative to the benchmark were determined annually
and shared equally with sales customers. The results of the PBR plan are
currently under ICC review. Additional information on the plan and the ICC
review are presented in Management's Discussion and Analysis - Contingencies -
Performance-Based Rate Plan.
Properties
- ----------
The gas distribution, transmission and storage system includes approximately
32,000 miles of steel, plastic and cast iron main; approximately 1.9 million
steel, plastic/aluminum composite, plastic and copper services connecting the
mains to customers' premises; and eight underground storage fields. Other
properties include buildings, land, motor vehicles, meters, regulators,
compressors, construction equipment, tools, communication and computer
equipment, software and office equipment.
Most of the company's distribution and transmission property, and underground
storage fields are located on property owned by others and used by the company
through easements, permits or licenses. The company owns most of the buildings
housing its administrative offices and the land on which they sit.
Substantially all gas distribution properties are subject to the lien of the
indenture securing Nicor Gas' first mortgage bonds.
Additional information about Nicor Gas' business is presented in Management's
Discussion and Analysis of Financial Condition and Results of Operations and the
Notes to the Consolidated Financial Statements.
SHIPPING
Tropical Shipping is one of the largest containerized cargo carriers in the
Bahamas and the Caribbean, a region characterized by modest market growth and
intense competition. Tropical Shipping's financial results can be significantly
affected by general economic conditions in the United States, the Caribbean
region and Canada. The company is a major carrier of exports from the east coast
of the United States and Canada to the Caribbean region. The company's shipments
consist primarily of southbound cargo such as building materials, food and other
necessities for developers, manufacturers and residents in the Caribbean, as
well as tourist-related shipments intended for use in hotels and resorts, and on
cruise ships. The balance of Tropical Shipping's cargo consists primarily of
northbound shipments of apparel and agricultural products, and interisland
shipments. The company also provides other related services such as inland
transportation and cargo insurance.
<PAGE>
Nicor Inc. Page 5
- -------------------------------------------------------------------------------
Item 1. Business (continued)
- ------- --------------------
At December 31, 2004, Tropical Shipping's fleet consisted of 10 owned vessels
and 10 chartered vessels with a container capacity totaling approximately 6,100
TEUs. In addition to the vessels, the company owns containers,
container-handling equipment, chassis and other equipment. Real property, more
than half of which is leased, includes office buildings, cargo handling
facilities and warehouses located in the United States, Canada, and some of the
ports served.
Additional information about Tropical Shipping's business is presented in
Management's Discussion and Analysis of Financial Condition and Results of
Operations and the Notes to the Consolidated Financial Statements.
OTHER ENERGY VENTURES
Nicor owns several energy-related ventures, including two companies marketing
energy-related products and services, and a wholesale natural gas marketing
company. Nicor also has equity interests in several joint ventures including a
FERC-regulated natural gas pipeline. In 2003, the company substantially
liquidated its investment in a former retail energy marketing joint venture.
Nicor Services and Nicor Solutions are businesses that provide energy-related
products and services for retail markets, including residential and small
commercial customers. Nicor Services operates in northern Illinois and provides
product warranty contracts, repair, maintenance and installation services and
equipment covering heating, air conditioning and related equipment, such as
natural gas piping inside homes and ductwork. Nicor Solutions offers its
residential and small commercial customers in the Nicor Gas service territory
energy-related products that provide for natural gas price stability and
management of their utility bill, including natural gas utility-bill management
plans as well as natural gas price protection plans. These products mitigate
and/or eliminate the risks of colder-than-normal weather and/or changes in
natural gas prices.
Nicor Enerchange is a business that engages in wholesale marketing of natural
gas supply services primarily in the Midwest, administers the Chicago Hub for
Nicor Gas, and manages Nicor Solutions' product risks.
During 2002, Horizon Pipeline, a 50-percent-owned joint venture with NGPL, put
into operation a natural gas pipeline of approximately 70 miles stretching from
Joliet, Illinois to near the Wisconsin/Illinois border. Nicor Gas has contracted
for approximately 80 percent of Horizon Pipeline's capacity under a 10-year
agreement at rates that have been accepted by FERC.
Nicor Energy is a 50-percent-owned former retail energy marketing joint venture
with Dynegy Marketing and Trade. During 2003, Nicor Energy disposed of its
customer contracts and ceased operations. For information about Nicor Energy see
the Notes to the Consolidated Financial Statements - Note 19 Contingencies -
Nicor Energy.
Additional information about Nicor's other energy ventures is presented in
Management's Discussion and Analysis of Financial Condition and Results of
Operations and the Notes to the Consolidated Financial Statements.
CORPORATE
Nicor has an equity investment in Triton Container Investments LLC, a cargo
container leasing business.
<PAGE>
Nicor Inc. Page 6
- -------------------------------------------------------------------------------
Item 1. Business (concluded)
- ------- --------------------
AVAILABLE INFORMATION
Nicor files various reports with the Securities and Exchange Commission (SEC).
These reports include the annual reports on Form 10-K, quarterly reports on Form
10-Q, current reports on Form 8-K and amendments to those reports filed or
furnished pursuant to Section 13 (a) of the Securities Exchange Act of 1934.
Nicor makes all of these reports available without charge to the public on the
investor relations section of the company's internet site at www.nicor.com as
soon as reasonably practicable after Nicor files them with, or furnishes them
to, the SEC.
Item 2. Properties
- ------- ----------
Information concerning Nicor and its major subsidiaries' properties is included
in Item 1, Business, and is incorporated herein by reference. These properties
are suitable, adequate and utilized in the company's operations.
Item 3. Legal Proceedings
- ------- -----------------
See the Notes to the Consolidated Financial Statements - Note 17 Rate Proceeding
and Note 19 Contingencies, which are incorporated herein by reference.
Item 4. Submission of Matters to a Vote of Security Holders
- ------- ---------------------------------------------------
None.
<PAGE>
Nicor Inc. Page 7
- -------------------------------------------------------------------------------
Executive Officers of the Registrant
- ------------------------------------
Name Age Current Position and Background
- -------------------- ---- ---------------------------------------------------
Thomas L. Fisher 60 Chairman, Nicor and Nicor Gas (since 1996);
Chief Executive Officer, Nicor (since 1995) and
Nicor Gas (1988-2003); and President, Nicor
(1994-2002) and Nicor Gas (1988-2002).
Russ M. Strobel 52 Chief Executive Officer, Nicor Gas (since 2003);
President, Nicor and Nicor Gas (since 2002);
Executive Vice President, General Counsel and
Corporate Secretary, Nicor and Nicor Gas (2002);
Senior Vice President, General Counsel and
Corporate Secretary, Nicor and Nicor Gas
(2000-2002); Partner, Altheimer & Gray, attorneys
(2000); and Partner, Jenner & Block, attorneys
(1986-2000).
Richard L. Hawley 55 Executive Vice President and Chief Financial
Officer, Nicor and Nicor Gas (since 2003); Vice
President and Chief Financial Officer, Puget
Energy, Inc. (2000-2002) and Puget Sound Energy,
Inc. (1998-2002); and Partner, Coopers & Lybrand
(1984-1998).
Claudia J. Colalillo 55 Senior Vice President Human Resources and
Corporate Communications, Nicor and Nicor Gas
(since 2002); Vice President Human Resources,
Nicor and Nicor Gas (1998-2002).
Rocco J. D'Alessandro 46 Senior Vice President Operations, Nicor Gas (since
2002); Vice President Customer Service, Nicor Gas
(1999-2002); various managerial positions, Nicor
Gas (1989-1999).
Daniel R. Dodge 51 Senior Vice President Diversified Ventures and
Corporate Planning, Nicor and Nicor Gas (since
2002); Vice President Business Development, Nicor
and Nicor Gas (1998-2002).
George M. Behrens 49 Vice President and Treasurer, Nicor and Nicor Gas
(since 2004); Vice President Administration and
Treasurer, Nicor and Nicor Gas (2000-2004); Vice
President Administration, Nicor and Nicor Gas
(1999-2000); Vice President and Controller, Nicor
and Nicor Gas (1998-1999); and Vice President
Accounting, Nicor Gas (1996-1998).
Paul C. Gracey, Jr. 45 Vice President, General Counsel and Secretary,
Nicor and Nicor Gas (since 2002); Vice President
and General Counsel, Midwest Generation, Chicago,
independent power producer (2000-2002); Vice
President and General Counsel, Edison Mission
Energy Limited, London, England, independent power
producer (1993-2000).
Gerald P. O'Connor 53 Vice President Administration and Finance, Nicor
and Nicor Gas (since 2004); Temporary General
Manager - Internal Audit, Nicor and Nicor Gas
(2003-2004); Partner, Tatum Partners LLC
(2003-2004); Vice President and Chief Financial
Officer, Aux Sable Liquid Products LLP (2000-2002);
Vice President Finance and Administration,
Illinova Energy Partners Inc. (1995-2000).
<PAGE>
Nicor Inc. Page 8
- -------------------------------------------------------------------------------
PART II
Item 5. Market for Registrant's Common Equity, Related Stockholder Matters
- ------- -------------------------------------------------------------------
and Issuer Purchases of Equity Securities
-----------------------------------------
Nicor common stock is listed on the New York and Chicago Stock Exchanges. At
February 22, 2005, there were approximately 23,700 common stockholders of
record.
Stock price Dividends
-------------------
Quarter High Low Declared
---------- --------- --------- ---------
2004
First $ 37.43 $ 32.49 $ .465
Second 35.65 32.04 .465
Third 37.36 32.37 .465
Fourth 39.65 35.89 .465
2003
First $ 35.62 $ 23.70 $ .465
Second 39.30 27.05 .465
Third 37.70 33.51 .465
Fourth 36.62 32.03 .465
----------------------------------------------------------
The following table presents common stock repurchase activity for the fourth
quarter of 2004:
Total Number Approximate
of Shares Dollar Value
Purchased of Shares that
as Part of May Yet Be
Total Publicly Purchased
Number of Average Announced Under the
Shares Price Paid Plans or Plans or
Period Puchased per Share Programs (1) Programs (1)
- ---------------------- ---------- ---------- ------------ ---------------
October 1 to 31, 2004 - $ - - $ 21,513,176
November 1 to 30, 2004 - - - 21,513,176
December 1 to 31, 2004 - - - 21,513,176
---------- ---------- -----------
- $ - -
========== ========== ===========
(1) In September 2001, Nicor announced a $50 million common stock repurchase
program, under which Nicor may purchase its common stock as market
conditions permit through open market transactions and to the extent cash
flow is available after other cash needs and investment opportunities.
There were no repurchases under this program in 2004 and 2003.
On December 30, 2004, the company transferred 8,141 shares of its common stock
to one individual in connection with the 2003 purchase of the assets and
assumption of the certain liabilities of a heating and air conditioning business
owned by that individual. The shares were sold without registration under the
Securities Act of 1933, pursuant to an exemption under Rule 505 of Regulation D
under the Securities Act of 1933. The issuance was effected without general
solicitation or advertising.
<PAGE>
Nicor Inc. Page 9
- -------------------------------------------------------------------------------
Item 6. Selected Financial Data
- ------- -----------------------
(in millions, except per share data)
Year ended December 31
------------------------------------------------
2004 2003 2002 2001 2000
-------- -------- -------- -------- --------
Operating revenues $2,739.7 $2,662.7 $1,897.4 $2,366.3 $2,159.3
Operating income $ 137.7 $ 189.4 $ 226.5 $ 219.2 $ 85.6
Income before cumulative
effect of accounting change $ 75.1 $ 109.8 $ 128.0 $ 122.1 $ 35.8
Net income $ 75.1 $ 105.3 $ 128.0 $ 122.1 $ 35.8
Earnings per common share
Basic
Before cumulative effect
of accounting change $ 1.71 $ 2.49 $ 2.90 $ 2.70 $ .77
Basic earnings per share 1.71 2.39 2.90 2.70 .77
Diluted
Before cumulative effect
of accounting change $ 1.70 $ 2.48 $ 2.88 $ 2.69 $ .77
Diluted earnings per
share 1.70 2.38 2.88 2.69 .77
Dividends declared per
common share $ 1.86 $ 1.86 $ 1.84 $ 1.76 $ 1.66
Property, plant and equipment
Gross $4,143.6 $3,999.5 $3,872.8 $3,733.0 $3,588.9
Net 2,549.8 2,484.2 2,421.8 2,343.6 2,270.9
Total assets $3,975.2 $3,797.2 $3,524.4 $3,182.2 $3,460.6
Capitalization
Long-term bonds and notes,
net of current
maturities $ 495.3 $ 495.1 $ 396.2 $ 446.4 $ 347.1
Mandatorily redeemable
preferred stock 1.6 1.8 4.3 6.1 6.4
Common equity 749.1 754.6 728.4 704.2 705.2
-------- -------- -------- -------- --------
$1,246.0 $1,251.5 $1,128.9 $1,156.7 $1,058.7
======== ======== ======== ======== ========
In 2004, a $38.5 million litigation charge was recorded to operating expense
relating to an agreement to settle a securities class action lawsuit.
<PAGE>
Nicor Inc. Page 10
- -------------------------------------------------------------------------------
Item 7. Management's Discussion and Analysis of Financial Condition
- ------- -----------------------------------------------------------
and Results of Operations
-------------------------
The purpose of this financial review is to explain changes in operating results
and financial condition from 2002 to 2004 and to discuss business trends and
uncertainties that might affect Nicor. Certain terms used herein are defined in
the glossary on page ii. The discussion is organized into five sections -
Summary, Results of Operations, Financial Condition and Liquidity, Critical
Accounting Estimates and Other Factors That May Affect Business Performance.
SUMMARY
Nicor Inc. (Nicor) is a holding company with two principal business segments -
gas distribution and shipping. Nicor Gas is one of the nation's largest natural
gas distribution companies, and it is Nicor's primary business. Tropical
Shipping is a containerized shipping business serving the Bahamas and the
Caribbean region that typically represents most of the balance of Nicor's
operating income. Nicor also owns or has equity interests in several
energy-related businesses.
Net income and diluted earnings per common share are presented below (in
millions, except per share data):
2004 2003 2002
-------- -------- --------
Income before cumulative effect of
accounting change $ 75.1 $ 109.8 $ 128.0
Net income 75.1 105.3 128.0
Earnings per average share of common stock:
Diluted - before cumulative effect
of accounting change 1.70 2.48 2.88
Diluted - after cumulative effect
of accounting change 1.70 2.38 2.88
Net income was lower in 2004 compared with 2003 due in large part to a $38.5
million pretax litigation charge recorded in the first quarter of 2004 related
to an agreement to settle securities class action lawsuits. The charge reduced
net income by $23.2 million and diluted earnings per share by $.52. For more
information, see the Notes to the Consolidated Financial Statements - Note 19
Contingencies - Securities Class Actions.
Results for 2004 were also impacted by lower operating results in the gas
distribution segment and an absence of gains that occurred in 2003 related to
the company's previously written off investment in Nicor Energy. Partially
offsetting these negative factors were higher operating results in the shipping
segment and at Nicor's other energy ventures, a decrease in the effective income
tax rate, and the absence of a cumulative effect loss that occurred in 2003 due
to a change in accounting method at Nicor Enerchange.
Net income was lower in 2003 compared with 2002 due primarily to lower operating
results from the gas distribution segment, the cumulative effect of a change in
accounting methods and an increase in the effective income tax rate. These
factors were partially offset by improved equity investment results due
primarily to cash received from the previously written off investment in Nicor
Energy.
Operating results of the gas distribution business were positively impacted in
2003 and 2002 by the recognition of recoveries from insurers and contractors
and/or reserve reductions for Nicor Gas' mercury inspection and repair program.
The recognition of net recoveries from insurers and contractors and/or reserve
reductions increased pretax income by $17.8 million and $29.0 million in 2003
and 2002, respectively. For details of Nicor Gas' mercury inspection and repair
program, see the Notes to the Consolidated Financial Statements - Note 19
Contingencies - Mercury.
<PAGE>
Nicor Inc. Page 11
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Item 7. Management's Discussion and Analysis of Financial Condition
- ------- -----------------------------------------------------------
and Results of Operations (continued)
-------------------------------------
In late 2004, Nicor Gas filed a proposal for a rate increase with the Illinois
Commerce Commission (ICC). For more information, see Other Factors That May
Affect Business Performance - Gas Distribution - Rate Proceeding.
In January 2005, Nicor reached a preliminary agreement to settle the shareholder
derivative lawsuits, contingent upon court approval. The company also reached a
final settlement agreement with its Directors and Officers insurance carrier and
a preliminary settlement agreement with its excess insurance carrier. For more
information, see the Notes to the Consolidated Financial Statements - Note 19
Contingencies - Shareholder Derivative Lawsuits and Contingencies - Other. As
discussed in Note 19, the company's 2004 results do not reflect the impact of
these settlements.
With the passage of the American Jobs Creation Act of 2004, the company is
assessing the extent, if any, to which the undistributed foreign earnings of
Tropical Shipping will be repatriated in 2005. For additional information, refer
to Other Factors That May Affect Business Performance - Shipping.
Details of various financial and operating information by segment can be found
on the pages that follow.
Operating income by segment. Operating income (loss) by major business segment
is presented below (in millions):
2004 2003 2002
--------- --------- ---------
Gas distribution $ 130.8 $ 166.2 $ 207.0
Shipping 31.6 22.7 21.2
Other energy ventures 19.3 7.9 6.4
Corporate and eliminations (44.0) (7.4) (8.1)
--------- -------- ---------
$ 137.7 $ 189.4 $ 226.5
========= ======== =========
The following summarizes operating income (loss) comparisons by major business
segments:
o Gas distribution operating income decreased $35.4 million in 2004 as compared
to 2003 due primarily to decreased insurance recoveries relating to the
mercury inspection and repair program ($17.8 million, net of costs), higher
operating and maintenance expenses ($14.8 million), the negative impact
of warmer weather than in 2003 (approximately $6 million) and higher
depreciation expense ($5.3 million). These negative factors were partially
offset by an increase in gains on property sales ($5.5 million) and the
impact of an increased number of customers ($3.3 million).
Gas distribution operating income decreased $40.8 million in 2003 as compared
to 2002 due primarily to increased operating and maintenance expenses ($20.5
million), lower Chicago Hub results ($8.1 million), higher depreciation ($5.9
million) and lower property sale gains ($3.7 million). Operating income also
reflects $17.8 million of mercury-related insurance recoveries in 2003 as
compared to $29 million of mercury-related insurance recoveries and reserve
reductions in 2002. The impact of weather colder than the prior year was an
increase in operating income of about $3 million.
<PAGE>
Nicor Inc. Page 12
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Item 7. Management's Discussion and Analysis of Financial Condition
- ------- -----------------------------------------------------------
and Results of Operations (continued)
-------------------------------------
o Shipping operating income for 2004 increased $8.9 million compared to 2003
due to increased revenues ($38.5 million) driven by the impact of higher
volumes shipped and higher average rates, partially offset by lower charter
income and increased operating expenses ($29.6 million), primarily voyage,
inland transportation, port and other costs.
Shipping operating income for 2003 rose $1.5 million compared to 2002 due to
increased revenues from higher volumes shipped ($3.1 million), higher average
rates ($1.4 million) and increased charter income ($1.8 million). These
improvements were largely offset by higher fuel costs ($3.1 million) as well
as higher other operating expenses ($2.0 million) in 2003.
o Operating income from Nicor's other energy ventures for 2004 increased $11.4
million compared to 2003 due primarily to higher operating results at Nicor
Enerchange ($5.8 million) and at Nicor's energy-related products and services
businesses ($4.2 million), and the absence of prior-year losses from former
business activities ($0.8 million). The improvements were due predominantly
to an increased average number of utility-bill management customers at Nicor
Solutions and related risk-management activities handled by Nicor Enerchange
instead of by an outside party.
Operating income from Nicor's other energy ventures for 2003 increased $1.5
million compared to 2002. Operating results were higher in Nicor's
energy-related products and services businesses ($0.7 million). Also
favorably impacting the year was the absence of project losses, as occurred
in 2002, on former energy system development activities ($2.7 million).
o The increase in operating loss at Corporate is due primarily to the 2004
litigation charge of $38.5 million relating to the settlement of the
securities class action lawsuits.
These factors are discussed in more detail in the Results of Operations section.
RESULTS OF OPERATIONS
Details of various financial and operating information by segment can be found
in the tables throughout this review. The following discussion summarizes the
major items impacting Nicor's operating income.
Operating revenues. Operating revenues by major business segment are presented
below (in millions):
2004 2003 2002
---------- ---------- ----------
Gas distribution $ 2,362.1 $ 2,351.6 $ 1,590.7
Shipping 310.7 272.2 266.0
Other energy ventures 155.3 96.5 56.9
Corporate and eliminations (88.4) (57.6) (16.2)
---------- ---------- ----------
$ 2,739.7 $ 2,662.7 $ 1,897.4
========== ========== ==========
Gas distribution revenues are impacted by changes in natural gas costs, which
are passed directly through to customers without markup, subject to ICC review.
For the year 2004, gas distribution revenues increased $10.5 million as compared
to 2003 due primarily to higher natural gas costs ($96.5 million) and higher
revenue taxes ($16.5 million). These positive factors were largely offset by the
negative effect of warmer weather than in 2003 (approximately $100 million).
<PAGE>
Nicor Inc. Page 13
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Item 7. Management's Discussion and Analysis of Financial Condition
- ------- -----------------------------------------------------------
and Results of Operations (continued)
-------------------------------------
Gas distribution revenues increased nearly 50 percent in 2003 compared to 2002
due primarily to higher natural gas costs, which are passed directly through to
customers without markup, subject to ICC review. The revenue effect of higher
natural gas costs was approximately $680 million. Revenues also increased in
2003 by about $40 million due to colder weather than the prior year. While
residential deliveries rose on colder weather, industrial deliveries fell due
largely to lower power-generation load affected by mild summer weather.
In 2004, shipping segment operating revenues increased over 2003 due primarily
to higher volumes shipped ($31.9 million) and higher average rates ($8.7
million), partially offset by decreased charter income ($2.1 million). These
higher volumes reflect increased tourism and post-hurricane construction
activity in the Caribbean region and the Bahamas. Rates were higher due to a
general rate increase and higher cost recovery surcharges for fuel and security.
In 2003, shipping segment operating revenues increased over 2002 due primarily
to higher volumes shipped ($3.1 million), higher average rates ($1.4 million)
and increased charter income ($1.8 million). The higher volumes reflect
increased activity resulting from an acquisition that occurred in April 2002.
The 2004 increase in revenues for other energy ventures was due primarily to
higher revenues at Nicor's energy-related products and services businesses
($52.4 million), and Nicor Enerchange ($7.2 million). The improvements were due
predominantly to an increased average number of utility-bill management
customers at Nicor Solutions and related risk-management activities handled by
Nicor Enerchange instead of by an outside party.
The 2003 increase in revenues for other energy ventures was due primarily to the
company's energy-related products and services businesses ($49.4 million),
largely reflecting new customers and products, such as utility-bill management
products introduced in 2002. Negatively impacting 2003 were decreased revenues
from Nicor's former energy system development activities ($10.1 million).
Corporate and eliminations primarily reflects the elimination of gas
distribution revenues against Nicor Solutions' expenses for customers purchasing
the utility-bill management products.
Gas distribution margin. Nicor utilizes a measure it refers to as "gas
distribution margin" to evaluate the operating income impact of gas distribution
revenues. Gas distribution revenues include natural gas costs, which are passed
directly through to customers without markup, subject to ICC review, and revenue
taxes, for which Nicor Gas earns a small administrative fee. These items often
cause significant fluctuations in gas distribution revenues, and yet they have
virtually no direct impact on gas distribution operating income.
A reconciliation of gas distribution revenues and margin follows (in millions):
2004 2003 2002
---------- ---------- ----------
Gas distribution revenues $ 2,362.1 $ 2,351.6 $ 1,590.7
Cost of gas (1,695.0) (1,692.7) (970.1)
Revenue tax expense (139.4) (130.9) (92.4)
---------- ---------- ----------
Gas distribution margin $ 527.7 $ 528.0 $ 528.2
========== ========== ==========
For the year 2004, gas distribution margin was essentially unchanged from 2003,
although affected by a number of offsetting factors. Warmer weather than in 2003
(approximately $6 million) and an adjustment
<PAGE>
Nicor Inc. Page 14
- -------------------------------------------------------------------------------
Item 7. Management's Discussion and Analysis of Financial Condition
- ------- -----------------------------------------------------------
and Results of Operations (continued)
-------------------------------------
related to prior-year Performance Based Rate (PBR) plan results ($1.8 million)
had a negative effect on margin. These negative factors were partially offset by
the impact of an increased number of customers ($3.3 million), higher average
rates charged during the period ($2.2 million) and higher revenue tax
administration fees ($1.0 million).
Although margin for 2003 and 2002 were essentially equal, a number of factors
had offsetting impacts. Negatively impacting margin in 2003 was a smaller
contribution from the Chicago Hub and other gas supply-related activities ($10.9
million) and lower industrial deliveries, mainly for power generation ($2.9
million). The company believes commercial and industrial deliveries were
unfavorably impacted by general economic conditions and higher natural gas
prices. Positively impacting margin were increased customer finance and late
payment charges (about $8 million) related to higher natural gas prices in 2003.
The absence of PBR plan losses as occurred in 2002 ($4.1 million) and increased
deliveries due to colder weather than the prior year (about $7 million),
partially offset by an unfavorable variance from the company's weather hedge in
2003 compared to 2002 ($3.5 million), also positively impacted margin.
Gas distribution operating and maintenance expense. Gas distribution operating
and maintenance expense for 2004 of $234.9 million was $14.8 million higher than
2003 due primarily to increases in legal defense costs associated with the
PBR-related litigation ($5.4 million) and payroll costs ($3.5 million),
adjustments related to customer reimbursements ($3.1 million), higher bad debt
expense ($2.7 million), due in part to high natural gas prices, and higher
compliance costs ($2.6 million). These negative factors were partially offset by
higher pension credits ($3.6 million).
The increase in gas distribution operating and maintenance expense for 2003 over
2002 of $20.5 million was due primarily to higher pension costs ($9.7 million),
higher insurance expense ($4.2 million), increased bad debt expense ($4.1
million), increased natural gas costs to operate company equipment and
facilities ($3.2 million) and higher health care costs ($2.7 million). These
negative factors were partially offset by lower expenses related to the review
of the company's PBR plan ($6.5 million).
Operating and maintenance expenses at Nicor Gas are expected to continue to
rise.
Other gas distribution operating expenses. Property sale gains and losses vary
from year-to-year depending upon property sales activity. During 2004, Nicor Gas
realized a $5.9 million gain on the sale of land. The company continues to
assess its ownership of real estate holdings and anticipates a decrease in
property sale activity in 2005.
Mercury-related costs (recoveries), net reflect the estimated costs, credits and
recoveries associated with the company's mercury inspection and repair program.
Recoveries and costs were insignificant in 2004. However, in 2003 and 2002,
Nicor Gas reached agreements with insurers and independent contractors whereby
the company recovered approximately $18 million and $20 million, respectively,
of mercury-related costs. In addition, in 2002, a $9 million adjustment lowered
the mercury-related reserve and reduced operating expense. Additional
information about the company's mercury inspection and repair program is
presented in the Notes to the Consolidated Financial Statements - Note 19
Contingencies - Mercury.
Shipping operating expenses. Shipping segment operating expenses increased $29.6
million in 2004 as compared to 2003 due primarily to higher voyage, inland
transportation and port costs ($16.0 million), payroll and related costs ($4.7
million), leased equipment costs ($2.7 million) and vessel charter costs ($2.0
million). The increases are due primarily to higher volumes shipped.
<PAGE>
Nicor Inc. Page 15
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Item 7. Management's Discussion and Analysis of Financial Condition
- ------- -----------------------------------------------------------
and Results of Operations (continued)
-------------------------------------
Shipping segment operating expenses rose $4.7 million in 2003 versus 2002 due
primarily to higher fuel costs ($3.1 million) and increased vessel charter
expenses ($0.6 million). Increased fuel costs reflect the impact of higher fuel
prices in 2003.
Operating expenses of other energy ventures. The $47.4 million increase in the
2004 operating expenses compared to 2003 was due mainly to higher expenses at
Nicor's energy-related products and services businesses ($48.2 million),
reflecting an increased average number of utility-bill management customers and
the higher average cost of gas.
The $38.1 million increase in the 2003 operating expenses compared to 2002 was
due primarily to increased operating expenses at Nicor's energy-related products
and services businesses ($48.6 million), associated largely with the addition of
new customers and products. This increase was partially offset by lower
operating expenses from the company's former energy system and design activities
($12.9 million).
Litigation charge. The 2004 litigation charge of $38.5 million relates to the
settlement of the securities class action lawsuit.
Other corporate expenses and eliminations. Other corporate operating expenses
were $5.5 million, $8.3 million and $6.4 million in 2004, 2003 and 2002,
respectively, which are primarily legal and business development costs.
Intercompany eliminations were $(88.4) million, $(58.5) million and $(14.5)
million in 2004, 2003 and 2002, respectively, and related primarily to
utility-bill management products.
Equity investment income (loss), net. Equity investment results for 2004
decreased by $9.0 million as compared to 2003 due primarily to the absence of a
$9.6 million cash recovery related to Nicor Energy that occurred in 2003. This
equity investment was previously written off and negatively impacted 2002
results ($9.2 million). Information related to this investment is more fully
described in the Notes to the Consolidated Financial Statements - Note 19
Contingencies - Nicor Energy. Equity investment results also include $6.5
million, $5.5 million and $4.1 million for 2004, 2003 and 2002, respectively,
for Nicor's share of income from Triton Container Investments LLC (Triton), a
cargo container leasing business.
Interest expense. Interest expense increased $3.9 million in 2004 over 2003 due
to the impact of higher effective interest rates on debt ($4.4 million) and
higher estimated interest on income tax matters ($1.8 million), partially offset
by the impact of lower average borrowing levels ($2.3 million). Interest expense
decreased $1.2 million in 2003 from 2002 due to lower average borrowing levels
and interest rates.
Income taxes. The decline in the effective income tax rate to 28.7 percent in
2004 from 35.2 percent in 2003 was primarily a result of lower pretax income
(which typically causes a lower effective income tax rate since permanent
differences and tax credits are a larger share of pretax income).
The company's effective income tax rate rose to 35.2 percent in 2003 as compared
to 31.0 percent in 2002 due principally to the effects of an increase in tax
expense in 2003 relating to adjustments of deferred income tax accounts.
Cumulative effect of accounting change. The cumulative effect of a January 1,
2003 required accounting change relates to the application of accrual
accounting, rather than fair value accounting, to gas in storage and certain
energy-related contracts, such as storage and transportation contracts, at Nicor
Enerchange.
<PAGE>
Nicor Inc. Page 16
- -------------------------------------------------------------------------------
Item 7. Management's Discussion and Analysis of Financial Condition
- ------- -----------------------------------------------------------
and Results of Operations (continued)
-------------------------------------
Gas Distribution Statistics
2004 2003 2002
--------- --------- ---------
Operating revenues (millions)
Sales
Residential $ 1,625.5 $ 1,611.9 $ 1,057.4
Commercial 349.9 351.7 209.4
Industrial 49.3 51.2 32.5
--------- --------- ---------
2,024.7 2,014.8 1,299.3
--------- --------- ---------
Transportation
Residential 23.6 22.7 16.3
Commercial 69.9 71.6 75.6
Industrial 39.9 41.7 45.8
Other 14.0 12.0 7.6
--------- --------- ---------
147.4 148.0 145.3
--------- --------- ---------
Other revenues
Revenue taxes 143.5 134.0 95.3
Environmental cost recovery 20.6 31.3 24.6
Chicago Hub 7.9 7.3 15.4
Performance-based rate plan (1.8) - (4.1)
Other 19.8 16.2 14.9
--------- --------- ---------
190.0 188.8 146.1
--------- --------- ---------
$ 2,362.1 $ 2,351.6 $ 1,590.7
========= ========= =========
Deliveries (Bcf)
Sales
Residential 204.8 214.9 212.9
Commercial 44.3 46.7 41.6
Industrial 6.4 7.0 6.9
--------- --------- ---------
255.5 268.6 261.4
--------- --------- ---------
Transportation
Residential 16.6 16.6 11.0
Commercial 84.1 87.8 97.5
Industrial 117.0 121.2 149.2
--------- --------- ---------
217.7 225.6 257.7
--------- --------- ---------
473.2 494.2 519.1
========= ========= =========
Year-end customers (thousands)
Sales
Residential 1,777.3 1,745.2 1,733.6
Commercial 116.5 114.5 108.9
Industrial 7.4 7.3 7.0
--------- --------- ---------
1,901.2 1,867.0 1,849.5
--------- --------- ---------
Transportation
Residential 147.9 145.1 126.8
Commercial 59.5 58.3 62.4
Industrial 6.0 6.2 6.7
--------- --------- ---------
213.4 209.6 195.9
--------- --------- ---------
2,114.6 2,076.6 2,045.4
========= ========= =========
Other statistics
Degree days (normal 6,000) 5,637 6,068 5,779
Colder (warmer) than normal (6)% 1% (4)%
Average gas cost per Mcf sold $ 6.56 $ 6.24 $ 3.67
<PAGE>
Nicor Inc. Page 17
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Item 7. Management's Discussion and Analysis of Financial Condition
- ------- -----------------------------------------------------------
and Results of Operations (continued)
-------------------------------------
Shipping Statistics
2004 2003 2002
-------- -------- --------
TEUs shipped (thousands) 198.0 177.1 175.1
Revenue per TEU $ 1,569 $ 1,525 $ 1,517
Ports served 24 25 24
Vessels operated at year-end 20 15 16
FINANCIAL CONDITION AND LIQUIDITY
The company believes it has access to adequate resources to meet its needs for
capital expenditures, debt redemptions, dividend payments and working capital.
These resources include net cash flow from operating activities, access to
capital markets, lines of credit and short-term investments.
Operating cash flows. The gas distribution business is highly seasonal and
operating cash flow may fluctuate significantly during the year and from
year-to-year due to factors such as weather, natural gas prices, the timing of
collections from customers, and natural gas purchasing, storage and hedging
practices. The company relies on short-term financing to meet seasonal increases
in working capital needs. Cash requirements generally increase over the third
and fourth quarters due to increases in natural gas purchases, gas in storage
and accounts receivable. Over the first and second quarters, positive cash flow
generally results from the sale of gas in storage and the collection of accounts
receivable. This cash is typically used to significantly reduce short-term debt
during the second quarter.
Nicor Gas maintains margin accounts related to financial derivative
transactions. These margin accounts may cause large fluctuations in cash needs
or sources in a relatively short period of time due to daily settlements
resulting from changes in natural gas futures prices. The company manages these
fluctuations with short-term borrowings.
Net cash flow provided from (used for) operating activities was $317.7 million,
$(12.6) million and $268.3 million in 2004, 2003 and 2002, respectively. The
cash flows provided in 2004 and 2002 are at the levels traditionally experienced
by the company. Operating cash flow for 2003 was negative due primarily to
changes in working capital items in the gas distribution segment. Two decisions
in 2003 were the primary factors underlying the working capital changes. First,
the company significantly increased the quantity of owned gas in storage at
December 31, 2003 as compared to December 31, 2002. In addition, the company
chose to fund a significant portion of those purchases through short-term
borrowings (which are shown outside the operating section, in the financing
section, of the Consolidated Statements of Cash Flows) instead of through
accounts payable. As noted in the financing activities section of Management's
Discussion and Analysis, the company had increased its short-term debt borrowing
capacity in anticipation of these two and other factors (including higher gas
costs), to accommodate the funding of these decisions.
In 2003, Nicor received an income tax refund, which adjusted the deferred income
tax liability, of approximately $100 million attributable to a tax loss
carryback associated with a change in tax accounting methods, subject to
Internal Revenue Service review and approval as part of normal ongoing audits.
Decisions by taxing authorities may significantly impact the company's cash
flow.
<PAGE>
Nicor Inc. Page 18
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Item 7. Management's Discussion and Analysis of Financial Condition
- ------- -----------------------------------------------------------
and Results of Operations (continued)
-------------------------------------
Investing Activities. Net cash flow used for investing activities was $204.7
million, $186.0 million and $189.2 million in 2004, 2003 and 2002, respectively.
The increase in 2004 over 2003 was due primarily to an increase in capital
expenditures and other investing activities.
Capital expenditures. Capital expenditures by business segment are presented
below (in millions):
Estimated
2005 2004 2003 2002
--------- -------- -------- --------
Gas distribution $ 195 $ 175 $ 173 $ 170
Shipping 25 9 6 20
Other energy ventures 5 3 2 3
--------- -------- -------- --------
$ 225 $ 187 $ 181 $ 193
========= ======== ======== ========
Capital expenditures in the gas distribution segment were nearly unchanged for
2004 compared with 2003. Increased costs in 2004 for information technology
system improvements (about $8 million) were largely offset by adjustments
related to customer reimbursements (about $3 million), the absence of
expenditures related to a 2003 service outage (about $2 million) and reduced
storage system expenditures (about $2 million).
Capital expenditures in the gas distribution segment for 2003 versus 2002
remained relatively level. Increased costs in 2003 for gas distribution system
improvements (about $8 million) and higher capitalized pension costs (about $3
million) were partially offset by a decrease in storage and transmission system
expenditures (about $6 million) compared with 2002. Storage and transmission
system expenditures in 2002 included the acquisition of a compressor for a
storage facility.
Gas distribution segment capital expenditures are expected to increase by about
$20 million in 2005 over the 2004 level due primarily to planned storage
compressor and real estate expenditures.
Shipping segment capital expenditures for 2004 increased $3 million over 2003
due primarily to the purchase of freight handling equipment and facilities
renovations. Shipping segment capital expenditures were lower in 2003 as
compared with 2002 due primarily to the construction of two vessels completed in
early 2002.
Shipping segment capital expenditures are expected to increase in 2005 versus
2004 due primarily to the purchase of freight handling equipment and facilities
expenditures. The 2005 estimate does not include additions to the company's
fleet. Increased vessel requirements are normally met through the acquisition,
charter or leasing of additional vessels.
Capital expenditures are expected to be higher at our other energy ventures in
2005 versus 2004 as computer systems are upgraded and facilities expanded at the
retail energy-related products and services businesses.
Other investing activities. In 2004, Nicor Gas realized net proceeds of $7.6
million on the sale of land.
Nicor invested $10 million in each of 2003 and 2002 in Triton. No investment was
made in 2004. Nicor's equity investment in this business at December 31, 2004
was $87.1 million.
<PAGE>
Nicor Inc. Page 19
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Item 7. Management's Discussion and Analysis of Financial Condition
- ------- -----------------------------------------------------------
and Results of Operations (continued)
-------------------------------------
In 2002, Nicor invested $16.5 million for a 50-percent share of equity in
Horizon Pipeline. Nicor's equity investment in this business at December 31,
2004 was $18.7 million.
Nicor's equity investment in Nicor Energy was written off during the third
quarter of 2002. During 2003, Nicor recorded gains of $9.6 million upon the
receipt of cash from Nicor Energy. No cash activity occurred in 2004 and any
future cash receipts or payments are expected to be minimal. Additional
information about transactions with Nicor Energy is provided within the Nicor
Energy section of the Notes to the Consolidated Financial Statements - Note 19
Contingencies.
In 2003 and 2002, Nicor Services acquired existing operations and assets to
establish a heating, ventilation and air conditioning business. All purchases
were made with shares of Nicor common stock.
In 2002, Tropical Shipping purchased certain assets of Tecmarine Lines Inc. and
TMX Logistics Inc. for cash, expanding its network of Caribbean and South
American destinations.
Financing activities. Nicor Gas has credit ratings that are among the highest in
the gas distribution industry. As of the filing date of this report, the credit
ratings as assigned by Standard and Poor's Ratings Services (S&P), Moody's
Investors Service (Moody's) and Fitch Ratings (Fitch) are as follows:
S&P Moody's Fitch
--------- --------- ---------
Nicor Inc.
Commercial Paper A-1+ P-1 F-1
Unsecured Credit Facilities AA- n/a n/a
Senior Unsecured Debt AA n/a A
Nicor Gas
Commercial Paper A-1+ P-1 F-1+
First Mortgage Bonds AA Aa3 AA-
Unsecured Credit Facilities AA- n/a n/a
Senior Unsecured Debt AA A1 AA-
In June 2004, Fitch changed Nicor Inc.'s senior unsecured debt rating from A+ to
A, Nicor Gas' First Mortgage Bonds from AA to AA-, and affirmed Nicor Inc.'s and
Nicor Gas' commercial paper at F-1 and F-1+, respectively. Fitch also upgraded
the ratings outlook for the company to Stable from Negative. In December 2004,
S&P changed its outlook from Stable to Negative on both Nicor Inc. and Nicor
Gas.
Nicor's debt-related financial statistics at December 31 include:
2004 2003 2002
-------- -------- --------
Long-term debt, net of current maturities
as a percent of capitalization 39.9% 39.7% 35.1%
Times interest earned, before income taxes 3.5 5.5 5.7
<PAGE>
Nicor Inc. Page 20
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Item 7. Management's Discussion and Analysis of Financial Condition
- ------- -----------------------------------------------------------
and Results of Operations (continued)
-------------------------------------
Long-term debt. The company typically uses the net proceeds from long-term debt
for refinancing outstanding debt, for construction programs to the extent not
provided by internally generated funds, and for general corporate purposes.
At December 31, 2004, Nicor Gas had the capacity to issue approximately $365
million of First Mortgage Bonds under the terms of its indenture, of which $75
million was available for immediate issuance under a July 2001 shelf
registration filing. Nicor is in compliance with its debt covenants and believes
it will continue to remain so. Nicor's long-term debt agreements do not include
ratings triggers or material adverse change provisions.
In 2003, Nicor Gas issued the following First Mortgage Bonds: $50 million due in
2023 at 5.80%, $50 million due in 2032 at 5.90% and $50 million due in 2033 at
5.90%. Retirements of First Mortgage Bonds in 2003 were as follows: $50 million
due in 2003 at 5.75% and $50 million due in 2027 at 7.375%.
In April 2003, Nicor Gas refinanced $50 million of 3% unsecured notes due in
April 2003 with $50 million of 1.6% unsecured notes due and paid in October
2003.
Short-term debt. The company relies on short-term financing to meet temporary
operating cash flow needs resulting from seasonal changes in working capital. In
2004, Nicor Inc. and Nicor Gas established two new revolving credit facilities
with major domestic and foreign banks. These facilities, which serve as backup
for the issuance of commercial paper, consist of a $500 million, 3-year
revolver, expiring September 2007, available to Nicor Inc. and Nicor Gas, and a
$400 million, 210-day seasonal revolver, expiring in April 2005, available to
Nicor Gas.
Common stock. In 2001, Nicor announced a $50 million common stock repurchase
program. Purchases may be made as market conditions permit through open market
transactions and to the extent cash flow is available after other cash needs and
investment opportunities. The company purchased and retired 400,000 common
shares in 2002, at a cost of $18 million, under the stock repurchase program.
There were no purchases under the existing program in 2003 and 2004, and at
December 31, 2004, approximately $22 million remained authorized for the
repurchase of common stock.
Nicor maintained its quarterly common stock dividend rate during 2004 of $.465
per common share. The company paid dividends on its common stock of $82.0
million, $81.7 million, and $80.4 million in 2004, 2003, and 2002, respectively.
Nicor currently has no contractual or regulatory restrictions on the payment of
dividends.
Off-balance sheet arrangements. Nicor has certain guarantees, as further
described in the Notes to the Consolidated Financial Statements - Note 18
Guarantees and Indemnities. The company believes that it is not probable that
these guarantees will have a material effect on its financial condition.
<PAGE>
Nicor Inc. Page 21
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Item 7. Management's Discussion and Analysis of Financial Condition
- ------- -----------------------------------------------------------
and Results of Operations (continued)
-------------------------------------
Contractual obligations. As of December 31, 2004, Nicor had contractual
obligations with payments due as follows (in millions):
Payments due by period
-------------------------------------------------
Less More
than 1 1-3 3-5 than 5
year years years years Total
-------- -------- -------- -------- ---------
Purchase obligations $ 732.0 $ 424.8 $ 140.6 $ 24.9 $1,322.3
Long-term debt - 50.0 125.0 325.0 500.0
Fixed interest on
long-term debt 30.5 58.2 47.0 266.4 402.1
Operating leases 25.4 25.1 22.7 15.8 89.0
Other long-term
obligations 2.8 4.5 2.1 1.1 10.5
-------- -------- -------- -------- ---------
$ 790.7 $ 562.6 $ 337.4 $ 633.2 $2,323.9
======== ======== ======== ======== =========
Purchase obligations consist primarily of natural gas purchase agreements, and
natural gas transportation and storage contracts in the gas distribution and
wholesale natural gas marketing business segments. Natural gas purchase
agreements include obligations to purchase natural gas at future market prices,
calculated using December 31, 2004 New York Mercantile Exchange futures prices.
Operating leases are primarily for vessels, containers and equipment in the
shipping segment, and for office space and equipment in the gas distribution
segment. Rental expense under operating leases was $27.5 million, $23.7 million
and $23.0 million in 2004, 2003, and 2002, respectively.
Other. Restrictions imposed by regulatory agencies and loan agreements limiting
the amount of subsidiary net assets that can be transferred to Nicor are not
expected to have a material impact on the company's ability to meet its cash
obligations.
CRITICAL ACCOUNTING ESTIMATES
Nicor prepares its consolidated financial statements in accordance with
accounting principles generally accepted in the United States, which regularly
require Nicor's management to exercise judgment in the selection and application
of accounting methods. The application of accounting methods includes making
estimates using subjective assumptions and judgments about matters that are
inherently uncertain.
The use of estimates and the selection of accounting policies affect Nicor's
reported results and financial condition. The company has adopted several
significant accounting policies and is required to make significant accounting
estimates that are important to understanding its financial statements. These
significant policies and estimates are described throughout the Notes to the
Consolidated Financial Statements.
Although there are numerous areas in which Nicor's management makes significant
accounting estimates, it believes its critical estimates are those that require
management's most difficult and subjective or complex judgments. Nicor's
management has a practice of reviewing its critical accounting estimates and
policy decisions with the audit committee of its board of directors. Its
critical estimates typically involve legal contingencies, derivative
instruments, pension and other postretirement benefits, income taxes, credit
risk and unbilled revenues because they are estimates which could materially
impact Nicor's financial statements.
<PAGE>
Nicor Inc. Page 22
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Item 7. Management's Discussion and Analysis of Financial Condition
- ------- -----------------------------------------------------------
and Results of Operations (continued)
-------------------------------------
Loss contingencies. Nicor and its subsidiaries record contingent losses as
liabilities when a loss is both probable and the amount or range of loss,
including related legal defense costs, is reasonably estimable. When only a
range of potential loss is estimable, the company records a liability for the
minimum anticipated loss. Nicor and its subsidiaries and affiliates are involved
in various legal and regulatory proceedings and are exposed to various loss
contingencies. These loss contingencies are in some cases resolved in stages
over time, estimates may change significantly from period to period, and the
company's ultimate obligations may differ materially from its recorded amounts.
Of particular note is the PBR plan contingency at Nicor Gas and the United
States Securities and Exchange Commission (SEC) and U.S. Attorney inquiries
described in the Notes to the Consolidated Financial Statements - Note 19
Contingencies.
Derivative instruments. The rules for determining whether a contract meets the
definition of a derivative instrument or qualifies for hedge accounting
treatment are numerous and complex. The treatment of a single contract may vary
from period to period depending upon accounting elections, changes in
management's assessment of the likelihood of future hedged transactions or new
interpretations of accounting rules. As a result, management judgment is
required in the determination of the appropriate accounting treatment. In
addition, the estimated fair value of derivative instruments may change
significantly from period to period depending upon market projections, and
changes in hedge effectiveness may impact the accounting treatment. These
determinations and changes in estimates may have a material impact on reported
results.
Pension and other postretirement benefits. The company's cost of providing
postretirement benefits is dependent upon various factors and assumptions,
including life expectancies, the discount rate used in determining the projected
benefit obligation, the expected long-term rate of return on plan assets, the
long-term rate of compensation increase and anticipated health care costs.
Changes in these assumptions typically do not have a significant impact on the
expenses recorded from year to year. However, actual experience in any one
period, particularly the actual return on plan assets, often varies
significantly from these mostly long-term assumptions. When cumulatively
significant, the gains and losses generated from such variances are amortized
over the remaining service lives of employees covered by the plans
(approximately 11 to 14 years). Additional information is presented in the Notes
to the Consolidated Financial Statements - Note 9 Postretirement Benefits.
The company's estimated postretirement benefit cost included in operating income
was $9.1 million, $13.9 million and $1.4 million in 2004, 2003 and 2002,
respectively. Nicor Gas expects to record postretirement benefit cost for 2005
of $8.1 million. Actuarial assumptions affecting 2005 include an expected rate
of return on plan assets of 8.5 percent, consistent with the prior year, and a
discount rate of 5.75 percent compared with 6 percent a year earlier.
Income taxes. A deferred income tax liability is not recorded on undistributed
foreign earnings that are indefinitely reinvested offshore. Nicor has recorded a
$47 million deferred income tax liability associated with foreign earnings it
may repatriate, and it has not recorded deferred income taxes of $12 million on
approximately $35 million of cumulative undistributed foreign earnings it
believes to be indefinitely reinvested offshore. See Notes to the Consolidated
Financial Statements - Note 8 Income Taxes, for a discussion of potential
impacts from the American Jobs Creation Act of 2004. Changes in management's
investment or repatriation plans or circumstances could result in a different
deferred income tax liability.
<PAGE>
Nicor Inc. Page 23
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Item 7. Management's Discussion and Analysis of Financial Condition
- ------- -----------------------------------------------------------
and Results of Operations (continued)
-------------------------------------
Credit risk. Nicor's subsidiaries and affiliates are required to estimate credit
risk in establishing allowances for doubtful accounts and in estimating the fair
values of certain derivative instruments with counterparty credit risk being an
especially difficult and critical judgment. Actual credit losses could vary
materially from Nicor's estimates. Nicor's allowance for doubtful accounts at
December 31, 2004, 2003 and 2002 was $21.9 million, $21.2 million and $16.9
million, respectively, as presented on Schedule II in Item 15.
Unbilled revenues. Nicor Gas estimates revenues for gas deliveries not yet
billed to customers from the last billing date to month-end (unbilled revenues).
Unbilled revenue estimates are dependent upon a number of customer-usage factors
which require management judgment, including weather. These estimates are
adjusted when actual billings occur, and changes in estimates can be material.
Estimated unbilled revenues for Nicor Gas at December 31, 2004, 2003 and 2002
were $204.4 million, $139.0 million and $142.4 million, respectively.
OTHER FACTORS THAT MAY AFFECT BUSINESS PERFORMANCE
The following factors can impact year-to-year comparisons and may affect the
future performance of Nicor's businesses.
Gas distribution. Nicor Gas, a regulated natural gas distribution utility,
serves over 2.1 million customers in a service territory that encompasses most
of the northern third of Illinois, excluding the city of Chicago. The region's
economy is diverse and its customer base has grown steadily over the years,
providing Nicor Gas with a well-balanced mix of residential, commercial and
industrial customers. Residential customers typically account for approximately
45 to 50 percent of natural gas deliveries, while commercial and industrial
customers each typically account for about 25 to 30 percent.
Regulation. Nicor Gas is regulated by the ICC, which establishes the rules and
regulations governing utility rates and services in Illinois. Certain rates are
updated monthly and designed to recover specific past costs, such as gas supply
and environmental costs, subject to an annual prudence review. Base rates, on
the other hand, are designed to allow the company an opportunity to recover its
costs and to earn a fair return for its investors. Significant changes in the
regulations applicable to Nicor Gas or its affiliates, or the regulatory
environment in general, could affect the performance of Nicor Gas. Information
regarding certain ICC proceedings is presented within the Notes to the
Consolidated Financial Statements - Note 19 Contingencies - Performance-Based
Rate Plan.
Rate Proceeding. On November 4, 2004, Nicor Gas filed with the ICC for an
overall increase in rates of approximately $83 million (or about 16.5 percent of
base rates revenue). The company's filing provided for a rate of return on
original-cost rate base of 9.34 percent, which reflects an 11.37 percent cost of
common equity. The requested rate increase is needed to recover higher operating
costs and increased capital investments. Nicor Gas has not raised base rates
since 1996.
As part of the requested rate increase, Nicor Gas has proposed that all Chicago
Hub revenues, net of related administrative costs, and approximately two-thirds
of all bad debt expenses be passed directly through to customers, reducing the
earnings variability of both items. In addition, the company has proposed
setting rates assuming normal weather of 5,830 degree days beginning in 2005
versus the 6,000 degree days currently considered by the company as normal.
The ICC normally has 11 months to complete its review of the filing and to issue
an order. The proposed rate increase has been suspended pending the completion
of the ICC's review.
<PAGE>
Nicor Inc. Page 24
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Item 7. Management's Discussion and Analysis of Financial Condition
- ------- -----------------------------------------------------------
and Results of Operations (continued)
-------------------------------------
Weather. Natural gas deliveries are temperature-sensitive and seasonal since
about one-half of all deliveries are used for space heating. Typically, about 70
percent of deliveries and revenues occur from October through March.
Fluctuations in weather have the potential to significantly impact year-to-year
comparisons of operating income and cash flow.
It is estimated that a 100-degree day variation from normal weather affects
Nicor's gas distribution earnings by about 2-1/2 cents per share. Since the
first quarter of 2003, external weather protection has not been purchased by
Nicor because it also bears the partially offsetting weather risk associated
with the utility-bill management products marketed by Nicor Solutions. The
amount of this offset will vary depending upon the time of year, weather
patterns, the number of customers for these products and the market price for
natural gas. In 2004, the offsetting impact related to utility-bill management
products was about one-third of the gas distribution weather effect.
Demand and natural gas prices. In addition to the impact of weather, significant
changes in economic conditions or natural gas prices can impact customer gas
usage. Nicor Gas' large residential customer base provides relative stability
during weak economic periods, and the industrial and commercial customer base is
well diversified, lessening the impact of industry-specific economic swings.
However, management believes that declines since 2000 in natural gas deliveries
to industrial customers may be permanent. Management also believes that
deliveries for power generation, which have declined in recent years, will
remain relatively flat.
Changes in the price of natural gas have no direct impact on gas distribution
margin since gas costs are passed directly through to customers without markup,
subject to ICC review. However, high natural gas prices can have an adverse
effect on accounts receivable collections, customer demand, company-use gas
expenses, financing costs and customer service expenses.
Competition. Nicor Gas is a regulated monopoly and has no competition for
natural gas distribution, however, Nicor Gas does compete with alternative
energy suppliers based on such factors as price, service and reliability. The
company believes that it is well positioned to deal with the possibility of fuel
switching by customers because it has rates and services designed to compete
against alternative fuels. In addition, the company has a rate that allows
negotiation with potential bypass customers, and no customer has bypassed the
Nicor Gas system since the rate became effective in 1987. Nicor Gas also offers
commercial and industrial customers alternatives in rates and service,
increasing its ability to compete in these markets.
Storage and supply. Nicor Gas has a direct connection to eight interstate
pipelines and extensive underground storage capacity that provides the company
and its transportation customers with flexibility and alternatives for natural
gas supply procurement and storage services. In addition, in an effort to ensure
supply reliability, the company purchases gas from several different producing
regions under varied contract terms.
Customer choice of commodity supplier. Since March 2002, all Nicor Gas customers
have had a choice of natural gas suppliers. The choice of another natural gas
commodity supplier has no direct impact on gas distribution margin because
natural gas costs are passed directly through to customers without markup,
subject to ICC review. Nicor Gas continues to deliver the natural gas, maintain
its distribution system and respond to emergencies.
<PAGE>
Nicor Inc. Page 25
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Item 7. Management's Discussion and Analysis of Financial Condition
- ------- -----------------------------------------------------------
and Results of Operations (continued)
-------------------------------------
Customer credit risk. Nicor Gas has a diversified customer base, which limits
its exposure to concentrations of credit risk in any one industry or income
class. The company believes that it maintains prudent credit policies, subject
to ICC regulations. Customers also have options to help them manage their bills,
such as energy assistance programs for low-income customers and a budget payment
plan that spreads gas bills more evenly throughout the year. However, high
natural gas prices can increase the risk of customer nonpayment. Nicor Gas
experienced increasing bad debt expense in the past few years due in part to
high natural gas prices and an increasingly adverse credit experience consistent
with general economic conditions. It is expected that high natural gas prices
will continue in 2005. See also the Credit Risk section on page 28.
Other activities. Nicor Gas continues to pursue other activities, such as the
Chicago Hub, which provides natural gas transportation and storage services. The
Chicago area is a major market hub for natural gas, and demand exists for
storage and transmission-related services by marketers, other gas distribution
companies and electric power-generation facilities. Nicor Gas' Chicago Hub
addresses that demand. During 2004, 2003 and 2002, the Chicago Hub contributed
to operating income $7.9 million, $7.3 million and $15.4 million, respectively.
The lower income level in 2004 and 2003 compared with 2002 was attributable
primarily to lower Chicago Hub inventory levels and less flexibility. See also
the previous rate proceeding section for proposed changes in the rate treatment
of Chicago Hub activities.
Outlook. Due principally to higher operating and maintenance and depreciation
costs, gas distribution results for 2005 are expected to be lower than in 2004.
Also, the ICC's PBR plan review, the related purchased gas adjustment review,
the proposed rate increase (which would be effective in late 2005) and other
litigation could significantly affect 2005 results, but the outcomes are not
estimable.
Shipping. Tropical Shipping is one of the largest containerized cargo carriers
in the Bahamas and the Caribbean region. Tropical Shipping has a reputation for
providing quality, on-time delivery service - a reputation that has helped the
company establish a leading position in most of the markets it serves.
Tropical Shipping's financial results can be affected significantly by general
economic conditions in the United States, the Bahamas, the Caribbean region and
Canada. The marketplaces in the Bahamas and the Caribbean are very competitive,
with global carriers having established a presence in several markets that
Tropical Shipping serves. Unfavorable economic conditions in the Caribbean, the
Bahamas and the United States in 2003 and 2002 had a negative impact on tourism
and on construction projects in many of those markets. Tropical Shipping's
results also include amounts related to cargo insurance coverages sold to its
customers and other third parties.
Tropical Shipping is subject to the International Ship and Port-facility
Security ("ISPS") Code and is also subject to the United States Maritime
Transportation Security Act ("MTSA"), both of which require extensive security
assessments, plans and procedures. Tropical Shipping is also subject to the
regulations of both the Federal Maritime Commission (FMC), and the Surface
Transportation Board (STB), other Federal Agencies as well as local laws, where
applicable. The rules and regulations of these agencies can have an impact on
the results of operations of Tropical Shipping.
On October 22, 2004, the American Jobs Creation Act of 2004 (the Act) was
enacted. Certain provisions of the Act may impact income taxes related to the
earnings of foreign subsidiaries of Tropical Shipping. One provision provides
that a portion of a foreign subsidiary's income would no longer be subject to
federal taxation as shipping income, beginning in 2005, to the extent such
earnings are retained by the foreign subsidiary. Another provision of the Act
allows a portion of cumulative undistributed earnings of a foreign subsidiary to
be repatriated to the United States in 2004 or 2005 at an effective federal
income tax rate of 5.25 percent.
<PAGE>
Nicor Inc. Page 26
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Item 7. Management's Discussion and Analysis of Financial Condition
- ------- -----------------------------------------------------------
and Results of Operations (continued)
-------------------------------------
Presently Nicor has recorded a $47 million deferred income tax liability, based
on a federal income tax rate of 35 percent, associated with approximately $134
million of earnings of its foreign subsidiaries. Nicor has not provided deferred
income taxes of approximately $12 million on approximately $35 million of
cumulative undistributed earnings of its foreign subsidiaries through December
31, 2004 that are considered to be indefinitely invested in foreign operations.
Nicor is currently assessing the impact, if any, of the provisions of the Act on
the amount ultimately to be repatriated and is therefore unable to determine, at
this time, the impact of the Act on its financial statements. The amount of
cumulative undistributed tax basis earnings of its foreign subsidiaries
(approximately $170 million at December 31, 2004) that may ultimately be
repatriated in 2005, and therefore potentially subject to the 5.25 percent
effective tax rate discussed above, will be impacted by several factors,
including a determination of the maximum eligible repatriation amount under
provisions of the Act and other federal income tax rules and regulations, the
ongoing cash requirements of Tropical Shipping, and the extent of qualifying
investment uses, as defined in the Act, for amounts to be repatriated. The
extent to which Tropical Shipping's ongoing earnings will be subject to federal
taxation will be dependent upon several factors, including the amount of
distributions, if any, to its U.S. parent and the clarification of certain
provisions of the Act and its impact on other federal income tax rules and
regulations. Accordingly, these financial statements do not reflect any impact
of the Act.
Any future adjustments to income tax expense that may result from the Act will
depend on the amount, if any, of foreign earnings that are repatriated or
expected to be repatriated to the United States. Such adjustments could be
material to the results of operations in the period recorded. Nicor expects to
complete its evaluation of the Act by the end of the fourth quarter of 2005.
Outlook. Nicor anticipates 2005 results in the shipping segment to be higher
than 2004 due to growth in volumes shipped and increased average rates.
Other energy ventures. Nicor owns several energy-related businesses, including
two retail energy-related products and services companies, and a wholesale
natural gas marketing company. Nicor is also involved in several joint ventures,
including a natural gas pipeline, and is pursuing various other energy-related
ventures. The company has almost fully liquidated its investment in a former
retail energy marketing joint venture.
Nicor Services and Nicor Solutions provide energy-related products and services
for retail markets, including residential and small commercial users. The annual
results from both of these businesses are driven largely by the number of
customer contracts.
Nicor Enerchange engages in wholesale marketing of natural gas supply services
primarily in the Midwest. Nicor Enerchange also administers the Nicor Gas
Chicago Hub and manages Nicor Solutions' product risks. Economic results from
this business are driven largely by natural gas price volatility, which creates
economic opportunity from which it can benefit.
Nicor Enerchange purchases and holds natural gas in storage to earn a profit
margin from its ultimate sale. Nicor Enerchange uses derivatives to mitigate
commodity price risk in order to substantially lock-in the profit margin that
will ultimately be realized. However, gas stored in inventory is required to be
accounted for at the lower of weighted average cost or market, whereas the
derivatives used to reduce the risk associated with a change in the value of the
inventory are accounted for at fair value, with changes in fair value recorded
in operating results in the period of change. As a result, earnings are subject
to volatility as the market price of derivatives change, even when the
underlying hedged value of the inventory is unchanged. The volatility resulting
from this accounting can be significant from period to period.
<PAGE>
Nicor Inc. Page 27
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Item 7. Management's Discussion and Analysis of Financial Condition
- ------- -----------------------------------------------------------
and Results of Operations (continued)
-------------------------------------
Outlook. Nicor anticipates 2005 results in the other energy ventures to be
fairly consistent with 2004.
Market risks. Nicor is exposed to market risk in the normal course of its
business operations, including the risk of loss arising from adverse changes in
natural gas and fuel commodity prices, and interest rates. It is Nicor's
practice to manage these risks utilizing derivative instruments and other
methods, as deemed appropriate.
Commodity price risk. With regard to commodity price risk, the company has
established policies and procedures governing the management of such risks and
the use of derivative instruments to hedge its exposure to such risks. A risk
management committee oversees compliance with such policies and procedures. The
company utilizes various techniques to limit, measure and monitor market risk,
including limits based on volume, dollar amounts and duration, and in some cases
value at risk (VaR).
VaR is the potential loss for an instrument or portfolio from adverse changes in
market factors, for a specified time period and at a specified confidence level.
The company's risk management committee has established exposure limits at such
a level that material adverse economic results are not expected. The company's
commodity price risk policies and procedures continue to evolve with its
businesses and are subject to ongoing review and modification.
In accordance with SEC disclosure requirements, Nicor performs sensitivity
analyses to assess the potential loss in earnings based upon a hypothetical 10
percent adverse change in market prices. Management does not believe that
sensitivity analyses alone provide an accurate or reliable method for monitoring
and controlling risks and therefore also relies on the experience and judgment
of its management to revise strategies and adjust positions as deemed necessary.
Losses in excess of the amounts determined in sensitivity analyses could occur
if market prices exceed the 10 percent shift used for the analyses. Based on
Nicor's unhedged positions at December 31, 2004, a 10 percent decrease in
natural gas prices would have increased Nicor's earnings at December 31, 2004 by
about $0.2 million, which is not materially different than in the prior year.
Nicor's regulated utility, Nicor Gas, is not directly exposed to market risk
caused by changes in commodity prices because of Illinois rate regulation
allowing for the recovery of prudently incurred natural gas supply costs from
customers. However, substantial increases in natural gas prices may indirectly
impact Nicor Gas' earnings by increasing the cost of gas used by the company,
bad debt expense, and other operating and financing expenses. Higher natural gas
prices may also lead to lower customer gas consumption and margin. The company
is mitigating these risks through the use of fixed-price purchase agreements,
futures contracts, option contracts and swap agreements.
Nicor's other energy businesses are subject to natural gas commodity price risk,
arising primarily from fixed-price purchase and sale agreements and natural gas
inventories. Derivative instruments such as futures, options, forwards and swaps
may be used to hedge these risks. Management believes it has taken appropriate
steps to mitigate the other risks associated with its utility-bill management
arrangements, including the use of futures and swaps to partially hedge the
price risk.
<PAGE>
Nicor Inc. Page 28
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Item 7. Management's Discussion and Analysis of Financial Condition
- ------- -----------------------------------------------------------
and Results of Operations (continued)
-------------------------------------
At December 31, 2004, Nicor Enerchange, Nicor's wholesale natural gas marketing
business, held derivative contracts with the following asset (liability) fair
values, net (in millions):
Maturity
---------------------------
Total Less than 1 to 3 3 to 5
Source of Fair Value Fair Value 1 Year Years Years
- ----------------------------- ---------- --------- ------- -------
Prices actively quoted $ .4 $ .3 $ .1 $ -
Prices based on pricing models .2 .1 .1 -
---------- -------- ------- -------
Total $ .6 $ .4 $ .2 $ -
========== ======== ======= =======
Credit risk. The company is also exposed to credit risk in the event a
counterparty, customer or supplier defaults on a contract to pay for or deliver
product at agreed-upon terms and conditions. To manage this risk, the company
has established procedures to determine and monitor the creditworthiness of
counterparties, to require guarantees or collateral back-up, and to limit its
exposure to any one counterparty. Nicor also, in some instances, enters into
netting arrangements to mitigate counterparty credit risk.
Interest rate risk. Nicor is exposed to changes in interest rates. The company
manages its interest rate risk by issuing long-term fixed-rate debt with varying
maturities, refinancing certain debt and periodically hedging the interest rate
on anticipated short-term borrowings. If market rates were to hypothetically
increase by 10 percent from Nicor's weighted average floating interest rate,
interest expense would have increased causing Nicor's earnings to decrease by
approximately $0.3 million in 2004. For further information about debt
securities, interest rates and fair values, see the Financial Statements -
Consolidated Statements of Capitalization, and the Notes to the Consolidated
Financial Statements - Note 7 Fair Value of Financial Instruments and Note 6
Short-Term and Long-Term Debt.
Contingencies. The following contingencies of Nicor are in various stages of
investigation or disposition. Although in some cases the company is unable to
estimate the amount of loss reasonably possible in addition to any amounts
already recognized, it is possible that the resolution of these contingencies,
either individually or in aggregate, will require the company to take charges
against, or will result in reductions in, future earnings. It is the opinion of
management that the resolution of these contingencies, either individually or in
aggregate, could be material to earnings in a particular period but is not
expected to have a material adverse impact on Nicor's liquidity or financial
condition.
Performance-based rate plan. Nicor Gas' PBR plan for natural gas costs went into
effect in 2000 and was terminated by the company effective January 1, 2003.
Under the PBR plan, Nicor Gas' total gas supply costs were compared to a
market-sensitive benchmark. Savings and losses relative to the benchmark were
determined annually and shared equally with sales customers. The PBR is
currently under Illinois Commerce Commission (ICC) review.
There are allegations that the company acted improperly in connection with the
PBR plan, and the ICC and others are reviewing these allegations. On June 27,
2002 the Citizens Utility Board (CUB) filed a motion to reopen the record in the
ICC's proceedings to review the PBR plan (the ICC Proceedings). As a result of
the motion to reopen, Nicor Gas, the Cook County State's Attorney Office
(CCSAO), the staff of the ICC and CUB entered into a stipulation providing for
additional discovery. The Illinois Attorney General's Office has also intervened
in this matter. In addition, the Illinois Attorney General's Office issued Civil
Investigation Demands (CIDs) to CUB and the ICC staff. The CIDs ordered that CUB
and
<PAGE>
Nicor Inc. Page 29
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Item 7. Management's Discussion and Analysis of Financial Condition
- ------- -----------------------------------------------------------
and Results of Operations (continued)
-------------------------------------
the ICC staff produce all documents relating to any claims that Nicor Gas may
have presented, or caused to be presented, false information related to its PBR
plan. Parties who were plaintiffs in a dismissed class action proceeding against
the company could potentially intervene in these proceedings. The company has
committed to cooperate fully in the reviews of the PBR plan.
In response to these allegations, on July 18, 2002, the Nicor Board of Directors
appointed a special committee of independent, non-management directors to
conduct an inquiry into issues surrounding natural gas purchases, sales,
transportation, storage and such other matters as may come to the attention of
the special committee in the course of its investigation. The special committee
presented the report of its counsel (Report) to Nicor's Board of Directors on
October 28, 2002. A copy of the report is available at the Nicor website and has
been previously produced to all parties in the ICC Proceedings.
In response, the Nicor Board of Directors directed the company's management to,
among other things, make appropriate adjustments to account for, and fully
address, the adverse consequences to ratepayers of the items noted in the
Report, and conduct a detailed study of the adequacy of internal accounting and
regulatory controls. The adjustments were made in prior years' financial
statements resulting in a $24.8 million liability. Included in such $24.8
million liability is a $4.1 million loss contingency. A $1.8 million adjustment
to the previously recorded liability, which is discussed below, was made in the
third quarter of 2004 increasing the recorded liability to $26.6 million. In
addition, Nicor Gas estimates that there is $26.9 million due to the company
from the 2002 PBR plan year, which has not been recognized in the financial
statements due to uncertainties surrounding the PBR plan. The net of these items
and interest income on certain components results in a $1.0 million
reimbursement the company is seeking as of December 31, 2004, pending resolution
of the proceedings discussed below. By the end of 2003 the company completed
steps to correct the weaknesses and deficiencies identified in the detailed
study of the adequacy of internal controls.
Pursuant to the agreement of all parties, including the company, the ICC
re-opened the 1999 and 2000 purchased gas adjustment filings for review of
certain transactions related to the PBR plan and consolidated the reviews of the
1999-2002 purchased gas adjustment filings with the PBR plan review.
On February 5, 2003, the CCSAO and CUB filed a motion for $27 million in
sanctions against the company in the ICC Proceedings. In that motion, CCSAO and
CUB alleged that Nicor Gas' responses to certain CUB data requests were false.
Also on February 5, 2003, CUB stated in a press release that, in addition to $27
million in sanctions, it would seek additional refunds to consumers. On March 5,
2003, the ICC staff filed a response brief in support of CUB's motion for
sanctions. On May 1, 2003, the Administrative Law Judges issued a ruling denying
CUB and CCSAO's motion for sanctions. CUB has filed an appeal of the motion for
sanctions with the ICC, and the ICC has indicated that it will not rule on the
appeal until the final disposition of the ICC proceedings. It is not possible to
determine how the ICC will resolve the claims of CCSAO, CUB or other parties to
the ICC Proceedings.
In November 2003, the ICC staff, CUB, CCSAO and the Illinois Attorney General's
Office (IAGO) filed their respective direct testimony in the ICC Proceedings.
The ICC staff is seeking refunds to customers of approximately $108 million and
CUB and CCSAO were jointly seeking refunds to customers of approximately $143
million. The IAGO direct testimony alleges adjustments in a range from $145
million to $190 million. The IAGO testimony as filed is presently unclear as to
the amount which IAGO seeks to have refunded to customers. On February 27, 2004
the above referenced intervenors filed their rebuttal testimony in the ICC
Proceedings. In such rebuttal testimony, CUB and CCSAO amended the alleged
amount to be refunded to customers from approximately $143 million to $190
million. Nicor Gas filed rebuttal testimony in January 2004, which is consistent
with the findings of the special committee
<PAGE>
Nicor Inc. Page 30
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Item 7. Management's Discussion and Analysis of Financial Condition
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and Results of Operations (continued)
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Report. Nicor Gas seeks a reimbursement of approximately $1.0 million as
referenced above. The parties to the ICC Proceedings have agreed to a stay of
the evidentiary hearings on this matter in order to undertake additional third
party discovery from Entergy-Koch Trading, LP (EKT), a natural gas, storage and
transportation trader and consultant with whom Nicor did business under the PBR
plan.
During the course of the SEC investigation discussed below, the company became
aware of additional information relating to the activities of individuals
affecting the PBR plan for the period from 1999 through 2002, including
information consisting of third party documents and recordings of telephone
conversations from EKT. The company continues to obtain access to and review
this information. Review of additional information completed in the third
quarter of 2004 resulted in the $1.8 million adjustment to the previously
recorded liability referenced above.
Although the Report of the special committee's counsel did not find that there
was criminal activity or fraud, a review of this additional information (which
was not available to the independent counsel who prepared the Report) and
re-interviews of certain Nicor Gas personnel indicates that certain former Nicor
Gas personnel may have engaged in potentially fraudulent conduct regarding the
PBR plan in violation of company policy, and in possible violation of SEC rules
and applicable law. Further, certain former Nicor Gas personnel also may have
attempted to conceal their conduct in connection with an ICC review of the PBR
plan. The company continues to cooperate with the SEC, the U.S. Attorney's
office and the ICC on this matter and to review and produce additional documents
as requested by these agencies. The company has reviewed all third party
information it has obtained and will continue to review any additional third
party information the company may obtain. The company terminated four employees
in connection with this matter in the third quarter of 2004.
Nicor is unable to predict the outcome of any of the foregoing reviews or the
company's potential exposure thereunder. Because the PBR plan and historical gas
costs are still under ICC review, the final outcome could be materially
different than the amounts reflected in the company's financial statements as of
December 31, 2004.
Nicor Energy. Significant developments occurred in 2002 and 2003 relating to
Nicor's 50-percent interest in Nicor Energy. Information about these
developments is presented within the Notes to the Consolidated Financial
Statements - Note 19 Contingencies - Nicor Energy.
On December 10, 2003, the United States Attorney for the Northern District of
Illinois indicted three former employees of Nicor Energy and an outside lawyer
for Nicor Energy. The indictments alleged that the defendants fraudulently
deprived Nicor Energy of their honest services and caused a loss to investors in
Nicor Inc. and Dynegy Inc. During the time period covered by the indictments,
Nicor Energy was a stand alone entity with its own management and was operated
independently from Nicor Inc. and Nicor Gas. None of the individuals indicted
are employees of Nicor Inc. or Nicor Gas nor were they at the time of the
charged conduct. The three former employees of Nicor Energy have pled guilty to
certain charges. Separately, on December 10, 2003, the SEC filed its own civil
enforcement action against the same three former employees and one additional
former employee of Nicor Energy. While Nicor is unable to predict the final
outcome of these matters, the resolution of such matters is not expected to have
a material adverse impact on the company's financial condition or results of
operations.
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Nicor Inc. Page 31
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Item 7. Management's Discussion and Analysis of Financial Condition
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and Results of Operations (continued)
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SEC and U.S. Attorney Inquiries. In 2002, the staff of the SEC informed Nicor
and Nicor Energy that the SEC is conducting a formal inquiry regarding both the
PBR plan and Nicor Energy. A representative of the Office of the United States
Attorney for the Northern District of Illinois has notified Nicor that that
office is conducting an inquiry on the same matters that the SEC is
investigating, and a grand jury is also reviewing these matters. In April 2004,
Nicor was advised by the SEC Division of Enforcement that it intended to
recommend to the SEC that it bring a civil injunctive action against Nicor,
alleging that Nicor violated Sections 17(a) of the Securities Act of 1933 and
Sections 10(b) and 13(a) of the Securities Exchange Act of 1934 and Rules 10b-5,
12b-20, 13a-1 and 13a-13 thereunder. The SEC may also seek injunctive relief,
disgorgement and civil penalties. The SEC staff invited Nicor to make a formal
response (known as a Wells Submission) with respect to the proposed
recommendation. In June 2004, Nicor filed its Wells Submission with the SEC. In
addition, in connection with the SEC's invitation to the company to make a Wells
Submission, the SEC informed the company of additional sources of information
relating to activities affecting the PBR plan, the status of which is addressed
in detail in the Performance-Based Rate (PBR) Plan section set forth above. In
August 2004, Nicor withdrew its Wells Submission in light of its continuing
review of the additional sources of newly available information referenced
above. Nicor continues in its efforts to resolve this matter with the SEC and
has requested that the SEC allow Nicor to file an updated Wells Submission if
necessary. Nicor is unable to pred