The following discussion should be read in conjunction with the Management's Discussion and Analysis section of the Nicor 2007 Annual Report on Form 10-K. Results for the interim periods presented are not necessarily indicative of the results to be expected for the full fiscal year due to seasonal and other factors.

SUMMARY

Nicor is a holding company. Gas distribution is Nicor's primary business. Nicor's subsidiaries include Nicor Gas, one of the nation's largest distributors of natural gas, and Tropical Shipping, a transporter of containerized freight in the Bahamas and the Caribbean region. Nicor also owns several energy-related ventures, including Nicor Services, Nicor Solutions and Nicor Advanced Energy, which provide energy-related products and services to retail markets, and Nicor Enerchange, a wholesale natural gas marketing company. Nicor also has equity interests in energy-related businesses.

Net income and diluted earnings per common share are presented below (in millions, except per share data):

                                          Three months ended           Nine months ended
                                             September 30                 September 30
                                         2008            2007          2008           2007

   Net income                          $    1.3       $     14.5     $    71.6       $ 79.7

   Diluted earnings per common share   $    .03       $      .32     $    1.58       $ 1.76

Net income and diluted earnings per common share for the nine months ended September 30, 2007 includes pretax mercury-related recoveries of $8.0 million ($.11 per share) associated with Nicor Gas' mercury inspection and repair program which included a reduction of $7.2 million to the company's previously established reserve and $0.8 million in cost recoveries.

Comparisons of the three months ended results reflect lower operating income in the company's gas distribution and other energy-related businesses and lower corporate operating results, partially offset by higher operating income in the company's shipping business. Comparisons of the nine months ended results (excluding the effect of the mercury-related item noted above) reflect lower operating income in the company's shipping and other energy-related businesses and lower corporate operating results, partially offset by higher operating income in the company's gas distribution business.

Rate proceeding. On April 29, 2008, Nicor Gas filed with the ICC for an overall increase in rates of $140.3 million. The company's filing provides for a rate of return on rate base of 9.21 percent, which reflects an 11.05 percent cost of common equity. The requested rate increase is needed to recover higher operating costs and increased capital investments.

In its rate filing, Nicor Gas has proposed some new rate adjustment mechanisms. These include mechanisms that would adjust rates to reflect certain changes in the company's bad debt expense and cost of gas used for operations. Also included are a volume balancing rider that would adjust rates to recover fixed costs, an energy efficiency rider that would fund energy efficiency programs and a rider that would adjust rates to recover a portion of capital expenditures incurred to replace certain older infrastructure.

The ICC normally has 11 months to complete its review of the filing and to issue an order. The proposed rate increase has been suspended pending the completion of the ICC's review.

On September 25, 2008, Nicor Gas filed rebuttal testimony with the ICC, in response to direct testimony of the ICC staff and intervenors in the proceeding, and revised its proposed rate increase to approximately $141.6 million. The revised proposal provides for a rate of return on rate base of 9.27 percent, which reflects an 11.15 percent cost of common equity.

Capital market environment. The recent volatility in the capital markets has caused general concern over the valuations of investments, exposure to increased credit risk and pressures on liquidity. To date, the company has not incurred, for financial statement purposes, any material adverse impacts due to these market conditions. However, if market values of certain investments of the company's defined benefit pension plan do not recover during the fourth quarter of 2008, the company's net periodic benefit costs will be adversely impacted in 2009 and beyond. The company has reviewed its investments, exposure to credit risk and sources of liquidity and, with the exception of the potential impact on future net periodic benefit costs, does not currently expect any future material adverse impacts relating to these items.

Operating income by segment. Operating income (loss) by major business segment is presented below (in millions):

                                      Three months ended          Nine months ended
                                         September 30                September 30
                                      2008           2007          2008         2007

       Gas distribution             $      .4       $   3.6     $     83.4     $  88.3
       Shipping                           9.5           8.7           19.1        26.9
       Other energy ventures               .6          10.5           12.6        15.8
       Corporate and eliminations        (1.2 )           -           (2.0 )      (1.7 )
                                    $     9.3       $  22.8     $    113.1     $ 129.3

The following summarizes operating income (loss) comparisons by major business segment:

· Gas distribution operating income decreased $3.2 million for the three months ended September 30, 2008 compared to the prior-year period due primarily to higher operating and maintenance expense ($4.5 million increase), depreciation expense ($1.4 million increase) and lower gains on property sales ($1.0 million decrease), partially offset by higher gas distribution margin ($3.9 million increase).

Operating income decreased $4.9 million for the nine months ended September 30, 2008 compared to the prior-year period due primarily to higher operating and maintenance expense ($11.0 million increase), the absence of mercury-related recoveries recorded during the first quarter of 2007 ($8.0 million decrease), higher depreciation expense ($4.1 million increase) and lower gains on property sales ($1.8 million decrease), partially offset by higher gas distribution margin ($20.1 million increase).

· Shipping operating income increased $0.8 million for the three months ended September 30, 2008 compared to the prior-year period due to higher operating revenues ($11.0 million increase), which were partially offset by higher operating costs ($10.2 million increase). Operating revenues were higher due to higher average rates ($13.8 million increase), partially offset by lower volumes shipped ($2.8 million decrease). Operating costs were higher due primarily to increased transportation-related costs ($9.3 million increase) attributable primarily to increased fuel costs.

Operating income decreased $7.8 million for the nine months ended September 30, 2008 compared to the prior-year period due to higher operating revenues ($15.2 million increase) which were more than offset by higher operating costs ($23.0 million increase). Operating revenues were higher due to higher average rates ($26.6 million increase), partially offset by lower volumes shipped ($11.4 million decrease). Operating costs were higher due primarily to increased transportation-related costs ($21.0 million increase) attributable primarily to increased fuel costs.

· Nicor's other energy ventures operating income decreased $9.9 million for the three months ended September 30, 2008 compared to the prior-year period due primarily to lower operating results at Nicor's wholesale natural gas marketing business, Nicor Enerchange ($7.1 million decrease), and lower operating income at Nicor's energy-related products and services businesses ($2.6 million decrease). Lower operating results at Nicor Enerchange were due to unfavorable costing of physical sales activity and lower results from the company's risk management activities associated with hedging the product risks of the utility-bill management contracts offered by Nicor's energy-related products and services businesses, partially offset by favorable changes in valuations of derivative instruments used to hedge purchases and sales of natural gas inventory. Lower operating results at Nicor's energy-related products and services businesses were due to higher operating expenses ($1.8 million increase) and lower operating revenues ($0.8 million decrease).

Operating income decreased $3.2 million for the nine months ended September 30, 2008 compared to the prior-year period due primarily to lower operating income at Nicor Enerchange ($8.5 million decrease), partially offset by higher operating income at Nicor's energy-related products and services businesses ($5.8 million increase). Lower operating income at Nicor Enerchange was due primarily to unfavorable changes in valuations of derivative instruments used to hedge purchases and sales of natural gas inventory and lower results from the company's risk management activities associated with hedging the product risks of the utility-bill management contracts offered by Nicor's energy-related products and services businesses, partially offset by the favorable costing of physical sales activity. Improved results at Nicor's energy-related products and services business were due to lower operating expenses ($15.9 million decrease), partially offset by lower operating revenues ($10.1 million decrease).

Nicor Enerchange uses derivatives to mitigate commodity price risk in order to substantially lock-in the profit margin that will ultimately be realized. A source of commodity price risk arises as Nicor Enerchange purchases and holds natural gas in storage to earn a profit margin from its ultimate sale. 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 carried at fair value, with changes in fair value recorded in operating results in the period of change. In addition, Nicor Enerchange also uses derivatives to mitigate the commodity price risks of the utility-bill management products offered by Nicor's energy-related products and services businesses. The gains and losses associated with the utility-bill management products are recognized in the months that the services are provided. However, the underlying derivatives used to hedge the price exposure are carried at fair value. For those derivatives that don't meet the requirements for hedge accounting, the changes in fair value are recorded in operating results in the period of change. As a result, earnings are subject to volatility as the fair value of derivatives change. The volatility resulting from this accounting can be significant from period to period.

· Corporate and eliminations operating results decreased $1.2 million for the three months ended September 30, 2008 compared to the prior-year period due to higher legal and business development costs ($1.2 million increase). Operating results decreased $0.3 million for the nine months ended September 30, 2008 compared to the prior-year period due to the impact of a natural weather hedge associated with the utility-bill management products offered by Nicor's energy-related products and services business ($3.8 million decrease). Benefits or costs resulting from variances from normal weather related to these products are recorded primarily at the corporate level as a result of an agreement between the parent company and certain of its subsidiaries. The weather impact of these products generally serves to partially offset the gas distribution segment's weather risk. The amount of the offset attributable to the utility-bill management contracts marketed by Nicor's other energy ventures will vary depending upon a number of factors including the time of year, weather patterns, the number of customers for these products and the market price for natural gas. Partially offsetting the impact of the weather hedge were recoveries of previously incurred legal costs ($3.1 million). The legal cost recoveries were from a counterparty with whom Nicor previously did business during the PBR timeframe. The total recovery was $5.0 million, of which $3.1 million was allocated to corporate and $1.9 million was allocated to the gas distribution segment (recorded as a reduction to operating and maintenance expense).

RESULTS OF OPERATIONS

Details of various financial and operating information by segment can be found
in the tables throughout this review. The following discussion summarizes the
major items impacting Nicor's operating income.

Operating revenues. Operating revenues by major business segment are presented
below (in millions):

                                     Three months ended            Nine months ended
                                        September 30                 September 30
                                     2008           2007          2008           2007

      Gas distribution             $   306.1      $  238.9     $  2,330.4     $  1,878.7
      Shipping                         108.5          97.5          308.8          293.6
      Other energy ventures             34.9          37.3          157.8          159.0
      Corporate and eliminations        (9.2 )        (8.5 )        (61.2 )        (74.5 )
                                   $   440.3      $  365.2     $  2,735.8     $  2,256.8

Gas distribution revenues are impacted by changes in natural gas costs, which are passed directly through to customers without markup, subject to ICC review. Gas distribution revenues increased $67.2 million for the three months ended September 30, 2008 compared to the prior-year period due primarily to higher natural gas costs (approximately $65 million increase). Gas distribution revenues increased $451.7 million for the nine months ended September 30, 2008 compared to the prior-year period due primarily to higher natural gas costs (approximately $330 million increase) and colder weather in 2008 (approximately $105 million increase).

Shipping segment operating revenues increased $11.0 million and $15.2 million for the three and nine months ended September 30, 2008, respectively, compared to the corresponding prior-year periods due to higher average rates ($13.8 million and $26.6 million increases, respectively), partially offset by lower volumes shipped ($2.8 million and $11.4 million decreases, respectively). Rates were higher due primarily to cost-recovery surcharges for fuel. Volumes shipped were adversely impacted by decreased construction cargo, decreased tourism and increased competition. During the second quarter of 2008, Tropical Shipping completed an acquisition of the assets of Caribtran, Inc., which is expected to add approximately 4 percent to expected shipping revenues on an annual basis.

Nicor's other energy ventures operating revenues decreased $2.4 million for the three months ended September 30, 2008 compared to the prior-year period due to lower operating revenues at Nicor Enerchange ($1.6 million decrease) and at Nicor's energy-related products and services businesses ($0.8 million decrease). Lower operating revenues at Nicor Enerchange were due to unfavorable costing of physical sales activity and lower results from the company's risk management activities associated with hedging the product risks of the utility-bill management contracts offered by Nicor's energy-related products and services businesses, partially offset by favorable changes in valuations of derivative instruments used to hedge purchases and sales of natural gas inventory. Lower operating revenues at Nicor's energy-related products and services businesses were attributable to lower average utility-bill management contract volumes. Operating revenues decreased $1.2 million for the nine months ended September 30, 2008 compared to the prior-year period due to lower revenues at Nicor's energy-related products and services businesses ($10.1 million decrease), partially offset by higher revenues at Nicor Enerchange ($8.9 million increase). Lower revenues at Nicor's energy-related products and services businesses were due to lower average utility-bill management contract volumes. Higher revenues at Nicor Enerchange were due primarily to favorable costing of physical sales activity, partially offset by lower results from unfavorable changes in valuations of derivative instruments used to hedge purchases and sales of natural gas inventory and unfavorable results from the company's risk management activities associated with hedging the product risks of the utility-bill management contracts offered by Nicor's energy-related products and services business.

Corporate and eliminations reflects primarily the elimination of gas distribution revenues against Nicor Solutions' expenses for customers purchasing the utility-bill management products.

Gas distribution margin. Nicor utilizes a measure it refers to as "gas distribution margin" to evaluate the operating income impact of gas distribution revenues. Gas distribution revenues include natural gas costs, which are passed directly through to customers without markup, subject to ICC review, and revenue taxes, for which Nicor Gas earns a small administrative fee. These items often cause significant fluctuations in gas distribution revenues, with equal and offsetting fluctuations in cost of gas and revenue tax expense, with no direct impact on gas distribution margin.

A reconciliation of gas distribution revenues and margin follows (in millions):

                                   Three months ended             Nine months ended
                                      September 30                  September 30
                                   2008          2007           2008            2007

     Gas distribution revenues   $   306.1     $   238.9     $   2,330.4     $   1,878.7
     Cost of gas                    (180.0 )      (118.4 )      (1,762.9 )      (1,348.4 )
     Revenue tax expense             (14.3 )       (12.6 )        (129.3 )        (112.2 )
     Gas distribution margin     $   111.8     $   107.9     $     438.2     $     418.1

Gas distribution margin increased $3.9 million for the three months ended September 30, 2008 compared to the prior-year period due to the impact of customer interest (approximately $4 million increase). Gas distribution margin increased $20.1 million for the nine months ended September 30, 2008 compared to the prior-year period due to the impact of customer interest (approximately $9 million increase), colder weather in 2008 (approximately $7 million increase) and higher demand unrelated to weather (approximately $4 million increase).

Gas distribution operating and maintenance expense. Gas distribution operating and maintenance expense increased $4.5 million for the three months ended September 30, 2008 compared to the prior-year period. Factors contributing to the variance include higher company use gas and storage-related gas costs ($3.6 million increase), higher payroll and benefit-related costs ($2.1 million increase), higher billing and call center-related costs ($2.1 million increase), lower bad debt expense ($4.8 million

decrease), and the absence of the prior year costs associated with the PCB matter ($1.5 million decrease). Additional information about the PCB investigation is presented in Item 1 - Notes to the Condensed Consolidated Financial Statements - Note 15 - Contingencies - PCBs.

Operating and maintenance expense increased $11.0 million for the nine months ended September 30, 2008 compared to the prior-year period due primarily to higher bad debt expense ($8.6 million increase), billing and call center-related costs ($2.7 million increase) and payroll and benefit-related costs ($2.3 million increase), partially offset by recoveries of previously incurred costs ($3.9 million, of which $2.0 million relates to a recovery of costs associated with the prior year PCB matter and $1.9 million relates to legal cost recoveries from a counterparty with whom Nicor previously did business during the PBR timeframe) and the absence of the previously mentioned prior year PCB costs ($1.5 million decrease).

Other gas distribution operating expenses. Mercury-related recoveries, net reflect the estimated costs, recoveries and reserve adjustments associated with the company's mercury inspection and repair program. For the nine months ended September 30, 2007, net recoveries reflect a $7.2 million reserve adjustment and $0.8 million in cost recoveries. Additional information about the company's mercury inspection and repair program is presented in Item 1 - Notes to the Condensed Consolidated Financial Statements - Note 15 - Contingencies - Mercury.

Property sale gains vary from year-to-year depending upon property sales activity. The company realized pretax gains of $0.2 million for the three and nine months ended September 30, 2008, and $1.2 million and $2.0 million for the three and nine months ended September 30, 2007, respectively. The company periodically assesses its ownership of certain real estate holdings.

Shipping operating expenses. Shipping segment operating expenses increased $10.2 million and $23.0 million for the three and nine months ended September 30, 2008, respectively, compared to the prior-year periods. Higher operating costs were due primarily to increased transportation-related costs ($9.3 million and $21.0 million increases, respectively) attributable primarily to increased fuel costs.

Other energy ventures operating expenses. Other energy ventures operating expenses increased $7.5 million for the three months ended September 30, 2008 compared to the prior-year period due primarily to an increase in operating expenses at Nicor Enerchange ($5.5 million increase) and at Nicor's energy-related products and services businesses ($1.8 million increase). The variance in operating expenses at Nicor Enerchange was due primarily to transportation and storage charges. The increase in operating expenses at Nicor's energy-related products and services businesses was due to higher average costs associated with customer contracts. Operating expenses increased $2.0 million for the nine months ended September 30, 2008 compared to the prior-year period due primarily to an increase in operating expenses at Nicor Enerchange ($17.4 million increase), partially offset by a decrease in operating expenses at Nicor's energy-related products and services businesses ($15.9 million decrease). The variance in operating expenses at Nicor Enerchange was due primarily to transportation and storage charges. The decrease in operating expenses at Nicor's energy-related products and services businesses was due primarily to lower average-utility bill management contract volumes and lower average costs associated with customer contracts.

Interest expense. Interest expense decreased $0.5 million for the three months ended September 30, 2008 compared to the prior-year period due primarily to lower average interest rates ($2.5 million decrease) and lower estimated interest on income tax matters ($0.8 million decrease), partially offset by higher average borrowing levels ($2.9 million increase). Interest expense decreased $4.7 million for the nine months ended September 30, 2008 compared to the prior-year period due primarily to lower average interest rates ($3.5 million decrease) and lower estimated interest on income tax matters ($3.4 million decrease), partially offset by higher average borrowing levels ($2.4 million increase).

Net equity investment income. Net equity investment income increased $0.5 million and $2.8 million for the three and nine months ended September 30, 2008, respectively, compared to the corresponding prior-year periods due primarily to an increase in income from the company's investment in Triton ($0.5 million and $1.5 million increases, respectively) and increased income from the company's investment in EN Engineering ($0.4 million and $1.0 million increases, respectively).

Income tax expense. In 2006, the company reorganized certain shipping and related operations. The reorganization allows the company to take advantage of certain provisions of the Jobs Act that provide the opportunity for tax savings subsequent to the date of the reorganization. Generally, to the extent foreign shipping earnings are not repatriated to the United States, such earnings are not expected to be subject to current taxation. In addition, to the extent such earnings are determined to be indefinitely reinvested offshore, no deferred income tax expense would be recorded by the company. For the three and nine months ended September 30, 2008, income tax expense has not been provided on approximately $5 million and $8 million, respectively, of foreign company shipping earnings that are expected to be indefinitely reinvested offshore compared to approximately $6 million and $19 million, respectively, for the comparable periods in 2007. As of September 30, 2008, Nicor has not recorded deferred income taxes of approximately $46 million on approximately $131 million of cumulative undistributed foreign earnings that are expected in management's judgment to be indefinitely reinvested offshore.

The effective income tax rate for the three months ended September 30, 2008 increased to 64.9 percent from 15.2 percent for the prior-year period. The effective income tax rate for the three months ended September 30, 2008 is higher than the expected annual effective income tax rate as it reflects the impact of a reduction in projected annual untaxed foreign shipping earnings identified in the quarter. The effective income tax rate for the three months ended September 30, 2007 was lower than the annual effective income tax rate as it reflected a reduction in taxable foreign shipping earnings which was recognized in the third quarter of 2007. Such matters have a disproportionate impact on the third quarter effective income tax rate as the income before income taxes is relatively low. The effective income tax rate for the nine months ended September 30, 2008 increased to 26.8 percent from 25.3 percent for the prior-year period. The higher effective income tax rate for the first nine months of 2008 reflects a decrease in projected untaxed foreign shipping earnings for 2008 and the absence of the reduction in taxable foreign earnings recognized in the third quarter of 2007, offset, in part, by tax reserve adjustments and lower projected 2008 annual pretax income (which causes a lower effective income tax rate since permanent differences and tax credits are a larger share of pretax income).

Nicor Inc.
Gas Distribution Statistics

                                                      Three months ended                        Nine months ended
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