Nicor Inc. saw its stock price nearly cut in half Friday morning after reporting a slew of bad news, some of which also spilled over on Dynegy Inc., a joint venture partner. Nicor, long considered a stable old-line utility investment, stunned the market by reversing all of its first quarter earnings and excluding all of its second quarter earnings for a rate program used by subsidiary Nicor Gas, which contributed to a 36% drop in second quarter earnings. The board of directors in turn moved into action, appointing a special, independent committee to investigate the subsidiary’s natural gas purchases, sales, transportation and storage.

As if that weren’t enough, the Naperville, IL-based company also warned that its full-year 2002 earnings will be off 40 cents or more. By 11 a.m., its stock, which had started the day at $38.01, had fallen as low as $18.73. By market’s close, Nicor’s price was off $15.49 to close at $22.52.

In the company’s announcement, released around midnight Thursday, Nicor said it had reversed all of its first quarter earnings, and excluded all second quarter earnings attributed to Nicor Gas’ (Northern Illinois Gas) performance-based rate (PBR) program, which are estimated at $2.9 million pre-tax. The company also is excluding all earnings from PBR for the first six months of 2002, but it did not provide the entire period’s earnings. Nicor also has revised the six-month income for retail joint venture it has with Dynegy — Nicor Energy LLC — following an independent audit completed during the quarter.

Nicor Energy is a retail energy alliance that provides energy services to industrial, commercial and residential customers in the Midwest. Dynegy owns a 50% interest in the company. Dynegy’s stock, which has been in a decline for weeks, fell even lower on Nicor’s news, falling almost 12% to close at $3.97, a loss of 53 cents.

On Friday, a Dynegy spokesman said the two companies split Nicor Energy’s revenues, and because of that, Dynegy will see a small financial impact. “It would not be significant,” said Dynegy spokesman John Sousa, but the amount cannot be determined until Dynegy completes a re-audit of its own books, which is ongoing. “Nicor manages the business; Dynegy supplies natural gas for the business.” Sousa added that Nicor Energy’s management team reports to an executive team, which in turn reports to representatives of both Dynegy and Nicor.

Both Nicor and Dynegy used the disgraced Arthur Andersen LLP accounting firm before dismissing it earlier this year.

Nicor management had launched an internal review of Nicor Energy’s strategy and accounting practices earlier this year, but on Thursday, the board of directors took the lead on the review of Nicor Gas, appointing a special committee to the subsidiary’s natural gas purchases, sales, transportation and storage. The committee will be composed of independent, non-management members. The Illinois Commerce Commission (ICC) was already investigating Nicor Gas for alleged deceptive marketing practices by the subsidiary (see Daily GPI, July 18).

The PBR plan, approved by the ICC in 1999 and enacted in January 2000, takes total gas supply costs and compares them to a benchmark tied to a market index. Savings and losses relative to the benchmark are shared equally with sales customers. The company’s earnings for PBR included pre-tax income of $14.9 million in 2001 and $12.2 million in 2000. “There have recently been allegations that the company acted improperly in connection with the PBR program, and the ICC has advised the company that it is reviewing these allegations,” Nicor said in a statement late Thursday. “Other governmental agencies are also reviewing these allegations. The company has indicated that it will cooperate fully in the review of the PBR program.”

Bruce Bickner, who chairs the Nicor board audit committee, will also chair the special committee, which has retained Scott Lassar of the law firm of Sidley Austin Brown & Wood. Lassar was formerly the U.S. attorney for the Northern District of Illinois.

In a statement, Nicor Inc. said, “the reversal for the first quarter reflects the uncertainties surrounding the review and the resultant inability to reasonably estimate the probability of the PBR program’s continuation. In addition, it is possible that, as a result of the allegations relating to the PBR program, the company will have to restate some prior period financial results or take a charge against future earnings, although the extent of or need for any such restatement or charge is not currently known.”

Regarding its 50% joint venture ownership in Nicor Energy LLC, Nicor said its second quarter income included a pre-tax loss of $9.3 million for the quarter and $10.1 million for the first six months. Negative pre-tax adjustments were recorded for the quarter of $1.6 million and $4.3 million for the first six months, resulting from a year-end 2001 independent audit on the joint venture. The quarter also includes a $3.7 million pre-tax adjustment associated with a revision of the joint venture’s first quarter estimate for accrued unbilled revenue and a pre-tax charge of $2.6 million related primarily to previously unrecorded liabilities.

Nicor said that a review was begun in the second quarter by the owners and management of Nicor Energy’s business strategy, accounting practices, controls and financial results. “It is unknown at this time whether additional adjustments will be required. However, the review process to date uncovered irregularities in accounting at Nicor Energy that were part of the reason for the adjustments.”

In its preliminary second quarter earnings announcement (excluding PBR earnings), Nicor Inc. reported net income of $17.1 million, operating income of $44.1 million and earnings per share of 38 cents. The earnings were down compared to the second quarter a year ago, when Nicor had net income of $26.7 million, operating income of $52.9 million and earnings per share of 59 cents. For the six months of 2002 (excluding PBR) preliminary net income, operating income and diluted earnings per share were $57 million, $105.7 million and $1.28, respectively, compared with net income, operating income and diluted earnings per share for the same 2001 period of $65.5 million, $120.9 million and $1.44, respectively.

Nicor also revised downward its earnings forecast for 2002 to be in the range of $2.65 to $2.90 a share, including second quarter adjustments and no PBR income. The third quarter earnings are estimated to fall between 40-50 cents a share. Wall Street analysts had forecast annual earnings to range between $2.80 and $3.19.

“While our primary businesses remain solid, we are nonetheless managing through some challenging, but critical times in our retail energy marketing joint venture,” said Nicor Inc. CEO Thomas L. Fisher. “Today, our efforts are focused on stabilizing this joint venture, while adding more certainty to its financial results. The Illinois Commerce Commission review process provides an appropriate forum for evaluating the PBR and Nicor Gas will continue to cooperate fully in the process.”

The company also rescheduled its second quarter earnings conference call originally planned for Friday to 11:30 a.m. EST on Tuesday (July 23).

In response to Friday’s announcements, Fitch Ratings placed Nicor Inc. and Nicor Gas on “Rating Watch Negative.” Fitch said, “the Negative Rating Watch for Nicor Gas further takes into consideration the current investigation of the company’s performance-based rate program by the Illinois Commerce Commission and other government agencies. The rating actions taken on Nicor and Nicor Gas are based on information issued by Nicor and the subsequent negative reaction to these announcements by the capital markets. Fitch intends to initiate a review of Nicor and Nicor Gas to evaluate concerns facing the companies.”

Merrill Lynch on Friday downgraded Nicor to a mid-term “reduce-sell” rating from “neutral-buy,” citing allegations of accounting impropriety at the gas company. The analyst said in a research note the allegations are “looking more believable.”Analyst Goldman Sachs also downgraded the company from “market perform” to “market underperform.”

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