AS CHAIRMAN OF YOUR COMPANY, ONE OF MY ROLES is to constantly assess Nicor's performance from various perspectives. Like you, I am a shareholder. I am also a customer and an employee. No company can be all things to all people, but at Nicor, we try to address and balance the desires and concerns of our key constituencies. We strive to provide outstanding service to our customers, to be a good employer for the people who work for the Nicor companies, and to be a good long-term investment for you, our shareholders. In this letter, I would like to share my thoughts on Nicor from all three perspectives.

Shareholder Perspective. For shareholders, I continue to believe Nicor is a good investment. This past year was a challenge because of extremely warm weather and the impact it had on our natural gas distribution business. In northern Illinois, weather was 21 percent warmer than normal in 1998, making it the warmest year of this century. Despite this, diluted earnings per common share declined only 7 percent to $2.42. Had the weather been normal, we would have easily exceeded our 1997 earnings per share level.

Also in 1998, Nicor's return on average common equity remained strong at 15.3 percent, and your Board of Directors raised Nicor's annual dividend rate to $1.48 per share, a 5.7 percent increase. Nicor has now increased its dividend for 11 consecutive years while still maintaining a relatively conservative payout ratio. As a shareholder, I am comfortable with Nicor's overall direction, and I am very optimistic about our prospects for continued success in the years ahead.

Customer Perspective. For our customers-whether they are served by Nicor Gas, Tropical Shipping or any of the Nicor family of companies-we will continue to provide value in the form of the best possible products and services at competitive prices. Nicor Gas' prices to customers are among the lowest in the nation and are also low compared to other fuel alternatives in the Midwest. This is not only good for our customers, it is also good for the regional economy. Similarly, Tropical Shipping has a reputation for providing exceptional service at competitive prices. In all of our businesses, we are working to enhance customer loyalty by identifying and then meeting or exceeding customer expectations.

Employee Perspective. Regarding the employees of Nicor, I feel each of us is an important part of the Nicor team. At the Nicor companies, we strive to treat our customers-and each other-with dignity and respect. We have challenged ourselves to achieve goals in a number of key areas-growth, customer care, employee and organizational excellence, and technology-and I believe treating each other with dignity and respect is essential to creating an atmosphere in which we can succeed and excel.

In particular, we have placed added emphasis on customer service. Our objective has been to improve on an already high level of customer satisfaction. The people of Nicor have embraced this idea and are working hard to provide our customers with the best possible service. I am very proud of their efforts.

The Evolving Energy Industry. As Nicor continues to move ahead, the energy industry around us has continued to change. One of the most significant trends in recent years has been consolidation. The chief benefits are potential economies of scale, access to more customers, and often, the convergence of gas and electric capabilities. In some industries-natural gas pipelines and telecommunications, for example-deregulation has resulted in major consolidation, and I believe this trend will likely continue in the gas and electric utility industries as the benefits to consumers become more evident.

At the same time, many companies in the energy industry are trying to grow and diversify. That can mean expanding their geographic reach, new product offerings, or both. Companies also have choices about how they will achieve diversification. If it is not done through a merger or acquisition, then it can be done by investment in regulated or unregulated business opportunities-either directly or through joint ventures and strategic alliances.

Opportunities to consolidate or diversify have resulted from fundamental changes in the utility industry-one of which is the continued trend toward the "unbundling" of services provided by the utility. The day is coming when most customers will have a choice regarding their commodity supplier.

The unbundling of gas utility services to customers is a trend that began nearly 15 years ago. Similar changes are now occurring in the electric utility industry, and one outcome is the divestiture of electric power generation held in the utility. The market for power generation represents an opportunity for Nicor, and we have incorporated this market into our growth strategy.

Strategic Direction. Obviously, the energy industry is changing. But what about Nicor? We are changing too- sometimes in subtle ways. However, our financial goals remain the same: we are working to achieve above-average growth in earnings per share compared to other major gas distributors, to maintain strong returns on equity, and to provide above-average dividend growth.

We have achieved our goals in the past, and I am confident in our ability to continue to do so because we have strategies in place to pursue growth opportunities in four areas: our primary businesses, Nicor Gas and Tropical Shipping; energy services; electric power generation; and gas storage- and transmission-related services. As in the past, we will also continue to consider stock repurchases and other financial initiatives to enhance Nicor's earnings.

Nicor Gas. In our regulated gas distribution business, we have strengths that make Nicor Gas one of the premier names in the industry. Nicor Gas has an operating system that is second to none and a reputation for providing quality service at low prices. I would also characterize Nicor Gas as a leader in the unbundling trend. And finally, I believe the people of Nicor Gas are a tremendous asset. Over the years, our people have helped Nicor Gas earn its reputation as an industry leader.

These strengths not only make Nicor Gas a solid franchise, they are also directly leveragable into growth opportunities in the energy industry. Overall, I believe Nicor Gas is an excellent platform to build on, and we intend to use it as such.

Tropical Shipping. Our shipping business accounts for about 10 percent of Nicor's operating income. Tropical Shipping has solid management, strong cash flows, and a leadership position in the markets it serves. Over the years, Tropical Shipping has contributed significantly to earnings growth and has excellent potential to continue to do so.

I would describe Tropical Shipping as a "niche" business focused on serving the distribution needs of Caribbean-based customers. Tropical Shipping's competitive advantage is quality service in a market accustomed to mediocre results. In particular, we have established a reputation as the "on-time" carrier in the region. I believe this reputation will serve us well as we pursue opportunities to expand in the Caribbean region.

Energy Services. Regarding energy services, our most significant effort thus far has been Nicor Energy, a joint venture with Houston-based Dynegy Inc., one of the nation's largest gas and electric marketing companies. Our initial focus has been on providing natural gas products and services to small- and medium-sized commercial and industrial customers in the greater-Chicago area.

At present, Nicor Energy is participating in three test programs, including Nicor Gas' Customer Select® program. These programs allow customers to choose their natural gas supplier, and Nicor Energy has done well, growing from 1,200 customers at its inception in 1997 to almost 15,000 customers at the end of 1998. With the Nicor Gas program open to more customers in 1999, Nicor Energy expects to significantly increase its customer base and volumes delivered.

Electric Power Generation. Changes in the energy industry made it possible for us to enter the market for energy services, and as those changes continue, other opportunities have emerged. One of those opportunities is in the market for electric power generation. We believe power generation is a logical extension of Nicor's strategic focus as it establishes Nicor as a total energy provider, increases deliveries in our regulated gas distribution business, and builds on the knowledge we have developed from cogeneration projects over the years.

We look at the power generation market in terms of three primary segments-small commercial generation, mid-sized commercial generation, and large industrial or wholesale generation. In 1998, we took steps that put Nicor in position to be a participant in all three market segments. These markets are described in more detail on page 14, and the types of projects we envision have the potential to have a significant impact on earnings growth.

In one of 1998's most significant developments, Nicor formed an alliance with Dynegy that gives us the ability to develop large electric power generation projects in the Midwest. In January 1999, Nicor and Dynegy announced plans for the first such project: a 250-megawatt, natural gas-powered electric generation plant in northern Illinois. Electric power from the plant will be sold to investor-owned utilities, electric cooperatives and municipalities during high-demand periods.

Gas Storage/Transmission Assets. Another source of growth for Nicor is the leveraging of our gas storage and transmission assets. Our storage capabilities, our extensive transmission system and our location put us in excellent position given the changes occurring in the natural gas marketplace. I stress location because the Chicago area continues to develop as a major hub in the natural gas industry. This has led to several profitable opportunities for us to provide services to others, and we are evaluating other ways to further utilize our assets.

Perspective. As you can see, Nicor has numerous opportunities to grow, and our financial strength will allow us to pursue these opportunities aggressively. As we move forward, there are several keys to our success. First, we have to recognize that changes in the energy industry mean that more and more often, we will find ourselves saying to our customers, "The choice is yours." We must do everything we can to ensure that customers choose and remain loyal to Nicor.

At the same time, we continue to look for new ways to build on our strengths and to achieve growth. I believe our increased emphasis on customer service will allow us to achieve these objectives. At every turn, we must ask our customers, "Is there anything else I can do for you?" As the cover of this year's annual report indicates, we want customers to be comfortable with Nicor as their energy provider.

We also want you, our shareholders, to be comfortable with your decision to invest in Nicor. I hope you will read the rest of this report so you can learn more about the opportunities that lie ahead for your company. And as always, thank you for your continued interest and investment in Nicor.

Thomas L. Fisher
Chairman, President and CEO
February 19, 1999