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EX-32.2 - CERTIFICATION OF CHIEF FINANCIAL OFFICER PURSUANT TO SECTION 906 - ANDEAVORtso1q2015-ex322.htm
EX-31.1 - CERTIFICATION OF CHIEF EXECUTIVE OFFICER PURSUANT TO SECTION 302 - ANDEAVORtso1q2015-ex311.htm
EX-32.1 - CERTIFICATION OF CHIEF EXECUTIVE OFFICER PURSUANT TO SECTION 906 - ANDEAVORtso1q2015-ex321.htm
EX-10.1 - NON-EMPLOYEE DIRECTOR COMPENSATION PROGRAM - ANDEAVORtso1q2015-ex101.htm

 

UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549

FORM 10‑Q
(Mark One)
þ
QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
For the quarterly period ended March 31, 2015
or

¨
TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
For the transition period from_____________________to__________

Commission File Number 1‑3473

TESORO CORPORATION
(Exact name of registrant as specified in its charter)
Delaware
 
95‑0862768
(State or other jurisdiction of
 
(I.R.S. Employer
incorporation or organization)
 
Identification No.)
 
 
 
19100 Ridgewood Pkwy, San Antonio, Texas 78259-1828
(Address of principal executive offices) (Zip Code)
210-626-6000
(Registrant’s telephone number, including area code)

Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes þ No ¨

Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files). Yes þ No ¨

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, or a smaller reporting company. See definitions of “large accelerated filer,” “accelerated filer” and “smaller reporting company” in Rule 12b-2 of the Exchange Act.
 
Large accelerated filer
þ
 
Accelerated filer
¨
 
 
Non-accelerated filer
¨  (Do not check if a smaller reporting company)
 
Smaller reporting company
¨
 

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). Yes ¨ No þ

There were 125,831,891 shares of the registrant’s Common Stock outstanding at May 4, 2015.

 



TESORO CORPORATION

QUARTERLY REPORT ON FORM 10-Q

FOR THE QUARTERLY PERIOD ENDED MARCH 31, 2015

TABLE OF CONTENTS




PART I. FINANCIAL INFORMATION
Page
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
PART II. OTHER INFORMATION
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 


2



PART I — FINANCIAL INFORMATION


ITEM 1. FINANCIAL STATEMENTS

TESORO CORPORATION
CONDENSED STATEMENTS OF CONSOLIDATED OPERATIONS
(Unaudited)
 
Three Months Ended
March 31,
 
2015
 
2014
 
(In millions, except per share amounts)
Revenues (a)
$
6,463

 
$
9,933

Costs and Expenses:
 
 
 
Cost of sales (a)
5,340

 
8,948

Operating expenses
509

 
591

Selling, general and administrative expenses
91

 
31

Depreciation and amortization expense
179

 
130

(Gain) loss on asset disposals and impairments
4

 
(5
)
Operating Income
340

 
238

Interest and financing costs, net
(55
)
 
(77
)
Other expense, net
(1
)
 
(1
)
Earnings Before Income Taxes
284

 
160

Income tax expense
96

 
56

Net Earnings from Continuing Operations
188

 
104

Loss from discontinued operations, net of tax

 
(1
)
Net Earnings
188

 
103

Less: Net earnings from continuing operations attributable to noncontrolling interest
43

 
25

Net Earnings Attributable to Tesoro Corporation
$
145

 
$
78

 
 
 
 
Net Earnings (Loss) Attributable to Tesoro Corporation
 
 
 
Continuing operations
$
145

 
$
79

Discontinued operations

 
(1
)
Total
$
145

 
$
78

Net Earnings (Loss) per Share - Basic:
 
 
 
Continuing operations
$
1.17

 
$
0.60

Discontinued operations

 
(0.01
)
Total
$
1.17

 
$
0.59

Weighted average common shares outstanding - Basic
125.2

 
131.3

Net Earnings (Loss) per Share - Diluted:
 
 
 
Continuing operations
$
1.15

 
$
0.59

Discontinued operations

 
(0.01
)
Total
$
1.15

 
$
0.58

Weighted average common shares outstanding - Diluted
126.9

 
133.8

 
 
 
 
Dividends per Share
$
0.425

 
$
0.250

 
 
 
 
Supplemental Information:
 
 
 
(a) Includes excise taxes collected by our retail segment
$
140

 
$
141


The accompanying notes are an integral part of these condensed consolidated financial statements.

3




TESORO CORPORATION
CONDENSED CONSOLIDATED BALANCE SHEETS
(Unaudited)
 
March 31,
2015
 
December 31,
2014
 
(Dollars in millions, except per share amounts)
ASSETS
Current Assets
 
 
 
Cash and cash equivalents (TLLP: $16 and $19, respectively)
$
459

 
$
1,000

Receivables, net of allowance for doubtful accounts
1,367

 
1,435

Inventories
2,532

 
2,439

Prepayments and other current assets
223

 
200

Total Current Assets
4,581

 
5,074

Net Property, Plant and Equipment (TLLP: $3,335 and $3,306, respectively)
9,180

 
9,045

Other Noncurrent Assets
 
 
 
Acquired intangibles, net (TLLP: $966 and $973, respectively)
1,211

 
1,222

Other, net (TLLP: $258 and $251, respectively)
1,311

 
1,150

Total Other Noncurrent Assets
2,522

 
2,372

Total Assets
$
16,283

 
$
16,491

 
 
 
 
LIABILITIES AND EQUITY
Current Liabilities
 
 
 
Accounts payable
$
2,141

 
$
2,470

Other current liabilities
864

 
996

Total Current Liabilities
3,005

 
3,466

Deferred Income Taxes
1,121

 
1,098

Other Noncurrent Liabilities
941

 
790

Debt, Net of Unamortized Issuance Costs (TLLP: $2,520 and $2,544, respectively)
4,138

 
4,161

Commitments and Contingencies (Note 10)


 


Equity
 
 
 
Tesoro Corporation Stockholders’ Equity
 
 
 
Common stock, par value $0.162/3; authorized 200,000,000 shares; 158,146,319 shares issued (156,627,604 in 2014)
26

 
26

Additional paid-in capital
1,309

 
1,255

Retained earnings
4,733

 
4,642

Treasury stock, 32,394,535 common shares (31,677,195 in 2014), at cost
(1,378
)
 
(1,320
)
Accumulated other comprehensive loss
(149
)
 
(149
)
Total Tesoro Corporation Stockholders’ Equity
4,541

 
4,454

Noncontrolling Interest
2,537

 
2,522

Total Equity
7,078

 
6,976

Total Liabilities and Equity
$
16,283

 
$
16,491


The accompanying notes are an integral part of these condensed consolidated financial statements.

4




TESORO CORPORATION
CONDENSED STATEMENTS OF CONSOLIDATED CASH FLOWS
(Unaudited)
 
Three Months Ended
March 31,
 
2015
 
2014
 
(Dollars in millions)
Cash Flows From (Used In) Operating Activities
 
 
 
Net earnings
$
188

 
$
103

Adjustments to reconcile net earnings to net cash from (used in) operating activities:
 
 
 
Depreciation and amortization expense
179

 
130

Debt redemption charges

 
31

Stock-based compensation expense (benefit)
28

 
(18
)
Deferred charges
(83
)
 
(60
)
Other non-cash operating activities
10

 
7

Changes in current assets and current liabilities
(470
)
 
(343
)
Net cash used in operating activities
(148
)
 
(150
)
Cash Flows From (Used In) Investing Activities
 
 
 
Capital expenditures
(271
)
 
(119
)
Other investing activities
(2
)
 
10

Net cash used in investing activities
(273
)
 
(109
)
Cash Flows From (Used In) Financing Activities
 
 
 
Borrowings under revolving credit agreements
99

 

Proceeds from debt offering

 
300

Repayments on revolving credit agreements
(124
)
 

Repayments of debt

 
(301
)
Dividend payments
(54
)
 
(33
)
Net proceeds from issuance of Tesoro Logistics LP common units
24

 

Distributions to noncontrolling interest
(44
)
 
(20
)
Purchases of common stock
(19
)
 
(100
)
Taxes paid related to net share settlement of equity awards
(39
)
 

Premium paid on notes redemption

 
(19
)
Other financing activities
37

 
(8
)
Net cash used in financing activities
(120
)
 
(181
)
Decrease in Cash and Cash Equivalents
(541
)
 
(440
)
Cash and Cash Equivalents, Beginning of Period
1,000

 
1,238

Cash and Cash Equivalents, End of Period
$
459

 
$
798


The accompanying notes are an integral part of these condensed consolidated financial statements.


5



TESORO CORPORATION
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)


NOTE 1 – BASIS OF PRESENTATION

As used in this report, the terms “Tesoro,” “we,” “us” or “our” may refer to Tesoro Corporation, one or more of its consolidated subsidiaries or all of them taken as a whole. The words “we,” “us” or “our” generally include Tesoro Logistics LP (“TLLP”) and its subsidiaries as consolidated subsidiaries of Tesoro Corporation with certain exceptions where there are transactions or obligations between TLLP and Tesoro Corporation or its other subsidiaries. When used in descriptions of agreements and transactions, “TLLP” or the “Partnership” refers to TLLP and its consolidated subsidiaries, including its 58% interest in QEP Midstream Partners, LP (“QEPM”), a publicly traded limited partnership, and its subsidiaries.

The interim condensed consolidated financial statements and notes thereto of Tesoro Corporation and its subsidiaries have been prepared by management without audit according to the rules and regulations of the Securities and Exchange Commission (“SEC”). The accompanying condensed consolidated financial statements reflect all adjustments that, in the opinion of management, are necessary for a fair presentation of results for the periods presented. Such adjustments are of a normal recurring nature, unless otherwise disclosed.

The consolidated balance sheet at December 31, 2014 has been condensed from the audited consolidated financial statements at that date. Certain information and notes normally included in financial statements prepared in accordance with accounting principles generally accepted in the United States of America (“U.S. GAAP”) have been condensed or omitted pursuant to the SEC’s rules and regulations. However, management believes that the disclosures presented herein are adequate to present the information fairly. The accompanying condensed consolidated financial statements and notes should be read in conjunction with our Annual Report on Form 10-K for the year ended December 31, 2014.

We prepare our condensed consolidated financial statements in conformity with U.S. GAAP, which requires management to make estimates and assumptions that affect the reported amounts and disclosures of assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the periods presented. We review our estimates on an ongoing basis. Changes in facts and circumstances may result in revised estimates and actual results could differ from those estimates. The results of operations for any interim period are not necessarily indicative of results for the full year. Certain prior year balances have been aggregated or disaggregated in order to conform to the current year presentation. Due to there being no adjustments to accumulated other comprehensive income for the three months ended March 31, 2015 and 2014, consolidated statements of comprehensive income have been omitted.

Our condensed consolidated financial statements include TLLP, a variable interest entity. As the general partner of TLLP, we have the sole ability to direct the activities of TLLP that most significantly impact its economic performance. We are also considered to be the primary beneficiary for accounting purposes and are TLLP’s primary customer. Under our various long-term, fee-based commercial agreements with TLLP, transactions with us accounted for 56% and 88% of TLLP’s total revenues for the three months ended March 31, 2015 and 2014, respectively. In the event TLLP incurs a loss, our operating results will reflect TLLP’s loss, net of intercompany eliminations. See Note 2 for additional information relating to TLLP.

On September 25, 2013, we completed the sale of all of our interest in Tesoro Hawaii, LLC, which operated a 94 thousand barrel per day Hawaii refinery, retail stations and associated logistics assets (the “Hawaii Business”). The results of operations for this business have been presented as discontinued operations in the condensed statements of consolidated operations for the three months ended March 31, 2015 and 2014. There were no revenues for either the three months ended March 31, 2015 or 2014. We recorded losses, before and after tax of $1 million for the three months ended March 31, 2014 related to the Hawaii Business. There were no recorded losses, before or after tax, for the three months ended March 31, 2015. There were no cash flows for either the three months ended March 31, 2015 or 2014. Unless otherwise noted, the information in the notes to the condensed consolidated financial statements relates to our continuing operations.

New Accounting Standards and Disclosures

Revenue Recognition. The Financial Accounting Standards Board (“FASB”) issued an Accounting Standards Update (“ASU”) in May 2014 providing accounting guidance for all revenue arising from contracts to provide goods or services to customers. The requirements from the new ASU are effective for interim and annual periods beginning after December 15, 2016, and early adoption is not permitted. The FASB has proposed a one-year deferral of the effective date; however, this proposal has not been finalized. The standard allows for either full retrospective adoption or modified retrospective adoption. At this time, we are evaluating the guidance to determine the method of adoption and the impact of this ASU on our financial statements and related disclosures.


6



TESORO CORPORATION
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)

Debt Issuance Costs. In April 2015, the FASB issued ASU 2015-03 which will simplify the presentation of debt issuance costs. Under the new ASU, debt issuance costs related to a recognized debt liability will be presented in the balance sheet as a direct deduction from the carrying amount of the related debt liability. As a result, our balance sheet will reflect a reclassification of unamortized debt issuance costs from other noncurrent assets to debt. This ASU is effective for interim and annual periods beginning after December 15, 2015, and early adoption is permitted. We have adopted this standard effective as of March 31, 2015 and applied the changes retrospectively to the prior periods presented. Adoption of this standard has resulted in the reclassification of $93 million from other noncurrent assets to debt on the balance sheet at December 31, 2014. Unamortized debt issuance costs of $89 million are recorded as a reduction to debt on the balance sheet at March 31, 2015.

NOTE 2 – TESORO LOGISTICS LP

TLLP is a publicly traded limited partnership that was formed to own, operate, develop and acquire logistics assets. Its assets are integral to the success of Tesoro’s refining and marketing operations and are used to gather crude oil and natural gas, process natural gas, and distribute, transport and store crude oil and refined products. TLLP’s gathering assets consist of crude oil gathering systems in the Williston Basin located in North Dakota and natural gas gathering systems in the Green River and Uinta Basins located in Wyoming and Utah. Its processing assets include four gas processing complexes and a fractionation facility in or around the Green River and Uinta Basins. Its terminalling and transportation assets consist of:

24 crude oil and refined products terminals and storage facilities in the western and midwestern United States;
four marine terminals in California;
140 miles of pipelines, which transport products and crude oil from Tesoro’s refineries to nearby facilities in Salt Lake City, Utah and Los Angeles, California;
the Northwest Products Pipeline, which includes a regulated common carrier products pipeline running from Salt Lake City, Utah to Spokane, Washington and a jet fuel pipeline to the Salt Lake City International Airport;
a rail-car unloading facility in Washington;
a petroleum coke handling and storage facility in Los Angeles, California; and
a regulated common carrier refined products pipeline system connecting Tesoro’s Kenai refinery terminals to terminals in Anchorage, Alaska.

Tesoro Logistics GP, LLC (“TLGP”), a wholly-owned subsidiary, serves as the general partner of TLLP. We held an approximate 36% interest in TLLP at both March 31, 2015 and December 31, 2014, including a 2% general partner interest and all of the incentive distribution rights. This interest at March 31, 2015 includes 28,181,748 common units and 1,631,448 general partner units.

TLLP acquired assets related to, and entities engaged in, natural gas gathering, transportation and processing in Wyoming, Colorado, Utah, and North Dakota (the “Rockies Natural Gas Business”) through its acquisition of QEP Field Services, LLC (“QEPFS”) from QEP Resources, Inc. on December 2, 2014 for $2.5 billion. QEPFS holds an approximate 56% limited partner interest in QEPM, consisting of 3,701,750 common units and 26,705,000 subordinated units, and 100% of QEPM’s general partner, QEP Midstream Partners GP, LLC (“QEPM GP”), which itself holds a 2% general partner interest and all of the incentive distribution rights in QEPM. All intercompany transactions with TLLP and QEPM are eliminated upon consolidation.

On April 6, 2015, TLLP entered into an Agreement and Plan of Merger (the “Merger Agreement”) with TLGP, QEPFS, TLLP Merger Sub LLC (“Merger Sub”), QEPM, and QEPM GP. Subject to the satisfaction or waiver of certain conditions in the Merger Agreement, upon the later of the filing with the Secretary of State of the State of Delaware of a certificate of merger or the later date and time set forth in such certificate, Merger Sub will merge with and into QEPM, with QEPM surviving the merger as a wholly owned subsidiary of TLLP (the “Merger”). Following the Merger, QEPM GP will remain the general partner of QEPM, and all outstanding common units representing limited partnership interests in QEPM (the “QEPM Common Units”) other than QEPM Common Units held by QEPFS will be converted into the right to receive 0.3088 common units representing limited partnership interests in TLLP (the “TLLP Common Units”). No fractional TLLP Common Units will be issued in the Merger, and holders of QEPM Common Units other than QEPFS will instead receive cash in lieu of fractional TLLP Common Units, if any.

TLLP provides us with various pipeline transportation, trucking, terminal distribution, storage and coke-handling services under long-term, fee-based commercial agreements. Each of these agreements, with the exception of the storage and transportation services agreement, contain minimum volume commitments. We do not provide financial or equity support through any liquidity arrangements or financial guarantees to TLLP.


7



TESORO CORPORATION
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)

TLLP’s allocation of the Rockies Natural Gas Business acquisition’s $2.5 billion purchase price remains preliminary as of March 31, 2015. During the three months ended March 31, 2015, the original purchase price was increased by $7 million for adjustments in net working capital primarily for changes related to accounts receivable as well as a change related to goodwill. Finalization of the purchase price allocation is pending and adjustments can be made through the end of TLLP’s measurement period, which is not to exceed one year from the acquisition date. The table below reflects the preliminary acquisition date purchase price allocation as of March 31, 2015 (in millions):
Cash
$
31

Accounts receivable
120

Prepayments and other
7

Property, plant and equipment
1,735

Acquired intangibles
976

Other noncurrent assets (a)
239

Accounts payable
(81
)
Other current liabilities
(47
)
Other noncurrent liabilities
(31
)
Noncontrolling interest
(432
)
Total purchase price
$
2,517

____________________
(a)
Other noncurrent assets include $159 million of goodwill.

During the three months ended March 31, 2015, TLLP incurred transaction and integration costs of $3 million directly attributable to the Rockies Natural Gas Business acquisition. These costs are included in selling, general and administrative expenses in our condensed statements of consolidated operations.

NOTE 3 – EARNINGS PER SHARE

We compute basic earnings per share by dividing net earnings attributable to Tesoro Corporation stockholders by the weighted average number of common shares outstanding during the period. Diluted earnings per share include the effects of potentially dilutive shares outstanding during the period. Our share calculations are presented below (in millions):
 
Three Months Ended
March 31,
 
 
2015
 
2014
Weighted average common shares outstanding
125.2

 
131.3
Common stock equivalents
1.7

 
2.5
Total diluted shares
126.9

 
133.8

Potentially dilutive common stock equivalents are excluded from the calculation of diluted earnings per share if the effect of including such securities in the calculation would have been anti-dilutive. Anti-dilutive securities were 0.3 million and 0.4 million for the three months ended March 31, 2015 and 2014, respectively.


8



TESORO CORPORATION
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)

NOTE 4 – INVENTORIES

Components of inventories were as follows (in millions):
 
March 31,
2015
 
December 31,
2014
Domestic crude oil and refined products
$
2,219

 
$
1,930

Foreign subsidiary crude oil
134

 
351

Other inventories
179

 
158

Total Inventories
$
2,532

 
$
2,439


The total carrying value of our crude oil and refined product inventories was less than replacement cost by approximately$318 million at March 31, 2015. Due to the declining crude oil and refined product pricing environment at the end of 2014, we recorded additional expense to cost of sales for a lower of cost or market adjustment of $42 million at December 31, 2014 for our crude oil, refined products, oxygenates and by-product inventories. This adjustment was reversed as the inventories associated with the adjustment at the end of 2014 were sold or used during the three months ended March 31, 2015.

NOTE 5 - PROPERTY, PLANT AND EQUIPMENT

Property, plant and equipment, at cost, is as follows (in millions):
 
March 31,
2015
 
December 31,
2014
Refining
$
7,171

 
$
6,994

TLLP
3,617

 
3,551

Retail
835

 
834

Corporate
256

 
254

Property, plant and equipment, at cost
11,879

 
11,633

Accumulated depreciation
(2,699
)
 
(2,588
)
Net property, plant and equipment
$
9,180

 
$
9,045


We capitalize interest as part of the cost of major projects during the construction period. Capitalized interest totaled $9 million and $5 million for the three months ended March 31, 2015 and 2014, respectively, and is recorded as a reduction to net interest and financing costs in our condensed statements of consolidated operations.

NOTE 6 - DERIVATIVE INSTRUMENTS

In the ordinary course of business, our profit margins, earnings and cash flows are impacted by the timing, direction and overall change in pricing for commodities used throughout our operations. We use non-trading derivative instruments to manage our exposure to the following:

price risks associated with the purchase or sale of feedstocks, refined products and energy supplies related to our refineries, terminals, retail fuel inventory and customers;
price risks associated with inventories above or below our target levels;
future emission credit requirements; and
exchange rate fluctuations on our purchases of Canadian crude oil.

Our accounting for derivative instruments depends on whether the underlying commodity will be used or sold in the normal course of business. For contracts where the crude oil or refined products are expected to be used or sold in the normal course of business, we apply the normal purchase normal sale exception and follow the accrual method of accounting. All other derivative instruments are recorded at fair value using mark-to-market accounting.


9



TESORO CORPORATION
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)

Our derivative instruments include forward purchase and sale contracts (“Forward Contracts”), exchange-traded futures (“Futures Contracts”), over-the-counter swaps (“OTC Swap Contracts”), options (“Options”), and over-the-counter options (“OTC Option Contracts”). Forward Contracts are agreements to buy or sell the commodity at a predetermined price at a specified future date. Futures Contracts are standardized agreements, traded on a futures exchange, to buy or sell the commodity at a predetermined price at a specified future date. Options provide the right, but not the obligation to buy or sell the commodity at a specified price in the future. OTC Swap Contracts and OTC Option Contracts require cash settlement for the commodity based on the difference between a contracted fixed or floating price and the market price on the settlement date. Certain of these contracts require cash collateral to be received or paid if our asset or liability position, respectively, exceeds specified thresholds. We believe that we have minimal credit risk with respect to our counterparties.

The following table presents the fair value (in millions) of our derivative instruments as of March 31, 2015 and December 31, 2014. The fair value amounts below are presented on a gross basis and do not reflect the netting of asset and liability positions permitted under the terms of our master netting arrangements including cash collateral on deposit with, or received from, brokers. We offset the recognized fair value amounts for multiple derivative instruments executed with the same counterparty in our financial statements when a legal right of offset exists. As a result, the asset and liability amounts below will not agree with the amounts presented in our condensed consolidated balance sheets.
 
 
 
Derivative Assets
 
Derivative Liabilities
 
Balance Sheet Location
 
March 31,
2015
 
December 31,
2014
 
March 31,
2015
 
December 31,
2014
Commodity Futures Contracts
Prepayments and other current assets
 
$
786

 
$
1,201

 
$
751

 
$
1,025

Commodity OTC Swap Contracts
Receivables
 
2

 

 

 

Commodity OTC Swap Contracts
Accounts payable
 

 

 

 
1

Commodity Forward Contracts
Receivables
 
2

 
3

 

 

Commodity Forward Contracts
Accounts payable
 

 

 
1

 
1

Total Gross Mark-to-Market
   Derivatives
 
 
790

 
1,204

 
752

 
1,027

Less: Counterparty Netting and
   Cash Collateral (a)
 
 
(675
)
 
(1,136
)
 
(749
)
 
(1,024
)
Total Net Fair Value of Derivatives
 
 
$
115

 
$
68

 
$
3

 
$
3

________________
(a)
As of March 31, 2015, we had provided cash collateral amounts of $74 million related to our unrealized derivative positions. At December 31, 2014, our counterparties had provided cash collateral of $112 million related to our unrealized derivative positions. Cash collateral amounts are netted with mark-to-market derivative assets.

Gains (losses) for our mark-to market derivatives for the three months ended March 31, 2015 and 2014 were as follows (in millions):
 
Three Months Ended
March 31,
 
 
2015
 
2014
Commodity Futures Contracts
$
43

 
$

Commodity OTC Swap Contracts

 
(1
)
Commodity Forward Contracts
2

 
1

Foreign Currency Forward Contracts
(2
)
 
(2
)
Total Gain (Loss) on Mark-to-Market Derivatives
$
43

 
$
(2
)


10



TESORO CORPORATION
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)

The income statement location of gains (losses) for our mark-to market derivatives above were as follows (in millions):
 
Three Months Ended
March 31,
 
 
2015
 
2014
Revenues
$
4

 
$
1

Cost of sales
41

 
(1
)
Other expense, net
(2
)
 
(2
)
Total Gain (Loss) on Mark-to-Market Derivatives
$
43

 
$
(2
)

Open Long (Short) Positions

The information below presents the net volume of outstanding commodity and other contracts by type of instrument, year of maturity and unit of measure as of March 31, 2015 (units in thousands):
 
 
Contract Volumes by Year of Maturity
 
Mark-to-Market Derivative Instrument
 
2015
 
2016
 
2017
 
Unit of Measure
Crude oil, refined products and blending products:
 
 
 
 
 
 
 
 
Futures - short
 
(13,710)
 
 
 
Barrels
Futures - long
 
 
485
 
 
Barrels
OTC Swaps - long
 
2,000
 
 
 
Barrels
Forwards - long
 
131
 
 
 
Barrels
Carbon credits:
 
 
 
 
 
 
 
 
Futures - long
 
3,675
 
1,000
 
1,000
 
Tons
Corn:
 
 
 
 
 
 
 
 
Futures - short
 
(3,515)
 
 
 
Bushels

NOTE 7 – FAIR VALUE MEASUREMENTS

We classify financial assets and liabilities according to the fair value hierarchy. Financial assets and liabilities classified as level 1 instruments are valued based on quoted prices in active markets for identical assets and liabilities. Level 2 instruments are valued based on quoted prices for similar assets and liabilities in active markets, and inputs other than quoted prices, such as liquidity, that are observable for the asset or liability. These instruments include derivative instruments that are valued using market quotations from independent price reporting agencies, third-party broker quotes and price curves derived from commodity exchange postings that are corroborated with market data. Level 3 instruments are valued based on unobservable inputs that are supported by little or no market activity and that are significant to the fair value of the assets or liabilities. We do not have any financial assets or liabilities classified as level 3 at March 31, 2015 or December 31, 2014.

Our financial assets and liabilities measured at fair value on a recurring basis include derivative instruments. Additionally, our financial liabilities include obligations for Renewable Identification Numbers (“RINs”) and cap and trade emission credits for the state of California (together with RINs, our “Environmental Credit Obligations”). See Note 6 for further information on our derivative instruments. Our Environmental Credit Obligations represent the estimated fair value amount at each balance sheet date for which we do not have sufficient RINs and California cap and trade credits to satisfy our obligations to the U.S. Environmental Protection Agency (“EPA”) and the state of California, respectively. RINs are assigned to biofuels produced or imported into the U.S. as required by the EPA, which sets annual quotas for the percentage of biofuels that must be blended into transportation fuels consumed in the U.S. As a producer of petroleum transportation fuels, we are required to blend biofuels into the products we produce at a rate that will meet the EPA’s quota. We must purchase RINs in the open market to satisfy the requirement if we are unable to blend at that rate. Our liability for cap and trade emission credits for the state of California represent the deficit of credits to satisfy emission reduction requirements mandated in California’s Assembly Bill 32 for each period which stationary or transportation fuel carbon emissions exceed the level allowed by the regulation.


11



TESORO CORPORATION
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)

Financial assets and liabilities recognized at fair value in our condensed consolidated balance sheets by level within the fair value hierarchy were as follows (in millions):
 
March 31, 2015

Level 1

Level 2

Level 3
 
Netting and Collateral (a)
 
Total
Assets:





 
 
 
 
Commodity Futures Contracts
$
772

 
$
14

 
$

 
$
(675
)
 
$
111

Commodity OTC Swap Contracts

 
2

 

 

 
2

Commodity Forward Contracts

 
2

 

 

 
2

Total Assets
$
772

 
$
18

 
$

 
$
(675
)
 
$
115










 
 
 
 
Liabilities:








 
 
 
 
Commodity Futures Contracts
$
738

 
$
13

 
$

 
$
(749
)
 
$
2

Commodity Forward Contracts

 
1

 

 

 
1

Environmental Credit Obligations

 
37

 

 

 
37

Total Liabilities
$
738

 
$
51

 
$

 
$
(749
)
 
$
40


 
December 31, 2014
 
Level 1
 
Level 2
 
Level 3
 
Netting and Collateral (a)
 
Total
Assets:
 
 
 
 
 
 
 
 
 
Commodity Futures Contracts
$
1,165

 
$
36

 
$

 
$
(1,136
)
 
$
65

Commodity Forward Contracts

 
3

 

 

 
3

Total Assets
$
1,165

 
$
39

 
$

 
$
(1,136
)
 
$
68

 
 
 
 
 
 
 
 
 
 
Liabilities:
 
 
 
 
 
 
 
 
 
Commodity Futures Contracts
$
1,011

 
$
14

 
$

 
$
(1,024
)
 
$
1

Commodity OTC Swap Contracts

 
1

 

 

 
1

Commodity Forward Contracts

 
1

 

 

 
1

Environmental Credit Obligations

 
20

 

 

 
20

Total Liabilities
$
1,011

 
$
36

 
$

 
$
(1,024
)
 
$
23

________________
(a)
Certain of our derivative contracts, under master netting arrangements, include both asset and liability positions. We offset both the fair value amounts and any related cash collateral amounts recognized for multiple derivative instruments executed with the same counterparty when there is a legally enforceable right and an intention to settle net or simultaneously. As of March 31, 2015, we had provided cash collateral amounts of $74 million related to our unrealized derivative positions. At December 31, 2014, our counterparties had provided cash collateral of $112 million related to our unrealized derivative positions.

We believe the carrying value of our other financial instruments, including cash and cash equivalents, receivables, accounts payable and certain accrued liabilities approximate fair value. Our fair value assessment incorporates a variety of considerations, including the short-term duration of the instruments (less than one percent of our trade receivables and payables are outstanding for greater than 90 days), and the expected future insignificance of bad debt expense, which includes an evaluation of counterparty credit risk. The borrowings under the Tesoro Corporation revolving credit facility (the “Revolving Credit Facility”), the TLLP senior secured revolving credit agreement (the “TLLP Revolving Credit Facility”) and our term loan credit facility agreement (the “Term Loan Credit Facility”), which include variable interest rates, approximate fair value. The fair value of our fixed rate debt is based on prices from recent trade activity and is categorized in level 2 of the fair value hierarchy. The carrying values of our debt were approximately $4.2 billion at both March 31, 2015 and December 31, 2014, and the fair values of our debt were approximately $4.3 billion and $4.2 billion at March 31, 2015 and December 31, 2014, respectively. These carrying and fair values of our debt do not include the unamortized issuance costs associated with our total debt.


12



TESORO CORPORATION
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)

NOTE 8 – DEBT

Our debt balance, net of unamortized issuance costs, at March 31, 2015 and December 31, 2014 was as follows (in millions):
 
March 31,
2015
 
December 31,
2014
Total debt (a)
$
4,229

 
$
4,255

Unamortized issuance costs (b)
(85
)
 
(88
)
Current maturities
(6
)
 
(6
)
Debt, net of current maturities and unamortized issuance costs
$
4,138

 
$
4,161

________________
(a)
Total debt related to TLLP, which is non-recourse to Tesoro, except for TLGP, was $2.5 billion at both March 31, 2015 and December 31, 2014, respectively.
(b)
The Company has adopted ASU 2015-03 as of March 31, 2015 and applied the changes retrospectively to the prior period presented. Adoption of this standard has resulted in the reclassification of $93 million of unamortized debt issuance costs from other noncurrent assets to debt on the balance sheet at December 31, 2014. Unamortized debt issuance costs of $89 million are recorded as a reduction to debt on the balance sheet at March 31, 2015. See Note 1 for further discussion.

Revolving Credit Facilities

We had available capacity under our credit facilities as follows at March 31, 2015 (in millions):
 
Total
Capacity
 
Amount Borrowed as of March 31, 2015
 
Outstanding
Letters of Credit
 
Available Capacity
 
Expiration
Tesoro Corporation Revolving
Credit Facility (c)
$
2,156

 
$

 
$
237

 
$
1,919

 
November 18, 2019
TLLP Revolving Credit Facility
900

 
235

 

 
665

 
December 2, 2019
Letter of Credit Facilities
2,035

 

 
56

 
1,979

 
 
Total credit facilities
$
5,091

 
$
235

 
$
293

 
$
4,563

 
 
________________
(c)
Borrowing base is the lesser of the amount of the periodically adjusted borrowing base or the agreement’s total capacity of $3.0 billion.

As of March 31, 2015, our credit facilities were subject to the following expenses and fees:
Credit Facility
 
30 day Eurodollar (LIBOR) Rate
 
Eurodollar Margin
 
Base Rate
 
Base Rate Margin
 
Commitment Fee
(unused portion)
Tesoro Corporation Revolving Credit Facility
   ($2.2 billion) (d)
 
0.18%
 
1.50%
 
3.25%
 
0.50%
 
0.375%
TLLP Revolving Credit Facility ($900 million) (e)
 
0.18%
 
2.50%
 
3.25%
 
1.50%
 
0.50%
________________
(d)
We can elect the interest rate to apply to the facility between a base rate plus the base rate margin, or a Eurodollar rate, for the applicable term, plus the Eurodollar margin at the time of the borrowing. The applicable margin on the Revolving Credit Facility varies primarily based upon our credit ratings. Letters of credit outstanding under the Revolving Credit Facility incur fees at the Eurodollar margin rate.
(e)
TLLP has the option to elect if the borrowings will bear interest at either, a base rate plus the base rate margin or a Eurodollar rate, for the applicable period, plus the Eurodollar margin at the time of the borrowing. The applicable margin varies based upon a certain leverage ratio, as defined by the TLLP Revolving Credit Facility. TLLP incurs commitment fees for the unused portion of the TLLP Revolving Credit Facility. Letters of credit outstanding under the TLLP Revolving Credit Facility incur fees at the Eurodollar margin rate.


13



TESORO CORPORATION
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)

Revolving Credit Facilities

Tesoro Corporation Revolving Credit Facility. Our Revolving Credit Facility provides for borrowings (including letters of credit) up to the lesser of the amount of a periodically adjusted borrowing base, which consists of Tesoro’s eligible cash and cash equivalents, receivables and petroleum inventories, net of the standard reserve as defined, or the Revolving Credit Facility’s total capacity of $3.0 billion. We had unused credit availability of approximately 89% of the eligible borrowing base at March 31, 2015. Our Revolving Credit Facility is guaranteed by substantially all of Tesoro’s active domestic subsidiaries, excluding TLGP, TLLP and its subsidiaries, and certain foreign subsidiaries, and is secured by substantially all of Tesoro’s active domestic subsidiaries’ crude oil and refined product inventories, cash and receivables.

Our Revolving Credit Facility, as amended, senior notes and Term Loan Facility each limit our ability to make certain restricted payments (as defined in our debt agreements), which include dividends, purchases of our stock or voluntary prepayments of subordinate debt. The aggregate amount of restricted payments cannot exceed an amount defined in each of the debt agreements.

The Revolving Credit Facility allows us to obtain letters of credit under separate letter of credit agreements for foreign crude oil purchases. Our uncommitted letter of credit agreements had $56 million outstanding as of March 31, 2015. Letters of credit outstanding under these agreements incur fees ranging from 0.40% to 1.00% and are secured by the crude oil inventories for which they are issued. Capacity under these letter of credit agreements is available on an uncommitted basis and can be terminated by either party at any time.

TLLP Revolving Credit Facility. The TLLP Revolving Credit Facility provided for total loan availability of $900 million as of March 31, 2015, and TLLP may request that the loan availability be increased up to an aggregate of $1.5 billion, subject to receiving increased commitments from the lenders. The TLLP Revolving Credit Facility is non-recourse to Tesoro, except for TLGP, and is guaranteed by all of TLLP’s subsidiaries, with the exception of certain non-wholly owned subsidiaries acquired in the Rockies Natural Gas Business acquisition, and secured by substantially all of TLLP’s assets. Borrowings are available under the TLLP Revolving Credit Facility up to the total loan availability of the facility. There was $235 million in borrowings outstanding under the TLLP Revolving Credit Facility, which incurred interest at a weighted average interest rate of 2.67% at March 31, 2015. TLLP had unused credit availability of approximately 74% of the eligible borrowing base at March 31, 2015.

Tesoro Debt

Term Loan Facility. We entered into the Term Loan Facility in January 2013, which allowed us to borrow up to an aggregate of $500 million, which we used to fund a portion of the acquisition of BP’s integrated Southern California refining, marketing and logistics business (the “Los Angeles Acquisition”). The Term Loan Facility matures May 30, 2016. The obligations under the Term Loan Facility are secured by all equity interests of Tesoro Refining & Marketing Company LLC and Tesoro Alaska Company LLC, the Tesoro and USA Gasoline trademarks and those trademarks containing the name “ARCO” acquired in the Los Angeles Acquisition, and junior liens on certain assets. The Term Loan Facility may be repaid at any time but amounts may not be re-borrowed. There were no payments on the borrowings under the Term Loan Facility for the three months ended March 31, 2015. The borrowings under our Term Loan Facility incurred interest at a rate of 2.43% as of March 31, 2015 based on the following expense and fee schedule:
Credit Facility
 
30 day Eurodollar (LIBOR) Rate
 
Eurodollar Margin
 
Base Rate
 
Base Rate Margin
 
Commitment Fee
(unused portion)
Term Loan Facility ($398 million) (a)
 
0.18%
 
2.25%
 
3.25%
 
1.25%
 
—%
____________________
(a)
We can elect the interest rate to apply to the facility between a base rate plus the base rate margin, or a Eurodollar rate, for the applicable term, plus the Eurodollar margin at the time of the borrowing.

The Term Loan Facility contains affirmative covenants, representations and warranties and events of default substantially similar to those set forth in the Revolving Credit Facility and contains negative covenants substantially similar to those set forth in most of our current indentures.


14



TESORO CORPORATION
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)

NOTE 9 – BENEFIT PLANS

Tesoro sponsors four defined benefit pension plans, including one funded qualified employee retirement plan and three unfunded nonqualified executive plans. Although our funded employee retirement plan fully meets all funding requirements under applicable laws and regulations, we voluntarily contributed $15 million during the three months ended March 31, 2015 to improve the funded status of the plan. Tesoro also provides other postretirement health care benefits to retirees who met certain service requirements and were participating in our group health insurance program at retirement.

The components of pension and other postretirement benefit expense (income) for the three months ended March 31, 2015 and 2014 were (in millions):
 
Pension Benefits
 
Other Postretirement Benefits
 
Three Months Ended
March 31,
 
Three Months Ended
March 31,
 
 
2015
 
2014
 
2015
 
2014
Service cost
$
12

 
$
13

 
$
1

 
$
1

Interest cost
8

 
9

 
1

 
1

Expected return on plan assets
(7
)
 
(8
)
 

 

Amortization of prior service cost

 

 
(9
)
 
(9
)
Recognized net actuarial loss
6

 
4

 
1

 
1

Net Periodic Benefit Expense (Income)
$
19

 
$
18

 
$
(6
)
 
$
(6
)

NOTE 10 - COMMITMENTS AND CONTINGENCIES AND ENVIRONMENTAL LIABILITIES

Environmental Liabilities

We are incurring and expect to continue to incur expenses for environmental remediation liabilities at a number of currently and previously owned or operated refining, pipeline, terminal and retail station properties. We have accrued liabilities for these expenses and believe these accruals are adequate based on current information and projections that can be reasonably estimated. Additionally, we have recognized environmental remediation liabilities assumed in past acquisitions from the prior owners that include amounts estimated for site cleanup and monitoring activities arising from operations at refineries, certain terminals and pipelines, and retail stations prior to the dates of our acquisitions. Our environmental accruals are based on estimates including engineering assessments, and it is possible that our projections will change and that additional costs will be recorded as more information becomes available.

Our accruals for environmental expenditures totaled $259 million and $274 million at March 31, 2015 and December 31, 2014, respectively, including $28 million and $32 million for TLLP, respectively. These accruals include $208 million and $216 million at March 31, 2015 and December 31, 2014, respectively, related to amounts estimated for site cleanup activities arising from operations at our Martinez refinery and operations of assets acquired in the Los Angeles Acquisition prior to their respective acquisition dates. We cannot reasonably determine the full extent of remedial activities that may be required at the Martinez refinery and for assets acquired in the Los Angeles Acquisition, and it is possible that we will identify additional investigation and remediation costs for site cleanup activities as more information becomes available. The environmental remediation liabilities assumed in the Los Angeles Acquisition include amounts estimated for site cleanup activities and monitoring activities arising from operations at the Carson refinery, certain terminals and pipelines, and retail stations prior to our acquisition on June 1, 2013. These estimates for environmental liabilities are based on third-party assessments and available information. Our estimates for site cleanup activities reflect amounts for which we are responsible under applicable cost-sharing arrangements. We also have insurance policies related to certain matters at our Martinez refinery that provide coverage up to $190 million for expenditures in excess of $50 million in self-insurance. We have not recognized possible insurance recoveries and the insurer has challenged coverage and filed a declaratory relief action in federal court.


15



TESORO CORPORATION
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)

Other Contingencies

Washington Refinery Fire. The naphtha hydrotreater unit at our Washington refinery was involved in a fire in April 2010, which fatally injured seven employees and rendered the unit inoperable. The Washington State Department of Labor & Industries (“L&I”) initiated an investigation of the incident. L&I completed its investigation in October 2010, issued citations and assessed a $2.4 million fine, which we appealed. L&I reassumed jurisdiction of the citation and affirmed the allegations in December 2010. We disagree with L&I’s characterizations of operations at our Washington refinery and believe, based on available evidence and scientific reviews, that many of the agency’s conclusions are mistaken. We filed an appeal of the citation in January 2011. In separate September 2013, November 2013 and February 2015 orders, the Board of Industrial Insurance Appeals granted partial summary judgment in our favor and dismissed most of the citations. We have established an accrual for this matter although we cannot currently estimate the final amount or timing of its resolution.

On November 20, 2013, we received a notice of violation (“NOV”) from the EPA alleging 46 violations of the Clean Air Act Risk Management Plan requirements at our Washington refinery. The EPA conducted an investigation of the refinery in 2011, following the April 2010 fire in the naphtha hydrotreater unit. We have provided a response to the NOV and additional information to the EPA. While we cannot currently estimate the amount or timing of the resolution of this matter, we believe the outcome will not have a material impact on our liquidity, financial position, or results of operations.

In January 2015, we received notice and demand for indemnity from the previous owner of our Washington refinery for damages incurred in the civil litigation brought by the families of those fatally wounded in the April 2010 refinery fire. We settled our involvement in civil litigation in 2012. Arbitration proceedings were initiated in March 2015 after an unsuccessful mediation and we intend to vigorously defend ourselves against this claim.

Environmental. The EPA has alleged that we have violated certain Clean Air Act regulations at our Alaska, Washington, Martinez, North Dakota and Utah refineries. We also retained the responsibility for resolving similar allegations relating to our former Hawaii refinery, which we sold in September 2013. We previously received a NOV in March 2011 from the EPA alleging violations of Title V of the Clean Air Act at our Alaska refinery, which arose from a 2007 state of Alaska inspection and inspections by the EPA in 2008 and 2010. We also previously received NOVs in 2005 and 2008 alleging violations of the Clean Air Act at our Washington refinery. We are continuing discussions of all EPA claims with the EPA and the U.S. Department of Justice. We have established an accrual for this matter although we cannot currently estimate the final amount or timing of its resolution. The ultimate resolution of these matters could have a material impact on our future interim or annual results of operations, as we may be required to incur material capital expenditures at our operating refineries. However, we do not believe that the final outcome of this matter will have a material impact on our liquidity or financial position.

Other Matters

In the ordinary course of business, we become party to lawsuits, administrative proceedings and governmental investigations, including environmental, regulatory and other matters. Large, and sometimes unspecified, damages or penalties may be sought from us in some matters. We have not established accruals for these matters unless a loss is probable, and the amount of loss is currently estimable.

Legal. We are a defendant, along with other manufacturing, supply and marketing defendants, in a lawsuit brought by the Orange County Water District, alleging methyl tertiary butyl ether (“MTBE”) contamination in groundwater. This matter, originally filed in 2004, is proceeding in the United States District Court of the Southern District of New York. The defendants are being sued for having manufactured MTBE and having manufactured, supplied and distributed gasoline containing MTBE. The plaintiff alleges, in part, that the defendants are liable for manufacturing or distributing a defective product. The suit generally seeks individual, unquantified compensatory and punitive damages and attorney’s fees. We intend to vigorously assert our defenses against this claim. While we cannot currently estimate the final amount or timing of the resolution of this matter, we have established an accrual and believe that the outcome will not have a material impact on our liquidity, financial position, or results of operations.


16



TESORO CORPORATION
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)

Environmental. Certain non-governmental organizations filed a Request for Agency Action (the “Request”) with the Utah Department of Environmental Quality (“UDEQ”) concerning our Utah refinery in October 2012. The Request challenges the UDEQ’s permitting of our refinery conversion project alleging that the permits do not conform to the requirements of the Clean Air Act. As the permittee, we are the real party in interest and are defending the permits with UDEQ. In orders issued on July 10 and September 9, 2014, the UDEQ Administrative Law Judge (“ALJ”) recommended the Executive Director of UDEQ deny Petitioners’ request for a stay of the project and dismiss their challenge to the permit. The Executive Director’s final decision approving the ALJ’s recommended order is currently under appeal. While we cannot estimate the timing or estimated amount, if any, associated with the outcome of this matter, we do not believe it will have a material adverse impact on our liquidity, financial position, or results of operations.

We have investigated conditions at certain active wastewater treatment units at our Martinez refinery pursuant to an order received in 2004 from the San Francisco Bay Regional Water Quality Control Board that named us as well as two previous owners of the Martinez refinery. We cannot currently estimate the amount of the ultimate resolution of the order, but we believe it will not have a material adverse impact on our liquidity, financial position, or results of operations.

Tax. We are subject to extensive federal, state and foreign tax laws and regulations. Newly enacted tax laws and regulations, and changes in existing tax laws and regulations, could result in increased expenditures in the future. We are also subject to audits by federal, state and foreign taxing authorities in the normal course of business. It is possible that tax audits could result in claims against us in excess of recorded liabilities. However, we believe that resolution of any such claim(s) would not have a material impact on our liquidity, financial position, or results of operations. It is reasonably possible that unrecognized tax benefits may decrease by as much as $8 million in the next twelve months, related primarily to state apportionment matters. However, since the tax was fully paid in prior years, the unrecognized tax benefit would be eliminated without impacting expense.

NOTE 11 - STOCKHOLDERS’ EQUITY

Changes to equity during the three months ended March 31, 2015 are presented below (in millions):
 
Tesoro
Corporation
Stockholders’
Equity
 
Noncontrolling
 Interest
 
Total Equity
Balance at December 31, 2014 (a)
$
4,454

 
$
2,522

 
$
6,976

Net earnings
145

 
43

 
188

Purchases of common stock
(19
)
 

 
(19
)
Dividend payments
(54
)
 

 
(54
)
Shares issued for equity-based compensation awards (b)
6

 

 
6

Amortization of equity settled awards
10

 

 
10

Excess tax benefits from stock-based compensation arrangements, net
31

 

 
31

Taxes paid related to net share settlement of equity awards
(39
)
 

 
(39
)
Net proceeds from issuance of Tesoro Logistics LP common units

 
24

 
24

Distributions to noncontrolling interest

 
(44
)
 
(44
)
Transfers to (from) noncontrolling interest from (to) Tesoro related to:
 
 
 
 
 
TLLP’s sale of common units

 
(8
)
 
(8
)
Tesoro’s purchase of TLLP common units
8

 

 
8

Other
(1
)
 

 
(1
)
Balance at March 31, 2015 (a)
$
4,541

 
$
2,537

 
$
7,078

________________
(a)
We have 5.0 million shares of preferred stock authorized with no par value per share. No shares of preferred stock were outstanding as of March 31, 2015 and December 31, 2014.
(b)
We issued approximately 0.2 million shares and less than 0.1 million shares for proceeds of $6 million and $1 million primarily for stock option exercises under our equity-based compensation plans during the three months ended March 31, 2015 and 2014, respectively.


17



TESORO CORPORATION
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)

Share Repurchases

We are authorized by our Board to purchase shares of our common stock in open market transactions at our discretion. The Board’s authorization has no time limit and may be suspended or discontinued at any time. Purchases of our common stock can also be made to offset the dilutive effect of stock-based compensation awards and to meet our obligations under employee benefit and compensation plans, including the exercise of stock options and vesting of restricted stock and to fulfill other stock compensation requirements. We purchased approximately 0.3 million shares and 1.9 million shares of our common stock for approximately $19 million and $100 million during the three months ended March 31, 2015 and 2014, respectively.

Cash Dividends

We paid cash dividends totaling $54 million for the three months ended March 31, 2015 based on a $0.425 per share quarterly cash dividend on common stock. We paid cash dividends totaling $33 million for the three months ended March 31, 2014 based on a $0.25 per share quarterly cash dividend on common stock. On May 7, 2015, our Board declared a cash dividend of $0.425 per share payable on June 15, 2015 to shareholders of record on May 29, 2015.

NOTE 12 - STOCK-BASED COMPENSATION

Stock-based compensation expense (benefit), including discontinued operations, was as follows (in millions):
 
Three Months Ended
March 31,
 
 
2015
 
2014
Stock appreciation rights (a)
$
15

 
$
(18
)
Performance share awards (b)
4

 
(3
)
Market stock units (c)
5

 
3

Other stock-based awards (d)
4

 

Total Stock-Based Compensation Expense (Benefit)
$
28

 
$
(18
)
________________
(a)
We paid cash of $20 million and $4 million to settle 0.3 million and 0.2 million SARs that were exercised during the three months ended March 31, 2015 and 2014, respectively. We had $55 million and $60 million recorded in accrued liabilities associated with our SARs awards at March 31, 2015 and December 31, 2014, respectively.
(b)
We granted 0.1 million market condition performance share awards at a weighted average grant date fair value of $117.96 per share under the amended and restated 2011 Long-Term Incentive Plan (“2011 Plan”) during the three months ended March 31, 2015.
(c)
We granted 0.4 million market stock units at a weighted average grant date fair value of $114.57 per unit under the 2011 Plan during the three months ended March 31, 2015.
(d)
We have aggregated expenses for certain award types as they are not considered significant.

The income tax effect recognized in the income statement for stock-based compensation was a benefit of $11 million and an expense of $7 million for the three months ended March 31, 2015 and 2014, respectively. The reduction in current taxes payable recognized from tax deductions resulting from exercises and vestings under all of our stock-based compensation arrangements totaled $54 million and $3 million for the three months ended March 31, 2015 and 2014, respectively.


18



TESORO CORPORATION
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)

NOTE 13 - OPERATING SEGMENTS

The Company’s revenues are derived from three operating segments: refining, TLLP and retail. We own and operate six petroleum refineries located in California, Washington, Alaska, North Dakota and Utah that manufacture gasoline and gasoline blendstocks, jet fuel, diesel fuel, residual fuel oil and other refined products. We sell these refined products, together with refined products purchased from third parties, at wholesale through terminal facilities and other locations and opportunistically export refined products to foreign markets. TLLP’s assets and operations include certain crude oil gathering assets, natural gas gathering and processing assets and crude oil and refined products terminalling and transportation assets acquired from Tesoro and other third parties. Revenues from the TLLP segment are generated by charging fees for gathering crude oil and natural gas, for processing natural gas, and for terminalling, transporting and storing crude oil, and refined products. During 2014, we converted our company-operated retail locations to multi-site operators (“MSOs”) and retained the transportation fuel sales. Our retail segment sells gasoline and diesel fuel through MSOs and branded jobber/dealers in 16 states. Since we do not have significant operations in foreign countries, revenue generated and long-lived assets located in foreign countries are not material to our operations.

We evaluate the performance of our segments based primarily on segment operating income. Segment operating income includes those revenues and expenses that are directly attributable to management of the respective segment. Intersegment sales from refining to retail are made at prices which approximate market. TLLP revenues include intersegment transactions with our refining segment at prices which we believe are no less favorable to either party than those that could have been negotiated with unaffiliated parties with respect to similar services. Income taxes, other income, net, interest and financing costs, net, corporate depreciation and corporate general and administrative expenses are excluded from segment operating income.


19



TESORO CORPORATION
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)

Segment information related to continuing operations is as follows:
 
Three Months Ended
March 31,
 
 
2015
 
2014
 
(In millions)
Revenues
 
 
 
Refining:
 
 
 
Refined products
$
5,838

 
$
9,500

Crude oil resales and other
299

 
272

TLLP:
 
 
 
Gathering
77

 
25

Processing
67

 

Terminalling and transportation
119

 
102

Retail:
 
 
 
Fuel (a)
2,195

 
3,024

Other non-fuel (b)
16

 
61

Intersegment sales
(2,148
)
 
(3,051
)
Total Revenues
$
6,463

 
$
9,933

Segment Operating Income
 
 
 
Refining (c)
$
190

 
$
185

TLLP (d)
108

 
60

Retail (c)
126

 
19

Total Segment Operating Income
424

 
264

Corporate and unallocated costs (e)
(84
)
 
(26
)
Operating Income
340

 
238

Interest and financing costs, net (f)
(55
)
 
(77
)
Other expense, net
(1
)
 
(1
)
Earnings Before Income Taxes
$
284

 
$
160

Depreciation and Amortization Expense
 
 
 
Refining
$
119

 
$
101

TLLP
44

 
16

Retail
12

 
10

Corporate
4

 
3

Total Depreciation and Amortization Expense
$
179

 
$
130

Capital Expenditures
 
 
 
Refining
$
184

 
$
68

TLLP
66

 
26

Retail
4

 
5

Corporate
6

 
4

Total Capital Expenditures
$
260

 
$
103

________________
(a)
Federal and state motor fuel taxes on sales by our retail segment are included in both revenues and cost of sales in our condensed statements of consolidated operations. These taxes totaled $140 million and $141 million for the three months ended March 31, 2015 and 2014, respectively.
(b)
Includes merchandise revenue for the three months ended March 31, 2014.
(c)
Our refining segment uses RINs to satisfy its obligations under the Renewable Fuels Standard, in addition to physically blending required biofuels. Effective April 1, 2013, we changed our intersegment pricing methodology and no longer reduced the amount retail pays for the biofuels by the market value of the RINs due to significant volatility in the value of RINs. At the end of 2014, given the price of RINs has become more transparent in the price of biofuels, we determined our intersegment pricing methodology should include the market value of RINs as a reduction to the price our retail segment pays to our refining segment. We made this change effective January 1, 2015. We have not adjusted financial information presented for our refining and retail segments for the period ended March 31, 2014. Had we made this change effective January 1, 2014, operating income in our refining segment would have been reduced by $28 million with a corresponding increase to operating income in our retail segment.

20



TESORO CORPORATION
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)

(d)
We present TLLP’s segment operating income net of general and administrative expenses totaling $12 million and $4 million representing TLLP’s corporate costs for the three months ended March 31, 2015 and 2014, respectively, that are not allocated to TLLP’s operating segments.
(e)
Includes stock-based compensation expense of $28 million and benefit of $18 million for the three months ended March 31, 2015 and 2014, respectively. The significant impact to stock-based compensation expense during the three months ended March 31, 2015 compared to the prior period is primarily a result of changes in Tesoro’s stock price.
(f)
Includes charges totaling $31 million for premiums and unamortized debt issuance costs associated with the redemption of the 5.50% Senior Notes due 2019 during the three months ended March 31, 2014.

NOTE 14 - CONDENSED CONSOLIDATING FINANCIAL INFORMATION

Separate condensed consolidating financial information of Tesoro Corporation (the “Parent”), subsidiary guarantors and non-guarantors is presented below. At March 31, 2015, Tesoro and certain subsidiary guarantors have fully and unconditionally guaranteed our 4.250% Senior Notes due 2017, 5.375% Senior Notes due 2022, and 5.125% Senior Notes due 2024. TLLP, in which we had a 36% ownership interest as of March 31, 2015, and other subsidiaries have not guaranteed these obligations. As a result of these guarantee arrangements, we are required to present the following condensed consolidating financial information, which should be read in conjunction with the accompanying condensed consolidated financial statements and notes thereto. This information is provided as an alternative to providing separate financial statements for guarantor subsidiaries. Separate financial statements of Tesoro’s subsidiary guarantors are not included because the guarantees are full and unconditional and these subsidiary guarantors are 100% owned and are jointly and severally liable for Tesoro’s outstanding senior notes. The information is presented using the equity method of accounting for investments in subsidiaries. Certain intercompany and intracompany transactions between subsidiaries are presented gross and eliminated in the eliminations column. Additionally, the results of operations of the Hawaii Business have been reported as discontinued operations in these condensed consolidating statements of operations and comprehensive income for the three months ended March 31, 2015 and 2014.


21



TESORO CORPORATION
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)

Condensed Consolidating Statement of Operations
for the Three Months Ended March 31, 2015
(In millions)
 
Parent
Guarantor
Subsidiaries
Non-
Guarantors
Eliminations
Consolidated
Revenues
$

$
6,999

$
914

$
(1,450
)
$
6,463

Costs and Expenses:
 
 
 
 
 
Cost of sales

5,993

661

(1,314
)
5,340

Operating, selling, general and administrative expenses
4

609

123

(136
)
600

Depreciation and amortization expense

134

45


179

Loss on asset disposals and impairments

4



4

Operating Income (Loss)
(4
)
259

85


340

Equity in earnings of subsidiaries
157

16


(173
)

Interest and financing costs, net
(11
)
(18
)
(26
)

(55
)
Other income (expense), net

(4
)
3


(1
)
Earnings Before Income Taxes
142

253

62

(173
)
284

Income tax expense (benefit) (a)
(3
)
95

4


96

Net Earnings
145

158

58

(173
)
188

Less: Net earnings from continuing operations attributable to
   noncontrolling interest


43


43

Net Earnings Attributable to Tesoro Corporation
$
145

$
158

$
15

$
(173
)
$
145

 
 
 
 
 
 
Comprehensive Income
 
 
 
 
 
Total comprehensive income
$
145

$
158

$
58

$
(173
)
$
188

Less: Noncontrolling interest in comprehensive income


43


43

Comprehensive Income Attributable to Tesoro
   Corporation
$
145

$
158

$
15

$
(173
)
$
145

_________________
(a)
The income tax expense (benefit) reflected in each column does not include any tax effect of the equity in earnings from corporate subsidiaries, but does include the tax effect of the corporate partners’ share of partnership income.


22



TESORO CORPORATION
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)


Condensed Consolidating Statement of Operations
for the Three Months Ended March 31, 2014
(In millions)
 
Parent
Guarantor
Subsidiaries
Non-
Guarantors
Eliminations
Consolidated
Revenues
$

$
11,564

$
1,610

$
(3,241
)
$
9,933

Costs and Expenses:
 
 
 
 
 
Cost of sales

10,664

1,476

(3,192
)
8,948

Operating, selling, general and administrative expenses
1

612

58

(49
)
622

Depreciation and amortization expense

113

17


130

Gain on asset disposals and impairments

(1
)
(4
)

(5
)
Operating Income (Loss)
(1
)
176

63


238

Equity in earnings of subsidiaries (a)
86

14


(100
)

Interest and financing costs, net
(8
)
(59
)
(18
)
8

(77
)
Other income (expense), net

(1
)
8

(8
)
(1
)
Earnings Before Income Taxes
77

130

53

(100
)
160

Income tax expense (benefit) (b)
(1
)
51

6


56

Net Earnings from Continuing Operations
78

79

47

(100
)
104

Loss from discontinued operations, net of tax

(1
)


(1
)
Net Earnings
78

78

47

(100
)
103

Less: Net earnings from continuing operations attributable to
   noncontrolling interest


25


25

Net Earnings Attributable to Tesoro Corporation
$
78

$
78

$
22

$
(100
)
$
78

 
 
 
 
 
 
Comprehensive Income
 
 
 
 
 
Total comprehensive income
$
78

$
78

$
47

$
(100
)
$
103

Less: Noncontrolling interest in comprehensive income


25


25

Comprehensive Income Attributable to Tesoro
   Corporation
$
78

$
78

$
22

$
(100
)
$
78

_________________
(a)
Revised to conform to current period presentation of equity in earnings of subsidiaries that reflects equity in earnings of subsidiaries within the guarantor and non-guarantor columns net of intercompany amounts.
(b)
The income tax expense (benefit) reflected in each column does not include any tax effect of the equity in earnings from corporate subsidiaries, but does include the tax effect of the corporate partners’ share of partnership income.


23



TESORO CORPORATION
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)


Condensed Consolidating Balance Sheet as of March 31, 2015
(In millions)
 
Parent
Guarantor
Subsidiaries
Non-
Guarantors
Eliminations
Consolidated
ASSETS
Current Assets:
 
 
 
 
 
Cash and cash equivalents
$

$
400

$
59

$

$
459

Receivables, net of allowance for doubtful accounts
9

884

474


1,367

Short-term receivables from affiliates

35


(35
)

Inventories

2,398

134


2,532

Prepayments and other current assets
51

158

15

(1
)
223

Total Current Assets
60

3,875

682

(36
)
4,581

Net Property, Plant and Equipment

5,775

3,405


9,180

Investment in Subsidiaries
6,742

351


(7,093
)

Long-Term Receivables from Affiliates
2,450



(2,450
)

Long-Term Intercompany Note Receivable


1,376

(1,376
)

Other Noncurrent Assets:
 
 
 
 
 
Acquired intangibles, net

245

966


1,211

Other, net
6

1,048

257


1,311

Total Other Noncurrent Assets, Net
6

1,293

1,223


2,522

Total Assets
$
9,258

$
11,294

$
6,686

$
(10,955
)
$
16,283

 
 
 
 
 
 
LIABILITIES AND EQUITY
Current Liabilities:
 
 
 
 
 
Accounts payable
$

$
1,639

$
502

$

$
2,141

Short-term payables to affiliates


35

(35
)

Other current liabilities
193

535

137

(1
)
864

Total Current Liabilities
193

2,174

674

(36
)
3,005

Long-Term Payables to Affiliates

2,412

38

(2,450
)

Deferred Income Taxes
1,121




1,121

Other Noncurrent Liabilities
446

431

64


941

Debt, net of unamortized issuance costs
1,581

37

2,520


4,138

Long-Term Intercompany Note Payable
1,376



(1,376
)

Equity-Tesoro Corporation
4,541

6,240

853

(7,093
)
4,541

Equity-Noncontrolling Interest


2,537


2,537

Total Liabilities and Equity
$
9,258

$
11,294

$
6,686

$
(10,955
)
$
16,283



24



TESORO CORPORATION
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)


Condensed Consolidating Balance Sheet as of December 31, 2014
(In millions)
 
Parent
Guarantor
Subsidiaries
Non-
Guarantors
Eliminations
Consolidated
ASSETS
Current Assets:
 
 
 
 
 
Cash and cash equivalents
$

$
943

$
57

$

$
1,000

Receivables, net of allowance for doubtful accounts
6

912

517


1,435

Short-term receivables from affiliates

84


(84
)

Inventories

2,088

351


2,439

Prepayments and other current assets
71

115

16

(2
)
200

Total Current Assets
77

4,142

941

(86
)
5,074

Net Property, Plant and Equipment

5,666

3,379


9,045

Investment in Subsidiaries
6,592

362


(6,954
)

Long-Term Receivables from Affiliates
2,427



(2,427
)

Long-Term Intercompany Note Receivable


1,376

(1,376
)

Other Noncurrent Assets:
 
 
 
 
 
Acquired intangibles, net

249

973


1,222

Other, net
6

893

251


1,150

Total Other Noncurrent Assets, Net
6

1,142

1,224


2,372

Total Assets
$
9,102

$
11,312

$
6,920

$
(10,843
)
$
16,491

 
 
 
 
 
 
LIABILITIES AND EQUITY
Current Liabilities:
 
 
 
 
 
Accounts payable
$
1

$
1,779

$
690

$

$
2,470

Short-term payables to affiliates


84

(84
)

Other current liabilities
148

717

133

(2
)
996

Total Current Liabilities
149

2,496

907

(86
)
3,466

Long-Term Payables to Affiliates

2,399

28

(2,427
)

Deferred Income Taxes
1,098




1,098

Other Noncurrent Liabilities
447

296

47


790

Debt, net of unamortized issuance costs
1,578

39

2,544


4,161

Long-Term Intercompany Note Payable
1,376



(1,376
)

Equity-Tesoro Corporation
4,454

6,082

872

(6,954
)
4,454

Equity-Noncontrolling Interest


2,522


2,522

Total Liabilities and Equity
$
9,102

$
11,312

$
6,920

$
(10,843
)
$
16,491



25



TESORO CORPORATION
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)


Condensed Consolidating Statement of Cash Flows for the three March 31, 2015
(In millions)
 
Parent
Guarantor
Subsidiaries
Non-
Guarantors
Eliminations
Consolidated
Cash Flows From (Used In) Operating Activities
 
 
 
 
 
Net cash from (used in) operating activities
$
(10
)
$
(350
)
$
212

$

$
(148
)
Cash Flows From (Used In) Investing Activities
 
 
 
 
 
Capital expenditures

(191
)
(80
)

(271
)
Intercompany notes, net
106



(106
)

Other investing activities

(2
)


(2
)
Net cash from (used in) investing activities
106

(193
)
(80
)
(106
)
(273
)
Cash Flows From (Used In) Financing Activities
 
 
 
 
 
Borrowings under revolving credit agreements


99


99

Repayments on revolving credit agreements


(124
)

(124
)
Dividend payments
(54
)



(54
)
Net proceeds from issuance of Tesoro Logistics LP
   common units


24


24

Distributions to noncontrolling interest


(44
)

(44
)
Purchases of common stock
(19
)



(19
)
Taxes paid related to net share settlement of equity awards
(39
)



(39
)
Net intercompany repayments

(37
)
(69
)
106


Distributions to TLLP unitholders and general partner
10

6

(16
)


Other financing activities
6

31



37

Net cash used in financing activities
(96
)