Attached files

file filename
EX-32.2 - CERTIFICATION OF CHIEF FINANCIAL OFFICER PURSUANT TO SECTION 906 - ANDEAVORtso10k2015-ex322.htm
EX-23.1 - CONSENT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM (ERNST & YOUNG LLP) - ANDEAVORtso10k2015-ex231.htm
EX-10.63 - DESCRIPTION OF 2016 INCENTIVE COMPENSATION PROGRAM - ANDEAVORtso10k2015-ex1063.htm
EX-10.99 - TESORO CORPORATION NON-EMPLOYEE DIRECTOR COMPENSATION PROGRAM - ANDEAVORtso10k2015-ex1099.htm
EX-4.8 - SUPPLEMENTAL INDENTURE, DATED AS OF NOVEMBER 11, 2015 - ANDEAVORtso10k2015-ex48.htm
EX-99.1 - PRESS RELEASE DATED FEBRUARY 23, 2016 - ANDEAVORtso10k2015-ex991.htm
EX-31.2 - CERTIFICATION OF CHIEF FINANCIAL OFFICER PURSUANT TO SECTION 302 - ANDEAVORtso10k2015-ex312.htm
EX-10.104 - BACK-TO-BACK PURCHASE AND SALE AGREEMENT - ANDEAVORtso10k2015-ex10104.htm
EX-31.1 - CERTIFICATION OF CHIEF EXECUTIVE OFFICER PURSUANT TO SECTION 302 - ANDEAVORtso10k2015-ex311.htm
EX-21.1 - SUBSIDIARIES OF THE COMPANY - ANDEAVORtso10k2015-ex211.htm
EX-32.1 - CERTIFICATION OF CHIEF EXECUTIVE OFFICER PURSUANT TO SECTION 906 - ANDEAVORtso10k2015-ex321.htm
EX-4.11 - SUPPLEMENTAL INDENTURE, RELATING TO THE COMPANYS 5.125% SENIOR NOTES DUE 2024 - ANDEAVORtso10k2015-ex411.htm

 
UNITED STATES SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
_________________________
FORM 10‑K
(Mark One)
þ
ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
For the fiscal year ended December 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
incorporation or organization)
 
(I.R.S. Employer
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)
Securities registered pursuant to Section 12(b) of the Act:
Title of Each Class
 
Name of Each Exchange on Which Registered
Common Stock, $0.16 2/3 par value
 
New York Stock Exchange
Securities registered pursuant to Section 12(g) of the Act: None
Indicate by check mark if the registrant is a well-known seasoned issuer, as defined in Rule 405 of the Securities Act. Yes þ No ¨
Indicate by check mark if the registrant is not required to file reports pursuant to Section 13 or Section 15(d) of the Act. Yes ¨ No þ
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 if the disclosure of delinquent filers pursuant to Item 405 of Regulation S-K is not contained herein, and will not be contained, to the best of the registrant’s knowledge, in definitive proxy or information statements incorporated by reference in Part III of this Form 10-K or any amendment to this Form 10-K. þ
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. (Check one):
 
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
At June 30, 2015, the aggregate market value of the voting common stock held by non-affiliates of the registrant was approximately $10.3 billion based upon the closing price of its common stock on the New York Stock Exchange Composite tape. At February 18, 2016, there were 119,884,843 shares of the registrant’s common stock outstanding.
DOCUMENTS INCORPORATED BY REFERENCE:
Portions of the registrant’s Proxy Statement to be filed pursuant to Regulation 14A pertaining to the 2015 Annual Meeting of Stockholders are incorporated by reference into Part III hereof. The Company intends to file such Proxy Statement no later than 120 days after the end of the fiscal year covered by this Form 10-K.
 



TESORO CORPORATION
ANNUAL REPORT ON FORM 10-K
TABLE OF CONTENTS
 
PART I
Page
 
 
 
 
 
 
 
 
 
 
 
 
 
PART II
 
 
 
 
 
 
PART III
 
 
PART IV
 
 

This Annual Report on Form 10-K (including documents incorporated by reference herein) contains statements with respect to our expectations or beliefs as to future events. These types of statements are “forward-looking” and subject to uncertainties. See “Important Information Regarding Forward-Looking Statements.”



IMPORTANT INFORMATION REGARDING FORWARD-LOOKING STATEMENTS

This Annual Report on Form 10-K (including information incorporated by reference) includes and references “forward-looking statements” within the meaning of the Private Securities Litigation Reform Act of 1995. These statements relate to, among other things, expectations regarding refining margins, revenues, cash flows, capital expenditures, turnaround expenses and other financial items. These statements also relate to our business strategy, goals and expectations concerning our market position, future operations, margins and profitability. We have used the words “anticipate,” “believe,” “could,” “estimate,” “expect,” “intend,” “may,” “plan,” “predict,” “project,” “will,” “would” and similar terms and phrases to identify forward-looking statements in this Annual Report on Form 10-K, which speak only as of the date the statements were made.

Although we believe the assumptions upon which these forward-looking statements are based are reasonable, any of these assumptions could prove to be inaccurate and the forward-looking statements based on these assumptions could be incorrect.

The matters discussed in these forward-looking statements are subject to risks, uncertainties and other factors that could cause actual results and trends to differ materially from those made, projected, or implied in or by the forward-looking statements depending on a variety of uncertainties or other factors including, but not limited to:

the constantly changing margin between the price we pay for crude oil and other refinery feedstocks as well as renewable identification numbers (“RINs”) and environmental credits, and the prices at which we are able to sell refined products;
changes in the expected value of and benefits derived from acquisitions and capital projects;
changes in global economic conditions and the effects of the global economic downturn on our business, especially in California, and the business of our suppliers, customers, business partners and credit lenders;
changes in fuel and utility costs for our facilities;
changes in the cost or availability of third-party vessels, pipelines and other means of transporting crude oil feedstocks and refined products;
regulatory and other requirements concerning the transportation of crude oil, particularly from the Bakken area;
changes in the carrying costs of our inventory;
the timing and extent of changes in commodity prices and underlying demand for our refined products, natural gas and NGLs;
the availability and costs of crude oil, other refinery feedstocks, refined products and RINs;
changes in our cash flow from operations;
earthquakes or other natural disasters affecting operations;
direct or indirect effects on our business resulting from actual or threatened terrorist incidents, cyber-security breaches or acts of war;
weather conditions affecting our operations or the areas in which our refined products are marketed;
actions of customers and competitors;
state and federal environmental, economic, health and safety, energy and other policies and regulations, including those related to climate change and any changes therein, and any legal or regulatory investigations, delays, compliance costs or other factors beyond our control;
adverse rulings, judgments, or settlements in litigation or other legal or tax matters, including unexpected environmental remediation costs in excess of any reserves;
operational hazards inherent in refining operations and in transporting and storing crude oil and refined products;
changes in our credit profile;
changes in capital requirements or in execution of planned capital projects;
disruptions due to equipment interruption or failure at our facilities or third-party facilities;
seasonal variations in demand for refined products and natural gas;
risks related to labor relations and workplace safety; and
political developments.

Many of these factors, as well as other factors, are described in greater detail in the sections titled “Competition” and “Risk Factors” in Item 1 of Part I. All future written and oral forward-looking statements attributable to us or persons acting on our behalf are expressly qualified in their entirety by the previous statements. The forward-looking statements in this Annual Report on Form 10-K speak only as of the date of this Annual Report on Form 10-K. We undertake no obligation to update any information contained herein or to publicly release the results of any revisions to any forward-looking statements that may be made to reflect events or circumstances that occur, or that we become aware of, after the date of this Annual Report on Form 10-K.

1


GLOSSARY OF TERMS

Alkylation - A process that chemically combines isobutane with other hydrocarbons through the control of temperature and pressure in the presence of an acid catalyst. This process produces alkylates, which have a high octane value and are blended into gasoline to improve octane values.

API - American Petroleum Institute - The main U.S. trade association for the oil and natural gas industry.

API Gravity - A scale for denoting the lightness or heaviness of crude oil and other liquid hydrocarbons. Calibrated in API degrees (or degrees API), it is used universally to express a crude oil’s relative density in an inverse measure - the lighter the crude, the higher the API gravity, and vice versa.

Blendstocks - Components used for blending or compounding into finished jet or gasoline (e.g., straight-run gasoline, alkylate, reformulate, benzene, toluene, and xylene). Excludes oxygenates (alcohols, ethers), butane and pentanes.

Calcining - A process whereby green or raw petroleum coke from the refining process is converted to a high grade coke by thermally treating it to remove moisture and volatile combustible matter. The upgraded high grade calcined coke is typically used by the aluminum industry.

CARB - California Air Resources Board - Gasoline and diesel fuel sold in the state of California are regulated by CARB and require stricter quality and emissions reduction performance than required by other states.

Cogeneration Facility - A plant that produces both steam and electricity for use in refinery operations or for sale to third parties.

Cracking - The process of breaking down larger hydrocarbon molecules into smaller molecules, using catalysts and/or elevated temperatures and pressures.

Deasphalting - A solvent extraction process of recovering higher-value oils from refining residues.

Delayed Coking - A process by which the heaviest crude oil fractions can be thermally cracked under conditions of elevated temperatures to produce both refined products and petroleum coke.

Exchange Arrangement - An agreement providing for the delivery of crude oil or refined products to/from a third party, in exchange for the delivery of crude oil or refined products to/from the third party.

FERC - Federal Energy Regulatory Commission.

Fluid Catalytic Cracking - A process that breaks down larger, heavier, and more complex hydrocarbon molecules into simpler and lighter molecules through the use of a catalytic agent and is used to increase the yield of gasoline. Fluid catalytic cracking uses a catalyst in the form of very fine particles, which behave as a fluid when aerated with a vapor.

Fractionation - The process of separating natural gas liquids into its component parts by heating the natural gas liquid stream and boiling off the various fractions in sequence from the lighter to the heavier hydrocarbon.

Fuel Margin - The margin on fuel products sold through our marketing segment calculated as revenues less cost of sales. Cost of sales in fuel margin are based on purchases from our refining segment and third parties using average bulk market prices adjusted for transportation and other differentials.

Gas Processing - A complex industrial process designed to remove the heavier and more valuable natural gas liquids components from raw natural gas allowing the residue gas remaining after extraction to meet the quality specifications for long-haul pipeline transportation or commercial use.

Gross Refining Margin - The margin on products manufactured and purchased, including those sold to our marketing segment. Gross refining margin is the difference between the prices of all manufactured refined products sold and the cost of crude oil and other feedstocks used to produce refined products, including the cost of transportation and distribution.

Heavy Crude Oil - Crude oil with an API gravity of 24 degrees or less. Heavy crude oil is typically sold at a discount to lighter crude oil.


2


Heavy Fuel Oils, Residual Products, Internally Produced Fuel and Other - Products other than gasoline, jet fuel and diesel fuel produced in the refining process. These products include residual fuels, gas oils, propane, petroleum coke, asphalt and internally produced fuel.

Hydrocracking - A process that uses a catalyst to crack heavy hydrocarbon molecules in the presence of hydrogen. Major products from hydrocracking are distillates, naphtha, propane and gasoline components such as butane.

Hydrotreating - A process that removes sulfur from refined products in the presence of catalysts and substantial quantities of hydrogen to reduce sulfur dioxide emissions that result from the use of the products.

Isomerization - A process that alters the fundamental arrangement of atoms in the molecule without adding or removing anything from the original material. The process is used to convert normal butane into isobutane and normal pentane into isopentane and hexane into isohexane.

Jobber/Dealer - Retail station owned by a third party that sells products purchased from or through us.

Light Crude Oil - Crude oil with an API gravity greater than 24 degrees. Light crude oil is typically sold at a premium to heavy crude oil.

Manufacturing Costs - Costs associated directly with the manufacturing process including cash operating expenses, but excluding depreciation and amortization.

Mbpd - Thousand barrels per day.

MMBtu - Million British thermal units.

MMcf - Million cubic feet.

Multi-Site Operator (“MSO”) - Companies licensed to operate retail stations in which we have a fee or leasehold interest in the property and title to the fuel until sold to the consumer. MSOs operate the non-fuel business at the location and employ the operating personnel.

Naphtha - Refined product used as a gasoline blending component, a feedstock for reforming and as a petrochemical feedstock.

NGL - Natural gas liquids.

Other Feedstocks - Any non-crude raw or semifinished material, which is further processed in various units of a refinery.

Refined Products - Hydrocarbon compounds, such as gasoline, diesel fuel, jet fuel and residual fuel that are produced by a refinery.

Refining Yield - Volumes of product produced from crude oil and feedstocks.

Reforming - A process that uses controlled heat and pressure with catalysts to rearrange certain hydrocarbon molecules into petrochemical feedstocks and higher octane stocks suitable for blending into finished gasoline.

Residual crude oil - The remainder of the crude oil after gasoline and distillate fuel oils have been extracted through distillation.

Sweet crude oil - Crude oil containing less than 0.45% sulfur.

Sour crude oil - Crude oil containing greater than 0.45% sulfur.

Throughput - The quantity of crude oil and other feedstocks processed at a refinery measured in barrels per day.

Turnaround - The scheduled shutdown of a refinery processing unit for significant overhaul and refurbishment. Turnaround expenditures are capitalized and amortized over the period of time until the next planned turnaround of the unit.

Unit Train - A train consisting of approximately one hundred rail cars containing a single material (such as crude oil) that is transported by the railroad as a single unit from its origin point to the destination, enabling decreased transportation costs and faster deliveries.

Vacuum Distillation - Distillation under reduced pressure, which lowers the boiling temperature of crude oil in order to distill crude oil components that have high boiling points.

3


PART I

ITEM 1. BUSINESS

Statements in this Annual Report on Form 10-K, that are not historical in nature should be deemed forward-looking statements that are inherently uncertain. See “Important Information Regarding Forward-Looking Statements” for a discussion of forward-looking statements and factors that could cause actual outcomes and results to differ materially from those projected.

As used in this annual report on Form 10-K, the terms “Tesoro,” the “Company,” “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”), a publicly traded limited partnership, 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.

Tesoro was incorporated in Delaware in 1968. Based in San Antonio, Texas, we are one of the largest independent petroleum refining, logistics and marketing companies in the United States. Our subsidiaries, operating through three business segments, primarily transport crude oil and manufacture, transport and sell transportation fuels. Our refining operating segment (“Refining”) refines crude oil and other feedstocks into transportation fuels, such as gasoline and gasoline blendstocks, jet fuel and diesel fuel, as well as other products, including heavy fuel oils, liquefied petroleum gas and petroleum coke for sale in bulk markets to a wide variety of customers within our markets. Our logistics operating segment (“Logistics”), which is comprised of TLLP’s assets and operations, includes certain crude oil and natural gas gathering assets, natural gas and natural gas liquid (“NGL”) processing assets, and crude oil and refined products terminalling, transportation and storage assets acquired from Tesoro and third parties. The TLLP financial and operational data presented include the historical results of all assets acquired from Tesoro prior to the dates they were acquired by TLLP. The historical results of operations of these assets have been retrospectively adjusted to conform to the current presentation. Our marketing segment (“Marketing”) sells transportation fuels through branded and unbranded channels. The branded business sells transportation fuels using a unique brand portfolio with the ARCO®, Shell®, Exxon®, Mobil®, USA GasolineTM, RebelTM and Tesoro® brands across a network of 2,397 retail stations. See Notes 17 and 21 to our consolidated financial statements in Part II, Item 8 for additional information on our operating segments and properties.

REFINING

Overview

We currently own and operate six petroleum refineries located in the western United States with a combined crude oil capacity of 875 Mbpd. Our refining segment buys and refines crude oil and other feedstocks into transportation fuels that we sell to a wide variety of customers. Demand for gasoline is higher during the spring and summer months than during the fall and winter months in most of our markets due to seasonal changes in highway traffic. As a result, our operating results for both the refining and marketing segments for the first and fourth quarters are typically lower than the second and third quarters.


4


Crude oil capacity and actual throughput by refinery are as follows (in Mbpd) as of and for the year ended December 31, 2015:
Refinery
Crude Oil Capacity (a)
 
Throughput (a)
California
 
 
 
Martinez, California
166

 
123

Los Angeles, California
380

 
369

Pacific Northwest
 
 
 
Anacortes, Washington
120

 
107

Kenai, Alaska
72

 
64

Mid-Continent
 
 
 
Mandan, North Dakota
74

 
73

Salt Lake City, Utah
63

 
51

Total (b)
875

 
787

____________________
(a)
Throughput can exceed crude oil capacity due to the processing of other feedstocks in addition to crude oil. In December 2015, we updated our crude oil capacity from 850 Mbpd to 875 Mbpd.
(b)
See discussion regarding changes in total refining throughput in Management’s Discussion and Analysis of Financial Condition and Results of Operations in Part II, Item 7.

Feedstock Purchases.  We purchase crude oil and other feedstocks from domestic and foreign sources either through the spot market or term agreements with renewal provisions and volume commitments. We purchase domestic crude oil produced primarily in North Dakota, Alaska, California, Utah and Wyoming. We purchase foreign crude oil produced in South America, the Middle East, Canada, western Africa and other locations. We lease access to the Trans-Panama pipeline (the “Panama Pipeline”) and several tanks in Panama through agreements expiring in 2017 that allow us to deliver the crude oil acquired in Africa and the Atlantic region of South America to refineries on the West Coast. We also transport crude oil across the Panama Pipeline for third parties. At December 31, 2015, we held title to approximately 7.1 million barrels of crude oil in transit or in Panama for delivery to our refineries on the West Coast or to third parties.

Sources of our crude oil purchases based on volumes purchased were as follows at December 31, 2015:
Crude Oil Source
 
Domestic
59
%
Foreign
41

Total
100
%

Our refineries process both heavy and light crude oil. Light crude oil, when refined, produces a greater proportion of higher value transportation fuels such as gasoline, diesel and jet fuel, and as a result is typically more expensive than heavy crude oil. In contrast, heavy crude oil produces more low value by-products and heavy residual oils. These lower value products can be upgraded to higher value products through additional, more complex and expensive refining processes. Primary crude oil characteristics and sources of crude oil for our refineries are as follows:
 
Characteristics
 
 
Sources
 
Sweet
Sour
Residual
Other Feedstocks
Blendstocks
 
 
United States
Canada
South & Central America
Asia
Middle East & Africa
Los Angeles
 
 
Martinez
 
 
Anacortes
 
 
 
 
 
Kenai
 
 
 
 
 
 
 
 
Mandan
 
 
 
 
 
 
 
 
Salt Lake City
 
 
 
 
 
 
 
 


5


Refined Products.  The total products produced in the refining process are referred to as the refining yield. The refining yield consists primarily of transportation fuels, including gasoline and gasoline blendstocks, jet fuel and diesel fuel, but may also include other products such as heavy fuel oils, liquefied petroleum gas, petroleum coke, calcined coke and asphalt.

Throughput Volumes and Refining Yields. Throughput volumes by feedstock type and region and our refining yield by region are summarized below (in Mbpd) for the year ended December 31, 2015:
 
California
 
Pacific Northwest
 
Mid-Continent
 
Total Refining
 
Volume
 
%
 
Volume
 
%
 
Volume
 
%
 
Volume
 
%
Throughput
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Heavy crude
146

 
29
 
5

 
3
 

 

 
151

 
19
Light crude
309

 
63
 
151

 
89
 
120

 
97

 
580

 
74
Other feedstocks
38

 
8
 
14

 
8
 
4

 
3

 
56

 
7
Total
493

 
100
 
170

 
100
 
124

 
100

 
787

 
100
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Yield
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Gasoline and gasoline blendstocks
264

 
50
 
75

 
43
 
70

 
54

 
409

 
49
Diesel fuel
100

 
19
 
31

 
18
 
38

 
29

 
169

 
20
Jet fuel
74

 
14
 
34

 
19
 
11

 
9

 
119

 
14
Heavy fuel oils, residual products,
   internally produced fuel and
   other (a)
93

 
17
 
36

 
20
 
10

 
8

 
139

 
17
Total
531

 
100
 
176

 
100
 
129

 
100

 
836

 
100
________________
(a)
The majority of internally produced fuel is consumed during the refining process.

California Refineries

Los Angeles

Our Los Angeles refinery is located in the Carson-Wilmington area of California on approximately 930 acres about 20 miles south of Los Angeles. The refinery’s major processing units include crude distillation, vacuum distillation, delayed coking, hydrocracking, naphtha reforming, hydrotreating, fluid catalytic cracking, butane isomerization and alkylation. The refinery produces a high proportion of transportation fuels, including CARB gasoline and CARB diesel fuel, conventional gasoline, diesel fuel and jet fuel. The refinery also produces heavy fuel oils, liquefied petroleum gas, petroleum coke, calcined coke and electricity.

Martinez

Our Martinez refinery is located in Martinez, California on approximately 2,200 acres about 30 miles east of San Francisco. The refinery’s major processing units include crude distillation, vacuum distillation, delayed coking, hydrocracking, naphtha reforming, hydrotreating, fluid catalytic cracking and alkylation units. The refinery produces a high proportion of transportation fuels, including CARB gasoline and CARB diesel fuel, conventional gasoline and diesel fuel. The refinery also produces liquefied petroleum gas and petroleum coke.

Pacific Northwest Refineries

Anacortes

Our Anacortes refinery is located in northwest Washington on approximately 950 acres about 70 miles north of Seattle. The refinery’s major processing units include crude distillation, vacuum distillation, deasphalting, naphtha reforming, hydrotreating, fluid catalytic cracking, butane isomerization and alkylation units, which enable us to produce a high proportion of transportation fuels such as conventional gasoline, diesel fuel and jet fuel. The refinery also produces heavy fuel oils and liquefied petroleum gas.


6


Kenai

Our Kenai refinery is located on the Cook Inlet near Kenai, Alaska on approximately 450 acres about 60 miles southwest of Anchorage. The refinery’s major processing units include crude distillation, vacuum distillation, hydrocracking, hydrotreating, naphtha reforming, diesel desulfurizing and light naphtha isomerization units, which produce transportation fuels, including gasoline and gasoline blendstocks, jet fuel and diesel fuel, as well as other products, including heating oil, heavy fuel oils, liquefied petroleum gas and asphalt.

Mid-Continent Refineries

Mandan

Our Mandan refinery is located on the Missouri River near Mandan, North Dakota on approximately 950 acres. The refinery’s major processing units include crude distillation, fluid catalytic cracking, naphtha reforming, hydrotreating and alkylation units, which produce transportation fuels, including gasoline, diesel fuel and jet fuel, as well as other products, including heavy fuel oils and liquefied petroleum gas.

Salt Lake City

Our Salt Lake City refinery is located in Salt Lake City, Utah on approximately 150 acres. The refinery’s major processing units include crude distillation, fluid catalytic cracking, naphtha reforming, hydrotreating and alkylation units, which produce transportation fuels, including gasoline, diesel fuel and jet fuel, as well as other products, including heavy fuel oils and liquefied petroleum gas. In 2015, we completed capital improvements to the Utah refinery designed to improve yields of gasoline and diesel fuel, improve the flexibility of processing crude feedstocks, which increased throughput capacity to 63 Mbpd.

Logistics

Terminal and Pipelines. We transport, store and distribute crude oil, feedstocks and refined products through TLLP and third-party terminals and pipelines in our market areas and through purchases and exchange arrangements with other refining and marketing companies. Our refineries are integrated with each other via pipelines, terminals and barges. The transportation links that connect our refineries allow for movement of intermediate and finished products, which permit us to optimize our value chain and maximize utilization.

Marine. We charter tankers to optimize the transportation of crude oil, feedstocks, and refined products within our refinery system and ensure adequate shipping capacity. Our current U.S.-flag and foreign-flag tanker time charters will expire between 2016 and 2019, unless we exercise renewal options. We also time charter barge and tug units and ship assist tugs with varying terms ending in 2016 through 2018, though some of these barges have renewal options. All of our chartered tankers and barges are double-hulled.

Rail. We maintain a fleet of leased rail cars to transport crude and support our refining operations. During 2015, Tesoro started taking delivery of 210 enhanced DOT120J200 tank cars for crude oil service. These cars exceed the new federal standards issued by the U.S. Department of Transportation (“DOT”) in May 2015. The new DOT regulations allow for an orderly phase out or retrofit of previous generation rail cars. Tesoro will continue to comply with all regulatory requirements and we intend to continue ordering new rail cars that are among the safest available at the time of order.

Refined Product Sales

Our marketing segment provides a committed outlet for the majority of the gasoline produced by our refineries; however, we also sell gasoline and gasoline blendstocks, jet fuel, diesel fuel, heavy fuel oils and residual products in bulk markets in the western United States. We also export gasoline and diesel fuel to certain foreign markets. Our bulk sales are primarily to independent unbranded distributors, other refining and marketing companies, utilities, railroads, airlines and marine and industrial end-users. Our sales include refined products that we manufacture, purchase or receive through exchange arrangements.

Sales of Purchased Products.  In the normal course of business, we purchase refined products manufactured by others for resale through our marketing and bulk operations to our customers to meet local market demands and fulfill supply commitments. We purchase these refined products, primarily gasoline, jet fuel, diesel fuel and industrial and marine fuel blendstocks, mainly in the spot market. Refined product sales may exceed our yield due to purchased refined products.


7


TLLP

Overview

TLLP is a fee-based, growth-oriented Delaware limited partnership formed by us to own, operate, develop and acquire logistics assets. TLLP is a publicly traded limited partnership that is traded on the New York Stock Exchange under the symbol TLLP and operates with three segments: Gathering, Processing, and Terminalling and Transportation. TLLP owns and operate over 3,500 miles of crude oil, refined products and natural gas pipelines, 29 crude oil and refined products truck and marine terminals that have over 15 million barrels of storage capacity. In addition, TLLP owns and operates four natural gas processing complexes and one fractionation facility. TLLP generates revenues 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. TLLP’s customers experience modest seasonality due to regulatory restrictions, weather conditions and seasonal refined product demand, resulting in higher volumes during the summer months and lower volumes during the winter months. Many of the effects of seasonality on TLLP’s operating results are mitigated through fee-based commercial agreements that include minimum volume commitments.

TLLP intends to continue expanding its business through organic growth, including the construction of new assets and increasing the utilization of existing assets, and by acquiring assets from us and third parties. TLLP’s continued expansion of the logistics business will allow us to optimize the value of our assets within the midstream and downstream value chain.

Gathering

TLLP’s Gathering segment consists of crude oil, natural gas and produced water gathering systems in the North Dakota Williston Basin/Bakken Shale area (the “Bakken Region”) and the Uinta, Vermillion and greater Green River basins (the “Rockies Region”). TLLP’s High Plains System, located in the Bakken Region, gathers and transports crude oil from various production locations in this area for transportation to Tesoro’s North Dakota refinery and other destinations in the Bakken Region, including export rail terminals and pipelines. TLLP’s natural gas gathering systems include the Uinta Basin, Vermillion, Williston, Green River, and Three Rivers gathering systems, its equity method investments in Uintah Basin Field Services, L.L.C. and Three Rivers Gathering, L.L.C., and two pipelines regulated by the Federal Energy Regulatory Commission (“FERC”) through which it provides natural gas and crude oil transportation services.

The following table summarizes certain TLLP Gathering segment operating information for the year ended December 31, 2015:
Crude oil transported (Mbpd):
 
Pipelines (a)
188

Trucking
38

Natural gas transported (thousands of MMBtu/day):
 
Pipelines
1,077

____________________
(a)
Also includes barrels that were gathered and then delivered into TLLP’s High Plains pipeline by truck.

Processing

TLLP’s Processing segment consists of four gas processing complexes and one fractionation complex. TLLP processes gas for certain producers under “keep-whole” processing agreements. Under a keep-whole agreement, a producer transfers title to the NGLs produced during gas processing, and the processor, in exchange, delivers to the producer natural gas with a BTU content equivalent to the NGLs removed. The operating margin for these agreements is determined by the spread between NGL sales prices and the price paid to purchase the replacement natural gas (“Shrink Gas”). Tesoro entered into a five-year agreement with TLLP, which substantially transfers the commodity risk exposure associated with these keep-whole processing agreements from TLLP to Tesoro (the “Keep-Whole Commodity Agreement”). Under the Keep-Whole Commodity Agreement with Tesoro, Tesoro pays TLLP a fee to process NGLs related to keep-whole agreements and delivers Shrink Gas to the producers on behalf of TLLP. TLLP pays Tesoro a marketing fee in exchange for assuming the commodity risk.

Terms and pricing under this agreement are revised each year. The Keep-Whole Commodity Agreement minimizes the impact for TLLP of commodity price movement during the annual period subsequent to renegotiation of terms and pricing each year. However, the annual fee TLLP charges Tesoro could be impacted as a result of any changes in the spread between NGL sales prices and the price of natural gas.


8


The following table summarizes certain TLLP Processing segment operating information as of and for the year ended December 31, 2015:
 
Throughput Capacity (a)
 
Throughput (a)
Processing Complexes
1,432

 
910

Fractionation Complex
15,000

 
2,931

____________________
(a)
Capacity and throughput is measured in MMcf/d for processing complexes and barrels per day for the fractionation complex.

Terminalling and Transportation

TLLP’s Terminalling and Transportation segment consists of:

25 crude oil and refined products terminals and storage facilities in the western and midwestern U.S. that are supplied by Tesoro-owned and third-party pipelines, trucks and barges;
four marine terminals in California that load and unload vessels;
130 miles of pipelines, which transport products and crude oil from Tesoro’s refineries to nearby facilities in Salt Lake City and Los Angeles and a 50% fee interest in a 16-mile pipeline that transports jet fuel from our Los Angeles refinery to the Los Angeles International Airport;
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 (the “Northwest Products Pipeline”);
a rail-car unloading facility in Washington that receives crude oil transported on unit trains leased by Tesoro;
a petroleum coke handling and storage facility in Los Angeles that handles and stores petroleum coke from Tesoro’s Los Angeles refinery; and
a regulated common carrier refined products pipeline system connecting our Kenai refinery to Anchorage, Alaska.

The following table summarizes certain TLLP terminalling throughput information (in Mbpd) as of and for the year ended December 31, 2015:
 
Daily Available
Terminalling
Capacity
 
Throughput
Terminals and storage facilities
1,005

 
430

Marine terminals
795

 
456

Rail facility
50

 
49

Total Crude Oil and Refined Products Terminals
1,850

 
935


The following table summarizes certain TLLP transportation volume information for the year ended December 31, 2015:
Transportation volumes (Mbpd):
 
Tesoro
754

Third parties
71

Total
825



9


MARKETING

Our Marketing segment sells gasoline and diesel fuel in the western U.S. through branded and unbranded channels. Our branded operations include transportation fuel sales through retail stations and agreements with third-party dealers and distributors (or “Jobber/Dealers”). Our unbranded, or wholesale, business includes volumes sold through agreements with third-party Jobber/Dealers. Our branded and unbranded channels provide a committed outlet for the majority of the gasoline produced by our refineries. The following table sets forth the approximate number of retail outlets by state included in our Marketing segment’s branded network of retail stations under the ARCO®, Shell®, Exxon®, Mobil®, USA GasolineTM, RebelTM and Tesoro® brands as of December 31, 2015.
State
 
ARCO®
 
Shell®
 
Exxon®
 
Mobil®
 
Other (a)
 
Total
California
 
 
 
 
 
 
1,365

Minnesota
 
 
 
 
 
 
250

Nevada
 
 
 
 
 
 
 
132

Utah
 
 
 
 
 

 
 
118

Idaho
 
 
 
 
 
 
 
 
110

Arizona
 
 
 
 
 

 
104

North Dakota
 

 
 
 
 
 
103

Alaska
 
 
 
 
 
 
 
 
 
 
73

Washington
 
 
 
 
 
 
 
 
 
60

Other (b)
 
 
 
 
 
 
 
 
82

Total
 

 

 

 

 

 
2,397

____________________
(a)
Other brands include USA GasolineTM, Tesoro®, RebelTM and ThriftyTM.
(b)
Other states include Colorado, Iowa, New Mexico, Oregon, South Dakota, Wisconsin and Wyoming.

COMPETITION

The refining industry is highly competitive and includes a number of companies that have greater financial and other resources, including proprietary crude oil supplies. We obtain all of our crude oil from third-party sources and compete in the world market for the crude oil and feedstocks we process, and for the customers who purchase refined products. The availability and cost of crude oil and other feedstocks, as well as the prices of the products we produce, are heavily influenced by global supply and demand dynamics.

We compete with other refiners and with importers for customers in most of our market areas including sales of our distillate production through wholesale and bulk channels. Competition and concentrations specific to each of our refineries are as follows:

Our Martinez, Los Angeles and Anacortes refineries compete with several refiners in the U.S., Canada and throughout the Pacific Rim.
Our Kenai refinery competes with two other in-state refineries along with refineries on the West Coast and in Asia. Our jet fuel sales in Alaska are concentrated in Anchorage, where we are one of the principal suppliers at the Anchorage International Airport.
Our mid-continent refineries in Mandan, North Dakota and Salt Lake City, Utah compete with supplies provided from refineries in surrounding states and pipeline supply from the Midwest and Gulf Coast regions.

We sell gasoline through our network of branded retail stations as well as on an unbranded, or wholesale, and bulk basis. Our marketing operations compete with other independent marketers, integrated oil companies and high-volume retailers. We sell gasoline and diesel in western and midwestern states through a network of retail stations, including MSOs, and branded and unbranded Jobber/Dealers. Competitive factors that affect retail marketing include product price, station appearance, location, convenience and brand awareness. Large national retailers as well as regional retailers continue to grow their retail fuel business.


10


TLLP’s gathering business competes with a number of transportation, midstream, and trucking companies for the gathering and transportation of crude oil and natural gas, as applicable, in the areas in which they operate. TLLP’s gathering business competes for opportunities to build gathering lines from producers or other pipeline companies, to provide accessible and flexible service to producers, and facilitate the transportation of crude oil and natural gas to applicable markets. In processing, TLLP competes with midstream companies and producers primarily based on reputation, commercial terms, reliability, service levels, flexibility, access to markets, location, available capacity, capital expenditures and fuel efficiencies. TLLP’s terminalling and transportation business competes predominately with independent terminal and pipeline companies, integrated petroleum companies, refining and marketing companies and distribution companies with marketing and trading arms. Competition in particular geographic areas is affected primarily by the volumes of refined products produced by refineries located in those areas, the availability of refined products and the cost of transportation to those areas from refineries located in other areas.

GOVERNMENT REGULATION AND LEGISLATION

Regulatory Controls and Expenditures

Like other companies engaged in similar businesses, we are subject to extensive and frequently changing federal, state, regional and local laws, regulations and ordinances relating to the environment, including those governing emissions or discharges to land, air and water, the handling and disposal of solid and hazardous wastes and the remediation of contamination. While we believe our facilities are in substantial compliance with current requirements, we will continue to engage in efforts to meet new legislative and regulatory requirements applicable to our operations. Compliance with these laws and regulations may require us to make significant expenditures. For example:

The U.S. Environmental Protection Agency (“EPA”) has promulgated multiple regulations to control greenhouse gas emissions under the Federal Clean Air Act. The first of these regulations, finalized on April 1, 2010, set standards for the control of greenhouse gas emissions from light trucks and cars. The U.S. Congress may also consider legislation regarding greenhouse gas emissions in the future.
The Energy Independence and Security Act of 2007 mandates the blending of increasing amounts of renewable fuels in the supply of transportation fuels used domestically. This use of renewable fuels is required of all manufacturers and importers of transportation fuels sold domestically. The EPA implemented the second renewable fuel standard (“RFS2”) through regulation and RFS2 requires transportation fuel manufacturers to provide proof of purchase of these renewable fuels. The costs associated with RFS2 compliance are uncertain and fluctuate with market dynamics.
The EPA adopted a new rule in 2015 requiring further reductions in the National Ambient Air Quality Standard (“NAAQS”) for ozone.
The DOT issued new regulations in 2015 governing the design of rail cars used to transport petroleum and other materials.
In California, Assembly Bill 32 (“AB 32”), created a statewide cap on greenhouse gas emissions and requires that the state return to 1990 emission levels by 2020. AB 32 also created a low carbon fuel standard, which requires a 10% reduction in the carbon intensity of fuels by 2020.
In California, the Board for the South Coast Air Quality Management District passed amendments to the Regional Clean Air Incentives Market (“RECLAIM”) on December 4, 2015. The RECLAIM Amendments become effective in 2016 and require a staged reduction of Nitrogen Oxides through 2022.
In California, pre-rulemaking is underway to implement the recommendations made in 2014 by the Governor’s Interagency Refinery Safety Working Group.

The impact of these and other regulatory and legislative developments is likely to result in increased compliance costs, additional operating restrictions on our business and an increase in the cost of the products we manufacture. Depending on market conditions, we may attempt to pass these costs on to consumers. If that is not possible, the changes could have an adverse impact on our financial position, results of operations, and liquidity. We cannot currently determine the amounts of such future impacts. For additional information regarding our environmental matters see “Environmental and Other Matters” in Management’s Discussion and Analysis of Financial Condition and Results of Operations in Item 7.


11


Oil Spill Prevention and Response

We operate in environmentally sensitive coastal waters, where tanker, pipeline, rail cars and other petroleum product transportation operations are regulated by federal, state and local agencies and monitored by environmental interest groups. The transportation of crude oil and refined products involves risk and subjects us to the provisions of the Federal Oil Pollution Act of 1990 and related state requirements, which require that most petroleum refining, transport and storage companies maintain and update various oil spill prevention and oil spill contingency plans. Our spill prevention plans and procedures are frequently reviewed and modified to prevent releases and to minimize potential impacts to land and water should a release occur. We have submitted these plans and received federal and state approvals necessary to comply with the Federal Oil Pollution Act of 1990 and related regulations. At our facilities adjacent to water, federally certified Oil Spill Response Organizations (“OSROs”) are available to respond to a spill on water from above ground storage tanks or pipelines. We have contracts in place to ensure support from the respective OSROs for spills in both open and inland waters, as well as on land.

We currently charter tankers to ship crude oil from foreign and domestic sources to our California, Washington and Alaska refineries. The tanker owners contract with OSROs to comply with federal, state and local requirements, except in Alaska where we contract with the OSROs. The OSROs are capable of responding to an oil spill equal to the greatest tanker volume delivering crude oil to our refineries. Those volumes range from 350,000 barrels to two million barrels.

We have entered into spill-response contracts with various OSROs to provide spill-response services, if required, to respond to a spill of oil originating from our facilities. We have spill-response agreements in Alaska with Cook Inlet Spill Prevention and Response, Incorporated and with Alyeska Pipeline Service Company. We also have entered into contracts with Marine Spill Response Corporation for the San Francisco Bay, Puget Sound, the Port of Los Angeles and the Port of Long Beach, and the Clean Rivers Cooperative, Inc. for the Columbia River, and Bay West, Inc. in our Mid-Continent region. These OSROs are capable of responding to an oil spill on water equal to the greatest volume above ground storage tank at our facilities or pipelines. Those volumes range from 50,000 to 600,000 barrels. We also contract with one spill-response organization outside the U.S. to support our shipments in foreign waters. In addition, we contract with various spill-response specialists to ensure appropriate expertise is available for any contingency. We believe these contracts provide the additional services necessary to meet or exceed all regulatory spill-response requirements and support our commitment to environmental stewardship.

The OSROs are rated and certified by the U.S. Coast Guard and are required to annually demonstrate their response capability to the U.S. Coast Guard and state agencies. The OSROs rated and certified to respond to open water spills must demonstrate the capability to recover up to 50,000 barrels of oil per day and store up to 100,000 barrels of recovered oil at any given time. The OSROs rated and certified to respond to inland spills must demonstrate the capability to recover from 1,875 to 7,500 barrels of oil per day and store from 3,750 to 15,000 barrels of recovered oil at any given time. We maintain our own spill-response resources to mitigate the impact of a spill from a tanker at our refineries until an OSRO can deploy its resources. Our spill response capability meets the U.S. Coast Guard and state requirements to either deploy on-water containment equipment two and one-half times the length of a vessel at our dock or have smaller vessels available to recover 50 barrels of oil per day and store 100 barrels of recovered oil at any given time.

The services provided by the OSROs principally consist of operating response-related equipment, managing certain aspects of a response and providing technical expertise. The OSROs provide various resources in response to an oil spill. The resources include dedicated vessels that have skimming equipment to recover oil, storage barges to temporarily store recovered oil, containment boom to control the spread of oil on water and land and to protect shorelines, and various pumps and other equipment supporting oil recovery efforts and the protection of natural resources. The OSROs have full-time personnel and contract with third parties to provide additional personnel when needed.

As a general matter, our agreements with these organizations do not contain specific physical or financial limitations. General physical limitations of these organizations would include the geographical area for which services are available and the amount of resources available at the initiation of a request for services or the duration of response and recovery efforts.

Additionally, we require all tankers and barges engaged in moving crude oil, heavy and finished products to be double hulled. All vessels used by us to transport crude oil and refined products over water are examined or evaluated and subject to our approval prior to their use.


12


Rail Car Safety

Tesoro maintains a fleet of leased rail cars to transport crude and support our refining operations. Generally, rail operations are subject to federal, state and local regulations. During 2015, Tesoro started taking delivery of 210 enhanced DOT120J200 tank cars for crude oil service. These cars exceed the new federal standards issued by the DOT on May 1, 2015. The new DOT regulations allow for an orderly phase out or retrofit of previous generation rail cars. Tesoro will continue to comply with all regulatory requirements and order only new rail cars that are among the safest and most robust available at the time of order. TLLP rail operations are limited to loading and unloading rail cars at its facilities. TLLP believes its entire rail car loading and unloading operations meet or exceed all applicable regulations.

Pipeline Safety

Our pipelines, gathering systems and terminal operations, including those owned by TLLP, are subject to increasingly strict safety laws and regulations. The transportation and storage of refined products, natural gas and crude oil involve a risk that hazardous liquids may be released into the environment, potentially causing harm to the public or the environment. The DOT, through the Pipeline and Hazardous Materials Safety Administration and state agencies, enforce safety regulations with respect to the design, construction, operation, maintenance, inspection and management of our pipeline and storage facilities.

Regulation of Pipelines

Operations on portions of our pipelines are regulated by state agencies in Alaska and California. In addition, TLLP owns and operates crude oil, refined product and natural gas pipelines, which are common carriers regulated by various federal, state and local agencies. The FERC regulates interstate transportation on TLLP’s High Plains System, Northwest Products Pipeline and natural gas pipeline under the Interstate Commerce Act, the Energy Policy Act of 1992 and the rules and regulations promulgated under those laws.

Federal regulation of interstate pipelines extends to such matters as rates, services, and terms and conditions of service; the types of services offered to customers; the certification and construction of new facilities; the acquisition, extension, disposition or abandonment of facilities; the maintenance of accounts and records; relationships between affiliated companies; the initiation and continuation of services; market manipulation in connection with interstate sales, purchases or transportation of commodities; and participation by interstate pipelines in cash management arrangements.

The intrastate operation of TLLP’s Alaska pipeline is regulated by the Regulatory Commission of Alaska. The state regulatory authorities require that we notify shippers of proposed tariff increases to provide the shippers an opportunity to protest the increases. In addition to challenges to new or proposed rates, challenges to existing intrastate rates are permitted by complaint of an interested person or by independent action of the appropriate regulatory authority. The intrastate operations of TLLP’s High Plains System in North Dakota are regulated by the North Dakota Public Service Commission. Applicable state law requires that pipelines operate as common carriers, that access to transportation services and pipeline rates be non-discriminatory, that if more crude oil is offered for transportation than can be transported immediately the crude oil volumes transported be apportioned equitably and that pipeline rates be just and reasonable.

WORKING CAPITAL

We fund our business operations through a combination of available cash and equivalents and cash flows generated from operations. In addition, our revolving lines of credit are available for additional working capital needs. For additional information regarding working capital see the “Capital Resources and Liquidity” section in Management’s Discussion and Analysis of Financial Condition and Results of Operations in Part II, Item 7.

EMPLOYEES

We had more than 6,000 full-time employees at December 31, 2015, approximately 2,100 of whom are full-time represented union employees covered by collective bargaining agreements. The agreements for approximately 1,750 of these employees will expire on March 1, 2017, the agreements for approximately 90 of these employees will expire on February 1, 2019, and the agreements for the remaining represented employees expire on May 1, 2019.


13


WEBSITE ACCESS TO REPORTS AND OTHER INFORMATION

Our principal executive offices are located at 19100 Ridgewood Parkway, San Antonio, Texas 78259-1828 and our telephone number is (210) 626-6000. Our common stock trades on the New York Stock Exchange under the symbol TSO. We file reports with the Securities and Exchange Commission (“SEC”), including annual reports on Form 10-K, quarterly reports on Form 10-Q and other reports from time to time. The public may read and copy any materials that we file with the SEC at the SEC’s Public Reference Room at 100 F Street, N.E., Washington, DC 20549. The public may obtain information on the operation of the Public Reference Room by calling the SEC at 1-800-SEC-0330. Our SEC filings are also available to the public on the SEC’s Internet site at http://www.sec.gov and our website at http://www.tsocorp.com as soon as reasonably practicable after we electronically file such material with, or furnish it to, the SEC. You may receive a copy of our Annual Report on Form 10-K, including the financial statements, free of charge by writing to Tesoro Corporation, Attention: Investor Relations, 19100 Ridgewood Parkway, San Antonio, Texas 78259-1828. We also post our corporate governance guidelines, code of business conduct, code of business conduct and ethics for senior financial executives and our Board of Directors committee charters on our website.

EXECUTIVE OFFICERS OF THE REGISTRANT

The following is a list of our executive officers, their ages and their positions at Tesoro, effective as of February 18, 2016.
Name
 
Age
 
Position
 
Position Held Since
Gregory J. Goff
 
59
 
President and Chief Executive Officer
Chairman of the Board
 
May 2010
December 2014
Keith M. Casey
 
49
 
Executive Vice President, Operations
 
May 2014
Charles S. Parrish
 
58
 
Executive Vice President, General Counsel and Secretary
 
April 2009
Steven M. Sterin
 
44
 
Executive Vice President, Chief Financial Officer
 
August 2014
Cynthia J. Warner
 
57
 
Executive Vice President, Strategy and Business Development
 
October 2014
Daryl R. Schofield
 
56
 
Senior Vice President, Commercial
 
March 2014
Tracy D. Jackson
 
46
 
Vice President and Controller
 
March 2015
Brad S. Lakhia
 
43
 
Vice President and Treasurer
 
February 2014

There are no family relationships among the officers listed, and there are no arrangements or understandings pursuant to which any of them were elected as officers. Officers are elected annually by our Board of Directors (the “Board”) in conjunction with the annual meeting of stockholders. The term of each office runs until the corresponding meeting of the Board in the next year or until a successor has been elected or qualified. Positions held for at least the past five years for each of our executive officers are described below (positions, unless otherwise specified, are with Tesoro).

Gregory J. Goff was named President and Chief Executive Officer in May 2010 and assumed additional responsibilities as Chairman of our Board of Directors in December 2014. Mr. Goff also serves as Chief Executive Officer and Chairman of the Board of Directors of Tesoro Logistics GP, LLC (“TLGP”), the general partner of TLLP. Since March 2015, Mr. Goff has served as Chairman of the Board of the American Fuel & Petrochemical Manufacturers. Before joining Tesoro, he has served as Senior Vice President, Commercial for ConocoPhillips Corporation (“ConocoPhillips”), an international, integrated energy company, from 2008 until 2010. Mr. Goff held various other positions at ConocoPhillips beginning in 1981, including President of ConocoPhillips specialty businesses and business development from 2006 to 2008; President of ConocoPhillips U.S. Lower 48 and Latin America exploration and production business from 2004 to 2006; President of ConocoPhillips Europe and Asia Pacific downstream from 2002 to 2004; Chairman and Managing Director of Conoco Limited, a UK-based refining and marketing affiliate, from 2000 to 2002; and director and CEO of Conoco JET Nordic from 1998 to 2000.

Keith M. Casey was named Executive Vice President, Operations in May 2014. Prior to that, he served as Senior Vice President, Strategy and Business Development beginning in April 2013. Prior to joining Tesoro, Mr. Casey served as Vice President, BP Products North America, Texas City Refinery beginning in September 2006.

Charles S. Parrish was named Executive Vice President, General Counsel and Secretary in April 2009. Prior to that, he served as Senior Vice President, General Counsel and Secretary beginning in May 2006; Vice President, General Counsel and Secretary beginning in March 2005 and as Vice President, Assistant General Counsel and Secretary beginning in November 2004. Mr. Parrish also serves as Vice President and General Counsel of TLGP.


14


Steven M. Sterin was named Executive Vice President and Chief Financial Officer in August 2014. Mr. Sterin also serves as Vice President and Chief Financial Officer of TLGP. Prior to joining Tesoro, Mr. Sterin held financial leadership positions, including service as the Senior Vice President and Chief Financial Officer of Celanese Corporation from July 2007 until May 2014.

Cynthia J. Warner was named Executive Vice President, Strategy and Business Development in October 2014. Before joining Tesoro, Mrs. Warner served as President, Chief Executive Officer, and Chairman of the Board of Sapphire Energy beginning in 2009.

Daryl R. Schofield was named Senior Vice President, Commercial in March 2014. Prior to that, he served as Vice President, Crude Strategy and Trading beginning in August 2013. Before joining Tesoro, Mr. Schofield served three years as Vice President, Head of Global Marketing and Commercial Midstream and A&D, at Talisman Energy.

Tracy D. Jackson was named Vice President and Controller of both Tesoro and TLGP in March 2015. Prior to that, she served as Vice President, Analytics and Financial Planning of Tesoro Companies Inc. (“TCI”), a subsidiary of Tesoro, from September 2013 through February 2015. From February 2011 to February 2014, Ms. Jackson served as Vice President and Treasurer of Tesoro, and assumed such role for our general partner from April 2012 until February 2014. Ms. Jackson also served as Treasurer of TCI, beginning November 2010 through February 2014. From May 2007 until November 2010, Ms. Jackson served as Vice President of Internal Audit of TCI.

Brad S. Lakhia was named Vice President and Treasurer of both Tesoro and TLGP in July 2014. Before joining Tesoro, Mr. Lakhia served as Senior Director - Business Development starting in December 2012 at The Goodyear Tire and Rubber Company (“Goodyear”). Prior to December 2012, Mr. Lakhia held financial leadership positions at Goodyear, including Finance Director - ASEAN from July 2010 to December 2012 and Vice President - Finance, Global Procurement from September 2009 to July 2010.

BOARD OF DIRECTORS OF THE REGISTRANT

The following is a list of our Board of Directors, effective as of February 18, 2016:
Rodney F. Chase
Chairman of the Audit Committee of Tesoro Corporation; Director of Hess Corporation
Gregory J. Goff
Chairman of the Board, President and Chief Executive Officer of Tesoro Corporation and Chairman of the Board of Tesoro Logistics GP, LLC; Director of Polyone Corporation
Robert W. Goldman
Former Senior Vice President and Chief Financial Officer of Conoco, Inc.;
Director of BWX Technologies, Inc.; Director of Tesoro Logistics GP, LLC; Director of FRG Development Company
David Lilley
Chairman of the Compensation Committee of Tesoro Corporation; Former Chairman, President and Chief Executive Officer of Cytec Industries Inc.; Director of Rockwell Collins, Inc. and Public Service Enterprise Group Incorporated
Mary Pat McCarthy
Former Vice Chairman, KPMG LLP; Director of Mutual of Omaha
J.W. Nokes
Chairman of the Environmental, Health, Safety and Security Committee of Tesoro Corporation; Retired Executive Vice President for ConocoPhillips; Director of Post Oak Bank, N.A. (Houston, Texas); Non-Executive Chairman of Albemarle Corporation
Susan Tomasky
Lead Director and Chairman of the Governance Committee of Tesoro Corporation; Former President of AEP Transmission, a division of American Electric Power Company, Inc.; Director of Public Service Enterprise Group Incorporated and Summit Midstream Partners GP, LLC
Michael E. Wiley
Retired Chairman, President and Chief Executive Officer of Baker Hughes, Inc.; Director of Bill Barrett Corporation; Director of Tesoro Logistics GP, LLC; Director of Post Oak Bank, N.A. (Houston, Texas)
Patrick Y. Yang
Former Head of Global Technical Operations for F. Hoffmann-La Roche Ltd.; Director of Codexis, Inc., Pharma Essentia Corporation and Amyris, Inc.


15


ITEM 1A. RISK FACTORS

The volatility of crude oil prices, refined product prices and natural gas and electrical power prices may have a material adverse effect on our cash flow and results of operations.

Our refining margins are influenced by the price of our refining feedstocks-crude oil and other feedstocks-and the price of our refined products. These prices often move independent of each other, which can negatively impact our margins, earnings or cash flows. In recent years, prices have fluctuated significantly due to global and local factors that are beyond our control, including:

production and availability of foreign and domestic crude oil and refined products;
production controls set and maintained by the members of the Organization of the Petroleum Exporting Countries (“OPEC”);
transportation infrastructure availability, local market conditions, operation levels of other refineries in our markets, and the import or export of crude and refined products;
political instability, threatened or actual terrorist incidents, acts of war, and other global political conditions;
domestic and foreign governmental regulations and taxes;
weather conditions, hurricanes or other natural disasters;
the price, availability and efficiency of competing energy sources; and
local, regional, national and worldwide economic conditions.

Some of these factors can vary by region and may change quickly, adding to market volatility, while others may have longer-term effects. The long-term effects of these and other factors on prices for crude oil, refinery feedstocks and refined products are uncertain and could negatively impact our margins, earnings or financial condition.

The short-term effects of these fluctuations could affect our margins, earnings and cash flows. We purchase our refinery feedstocks weeks before manufacturing and selling the refined products. Price level changes during the period between purchasing feedstocks and selling the refined products could affect our margins, earnings or cash flows. In addition, we purchase refined products manufactured by others to sell to our customers. If we are unable to manage our commodity exposure risk, it could affect our business, financial condition and results of operations. Lower refining margins may reduce the amount of refined products we produce, which may reduce our revenues, income from operations or cash flows. Significant reductions in margins could require us to reduce our capital expenditures or impair the carrying value of our assets.

Volatile prices for natural gas and electricity used by our refineries and other operations affect manufacturing and operating costs. Natural gas and electricity prices have been, and will continue to be, affected by supply and demand for fuel and utility services in both local and regional markets. In addition, the volume of crude oil, refined products, natural gas and NGLs that TLLP distributes and stores at its terminals, transports and processes depends substantially on our and other customers’ profit margins, the market price of crude oil, natural gas, NGLs and other refinery feedstocks, and product demand.

We are subject to interruptions of supply and increased costs as a result of our reliance on logistics assets for the transportation of crude oil, feedstocks and refined products within our business.

Our subsidiaries own and operate six refineries in the western United States, which refine crude oil and other feedstocks into refined products for sale to a wide variety of markets. We rely on a variety of logistics assets to transport crude oil, feedstocks and refined products, including, but not limited to, marine vessels, marine terminals, rail, pipelines, product terminals, storage tanks and trucks. Some of these assets are owned and operated by third-parties. In particular, losing access to certain assets owned by TLLP could halt production at some of our refineries. Accidents, natural disasters, government regulation, third-party actions or other events outside of our control could impede our use or increase the cost of using these assets, which could have a material adverse effect on our financial condition and results of operations.

Disruption of our ability to obtain crude oil could adversely affect our operations.

To maintain or increase production levels at our refineries, we must continually contract for crude oil supplies from third parties. A material decrease in crude oil production from the fields that supply our refineries as a result of decreased exploration and production activity, natural production declines or otherwise, could result in a decline in the volume of crude oil available to our refineries. Such an event could result in an overall decline in volumes of refined products processed at our refineries and a corresponding reduction in our revenue and cash flow.


16


Adverse changes in global economic conditions and the demand for transportation fuels may impact our business and financial condition in ways that we currently cannot predict.

Our business is affected by the strength of the U.S. and global economies, and the risk of global economic downturn continues. Prolonged downturns could result in declines in consumer and business confidence and spending as well as increased unemployment and reduced demand for transportation fuels. These conditions may decrease the creditworthiness of our suppliers, customers and business partners, which could interrupt or delay our suppliers’ performance of our contracts, reduce or delay customer purchases, delay or prevent customers from obtaining financing to purchase our products, or result in bankruptcy of customers or business partners. Any of these events may adversely affect our cash flow, profitability and financial condition.

Our business includes selling products in international markets and we are subject to risks of doing business on a global level.

We sell some of our products internationally, primarily to markets in Mexico, South America and Asia. Our operating results or financial condition could be negatively impacted by disruptions in any of these markets, including economic instability, restrictions on the transfer of funds, duties and tariffs, transportation delays, import and export controls, changes in governmental policies, labor unrest and changing regulatory and political environments.

The availability and cost of renewable identification numbers could have an adverse effect on our financial condition and results of operations.

Pursuant to the 2007 Energy Independence and Security Act, the EPA promulgated the Renewable Fuel Standard 2 (“RFS2”) regulations reflecting the increased volume of renewable fuels mandated to be blended into the nation’s fuel supply. The regulations, in part, require refiners to add annually increasing amounts of “renewable fuels” to their petroleum products or to purchase credits, known as renewable identification numbers (“RINs”), in lieu of such blending. Due to regulatory uncertainty and in part due to the nation’s fuel supply approaching the “blend wall” (the 10% ethanol limit prescribed by most automobile warranties), the price and availability of RINs has been volatile.

While we generate RINs by blending renewable fuels manufactured by third parties, we purchase RINs on the open market to comply with the RFS2. While we cannot predict the future prices of RINs, the costs to obtain the necessary RINs could be material. Our financial condition and results of operations could be adversely affected if we are unable to pass the cost of compliance on to our customers, pay significantly higher prices for RINs, and generate or purchase RINs to meet RFS2 mandated standards.

Meeting the requirements of, including the cost to comply with evolving environmental, health and safety laws and regulations including those related to climate change could materially affect our performance, financial condition and results of operations.

Environmental, health and safety laws and regulations may continue to raise our operating costs and require significant capital investments. If we discover new conditions at our facilities that require remediation, or if environmental, health and safety, and energy requirements change materially, we could be required to increase our capital expenditures, which could negatively impact our financial condition. We cannot predict developments in federal or state laws or regulations governing environmental, health and safety or energy matters, or how these changes may affect our business or financial condition.


17


Currently, multiple legislative and regulatory measures to address greenhouse gas (including carbon dioxide, methane and nitrous oxides) and other emissions are in various phases of consideration, promulgation or implementation. These include actions to develop national, statewide or regional programs, each of which could require reductions in our greenhouse gas or other emissions and decrease the demand for our refined products. Requiring reductions in these emissions could result in increased costs to (i) operate and maintain our facilities, (ii) install new emission controls at our facilities and (iii) administer and manage any emissions programs, including acquiring emission credits or allotments. For example:

In California, Assembly Bill 32 requires the state to reduce its greenhouse gas (GHG) emissions to 1990 levels by 2020. Two regulations implemented to achieve this goal are Cap-and-Trade and the Low Carbon Fuel Standard (LCFS). In 2012, the California Air Resource Board implemented Cap-and-Trade. This program currently places a cap on GHGs and we are required to acquire a sufficient number of credits to cover emissions from our refineries and our in-state sales of gasoline, diesel, and some LPGs. In 2009, CARB adopted the LCFS, which requires a 10% reduction in the carbon intensity of gasoline and diesel by 2020. Compliance is demonstrated by blending lower carbon intensity biofuels into gasoline and diesel or by purchasing credits. Compliance with each of these programs is demonstrated through a market-based credit system. If we are unable to pass the costs of compliance on to our customers, sufficient credits are unavailable for purchase, we have to pay a significantly higher price for credits, or if we are otherwise unable to meet our compliance obligation, our financial condition and results of operations could be adversely affected.
In California, the Board for the South Coast Air Quality Management District (“SCAQMD”) passed amendments to the Regional Clean Air Incentives Market (“RECLAIM”) on December 4, 2015. The RECLAIM Amendments become effective in 2016 and require a staged reduction of NOx through 2022.
The EPA adopted a new rule in 2015 requiring further reductions in the National Ambient Air Quality Standard (“NAAQS”) for ozone.

In addition, pre-rulemaking is underway in California to implement the recommendations made in 2014 by the Governor’s Interagency Refinery Safety Working Group to significantly expand the scope and requirements of California’s process safety management regulations. The final requirements could have a material impact on our cash flows, profitability and financial condition.

Regulatory and other requirements concerning the transportation of crude oil and other commodities by rail may cause increases in transportation costs or limit the amount of crude that we can transport by rail.

We rely on a variety of systems to transport crude oil, including rail. In 2012, we completed the construction of a 50 Mbpd crude oil rail car unloading facility in Anacortes, Washington (the “Anacortes Rail Facility”), which TLLP subsequently acquired from us. The Anacortes Rail Facility allows us to receive crude oil into our Anacortes refinery. We have also entered into a joint venture with Savage Companies to construct, own and operate a unit train unloading and marine loading terminal at the Port of Vancouver, USA. The construction of the terminal is subject to approval by regulatory agencies and will have a capacity up to 360 Mbpd.

A major incident in rail transportation, even if we are not involved, could lead to costly new standards or regulatory requirements that could impact our operations. For example, new standards and regulations applicable to crude-by-rail transportation have recently been announced by the freight rail industry and the U.S. Department of Transportation (Enhanced Tank Car Standards and Operational Controls for High-Hazard Flammable Trains). These or other regulations could increase the time required to move crude oil from production areas to our refineries, increase the cost of rail transportation and decrease the efficiency of shipments of crude oil by rail within our operations. Any of these outcomes could have a material adverse effect on our business and results of operations.

We rely upon certain critical information systems for the operation of our business, and the failure of any critical information system, including a cyber-security breach, may result in harm to our reputation and business.

We depend heavily on our technology infrastructure and critical information systems, including data networks, telecommunications, remote connectivity, cloud-based information controls, software applications and hardware, including those that are critical to operating our refineries, pipelines, terminals, retail stations and other business operations. In addition, we collect sensitive data, including personally identifiable information of our customers using credit cards at our retail outlets.


18


Our technology infrastructure and information systems are subject to damage or interruption from a number of potential sources including natural disasters, software viruses or other malware, power failures, cyber-attacks, employee error or malfeasance, and other events. Although we have experienced occasional, actual or attempted breaches of our cybersecurity, none of these breaches have had a material effect on our business, operations or reputation (or compromised any customer data). However, no cybersecurity or emergency recovery processes is failsafe, and if our safeguards fail or our data or technology infrastructure is compromised, the safety and efficiency of our operations could be materially harmed, our reputation could suffer, and we could be subject us to additional costs, liabilities, and costly legal challenges, including those involving privacy of customer data. Any of these outcomes could materially harm our business and operations. Finally, state and federal legislation relating to cyber-security could impose new requirements, which could increase our costs or reduce our efficiency.

Terrorist attacks aimed at our facilities or that impact our customers or the markets we serve could adversely affect our business.

The U.S. government has issued warnings that energy assets in general, including the nation’s refining, pipeline and terminal infrastructure, may be future targets of terrorist organizations. Any future terrorist attacks on our facilities, those of our customers, or on any transportation networks, including pipelines, could have a material adverse effect on our business. Similarly, any future terrorist attacks that severely disrupt the markets we serve could materially and adversely affect our results of operations, financial position and cash flows.

Our inventory risk management activities may result in substantial derivative gains or losses.

We enter into derivative transactions to manage the risks from changes in the prices of crude oil, refined products, natural gas, and other feedstocks associated with our physical inventories and future production, and these may result in substantial derivatives gains or losses, which could increase the volatility of our earnings. We manage price risk on inventories above or below our target levels to minimize the impact these price fluctuations have on our earnings and cash flows. Consequently, our results may fluctuate significantly from one reporting period to the next depending on commodity price fluctuations and our relative physical inventory positions. These transactions may also expose us to risks for financial losses; for example, if our production is less than we anticipated at the time we entered into a hedge agreement or if a counterparty to our hedge agreement fails to perform its obligations under the agreements. See “Quantitative and Qualitative Disclosures about Market Risk” in Part II, Item 7A

Competition in the refining, logistics and marketing industry is intense, and an increase in competition in the markets in which we sell our products could adversely affect our earnings and profitability.

We compete with a broad range of refining and marketing companies, including certain multinational oil companies. Competitors with greater geographic diversity, larger or more complex refineries, integrated operations with exploration and productions resources and broader access to resources, they may be better able to withstand volatile market conditions and to bear the risks inherent in the refining industry. For example, competitors that engage in exploration and production of crude oil may be better positioned to withstand periods of depressed refining margins or feedstock shortages. Our competitors’ recent consolidations and acquisitions and their plans for projects that could increase refining capacity or efficiency could increase competition in our markets, reduce our margins and affect our cash flow.

In addition, we compete with alternative energy and fuel producers for some industrial, commercial and individual consumers. There is significant governmental and consumer pressure to increase the use of alternative fuels and vehicles in the United States. If these alternative energy sources gain support as a result of governmental regulations and subsidies, technological advances, consumer demand, or other causes, they could impact demand for our products and our financial condition.


19


Our operations are subject to operational hazards that could expose us to potentially significant losses.

Refineries, gas processing plants, pipelines, rail cars, terminals and other components of our business are subject to potential operational hazards and risks inherent in refining operations and in transporting and storing crude oil, natural gas, refined products and waste. Operational hazards, such as fires, floods, earthquakes, explosions, third-party accidents, maritime disasters, security breaches, pipeline ruptures and spills, mechanical failure of equipment, and severe weather and natural disasters, at our or third-party facilities, could result in business interruptions or shutdowns and damage to our properties and the properties of others. A serious accident at our facilities could also result in serious injury or death to our employees or contractors and could expose us to significant liability for personal injury claims and reputational risk. These events could create significant liabilities that are outside the limits or scope or our insurance policies, and could expose us to penalties under federal, state and local laws. The costs that we could have to pay in penalties or for clean-up, remediation and damages could have a material adverse effect on our business, financial condition and operations. Any such unplanned event or shutdown could have a material adverse effect on our business, financial condition and results of operations.

In addition, we operate in and adjacent to environmentally sensitive coastal waters where tanker, pipeline, rail car and refined product transportation and storage operations are closely regulated by federal, state and local agencies and monitored by environmental interest groups. Our coastal refineries receive crude oil and other feedstocks by tanker. In addition, our refineries receive crude oil and other feedstocks by rail car and truck. Transportation and storage of crude oil, other feedstocks and refined products over and adjacent to water involves inherent risk and subjects us to the provisions of the Federal Oil Pollution Act of 1990 and state laws in California, Washington and Alaska. If we are unable to promptly and adequately contain any accident or discharge involving tankers, pipelines, rail cars or above ground storage tanks transporting or storing crude oil, other feedstocks or refined products, we may be subject to substantial liability. In addition, the service providers we have contracted to aid us in a discharge response may be unavailable due to weather conditions, governmental regulations or other local or global events. State or federal rulings could divert our response resources to other global events.

We are also required to ensure the quality and purity of the products loaded at our loading racks and pipeline connections. If our quality control measures were to fail or be compromised, we may have contaminated or off-specification commingled pipelines and storage tanks or off-specification product could be sent to customers and other end users. These types of incidents could result in product liability claims from our customers or other pipelines to which our pipelines connect. These product liability claims may have a material adverse effect on our business or results or operations or our ability to maintain existing customers or retain new customers.

We carry property, casualty and business interruption insurance, but we do not maintain insurance coverage against all potential losses. Marine vessel charter agreements do not include indemnity provisions for oil spills so we also carry marine charterer’s liability insurance. We could suffer losses for uninsurable or uninsured risks or in amounts in excess of existing insurance coverage. The occurrence of an event that is not fully covered by insurance or failure by one or more insurers to honor its coverage commitments for an insured event could have a material adverse effect on our business, financial condition and results of operations.

While we do not act as an owner of any marine tankers, we do maintain marine charterer’s liability insurance with a primary coverage of $500 million, subject to a $25,000 deductible, and an additional $650 million in umbrella policies for a total of $1.15 billion in coverage for liabilities, costs and expenses arising from a discharge of pollutants. In addition, Tesoro maintains $20 million in marine terminal operator’s liability coverage, subject to a $150,000 deductible, and an additional $650 million in umbrella coverage for a total of $675 million in coverage for sudden and accidental pollution events and liability arising from marine terminal operations. We cannot assure you that we will not suffer losses in excess of such coverage.

We depend upon TLLP for a substantial portion of the logistics networks that serve our refineries’ supply and distribution needs, and we have obligations for minimum volume commitments in many of our agreements with TLLP.

We depend on TLLP for pipeline transportation, trucking and terminalling our products, and if TLLP is unable to provide these services to us, including for reasons listed in the previous risk factor, our refinery and retail operations could suffer, which could adversely affect our business, financial condition and results of operations.

TLLP provides each of our refineries and our marketing business with various pipeline transportation, trucking, terminal distribution and storage services under long-term, fee-based commercial agreements expiring in 2016 through 2025. These agreements contain minimum volume commitments. If we do not satisfy the minimum volume commitments, we will still be responsible for payment for transportation and storage services as if we had utilized such minimum volumes.


20


In addition, we own an approximate 36% interest in TLLP, including the 2% general partner interest. The inability of TLLP to continue operations, or the occurrence of any of these risks or operational hazards, could also adversely impact the value of our investment in TLLP and, because TLLP is a consolidated variable interest entity, our business, financial condition and results of operations.

Our operations are also subject to general environmental risks, expenses and liabilities, which could affect our results of operations.

From time to time we have been, and presently are, subject to litigation and investigations with respect to environmental and related matters, including product liability claims related to the oxygenate methyl tertiary butyl ether. We may become involved in further litigation or other civil or criminal proceedings, or we may be held responsible in any existing or future litigation or proceedings, the costs of which could be material.

We operate and have in the past operated retail stations with underground storage tanks in various jurisdictions. Federal and state regulations and legislation govern the storage tanks, and compliance with these requirements can be costly. The operation of underground storage tanks poses certain risks, including leaks. Leaks from underground storage tanks, which may occur at one or more of our retail stations, or which may have occurred at our previously operated retail stations, may impact soil or groundwater and could result in fines or civil liability for us.

We may be unsuccessful in integrating the operations of the assets we have acquired or may acquire in the future, or in realizing all or any part of the anticipated benefits of any such acquisition.

If we are unable to successfully integrate our acquisitions into our business, we may never realize their expected benefits. With each acquisition, we may discover unexpected costs, environmental liabilities, delays, or lower than expected cost savings or synergies. In addition, we may be unable to successfully integrate the diverse company cultures, retain key personnel, apply our expertise to new competencies, or react to adverse changes in commodity prices or industry conditions.

We cannot predict with certainty the benefits of these acquisitions, which often constitute multi-year endeavors. For example, TLLP’s acquisition of the Rockies Natural Gas Business acquisition in 2014 and our acquisition of BP’s integrated Southern California refining, marketing and logistics business in 2013 will each continue to require substantial capital requirements during 2016 and later years. If we are unable to realize all or part of the projected benefits from our acquisitions within our expected timeframes, our business, results of operations and financial condition may suffer.

Large capital projects can take several years to complete, and if we are unable to complete capital projects at their expected costs or in a timely manner, or if market conditions deteriorate significantly between the project approval date and the project startup date, our results of operations, cash flows or project returns could be adversely impacted.

We are constructing several new projects and expanding existing ones, such as the construction of the Vancouver energy project and the Clean Product Upgrade Project. The construction process involves numerous regulatory, environmental, political and legal uncertainties, most of which are not fully within our control. If we are unable to complete capital projects at their expected costs or in a timely manner our results of operations or cash flows could be adversely affected. In addition, our revenues may not increase immediately upon the expenditure of funds because construction or expansion may occur over an extended period of time, and we may not receive any material increases in revenues until after substantial completion of the project.

To approve a large-scale capital project, the project must meet an acceptable level of return on the capital to be employed in the project. We base these economic projections on our best estimate of future market conditions that are not within our control. Most large-scale projects take many years to complete and during this multi-year period, market conditions can change from those we forecast due to changes in general economic conditions, available alternative supply and changes in customer demand. Accordingly, we may not be able to realize our expected returns from a large investment in a capital project, and this could negatively impact our results of operations, cash flows and return on capital employed.

Our cash needs may exceed our internally generated cash flow, and our business could be materially and adversely affected if we are not able to obtain the necessary funds from financing activities.

We have substantial cash needs. Our short-term cash needs are primarily to satisfy working capital requirements, including crude oil purchases, which fluctuate with the pricing and sourcing of crude oil. Our longer-term cash needs also include capital expenditures for infrastructure, environmental and regulatory compliance, maintenance turnarounds at our refineries and upgrade and business strategy projects.


21


We primarily supply our cash needs with cash generated from our operations; however, if the price of crude oil increases significantly, we may not generate sufficient cash flow for our operations. In such instances, we may not have sufficient borrowing capacity, and we may be unable to sufficiently increase borrowing capacity under our existing credit facilities to support our capital requirements.

Debt and equity capital markets continue to be volatile, and we may not be able to secure additional financing on terms and at a cost acceptable to us, if at all. If we cannot generate cash flow and funding is not available when needed, or is available only on unfavorable terms, we may not be able to operate our refineries at the desired capacity, fund our capital requirements, take advantage of business opportunities, respond to competitive pressures or complete our business strategies, which could have a material adverse effect on our business, financial condition and results of operations.

Because of our debt obligations, our business, financial condition, results of operations and cash flows could be negatively impacted by a deterioration of our credit profile, a decrease in debt capacity or unsecured commercial credit available to us, or by factors adversely affecting credit markets generally.

At December 31, 2015, our total debt obligations for borrowed money and capital lease obligations were $4.1 billion. We may incur substantial additional debt obligations in the future.

Our indebtedness may impose various restrictions and covenants on us that could have material adverse consequences, including:

increasing our vulnerability to changing economic, regulatory and industry conditions;
limiting our ability to compete and our flexibility in planning for, or reacting to, changes in our business and the industry;
limiting our ability to pay dividends to our stockholders;
limiting our ability to borrow additional funds; and
requiring us to dedicate a substantial portion of our cash flow from operations to payments on our debt, thereby reducing funds available for working capital, capital expenditures, acquisitions and other purposes.

Refining optimization require precise inventory management, which we perform through combinations of working capital and debt. A decrease in our debt or commercial credit capacity, including unsecured credit extended by third-party suppliers, or a deterioration in our credit profile, could increase our costs of borrowing money or limit our access to the capital markets and commercial credit, which could affect our ability to manage our inventory or otherwise materially and adversely affect our business, financial condition, results of operations and cash flows.

Our business may be negatively affected by work stoppages, slowdowns or strikes by our employees, as well as new labor requirements.

Currently, approximately 2,100 of our employees are covered by collective bargaining agreements at our Anacortes, Mandan, Martinez, Los Angeles and Salt Lake City refineries. The agreements for approximately 1,750 of these employees will expire on March 1, 2017, agreements for approximately 90 others will expire on February 1, 2019, and agreements for the remaining represented employees expire on May 1, 2019. A strike, work stoppage or other labor action could have an adverse effect on our financial condition or results of operations.

In addition, California requires refinery owners to pay prevailing wages to contract craft workers and restricts refiners’ ability to hire qualified employees to a limited pool of applicants. Legislation or changes in regulations (e.g. the U.S. Department of Labor’s recent interpretation regarding joint employers/independent contractors) could result in labor shortages higher labor costs, and an increased risk that contract employees become joint employees of Tesoro, which could trigger bargaining issues, employment discrimination liability issues as well as wage and benefit consequences, especially during critical maintenance and construction periods.

Ownership of the general partner of TLLP may involve a greater exposure to legal liability than our historic business operations.

One of our subsidiaries acts as the general partner of TLLP. Our control of the general partner may increase the possibility of claims of breach of fiduciary duties including claims of conflicts of interest related to TLLP. Any liability resulting from such claims could have a material adverse effect on our future business, financial condition, results of operations and cash flows.


22


ITEM 1B. UNRESOLVED STAFF COMMENTS

None.

ITEM 2.  PROPERTIES

Our principal properties are described above under the captions “Refining,” “TLLP” and “Marketing.” We believe that our properties and facilities are adequate for our operations and are adequately maintained. We, along with TLLP, are the lessee under a number of cancellable and noncancellable leases for certain properties, including office facilities, retail facilities, ship charters, barges and equipment used in the storage, transportation and production of feedstocks and refined products. We conduct our marketing business under the ARCO®, Shell®, Exxon®, Mobil®, USA GasolineTM and Tesoro® brands through a network of 2,397 retail stations. Our unbranded, or wholesale, business includes volumes sold through agreements with third-party dealers at terminals supporting our refineries. See Notes 13 and 17 to our consolidated financial statements in Part II, Item 8 for additional information on our leased properties.

ITEM 3. LEGAL PROCEEDINGS

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 and certain matters may require years to resolve. Although we cannot provide assurance, we believe that an adverse resolution of the matters described below will not have a material adverse impact on our liquidity, financial position, or results of operations.

Unresolved Matters

The U.S. Environmental Protection Agency (“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 notice of violation (“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 outcome will have a material impact on our liquidity or financial position.

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 a citation 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 (“BIIA”) granted partial summary judgment in our favor rejecting 33 of the original 44 allegations in the citation as lacking legal or evidentiary support. A hearing on the remaining 11 allegations started on July 21, 2015, and we expect the judge to issue a recommended decision for the BIIA’s review in 2016. While we cannot currently estimate the final amount or timing of the resolution of this matter, we have established an accrual based on our best estimate at the time.

On January 14, 2016, we received an offer to settle a NOV we received on November 20, 2013, 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. While we are evaluating the offer and cannot currently estimate the amount or timing of the resolution of this matter, 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 the damages they incurred in the civil litigation involving us and the previous owner brought by the families of those fatally wounded in the April 2010 refinery fire. We settled our involvement in this litigation in 2012. Arbitration proceedings concerning the demand for indemnity were initiated in March 2015 after an unsuccessful mediation and we intend to vigorously defend ourselves against this claim.

23



Other Matters. On February 12, 2016, we received an offer to settle 35 NOV’s received from the Bay Area Air Quality Management District (“BAAQMD”). The NOV’s were issued from May 2011 to November 2015 and allege violations of air quality regulations for ground level monitors located at our Martinez refinery. While we are evaluating the allegations and 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 positions, or results of operations.

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 are vigorously asserting our defenses against this claim. While there are no longer pending claims against us at any current or former marketing retail site in this matter, we cannot currently estimate the final amount or timing of the final resolution of this matter and believe that the outcome will not have a material impact on our liquidity, financial position, or results of operations.

Resolved Matters

In February 2016, we settled 36 NOV received from the BAAQMD. The NOVs were issued from March 2012 to October 2013 and allege violations of air quality regulations at our Martinez refinery. The final resolution of this matter did not have a material impact on our liquidity, financial position, or results of operations.

In July 2015, we agreed to settle four notices of violations we received from the BAAQMD in May through September 2013. The allegations concern hydrocarbon emissions from a process water drain system at out Martinez refinery. The final resolution did not have a material impact on our liquidity, financial position or results of operations.

On June 10, 2015, we agreed to settle a NOV previously received in January 2014 from the Alaska Department of Environmental Conservation (“ADEC”). ADEC alleged that we violated emission limits in 7 process heaters at our Kenai refinery. The resolution of this matter did not have a material impact on our liquidity, financial position or results of operations.

ITEM 4. MINE SAFETY DISCLOSURES

Not applicable.


24


PART II

ITEM 5. MARKET FOR REGISTRANTS COMMON EQUITY, RELATED STOCKHOLDER MATTERS AND ISSUER PURCHASES OF EQUITY SECURITIES

Performance Graph

The following performance graph and related information will not be deemed soliciting material or to be filed with the Securities and Exchange Commission, nor will such information be incorporated by reference into any future filing under the Securities Act of 1933 or Securities Exchange Act of 1934, each as amended, except to the extent that Tesoro specifically incorporates it by reference into such filing.

The performance graph below compares the cumulative total return of our common stock to (a) the cumulative total return of the S&P 500 Composite Index and a composite peer group (“Peer Group”) of four companies selected by Tesoro. The Peer Group is comprised of HollyFrontier Corporation, Marathon Petroleum, Phillips 66 and Valero Energy Corporation. The graph below is for the five year period commencing December 31, 2010 and ending December 31, 2015.

The Peer Group was selected by the Company and contains four domestic refining companies believed by the Company to follow a similar business model to that of Tesoro’s including refining, transporting, storing and marketing transportation fuels and related products. The Peer Group is representative of companies that we internally benchmark against.

Comparison of Five Year Cumulative Total Return (a)
Among the Company, the S&P Composite 500 Index and Composite Peer Groups
 
12/31/2010
 
12/31/2011
 
12/31/2012
 
12/31/2013
 
12/31/2014
 
12/31/2015
Tesoro
$
100

 
$
126.00

 
$
239.18

 
$
323.02

 
$
417.97

 
$
603.96

S&P 500
100

 
102.11

 
118.45

 
156.82

 
178.28

 
180.75

Peer Group
100

 
93.51

 
170.59

 
252.57

 
241.79

 
301.37

________________
(a)
Assumes that the value of the investments in common stock and each index was $100 on December 31, 2010, and that all dividends were reinvested. Investment is weighted on the basis of market capitalization.

Note: The stock price performance shown on the graph is not necessarily indicative of future performance.


25


Stock Prices and Dividends per Common Share

Our common stock is listed under the symbol TSO on the New York Stock Exchange. Summarized below are high and low sales prices of and dividends declared and paid on our common stock on the New York Stock Exchange during 2015 and 2014.
 
Sales Prices per Common Share
 
Dividends per Common Share
Quarter Ended
High
 
Low
 
December 31, 2015
$
119.67

 
$
95.37

 
$
0.50

September 30, 2015
110.74

 
83.75

 
0.50

June 30, 2015
93.14

 
81.77

 
0.425

March 31, 2015
94.83

 
64.16

 
0.425

December 31, 2014
79.49

 
55.59

 
0.30

September 30, 2014
67.07

 
57.11

 
0.30

June 30, 2014
62.89

 
47.03

 
0.25

March 31, 2014
59.07

 
46.40

 
0.25


Dividend Declaration

Our Board of Directors (the “Board”) declared a quarterly cash dividend on common stock of $0.50 per share on January 29, 2016. The dividend is payable on March 15, 2016 to holders of record at the close of business on February 29, 2016. There were approximately 978 holders of record of our 119,884,843 outstanding shares of common stock on February 18, 2016. For information regarding restrictions on future dividend payments and stock purchases, see Management’s Discussion and Analysis of Financial Condition and Results of Operations in Part II, Item 7 and Note 18 in our consolidated financial statements in Part II, Item 8.

Purchases of Equity Securities

Tesoro may acquire shares from employees to satisfy tax withholding obligations in connection with the vesting of restricted stock issued to certain employees. There were 1,355 shares acquired to satisfy these obligations during the three-month period ended December 31, 2015.

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. Our Board authorized a $1.0 billion share repurchase program on July 30, 2014. On October 28, 2015, our Board approved a new $1.0 billion share repurchase program to become effective upon the full completion of the current $1.0 billion share repurchase authorized. We purchased approximately 6.9 million and 8.4 million shares of our common stock in the year ended December 31, 2015 and 2014 for approximately $644 million and $500 million, respectively. With the new program, we have $1.4 billion remaining under our authorized programs as of December 31, 2015.

The table below provides a summary of purchases by Tesoro of its common stock during the three months ended December 31, 2015.
Period
Total Number of Shares Purchased (a)
 
Average Price Paid
per Share
 
Total Number of Shares Purchased as Part of Publicly Announced Plans or Programs (b)
 
Approximate Dollar Value of Shares that May Yet Be Purchased Under the Plans or Programs (in millions)
October 2015
482,598

 
$
102.60

 
482,598

 
$
1,456

November 2015
414,893

 
$
114.06

 
414,469

 
$
1,409

December 2015
500,628

 
$
106.53

 
499,697

 
$
1,356

Total
1,398,119

 
 
 
1,396,764

 
 
____________________
(a)
Includes 1,355 shares acquired from employees during the fourth quarter of 2015 to satisfy tax withholding obligations in connection with the vesting of restricted stock issued to them.
(b)
Our Board of Directors authorized a $1.0 billion share repurchase program in July 2014. Under the program, management is permitted to purchase Tesoro common stock at its discretion in the open market. On October 28, 2015, our Board authorized a new $1.0 billion share repurchase program to become effective upon the full completion of our current $1.0 billion share repurchase authorization. The authorization has no time limit and may be suspended or discontinued at any time.


26


2016 Annual Meeting of Stockholders

The 2016 Annual Meeting of Stockholders will be held at 8:00 A.M. Central Time on Tuesday, May 3, 2016, at Tesoro Corporate Headquarters, 19100 Ridgewood Parkway, San Antonio, Texas. Holders of common stock of record at the close of business on March 11, 2016 are entitled to notice of and to vote at the annual meeting.

ITEM 6. SELECTED FINANCIAL DATA

The following table sets forth certain selected consolidated financial data of Tesoro as of and for each of the five years in the period ended December 31, 2015. The selected consolidated financial information presented below has been derived from our historical financial statements. The following table should be read in conjunction with Management’s Discussion and Analysis of Financial Condition and Results of Operations in Item 7 and our consolidated financial statements in Item 8.
 
Years Ended December 31,
 
2015
 
2014
 
2013
 
2012
 
2011
 
(In millions except per share amounts)
Statement of Operations Data
 
 
 
 
 
 
 
 
 
Total Revenues
$
28,711

 
$
40,633

 
$
37,601

 
$
29,809

 
$
27,182

Net Earnings from Continuing Operations
$
1,694

 
$
917

 
$
434

 
$
903

 
$
593

Less Net Earnings Attributable to Noncontrolling Interest
150

 
45

 
42

 
27

 
17

Net Earnings from Continuing Operations Attributable
   to Tesoro Corporation
$
1,544

 
$
872

 
$
392

 
$
876

 
$
576

Net Earnings from Continuing Operations per Share:
 
 
 
 
 
 
 
 
 
Basic
$
12.53

 
$
6.79

 
$
2.90

 
$
6.28

 
$
4.07

Diluted
$
12.39

 
$
6.67

 
$
2.85

 
$
6.20

 
$
4.02

Weighted Average Shares Outstanding:
 
 
 
 
 
 
 
 
 
Basic
123.2

 
128.5

 
135.0

 
139.4

 
141.4

Diluted
124.6

 
130.8

 
137.3

 
141.5

 
143.3

Dividends per Share
$
1.85

 
$
1.10

 
$
0.90

 
$
0.27

 
$

Balance Sheet Data
 
 
 
 
 
 
 
 
 
Current Assets
$
4,307

 
$
5,074

 
$
5,262

 
$
4,522

 
$
4,120

Total Assets
16,332

 
16,491

 
13,179

 
10,538

 
9,835

Current Liabilities
2,530

 
3,430

 
3,408

 
2,881

 
3,249

Total Debt, Net of Unamortized Issuance Costs
4,073

 
4,167

 
2,756

 
1,538

 
1,662

Total Equity
7,740

 
6,976

 
5,485

 
4,737

 
3,978

Total Debt to Capitalization
34
%
 
37
%
 
33
%
 
25
%
 
29
%
Total Debt to Capitalization Ratio excluding TLLP
19
%
 
27
%
 
27
%
 
22
%
 
31
%
Tesoro Stockholders’ Equity
$
5,213

 
$
4,454

 
$
4,302

 
$
4,251

 
$
3,668

Common Stock Shares Outstanding
119.3

 
124.9

 
131.8

 
138.2

 
140.0

Tesoro Stockholders’ Equity per Outstanding Share
$
43.70

 
$
35.66

 
$
32.64

 
$
30.76

 
$
26.20

Capital Expenditures
$
1,006

 
$
779

 
$
558

 
$
542

 
$
304



27


ITEM 7. MANAGEMENTS DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

The following information concerning our results of operations and financial condition should be read in conjunction with Business and Properties in Part I, Items 1 and 2, respectively, and our consolidated financial statements in Part II, Item 8.

Management’s Discussion and Analysis is the company’s analysis of its financial performance, financial condition and significant trends that may affect future performance. It should be read in conjunction with the consolidated financial statements and notes thereto included elsewhere in this Annual Report on Form 10-K. It contains forward-looking statements including, without limitation, statements relating to the company’s plans, strategies, objectives, expectations and intentions that are made pursuant to the “safe harbor” provisions of the Private Securities Litigation Reform Act of 1995. The words “anticipate,” “estimate,” “believe,” “budget,” “continue,” “could,” “intend,” “plan,” “potential,” “seek,” “predict,” “may,” “should,” “will,” “would,” “expect,” “objective,” “projection,” “forecast,” “goal,” “outlook,” “guidance,” “effort,” “target” and similar expressions identify forward-looking statements. The company does not undertake to update, revise or correct any of the forward-looking information unless required to do so under the federal securities laws. Readers are cautioned that such forward-looking statements should be read in conjunction with the company’s disclosures under the heading: “IMPORTANT INFORMATION REGARDING FORWARD-LOOKING STATEMENTS.”

BUSINESS STRATEGY AND OVERVIEW

Strategy and Goals

As the leading integrated refining, marketing and logistics company in our strategic foot print, we are driven to create value. We underpin our approach to our value creation by driving business improvements and an enduring commitment to execution. Across all of our businesses, we seek to leverage a highly integrated business model to achieve our vision through the following strategic priorities:

Operational Efficiency and Effectiveness - continuously improving safety, compliance, reliability, system improvements and cost leadership;
Value Chain Optimization - enhancing margin capture through our supply and trading activities, optimization of our integrated businesses and customer focus;
Financial Discipline - maintaining a strong financial position by exercising capital discipline and focusing on a balanced use of free cash flow;
Value-Driven Growth - extending our capabilities and growing earnings through growth in our logistics and marketing businesses and other strategic opportunities accretive to shareholder value; and
High Performing Culture - fostering a performance-based culture that is committed to building leadership at all levels of the organization and across our value chain with employees from diverse backgrounds and experiences who are accountable for delivering on our commitments.

We take a principle-based approach to conducting our business seeking to create shared value for key stakeholders such as employees, communities, business partners, government, and the environment. We believe our value chain creates a competitive advantage by maximizing business integration across our different regions through the combination of refining, marketing and logistics assets. Our marketing assets provide a secure and ratable offtake of high value gasoline and diesel production from our refineries, our logistics assets and in-region placement allow us to minimize transportation costs and maximize our overall performance. Our waterborne and land-based logistics assets enable system optimization across our businesses and between our regions. TLLP’s gathering logistics assets also allow us to capture integrated crude oil and natural gas commercial opportunities in the mid-continent basins.


28


Our goals were focused on these strategic priorities and we accomplished the following during 2015:
 
Operational
Efficiency &
Effectiveness
Value Chain Optimization
Financial
Discipline
Value
Driven
Growth
High Performing Culture
Operated our Los Angeles and Anacortes refineries safely during a work stoppage in February and March 2015.
 
 
Completed a safe restart of the Martinez refinery in late March 2015.
 
 
 
Completed the second phase of the Salt Lake City Refinery Expansion Project.
 
 
TLLP completed the integration of the Rockies Natural Gas Business assets delivering strong business results and synergies above original expectations.
 
 
 
Purchased 6.9 million shares of our common stock and paid $0.50 and $0.425 per share dividends in the last half and first half of 2015, respectively.
 
 
 
 
Continued upgrades to our crude oil rail car fleet by adding enhanced tank cars that exceed new safe transport standards issued by the Department of Transportation.
 
 
 
Modified Anacortes refinery crude tower allowing increased throughput totaling 125 Mbpd.
 
Processed over 2 million barrels of additional crude oil at the Los Angeles refinery during a hydrocracker turnaround, exhibiting the synergy and integration efforts.
 
Added pipeline interconnects at the Los Angeles refinery, enabling further movements between assets and reduced dependence on third-party systems.
 
 
 
Expanded our marketing operations through acquisition of ARCO® retail stations in Southern California and execution of a strategic marketing agreement with high volume retail stations in Las Vegas, Nevada.
 
 
 
Repaid $398 million Term Loan Facility eliminating secured debt. Received positive outlook ratings for both Tesoro and TLLP.
 
 
 
 
TLLP completed its acquisition of the LA Storage and Handling Assets from Tesoro for total consideration of $500 million.
 
 
 
TLLP successfully placed the Connolly Gathering System project in service on time and below budget at a total cost of $148 million. The project increased crude oil gathering capacity by 60 Mbpd.
 
 
 

While we achieved these significant accomplishments during 2015, the Company experienced several unexpected and unplanned events that negatively impacted our business results. Our results include the impact of the work stoppage in February and March of 2015, a period of reduced run-rates at our Salt Lake City refinery following the completion of the expansion project in the second quarter of 2015 and unplanned downtime of multiple FCC units across our West Coast refineries in December, which reduced throughput and increased operating costs.


29


Synergy and Business Improvement Objectives

In December 2014, we laid out our plans to deliver an additional $550 to $670 million of annual improvements during 2015. These improvements are in addition to what was delivered in 2014 and include $95 to $125 million from delivering West Coast improvements, $130 to $170 million from capturing margin improvements, and $325 to $375 million by growing our logistics operations. During 2015, we estimate that we delivered approximately $670 million towards our ongoing focus to improve gross margin and manage our costs to drive improvement in operating income. This includes about $350 million related to West Coast improvements and capturing margin improvements. We delivered approximately $320 million from growing our logistics operations, which includes contributions from the Rockies Natural Gas Business. These initiatives focus on improving capture rates and managing our costs to drive improvements in operating income. These improvements are measured against original assumptions utilized in our planning cycle either for our annual business plan or at the time we approve a capital project. Our 2015 achievements included the following:

Benefited from Los Angeles improvements including:
Crude optimizations from sourcing new crudes;
Crude blending capabilities at the Carson crude terminal that resulted in higher throughput volumes;
New cargo sharing with our Martinez refinery;
Improved pipeline connectivity between the Los Angeles refinery sites; and
West Coast integration of naphtha and gasoline blendstocks.
Re-distributed in-bound crude oil to our Kenai refinery during maintenance and turnaround activities at our Anacortes refinery to optimize our west coast system; and
Completed the second phase of the Salt Lake City Refinery Expansion project.

Our plans, as presented in December 2015, are to deliver an additional $900 million to $1.1 billion of annual improvements during 2016. These improvements are in addition to what was delivered in 2015 and include $400 to $500 million from business improvements across our segments and $500 to $600 million from higher utilization and capture.

30



Current Market Conditions

Domestic. The markets in which we operate have continued to experience volatility, with the price of crude oil dropping 30% over 2015 and nearly 18% in the fourth quarter of 2015. Slowing growth in domestic U.S. crude oil production, supply outages, changing logistical infrastructure as well as improving domestic macroeconomic conditions have influenced all portions of our business. Supply of refined products to the West Coast market has been impacted this year by work stoppages and several unplanned outages at refineries, including some at our facilities. During this same time period, lower gasoline and energy prices, along with improving employment have led to higher domestic demand in the West Coast regions. These factors have helped create an above average margin environment in our regions. During the fourth quarter, we saw crude oil price volatility continue due to multiple factors including weak global demand, continued supply growth outside the U.S. and political factors within the U.S., namely the lifting of the crude export ban. All of these events resulted in narrowing of U.S. domestic crude differentials compared to similar world markets. Weaker seasonal product demand in the fourth quarter resulted in lower margins than the third quarter, but continued growth in West Coast gasoline demand and local supply disruptions brought about higher than normal margins in our West Coast regions for the fourth quarter. Gasoline margins were better than typically seen in the fourth quarter on growth in U.S. demand, while distillate margins were lower due to global oversupply and slowing growth in both domestic and emerging economies. We continue to monitor the impact of these changes in market prices and fundamentals on our business including values recognized in connection with the recently acquired Rockies Natural Gas Business.

Global. The global energy markets have also experienced volatility due to fluctuations in growth in the developing regions of the world, which saw economic stagnation during 2015 with some countries seeing economic slowdown. The market for crude oil, natural gas and refined products is affected by changes in economic conditions and the associated supply and demand balance changes. Product values and crude oil prices are set by the market and are outside our control. We expect global market conditions to drive continued volatility in our markets.

Tesoro Logistics LP

TLLP was formed to own, operate, develop and acquire logistics assets to gather crude oil and natural gas, to distribute, transport and store crude oil and refined products, and to process and fractionate natural gas and NGLs. Tesoro Logistics GP, LLC (“TLGP”), a wholly-owned consolidated subsidiary, serves as the general partner of TLLP. We held an approximate 36% interest in TLLP at December 31, 2015, including a 2% general partner interest and all of the incentive distribution rights. In 2015, 55% of TLLP’s revenue was derived from us primarily under various long-term, fee-based commercial agreements that generally include minimum volume commitments.

TLLP’s strategy remains to grow earnings through four ways that have remained constant since its 2011 initial public offering:

Focusing on stable, fee-based business;
Optimizing our existing asset base;
Pursuing organic expansion opportunities; and
Continued growth through strategic acquisitions.

By achieving this growth and through our ownership of TLLP’s general partner, we expect the logistics operations to maximize the integrated value of assets within the midstream and downstream value chain. This includes creating shareholder value through the lower cost of capital available to TLLP as a limited partnership and receipt of TLLP’s quarterly distributions. As the distributions per unit increase, our proportion of the total distribution will grow at an accelerated rate due to our incentive distribution rights. We believe TLLP is well positioned to achieve its primary business objectives and execute business strategies based on its long-term fee-based contracts, relationship with us, assets positioned in the Bakken and Rockies regions and its financial flexibility provided by its balanced capital structure, available revolving credit facility capacity, new dropdown credit facility, ability to access equity capital markets through its continuous issuance program and financial support from us. Refer to the “Capital Resource and Liquidity” section for further discussion of resources available to TLLP.


31


Relative to these goals, during 2015, TLLP accomplished the following (refer to Notes 3 and 13 in our consolidated financial statements in Item 8 for further information):

expanded its assets on its gathering and transportation system, located in the Bakken Region (the “High Plains System”) in support of growing third-party demand for transportation services and Tesoro’s demand for Bakken crude oil in the mid-continent and west coast refining systems, including:
further expanded capacity and capability of its common carrier pipeline in North Dakota and Montana;
expanded its gathering footprint in the Bakken region, including crude oil, natural gas and water, to enhance and improve overall basin logistic efficiencies;
added other origin and destination points on the High Plains System to increase volumes; and
improved utilization of its proprietary truck fleet, which should generate cost and operating efficiencies.
increased its terminalling volumes by expanding capacity and growing its third-party services at certain of its terminals;
optimized Tesoro volumes and grow third-party volumes using its terminalling and transportation assets;
completed the integration, expanded and optimized its natural gas gathering and processing assets;
completed the Connolly Gathering System major growth project, which has a capacity of approximately 60 Mbpd; and
closed the acquisition of crude oil and refined product storage and pipeline assets in Los Angeles, California (the "LA Storage and Handling Assets") owned by subsidiaries of Tesoro, for a total consideration of $500 million. TLLP acquired a crude oil, feedstock and refined product storage tank facility with combined capacity of 6.6 million barrels and a 50% interest in a 16-mile pipeline that transports jet fuel from Tesoro's Los Angeles refinery to the Los Angeles International Airport.

Total market value of TLLP units held by Tesoro was $1.6 billion and $1.7 billion at December 31, 2015 and 2014, respectively. At December 31, 2015, Tesoro held 32,445,115 common units at a market value of $50.32 per unit based on the closing unit price as of that date. At December 31, 2014, Tesoro held 28,181,748 common units at a market value of $58.85 per unit based on the closing unit price as of that date. Cash distributions received from TLLP, including incentive distribution rights, is as follows (in millions):
 
Years Ended December 31,
 
2015
 
2014
 
2013
Cash distributions received from TLLP (a):
 
 
 
 
 
For common/subordinated units held
$
80

 
$
52

 
$
35

For general partner units held
68

 
35

 
9

 Total Cash Distributions Received from TLLP
$
148

 
$
87

 
$
44

__________________
(a)
Represents distributions received from TLLP during the years ended December 31, 2015, 2014 and 2013 on common or subordinated units and general partner units held by Tesoro including incentive distribution rights.

Equity Issuances. On August 24, 2015, TLLP filed a prospectus supplement to its shelf registration statement filed with the Securities and Exchange Commission on August 6, 2015, authorizing the continuous issuance of up to an aggregate of $750 million of common units, in amounts, at prices and on terms to be determined by market conditions and other factors at the time of its offerings. Prior to that, TLLP had authorization under $200 million program filed under a prospectus supplement filed on June 25, 2014. During the year ended December 31, 2015, TLLP issued an aggregate of 1,957,046 common units under both continuous issuance programs generating proceeds of approximately $105 million before issuance costs. The net proceeds from issuances under these programs were used for general partnership purposes, which included debt repayment, future acquisitions, capital expenditures and additions to working capital.

Vancouver Energy

Consistent with our strategic priorities to drive value chain optimization and capture value-driven growth, we entered into a joint venture in 2013 with Savage Companies to construct, own and operate a unit train unloading and marine loading terminal at Port of Vancouver, USA (the “Vancouver Energy” terminal) with a total capacity of 360 Mbpd allowing for the delivery of cost-advantaged North American crude oil to the U.S. West Coast. The entire project scope is estimated to cost $210 million. While there is the potential that additional scope changes may result from the final Energy Facility Site Evaluation Council (“EFSEC”) review, we do not expect those changes will be material to the estimated costs.


32


The project is progressing through the EFSEC permitting process in the state of Washington. EFSEC released the Draft Environmental Impact Statement in November 2015 and has begun the adjudicative phase with the adjudicative hearing set for the summer of 2016. We expect EFSEC will submit its recommendation to the governor of Washington once it completes the adjudicative phase. The joint venture will begin construction of the facilities upon the governor’s approval of the project and issuance of permits. Project construction is estimated to take nine to twelve months, however initial operations are expected to begin within a few months of construction start.

RESULTS OF OPERATIONS

A discussion and analysis of the factors contributing to our results of operations is presented below. The accompanying consolidated financial statements in Part II, Item 8, together with the following information, are intended to provide investors with a reasonable basis for assessing our historical operations, but should not serve as the only criteria for predicting our future performance.

Non-GAAP Measures

Our management uses a variety of financial and operating metrics to analyze operating segment performance. To supplement our financial information presented in accordance with accounting principles generally accepted in the United States of America, our management uses additional metrics that are known as “non-GAAP” financial metrics in its evaluation of past performance and prospects for the future. These metrics are significant factors in assessing our operating results and profitability and include earnings before interest, income taxes, depreciation and amortization expenses (“EBITDA”). We define EBITDA as consolidated earnings, including earnings attributable to noncontrolling interest, excluding net earnings (loss) from discontinued operations, before depreciation and amortization expense, net interest and financing costs and income taxes. We define adjusted EBITDA as EBITDA plus or minus amounts determined to be “special items” by our management based on their unusual nature and relative significance to earnings (loss) in a certain period. We provide complete reconciliation and discussion of items identified as special items with our presentation of adjusted EBITDA.

We present EBITDA and adjusted EBITDA because we believe some investors and analysts use EBITDA and adjusted EBITDA to help analyze our cash flows including our ability to satisfy principal and interest obligations with respect to our indebtedness and use cash for other purposes, including capital expenditures. EBITDA and adjusted EBITDA are also used by some investors and analysts to analyze and compare companies on the basis of operating performance and by management for internal analysis. EBITDA and adjusted EBITDA should not be considered as alternatives to U.S. GAAP net earnings or net cash from operating activities. EBITDA and adjusted EBITDA have important limitations as analytical tools, because they exclude some, but not all, items that affect net earnings and net cash from operating activities.

Items Impacting Comparability

Our branded marketing operations represented the assets and operations that were previously shown as the retail segment. In previous periods, a portion of our marketing business related to sales in unbranded or wholesale channels that were presented within our refining operating segment. Upon considering the changes in our business including the transition from company-owned retail operations to a multi-site operator model, we assessed how our chief operating decision maker evaluates the business, assesses performance and allocates resources. From this analysis, we believed the presentation of a marketing segment inclusive of both unbranded and branded marketing operations was appropriate. As of the second quarter 2015, we revised our operating segments to include refining, TLLP and a realigned marketing segment. Comparable prior period information has been recast to reflect our revised segment presentation. No other changes were deemed necessary to our refining and TLLP segments.

The TLLP financial and operational data presented include the historical results of all assets acquired from Tesoro prior to the acquisition dates. The acquisitions from Tesoro were transfers between entities under common control. Accordingly, the financial information of TLLP contained herein has been retrospectively adjusted to include the historical results of the assets acquired from Tesoro prior to the effective date of each acquisition for all periods presented and do not include revenue for transactions with Tesoro with the exception of regulatory tariffs on its pipeline assets. The TLLP financial data is derived from the combined financial results of the TLLP predecessor (the “TLLP Predecessor”). We refer to the TLLP Predecessor and, prior to each acquisition date, the acquisitions from Tesoro collectively, as “TLLP’s Predecessors.”

TLLP acquired assets related to the Rockies Natural Gas Business on December 2, 2014, which is engaged in natural gas gathering, transportation and processing in or around the Green River Basin located in Wyoming and Colorado, the Uinta Basin located in eastern Utah, and the Bakken region located in North Dakota.


33


On September 25, 2013, we completed the sale of all of our interest in Tesoro Hawaii, LLC, which operated a 94 Mbpd Hawaii refinery, retail stations and associated logistics assets (the “Hawaii Business”). We have reflected its results of operations as discontinued operations in our consolidated statements of operations for all periods presented, and, unless otherwise noted, we have excluded the Hawaii Business from the financial and operational data presented in the tables and discussion that follow.

Certain 2014 financial information has been revised to conform with current year presentation. In addition, certain 2014 and 2013 EBITDA financial information has been revised to conform with EBITDA and Adjusted EBITDA presentation disclosed by TLLP on a standalone basis.

Summary
 
Years Ended December 31,
 
2015
 
2014
 
2013
 
(In millions except per share amounts)
Revenues
$
28,711

 
$
40,633

 
$
37,601

Cost and Expenses:
 
 
 
 
 
Cost of sales (excluding the lower of cost or market inventory
   valuation adjustment)
22,149

 
35,631

 
34,085

Lower of cost or market inventory valuation adjustment
317

 
42

 

Operating expenses
2,278

 
2,420

 
1,911

Selling, general and administrative expenses
342

 
342

 
337

Depreciation and amortization expense
756

 
562

 
489

Loss on asset disposals and impairments
42

 
4

 
24

Operating Income
2,827

 
1,632

 
755

Interest and financing costs, net
(217
)
 
(235
)
 
(149
)
Equity in earnings of equity method investments
7

 
10

 
11

Other income, net
13

 
57

 
63

Earnings Before Income Taxes
2,630

 
1,464

 
680

Income tax expense
936

 
547

 
246

Net Earnings from Continuing Operations
1,694

 
917

 
434

Earnings (loss) from discontinued operations, net of tax
(4
)
 
(29
)
 
20

Net Earnings
1,690

 
888

 
454

Less: Net earnings from continuing operations attributable to
   noncontrolling interest
150

 
45

 
42

Net Earnings Attributable to Tesoro Corporation
$
1,540

 
$
843

 
$
412

 
 
 
 
 
 
Net Earnings (Loss) Attributable to Tesoro Corporation
 
 
 
 
 
Continuing operations
$
1,544

 
$
872

 
$
392

Discontinued operations
(4
)
 
(29
)
 
20

Total
$
1,540

 
$
843

 
$
412

 
 
 
 
 
 
Net Earnings (Loss) Per Share - Basic:
 
 
 
 
 
Continuing operations
$
12.53

 
$
6.79

 
$
2.90

Discontinued operations
(0.03
)
 
(0.23
)
 
0.15

Total
$
12.50

 
$
6.56

 
$
3.05

Weighted average common shares outstanding - Basic
123.2

 
128.5

 
135.0

 
 
 
 
 
 
Net Earnings (Loss) Per Share - Diluted:
 
 
 
 
 
Continuing operations
$
12.39

 
$
6.67

 
$
2.85

Discontinued operations
(0.03
)
 
(0.23
)
 
0.15

Total
$
12.36

 
$
6.44

 
$
3.00

Weighted average common shares outstanding - Diluted
124.6

 
130.8

 
137.3


34




35


 
Years Ended December 31,
 
2015
 
2014
 
2013
Reconciliation of Net Earnings to EBITDA and Adjusted EBITDA
(In millions)
Net earnings
$
1,690

 
$
888

 
$
454

Loss (earnings) from discontinued operations, net of tax
4

 
29

 
(20
)
Depreciation and amortization expense
756

 
562

 
489

Interest and financing costs, net
217

 
235

 
149

Income tax expense
936

 
547

 
246

EBITDA (a)
$
3,603

 
$
2,261

 
$
1,318

Special items (b)
321

 
29

 
(3
)
Adjusted EBITDA (a)
$
3,924

 
$
2,290

 
$
1,315

 
 
 
 
 
 
Reconciliation of Cash Flows from Operating Activities to EBITDA and
   Adjusted EBITDA
 
 
 
 
 
Net cash from operating activities
$
2,131

 
$
1,364

 
$
859

Net cash used in (from) discontinued operations
5

 
3

 
(71
)
Debt redemption charges
(1
)
 
(41
)
 

Turnaround and branding charges
342

 
256

 
451

Changes in current assets and current liabilities
164

 
186

 
(55
)
Income tax expense
936

 
547

 
246

Stock-based compensation expense
(75
)
 
(55
)
 
(79
)
Interest and financing costs, net
217

 
235

 
149

Deferred income tax expense
(65
)
 
(246
)
 
(166
)
Loss on asset disposals and impairments
(42
)
 
(4
)
 
(24
)
Other
(9
)
 
16

 
8

EBITDA (a)
$
3,603

 
$
2,261

 
$
1,318

Special items (b)
321

 
29

 
(3
)
Adjusted EBITDA (a)
$
3,924

 
$
2,290

 
$
1,315

____________________
(a)
For a definition of EBITDA and adjusted EBITDA, see discussion above.
(b)
Special items included in EBITDA but excluded for presentation of adjusted EBITDA consist of the following (in millions):
 
Years Ended December 31,
 
2015
 
2014
 
2013
Transaction and integration costs (c)
$
2

 
$
19

 
$
62

Lower of cost or market inventory adjustment (d)
317

 
42

 

Throughput deficiency receivable (e)
13

 
10

 

Legal settlements, net (f)

 
(44
)
 
(70
)
Insurance settlement gain (g)
(11
)
 

 

Gain on sale of Boise Terminal (h)

 
(5
)
 

Inspection and maintenance expenses associated with the Northwest Products System (i)

 
7

 
5

Total Special Items Included in EBITDA
$
321

 
$
29

 
$
(3
)
____________________
(c)
Transaction and integration costs for the years ended December 31, 2015 and 2014 primarily related to TLLP’s Rockies Natural Gas Business acquisition of $1 million and $19 million, respectively, and $62 million related to the assets we acquired on June 1, 2013 from BP West Coast Products, LLC and other affiliated sellers (the “Los Angeles Acquisition”) and TLLP acquisition of Chevron’s Northwest Products System (the “Northwest Products System”) for the year ended December 31, 2013.
(d)
We recorded charges of $359 million and $42 million for lower of cost or market adjustments related to our inventories at December 31, 2015 and 2014, respectively. The year ended December 31, 2015 also includes a benefit of $42 million for the reversal of the lower of cost or market inventory adjustment made in 2014.
(e)
During the years ended December 31, 2015 and 2014, TLLP invoiced QEPFS customers for deficiency payments. TLLP did not recognize $13 million and $10 million of revenue related to the billing period for the years ended December 31, 2015 and 2014, respectively, as it represented opening balance sheet assets for the acquisition of the Rockies Natural Gas Business; however, TLLP is entitled to cash receipt from such billings.
(f)
Includes a refund and settlement from a crude pipeline network rate case settlement of $59 million for the year ended December 31, 2014, partially offset by accruals of $15 million for the resolution of certain legal matters. A $16 million benefit related to the release of a legal reserve as a result of a favorable litigation settlement and $54 million in refunds from the settlement of a rate proceeding from the California Public Utilities Commission are included for the year ended December 31, 2013.
(g)
During the year ended December 31, 2015, we recorded a gain of $11 million as other income for insurance proceeds related to the settlement of claims associated with the Washington Refinery Fire.
(h)
Includes a gain of $5 million for the year ended December 31, 2014, resulting from TLLP’s sale of its Boise terminal.
(i)
Includes costs for detailed inspection and maintenance program on the Northwest Products System pipeline for the years ended December 31, 2014 and 2013. The purchase price of the Northwest Products System was reduced to compensate TLLP for assuming responsibilities to perform this work.


36


Consolidated Results

Selected consolidated operating data and results are as follows:
 
Years Ended December 31,
 
2015
 
2014
 
2013
Refined Product Sales (Mbpd) (a)
 
 
 
 
 
Gasoline and gasoline blendstocks
510

 
507

 
429

Diesel fuel
204

 
206

 
176

Jet fuel
152

 
149

 
117

Heavy fuel oils, residual products and other
92

 
87

 
86

Total Refined Product Sales
958

 
949

 
808

 
 
 
 
 
 
Refined Product Sales Margin ($/barrel) (b)
 
 
 
 
 
Average sales price
$
77.70

 
$
112.17

 
$
118.40

Average costs of sales
65.07

 
102.59

 
109.64

Refined Product Sales Margin
$
12.63

 
$
9.58

 
$
8.76

________________
(a)
Sources of total refined product sales include refined products manufactured at our refineries and refined products purchased from third parties. Total refined product sales margins include margins on sales of manufactured and purchased refined products.
(b)
Average refined product sales price include all sales through our marketing segment as well as in bulk markets and exports through our refining segment. Average costs of sales and related sales margins include amounts recognized for the sale of refined products manufactured at our refineries along with the sale of refined products purchased from third parties to help fulfill supply commitments.

2015 Compared to 2014

Overview. Our net earnings from continuing operations attributable to Tesoro Corporation in 2015 were $1.5 billion, or $12.39 per diluted share, compared with net earnings of $872 million, or $6.67 per diluted share in 2014 due primarily to the $3.05 per barrel increase in our refined product sales margin and lower operating expenses.

Gross Margins. Our gross refining margin increased $689 million during 2015 compared to 2014 primarily driven by a stronger margin environment across the California and Pacific Northwest regions. The increases in gross refining margin were driven by an increase of $3.95 in our gross refining margin per barrel partially offset by the impact of the work stoppages and three refinery turnarounds during 2015 as well as the net lower of cost or market inventory adjustments of $317 million for 2015 compared to $42 million for 2014. With a continued volatile price environment, the impact of our lower of cost of market adjustment can vary and may increase in the future. TLLP revenues, net of operating expenses, increased $366 million due to higher throughput volumes driven by a full year of operations from the Rockies Natural Gas Business and other acquired assets and continued expansion of its crude oil gathering assets. Our gross marketing margin increased $296 million primarily driven by favorable market conditions and strong demand.

Other Costs and Expenses. Operating expenses decreased $142 million to $2.3 billion in 2015 compared to 2014 primarily due to declining natural gas costs and the conversion of company-operated retail sites to multi-site operators (“MSOs”) that reduced costs associated with the management of station operations partially offset by increased expenses from a full year of operations from the Rockies Natural Gas Business. Depreciation and amortization expenses increased $194 million to $756 million in 2015 compared to 2014 primarily due to depreciation and amortization associated with the Rockies Natural Gas Business and new assets placed into service. Loss on asset disposals and impairments for 2015 include various projects that were discontinued due to their lack of economic viability given the current market environment.

Interest and financing costs, net. Interest and financing costs decreased approximately $18 million to $217 million during 2015 from $235 million during 2014. The decrease consisted primarily of financing transactions that occurred in 2014 that did not have a comparable transaction in 2015. These transactions include a $39 million charge for premiums paid, unamortized debt issuance costs and discounts related to the redemption of the 9.750% Senior Notes due 2019 (the “2019 Notes”) and TLLP 5.875% Senior Notes due 2020 (the “TLLP 2020 Notes”) in 2014 as well as bridge fees in connection with TLLP’s Rockies Natural Gas Business acquisition. These decreases were partially offset by a full year of incremental interest on TLLP’s 5.500% Senior Notes due 2019 (the “TLLP 2019 Notes”) and TLLP’s 6.250% Senior Notes due 2022 (the “TLLP 2022 Notes”).


37


Other Income. Other income during 2015 included a gain for an insurance settlement of $11 million related to the Washington Refinery Fire. In 2014, other income included a refund and settlement from a crude pipeline network rate case settlement of $59 million.

Income Tax Expense. Our income tax expense from continuing operations totaled $936 million in 2015 versus $547 million in 2014. The combined federal and state effective income tax rate was 35.6% and 37.4% during 2015 and 2014, respectively. The increase to income tax expense is attributable to the increase in earnings before income taxes. Compared to 2014, the 2015 rate included an increased share of income from non-taxable noncontrolling interests attributable to TLLP.

Loss from Discontinued Operations, Net of Income Tax. Losses from discontinued operations related to the Hawaii Business, net of tax, were $4 million in 2015, compared to $29 million in 2014. The loss in 2014 primarily related to $42 million in charges related to regulatory improvements we are obligated to make at the at the Hawaii refinery to resolve the Clean Air Act matters discussed in Note 17 to our consolidated financial statements in Item 8. The loss in 2015 is related to a change in estimate for the regulatory improvements we are required to make.

2014 Compared to 2013

Overview. Our net earnings from continuing operations attributable to Tesoro Corporation in 2014 were $872 million ($6.67 per diluted share) compared with net earnings of $392 million ($2.85 per diluted share) in 2013 primarily due to a full year of earnings from assets acquired in the Los Angeles Acquisition on June 1, 2013, and an improved margin environment in 2014.

Gross Margins. Our gross refining margin increased $914 million during 2014 compared to 2013 primarily driven by higher refined product sales volumes resulting from full year operations of our integrated Southern California refining, marketing and logistics business acquired in the Los Angeles Acquisition. The increase was further improved by an increase of $1.51 in our gross refining margin per barrel during 2014 due to a stronger margin environment throughout most of 2014. The increases in refining gross margin during 2014 were partially offset by a $42 million lower of cost or market adjustment related to inventory given the lower commodity price environment we experienced during the second half of 2014. Our marketing gross margin increased $372 million due to higher fuel margins as well as higher fuel sales volumes resulting from our expanded retail network. TLLP revenues, net of operating expenses, increased by $194 million due to higher throughput volumes driven by acquired assets and continued expansion of its crude oil gathering and terminalling assets.

Other Costs and Expenses. Operating expenses increased $509 million, or 27%, to $2.4 billion in 2014 compared to 2013 primarily due to a full year of operations of the assets acquired in the Los Angeles Acquisition. Depreciation and amortization expense increased $73 million due to increased depreciation expense associated with assets acquired with the Los Angeles Acquisition.

Interest and Financing Costs, Net. Interest and financing costs increased approximately $86 million to $235 million during 2014 from $149 million during 2013. The increase consisted primarily of a $39 million charge for premiums paid, unamortized debt issuance costs and discounts related to the redemption of the 2019 Notes and TLLP 2020 Notes in 2014. Additionally, incremental interest expense of $32 million was incurred during 2014 compared to 2013 associated with the TLLP 2020 Notes and TLLP’s 6.125% Senior Notes due 2021 (the “TLLP 2021 Notes”) issued during the second half of 2013. TLLP used these borrowings to finance its acquisition of logistics assets from us that we acquired in connection with the Los Angeles Acquisition. Further increases of $28 million resulted from the issuance of the TLLP 2019 Notes, the TLLP 2022 Notes and related bridge fees in connection with TLLP’s Rockies Natural Gas Business acquisition. During 2014, our interest costs reflected a net savings compared to 2013 of $10 million as a result of refinancing the 2019 Notes with the 5.125% Senior Notes due 2024 (the “2024 Notes”) in March 2014.

Other Income. Other income during 2014 included a refund and settlement from a crude pipeline network rate case settlement of $59 million that was comparable in amount to a refund from the settlement of a rate proceeding from the California Public Utilities Commission of $54 million during 2013. Additionally, 2013 included the release of a $16 million legal reserve as a result of a favorable settlement of litigation.

Income Tax Expense. Our income tax expense from continuing operations totaled $547 million in 2014 versus $246 million in 2013. The combined federal and state effective income tax rate was 37.4% and 36.2% during 2014 and 2013, respectively. Compared to 2013, the 2014 rate included a reduced share of income from non-taxable noncontrolling interests attributable to TLLP.


38


Earnings (loss) from Discontinued Operations, Net of Income Tax. Losses from discontinued operations related to the Hawaii Business, net of tax, were $29 million in 2014, compared to earnings of $20 million in 2013. The loss in 2014 primarily related to $42 million in charges related to regulatory improvements we are obligated to make at the Hawaii refinery to resolve the Clean Air Act matters discussed in Note 17 to our consolidated financial statements in Item 8. The earnings in 2013 included an $81 million gain on the sale of the Hawaii Business, which included a $17 million curtailment gain related to the remeasurement of our pension and other postretirement benefit obligations.

Refining Segment

We currently own and operate six petroleum refineries located in the western United States and sell transportation fuels to a wide variety of customers. Our refineries produce the majority of the transportation fuels that we sell. Our six refineries have a combined crude oil capacity of 875 Mbpd. We purchase crude oil and other feedstocks from domestic and foreign sources, including the Middle East, South America, western Africa, Canada, and other locations either in the spot market or through term agreements with renewal provisions. Our marketing segment, including its branded retail network, provides a committed outlet for the majority of the gasoline produced by our refineries; however, we also sell gasoline and gasoline blendstocks, jet fuel, diesel fuel, heavy fuel oils and residual products in bulk and opportunistically export refined products to certain foreign markets.

Market Overview. Results from our refining segment are heavily influenced by our gross refining margin and refinery throughputs. The gross refining margin is the difference between the prices of all manufactured refined products sold and the cost of crude oil and other feedstocks used to produce refined products, including the cost of transportation and distribution. The market for crude oil and products is affected by changes in economic conditions and supply and demand balance. Product values and crude oil prices are set by the market and are outside of our control. When evaluating the markets in which we operate, we utilize the U.S. Energy Information Administration (“EIA”) and other industry sources, to gather supply, demand, utilization, import and export information to forecast and monitor market conditions for our operating regions. We focus on PADD V, or the West Coast of the U.S. where the majority of our operations are located. PADD V is defined by the Petroleum Administration for Defense Districts (“PADD”) as the states of Alaska, Arizona, California, Hawaii, Nevada, Oregon and Washington.

As a performance benchmark and a comparison with other industry participants, we utilize the West Coast and Mid-Continent crack spreads. The crack spread is a measure of the difference between market prices for crude oil and refined products and is a commonly used proxy within the industry to estimate or identify trends in gross refining margins. Crack spreads can fluctuate significantly over time as a result of market conditions and supply and demand balances. The West Coast 321 crack spread is calculated using 3 barrels of Alaska North Slope crude oil (“ANS”) producing 2 barrels of Los Angeles CARB gasoline and 1 barrel of Los Angeles CARB diesel. The Mid-Continent 321 crack spread is calculated using 3 barrels of West Texas Intermediate crude oil (“WTI”) producing 2 barrels of Group 3 gasoline and 1 barrel of Group 3 diesel.

Our actual gross refining margins differ from these crack spreads based on the actual slate of crude oil we run at our refineries and the products we produce. The global commodity markets for crude oil and refined products are subject to significant volatility resulting in rapidly changing prices and margin environments. Our refineries process a variety of crude oils that are sourced from around the world. The slate of crude oil we process can vary over time as a result of changes in market prices and shipping rates. Additionally, our refining gross margin is impacted by the changing crude oil price differentials, which is the difference between the benchmark crude oils, WTI and Brent crude oil (“Brent”), and the actual crude oil we run at our refineries. We may experience financial risk associated with price volatility of crude oil and refined products and we may utilize financial hedge instruments to help mitigate such risks where possible.

The following table provides key information that can be used to monitor our business:
 
December 31,
 
2015
 
2014
 
2013
Crack Spreads
 
 
 
 
 
West Coast 321 (ANS) ($/barrel)
$
25.33

 
$
16.25

 
$
16.30

Mid-Continent 321 (WTI) ($/barrel)
18.09

 
16.41

 
20.65

Crude Oil Differentials
 
 
 
 
 
Brent to WTI
$
4.85

 
$
6.54

 
$
10.79

Brent to ANS
1.21

 
2.09

 
1.08

WTI to Bakken (Clearbrook)
2.29

 
5.95

 
4.89

ANS to Bakken (Clearbrook)
5.93

 
10.40

 
14.61

ANS to San Joaquin Valley Heavy (CA)
8.09

 
7.54

 
6.93

ANS to Canadian Lt. Sweet
5.91

 
11.77

 
17.97


Source: PLATTS

West Coast. Average U.S. West Coast crack spreads were up approximately 55.9% in 2015, as compared to 2014 and were down approximately 0.3% for 2014 compared to 2013. The increased crack spreads in 2015 are a result of increased demand year over year along with several extended unplanned refinery outages in PADD V, including our own as discussed below, which reduced West Coast refinery utilization. The EIA reports have noted an increase in PADD V clean product imports to meet the increased demand. 2014 crack spreads were relatively flat compared to 2013, but remained higher in relation to historical average as a result of continued economic expansion on the West Coast and continued growth of PADD V clean product demand.

Mid-Continent. Average Mid-Continent crack spreads were up approximately 10.2% in 2015, compared to 2014 and were down approximately 20.5% in 2014 compared to 2013. While margins have increased in 2015 over 2014, the local crude oil differentials have more than offset this increase. The WTI to Bakken differential has decreased by approximately $3.66 per barrel increasing the price of Bakken, which resulted in a lower gross margin in 2015 compared to 2014. Bakken crude oil represented about 55% of the crude oil consumed by our Mid-Continent system in 2015. The decrease in crack spreads from 2014 to 2013 was as a result of regional growth in overall refining capacity and high utilization supported by the increasing domestic crude oil production and growth in clean product demand.

Operational Data and Results. Management uses various measures to evaluate performance and efficiency and to compare profitability to other companies in the industry. These measures include:

Gross refining margin per barrel is calculated by dividing gross refining margin (revenues less costs of feedstocks, purchased refined products, transportation and distribution) by total refining throughput;
Manufacturing costs before depreciation and amortization expense (“Manufacturing Costs”) per barrel is calculated by dividing Manufacturing Costs by total refining throughput:
We calculate refined product sales margin per barrel by dividing refined product sales margin by total refined product sales (in barrels); and
Refined product sales margin represents refined product sales less refined product cost of sales.

Investors and analysts use these financial measures to help analyze and compare companies in the industry on the basis of operating performance. These financial measures should not be considered alternatives to segment operating income, revenues, costs of sales and operating expenses or any other measure of financial performance presented in accordance with U.S. GAAP.


39


Our Refining segment operating data are as follows:
 
Years Ended December 31,
 
2015
 
2014
 
2013
Throughput (Mbpd)
 
 
 
 
 
Heavy crude
151

 
155

 
185

Light crude
580

 
613

 
459

Other feedstocks
56

 
57

 
53

Total Throughput
787

 
825

 
697

 
 
 
 
 
 
Yield (Mbpd)
 
 
 
 
 
Gasoline and gasoline blendstocks
409

 
429

 
350

Diesel fuel
169

 
191

 
158

Jet fuel
119

 
127

 
100

Heavy fuel oils, residual products, internally produced fuel and other
139

 
132

 
132

Total Yield
836

 
879

 
740



40


Our Refining segment operating results are as follows:
 
Years Ended December 31,
 
2015
 
2014
 
2013