Tesoro's Heavy Debt Still Weighs On Credit

Tesoro Petroleum Corp.'s $800 million credit, which broke into the secondary market last week, still has high leverage despite reductions in the size of the line. The company downsized the line from $1.275 billion, keeping on track with its goal of debt reduction, but the acquisition of three refineries in the last 18 months has still left Tesoro with a substantial debt load, explained Bryan Caviness, director at Fitch Ratings. Fitch has assigned the senior secured credit a BB- rating with a negative outlook, reflecting the company's high leverage and ongoing volatility in the global crude market and U.S. refining sector.

"[Tesoro] has been very aggressive the last couple of years in terms of acquisitions," said Caviness, citing its purchase of the Golden Eagle, Mandan and Salt Lake City refineries. He noted the company consequently sent its debt up to $2.1 billion from $350 million, despite equity issuance. Caviness said last May, in the midst of some of the worst market conditions in the last decade, the company acquired Valero Energy Corp.'s Golden Eagle refinery for $945 million.

According to Fitch, Tesoro set a target last June of reducing debt by $500 million by the end of 2003, representing a goal of $1.6 billion of balance sheet debt at the end of the year. Continued debt reduction is the primary factor influencing Tesoro's ratings. But meaningful cash flow from operations in the next several months and the company's ability to maintain a significant portion of its inventory reductions from last year could also affect a positive change in ratings or outlook.

"They're on their way there," said Caviness, noting that the company had finally started seeing reasonable margins in the last 4-6 weeks, in part due to events in the Middle East. But he also noted that Fitch is not banking on Tesoro achieving more permanent debt reduction. "We want to make sure that it is a true longer-term savings and that they're getting it from normal operations." Caviness explained that Tesoro has tried to relieve debt through asset sales and has also sold a substantial amount of inventory--"You can't sell it all," he said. Gregory Wright, Tesoro's cfo, and a spokeswoman did not return phone calls.