UPDATE 2-Tesoro profit down 87 pct, cuts payout

* Shares down 3.5 percent

* Qtly dividend halved to 5 cents per share

* 2010 budget set at $675 mln (Recasts, adds analyst estimates, byline, background)

By Anna Driver

HOUSTON, Nov 9 (Reuters) - Tesoro Corp (TSO.N) said on Monday it cut its dividend in half as weak demand for fuel hurt margins and contributed to an 87 percent slide in the U.S. refiner's third-quarter profit.

The results topped Wall Street expectations, but analysts said investors were more focused on the dividend cut, and the company's shares fell 3.5 percent.

Tesoro cut its quarterly dividend to 5 cents per share. Money saved by the payout reduction will be used to help fund the San Antonio, Texas, company's 2010 business plan, it said.

Refiners have seen their margins hit hard as the global recession hurts demand for fuel like diesel.

Additionally, lower-grade, or sour crude oil that some of the refineries process has lost much of the cost advantage over higher-grade crude.

Tesoro, which operates on the U.S. West Coast, reported third-quarter net earnings of $33 million or 24 cents per share, down from $259 million or $1.86 per share for the third quarter of 2008.

Analysts on average has expected a profit of 1 cent per share, according to Thomson Reuters I/B/E/S.

The company's realized gross margin of $9.59 per barrel fell by $7.10 per barrel, mostly due to lower margins for distillates and narrowing differentials for heavy crudes.

Total system throughput for the third quarter was 564 thousand barrels per day, down 9 percent from a year ago.

In 2010, Tesoro said it plans to spend $675 million. This year, the company said it plans to spend less than the $600 million it had projected as it worked to improve its cost structure and cash position.

Shares of Tesoro were down 3.5 percent to $13.48 in early afternoon trading on the New York Stock Exchange. (Reporting by Anna Driver, editing by Gerald E. McCormick and Tim Dobbyn)