XTO: Exxon Buys a Green Headache

With its deal to buy XTO Energy (XTO) for $31 billion, ExxonMobil (XOM) became the first major oil company to bet serious money on shale gas, a type of natural gas found trapped in hard subterranean rock. With Exxon's move to scoop up a top independent producer, say analysts, other majors will lock in their own supplies of shale gas, which the industry promotes as a clean, abundant fuel.

Yet the ire of environmental and consumer groups could threaten the future of shale gas. A debate is raging on the harmful effects of its production through a process called hydraulic fracturing. No definitive answers have emerged. But investors are already noticing. Says Edward Morse, an analyst with brokerage LCM Commodities: "I think the green guys cannot be underestimated."

Exxon itself is aware of the risks it's running. Under terms of its XTO acquisition, the deal would be invalidated if Congress outlaws hydraulic fracturing or makes it "commercially impracticable." Neither Exxon nor XTO would comment on the terms. Already, Chesapeake Energy (CHK) has decided not to drill in the watershed that supplies New York City's drinking water. "From Chesapeake's standpoint, the chances of getting permits in any reasonable time period were small," says Lee O. Fuller, vice-president for government relations for the Independent Petroleum Association of America. Chesapeake says it would have developed the watershed safely.

The Environmental Protection Agency is studying the effects of hydraulic fracturing, and on Dec. 14, Representative Edward J. Markey (D-Mass.) said he would hold hearings early next year on both the market impact of the Exxon acquisition and environmental complaints about hydraulic fracturing.

Shale gas is located far beneath the surface in deposits throughout the U.S. To get at it, drillers blast a pressurized mix of water, chemicals, and sand into the rock to create fractures so gas can be brought to the surface.

Activists want proof that the drilling doesn't pollute groundwater. Abigail Dillen, a New York-based lawyer with Earthjustice, a nonprofit law firm, says shale gas drilling in Pennsylvania has yielded "enormous spikes in dissolved solids and sulfates," pollutants that are strictly regulated by Washington. The industry's Fuller says energy companies' production of wastewater complies with the Clean Water Act.

To lobby Congress, in March a group of independent gas producers, including XTO, launched America's Natural Gas Alliance. John H. Pinkerton, CEO of Range Resources (RRC), labels the environmental attacks "alarmist and wrong." He figures the problems of shale gas are minuscule compared with other energy sources. "It's unfathomable to me why we are talking about hydraulic fracturing." Until the talking stops, doubts about shale gas production will remain.

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