Exxon's drilling juggernaut

NEW YORK (CNNMoney.com) -- Exxon Mobil may be getting more than it bargained for with its recent plan to purchase natural gas giant XTO Energy.

The $41 billion deal would make Exxon the country's largest shale gas producer, drawing more attention to a controversial area of drilling that analysts say could invite tightened federal regulations for the entire industry.

When the acquisition was announced last week, it was generally seen as a smart business move. XTO (XTO, Fortune 500) is a big player in the so-called "unconventional" gas business -- specifically, gas that lies in shale rock formations.

That business is booming. It's one of the fastest growing energy sectors in the country. But some of the shale is near major population centers, and residents near the drilling are worried about air and, especially, water pollution from the chemicals used to extract shale gas.

"A $41 billion investment is going to make anyone with an environmental eye look sooner and deeper," said Kevin Book, a managing director at ClearView Energy Partners, a Washington, D.C.-based firm that tracks political developments in the energy sector. Exxon's (XOM, Fortune 500) entry into the field, along with interest from other international oil companies, means that shale gas has hit the big time, Book said.

The shale gas industry has been operating in relative obscurity and with minimal federal oversight: A 2005 law exempted it from the federal Safe Drinking Water Act. State regulators do the policing.

Although there are air pollution and land issues associated with shale gas drilling, what most concerns people is the water. Extracting shale gas relies on a method known as hydraulic fracturing, where a huge amount of chemical-laced water is injected down the well hole to fracture the rock and allow the gas to flow out.

State regulators and the industry say the process is safe, as the gas lies thousands of feet below the water table.

But residents near the drilling, which includes much of the New York metro area, Dallas-Fort Worth, and other large population centers, fear the chemicals may contaminate the drinking water.

The federal Environmental Protection Agency has only just begun looking into the issue.

Book said several bills in Congress include provisions that direct the EPA to study the issue more broadly, and could ultimately lead to further regulation. "These are the placeholders," said Book. "Is a change in the law coming? Probably."

A change in regulation could result in gas companies having to pump out the injected water and removing the chemicals before disposing of it back in the ground. That could add anywhere from 8% to 30% to the cost of operating a well, said Neil Dingmann, a Houston-based analyst at Wunderlich Securities.

Yet pushing up the price of natural gas is not something environmentalists are keen to do. Natural gas is much cleaner source of electricity than coal and emits about half the carbon dioxide. Making it more expensive would only deter industries from using it, and push them toward cheaper and dirtier power sources like coal.

Exxon is so concerned about a change in the law it has a clause with XTO that allows it to walk away from the deal if Congress bans hydraulic fracturing or makes it prohibitively expensive, according to filings with the Securities and Exchange Commission. Exxon declined to comment for this story.

Dingmann also said there's another reason Exxon may bring new attention to this type of drilling: They are a high profile company.

"It's not the energy committee going after some company nobody's heard of," said Neil Dingmann, a Houston-based analyst at Wunderlich Securities. "It's big, bad Exxon."

Soon after the XTO deal was announced Chairman of the House Energy and Environment Subcommittee Rep. Ed Markey, D-Mass., issued a statement.

While acknowledging natural gas' environmental benefits, Markey questioned the environmental safety of the drilling and raised anti-trust issues.

"I intend to convene hearings in the Subcommittee early next year so that our members can take a closer look at this proposed transaction," he said.