(FORTUNE Magazine) –

Pedro Mujica settles in low over home plate, his golden Caracas jersey fluttering in the wind. The pitch comes in fast, and Mujica swings, lining the softball to left field. "Aut, aut," a throng of Venezuelan and Colombian players chant from the sidelines as Mujica is tagged out sliding into second.

It's a familiar scene, except that this August day is cold and blustery, and the field we're on is far from South America--about as far north as you can get and still play ball. It might seem strange to find 40 families from Venezuela living here in Fort McMurray, Alberta, a former fur-trading outpost closer to the Arctic Circle than to the northern border of the U.S. But lately people have been flooding in from places like Newfoundland and South Africa and Indonesia. "They've given me a second chance here," says Mujica, who lost his engineering job in Venezuela when Hugo Chavez came to power in 1998 and who was hired by Shell Canada in January.

Downtown Fort McMurray, where residential side streets hang like fish bones off a strip-mall spine, is bursting. Buying a cup of coffee at Starbucks can take 45 minutes, and bars like Diggers and the Oil Can are packed most nights. New F-150s, Durangos, and Excursions fill the parking lots, and it's not just workers who are coming. It's investment dollars, international corporations, and entrepreneurs, all looking for a stake in Canada's booming oil-sands industry.

Unlike the smooth crude oil that spurts from wells in Kuwait and Texas, oil sands are essentially black mud. "It's like you took a bucket of sand and dumped your old motor oil in it," says Peter Duggan, a manager at the Aurora mine, which is operated by Syncrude, a partnership of Exxon, ConocoPhillips, and several other companies. Through a complicated series of steps (see following diagram) the mud is transformed into gas you can put in your car.

Canadian companies have been mining Alberta's oil sands for nearly 40 years, but since production costs run seven times higher than for the cheapest conventional crude, the frenzy didn't really get going until oil prices spiked. "The oil-sands potential is huge," says Frederick Lawrence, a vice president of the Independent Petroleum Association of America. Oil & Gas Journal estimates that Alberta has 174.5 billion barrels of recoverable reserves in its oil sands, enough to meet Canada's needs for 250 years. That figure is second only to Saudi Arabia's estimated reserves of 264 billion barrels. All told, including deposits beyond the reach of today's technology, there could be 1.6 trillion barrels of oil embedded in Alberta.

The race to lock up those riches has begun in earnest. "The oil sands is the most significant development in crude oil in North America and one of the most significant worldwide," says Richard Kinder, CEO of the American pipeline company Kinder Morgan, which last month agreed to pay $5.6 billion for Canadian tar-sands player Terasen. "We've been looking for the right way in for a year." The day after that deal was announced, French oil giant Total put down $1.1 billion for Deer Creek Energy, another Canadian company. Those buys follow a string of new Chinese stakes: Sinopec acquired 40% of Synenco in May, and CNOOC invested in MEG Energy as well as in a pipeline project.

China's investments in the sector, about $255 million, are little more than a dabble so far, but a proposed venture with Canadian pipeline builder Enbridge to pipe 400,000 barrels a day from Fort McMurray to a Pacific port is widely believed to have caught Washington's attention. In July, Treasury Secretary John Snow toured the area. In August a delegation of U.S. Senators paid a visit. And Vice President Dick Cheney had scheduled a September trip before Hurricane Katrina forced him to change plans. Canada sends two million barrels a day to the U.S., from both oil sands and conventional drilling sites. That accounts for almost 16% of U.S. imports and 99% of Canada's oil exports. As Robert Esser, director of global oil and gas resources at Cambridge Energy Research Associates, puts it, Canada is the only U.S.-friendly country on earth where lots more oil is expected to come online. The White House's 2001 report on national energy policy, spearheaded by Cheney, called Canada's oil sands "a pillar of sustained North American energy and economic security."

In this context, the likelihood of increased Chinese investment--possibly leading to an acquisition of Canada's Suncor Energy, the pioneer in oil-sands development and one of the last companies still up for grabs--gives some observers pause. "If we have to share this oil with China, we are going to have to pick up the slack somewhere else," says Gal Luft, co-director of the Institute for the Analysis of Global Security, a Washington think tank. "That will be the Mideast, and that becomes a national security issue."

The oil sands are only a small piece of America's energy puzzle. But with production expected to triple to three million barrels a day by 2020, it's an important one. Over the same period, U.S. domestic production is projected to fall, and the U.S. is clearly anxious to protect its backyard supply lines. Congressional delegations are new to the oil-sands patch, which has historically been considered a quixotic bet suited only to high-stakes mavericks. Since the mid-1980s, though, incremental improvements have driven down the cost of production from $30 a barrel to $20, according to Neil Camarta, senior vice president of oil sands for Shell Canada, the lead partner in Albian Sands, along with Chevron Canada and Western Oil Sands, a Canadian company. That's still a lot compared with the $3 it takes to produce a barrel in parts of the Middle East. But with costs coming down, technology improving, and the price of oil rising, the oil sands are becoming downright mainstream. More than a dozen companies are planning to spend $60 billion on new projects and expansions over the next decade.

To call what's happening in Fort McMurray a boom implies an inevitable bust, and that rankles local leaders. "This is something that will help define Canada's economy for 50-plus years," says Steve Williams, executive vice president for oil sands at Suncor. But plenty could go wrong. The mining and upgrading processes rely heavily on natural gas--as much as the equivalent of a fifth of a barrel of oil is required to extract one barrel from the sands. So a combination of lower crude prices and higher natural-gas prices would be devastating.

Fort McMurray also faces a critical shortage of labor, especially to meet the more optimistic forecasts, which stretch as high as 11 million barrels a day by 2047. And there are real questions about what level of growth the town can sustain. Its schools and health-care system are already under stress, and the planned expansions will further strain sewage-treatment facilities, air quality, and the region's environment. On a national scale, higher emissions related to oil-sands growth could undermine Canada's commitment to the Kyoto accord.

Alberta's oil sands lie like a black ribbon across a 120-million-year-old seashore, now buried below lush wetlands and virgin boreal forest. Where the Athabasca River Valley cuts deep into that ribbon, the sands near the surface can be strip-mined, cleaned, and transformed into a stiff tar called bitumen. But as much as 80% of Alberta's recoverable reserves lie deeper. They have to be coaxed out of the ground by costly in situ technologies, in which the sand is heated with steam until the oil drips off it and can be sucked out.

From atop the crumbling rim of Syncrude's Aurora mine, 40 miles north of Fort McMurray, one peers into a dark hole, two miles wide and a mile and a half long, that cuts nearly 200 feet into the limestone bedrock. From the sides of the mine, mechanical shovels claw black blocks that resemble chunks of city pavement. The cargo is loaded into dozens of dump trucks that look like ants as they ferry loads up ramping roads to crushers that break the clumps into small pieces, mix them with a watery slurry, and shoot the stuff through a pipeline for separation and eventual upgrading into real oil. It is an expensive, environmentally brutal, and time-consuming process. From the time the first shovel is turned for an oil-sands facility, it takes about seven years to see the first barrel of oil.

When you descend into the depths of the pit, the gargantuan scale of the operation becomes apparent. Duggan's Chevy Suburban shudders on a corduroy road imprinted by tire treads; mounted on his rear bumper is a six-foot-high orange flag, or buggy whip, so he won't be run over. These dump trucks are the largest vehicles in the world. Their tires, weighing 40,000 pounds each, are 14 feet tall, and you have to climb two flights of stairs to reach the driver's seat. In the cab of one of those trucks, operator Jim Locke shouts over the roar as the tractor's 3,700 horses strain under the 397 tons of dirt in the cargo box. Steering the truck, he says, is "like coming home, walking up two flights of stairs to your third-floor bedroom, then driving your house downtown."

The scale of this machinery and the mobility of the trucks have helped drive down production costs. "This is a widget business," Shell's Camarta says. "The bitumen molecule--you tear it out of the ground, knock the sand off it, and sell it to a refinery. There's a lot of steps in there, and the more efficient and reliable I can make them, the more the unit costs come down." The bucket wheels and conveyor belts of old have been replaced with more flexible trucks and mechanical shovels; upgraders have begun to reuse byproducts and filter emissions; and production, which has nearly doubled since 2001, is finally at a volume that makes the oil sands worthwhile. Whether production is profitable when oil is at $27 a barrel, as the industry claims, is debatable, but at $65, it's a clear winner.

When Oil & Gas Journal, a respected industry publication that ranks world reserves, recognized Alberta's estimates in 2003, the deposit gained credibility. That was an important factor in attracting new investment, according to Alberta energy minister Greg Melchin. Each of the established companies is in the midst of a major expansion project. But to make all this happen, the industry will need 30,000 new employees. It is recruiting in South America, flying in commuters from New Brunswick, and paying bonuses that draw oil workers like Mujica from around the world. "We're looking for 700 people a year, each year, for the next ten years," says Shell spokesperson Janet Annesely. "That's a recruiting machine."

The growth puts a steady pressure on Fort McMurray. At 5:30 A.M. at the Tim Hortons doughnut shop, there's a line out the door. The waitresses' T-shirts say JOIN US--a nod to understaffing's role in the long wait. It's the same story at McDonald's, Safeway, Starbucks. Wal-Mart recently installed automated checkout counters. And it's not just retail staff; there's a shortage of doctors and government employees too.

In 1961, six years before Suncor began mining, Fort McMurray had 1,100 residents. In 1996 there were 36,000. Now there are 61,000, a figure that could reach 100,000 in a few years--a rate of growth far beyond what the city ever expected to absorb. The highway that runs though the region got a second lane a few years ago, but the community remains short on traffic lights, sewage capacity, classrooms, and emergency-room beds. The housing vacancy rate is near zero. "If we're going to be a city of 100,000 people, we have to look like a city, not a mining town. That's a big shift to make," says the region's planning superintendent, Beth Sanders.

When Suncor recruited Ana Sanchez from her job at Venezuela's PDVSA, the toughest part of her move was finding a place to live. A one-bedroom apartment in Fort McMurray can rent for $1,700 a month, and the average cost of a new home has doubled in the past two years, to north of $360,000. "We must have bid on ten houses before we got this one," says her husband, José DeSilva, standing in their new three-bedroom house with fresh, green sod out front. The couple, both 31, and their baby daughter moved to Fort McMurray last November. They learned tough lessons about winter living--things like how to plug in your car and why you shouldn't touch your tongue to a metal railing. They also learned how to bid if they wanted a house. "We heard about it New Year's Eve and made an offer the next morning," DeSilva says.

While Sanchez went straight to work, DeSilva enrolled in English classes. There he met a diverse group of students from as far away as China. Each aspired to learn enough English to be able to work in the oil-sands business. Industry wages are good--chemical engineers like Sanchez can make up to $100,000--but most other jobs in town barely cover living costs.

That doesn't stop people from coming. Brian Wonnocott, 22, clean-cut and baby-faced, moved here on a whim in July from Blackstock, Ontario. "My first impression was, 'Nice scenery--there's not much to do,'" he says. "After a few days I started thinking I'd made a mistake." But in a boomtown, top jobs often go to those who show up at the right time. By the start of his third week, Wonnocott had five offers, some for as much as $27 an hour. His eyes light up as he recounts the sum--"a pantload of money." The job he took, driving a bulldozer for a Suncor contractor, was offered to him on the spot. "They're like, 'That guy didn't come in. Can you handle a loader?'" he says. To double down on his luck, Wonnocott now trades stock in Canada's oil companies. "It's nice to ride the coattails," he says.

What is talked about less often in a town reliant on oil and reveling in growth is the environmental price being extracted along with the sands. Fort McMurray is an oil town: Everyone either works in the industry or serves those who do. As investment pours in, though, the downsides of the industry are increasingly finding their way into discussion. On a recent August day thunderheads ran red with emissions that made a late-afternoon sky look like sunset, and local radio deejay Kyle Reedman took notice: "Hopefully they'll have come up with some magic technology that will just make all this stuff go away."

Producing oil from the tar sands is an energy-intensive process that puts a lot of bad stuff in the air. While companies have made progress reducing per-barrel emissions in recent years, they still spew out significant quantities of everything from benzene, a carcinogen, to lead. "At some point you will reach a tipping point, where there will be irreversible impacts to the people and species in the surrounding area," says Dan Woynillowicz, a researcher at the Pembina Institute for Appropriate Development, a Canadian think tank.

Top on the list of worries are greenhouse-gas emissions. The industry emits about 26 million metric tons of CO2 per year, a figure that could grow to as much as 82 million metric tons by 2020, according to Bob Dunbar, president of Calgary oil-sands consulting firm Strategy West. Under the Kyoto Protocol, a global agreement to reduce greenhouse gases that Canada ratified (over strong objections from Alberta), the nation is obliged to reduce greenhouse-gas emissions to 6% below its 1990 level, or 560 million metric tons, by 2012. Total emissions in 2003 reached 740 million metric tons.

In April, Canada's federal government released a comprehensive $8.5 billion strategy for greenhouse-gas reductions that it says will more than do the job. Not everyone is convinced. "It's just not possible for the industry to grow the way it's been growing and for Canada to meet its commitments at the same time," says Dunbar, adding that only a hefty purchase of CO2 credits would enable Canada to comply. Yet any trading mechanism for CO2--Canada hopes to start one early next year--would probably raise the price of production for oil-sands companies. "Emissions are only going to go up multitudes, unless you want to shut it all down and put a sign up that says, WE'RE CLOSED," concludes energy minister Melchin. "That's not going to be our response. How do we stick to 1990 emissions levels when our population is greater and our opportunity is many times greater?"

What comes out of the smokestack is just one of the concerns. At a turnout a couple of miles before Highway 63 slices through the heart of Syncrude's operations, a trail leads off into young forest. Spruce, birch, and aspen have been planted here, and buffalo graze an idyllic pasture. This land was once a mine pit, and 20 years later, it is a small first model of how the earth can be restored. The oil companies are required to reclaim land disturbed by mining and have speeded up efforts to do so. But new mining operations are increasing much faster. And after 38 years of operations, not a single acre has been certified "restored" by the Canadian government.

A wooden lookout deck near the forest presents a different view: a panoramic expanse of tailings ponds--flat, brackish water held in by 100-foot-high levees. They stretch for miles. Roughly a dozen of these ponds are hidden from public view and road access, but satellite images reveal that their footprint can be as large as the city of Fort McMurray. They are the waste from a water-intensive process that can require an average of four barrels of water to produce one barrel of oil. (The industry's annual water allotment is enough for a city the size of Houston.) Improvements in technology are allowing much of that water to be cleaned up, but the cumulative effect--up to 15% of the flow of the Athabasca River--is huge. And because the wastewater is held in the ponds, very little is returned to nature.

It's not known exactly what will become of these ponds, which contain salts, trace metals, and oil. Along the levees, propane cannons fire at regular intervals. The cannon and scarecrows dressed in old mining uniforms (called bitu-men) are intended to ward off migrating birds. Some ponds are slowly being reclaimed, filled in with sand scrubbed clean as a white beach after the most toxic sediments are pumped into smaller ponds. The industry, which has made efforts to mitigate a wide range of environmental effects, plans to cap and seal these ponds with clay. But a 2004 study by Canada's National Energy Board says, "The ponds must be constructed to last indefinitely, [as] there is no demonstrated means to reclaim fluid fine tailings."

At Fort McKay, a tiny, palpably poor town of fewer than 500 people 30 miles north of Fort McMurray, the encroachment of oil is strongly felt. Fred MacDonald, a Metis tribal elder who lives in this First Nation community, used to fish from the shores of the Athabasca River and wander for weeks through the bogs of the boreal forest, laying traps for mink and beaver. The only use he had for the saturated sands was to waterproof his canoe.

Fort McKay used to be in wilderness, with miles between the community and the pits. Now the mines are closing in. From MacDonald's kitchen, a plume from Syncrude's Mildred Lake upgrader--the plant that converts the bitumen to synthetic crude oil--is visible 17 miles to the south. Directly behind the town is the new Total property. Canadian Natural Resources is investing $18.5 billion to develop 115,000 acres into a strip-mining operation that will compare with Syncrude's largest; next spring the company will begin landing four 737s a day there. Just across the river, Imperial Oil, an Exxon subsidiary, plans to open four mines on a similarly sized lease beginning in 2007, at a cost of $6.7 billion. And these are just the large projects. Some 40 new lease developments are also planned. Within a few years, Fort McKay will be surrounded.

Like the rest of the Alberta, whose strong growth has allowed the province to pay off debt and stash billions away, Fort McKay has reaped substantial economic benefit from oil sands. Syncrude makes a point of providing jobs to First Nation workers, and a handful of local companies have sprung up to service the industry. But the growth has begun to strike some people as overwhelming. "If they had just the few plants here, we could live with that," says MacDonald, who worked at Suncor for several years. "But it will never stop."

For now, exuberance about the area's new riches trumps the obstacles that might come the industry's way. Notes Michel Sauver, a doctor who has been outspoken about the effects of the oil boom: "This is a one-industry town." Concerns about civic infrastructure, finding labor, or stewardship of the land and water are running a distant second to a more tantalizing goal. Standing atop a mine pit, feet sinking into the mud amid the stench of hydrocarbons, Shell's Annesely fans the air with her hands. "Smell that?" she asks. "That's the smell of money."

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