The bacteria start out as either industrial yeast or nonpathogenic strains of E. coli. They then have a little bit of DNA-grade surgery done to them, before being fed "feedstock" which is essentially any substance that can be broken down to sugars, like wheat, corn or woodchips. The bacteria have a mad party where they eat and drink too much, then spend the following day on a single-cell organism-sized toilet where they poop out crude oil, which is collected by people in white suits and sold for $150 a barrel. Or something like that, anyway.
The biggest problem with the whole setup (aside from the possibility of creating super-smart bugs that prefer the taste of human flesh to woodchips) is that the company behind the whole setup, LS9, doesn't know if they can mass produce the fuel. At the moment, the most they can do is the equivalent of a barrel a week from a setup that takes up 40 square feet. To make enough for America's gluttony for petrol, you'd need an area as large as Chicago to be producing it.
It's still a ray of hope for everybody with a pain in their back pocket every time they stop at a bowser, though, so hopefully this will develop enough to help the fuel crisis, and not kill us all in the process.
[Times Online - Thanks Crowyourboat*!)