(FORTUNE Magazine) – On a stretch of lakefront ten miles southeast of downtown Seattle sits the Barbee lumber mill. Family-owned for three generations, the Barbee is the only working sawmill left in the greater Seattle area. It may soon trim its last piece of timber.

Microsoft co-founder Paul Allen has taken an option to buy the Barbee property and some adjoining land. He wants to create a lavish lakefront headquarters for his family of software and investment companies, with restaurants, condos, jogging trails, a marina--all the amenities needed to woo a high-tech work force and speed the shift from cutting logs to logging on.

Allen's proposal is the latest heavy swell from a new wave rising in Seattle. Like downtown Manhattan; North Carolina's Research Triangle; Austin, Texas; and Portland, Ore., Seattle is finding its economy transformed by the powerful mix of innovation, entrepreneurial ambition, and stock options that fuels the techno-culture of the San Francisco Bay Area.

Each high-tech region has its unique appeal, but the chemistry is especially potent in Seattle. Combine the grand ambitions and colossal wealth of people like Allen and Bill Gates with a ferment of new ideas and entrepreneurial energy, then add in the towering strength of Microsoft and a quality of life that is envied by much of the country, and you have the fixings, some observers believe, for a new Silicon Valley.

"We may be seeing a shift of gravity northward," says Paul Saffo of the Institute for the Future, the high-tech think tank in Menlo Park, Calif. "Venture capitalists are really starting to look up there. Suddenly you've got all the pieces coming into place."

Even Microsoft's archrival Netscape could soon be on the road to Bill-ville. According to a recent report in Computerworld Hong Kong, co-founder Marc Andreessen is mulling over plans to launch a development center in the Northwest, just to poach off his rival. "The big problem in hiring people out of Microsoft is not attracting them to Netscape," Andreessen told the newspaper. "It's getting them to move out of the Seattle area." (Asked to comment, Netscape's PR department would say only that Andreessen was traveling and that no decisions have been made.)

Like the other new high-tech centers, Seattle is years away from creating a concentration of computer giants to rival Silicon Valley's. It has nothing like the Bay Area's diverse mix of companies that make hardware, software, semiconductors, and network systems. Seattle is mostly a software town, dominated by one software company run by one exceedingly rich Seattle native. With sales likely to exceed $10 billion this year, Microsoft is a good 20 times bigger than the region's next-largest independent software company. Only a handful of computing firms around Puget Sound even top $100 million in annual sales, while billion-dollar companies turn up at every other stoplight in the Valley.

Still, there are signs that Seattle is primed for a burst of expansion and innovation that could make it the infotech leader in decades to come. Of course there's Microsoft, with its sights trained on everything from corporate networks to entertainment, and with the money to enter new businesses daily, as shown by its recent announcement of a $1 billion investment in Comcast.

Gates and Microsoft are not the only big names in town. Nintendo of America has retaken the lead in the videogame wars with its 64-bit machines. There's Paul Allen's Starwave, whose ESPN SportsZone is one of the most valuable Web franchises.

Laying the groundwork for a new telecommunications empire is Craig McCaw, the cellular phone pioneer who sold his namesake company three years ago to AT&T for $11.5 billion. He's launching Teledesic, his global satellite project; trying to turn a profit with Nextel, the wireless company he took control of two years ago; expanding NextLink, an alternative local phone service provider; and investing in companies that will deliver wireless service from Argentina to the Philippines, helping to jumpstart telephony in those countries.

Most tech action is actually taking place outside Seattle proper, in the sprawling suburbs that lie eastward across Lake Washington. This area, known as the Eastside, is where all four local billionaires--Allen, McCaw, Gates, and Microsoft's executive vice president, Steve Ballmer--live and work. The hypertrophic Microsoft campus in Redmond, where another building erupts yearly, forms a spindly nerve center across the Eastside. The blue-collar burg of Renton, home of the Barbee Mill, is at the region's southern edge.

To old-money Seattleites, the Eastside is parvenu territory. Oversized chateau-style three-car-garage mansions crowd together on seemingly every hillside of the formerly pastoral land. In every direction stretch low-rise office parks full of scrappy, young high-tech nomads who outgrow their headquarters every few months and move on to the next address.

Startups are beginning to bob up at a furious pace. Chad Waite of Olympic Venture Partners, a local venture capital fund devoted to high tech, says the number of business plans crossing his desk has more than tripled in the past two years.

The long, steep ascent of Microsoft stock has created thousands of young millionaires. Now, with the Internet beckoning and Microsoft stock having almost tripled in the past year and a half, "people are feeling like the stars won't be aligned like this again," says Chase Franklin, a ten-year Microsoft veteran who's leaving on June 25 to start his own firm. "You're going to see quite a number of people spinning out now."

Many will follow the lead of the most successful Baby Bills, as startups run by Microsoft veterans are known. These young firms thrive by sticking close to Papa and trying not to set him off. One of the most promising, Onyx Software, supplies a system for integrating corporate databases that runs only on Windows NT and BackOffice. "We're 100% tied to the success of Microsoft," says co-founder Brian Janssen. "We put all our R&D into one platform." Janssen doesn't expect his market to turn up in Microsoft's sights for another two years. At that point, he says, Microsoft "would be foolish not to buy us."

The most prominent Baby Bill may be Progressive Networks, which aims to establish its "streaming" software as the standard for delivering audio and video over the Net. Run by a pair of ten-year Microsoft veterans, Rob Glaser and Bruce Jacobsen, the company seems to have inherited Microsoft's breathless pace and large-scale ambitions.

A girder system for supporting these young businesses is trucking up from the Bay Area. Silicon Valley Bank, a specialist in financing risky, early-stage companies that traditional banks won't touch, opened an Eastside branch last July. Venture Law Group, a Menlo Park team of high-tech attorneys, recently set up an Eastside office. This past February, TriNet Employer Group, which handles human resources for venture-backed startups, came north as well. TriNet director Jay Whitehead says he's just following the money: "I've never seen venture capital funds sprout up faster than in Seattle in the past six months."

Informal "micro-funds" are popping up all over town, as dozens of Microsofties, both active and ex-, have started sowing seed money for startups. A former software executive turned consultant, Janis Machala of Paladin Partners, runs quarterly soirees that bring investors and entrepreneurs together over cocktails, helping ease an introduction process that is smoothly refined in the Valley but still relatively disorganized in Seattle.

Although the money chain seems to be coming together, the recycling of talent still lags. "You're investing in technology and markets, but ultimately you're investing in people," notes Steve Arnold, a former Microsoft executive who runs Polaris Venture Partners. "In the Valley, because they've had so many generations of startup companies from the early garage days, there are people on their second-, third-, fourth-generation company."

In Seattle that cycle is only getting under way. McCaw has reclaimed everyone from his old PR man to the ex-president of AT&T Wireless, Steven Hooper. Top executives from Spry, creator of the "Internet in a Box" software--who made one of the first Internet fortunes when CompuServe bought their company for $100 million in 1995--are back with new startups. Aldus, the company whose PageMaker software dominated desktop publishing in the 1980s, has spun out dozens of new firms, including Visio, a hot maker of software for creating drawings and diagrams.

But Tom Alberg of Madrona Investment Group, who serves on the board of Amazon.com and several other local firms, points out that "we don't have the depth or breadth of former executives, like Silicon Valley." Virtually all the top executives at Amazon.com were brought in from out of town.

Some investors think Microsoft talent can be suspect. "The VCs say, 'We're not sure being from Microsoft is an asset,'" says Machala. Microsofties are sometimes viewed as prima donnas who have never had to work with limited resources or struggle for distribution. A few ex-Microsoft entrepreneurs who launched high-profile consumer CD-ROM ventures saw them crash and burn in recent years. Compared with some of the major companies of Silicon Valley, whose lines of corporate descent fill a wall-sized family tree, Microsoft has spawned remarkably few startups. The stunning, steady rise of its stock price has made the rewards of staying with Bill hard to pass up, and the fast-moving culture of the Redmond campus seems to keep would-be entrepreneurs happy at home. As a result the employee wanderlust so characteristic of the Valley isn't typical up north.

The people who do bail out of Microsoft, it seems, are more likely to be tired of the grueling hours than itching to start the next Netscape. Many end up serving on company boards, developing golf courses, refurbishing theaters, or reclining on ranches. "People have the attitude, 'Well, I kicked ass with the biggest and brightest. Now I want to make an impact on the world in a different way,'" says Brian Janssen.

Northwest culture also plays a part. Civic pursuits and recreation are more hallowed than a string of blockbuster IPOs. A millionaire Microsoftie is more apt to be asked, "How's the backyard compost coming?" than "What are you going to do next?"

Indeed there's little evidence that the locals have any desire to see Seattle become the next high-tech mecca. Last year, for the second time, voters shot down a proposal to turn a light-industrial area of Seattle into a combination park and high-tech office center, despite heavy backing from Allen and McCaw. Growth, in general, is a Northwest bugaboo, and brawls break out every time there's a major development proposal. Housing prices are soaring, and traffic, especially on the Eastside, has reached California proportions. And Allen's plan to build that lakefront campus? It's on hold, pending an environmental study of the project. If Seattle is destined to become the next Silicon Valley, it will probably be in spite of itself.

REPORTER ASSOCIATE Henry Goldblatt