(FORTUNE Magazine) – Tech stardom started, as usual, amid pizza boxes. For two Stanford engineering students, Jerry Yang and David Filo, the launching pad was an oxygen-depleted double-wide trailer, stocked by the university with computer workstations and by the students with life's necessities--golf clubs, sleeping bags, and enough half-empty food containers to prompt a friend to call the scene a "cockroach's picture of Christmas." It was the first headquarters of Yahoo!, now the most successful company ever spawned by the World Wide Web.

Measured by revenues ($67 million in 1997), Yahoo! would have difficulty making a FORTUNE 10,000 list. Measured by earnings (a $23 million loss last year), it's a failure. Measured, however, by market capitalization, it is the biggest star in the Internet cosmos. With a $2.8 billion market cap, Yahoo! far surpasses beleaguered Netscape and keeps company with the likes of health-care giant Humana, cosmetics queen Estee Lauder, and truck-rental giant Ryder System (see charts).

Let's leave aside, for now, questions of whether Yahoo! will be around in ten years or whether there's any way its stock might be a good investment. This much is clear: Yahoo! has won the search-engine wars and is poised for much bigger things.

Its triumph could hardly be less likely. Yahoo! has emerged from a crowded corner of the Web, where at least three other major services help people do the same thing--find things on the Internet. Type in "Pamela Lee" or "IBM" at any of these so-called search sites, and you'll find that the others-- Infoseek, Excite, and Lycos--tell you about more Websites faster than Yahoo! does. Its technology is not nearly as robust as that of its rivals. Yet Yahoo! gets twice as many visitors as its nearest competitor.

According to a survey by Mediamark Research last year, in a typical month more than 25 million people use Yahoo!. Some months, 40 million people visit. More people go to Yahoo! than to Netscape or AOL. More people search at Yahoo! than watch MTV, Nickelodeon, or Showtime in any given week. More people check out Yahoo! than read the typical issue of Time, Newsweek, or Life. Simply put, that's why some people think Yahoo! may make wads and wads of money in the future by selling ads. Observes Oppenheimer & Co. analyst Henry Blodget: "I have yet to find a flat surface attractive enough to grab the attention of 40 million pairs of eyeballs but not attractive enough to spend big money advertising on."

Gathering eyeballs has been the company plan since its inception. It turns out that this pack of Net-besotted, Yahoo!ing-their-brains-out, twenty- and thirty-something Web surfers have real business savvy, and their near-flawless execution and brilliant marketing have eviscerated the competition.

Back in late 1993, Dave Filo had a problem. His personal list of favorite Websites had grown beyond 200 "bookmarks," becoming so long as to be useless, especially since his browser--the earliest version of Mosaic--could not sort bookmarks into convenient onscreen folders. He and Jerry Yang wrote some software that allowed them to group their "hot list" into subject areas. They named their little list "Jerry's Guide to the World Wide Web" and posted it on the Web. People from all over the world sent E-mail, saying how much they appreciated the effort. Explains Yang, 29: "We wanted to avoid doing our dissertations."

The two set out to cover the entire Web. They tried to visit and categorize 1,000 sites a day. When a subject category grew too large, subcategories were created, and then sub-subcategories. The hierarchy made it easy for even novices to find Websites quickly. "Jerry's Guide" was a labor of love--lots of labor, since no software program could evaluate and categorize sites. Filo persuaded Yang to resist the engineer's first impulse to try to automate the process. "No technology could beat human filtering," Filo, 31, argues.

Though engineers, Yang and Filo have a great sense of what real people want. Consider their choice of name. Jerry hated "Jerry's Guide," so he and Filo opted for "Yahoo!," a memorable parody of the tech community's obsession with acronyms (this one stood for "Yet Another Hierarchical Officious Oracle"). Why the exclamation point? Says Yang: "Pure marketing hype."

The hype worked. Visitors poured in. Both Netscape and AOL offered to absorb Yahoo!, but Yang and Filo decided to take a leave from their studies and strike off on their own.

It was spring 1995, a great time to be a young entrepreneur with an Internet idea. Net mania was just flowering; Netscape hadn't even gone public. Venture capitalists came calling. Kleiner Perkins, the largest venture firm in the Valley, was interested but wanted Yahoo! to merge with Excite (then called Architext), another search engine developed by Stanford grads. Instead, the pair signed with Sequoia Capital, which had helped fund Apple Computer and Cisco Systems. Sequoia put up $1 million for a stake in the company; that stake was worth $560 million at the end of 1997.

Sequoia general partner Michael Moritz claims he never doubted that free Internet services could attract people and advertisers. But four other search sites had the same idea. Back East, Carnegie Mellon spinoff Lycos bragged that its "spider" search software surveyed more Web pages than any other service. In Silicon Valley, Steve Kirsch, an engineer with a strong entrepreneurial record, was pushing his startup, Infoseek. Excite had the KP seal of approval and advanced search technology. Yahoo! had the best name, the worst technology, and a quaint belief that while other companies' machines surveyed Website addresses by the thousands every second, the human touch could somehow win out. Not surprisingly, when Yang, Filo, and Moritz talked to professional managers in search of a CEO, some wanted to shake things up. One candidate said, "One of the first things I'd do is change the name." Yang and Filo showed him the door.

The person who did get the job was Tim Koogle, 45, a Stanford-trained engineer who had spent nine years at Motorola. Bringing in "adult supervision" to manage an outfit created by techie kids is another Silicon Valley tradition; almost all venture-capital-backed companies do this at some point. The transition can be rough, especially for the founders, but Koogle made things easy for Yang and Filo. He kept their name. He embraced their concept of wooing advertisers by attracting lots of people with useful information created by humans. Besides getting the most out of the founders, Koogle's main contribution was to steer the company as it added lots and lots of employees.

Supercharged by venture money, all the search companies staffed up in 1995 and 1996. Yahoo!'s competitors recruited executives from conventional media. But the worlds of computer technology and media often collided. In early 1996, Infoseek's Kirsch, despite his background in engineering, urged his company to invest in a directory compiled by humans. But other top executives at Infoseek were convinced that a more techie approach, with a directory compiled by software, was the way to go. Kirsch lost the battle; the techie approach fizzled. The company underwent a management shuffle, and the strategic zigs and zags left Infoseek far behind Yahoo!.

Koogle admits that it was sometimes hard to be the CEO of a tech outfit with a very untechie strategy. At an industry conference he ran into Kirsch, who blustered that Infoseek's searches were "five seconds faster than yours." Alarmed, Koogle ran back to Jerry Yang and asked, "Is he right?"

He was. But what Yang knew, and Koogle came to understand, was that theirs was not a contest about search engines. It was about helping Web users find what they wanted. A powerful search engine may deliver thousands of listings in a flash. But you then have to sift through the dreck. Explains Yang: "If you've got 13 Madonna sites, then you probably don't need a 14th." Yahoo! aims to deliver the best of the Web, not its entirety, in a directory that looks like a book's table of contents. And Yahoo! presents the information on an unadorned page that pops up on your computer screen quickly.

So Yahoo! spends money on people, not computers. Visit Excite, and you'll be shown an enormous glass room housing rows of expensive servers and muscular workstations that quickly deliver loads of results and scour the Web. Yahoo!'s servers are PCs run by a third party.

Its human-created directory was all that distinguished Yahoo! from its rivals as Net euphoria swept the stock market in early 1996. The search companies hit the IPO scene in a pack: Lycos, Excite, and Yahoo! in April; Infoseek in June. Yahoo!'s prospectus was insouciantly candid, pointing out that the company was competing in a crowded field with no proprietary technology. Industry observers were wary. "This is the deal from hell," declared Manish Shah, publisher of IPO Maven.

Yet at the close of Yahoo!'s first day of trading, its stock had risen 154% from the offering price, even more than Netscape's first-day leap of 105%. Yahoo!'s market capitalization was $848 million. Chief ontologist Srinija Srinivasan, the person who oversees the directory's categories, describes that day as "just a total rush." But the $35 million of capital that had suddenly flowed into Yahoo! didn't reassure Yang. He recalls feeling "panic--no, not panic, but anxiety." Suddenly, he had shareholders.

The following day, investors took a second look, blanched, and bailed. The stock drifted to less than half the first day's close and stayed there for the remainder of 1996. Reality seemed to set in. Yahoo! needed advertisers, and advertisers were sniffing around but not spending. Manish Shah, it seemed, had been right. Yahoo! really stood for "Yet Another Highly Overhyped Offering."

Yahoo! might never have won out had it not been for Yang's obsession with what he saw as the fundamentals of his business: Give users abundant reasons to visit your service, and promote the hell out of the brand. He recruited Karen Edwards, who had worked on the Apple account at advertising company BBDO, to be the brand's steward. Soon after she arrived, Yahoo! launched $5 million worth of television commercials. It was, says Edwards, "the biggest check Yahoo! had written to date." The nervy ads were directed at people who had heard about the Web but hadn't yet logged on. In a survey it conducted before the first ad, the company asked a cross section of Americans, "What is Yahoo!?" Only 8% correctly identified the company. A sizable percentage said it was a chocolate drink. Those numbers began to change with the ads.

Edwards moved into "guerrilla marketing" mode. She pushed the brand into sports events, rock concerts, magazines, and other conventional locales, as well as some strange ones--she gave free paint jobs to any employee who would splatter the logo over his or her car. One employee had the logo tattooed on his butt.

In addition, the company took every opportunity to turn up the heat on Lycos, Infoseek, and Excite. For example, in early 1996, Yahoo! agreed to pay Netscape $5 million to be one of five search engines to which visitors would be referred when they needed to conduct a search from Netscape's site, the most popular on the Web. Infoseek, which had enjoyed an exclusive franchise on Netscape's pages, now had to share with four others. Confesses Koogle: "We did it to hurt the competition. After the first month, Infoseek's traffic dropped in half." Infoseek's Kirsch confirms the fall.

Yahoo! was not as dependent upon Netscape to feed it traffic. Users were seeking it out on their own. Every time users returned to Yahoo! for a search, the site seemed to offer some new, cool, and free feature. Stock quotes, maps, chat rooms, news, weather, sports, Yellow Pages, and classifieds--combined, all this gave Yahoo! the feel of an online service. Last October the company paid $81 million for Four-11, a service that gives users free E-mail.

The freebies, the branding, and the human touch combined to create a site that was more attractive than any other. In the first quarter of 1996, Yahoo!, Excite, Lycos, and Infoseek had delivered roughly the same number of pages. By the end of the year, Yahoo! was delivering twice as many as second-place Excite. By the third quarter of 1997, Yahoo! visitors were checking out 50 million pages a day--more than the other three combined. Ignoring warnings from his squirming PR adviser, Kirsch concedes the obvious: "It's Yahoo! and everyone else."

Still, the victory doesn't explain why investors have decided to place their Internet bets on Yahoo!, sending the stock up 511% in 1997. Yahoo!'s $2.8 billion market cap gives it a price/earnings ratio, based on analysts' estimates of earnings over the next four quarters, of 171. Intel's, by comparison, is 20. Figures like that send most investors running for cover. So is this highflying Internet company headed for a Netscape-like fall?

Toward the end of last year, advertisers started to make Yahoo! their online buy. By December, Yahoo! had 1,700 paying advertisers, up from just 112 in early 1996. Revenues tripled, to $67 million. Without the one-time charge for buying Four-11, the company would have recorded a profit of $2.5 million for the year instead of a $23 million loss. Advertisers are signing up for relationships that bring in more cash. They're paying hefty sums, for example, to run sweepstakes in which Web surfers fork over their E-mail addresses and some personal information. Co-marketing deals--like the ones the company has engineered with Amazon.com, CDNow, E*Trade, and mortgage broker eLoan--offer new lines of income. If a Yahoo! user takes the time to fill out a questionnaire for eLoan, Yahoo! might get paid something like 30 cents, as opposed to the 2 cents it collects when it displays a simple banner advertisement. Such partnerships already account for 15% of the company's revenues.

What's more, Yahoo! is beginning to be viewed as a key part of the computing establishment. Chief operating officer Jeff Mallett points out that Compaq recently requested the right to preload on its PCs Yahoo! news and weather tickers that will scroll across the bottom of your monitor. Says Mallet: "Companies have come to see us as the hub [of the Web]."

Koogle asks skeptics to consider how much money is spent annually on advertising on TV and radio and in magazines. He puts the total at around $150 billion. "Put big numbers by a leading company serving as a gateway [to the Web], add in a growing market, and you have an interesting story," he says.

Yet even the most optimistic projections of Yahoo!'s revenue growth leave it far short of what that $2.8 billion valuation would call for. What scares the skeptics is the same thing that thrills the believers: Yahoo!'s real competition is no longer Excite or Lycos. The company now finds itself maneuvering against AOL and Microsoft. "There have always been three or four comprehensive branded networks," says Mallett. AOL, Microsoft's MSN online service, and Yahoo!, he says, are the broadcast networks of the Web. Says Volpe Brown Whelan analyst Andrea Williams: "It may be that Yahoo! will grow up to be an NBC. But the possibility that it may stumble in the meantime is not reflected in today's valuation."

Like Yahoo, AOL and MSN offer users many features, ranging from E-mail to chat to an assortment of content. Microsoft, for instance, recently acquired HotMail, a service similar to Yahoo!'s Four-11. MSN and AOL have far greater revenues--each charges subscribers $19.95 a month, while Yahoo! charges zero--but have had trouble making profits.

Yang and Filo believe they can be profitable without charging subscriber fees. In January, Yahoo! announced a joint marketing deal with MCI. The companies say that by the end of March they will offer a Yahoo!-branded Internet-access service. Get your Internet access from MCI, and you'll be headed Yahoo!'s way. MCI will collect the revenues; Yahoo! gets many more eyeballs and, if all goes well, a cut of the revenues. Mallett says he hopes to convert some of AOL's ten million subscribers. "Maybe they'd like a pure Web play without proprietary connections," he grins. You get the feeling he likes the idea of trying to cut in on some bigger competitors. Investors can only hope his good vibe turns into their good fortune.