(FORTUNE Magazine) – hq: santa cruz, calif. founded: 1997 sales: n.a. employees: 5 stock: privately held web address: www.realityfusion.com

If you think that the idea of a garage startup is just some tired cliche and that of course no tech company actually starts in a garage anymore, check out Reality Fusion. At worldwide corporate headquarters, you'll find founder Barry Spencer and Reality Fusion's four other employees slaving away against a backdrop of workbenches and power tools. True, Spencer's two-car space along a suburban street in Santa Cruz, Calif., could practically be in Architectural Digest--it's adorned with knotty-pine ceilings and black-and-white tiled floors--but it is a garage. And that's a problem. "We need to hire people," says Max Montgomery, head of marketing, "and there's no room for more employees."

Unfortunately, real office space takes cash, and that's one thing Reality Fusion doesn't have a lot of. Spencer has funded the company himself since founding it in 1997, and various attempts to raise money from venture capital investors have fallen flat. No, it's not the garage--VCs actually like flagrant displays of destitution. It's the fact that Reality Fusion's technology is a little bit, well, weird. The company has developed software that allows people to interact with computers by using natural human movement. A person standing or sitting in front of a computer or flat-panel display that's equipped with Reality Fusion's Free Action software will have his or her image from a PC videocamera transposed into the computer. Not only can you see yourself in a video monitor, but you can also interact with graphics on the screen. So you could, for instance, play volleyball by moving your hands through the air to hit the digital ball on the screen, or fight Mike Tyson by swatting your fists around. Spencer--whose grandfather co-founded Raytheon and invented the microwave, and whose great-great-uncle held the first patent for the thermostat--showed off this whiz-bang piece of innovation at the Demo '98 conference in Indian Wells, Calif., in February. There he was unanimously crowned the show's "Demo God."

The original marketing plan was to license the software to interactive-games and children's-software companies for dynamic new applications. But investors deemed that market too risky for two reasons: One, PC videocameras come installed in less than 5% of new computers. Two, people are deeply conditioned to interact with computers via keyboards and mice, not hand movements in the air. So Spencer shifted Reality Fusion's focus toward deploying its software for "interactive enterprise marketing solutions." In ordinary English, that means information kiosks in stores, theme parks, movie theaters, and malls, and point-of-sale displays at supermarkets and retail stores.

A consumer electronics company could, for example, put Reality Fusion kiosks inside its storefront windows and allow people walking by to view products, check out sale prices, or even browse the Internet. Spencer hints that two large entertainment companies--he won't say which--have signed deals for such display kiosks. Even better, with both the words "Internet" and "enterprise" in its business plan, Reality Fusion has finally gotten venture capitalists interested and expects to raise at least $2 million in a first round of funding. The Demo God should be in real offices before too long.

--Melanie Warner