(FORTUNE Magazine) – TEL AVIV Founded 1990 Revenues: $2.5 million employees: 98 Nasdaq: VOCLF www.vocaltec.com

The battle to sell telephone service has never been hotter. Liberated from regulation, companies like AT&T, Bell Atlantic, and TCI are engaged in a free-for-all for local and long-distance customers. But in sleepy Northvale, New Jersey (pop. 4,583), in a low-slung office building on a tree-lined street just around the bend from the American Legion, tiny VocalTec is bringing along a technology that could change everything.

Introduced in February 1995, VocalTec's Internet Phone was the first software sold for PC users to transmit voice calls over Internet data channels. Why reach out and touch someone the old way if you can do it over the Internet for free?

For now, the answer is that the technology is nowhere near ready for prime time. Internet Phone works this way: You speak into your PC's microphone, and the software digitizes and compresses the sound of your voice into packets that get zapped over the Net, to be decompressed by a PC with the same software on the other end. Your True Voice this ain't: Users experience long pauses in the conversation, the kind of thing you used to get calling places like Ghana or Bali, and installing the program on a PC can be a bear.

Still, according to the research firm IDC, 500,000 people now use the Internet for some calls. VocalTec used money it raised in a February IPO to beef up its support staff in Northvale. CEO Elon Ganor--a former army doctor and biotech entrepreneur--has programmers back at headquarters in Israel,working hard to bring Internet Phone up to mainstream speed. VocalTec's got the early lead, but Intel and Microsoft, among others, want a piece of Internet telephony. And some phone companies are feeling threatened: In March, 130 of them petitioned the FCC for strict regulation of Internet telephony.

--Eryn Brown