(FORTUNE Small Business) – After Steve Crummey got off the phone with his old tech crony Bill Gross (the two worked together at Lotus) one day in the fall of 1996, he turned to his wife and said, "That guy's crazy! Have you ever heard of a crazier idea?" Gross, who had become very rich and had acquired an aura of entrepreneurial genius when he sold his company Knowledge Adventure for $100 million in 1996, had just tipped off Crummey about idealab, his planned Internet incubator. It would be a company whose chief product would be...other Internet companies. Part investment firm, part business think tank,part holding company, the idea was to pool talent, capital, and resources to radically cut the time it takes to turn an idea into a source of revenue.

Gross wanted Crummey to head one of idealab's first projects, IntraNetics, based on an idea to package intranet software for corporations. Crummey, who was a vice president at PictureTel, a videoconferencing company, took a week to decide that Gross' idea wasn't so ludicrous after all. Crummey would drop his current job, put all his faith into this whim, and do it.

Crummey's faith has been only partially rewarded, as his company has largely struggled (more on that later). Entrepreneurs who have followed Crummey's lead into an incubator may find that they too will struggle more than initially thought. And the followers are many. According to the National Business Incubator Association, a trade group, the number of incubators in the U.S. has soared from about 12 in 1980 (most of them government- or university-sponsored and nonprofit) to 850, with the recent growth coming from for-profit Internet hothouses.

The basic formula works like this: Would-be Web moguls come in armed with only a cocktail-napkin pitch and entrepreneurial get-up-and-go. The Internet incubator hooks them up with a business starter kit, supplying them with such mundane stuff as accounting services and Web design. They get office space too, replete with cappuccino bars and desks made of wooden doors atop two-drawer file cabinets. The incubator's principals give business advice and a walk through their Rolodexes.

Incubatees also get the inspiration, companionship, and commiseration that comes from hanging around other entrepreneurs who are trying to launch their companies. And, of course, they get capital--enough to get a fledgling business growing.

What would you expect to pay for all this if you were the would-be mogul? Well, it ain't cheap. In return, you'd give the incubator a big piece of your company--often more than 50%, and maybe even the whole enchilada. If your company ever gets hot enough to be sold or go public, the incubator would get a big payback and then some.

Which explains why (this spring's tech-stock collapse notwithstanding) believers in the concept argue--in time-honored, hyperventilating Internet style--that the days of two guys in a garage are gone, forever! The incubator method of bringing a company to market will soon be the only way new companies are born, with the need for speed being so important today that the tradeoff of equity and control is worth it. "It's going to be increasingly difficult to survive as a startup without going through the incubation process," says John Halvey, a senior vice president at the two-decade-old incubator Safeguard Scientifics in Wayne, Pa. "And I think the question isn't, Why would an entrepreneur go with an incubator? The question is, Why wouldn't he?"

Good question. And after interviewing incubator founders, entrepreneurs in incubators, analysts, and startup CEOs sweating it out on their own, it's still an open one. Incubators claim that they provide an atmosphere that encourages growth, but what happens if a company falls behind? Equity is the price of admission, as is potential loss of control and maybe your job. Incubators can confer instant credibility on a startup--but which ones, and for how long? Entrepreneurs get access to highly touted Internet "geniuses" who offer strategic advice, but is the counsel really building long-term winners? Incubators deliver a built-in network of willing business partners, but who really benefits? And do incubated firms ever stand on their own, or only when it's expedient for the incubator?

As long as the value of an Internet incubator is murky, any entrepreneur thinking about entering one should measure incubator hype against the subsequent realities and wonder whether that sound they hear is a cash register's ka-ching! or a siren song of eventual destruction.

Hype: Incubators let entrepreneurs build their companies together.

Reality: Fall behind, and you're toast.

Learning from your peers while you all grow your companies is a key incubator selling point. Rick Gibson ran a Web content-publishing company called FeatureCast in idealab's first incubator class in 1996-97 with about a dozen other budding Net titans such as CitySearch's Charles Conn and eToys' Toby Lenk. "We had once-a-week CEO breakfast meetings to bounce ideas and war stories off each other," Gibson recalls. "We even worked on each others' products." Ross Rubin, an Internet analyst with Jupiter Communications, says the sharing of services and ideas among incubatees is now an accepted part of the process. "It's sort of like a kibbutz, some kind of socialism at the heart of capitalism," he says.

But amidst the warm fuzzies and cold breakfasts, survival of the fittest still rules. New startups begin as nothing more than a cluster of desks; their floor space expands as their company and ideas do. "It's accepted when one company grows quicker than another. There aren't any hard feelings when this happens--even though it might get a bit more attention from the incubator," explains Gibson. "The people with the most ideas and the greatest energy get the attention, like in nature."

As one of the few people to helm an idealab company that dissolved, Gibson should know. FeatureCast was bought out and restructured by a few different companies in 1997, including Petersen Publishing. Today, Gibson has launched HOTventures, his own Internet incubator in Tucson. Although getting Gibson to speak critically about idealab founder Gross would probably require water torture, HOTventures' approach speaks volumes. The success of its companies, says Gibson, will be the product of close, intense nurturing--something, perhaps, that FeatureCast didn't fully feel back in the crowded atmosphere at idealab's main incubator in Pasadena.

Hype: You're going to get rich.

Reality: You might not be running the show if that happens.

Incubators ask for a major stake in your company in exchange for their services, and most incubatees think it's a pretty fair tradeoff. "Any entrepreneur wants to control the whole business within certain reason," says John McCallum, CEO of VetExchange (a B2B exchange for veterinarians), who is in Atlanta incubator eHatchery. "When you make a decision like that, you have to give up a substantial amount of the business and weigh the value of what you're getting for what you're giving up."

And what you might be giving up is the day-to-day tending of your idea. "Yes, eventually, the original entrepreneurs may get replaced by [our appointed] senior management," says Neil Cohen, a co-founder of Camp Six, a San Francisco incubator. "It's not a big deal to give up your spot. We have to think about what's best for everyone in the overall market."

What's best for the overall market usually doesn't mesh with the nurturing of business-building skills. Brett Morrison and Carlos Blanco found that out with their San Francisco startup eMemories.com. Launched in April 1999 with a $25,000 investment from a friend, the idea was to create a place on the Internet where people could store and share digitized snapshots. Morrison and Blanco burned through the initial $25,000 and a subsequent $300,000 and still had no site traffic. They needed money, and they needed help.

Having met Sky Dayton, co-founder of incubator eCompanies, in August 1999 through his lawyer, Morrison moved himself and his business to Los Angeles to become one of eCompanies' first incubation projects. Morrison knew going in under the knife that eCompanies would want a big equity stake in exchange for help. "At first, we didn't realize how much it would be," says Morrison, his voice tight as he recalls the negotiations. "ECompanies was like, 'We own you now. We're taking our fair share.' That was more than 50%."

As the new owners, the first thing eCompanies did was bring in a new CEO--Tim Kiplin, a former branding executive with Mattel--to run Morrison and Blanco's baby. Morrison, who slid into the CIO spot (Blanco became CTO), says that the basic choice was either to continue running the company as they had been--essentially a cottage business inching along and likely to fail--or to reinvent it in partnership with eCompanies for a possible run at big success. ECompanies' Dayton says Blanco and Morrison impressed him as guys with a brilliant idea, not as the seasoned businessmen who could execute it.

We're not naive; entrepreneurs step down every day to let experienced executives run the company, and there's still that equity stake to keep 'em warm at night. That's show biz. But on the first day? "We didn't mind stepping down," Morrison says. "That was required. We didn't know how to manage a company." He wasn't thrilled about parting with more than half of his company (he'd rather not say exactly how much) but says he has no regrets about the deal. "For what we gave up, they've given us everything," Morrison says.

Hype: Brand-name incubators open doors.

Reality: Their golden haloes are getting tarnished.

Call it mojo by association--the halo effect that comes with being connected to a brand-name incubator such as idealab or Safeguard Scientifics. While that's the least rational and most intangible aspect of hooking up with an incubator, it just may be the most valuable. Matt Coffin, CEO and founder of Lower MyBills.com, who is being bankrolled (but not incubated) by eCompanies, says, "You get judged by whom you stand with. And with a new company like ours, that's sometimes all there is to judge by." Coffin is standing with eCompanies' co-founders Dayton (who previously founded Earthlink, today the largest Internet service provider not named America Online) and Jake Winebaum, the former Disney executive and wunderkind behind Espn.com.

But the farther you move down the incubator food chain, the harder that mojo is to find. Sure, there are well-intentioned incubators that make a selling point of their willingness to take minority stakes and let founders keep more of their babies, but who the heck are they? IStart Ventures in Seattle or Boston's Internet Venture Works, at least to date, aren't going to open the doors that an idealab or eCompanies can. When asked to size up some of these newer players, Jupiter's Rubin says, "I give them a little credit for breaking the mold, but these guys don't have that kind of star power."

And without star power, the incubator offering isn't quite as appealing. Christian Anthony, co-founder of Insound, an independent music and film e-tailing/community site, spoke to a number of smaller incubators based in New York City (which he declines to name) but ended up finding money elsewhere--through angel investors and venture capitalists--largely for this reason. "It wasn't apparent to me that sitting in meetings listening to these guys telling me how to run my business was going to add any value," he says.

The luster attached to the hotter Internet incubators, perhaps because of the crowding of the space, is already fading. "Our opinion is that incubators are the equivalent of veal-feeding pens where they shove entrepreneurs into cubes with a computer and a T3 line and say, 'Make me money,' " says George Zachary, a partner at the Menlo Park, Calif., VC firm Mohr Davidow Partners.

Having the beginnings of a track record is dimming incubators' glow too. Four-year-old idealab, for example, one of the few Internet incubators with enough of an operating history to evaluate, has yet to produce a profitable public company. Without some firms that truly deliver on the much-parroted mission statement of building viable, stable, sustainable public companies, incubators are going to get tarnished haloes pretty quickly.

Hype: Incubator founders lend their genius to your company.

Reality: It's no guarantee of success.

You're not just aligned with whichever Internet genius is running your incubator, you're expecting him to offer the kind of advice, counsel, and connections for your company that made him successful. As Vinod Khosla, a partner at VC firm Kleiner Perkins Caufield & Byers, says, "Look at who is going to be advising you. If they aren't fit to be CEO of your company, don't do the deal."

Steve Crummey got the full benefit of his patron's genius in June 1999. After almost three years at the helm of IntraNetics, outside of the direct gaze of Bill Gross, Crummey's Boston firm had mustered only 500 customers. It was time do something. He called Gross for help, and the IntraNetics management team was flown to Los Angeles for a two-day company restructuring that took place in a locked conference room with Gross.

The solution, thanks to Gross, was "a great example of something we never would have thought of ourselves," says Crummey. It's also a microcosm of the idealab formula, which has been much imitated by its progeny.

First, Gross proposed a sexier, more Internet-savvy name: Intranets.com. A peek into idealab's portfolio--cooking.com, eToys, jobs.com, PayMyBills.com, utility.com--yields a key component of Gross' strategy: Create instant, easy-to-remember brand domain names even if, long term, they're generic. Next, the group decided to de-package the software and turn the company's product into an Internet-only service, jumping on the hot application service provider trend. Then came Gross' signature touch: Give the service away. Grab market share, and worry about "monetizing" (Internet speak for "making money from") those customers later. Gross is the man behind the free ISP NetZero and the "free" PC. "His idea was to get it out there faster," says Crummey, who boasts that Intranets.com has 200,000 new customers since the restructuring and a global partnership with Japanese reseller and VC firm Hikari Tsushin.

Nice turnaround, but how well is Intranets.com really doing? One of its competitors, Planet Intra, which wasn't incubated, launched in October 1999 and has snared 22,000 paying customers in its first eight months. And that big Japanese deal? Planet Intra has one too, with trading company Itochu, giving Planet Intra access to another 100,000 employees. Most important, Planet Intra brings in an average of $420 per month in subscriber revenues from its customers. Intranets.com? Zero. So what was that again about how incubators give their companies a huge speed advantage with which to leave competitors in the dust?

Hype: Incubators give you ready access to business partners.

Reality: The incubator always comes first.

In addition to all the resources and advice, the incubator tries to facilitate business for its companies, linking its portfolio firms to trade with each other. To see this in action, look no further than AltaVista and its business deals. AltaVista, the search-site-cum-portal acquired by CMGI of Andover, Mass., in late June 1999, isn't your typical startup entering an incubator--it was already four years old and one of the top sites on the Net. But all of its post-acquisition business partners--1stUp.com for free Internet access, Raging Bull for stock market discussions, Engage Technologies for ad profiling, and MyWay.com, to whom it sold its local directory subsidiary Zip2--are also wholly owned subsidiaries of CMGI.

Incubators are upfront about this network effect. Ellen Roy, a director at I-Group Hotbank, notes, "That's the way it works--we're creating a network of individuals and companies who will work with and draw from each other."

Insound's Anthony thinks incubators' networks aren't unique. "What most incubators sell to you is access to the network, but essentially a VC does the same thing," he says. And, as Anthony notes, he'd be more willing to pay his way into a VC network with 30% of his company rather than the 70% an incubator might want.

At some point, the merry-go-round of business development within incubators makes you wonder whether the incubator has its companies' or its own best interests at heart. Kiplin, the CEO that eCompanies installed at eMemories after bringing it into its incubator, goes back and helps eCompanies' newest incubatees with strategic planning and management methods. So is he an employee of eMemories or eCompanies? Or is that a distinction without a difference?

Hype: Incubated companies will always have support from the incubator.

Reality: Failing companies might sink alone.

It first, it appears that incubators don't let go of their charges. Jeff Grass, a co-founder of PayMyBills.com (not to be confused with eCompanies' LowerMyBills .com), recently moved out of idealab's Pasadena incubator. He points out that idealab is still represented on his board (it does own 50% of the outfit)--and he's getting only slightly less day-to-day help from idealab than he did when he was on the inside.

Most incubated companies stay in the parent building for six to eight months. When a company is ready for its second round of funding and has grown to more than just a management team, it's usually time to move out. Or not. As I-Group Hotbank's managing director, Ron Schrieber, says, "We don't have graduates of our incubator."

With the convenience of having an incubator principal on its board of directors (and a parent with an often-controlling stake in the company), the "graduating" company always has a safety net if things in the real world get rough. Anthony Johndrow, CEO of BBQ.com, a backyard-friendly dot-com being incubated by Venture Frogs of San Francisco, says, "Venture Frogs sits on our board and will continually give advice. For us to 'graduate,' if you can call it that, we have to prove our concept and raise a second round of capital."

But where was BBQ.com's safety net when its coals cooled? This past May, BBQ.com found itself flailing after it had ripped through its $1.68 million stash of initial capital and discovered that second round of capital--the cash that would let it graduate from Venture Frogs--to be elusive. Johndrow fired most of the site's employees while scrambling for cash. Wasn't the incubator supposed to see its babies through thick and thin?

"Venture Frogs doesn't have access to the VC money either," says Johndrow. "Its financial contacts are no longer looking at consumer companies." Johndrow says that a promise of until-the-IPO funding was never part of Venture Frogs' incubation plan, and the incubator is still offering financial advice. But that's about it. (Venture Frogs' officials did not respond to repeated requests for comment.) Couldn't Johndrow & Co. get advice through any non-equity-seeking financial firm? Maybe startups are better off alone.

Vernon Keenan, who runs his own Internet-analysis firm, Keenan Vision, thinks so. "Incubators are bad for business," he says. "Being in business is like being a child. A key part of going through the process is being exposed to the hazards and learning how to deal with them. Incubator firms may be a little softer in that regard."

Most of the output of Internet incubators does appear to be headed for the junk heap. Even Cohen of Camp Six admits, "Hey, to be successful, we only have to execute three out of ten." He doesn't elaborate or seem concerned about what happens to those seven companies left behind.

And analysts think that Internet incubators themselves will end up like most of the companies they develop. Mohanbir Sawhney, Tribune professor of electronic commerce and technology at Northwestern University's Kellogg Graduate School of Management, says, "Although I think that there are niches for creative incubators, there are just too many of them, and they are all using too similar a strategy to survive in the long run."

All that seems of little concern to entrepreneurs in incubators. As with other Internet business types, when they take a hard look into the future, they see lots of death and destruction...for the other guy. Their business, on the other hand, is poised on the brink of an incredible market opportunity, has a difficult-to-replicate competitive advantage, and has the capital and expertise to leverage it. Things look pretty cozy from within an incubator. The real world is unlikely to be so accommodating.