After much criticism and a strategy overhaul, Ellacoya Networks Inc. might be on the comeback trail. The company has closed a fourth round of funding worth $14 million, and investors say its lineup of new customers sealed the deal (see Ellacoya Secures $14M).

“We wouldn’t have invested if they didn’t have good customer traction,” says Michael Feinstein, senior principal at Atlas Venture, which, along with Flagship Ventures, led the round. “We were definitely looking to see if they have the ability to close customer deals, and they do.”

In the past six months, Ellacoya has signed up 13 paying customers. Most of its customer base consists of utility providers that are offering broadband services to customers. While these providers are not necessarily the biggest names, they are generally financially stable. They include EastLink Cable Systems, Millennium Digital Media, Cedar Falls Utilities, Coldwater Board of Public Utilities, and Muscatine Power & Water.

CEO Ron Sege says the company is also in trials with another 15 service providers, including cable operators, fixed wireless providers, and at least two Tier 1 ISPs that he's unwilling to identify right now.

Besides Atlas Venture and Flagship, which are new investors, existing investors, including Bessemer Venture Partners, Goldman Sachs & Co., and Lightspeed Venture Partners, also participated in the round. (Disclosure: Lightspeed is also an investor in Light Reading.)

The story of Ellacoya is similar to many "bubble and bust" tales in the telecom startup segment. The company first began targeting the competitive local exchange carriers (CLECs) with a product that helped carriers provision and deploy new services. It raised $111 million in three rounds of funding. Rumors floated around at the end of 2000 that Goldman Sachs was poised to take the company public (see Ellacoya Gets a Blue-Chip Backer and Ellacoya Snags Third Round). Most of the cash raised in the previous rounds was used to support the company’s growing headcount, which ballooned to over 220 staffers.

But when the bubble burst, so did the company’s prospects and valuation. It had a series of layoffs that have chopped its headcount down to about 56 employees (see Boston Area Startups Slash Jobs and Ellacoya Cuts Staff -- Again). Last January it started working on a new product targeted at the cable and ISP market (see Startup Renaissance in Cable Market).

The company has designed and developed an entirely new product based on its original technology. The 16000 Series Switch started shipping last summer. Essentially, it monitors cable network traffic and lets operators know which groups are using what applications at what times. It’s specifically designed to help providers control peer-to–peer applications on their networks, so that one set of apps and users doesn't starve others.

Sege concedes that the potential market for its new device is much smaller than what had been anticipated for its CLEC-targeted product. Although he wouldn't give details, he also admits the company's valuation is only a fraction of what it was at its height in 2000. But he says the company has started over in order to survive.

"We've basically taken some of the core technology and built a new company around it," he says. "The money we had in the beginning is gone, but I think with this new strategy, investors will still see a good return."

The strategy seems to be working so far. Ellacoya execs are looking ahead optimistically, thanks to the latest round, which will be used to commercialize and manufacture the new product.

But challenges lie ahead. Ellacoya's successfully reworked its product line and strategy so far, but money will be tight for the foreseeable future. Sege says, for instance, he doesn’t anticipate adding more bodies to the company’s headcount anytime soon. Instead, Ellacoya will stay the size it is for the foreseeable future, despite the enlarged customer roster and imminent rollouts.

“I’ve promised the investors that I would spend this money very, very carefully,” says Sege, who looks to reach profitability by early 2004.

— Marguerite Reardon, Senior Editor, Light Reading