TECHNOLOGY Switching on to Success

STOCKBROKERS ARE USUALLY HAPPY WHEN they can double their clients’ money in a few months’ time. But Dallas trader Mark Zorn, who did just that for several customers and himself with a recommendation to buy stock in DSC Communications Corp.. simply can’t crow about the big payoff.

“I’m still kicking myself for selling too soon,” says Zorn, who used to office just a few miles from the corporate headquarters of DSC, a telecommunications equipment manufacturer. “But who could have known how far that stock would go?”

When Zorn bought into DSC in 1991, its stock was trading at $12 a share. Less than a year later, when the company’s shares reached nearly $40 each, he decided to sell, having already made a killing. But DSC’s value kept soaring, reaching S64 in 1994 before splitting two-for-one, giving investors twice the number of shares they initially bought, but at half of their highest value. Now, two years later, DSC’s stock is hovering around $40 a share again, and climbing. That means if Zorn and his clients had held their shares, by now they wouldn’t have just doubled their money-they would have nearly quadrupled it.

Zorn shakes his head and shrugs. “That’s part of the business,” he sighs. “Even when you win, sometimes you still don’t win.”

DSC’s stock, on the other hand, has been a winner all through the ’90s, ranking as one of the most valuable companies in the Dallas-Fort Worth region. Virtually no other local firm has offered as much short term gain as has DSC, whose products form the backbone of many regional and long-distance telephone company’s networks. But while DSC had $1 billion in annual revenues in 1994, is a member of the Fortune 500, and employs 3,000 in Dallas (about the same local number as mega-firm J.C. Penney Co., Inc.), the company remains a relative unknown outside of its own industry. Still, stock analysts from Piano to New York City insist that will change as more investors tune into DSC’s market value, which from most projections could continue offering big payoffs for several years to come.



In what’s become the very glamorous business of telecommunications, DSC is about as sexy to consumers as Ernestine, comedienne Lily Tomlin’s nosy, nasally phone operator character. Unlike AT&T Corp., MCI Communications Corp., or Southwestern Bell Inc., DSC doesn’t have television commercials, catchy radio jingles, or big-dollar ad campaigns for its products, which work behind the scenes for consumers across the country.

Remember how Ernestine would receive a call into her big circuit board, then route it elsewhere by unplugging the line from the jack it came in on, and plugging it into another jack? That process, known in the phone business as a switch, is basically what DSC’s products do-just without Ernestine’s gossipy, irritating personality. And about one million times faster.

Founded in 1976 as Digital Switch Co., DSC is part of the new wave of American industrial success-companies that used high tech to grow from a single concept into a $1 billion firm. Digital Switch Co. was launched by a pair of engineers who conceptualized and manufactured their own switching systems. Small and crude, the transfer devices gained a limited following because of their ability to juggle hundreds of calls.

Five years after it began, DSC still had only six employees, and though its technology was promising, its market value, estimated at well under $10 million, was not.

Enter James Donald, DSC’s current chief executive officer, who brought a sense of professionalism to the company, improved its manufacturing capacity, and started making a name for the firm throughout the telecommunications industry. Donald’s success was phenomenal. More than 15 years after his arrival at DSC, the company has grown from six to 6,000 employees worldwide, and its market value is now estimated at $3.5 billion.

“James Donald is the heart and soul of this company,” boasts one DSC employee. “A lot of our success is owed to him.”

But the growth that Donald-who is famously, or almost famously shy about media coverage-brought DSC was not without its problems, the biggest of which came in 1991. By that time, AT&T’s telephone monopoly had broken up and DSC was capitalizing on the desires of local “Baby Bell” companies to expand and improve their networks. The company’s stock was approaching $30 a share, and many investors were tagging DSC as the next up-and-coming company in a telecommunications industry that had infi nite potential.

Then came the crash. In late 1991, Bell Atlantic’s service was disabled along much of the east coast, Users of Bell Atlantic in major cities like Pittsburgh were completely cut off for hours from long-distance calls, prompting a panic among many businesses. The crash later spurred a Congressional investigation, and eventually, the problem was pinned on a single, tiny glitch in a piece of switching software made by DSC.

When that news hit, DSC’s stock dropped, some of its other customers lost confidence in the Piano firm, orders were canceled, and employees were panicked.

“It was like a morgue around here,” says a company insider. “You didn’t dare say it, but a lot of people were wondering if we were going to go under.”

Still, DSC convinced its customers to stay on board, promising that the glitch was fixed. To keep the problem from recurring, new quality management processes were added, and the company began moving toward a more diversified product base so that it wouldn’t be so dependent on the fortunes of a single product.

Ironically, DSC’s low-to-nonexistent profile helped the company weather the storm. Because thousands of consumers still didn’t know what DSC’s products were doing for them, the company was able to repair its image customer by customer. Just a year after the Bell Atlantic failure, brokers and investors like Zorn were getting in on the rebound, buying DSC stock at rock-bottom prices in the low teens.

Investors both outside and inside DSC would later reap huge payoffs. Donald cashed in $15.6 million in his own stock options last year, when the pace of DSC’s stock growth finally cooled. Combined with his salary of $8.2 million, the package made him the second highest compensated chief executive in the country in 1994, trailing only Charles Locke of Morton International, who brought home $25.9 million. The unusually high compensation package prompted a lawsuit from C.L. Grimes, one of DSC’s investors, who claimed the earnings were excessive. The suit was dismissed by a Delaware court early this year but has been appealed to the state supreme court. For its part, the company says Donald bought more stock than he cashed in on and says his salary figure is misleading since it includes millions of dollars tied up in a long-term package.

Donald wasn’t the only one reaping the benefits of DSC’s hot shares. Hundreds of employees, say company officials, have participated in a slock purchase plan that offers shares to DSC workers at significantly reduced rates each year. “More than one person here has gotten a big bonus because of this company’s performance,” says Terry Adams, DSC vice president of corporate communications.

DSC remained die apple of investors’ eyes largely because of a series of major contracts from telecommunications firms across the country including NYNEX Corp,, Ameritech Corp., and MCI Communications Corp., all of whom were buying a new range of DSC products introduced in the last couple of years.

All the new contracts prompted DSC to expand its manufacturing facility at its Piano headquarters in 1993, mainly because it wouldn’t have been able to keep up with demand without the new space. After 20 years in the business, in nearly every stage of the telecommunications process-from initial transmission to final reception-DSC now has a product on the market to speed flow of voice, data, or video signals.

The changes in product lines prompted in part by the Bell Atlantic crash brought a safer, broader base of products from DSC, a platform intended to survive a crash in a single line, or a sudden shift in market demands.

“The decisions being made now, and the ones that have been made over the last few years are the right decisions, ” Adams says. “We provide a lot of basic access and transmissions systems, so that’s a protected base of technology that will exist regardless of what happens. Outside of that, we’re also providing a lot of new technologies, and are positioned with a lot of the major players in the industry. So as the industry becomes larger, DSC is in a good position.”

That’s an opinion shared by Rodman and Renshaw, an investment bank and brokerage firm in New York City. “One of the things DSC does better than most is to pick winning technologies.” states a R&R report. “In the near term, they are not dependent on the cutting edge.”

But some competitors aren’t convinced. An official at one of DSC’s biggest rivals, who asked not to be named, says DSC’s long-term strategies-such as choosing not’to compete in most major metropolitan markets with its switching products-are flawed,11 The bigger companies arc eventually going to start moving past them [DSC] in the areas that they’ve done well in. I don’t think they’ll be as successful five, 10 years from now.”

Most analysts disagree with that gloomy-prediction.

“DSC is the strongest positional and best diversified of the independent telephone equipment suppliers,” says Eric Buck of New York’s DLJ Securities. “DSC represents the most attractive value of any of the traditional telecommunication names.”

DSC has surprised even the biggest companies by its work on a new wireless network in Japan. While giants like AT&T openly complain they aren’t getting enough access to the Japanese wireless market, DSC is providing key components that will support a system of mini-cellular phones, which cost halt as much as a normal cellular handset, and whose service will be a third less expensive.

“There are some U.S. companies concerned that they are locked out of that business,” says a DSC official. “But we are in it in a large way.”

Along with the project in Japan, DSC supplies Motorola Inc., one of its biggest customers, with equipment in 22 countries, ranging from China to Chile to Russia to the United Kingdom. And that’s just part of DSC’s rapidly expanding international efforts, which were boosted by the firm’s acquisition last year of NKT Electronic, a Dutch company that serves now as DSC’s European headquarters for transport products.

But while the expanded international efforts are in their infancy, most of DSC’s revenues continue to come from the domestic telecommunications business, which is flourishing amid more deregulation.

“More so than a lot of people expected, what has fueled our business is at home,” says company spokesman Roger Frizzell. “There is so much competition in the marketplace, both for long-distance and regional carriers. They have to be equipped to do the best job they can. Companies are upgrading their networks, and in many cases are looking to branch out, and we have to provide products that fit their new needs.”

Buoyed by the continuing growth of the market, the third quarter of this year was DSC s best ever-with the company posting $49.4 million in net income on S370.1 million in revenue, up from $43.2 million in net income and $260.6 million in revenue in the third quarter of 1994. That marked the sixth consecutive increase in revenue that DSC has had.

But the results, which were less impressive than DSC and market analysts anticipated earlier in 1995, initially sent the company’s stock price falling dramatically.

“It’s ironic that our best quarter ever would be a bit below our investors’ estimates,” Frizzell says.

Alas, it seems that’s the nature of the business; sometimes, even when you’re winning, you don’t win.