DSC Communications Corporation

1000 Coit Road
Piano, Texas 75075-5813
U.S.A.
(214) 519-3000
Fax: (214) 519-2203

Public Company
Incorporated: 1976 as Digital Switch Corporation
Employees: 4,041
Sales: $536.3 million
Stock Exchanges: NASDAQ
SICs: 3661
Telephone and Telegraph Apparatus; 3613 Switchgear and Switchboard Apparatus

DSC Communications Corporation is a leading designer, developer, manufacturer, and marketer of digital switching, transmission, access, and private network system products for the worldwide telecommunications marketplace. Headquartered in Piano, Texas, just north of Dallas, DSC has facilities and customers throughout the United States and the world.

DSC, formerly Digital Switch Corporation, traces its history to 1976, when two engineers and two investors from the Washington, D.C. area joined forces. Their intent was to utilize emerging digital technology to create new switching systems for the local telephone companies’s central offices.

The first five years of the company were chaotic. Among other things, the two original engineers left the brokerage firm that took Digital Switch public, John Muir & Company, soon went bankrupt; the records were in disarray; and the Securities and Exchange Commission accused some of the early officers of fraudulent stock sales. In an effort to right the company, the board of directors made several positive management changes. But by early 1981, it became increasingly obvious to the board that they needed a president with industry expertise.

Chosen for the post was James L. Donald. Donald brought with him an engineering degree, 18 years of experience at Texas Instruments and a record of having taken the Dallas-based switch manufacturing company Danray from $1 million to $100 million in sales. He also brought with him a handful of trusted colleagues. The challenges the new team faced were daunting. Within three months of his arrival at the Digital Switch offices in northern Virginia, Donald replaced much of the board, began cleaning up the books, and moved the company to Dallas.

During this time, the Dallas area had become a major technology center. Collins Radio (later Rockwell Telecommunications) was a pioneer in communications product development and the linchpin of what became known as the Dallas area’s “Telecom Corridor.” The corridor also hosted such companies as Texas Instruments, EDS, and LTV. Here, Donald knew, Digital Switch could benefit from a highly skilled work force and a financial establishment that was friendly to high-tech ventures.

However, what the company needed at least as much as financial stability was a salable product. When Digital Switch relocated to Dallas in 1981, it had six employees, no orders, and no product. Nevertheless, Donald and his team had a plan: they would apply digital technology and distributed processing to switches, and their switches would serve not the increasingly saturated Class 5 local exchange central office switch market but the market for Class 4 tandems, the switches required by the new long-distance competitors to AT&T.

The possibility for the creation of these new companies, called Other Common Carriers (OCCs), first arose in the late 1960s. In what became known as the Carterphone decision, Thomas F. Carter of Dallas challenged the rules against attaching “foreign devices” to the AT&T network—and won. Then, during the early 1980s, federal antitrust action against AT&T resulted in a plan to split up the telephone monopoly. Local Bell companies were required to give equal access to any long-distance carrier selected by any individual customer. The long-distance market was ripe for expansion. AT&T had a heavy cost structure and was ill-prepared to compete with, for example, MCI and GTE Sprint. These smaller companies began building technologically superior, low-cost networks from the ground up. Digital Switch saw a great opportunity.

In one year of very hard work, the company completed the development of a large tandem switch—the first digital switch of its type and size, which it sold to MCI. The relationship with MCI was grounded in personal trust; in a previous management position, Digital Switch’s Jim Donald had delivered on switching systems promises made to MCI’s William McGowan. The relationship proved advantageous to both of the young companies. Digital Switch had a customer with an aggressive strategic plan and cash to advance for switch development; MCI had a vendor with cutting-edge technology and a willingness to extend favorable payment terms.

Digital Switch moved quickly to buttress its sales to MCI. Over the next year, it recruited a cadre of management personnel to handle financing, manufacturing, sales, and customer support for the new switch. It also reached out toward GTE Sprint and other long-distance companies. According to Business Week, the company’s “sales jumped from zero in 1981 to $27.4 million,” and the company “also reversed a 1981 loss of $3.4 million by showing a 1982 profit of $5.8 million.” Digital Switch executives spoke of reaching a billion dollars in sales in 1990, and Donald noted that the only way the company could reach that goal was through diversification.

However, in August 1983, the Federal Communications Commission (FCC) handed down a ruling that stood to double the fees independent long-distance companies would have to pay for access to local-exchange companies. As a result, Digital Switch stood to lose projected equipment orders, and its stock was buffeted on Wall Street. Nevertheless, since the federal order would have stunted long-distance competition in the United States, the FCC later modified it in favor of the independent carriers. In the meantime, Digital Switch had broadened its product line with new switch-related products and had secured additional financing.

January 1, 1984 marked the beginning of a new era. On that date, AT&T was divested of the Bell operating companies. Although AT&T retained its equipment manufacturer, Western Electric Company, the probability of other equipment vendors’ selling into the Bell companies greatly increased. In June of that year, Digital Switch took a major diversification step, acquiring a transmission equipment manufacturer called Granger Associates for approximately $350 million in stock. Granger, a California-based company that excelled in transmission technologies, had contracts with many local telephone companies, including some Bell companies. Granger gave Digital Switch an entry into the local exchange carrier market. More importantly, the Granger purchase filled out Digital Switch’s product line and represented its first strategic growth through acquisition.

Also in 1984, Digital Switch decided to diversify into autodialers, small computer-based devices that automatically dialed the many digits OCC customers had to use to get onto the AT&T long-distance network. This decision turned out to be a serious mistake. Within months, the economic rationale for simulating equal access via the multi-digit codes disappeared as the FCC ruling on equal access to AT&T’s network was revisited and put into effect.

Because Digital Switch had broadened its offerings of telecommunications equipment, the board agreed in the spring of 1985 to change the company’s name to DSC Communications Corporation. The new name retained the initials of the original and enabled the company to make a break from its one-customer, one-product past. It was also in keeping with DSC’s broader market focus on advanced telecommunications.

During this time, the company’s tandem switch had captured well over half of the independent long-distance carrier market. Its largest customer was MCI, which built most of its core network around the more than $600 million worth of equipment that DSC had delivered by 1992. DSC then concluded sales agreements with US Sprint.

DSC also became the first manufacturer to sell into the Japanese public telephone network which, like the American market, was being opened to competition. The multimillion-dollar sale of digital switching equipment to Daini-Denden Incorporated (DDI) was DSC’s first big international sale.

Despite these gains, the year proved very difficult for DSC. Among other problems, the company took a large charge against earnings, based on its reverses on autodialers. The company also faced a sharply diminished marketplace, as OCCs, which had not captured the predicted volume of AT&T business, consolidated or disappeared. One of the company’s large customers refused to honor a switch purchase commitment, which led DSC to restate earnings. Moreover, the company fell into technical noncompliance with certain of its loan covenants.

Not just in 1985 but over several years, despite strong growth and encouraging sales, DSC experienced large fluctuations in its share value. For example, after a three-for-one stock split in 1983, DSC shares dropped from $48 a share to $19 eight months later. One disgruntled shareowner told the Wall Street Journal,” It seems like the more good news this company has, the more its stock just keeps going down.” The rapid drop in share value was not, however, limited to DSC. Many other high-tech stocks were also quite volatile. Nevertheless, DSC’s business remained sound. The company’s customer list grew, sales increased, and new product development proceeded smoothly.

DSC had ridden high on the growth of MCI and US Sprint and was doing well with its new Granger transmission products. Still, Donald predicted that its future would include wireless as well as wireline technologies and began seeking manufacturing agreements in the cellular communications industry.

In 1984, DSC established an exclusive manufacturing relationship with Motorola. The latter had developed a hand-held cellular phone and needed a switch that could accommodate the resultant calls. Demand for Motorola cellular products subsequently provided DSC with a steady source of profitable orders of cellular network equipment.

One of DSC’s other successful product lines was digital cross-connect systems, which reduced the amount of equipment in a telephone company’s central office, and efficiently and cost-effectively handled large volumes of calls. The company became a clear leader in these products; revenue from the cross-connects grew each year from 1985 through 1990.

Still, DSC continued to experience erratic and insufficient levels of profitability. The problems were in part related to the unstable nature of the market, the company’s relatively small size, and its high leverage. DSC was forced to make up for low sales in any one quarter with high sales in subsequent quarters.

Continuing its program of diversification and new product development, the company returned to profitability, generated cash, and reduced its investment in noncash working capital in 1986. After installing its first and only Class 5 switch, the DSC DEX-5, at Rochester Telephone Corp., it determined to exit the central office market and redirect those resources toward the development of the company’s first Intelligent Network (IN) product, the Signal Transfer Point (STP). With the STP, a high-capacity message switch, DSC became one of the first players in the burgeoning IN marketplace.

In 1987, DSC phased out certain older Granger products, concentrating more on sales of digital cross-connects and STPs as well as the development of new products. The company also reduced its long-term debt and broke ground on an assembly and shipping center.

In 1988, after AT&T announced a move to an all-digital standard, DSC discontinued its transmultiplexer business and began striving to make up for that revenue loss. It then delivered the first of its Signal Transfer Points in the United States. At its industry’s major annual trade show, it also announced the DSC DEX MegaHub, a multi-functional product platform whose services and applications could be defined by customers.

1989 was a particularly active year for DSC. The company signed an expanded ten-year agreement with Motorola and extended its agreement with DDI Corporation of Japan. The first high-end DSC DEX ECS cross-connects were shipped, and management signed development agreements for a new Intelligent Network product, the Service Control Point (SCP). Finally, DSC began discussions to purchase Optilink Corporation.

The following year, DSC made the investment in Optilink, whose fiber optic Synchronous Optical Network (SONET) -based products would give DSC a new set of customers. During this time, however, the company also suffered through industry consolidations, a weak global economy, and perceived problems in manufacturing quality.

In 1991, two of the Regional Holding Companies, Bell Atlantic and Pacific Bell, experienced network failures, and in each case, a DSC STP was involved. Investigators soon found that a coding error in the DSC software had exacerbated other network flaws. The problem was easily corrected, and safeguards were built in that minimized the chances of such a failure recurring. Moreover, the FCC report on the event stated that the outages would have occurred with or without the STP’s involvement. Still, DSC suffered enormous public relations damage, particularly in the investment community. Customers suspended their purchases, and share values plummeted.

For the first nine months of 1991, DSC posted a $100 million loss, including $55 million in write-downs and other charges. Although the company did not default on any bank lines or fall behind in its public debt payments, it was once again in technical default of its loan covenants.

In response, about 20 percent of DSC’s work force was cut and capital spending was severely curtailed. In November 1991, DSC reorganized operations into four product divisions and a customer service division. Although rumors began to circulate that DSC was preparing to sell off all or part of its business, by the end of the year, DSC’s fortunes began to turn upward, and the company remained intact.

DSC had taken its share of the blame for the 1991 summer network outages, and its customers—in particular Bell Atlantic and Pacific Bell—stood behind DSC, announcing major new purchases of DSC equipment early in 1992. Also that year, as the Bell companies lifted their spending constraints, Ameritech named DSC the lead vendor for its billion-dollar network upgrade program, which included DSC’s fiber-based Litespan system.

In the early 1990s, MCI remained DSC’s largest customer, with 15 percent of total sales, followed by Motorola, Bell Atlantic, and DDI. During this time, DSC moved cautiously, emphasizing sales in the more stable markets worldwide and enhancing its manufacturing, sales and distribution facilities in Canada, Puerto Rico, England, and Asia. Adopting greater manufacturing design flexibility, better inventory controls, and a total quality management program, the company regained profitability. Its gross profit margin increased from 30 percent to 43 percent in 1992.

The best news about DSC was the change in its financial picture. By the summer of 1992, the company had paid off its bank debt. At the end of 1992 and through 1993, it began to pay off its public debt, eliminating more than $70 million in outstanding debentures. By year-end 1993, DSC had progressed from being a company $280 million in debt with next to nothing in cash into a company with approximately $300 million in cash and less than $75 million in debt. While maintaining a strong focus on well-defined markets and growing into these markets in a careful and responsible manner, DSC had become a very profitable company.