Into thin air

How one promising company was crushed by the collapse of telecom

Friday, December 13, 2002

BY DAVID RESS
Star-Ledger Staff

For investors in Shrewsbury-based DSET, telecom's hard luck story is as simple as two numbers: $194.50 and 30 cents.

The first is the high DSET's stock hit in 2000. The second is what stockholders would get for each share once the company is acquired by one of its customers.

Shareholders in the battered software company will vote on selling their company to Georgia-based NE Technologies at a special meeting Dec. 27. For some, considering where DSET shares have traded this year, the 30 cents won't look bad, considering they were at little more than a dime before NE's offer.

"We believe the 30-cent cash offer provides an attractive premium for our shareholders," DSET Chief Executive Binay Sugla said in a statement.

But like Lucent, Global Crossing or Qwest, DSET is an example of what happens when the hype surrounding new technologies grows faster than actual sales to customers. Buried in its filings with the Securities and Exchange Commission is a story of a company that rode one of the biggest boom-and-bust cycles in history and is now set to disappear before our very eyes.

Of course, some investors always knew, deep down, that was a possibility.

"It was a speculative thing," said John Martinson, a Princeton-area investor, regarding his 5 percent stake in the company. "They have a strong management team, and I've seen them turn things around, get new product in a new market and prosper, and I thought they'd be able to do it again.

"But the tide just swamped them this time."

For DSET, the downturn came fast.

Company executives declined to be interviewed for this story, but SEC filings show that, just two years ago, a change in direction was starting to bear fruit. DSET's profit for the first half of 2000 tripled to more than $3 million. Revenue surged 67 percent to $27 million.

The telecom software company had moved aggressively into the business of setting up the electronic gateways that let competitors in the local telephone market hook up with customers.

But in the fall of 2000, telecom companies realized they had a lot more wire, switches and fiber-optic cable than they could possibly fill with signals.

They slashed purchases and canceled contracts right and left. The result: DSET's sales tumbled, and after that bright start, the company ended up losing $18.8 million for the year.

Its stock slid from $132.50 to a low of $6.50.

The next year, 2001, was even worse. DSET's sales fell another 79 percent, and its loss ballooned to $33.3 million. By the end of the year, the stock was mired below $1.50. Its auditors questioned if DSET could survive.

But DSET was scrambling.

In the summer of that year, company executives headed off in a new direction -- software for Internet-based telecommunications.

The way to crack that market, DSET executives decided, was through an acquisition. They discovered ISPSoft, also in New Jersey, and acquired it in January 2002. DSET had earlier lent ISPSoft $3.85 million.

"A lot of telecom suppliers were hurt, a lot tried migrating up the ladder for new customers. It didn't always work," said Peter Jacobson, an analyst with Kaufman Bros., a New York securities firm that was a financial adviser to DSET.

Within a month, DSET directors realized they were still in a hole, the company's SEC filings show. DSET's CEO, Sugla, who had joined the company with its acquisition of ISPSoft, and two other directors started looking for new funding.

It did not take long for them to realize banks and other lenders were no longer an option.

They thought about selling the electronic gateway business, but feared they would not get enough money for it.

They sounded out other investors. No luck.

Nobody wanted to touch telecom by then. By the spring of 2002, all the smart money knew better.

But someone out there did know DSET.

The month of May brought a feeler from a customer. Dilip Naik, president of NE Technologies, which licensed some of DSET's older software, asked about buying that part of the business. NE executives met with DSET director and former President William McHale, but they couldn't agree on a price.

On June 4, Sugla, ran into Naik at the Supercomm trade show in Atlanta, and asked if NE might want to buy the electronic gateway business. They talked again, by phone, eight days later, and had a follow-up chat June 20.

On that day, Sugla threw out a new idea: Instead of buying a piece of DSET, NE could acquire a large stake in the company itself.

On July 15, Naik and Sugla talked again. Now Naik had a surprise.

NE wanted to acquire all of DSET. Eleven days later, after a visit to DSET's Shrewsbury headquarters, Naik made a preliminary proposal, but could not reach a deal.

Still, executives from the two companies kept talking. On Aug. 7, DSET's executives went before their board to present NE's latest offer, to acquire DSET for 40 cents a share. The board said yes.

The work on the actual merger agreement would take several more weeks, but it probably seemed a lot longer for DSET shareholders.

From 28 cents when Sugla and Naik started talking, to 25 cents when NE made its first offer, DSET stock had fallen as low as 11 cents.

On Oct. 28, Naik told Sugla his company no longer could justify paying 40 cents a share for DSET. The offer was now 30 cents.

Sugla, meanwhile, had more bad news for his board when it next met, Nov. 1.

The chief executive reminded directors the gateway business and the Internet telecommunications business were shrinking.

Chief Financial Officer Bruce Crowell outlined the preliminary results of DSET's third quarter -- sales were still shrinking, although the quarterly loss was smaller than the year before. Officials from Kaufman Bros., DSET's financial advisers, said they thought the offer was fair.

Sugla then took the floor again. The alternatives to NE's offer were dropping some lines of business, going bankrupt, finding another buyer or hoping the company might turn a corner.

Ultimately, the board decided it had no choice. It approved the deal.

"Given the current state of the telecom market and the financial state of DSET," Sugla said in an explanation to shareholders, "we believe that DSET needs to be part of a financially healthy entity."

David Ress can be reached at dress@starledger.com or (973) 392-1695.