That flipping is a very special feature

. At work we also have some tools that use DDS textures and they don't all have the same standard. So some use DDS vertical flipped and some don't. It seems nobody is exactly sure that the actual standard is.
The Microsoft DirectDraw Surface (.dds) file format is used to store textures and cubic environment maps, both with and without mipmap levels. This format can store uncompressed and compressed pixel formats, and is the preferred file format for storing DXTn compressed data. This file format is supported by the Microsoft DirectX Texture tool (DXTex Tool), as well as some third party tools, and by the Direct3D extensions (D3DX) library.
The chief reason why ACES chose to use the DDS format was because of it is the final format used when sending DirectX content to a video card. The reason for "pre-flipping" the image data is to eliminate the overhead in having it "flipped programmatically" at runtime by the CPU before sending the data through the pipeline to the video card's memory buffer.
As for which type of compression to use in FSX, I would recommend following the suggestions of ACES:
1) If there is no Alpha channel, use DXT1 (no Alpha) - 8:1 compression
2) If there is a single color Alpha (0,0,0 or 255,255,255), use DXT1 w/Alpha - 6:1 compression
3) IF there is a "complex Alpha", use DXT5 - 4:1 compression
Note that from the S3TC schema the major difference between DXT3 and DXT5 is the type of Alpha supported.
http://en.wikipedia.org/wiki/S3TC
DXT3 is best for "Sharp Alpha"
DXT5 is best for "Gradient Alpha"
I hope this helps!
