If you use an external DAC, you would want to use the 5.1 direct inputs. Otherwise, you would be re-digitizing the already converted signal and running it through the 1050's DAC.

I think the 1050 does a pretty good job on DA conversion, at least better than my DVD player does on music. I have heard some great sounding high-end CD players with their own DACs, but never side by side with my 1050 doing the DAC.

Make sure any DAC you buy has good jitter reduction. That is the most critical part to getting good sound.