UNITED
STATES SECURITIES AND EXCHANGE COMMISSION


Washington,
D.C. 20549


Form 10-K


(Mark
One)





þ
            ANNUAL REPORT PURSUANT TO
      SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF
      1934


For
the fiscal year ended January 31, 2009


OR





o
            TRANSITION REPORT PURSUANT TO
      SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF
      1934


For
the transition period
from          to





Commission
file number: 000-21287


Peerless
Systems Corporation


(Exact
Name of Registrant as Specified in Its Charter)


Delaware
            
            95-3732595(State or Other Jurisdiction of
            
            (I.R.S. EmployerIncorporation or Organization)
            
            Identification No.)2381 Rosecrans Avenue, El Segundo, CA
            
            90245(Address of Principal Executive Offices)
            
            (Zip Code)


(310) 536-0908


(Registrant’s telephone number,
including area code )


Securities
registered pursuant to Section 12(b) of the Act:





Title of Each Class
            
            Name of Each Exchange on which
      RegisteredCommon
      Stock, $0.001 par value
            
            The
      NASDAQ Stock Market LLC





Securities
registered pursuant to Section 12(g) of the Act: None


Indicate
by check mark if the registrant is a well-known seasoned issuer, as defined in
Rule 405 of the Securities Act. Yeso
     Noþ




Indicate
by check mark if the registrant is not required to file reports pursuant to
Section 13 or Section 15(d) of the Act. Yeso
     Noþ




Indicate
by check mark whether the registrant: (1) has filed all reports required to
be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934
during the preceding 12 months (or for such shorter period that the
registrant was required to file such reports), and (2) has been subject to
such filing requirements for the past 90 days. Yesþ
     Noo





Indicate
by check mark if disclosure of delinquent filers pursuant to Item 405 of
Regulation S-K is not contained herein, and will not be contained, to the
best of registrant’s knowledge, in definitive proxy or information statements
incorporated by reference in Part III of this Form 10-K or any amendment to
this Form 10-K.þ





Indicate
by check mark whether the registrant is a large accelerated filer, an
accelerated filer, a non-accelerated filer, or a smaller reporting company. See
the definitions of “large accelerated filer,” “accelerated filer” and “smaller
reporting company” in Rule 12b-2 of the Exchange Act. (Check one):





Largeacceleratedfiler ̈
            Acceleratedfiler ̈
            Non-acceleratedfiler ̈
            Smallerreportingcompanyþ





Indicate
by check mark whether the registrant is a shell company (as defined in
Rule 12b-2 of the Exchange Act).


Yeso
     Noþ





The
aggregate market value of the registrant’s common equity held by non-affiliates
was approximately $30,338,329 as of April 21, 2009, based upon the last sale
price of our common stock on the Nasdaq Capital Market on such
date.





The
number of shares of Common Stock outstanding as of April 21, 2009 was
16,860,183.





DOCUMENTS
INCORPORATED BY REFERENCE


Part III
of this report incorporates certain information by reference from the
registrant’s proxy statement for the annual meeting of stockholders expected to
be held on June 5, 2009, which proxy statement will be filed no later than
120 days after the close of the registrant’s fiscal year ended
January 31, 2009.





TABLE
OF CONTENTS





PART
      I
                  1Item 1.
      Business
                  1Item 1A.  Risk
      Factors
                  7Item 1B.  Unresolved
      Staff Comments
                  12Item 2.  Properties
                  12Item 3.  Legal
      Proceedings
                  12Item 4.  Submission
      of Matters to a Vote of Security Holders
                  13PART
      II
                  14Item 5.  Market
      for Registrant’s Common Equity, Related Stockholder Matters and Issuer
      Purchases of Equity Securities
                  14Item 6.  Selected
      Financial Data
                  15Item 7.  Management’s
      Discussion and Analysis of Financial Condition and Results of
      Operations
                  16Item 7A.
      Quantitative and Qualitative Disclosures About Market Risk
                  23Item 8.
      Financial Statements and Supplementary Data
                  23Item 9.
      Changes in and Disagreements with Accountants on Accounting and Financial
      Disclosure
                  23[Item 9A.
      Controls and Procedures
                  23Item 9B.
      Other Information
                  25PART
      III
                  25Item 10.
      Directors, Executive Officers and Corporate Governance
                  25Item 11.
      Executive Compensation
                  25Item 12.
      Security Ownership of Certain Beneficial Owners and Management and Related
      Stockholder Matters
                  25Item 13.
      Certain Relationships and Related Transactions, and Director
      Independence
                  25Item 14.
      Principal Accountant Fees and Services
                  26PART
      IV
                  25Item 15.
      Exhibits and Financial Statement Schedules
                  27INDEX
      TO CONSOLIDATED FINANCIAL STATEMENTS
                  F-1





EXHIBIT
21.1   Registrant’s Wholly-Owned
Subsidiaries
 EXHIBIT
23.1   Consent of Independent
Registered  Public Accounting Firm
 EXHIBIT
31.1   Certification of Chief Financial Officer an Acting Chief
Executive Officer
 EXHIBIT
32.1   Certification Pursuant to Section 906 of the
Sarbanes-Oxley Act of 2002














FORWARD-LOOKING
STATEMENTS





Statements
made by us in this report and in other reports and statements released by us
that are not historical facts may constitute “forward-looking statements” within
the meaning of Section 27A of the Securities Act of 1933, as amended (the
“Securities Act”) and Section 21 of the Securities Exchange Act of 1934, as
amended (the “Exchange Act”). These forward-looking statements are necessarily
estimates reflecting the judgment of our senior management based on our current
estimates, expectations, forecasts and projections and include comments that
express our current opinions about trends and factors that may impact future
operating results. Disclosures that use words such as “believe,” “anticipate,”
“estimate,” “intend,” “could,” “plan,” “expect,” “project” or the negative of
these, as well as similar expressions, are intended to identify forward-looking
statements. These statements are not guarantees of future performance, rely on a
number of assumptions concerning future events, many of which are outside of our
control, and involve known and unknown risks and uncertainties that could cause
our actual results, performance or achievement, or industry results, to differ
materially from any future results, performance or achievements, expressed or
implied by such forward-looking statements. We discuss such risks, uncertainties
and other factors which could cause results to differ materially from
management’s expectations throughout this report and specifically under the
caption “Risk Factors” in Part I, Item 1A below. Any such
forward-looking statements, whether made in this report or elsewhere, should be
considered in the context of the various disclosures made by us about our
businesses including, without limitation, the risk factors discussed
below.





We intend
that the forward-looking statements included herein be subject to the
above-mentioned statutory safe harbor. Investors are cautioned not to rely on
forward-looking statements. Except as required under the federal securities laws
and the rules and regulations of the U.S. Securities and Exchange Commission
(the “SEC”), we do not have any intention or obligation to update publicly any
forward-looking statements, whether as a result of new information, future
events, changes in assumptions, or otherwise.







PART
I


Item 1.
Business





Company
Overview





Peerless
Systems Corporation (refereed to herein as “Peerless,” the “Company,” “we,”
“our” or “us”) licenses and sells imaging and networking technologies and
components to the digital document markets, which include original equipment
manufacturers (“OEMs”) of color and monochrome printers and multifunction office
products.  We license software-based imaging and networking technology for
controllers in embedded, attached and stand-alone digital document products such
as printers, copiers, and multifunction products (“MFPs”) of OEMs.





On April
30, 2008, we sold certain assets to Kyocera-Mita Corporation
(“KMC”).  Since then, we have reduced our focus on our historical
business and are seeking to use our substantial cash reserves to pursue
opportunities that enhance shareholder value.





We were
incorporated in California in 1982 and reincorporated in Delaware in
September 1996.





Historically,
we developed controller products and applications for sale to OEMs. In order to
process digital text and graphics, digital document products rely on a core set
of imaging software and supporting electronics, collectively known as a digital
imaging system. Digital document products include monochrome (black and white)
and color printers, copiers, fax machines and scanners, as well as MFPs that
perform a combination of these imaging functions. We license this technology,
entered into development agreements and marketed these solutions directly to OEM
customers including Konica Minolta, KMC, Oki Data, Panasonic, Ricoh, and Seiko
Epson. Our embedded application solution offerings also incorporate imaging and
networking technologies developed internally or licensed from third
parties.





On April 30, 2008, we completed a
transaction with KMC, whereby we sold substantially all of our intellectual
property (“IP”) to KMC, licensed most of this IP back from KMC, transferred to
KMC thirty eight of our employees, sublet to a KMC subsidiary certain
office space and terminated substantially all of our prior revenue
generating agreements with KMC (collectively, the “KMC Transaction” or “Asset
Sale”).  As consideration, KMC assumed certain of our liabilities, and paid
us approximately $37.0 million, less a holdback amount of $4.0 million
relating to potential indemnification obligations.





On
January 30, 2009, the company terminated its lease to certain properties in El
Segundo, California.  This lease had more than 7 years remaining on
its term with a potential cost to the Company in excess of
$10,000,000.  As consideration, the Company agreed to pay the landlord
a termination fee of approximately $2.4 million and to forfeit its security
deposit in the amount of $110,000.   In addition, the Company
terminated its obligations with respect to the property that the Company had
subleased to a KMC subsidiary.  This property is now being leased
directly from the landlord to a KMC subsidiary.


1


We have
cash reserves of $44.7 million, resulting from our prior development agreement
with KMC, the licensing revenue from our other customers, and the sale of
substantially all of our intellectual property to KMC.  We are seeking
to use these reserves to pursue opportunities that enhance shareholder value. We
are engaged in efforts to identify investment opportunities that offer
compelling prospects for growth and profitability.  We continue to
identify and evaluate a number of investment candidates.  We have also
retained a consultant to assist the Board in identifying investment
opportunities.  In the interim, we are managing our cash reserves to
maximize capital preservation in the current economic
environment.   (See “Strategic Transactions” and “Interim
Investment Strategy” under “Strategy for Business” below.)





Services
Provided





Following
the transaction with KMC, our primary business is licensing software-based
imaging and networking systems for the digital document product marketplace.
Licensing revenues were 69%, 63% and 65% of total revenues in fiscal years 2009,
2008 and 2007, respectively.  Engineering services and maintenance
revenues were 31%, 36% and 34% of total revenues in fiscal 2009, 2008 and 2007,
respectively.  We offer engineering and maintenance services to OEMs in
support of our licensed software.





Customers





We
currently derive substantially all of our revenues from direct sales to digital
document software product OEMs.  Four of our customers, Konica Minolta,
KMC, Novell Inc. (“Novell”) and Seiko Epson, each generated more than 10% of our
total revenues for fiscal year 2009. Revenues from our top four customers
accounted for 87% and 66% of our total revenues for fiscal years 2009 and 2008,
respectively. In addition we have sublicense agreements with Adobe and Novell,
which have generated substantial revenues for us.  We anticipate that
our future revenues may be similarly concentrated with a limited number of
customers.  With the consummation of the KMC Transaction,
substantially all of our prior revenue-generating agreements with KMC were
terminated.
KMC may continue from time to time to sublicense third party technology from
us.





Our
largest customers (greater than 10% of our total revenues) vary to some extent
from year to year as product cycles end, contractual relationships expire and
new products and customers emerge.  Our largest customers have
accounted for $9.1 million, $12.2 million and $15.2 million of our
revenues for fiscal years 2009, 2008 and 2007, respectively.





Our
licensing arrangements with our customers are based on the number of
products including our technology shipped by these customers and the life
cycles of these products.   Because we generate a large
percentage of our revenues from a small number of customers and a few products,
any loss of these customers or products would have a material adverse impact on
our results of operations.   (See “Item 1A-Risk Factors –The
future demand for our products is uncertain”)





Market
Segments and Geographic Areas





In our
historical business, we have sold our products and services to OEMs which
produce products for the enterprise and office sector of the digital document
product market, which is characterized by digital document products ranging in
price from approximately $500 to $1,000 each at the low end, to more than
$50,000 at the high end.  These products typically offer high
performance, differentiated by customized features.  As a result of
these unique requirements, we typically address the office sector of the digital
document product market via direct OEM relationships with individual digital
document product manufacturers.  Our major customers in the office
market in the fiscal year 2009 included Konica Minolta, Oki Data, Panasonic,
RISO and Seiko Epson.


2


Since the
majority of our OEM customers are primarily companies headquartered in Japan,
revenues from customers outside the United States accounted for 79%, 90%, and
91% of our total revenues in fiscal years 2009, 2008, and 2007,
respectively.  These customers have sold products containing our
technology primarily in the North American, Japanese, and European
marketplaces.  See Note 11 to the Consolidated Financial
Statements, included herein, for revenues by geographical region for the last
three fiscal years.





All of
our contracts with international customers are denominated in U.S. dollars, and
we expect this to continue. As a result, we do not incur material foreign
currency transaction costs in our business.




Industry
Overview





The
document imaging industry has rapidly changed.  Historically, most
electronic imaging products in the office environment have been stand-alone,
monochrome machines, which were dedicated to a single print, copy, fax or scan
function.  Today’s imaging products combine printer, fax and, scan
functions in a single color MFP or All-in-One (“AiO”) devices.  These
rapid changes in technology and end-user requirements have created new
opportunities and challenges for digital document product
manufacturers.  These challenges include customer expectations for
higher performance products at lower prices as well as the desire and ability of
product manufacturers to develop more and more technology in-house.





Technology





Digital Imaging Products.Peerless offers
software-based embedded imaging components to OEMs of printers and
MFPs.  These imaging components increase the performance, image
quality and network connectivity while lowering the overall device
cost.  Our offerings to our customers include, among other things, the
following products which we licensed back from KMC after the Asset
Sale:




•
              PeerlessPrint Family of
      SDKs is a fully compatible Peerless implementation of HP PCL Page
      Description Languages.  The majority of PeerlessPrint sales are
      sold in conjunction with other Peerless technology or third party
      technology.
 
 •
              Peerless XPS is a
      complete embedded rendering solution for applications that use Microsoft’s
      XPS Page Description Language.
 
 •
              PeerlessTrapping is an
      imaging technology designed to improve print quality of color
      images.
 
 •
              Peerless Software Print
      Server is a complete software based print server with all
      networking protocols that enables secure and reliable network print and
      scan connectivity.
 
 •
              PeerlessNet Web Services
      SDK provides advanced device control and Microsoft Windows Vista
      support.
 
 •
              PeerlessNet Security
      provides advanced network security functions for digital imaging
      devices.




Before
the KMC Transaction, our technologies generated a significant number of sales as
stand alone solutions.  However, we have established relationships
that permit us to offer complementary technologies developed by other third
parties, including Adobe and Novell, to our customers in bundled or single
sales.  This concept of bundling our technologies with third parties
has allowed us to realize more sales opportunities over recent
years.  Since 1999, we have been a sublicensor of Adobe PostScript,
which resulted in the expansion of the application and integration of the
proprietary technologies we developed. However, our agreement with Adobe
expires on March 31, 2010 and we are uncertain if this agreement will be
renewed.


3





Strategy
for Business





In 2007,
we developed and implemented a strategy designed to address declining demand for
our core imaging technologies from our traditional OEM customer
base.  The strategy called for the reduction of expenses to better
match anticipated revenue; strengthening and maximizing the value of core
technologies, and expanding our business through mergers and/or
acquisitions.  As part of our strategy going forward, we are
continuing to implement the following:





Reduction ofExpenses.We
will continue to manage our business in a manner that aligns our operating
expenses with our ongoing revenue streams.





MaximizingValue ofCoreTechnologies.We
will continue to license and provide service to our current and potential new
OEM customers.  We will continue to market our traditional embedded IP
and any new product offerings in which we may participate going
forward.





Strategic
Transactions.We
are exploring opportunities to deploy our cash reserves into businesses where we
believe we have a strategic advantage.   We are engaged in
efforts to identify investment opportunities that offer compelling prospects for
growth and profitability.  We are continuing to identify and evaluate a
number of investment candidates on an ongoing basis.  Our focus is not
limited to the digital imaging environment, nor is there a focus on the
technology segments of the market.We are primarily
targeting candidates:




∙ 
located in the U.S;




∙ 
with an enterprise value of $50 to $150 million;




∙ 
with a minimum of $5 million of EBITDA;




∙ 
in industries other than life insurance,  real estate development and oil
and gas exploration and development;




∙ 
with managers who are talented, hard-working and trustworthy and whose interests
align with our stockholders;




∙ 
in industries that enjoy high barriers to entry, have weak competition, offer
products with few close substitutes, and have limited supplier power and/or
strong franchise value with customers, because we believe these companies will
have higher profit margins than their peers;  and




∙ 
that have proven business models, are profitable and have demonstrated growth
potential.




We are
avoiding companies that are in decline or that we believe have little potential
for additional growth.  The foregoing criteria are general guidelines
that the Board has established in seeking a strategic transaction. However, the
Board may determine to pursue any transaction that it determines is in the best
interest of the Company and its stockholders, whether or not it meets such
guidelines.




We will
value companies based upon assets or a multiple of operating income or EBITDA,
and not a multiple of revenue.  We have also retained a consultant to
assist the Board in identifying investment opportunities.


4





Interim
Investment Strategy.The primary
objective of our investment activities is to preserve the principal of our
investments and to maintain a liquid level of investments to meet short term
capital requirements for potential investment opportunities, while at the same
time maximizing yields without significantly increasing risk.  To
achieve this objective, from time to time, we maintain a portfolio of cash
equivalents, fixed rate debt instruments of federal, state and local
governments and high-quality corporate issuers and short-term investments in
money market funds.  We are exposed to a variety of risks in
investments, mainly a lowering of interest rates.  However, we believe
an effective increase or decrease of 10% in interest rate percentages would not
have a material adverse effect on our results from operations.





Intellectual Property and Proprietary
Rights





We
protect our proprietary rights through a combination of, among other things,
trade secret, copyright and trademark laws, as well as the early implementation
and enforcement of nondisclosure and other contractual
restrictions.





As part
of the KMC Transaction, we sold substantially all of our intellectual property,
including all of our patents, to KMC and licensed this IP back from KMC on a
nonexclusive, worldwide, perpetual and royalty free basis, subject to certain
restrictions.  In the KMC Transaction, we retained certain of our
customized intellectual property that had been previously integrated into
products we licensed to third parties or specifically created for our customers
(other than KMC) after December 7, 2007.





As part
of our confidentiality procedures, we enter into written nondisclosure
agreements with our employees, consultants, prospective customers, OEMs and
strategic partners and take further affirmative steps to limit access to and
distribution of our software, intellectual property and other proprietary
information. Despite these efforts and in the event such agreements are not
timely made, complied with or enforced, we may be unable to protect our
proprietary rights. In any event, enforcement of our proprietary rights may be
very expensive. Our source code also is protected as a trade secret. However,
from time to time, we license our source code to OEMs pursuant to protective
agreements, which subjects us to the risk of unauthorized use or
misappropriation despite the contractual terms restricting disclosure,
distribution, copying and use. In addition, it may be possible for unauthorized
third parties to obtain, distribute, copy or use our proprietary information, or
to reverse engineer our trade secrets.





As the
number of patents, copyrights, trademarks and other intellectual property rights
in our industry increases, products using our technologies increasingly may
become the subject of infringement claims.  There can be no assurance
that third parties will not assert infringement claims against us in the
future.  Any such claims, regardless of merit, could be time
consuming, divert the efforts of our technical and management personnel from
productive tasks, result in costly litigation, cause product shipment delays or
require us to enter into royalty or licensing agreements.  Such
royalty or licensing agreements, if required, may not be available on terms
acceptable to us, or at all, which could have a material adverse effect on our
operating results.  In addition, we may initiate claims or litigation
against third parties for infringement of our proprietary rights or to establish
the validity of our proprietary rights.  Litigation to determine the
validity of any claims, whether or not such litigation is determined in favor of
us, could result in significant expense to us and divert the efforts of our
technical and management personnel from productive tasks.  We may lack
sufficient resources to initiate a meritorious claim.  In the event of
an adverse ruling in any litigation regarding intellectual property, we may be
required to pay substantial damages, discontinue the use and sale of infringing
products, expend significant resources to develop non-infringing technology, or
obtain licenses to infringing or substituted technology.  The failure
of us to develop or license on acceptable terms a substitute technology, if
required, could have a material adverse effect on our operating
results.  See “Item 1A Risk Factors”


5





Competition





The
market for outsourced imaging systems for digital document products is highly
competitive and characterized by continuous pressure to enhance performance, add
functionality, reduce costs and accelerate the release of new products. We
compete on the basis of the set of core technologies we sublicense from third
parties, technology expertise, product functionality, development time and
price. Our technology and services primarily compete with solutions developed
internally by OEMs. Virtually all of our OEM customers have significant
investments in their existing solutions and have the substantial resources
necessary to enhance existing products and to develop future products. These
OEMs have or may develop competing imaging system technologies and may implement
these systems into their products, thereby replacing our current or proposed
technologies, eliminating the need for our services and products and limiting
future opportunities for us. In fact, OEMs have increasingly been shifting away
from third party solutions in favor of in-house development. Therefore, we are
required to persuade these OEMs to outsource the development of their imaging
systems and to provide products and solutions to these OEMs that favorably
compete with their internally developed products. We have experienced increased
difficulty in these efforts. We will continue to offer products, services and
time-to-market advantages in a selected fashion while targeting unique
opportunities that we believe exceed what the OEMs are capable of doing by using
their own internal resources. The transaction with KMC limits the types of
projects that we will attempt; however, we believe that opportunities still
exist. We also compete with software and engineering services provided in the
digital document product marketplace by other systems suppliers to OEMs. In this
regard, we compete with, among others, Electronics for Imaging Inc., Primax
Corporation (formerly known as Destiny Technology Corporation), Global Graphics
Software Ltd., SOFHA GmbH, Software Imaging and Zoran Corporation (formerly Oak
Technologies). Our networking and security products compete with, among others,
Silex Technology Inc, SafeNet Inc., and RSA, a division of EMC
Corporation.


Employees





As of
January 31, 2009, we had a total of 9 employees.  None of our
employees are represented by a labor union, and we have never experienced any
work stoppage.  We believe we have good relations with our
employees.





Available
Information





Our
website address is http://www.peerless.com.  We make available, free
of charge through our website, our Annual Reports on Form 10-K, Quarterly
Reports on Form 10-Q, Current Reports on Form 8-K, Proxy Statements, and
amendments to those reports filed or furnished pursuant to Section 13(a) or
15(d) of the Exchange Act as soon as reasonably practicable after such material
is electronically filed with or furnished to the SEC.





Our
filings may also be read and copied at the SEC’s Public Reference Room at 100 F
Street NE, Room 1580 Washington, DC 20549.  Information on the
operation of the Public Reference Room may be obtained by calling the SEC at
1-800-SEC-0330.  The SEC also maintains an Internet site that contains
reports, proxy and information statements, and other information regarding
issuers that file electronically with the SEC.  The address of that
website is www.sec.gov.


6


Item 1A.  Risk
Factors





Our short
and long term success is subject to many factors that are beyond our
control.  Stockholders and prospective stockholders in the Company
should consider carefully the following risk factors, in addition to the
information contained in this report.  This Annual Report on Form 10-K
contains “forward-looking statements,” within the meaning of Section 27A of
the Securities Act and Section 21 of the Exchange Act, which are subject to
a variety of risks and uncertainties.  Our actual results could differ
materially from those anticipated in these forward-looking statements as a
result of various factors, including those set forth below.  (See
“Forward Looking Statements” above.)





As
a result of completing the asset sale with KMC, we may encounter difficulties in
leveraging our remaining assets and continuing operations at a profitable
level.





Although
we intend to continue operations as a provider of advanced imaging and
networking technologies and components to the digital document market, our
primary assets after consummating the transaction with KMC consist of licenses
to use intellectual property owned by others.  As a result, we may
encounter unanticipated difficulties or challenges in continuing operations and
our cash flows and revenues may be materially adversely impacted.  If
we are unable to address and overcome such difficulties or challenges, it may
materially affect our cash flows and we may not be successful with our new
business structure.





We
have certain indemnification obligations under the Asset Purchase Agreement with
KMC that might result in us not receiving all of the proceeds of the asset
sale.




Under the
Asset Purchase Agreement, the $37.0 million purchase price for is subject
to a holdback amount of $4.0 million for our potential indemnification
obligations under the agreement.  If we are required to satisfy a
claim for indemnification to KMC or certain of its affiliates as a result such
obligations, we may not receive all of the proceeds from the asset
sale.





The
failure of any bank in which we deposit funds could significantly reduce the
amount of cash we have available for our corporate and business
purposes.





We
maintain a portfolio of cash equivalents in various money market
funds.  Although we have diversified our holdings in several banking
institutions, our money market funds may be uninsured and therefore subject to
loss or total forfeiture.  Banking institutions are subject to
general credit, liquidity, market and interest rate risks, which have been
exacerbated by the current financial and credit crisis and bankruptcies which
have affected various sectors of the financial markets and led to global credit
and liquidity issues.  If any of the banking institutions in which we
have deposited funds ultimately fails or freezes redemptions of money market
accounts, we may lose part or all of our money market
investments.  The loss of part or all of our money market investments
could significantly reduce the amount of cash we have available for our
corporate and business purposes, which would materially and adversely affect our
operations.





Our
current growth strategy depends in part on our ability to successfully invest in
and/or acquire the assets or businesses of other companies.  Our
failure to complete transactions that accomplish these objectives could reduce
our earnings and slow our growth.





We
anticipate investing in and/or acquiring the assets or businesses of other
companies as part of our current growth strategy.  Potential risks
involved in such transactions include lack of necessary capital, the inability
to satisfy closing conditions, failure to identify suitable business entities
for acquisition, the inability to successfully integrate such businesses into
our operations, and the inability to make acquisitions on terms that we consider
economically acceptable. To successfully integrate any  acquisition,
we would need to invest in operational, financial and management information
systems and to attract, retain, motivate and effectively manage our
employees.  The inability to effectively manage the integration of
acquisitions could reduce our focus on subsequent acquisitions and current
operations, which, in turn, could negatively impact our earnings and
growth.  In addition, even if we do invest in or acquire other
companies, there is no guarantee that such transactions will be successful in
producing revenue or profits.


7





We
may be subject to further government regulation, including the Investment
Company Act of 1940, which could adversely affect our operations.





Although
we are subject to the reporting requirements under the Exchange Act, management
does not believe that we are subject to regulation under the Investment Company
Act of 1940, as amended (the “Investment Company Act”) at this point in
time.  If we are required to register as an investment company in the
future we could incur significant registration and compliance
costs.  To date, we have not obtained a determination from the SEC as
to our status under the Investment Company Act.  In the future, the
SEC could determine us to be an unregistered investment company, which could
subject us to significantly heightened regulatory requirements that would
likely, in the aggregate, have material adverse consequences on our
business.





The
Adobe License Agreement is to expire on March 31, 2010, and we are uncertain if
this agreement will be renewed.





We have a
licensing agreement with Adobe Systems Incorporated to bundle and sublicense its
licensed products with our licensed software.  The term of the Adobe
Agreement is set to expire on March 31, 2010 and we are uncertain if this
agreement will be renewed.  If we fail to replace the revenue derived
from the Adobe License Agreement our operating results will be materially
adversely impacted.  See “Notes to Consolidated Financial Statements,
Note 13. Risks and Uncertainties – Concentration of Credit Risk.”





We
receive a substantial portion of our revenues from a limited number of customers
and any adverse change in our relationships with those customers will materially
harm our business.





A limited
number of OEM customers continue to provide a substantial portion of our
revenues.  Presently, there are only a small number of OEM customers
in the digital document product market to which we can market our technology and
services.  Therefore, our ability to offset a significant decrease in
the revenues from a particular customer or to replace a lost customer is
severely limited.





During
fiscal year 2009, four customers, Konica Minolta, KMC, Novell and Seiko Epson
each generated greater than 10% of our revenues, and collectively contributed
87% of revenues for the year.  Block licenses for the same time period
were 45% of the Company’s
revenue.





Along
with our OEM customers and third party technology suppliers, we face
increasingly intense competition within our industry, which is applying
significant downward pricing pressure on products and services.  As a
result, our OEM customers and third party technology suppliers continue to seek
lower cost alternatives for their engineering needs.  Some of our OEM
customers and third party technology suppliers, including Adobe, have developed
extensive offshore operations in countries such as India, that are capable of
delivering lower cost solutions than we are able to deliver as of
today.  The ability of our OEM customers and third party technology
suppliers to provide the same services at a lower cost may result in them no
longer needing our services, as well as being in direct competition with us by
providing the same services at a lower cost to our other
customers.  This may result in us losing some of our customers and may
have a material adverse effect on our business, results of operations and future
cash flows.  See “Financial Statements – Note 13  Risks and
Uncertainties.”


8


We
are involved in a contract dispute, which, if not remedied, could result in the
loss of the Adobe agreement and could harm our business.





We are
party to a PostScript sublicense with Canon Inc., effective as of April 1,
2001.  The sublicense did not include several terms required to be
included in all OEM sublicenses by our license with Adobe.  Although
Adobe has indicated to us that it has no current intention to pursue claims for
alleged breach of the Adobe Peerless PostScript Sublicensing Agreement, Adobe
has not agreed to waive the requirement that the missing terms be included in
the Canon sublicense.  To date, we have been unable to amend the Canon
sublicense in a manner acceptable to both Canon and
Adobe.  Furthermore, there is no assurance that we will be able to
resolve the issues in a manner acceptable to both Adobe and
Canon.  Thus, Adobe may exercise its right to terminate its license
agreement with us and take other legal action against us, if it so
chooses.  Termination of the Adobe agreement would have a material
adverse effect on our future operating results.  Approximately 54% of
our revenues for the twelve months ended January 31, 2009 were derived from
our licensing arrangement with Adobe.





If
we are not in compliance with our license agreements, we may lose our rights to
sublicense technology; our competitors are aggressively pursuing the sale of
licensed third party technology.





We
currently sublicense third party technologies to our OEM customers, which
sublicenses accounted for $7.9 million and $12.2 million in revenue in fiscal
2009 and 2008, respectively.  Such sublicense agreements are
non-exclusive.  If we are determined not to be in compliance with the
agreements between us and our licensors, we may forfeit our right to sublicense
these technologies.  Likewise, if such sublicense agreements expire,
we would lose our right to sublicense the affected
technologies.  Additionally, the licensing of these technologies has
become very competitive, with competitors possessing substantially greater
financial and technical resources and market penetration than us.  As
competitors are pursuing aggressive strategies to obtain similar rights as held
by us to sublicense these third party technologies, there is no assurance that
we can remain competitive in the marketplace if one or more competitors are
successful in this strategy.





Our
licensing revenue is subject to significant fluctuations which may materially
and adversely affect our operating results.





Our
recurring licensing revenue model has shifted from per-unit royalties paid upon
OEM shipment of our product and guaranteed quarterly minimum royalties to a
model that results in revenues associated with the sale of block and perpetual
licenses.  The reliance on block licenses has occurred due to aging
OEM products in the marketplace, OEM demands in negotiating licensing
agreements, reductions in the number of OEM products shipping and a product mix
that changed from object code licensing arrangements to
SDKs.  Revenues may continue to fluctuate significantly from quarter
to quarter as the number of opportunities vary, if the signing of block licenses
are delayed or the licensing opportunities are lost to
competitors.  Any of these factors could have a material adverse
effect on our operating results.





The
future demand for our products is uncertain.





Our
licensing arrangements with our customers are based on the number of
products including our technology shipped by these customers and the life cycles
of these products.   Because we generate a large percentage of
our revenues from a small number of customers and a few products, any loss of
these customers or products would have a material adverse impact on our results
of operations. There has been a general decline in the rates of growth for the
monochrome work group printer and MFP market segments in which we are
engaged.  For those product platforms that do utilize the software we
license, the competition has increased and we have experienced significant
downward price pressure.  As a result of this, OEM demand for our
solutions has declined.  This decline occurred in some cases because
the OEMs perceived that our solutions did not meet their technical
requirements.  In other cases it occurred because the OEMs either
developed the technology themselves or utilized lower cost offshore software
competitors.  Although we continue to license our current technology
and products to certain OEMs, there can be no assurance that the OEMs will
continue to need or utilize the products and technology we currently
offer.


9





The
industry for imaging systems for digital document products involves intense
competition and rapid technological changes, and our business may suffer if our
competitors develop superior technology.




We
anticipate increasing competition for our color products, particularly as new
competitors develop and sell competing products.  Some of our existing
competitors, many of our potential competitors, and virtually all of our OEM
customers have substantially greater financial, technical, marketing and sales
resources than we have.  Furthermore, we are not investing in
technology to update our products.  If price competition increases,
competitive pressures could require us to reduce the amount of royalties
received on new licenses and to reduce the cost of our engineering services in
order to maintain existing business and generate additional product licensing
revenues.  This reduction could decrease profit margins and result in
losses and a decrease in market share. We cannot guarantee that we have the
ability to compete favorably with the internal development capabilities of our
current and prospective OEM customers or with other third party digital imaging
system suppliers and the failure to compete effectively would have a material
adverse effect on our operating results.





If
we fail to adequately protect intellectual property or face a claim of
intellectual property infringement by a third party, we could lose our
intellectual property rights or be liable for damages.





We
protect our proprietary rights in a number of ways, including, but not limited
to, trade secret, copyright and trademark laws, early implementation and
enforcement of nondisclosure and other contractual restrictions.





As part
of the transaction with KMC, we sold substantially all of our intellectual
property, including all of our patents to KMC and executed a license agreement
pursuant to which KMC licensed the IP back to us on a nonexclusive, worldwide,
perpetual and royalty free basis subject to certain
restrictions.  Excluded from the IP that was sold to KMC was all of
our customized intellectual property that had been previously integrated into
products or services licensed or otherwise provided by us to third parties or
specifically created for customers of ours after December 7, 2007 other
than KMC and, which, in either case, had not also been provided to or integrated
into products or services licensed to KMC, or developed pursuant to or in
connection with certain agreements with KMC.





As part
of our confidentiality procedures, we enter into written nondisclosure
agreements with our employees, consultants, prospective customers, OEMs and
strategic partners and take further affirmative steps to limit access to and
distribution of our software, intellectual property and other proprietary
information.  Despite these efforts and in the event such agreements
are not timely made, complied with or enforced, we may be unable to protect our
proprietary rights.  In any event, enforcement of our proprietary
rights may be very expensive.  Our source code also is protected as a
trade secret.  However, from time to time, we license our source code
to OEMs pursuant to protective agreements, which subjects us to the risk of
unauthorized use or misappropriation despite the contractual terms restricting
disclosure, distribution, copying and use.  In addition, it may be
possible for unauthorized third parties to obtain, distribute, copy or use our
proprietary information, or to reverse engineer our trade
secrets.


10


As the
number of patents, copyrights, trademarks and other intellectual property rights
in our industry increases, products using our technologies increasingly may
become the subject of infringement claims.  There can be no assurance
that third parties will not assert infringement claims against us in the
future.  Any such claims, regardless of merit, could be time
consuming, divert the efforts of our technical and management personnel from
productive tasks, result in costly litigation, cause product shipment delays or
require us to enter into royalty or licensing agreements.  Such
royalty or licensing agreements, if required, may not be available on terms
acceptable to us, or at all, which could have a material adverse effect on our
operating results.  In addition, we may initiate claims or litigation
against third parties for infringement of our proprietary rights or to establish
the validity of our proprietary rights.  Litigation to determine the
validity of any claims, whether or not such litigation is determined in favor of
us, could result in significant expense to us and divert the efforts of our
technical and management personnel from productive tasks.  We may lack
sufficient resources to initiate a meritorious claim.  In the event of
an adverse ruling in any litigation regarding intellectual property, we may be
required to pay substantial damages, discontinue the use and sale of infringing
products, expend significant resources to develop non-infringing technology, or
obtain licenses to infringing or substituted technology.  Our failure
to develop or license on acceptable terms a substitute technology, if required,
could have a material adverse effect on our operating results.





We
rely on the services of our executive officers, whose knowledge of our business
and industry would be extremely difficult to replace.





Our
success depends to a significant degree upon the continuing contributions of our
management.  Management may voluntarily terminate their employment
with us at any time upon short notice.  The loss of key personnel
could harm our business.  Failure to retain key personnel could harm
our ability to carry out our business strategy and compete with other
companies.





Our
international activities may expose us to risks associated with international
business.





We are
substantially dependent on our international business
activities.  Risks inherent in these international business activities
include:




•
              changes
      in the economic condition of foreign
countries;
 
 •
              the
      imposition of government controls;
 
 •
              tailoring
      of products to local requirements;
 
 •
              trade
      restrictions;
 
 •
              changes
      in tariffs and taxes;
 
 •
              the
      burdens of complying with a wide variety of foreign laws and regulations;
      and
 
 •
              major
      currency rate fluctuations, which may affect demand for our
      products,


any of
which could have a material adverse effect on our operating
results.





If we are
unable to adapt to international conditions, our business may be adversely
affected.


11


Failure
to maintain our Nasdaq listing would adversely affect the trading price and
liquidity of our common stock.




If we are
not able to maintain compliance with Nasdaq’s listing requirements, our common
stock may be subject to removal from listing on the Nasdaq Capital
Market.  Trading in our common stock after a delisting, if any, would
likely be conducted in the over-the-counter markets in the so-called “pink
sheets” or the Over-The-Counter Bulletin Board and could also be subject to
additional restrictions.  As a consequence of a delisting, our
stockholders would find it more difficult to dispose, or obtain accurate
quotations as to the market value, of our common stock.  In addition,
a delisting would make our common stock substantially less attractive as
collateral for margin and purpose loans, for investment by financial
institutions under their internal policies or state legal investment laws or as
consideration in future capital raising transactions.





If
we fail to maintain an effective system of internal control over financial
reporting or discover material weaknesses in our internal control over financial
reporting or financial reporting practices, we may not be able to report our
financial results accurately or detect fraud, which could harm our business and
the trading price of our stock.





Effective
internal controls are necessary for us to produce reliable financial reports and
are important in our effort to prevent financial fraud.  We are
required to periodically evaluate the effectiveness of the design and operation
of our internal controls.  These evaluations may result in the
conclusion that enhancements, modifications or changes to our internal controls
are necessary or desirable.  As we previously noted in connection with
the material weakness that we disclosed as of July 31, 2008, which was remedied,
while management evaluates the effectiveness of our internal controls on a
regular basis, we cannot provide absolute assurance that these controls will
always be effective or any assurance that the controls, accounting processes,
procedures and underlying assumptions will not be subject to
revision.  There are also inherent limitations on the effectiveness of
internal controls and financial reporting practices, including collusion,
management override, and failure of human judgment.  Because of this,
control procedures and financial reporting practices are designed to reduce
rather than eliminate business risks.  If we fail to maintain an
effective system of internal control over financial reporting or if management
or our independent registered public accounting firm were to discover material
weaknesses in our internal control over financial reporting (or if our system of
controls and audits results in a change of practices or new information or
conclusions about our financial reporting), we may be unable to produce reliable
financial reports or prevent fraud and it could harm our financial condition and
results of operations and result in loss of investor confidence and a decline in
our stock price.





Item 1B.  Unresolved
Staff Comments





None





Item 2.  Properties





We
sublease approximately 2,000 square feet for our headquarters in El Segundo,
California.  Our lease expires in 2011.





Item 3.  Legal
Proceedings





The
Company is involved in various routine legal proceedings incidental to the
conduct of its business in the ordinary course.  In accordance with
SFAS No. 5, “Accounting Contingencies,” the Company records a provision for a
liability when management believes that it is probable that a liability has been
incurred and the Company can reasonably estimate the amount of the
loss.  The Company does not believe there is a need for such a
provision at this time.  The Company reviews these provisions at least
quarterly and adjusts these provisions to reflect the impact of negotiations,
settlements, rulings, advice of legal counsel and other information and events
pertaining to a particular proceeding.


12





Item 4.  Submission
of Matters to a Vote of Security Holders





No
matters were submitted to a vote of our stockholders during the fourth quarter
of fiscal year 2009.


13





PART
II





Item 5.  Market
for Registrant’s Common Equity, Related Stockholder Matters and Issuer Purchases
of Equity Securities





Our
common stock was traded on the Nasdaq National Market under the symbol “PRLS”
from our initial public offering on September 26, 1996 until July 30,
2004, when our common stock was moved to the Nasdaq Capital
Market.  The table below sets forth, during the periods
indicated, the high and low sales price for our common stock as reported on the
Nasdaq Capital Market.





Fiscal Year Ended January
    31,2009
                                                
                                                2008Quarter
                                                
                                                High
                                                
                                                Low
                                                
                                                High
                                                
                                                LowFirst
                                                
                                                $
                                                2.37
                                                
                                                $
                                                1.71
                                                
                                                $
                                                3.52
                                                
                                                $
                                                1.86Second
                                                
                                                $
                                                2.14
                                                
                                                $
                                                1.75
                                                
                                                $
                                                3.70
                                                
                                                $
                                                2.02Third
                                                
                                                $
                                                1.95
                                                
                                                $
                                                1.46
                                                
                                                $
                                                3.01
                                                
                                                $
                                                2.01Fourth
                                                
                                                $
                                                2.06
                                                
                                                $
                                                1.60
                                                
                                                $
                                                2.85
                                                
                                                $
                                                1.69





The
closing price of our common stock on the Nasdaq Capital Market on April 21, 2009
was $1.80.  Stockholders are urged to obtain current market quotations
for our common stock.  As of April 21, 2009, there were
approximately 96 holders of record of our common stock.





Securities
Authorized for Issuance Under Equity Compensation Plans





The
information included under Item 12 of Part III of this report is
hereby incorporated by reference into Item 5 of this report.





Dividend
Policy





We have
not declared or paid any cash dividends on our common stock during any period
for which financial information is provided in this Annual Report on Form
10-K.  We are currently evaluating options concerning our cash
resources, including but not limited to, cash dividends, distribution of
capital, investment opportunities and acquisition of or merger with another
company or a combination of any one of these or other options.





COMPARISON
OF 5-YEAR CUMULATIVE TOTAL RETURN


AMONG
PEERLESS SYSTEMS CORPORATION,


NASDAQ
MARKET INDEX (U.S.) AND HEMSCOTT GROUP INDEX









ASSUMES
$100 INVESTED ON FEB. 1, 2004


ASSUMES
DIVIDEND REINVESTED


FISCAL
YEAR ENDING JAN. 31, 2009




14





Share
Repurchases by the Company during the Fourth Quarter of 2009





The
following table indicates the Company’s repurchases of common stock during the
fourth quarter of 2009 on a month-by-month basis.   All of these
purchases were made under the Company’s share repurchase program announced July
16, 2008.





Period
                                
                                (a) Total Number of
                                  Shares Purchased
                                
                                
                                (b) Average
                                  Price Paid
                                  per Share
                                
                                
                                (c) Total Number
                                  of Shares
                                  Purchased as Part
                                  of Publicly
                                  Announced Plans
                                  or Programs
                                
                                
                                (d) Maximum Number
                                  of Shares that May Yet
                                  Be Purchased Under the
                                  Plans or ProgramsNovember
      1, 2008 - November 30, 2008
                                
                                
                                283,612
                                
                                
                                $
                                1.89
                                
                                
                                
                                1,305,083
                                
                                
                                
                                694,917December
      1, 2008 - December 31, 2008
                                
                                
                                82,965
                                
                                
                                $
                                1.91
                                
                                
                                
                                1,388,048
                                
                                
                                
                                611,952January
      1, 2009 - January 31, 2009
                                
                                
                                74,850
                                
                                
                                $
                                1.80
                                
                                
                                
                                1,462,898
                                
                                
                                
                                537,102Total
                                
                                
                                441,427
                                
                                
                                $
                                1.88
                                
                                
                                
                                1,462,898
                                
                                
                                
                                537,102





Item 6.  Selected
Financial Data





The
statement of operations data for the fiscal years ended January 31, 2009,
2008, 2007, and the balance sheet data at January 31, 2009 and 2008
are derived from, and should be read in conjunction with, the Consolidated
Financial Statements and notes thereto included elsewhere in this Annual Report
on Form 10-K.  The data set forth below (in thousands, except per
share data) are qualified in their entirety by, and should be read in
conjunction with, “Management’s Discussion and Analysis of Financial Condition
and Results of Operations” and the Consolidated Financial Statements and notes
thereto included in this Annual Report on Form 10-K.


Years Ended January 31,2009
                                                                    
                                                                    
                                                                    2008
                                                                    
                                                                    
                                                                    2007
                                                                    
                                                                    
                                                                    2006
                                                                    
                                                                    
                                                                    2005(In
      thousands)Statement
      of Operations Data:Net
      sales
                                                                    
                                                                    $
                                                                    10,406
                                                                    
                                                                    
                                                                    $
                                                                    28,443
                                                                    
                                                                    
                                                                    $
                                                                    33,383
                                                                    
                                                                    
                                                                    $
                                                                    36,157
                                                                    
                                                                    
                                                                    $
                                                                    23,078Income
      (loss)from
      operations
                                                                    
                                                                    
                                                                    22,467
                                                                    
                                                                    
                                                                    
                                                                    4,345
                                                                    
                                                                    
                                                                    
                                                                    2,841
                                                                    
                                                                    
                                                                    
                                                                    4,347
                                                                    
                                                                    
                                                                    
                                                                    (5,677
                                                                    )Net
      income (loss)
                                                                    
                                                                    
                                                                    17,619
                                                                    
                                                                    
                                                                    
                                                                    10,147
                                                                    
                                                                    
                                                                    
                                                                    3,286
                                                                    
                                                                    
                                                                    
                                                                    4,314
                                                                    
                                                                    
                                                                    
                                                                    (5,805
                                                                    )Basic
      earnings (loss)per
      share
                                                                    
                                                                    
                                                                    0.99
                                                                    
                                                                    
                                                                    
                                                                    0.59
                                                                    
                                                                    
                                                                    
                                                                    0.19
                                                                    
                                                                    
                                                                    
                                                                    0.26
                                                                    
                                                                    
                                                                    
                                                                    (0.37
                                                                    )Diluted
      earnings (loss)per
      share
                                                                    
                                                                    
                                                                    0.97
                                                                    
                                                                    
                                                                    
                                                                    0.56
                                                                    
                                                                    
                                                                    
                                                                    0.17
                                                                    
                                                                    
                                                                    
                                                                    0.23
                                                                    
                                                                    
                                                                    
                                                                    (0.37
                                                                    )




Years Ended January 31,2009
                                                  
                                                  2008
                                                  
                                                  2007
                                                  
                                                  2006
                                                  
                                                  2005(In
      thousands)Balance
      Sheet Data:Total
      assets
                                                  
                                                  $
                                                  51,633
                                                  
                                                  
                                                  $
                                                  33,230
                                                  
                                                  
                                                  $
                                                  23,601
                                                  
                                                  
                                                  $
                                                  20,034
                                                  
                                                  
                                                  $
                                                  12,647Long-term
      obligations
                                                  
                                                  
                                                  1,511
                                                  
                                                  
                                                  
                                                  551
                                                  
                                                  
                                                  
                                                  459
                                                  
                                                  
                                                  
                                                  275
                                                  
                                                  
                                                  
                                                  418




15




Selected Quarterly Financial Data
(Unaudited):




Year
      Ended January 31, 2009
                    
                    Year
      Ended January 31, 2008(In
      thousands)Quarter
                    
                    Fourth
                    
                    Third
                    
                    Second
                    
                    First
                    
                    Fourth
                    
                    Third
                    
                    Second
                    
                    FirstNet
      sales
                    
                    $
                    2,199
                    
                    
                    $
                    1,632
                    
                    
                    $
                    3,341
                    
                    
                    $
                    3,234
                    
                    
                    $
                    9,325
                    
                    
                    $
                    7,429
                    
                    
                    $
                    6,942
                    
                    
                    $
                    4,747Gross
      margin
                    
                    
                    1,367
                    
                    
                    
                    936
                    
                    
                    
                    1,684
                    
                    
                    
                    (858
                    )
                    
                    
                    7,093
                    
                    
                    
                    4,468
                    
                    
                    
                    4,785
                    
                    
                    
                    2,204Gross
      margin %
                    
                    
                    62.19
                    %
                    
                    
                    57.35
                    %
                    
                    
                    50.40
                    %
                    
                    
                    (26.53
                    )%
                    
                    
                    76.06
                    %
                    
                    
                    60.14
                    %
                    
                    
                    68.93
                    %
                    
                    
                    46.43
                    %Income
      (loss)from
      operations
                    
                    $
                    (956
                    )
                    
                    $
                    (1,117
                    )
                    
                    $
                    (1,192
                    )
                    
                    $
                    25,731
                    
                    
                    $
                    3,264
                    
                    
                    $
                    1,081
                    
                    
                    $
                    1,049
                    
                    
                    $
                    (1,048
                    )Net
      income (loss)
                    
                    $
                    3,941
                    
                    
                    $
                    (1,163
                    )
                    
                    $
                    (517
                    )
                    
                    $
                    15,357
                    
                    
                    $
                    8,484
                    
                    
                    $
                    1,279
                    
                    
                    $
                    1,213
                    
                    
                    $
                    (829
                    )Basic
      earnings (loss)per
      share
                    
                    
                    0.23
                    
                    
                    
                    (0.06
                    )
                    
                    
                    (0.03
                    )
                    
                    
                    0.87
                    
                    
                    
                    0.49
                    
                    
                    
                    0.07
                    
                    
                    
                    0.07
                    
                    
                    
                    (0.05
                    )Diluted
      earnings (loss)per
      share
                    
                    
                    0.23
                    
                    
                    
                    (0.06
                    )
                    
                    
                    (0.03
                    )
                    
                    
                    0.84
                    
                    
                    
                    0.47
                    
                    
                    
                    0.07
                    
                    
                    
                    0.07
                    
                    
                    
                    (0.05
                    )




Item 7.  Management’s
Discussion and Analysis of Financial Condition and Results of
Operations





The
following analysis contains forward-looking statements that involve risks and
uncertainties.  The statements contained in this Annual Report on Form
10-K that are not purely historical are forward-looking statements within the
meaning of Section 27A of the Securities Act and Section 21E of the
Exchange Act, including without limitation, statements regarding our
expectations, beliefs, intentions or strategies regarding the
future.  All forward-looking statements included in this Annual Report
on Form 10-K are based on current expectations, estimates, forecasts and
projections about the industry in which we operate, management’s beliefs and
assumptions made by management.  These statements are not guarantees
of future performance and involve certain known and unknown risks, uncertainties
and assumptions that are difficult to predict.  Therefore, actual
outcomes and results may differ materially from what is expressed or forecasted
in such forward-looking statements.  We undertake no obligation to
update publicly any forward-looking statements, whether as a result of new
information, future events or otherwise.  For a discussion of factors
and trends that could impact our business and results, please refer to the
section above entitled “Risk Factors.”





The
following should be read in conjunction with the Consolidated Financial
Statements and related notes thereto included in this Annual Report on Form
10-K.





Highlights





During
fiscal year 2009, we have experienced the following significant
changes:





•
            During
      the first quarter ended April 30, 2008, we realized a net pre-tax gain of
      $32.9 million upon the sale of substantially all of our assets to
      KMC.  We continue to experience a downturn in revenue due to
      lower demand for the technology we offer from year to
      year.  Consolidated revenues declined 63.4% from the third
      quarter of fiscal year 2009.  Product licensing revenues
      decreased 59.9% as a result of a decrease in block licensing
      revenue.  Engineering services and maintenance revenues declined
      69.3%, as 44% of our engineering work force was transferred to KMC on
      April 30, 2008 as part of the sale to KMC. The transaction was primarily
      due to downward pricing pressures arising from an increasingly competitive
      global market, as well as substantial pressure on our OEM customers to
      consolidate.  The sale to KMC and the financial resources that
      it has provided  is allowing us to pursue opportunities outside
      the imaging marketplace.   The overall decrease in our
      revenues was primarily attributable to declines in the demand for our
      technologies, third party technologies that we license to sell and the
      requirement for traditional engineering
  services.




16




•
            We
      have significantly reduced our staffing levels while striving to achieve
      the goals of properly supporting our existing customer base and meeting
      the requirements of a publicly traded company.   We have
      reduced our staffing levels to a total of 9 as of March 31,
      2009.  This represents a 81% staff reduction from the levels
      that existed immediately after the KMC
  Transaction.





•
              We
      have significantly reduced our facilities cost by terminating the leases
      for 10,756 square feet in Kent Washington and 28,244 square feet in El
      Segundo, California.  We have sublet 2,055 square feet for our
      headquarters resulting in savings of approximately $0.9 million in annual
      rental costs.





•
              In
      1999, we entered into a PostScript Software Development License and
      Sublicense Agreement, or the Adobe License Agreement, with Adobe that
      expanded the application and integration of our respective technologies.
      The Adobe License Agreement expired on June 30, 2008. The Adobe
      License Agreement was amended to provide a period of twenty-one months
      following the expiration of the agreement in which we continue to license
      and provide services to our existing OEM
  customers.





Our
inability to implement our strategic plan, develop and offer products, and
manage expansion in the aforementioned marketplaces, as well as the declining
sales trend of our existing licenses, downward price pressure on our existing
technologies, uncertainty surrounding third party license revenue sharing
agreements, downward price pressure on OEM products and the anticipated
consolidation of the number of OEMs in the marketplace, may have a material
adverse effect on our business and financial results.  See
Item 1A.  Risk Factors.- “The future demand for our products is
uncertain” above.





Critical
Accounting Policies





“Management’s
Discussion and Analysis of Financial Condition and Results of Operations”
addresses our consolidated financial statements, which have been prepared in
accordance with accounting principles generally accepted in the United
States.  The preparation of these financial statements requires
management to make estimates and assumptions that affect the reported amounts of
assets and liabilities and the disclosure of contingent assets and liabilities
at the date of the financial statements and the reported amounts of revenues and
expenses during the reporting period.  On an on-going basis,
management evaluates its estimates and judgments.  Management bases
its estimates and judgments on historical experience and on various other
factors that they believe are reasonable under the circumstances, the results of
which form the basis for making judgments about the carrying values of assets
and liabilities that are not readily apparent from other
sources.  Actual results may differ from these estimates under
different assumptions or conditions.





Management
believes the following critical accounting policies, among others, affect its
more significant judgments and estimates used in the preparation of its
consolidated financial statements.





We
account for our software revenues in accordance with Statement of Position, or
SOP, 97-2, “Software Revenue Recognition”, as amended by SOP 98-9, Staff
Accounting Bulletin No.104, “Revenue Recognition”, and Emerging Issues Task
Force 99-19, “Reporting Revenue Gross as a Principal versus Net as an Agent.”
Over the past several years, we entered into block license agreements that
represent unit licenses for products that will be licensed over a period of
time. In accordance with SOP 97-2, revenue is recognized when the following
attributes have been met: 1) an agreement exists between us and the OEM selling
product utilizing our intellectual property and/or a third party’s intellectual
property for which we are an authorized licensor; 2) delivery and acceptance of
the intellectual property has occurred; 3) the fees associated with the sale are
fixed and determinable; and 4) collection of the fees are probable. Under our
accounting policies, fees are fixed and determinable if 90% of the fees are to
be collected within a twelve-month period, in accordance with SOP 97-2. If more
than 10% of the payments of fees extend beyond a twelve-month period, they are
recognized as revenues when they are due for payment, in accordance with SOP
97-2.


17





For fees
on multiple element arrangements, values are allocated among the elements based
on vendor specific objective evidence of fair value, VSOE.  We
generally establish VSOE based upon the price charged when the same elements are
sold separately.  When VSOE exists for all undelivered elements, but
not for the delivered elements, revenue is recognized using the “residual
method” as prescribed by Statement of Position 98-9. If VSOE does not exist for
the undelivered elements, all revenue for the arrangement is deferred until the
earlier of the point at which such VSOE does exist for the undelivered elements
or all elements of the arrangement have been delivered, unless the only
undelivered element is a service in which revenue from the delivered element is
recognized over the service period.





We
recognize revenues for certain of our engineering services projects on a
percentage-of-completion basis, in accordance with Accounting Research Bulletin
45, “Long-Term Construction-Type Contracts”, and SOP 81-1, “Accounting for
Performance of Construction-Type and Certain Production-Type Contracts.” The
estimates to complete the projects are determined by the individual
project-engineering manager responsible for the oversight of the individual
projects.  The estimates are made at the end of each accounting period
and are subject to unforeseen circumstances that can increase or decrease the
hours necessary to complete the efforts.  For fiscal years 2009,
2008 and 2007, we reported no engineering services revenues on a
percentage-of-completion basis.





We
provide an accrual for estimated product licensing costs owed to third party
vendors whose technology is included in the products sold by us.  The
accrual is impacted by estimates of the mix of products shipped under certain of
our block license agreements.  The estimates are based on historical
data and available information as provided by our customers concerning projected
shipments.  Should actual shipments under these agreements vary from
these estimates, adjustments to the estimated accruals for product licensing
costs may be required.  Such adjustments have historically been within
management’s expectations.  However, product licensing cost increased
by $0.4 million during the third quarter of fiscal 2007 as a result of a
change in estimate reported by one of our OEM customers and decreased by
$0.3 million in the fourth quarter of fiscal 2008 as a result of the
settlement of differences arising from a third party licensing agreement
review.





As
of January 31, 2009, we had tax credit carry-forwards available to reduce
future income tax liabilities of approximately $5.5 million which begin to
expire fiscal year 2011.  The realization of these assets is based
upon management’s estimates of future taxable income.





We grant
credit terms in the normal course of business to our customers.  We
continuously monitor collections and payments from our customers and maintain
allowances for doubtful accounts for estimated losses resulting from the
inability of any customers to make required payments.  Estimated
losses are based primarily on specifically identified customer collection
issues.  If the financial condition of any of our customers, or the
economy as a whole, were to deteriorate, resulting in an impairment of their
ability to make payments, additional allowances may be
required.  Actual results have historically been consistent with
management’s estimates.





Our
recurring product licensing revenues are dependent, in part, on the timing and
accuracy of product sales reports received from our OEM
customers.  These reports are provided only on a calendar quarter
basis and, in any event, are subject to delay and potential revision by the
OEM.  Therefore, we are required to estimate all of the recurring
product licensing revenues for the last month of each fiscal quarter and to
further estimate all of our quarterly revenues from an OEM when the report from
such OEM is not received in a timely manner.  In the event we are
unable to estimate such revenues accurately prior to reporting financial
results, we may be required to adjust revenues in subsequent
periods.  Actual results have historically been consistent with
management’s estimates.





On
February 1, 2006, we adopted SFAS No. 123(R) using the modified-prospective
transition method.  Under this method, prior period results are not
restated.  Compensation cost recognized subsequent to adoption
includes: (i) compensation cost for all share-based payments granted prior
to, but unvested as of January 31, 2006, based on the grant date fair
value, which is determined in accordance with the original provision of SFAS No.
123 using a Black-Scholes option pricing model, and (ii) compensation cost
for all share-based payments granted subsequent to February 1, 2006, based
on the grant-date fair value, which is determined in accordance with the
provisions of SFAS No 123(R) using a Black-Scholes option pricing model to
estimate the grant date fair value of share-based awards.





We use
our actual stock trading history as a basis to calculate the expected volatility
assumption to value stock options.  The expected dividend yield is
based on Peerless’ practice of not paying dividends.  The risk-free
rate of return is based on the yield of U.S. Treasury Strips with terms equal to
the expected life of the option as of the grant date. The expected life in years
is based on historical actual stock option exercise experience.





18





SFAS
No. 123(R) requires forfeitures to be estimated at the time of grant and
revised, if necessary, in subsequent periods if actual forfeitures differ from
those estimates.  If actual forfeitures vary from our estimates, we
will recognize the difference in compensation cost in the period the actual
forfeitures occur.





Upon
adoption of SFAS 123(R), we changed our method of attributing the value of
stock-based compensation expense from the multiple-option (i.e. accelerated)
approach to the single-option (i.e. straight-line) method. Compensation expense
for share-based awards granted through January 31, 2006 will continue to be
subject to the accelerated multiple-option method, while compensation expense
for share-based awards granted on or after February 1, 2006 will be
recognized using a straight-line, or single-option method. We recognize these
compensation costs over the service period of the award, which is generally the
options vesting term of four years.





We
recorded $1,161,000 in share-based compensation expense during the fiscal year
ended January 31, 2009. Share-based compensation expense was allocated as
follows for the twelve month period ended January 31, 2009: $18,000
included in cost of sales, $14,000 included in research and development expense,
$43,000 included in sales and marketing and $1,086,000 included in general and
administrative expense. We granted options to purchase 296,161 shares of common
stock for the fiscal year ended January 31, 2009.





On
February 1, 2007, we adopted FIN 48. See “Note 7. Income Taxes” in the
notes to the Consolidated Financial Statements for further
information.





19





Results
of Operations





The
following table sets forth, for the periods indicated, the percentage
relationship of certain items from our statements of operations to total
revenues.





Percentage
      ChangePercentage
      of Total
                                            
                                            
                                            Years
      EndedRevenues
      Years Ended
                                            
                                            
                                            January
      31,January
      31,
                                            
                                            
                                            2009
      vs.
                                            
                                            
                                            2008
      vs.2009
                                            
                                            
                                            2008
                                            
                                            
                                            2007
                                            
                                            
                                            2008
                                            
                                            
                                            2007Statements
      of Operations Data:Revenues:Product
      licensing
                                            
                                            
                                            69
                                            %
                                            
                                            
                                            63
                                            %
                                            
                                            
                                            65
                                            %
                                            
                                            
                                            (60
                                            )
                                            
                                            
                                            (18
                                            )Engineering
      services and maintenance
                                            
                                            
                                            31
                                            
                                            
                                            
                                            37
                                            
                                            
                                            
                                            34
                                            
                                            
                                            
                                            (69
                                            )
                                            
                                            
                                            (5
                                            )Other
                                            
                                            
                                            —
                                            
                                            
                                            
                                            —
                                            
                                            
                                            
                                            1
                                            
                                            
                                            
                                            (100
                                            )
                                            
                                            
                                            (99
                                            )Total
      revenues
                                            
                                            
                                            100
                                            
                                            
                                            
                                            100
                                            
                                            
                                            
                                            100
                                            
                                            
                                            
                                            (63
                                            )
                                            
                                            
                                            (15
                                            )Cost
      of revenues:Product
      licensing
                                            
                                            
                                            53
                                            
                                            
                                            
                                            12
                                            
                                            
                                            
                                            14
                                            
                                            
                                            
                                            64
                                            
                                            
                                            
                                            (28
                                            )Engineering
      services and maintenance
                                            
                                            
                                            17
                                            
                                            
                                            
                                            23
                                            
                                            
                                            
                                            26
                                            
                                            
                                            
                                            (73
                                            )
                                            
                                            
                                            (25
                                            )Other
                                            
                                            
                                            —
                                            
                                            
                                            
                                            —
                                            
                                            
                                            
                                            2
                                            
                                            
                                            
                                            0
                                            
                                            
                                            
                                            (100
                                            )Total
      cost of revenues
                                            
                                            
                                            70
                                            
                                            
                                            
                                            35
                                            
                                            
                                            
                                            42
                                            
                                            
                                            
                                            (27
                                            )
                                            
                                            
                                            (30
                                            )Gross
      margin
                                            
                                            
                                            30
                                            
                                            
                                            
                                            65
                                            
                                            
                                            
                                            58
                                            
                                            
                                            
                                            (83
                                            )
                                            
                                            
                                            (4
                                            )Operating
      expenses:Research
      and development
                                            
                                            
                                            14
                                            
                                            
                                            
                                            15
                                            
                                            
                                            
                                            20
                                            
                                            
                                            
                                            (68
                                            )
                                            
                                            
                                            (34
                                            )Sales
      and marketing
                                            
                                            
                                            16
                                            
                                            
                                            
                                            9
                                            
                                            
                                            
                                            9
                                            
                                            
                                            
                                            (36
                                            )
                                            
                                            
                                            (16
                                            )General
      and administrative
                                            
                                            
                                            69
                                            
                                            
                                            
                                            26
                                            
                                            
                                            
                                            20
                                            
                                            
                                            
                                            (1
                                            )
                                            
                                            
                                            8Gain
      on sale
                                            
                                            
                                            (316
                                            )
                                            
                                            
                                            —
                                            
                                            
                                            
                                            —
                                            
                                            
                                            
                                            (100
                                            )
                                            
                                            
                                            0Restructuring
      costs
                                            
                                            
                                            32
                                            
                                            
                                            
                                            —
                                            
                                            
                                            
                                            —
                                            
                                            
                                            
                                            100
                                            
                                            
                                            
                                            0Total
      operating expenses
                                            
                                            
                                            (185
                                            )
                                            
                                            
                                            50
                                            
                                            
                                            
                                            49
                                            
                                            
                                            
                                            (236
                                            )
                                            
                                            
                                            (14
                                            )Income
      (loss)from
      operations
                                            
                                            
                                            216
                                            
                                            
                                            
                                            15
                                            
                                            
                                            
                                            9
                                            
                                            
                                            
                                            418
                                            
                                            
                                            
                                            56Other
      income
                                            
                                            
                                            10
                                            
                                            
                                            
                                            3
                                            
                                            
                                            
                                            1
                                            
                                            
                                            
                                            29
                                            
                                            
                                            
                                            78Income
      (loss)before
      income taxes
                                            
                                            
                                            226
                                            
                                            
                                            
                                            18
                                            
                                            
                                            
                                            10
                                            
                                            
                                            
                                            355
                                            
                                            
                                            
                                            56Provision
      for income taxes
                                            
                                            
                                            57
                                            
                                            
                                            
                                            (18
                                            )
                                            
                                            
                                            —
                                            
                                            
                                            
                                            (325
                                            )
                                            
                                            
                                            *Net
      income (loss)
                                            
                                            
                                            170
                                            %
                                            
                                            
                                            36
                                            %
                                            
                                            
                                            10
                                            %
                                            
                                            
                                            30
                                            %
                                            
                                            
                                            209
                                            %




*
              
              Percentage
      change calculations not
meaningful.





Net Income





Net
income for the twelve month period ended January 31, 2009 was
$17.6 million or $0.99 per basic and $0.97 per diluted share, compared to a
net income of $10.1 million, or $0.59 per basic and $0.56 per diluted
share, in fiscal year 2008, and a net income of $3.3 million, or $0.19 per
basic and $0.17 per diluted share, in fiscal year 2007.





Consolidated
revenues for fiscal year 2009 were $10.4 million, compared to $28.4 million
in fiscal year 2008, and $33.4 million in fiscal year 2007. The decrease in
fiscal year 2009 was primarily the result of the asset sale to Kyocera Mita
Corporation. The decrease in fiscal year 2008 from fiscal year 2007 was
primarily the result of the decrease in block license sales.





20





Product
licensing revenues for fiscal year 2009 were $7.1 million, compared to
$17.8 million in fiscal year 2008, and $21.8 million in fiscal year
2007. Block licensing agreements totaling $4.2 million were signed during
fiscal year 2009, all of which was recognized as revenue
during fiscal year 2009. This is compared with block licensing agreements of
$13.7 million signed in fiscal year 2008, of which $13.5 million was
recognized as revenue during fiscal year 2008. The decrease in product licensing
revenues in fiscal year 2009 compared to fiscal year 2008 was the result of the
elimination of licensing revenues from KMC as a result of the sale and a decline
in the demand for our technologies and services.





Engineering
services and maintenance revenues generated by us were $3.3 million in
fiscal year 2009, compared to $10.6 million in fiscal year 2008, and
$11.2 million in fiscal year 2007. The decrease resulted from the KMC sale
and the transfer of 38 employees to KMC.  The decrease realized over
the previous two years was the result of increased competition for business on a
global basis. There were no hardware sales in fiscal year 2009, compared to
minimal sales in fiscal year 2008, and $0.4 million in fiscal year 2007.
The decreases from fiscal 2007 to 2008 and 2009 were the result of the
discontinuance of the Everest controller product. Contract and maintenance
backlog at January 31, 2009 was approximately $0.4 million, as
compared with $0.3 million at January 31, 2008.





Cost
of Revenues





Cost of
revenues for fiscal year 2009 was $7.3 million, compared to
$9.9 million in fiscal year 2008, and $14.1 million in fiscal year
2007. Product licensing costs were $5.5 million in fiscal year 2009,
compared to $3.3 million in fiscal year 2008, and $4.6 million in
fiscal year 2007.  The increase in fiscal year 2009 in product licensing
costs was the result of the $2.4 million change in estimate of third party
licensing costs as a result of the restructured license agreement with
KMC.  The overall decrease in cost of revenues over the last two years
was the result of lower levels of third party technologies in our product
licensing revenues. Engineering services and maintenance cost of sales decreased
to $1.8 million in fiscal year 2009 compared to $6.6 and $8.8 million
in fiscal years 2008 and 2007, respectively. The decrease in fiscal year 2009
over fiscal year 2008 was due the 38 employees transferred to KMC as a part of
the asset sale.




Gross
Margin





Gross
margin as a percentage of total revenues was 30% in fiscal year 2009, compared
to 65% in fiscal year 2008, and 58% in fiscal year 2007. The percentage decrease
in fiscal year 2009 was the result of the $2.4 million change in estimate of
third party licensing costs as a result of the restructured license agreement
with KMC.





Operating
Expenses





Operating
expenses for fiscal year 2009 were $(19.3) million, which includes a $32.9
million gain and $3.3 million restructuring expenses associated with the KMC
asset sale, compared to $14.2 million in fiscal year 2008, and
$16.5 million in fiscal year 2007.





•
              Research
      and development expenses were $1.4million in fiscal
      year 2009, compared to $4.4million in fiscal
      year 2008, and $6.7million in fiscal
      year 2007. The decrease in fiscal year 2009 over fiscal year 2008 was due
      to a decrease in staffing.•
              Sales
      and marketing expenses were $1.6million in fiscal
      year 2009, compared to $2.5million in fiscal
      year 2008, and $3.0million in fiscal
      year 2007. The decreases over the last two fiscal years were the result of
      a reduction in staffing levels and sales commission
    expense.•
              General
      and administrative expenses were $7.2million in fiscal
      year 2009, compared to $7.3million in fiscal
      year 2008, and $6.7million in fiscal
      year 2007. The fiscal 2009 level was impacted by the high level of
      professional fees associated with the KMC Transaction and the
      restructuring subsequent to the
transaction.





Interest
Income, Other Income and Expenses, and Taxes





Interest
income earned in all fiscal years was attributable to interest and investment
income earned on cash and cash equivalents and investment balances. The year to
year increases were the result of higher levels of
investments.




21




On
February 1, 2007, we adopted FIN 48. FIN 48 clarifies the accounting and
reporting for uncertainties in income tax law. This interpretation prescribes a
comprehensive model for the financial statement recognition, measurement,
presentation and disclosure of uncertain tax positions taken or expected to be
taken in income tax returns. The interpretation requires that the tax effects of
a position be recognized only if it is “more-likely-than not” to be sustained by
the taxing authority as of the reporting date. If the tax position is not
considered “more-likely-than not” to be sustained, then no benefits of the
position are to be recognized.




The tax
benefit expected to be realized from deferred tax assets upon the consummation
of the KMC Transaction was primarily the result of research and development tax
credits. The provisions for income taxes for fiscal years prior to 2008 were
primarily the result of foreign income taxes paid. These income taxes were paid
through withholdings on payments of licensing revenues made by our customers to
us. As of January 31, 2009 we continue to provide a valuation allowance on our
net deferred tax assets because of the uncertainty with respect to our ability
to generate future taxable income to realize the deferred tax
assets.





In
assessing the realizability of deferred tax assets, we consider whether it is
more likely than not that some portion or all of the deferred tax assets will
not be realized. The ultimate realization of deferred tax assets is dependent
upon the generation of future taxable income or reversal of deferred tax
liabilities during the periods in which those temporary differences become
deductible. We consider the scheduled reversal of deferred tax liabilities,
projected future taxable income, and tax planning strategies in making this
assessment. Based on this consideration, we determined that it is more likely
than not that $2.7 million of certain deferred tax assets will be realized
in fiscal year 2010 reducing the effective rate for fiscal year
2009.  The tax provision for fiscal year 2008 was credited for a $5.0
million reduction in the valuation reserve for deferred tax assets realized in
fiscal year 2009 in connection with the KMC transaction.





Contractual
Obligations





The
following table summarizes our significant contractual obligations at
January 31, 2009, and the effect such obligations are expected to have on
our liquidity and cash flows in future periods. This table excludes amounts
already recorded on our consolidated balance sheets at January 31,
2009.





Payments
      Due by PeriodLess
      than
                                                
                                                
                                                
                                                
                                                
                                                More
      thanTotal
                                                
                                                1
      Year
                                                
                                                1-3
      Years
                                                
                                                3-5
      Years
                                                
                                                5
      Years(In
      thousands)Operating
      lease obligations
                                                
                                                $
                                                108
                                                
                                                
                                                $
                                                49
                                                
                                                
                                                $
                                                59
                                                
                                                
                                                $
                                                —
                                                
                                                
                                                $
                                                —Outstanding
      purchase orders
                                                
                                                
                                                6
                                                
                                                
                                                
                                                6
                                                
                                                
                                                
                                                —
                                                
                                                
                                                
                                                —
                                                
                                                
                                                
                                                —Total
                                                
                                                $
                                                114
                                                
                                                
                                                $
                                                55
                                                
                                                
                                                $
                                                59
                                                
                                                
                                                $
                                                —
                                                
                                                
                                                $
                                                —


Liquidity
and Capital Resources





Our
principal source of liquidity is our cash and cash equivalents, which, as of
January 31, 2009, were $44.7 million in the aggregate, compared to
$23.1 million at January 31, 2008. The increase was primarily the
result of cash provided by investing activities of $32.6 million, which
includes the gain associated with the KMC asset sale.





Compared
to January 31, 2008, total assets at January 31, 2009 increased 55% to
$51.6 million and stockholders’ equity increased 60% to $44.5 million.
The ratio of current assets to current liabilities was 9.2:1 compared to 6.7:1
last year. We used $9.0 million in cash by operations during the twelve
month period ended January 31, 2009, as compared to $6.9 million in
cash provided by operations during the twelve month period ended
January 31, 2008.





As noted
above, our investing activities during the fiscal year ended January 31,
2009 provided cash of $32.6 million compared to $0.6 million used in fiscal
year 2008.




During
fiscal year 2009, $1.0 million was provided by exercise of stock options
and $3.1 million was used in the purchase of treasury stock. Net cash provided
by financing activities was $0.5 million during fiscal year
2008.


22




At
January 31, 2009, net trade receivables were $2.1 million lower than
at January 31, 2008, due to the lower level of licensing revenues at year
end and to the timing of the signings and collections of the licensing
agreements.





On
April 30, 2008, we consummated the transactions contemplated by that
certain Asset Purchase Agreement, dated as of January 9, 2008, between KMC
and Peerless.  As consideration for the sale, KMC assumed certain of
our liabilities, and paid us approximately $37.0 million, less a holdback
amount of $4.0 million relating to potential indemnification
obligations    The net proceeds from the KMC Transaction
have been used for general corporate purposes, including satisfying our working
capital needs and paying our  liabilities as they come due, relating
to the assets that we retain following the consummation of this transaction,
including our rights under our sublicenses with Adobe Systems Incorporated and
Novell, Inc. and our customized intellectual property.





In
addition to the net proceeds that we received from the KMC Transaction, our
operating costs and selling, general and administrative expenses have been
significantly reduced, freeing up additional capital which will permit us to
pursue our long term goal of providing new
growth opportunities and a diversified revenue base. We intend to aggressively
seek investment opportunities leveraged by  the infusion of
capital resulting from this transaction. Our long term strategy includes
diversifying our business to better ensure growth and
profitability.





Item 7A.
Quantitative and Qualitative Disclosures About Market Risk





As of
January 31, 2009, we do not hold any positions in equity securities of
other publicly traded companies.




We are
exposed to a variety of risks in investments, mainly a lowering of interest
rates. The primary objective of our investment activities is to preserve the
principal of our investments and to maintain a liquid level of investments to
meet short term capital requirements for potential investment opportunities,
while at the same time maximizing yields without significantly increasing
risk.  To achieve this objective, we, from time to time, maintain a
portfolio of cash equivalents, fixed rate debt instruments of the federal, state
and local governments and high-quality corporate issuers and short-term
investments in money market funds. As of January 31, 2009, we did not hold
any corporate debt securities. Although we are subject to interest rate risks,
we believe an effective increase or decrease of 10% in interest rate percentages
would not have a material adverse effect on our results from
operations.





We have
not entered into any derivative financial instruments. Currently all of our
contracts, including those involving foreign entities, are denominated in U.S.
dollars and as a result, we have experienced no significant foreign exchange
gains and losses to date. We have not engaged in foreign currency hedging
activities to date, and have no intention of doing so.





Item 8.
Financial Statements and Supplementary Data





See Index
to Financial Statements on page F–1.





Item 9.
Changes in and Disagreements with Accountants on Accounting and Financial
Disclosure





None.





Item 9A. Controls and
Procedures





Evaluation
of Disclosure Controls and Procedures





As of the
end of the period covered by this Annual Report on Form 10-K, we carried out an
evaluation under the supervision and with the participation of our management,
including the Chief Financial Officer and Acting Chief Executive Officer, of the
effectiveness of our disclosure controls and procedures pursuant to Exchange Act
Rule 13a-15(b). Disclosure controls and procedures are controls and other
procedures that are designed to ensure that information required to be disclosed
in our reports filed under the Exchange Act, such as this Annual Report on Form
10-K, is recorded, processed, summarized and reported within the time periods
specified by the SEC. Disclosure controls and procedures are also designed to
ensure that such information is accumulated and communicated to our management,
including our Chief Financial Officer and Acting Chief Executive Officer, as
appropriate to allow timely decisions regarding required
disclosure.





23





The
evaluation of our disclosure controls and procedures included a review of their
objectives and design, our implementation of them and their effect on the
information generated for use in this Annual Report on Form 10-K. In the course
of the controls evaluation, we reviewed any data errors or control problems that
we had identified and sought to confirm that appropriate corrective actions,
including process improvements, were being undertaken. This type of evaluation
is performed on a quarterly basis so that the conclusions of management,
including our Chief Financial Officer and Acting Chief Executive Officer,
concerning the effectiveness of the disclosure controls can be reported in our
periodic reports on Form 10-K and Form 10-Q. Many of the components of our
disclosure controls and procedures are also evaluated on an ongoing basis by
both our internal audit firm and finance functions. The overall goals of these
various evaluation activities are to monitor our disclosure controls and
procedures and to modify them as necessary. We intend to maintain the disclosure
controls and procedures as dynamic systems that we adjust as circumstances
merit.





Based on
the results of our evaluation, our Chief Financial Officer and Acting Chief
Executive Officer have concluded that our disclosure controls and procedures
were effective as of January 31, 2009.





Management’s
Report on Internal Control over Financial Reporting





Our
management is responsible for establishing and maintaining adequate internal
control over financial reporting, as such term is defined in Exchange Act
Rule 13a-15(f). Under the supervision and with the participation of our
management, including our Chief Financial Officer and Acting Chief Executive
Officer, we conducted an evaluation of the effectiveness of our internal control
over financial reporting as of January 31, 2009 based on the guidelines
established inInternal
Control—Integrated Framework  issued by the Committee of
Sponsoring Organizations of the Treadway Commission (COSO). Our internal control
over financial reporting includes policies and procedures designed to provide
reasonable assurance regarding the reliability of financial reporting and the
preparation of financial statements for external reporting purposes in
accordance with United States generally accepted accounting
principles.





Based on
the results of our evaluation, our management concluded that our internal
control over financial reporting was effective, as described above, as of
January 31, 2009. We have reviewed the results of management’s assessment
with our Audit Committee.





This
annual report does not include an attestation report of the Company’s registered
public accounting firm regarding internal control over financial reporting.
Management’s report was not subject to attestation by the Company’s registered
public accounting firm pursuant to temporary rules of the SEC that permit the
Company to provide only management’s report in this annual report.





Changes
in Internal Control over Financial Reporting





There
were no changes in our internal control over financial reporting identified in
connection with the evaluation required by paragraph (d) of Exchange Act
Rule 13a-15 that was conducted during the fiscal quarter ended
January 31, 2009 that have materially affected, or are reasonably likely to
materially affect, our internal control over financial reporting.





Management
Certifications





The
certification of our Chief Financial Officer and Acting Chief Executive Officer
required in accordance with Section 302 of the Sarbanes-Oxley Act of 2002
is attached as exhibits to this Annual Report on Form 10-K. The disclosures set
forth in this Item 9A contain information concerning (i) the
evaluation of our disclosure controls and procedures referred to in paragraph 4
of the certifications, and (ii) material weaknesses in the operation of our
internal control over financial reporting referred to in paragraph 5 of the
certifications. Those certifications should be read in conjunction with this
Item 9A for a more complete understanding of the matters covered by the
certifications.





24





Inherent
Limitations on Effectiveness of Controls





Our
management, including our Chief Financial Officer and Acting Chief Executive
Officer, do not expect that our disclosure controls and procedures or our
internal control over financial reporting will prevent all errors and all fraud.
A control system, no matter how well conceived and operated, can provide only
reasonable, not absolute, assurance that the objectives of the control system
are met. Further, the design of a control system must reflect the fact that
there are resource constraints, and the benefits of controls must be considered
relative to their costs. Because of the inherent limitations in all control
systems, no evaluation of controls can provide absolute assurance that all
control issues and instances of fraud, if any, within a company have been
detected. These inherent limitations include the realities that judgments in
decision making can be faulty, and that breakdowns can occur because of a simple
error or mistake. Additionally, controls can be circumvented by the individual
acts of some persons, by collusion of two or more people or by management
override of the controls. The design of any system of controls also is based in
part upon certain assumptions about the likelihood of future events, and there
can be no assurance that any design will succeed in achieving its stated goals
under all potential future conditions; over time, controls may become inadequate
because of changes in conditions, or the degree of compliance with policies or
procedures may deteriorate. Because of the inherent limitations in a
cost-effective control system, misstatements due to error or fraud may occur and
not be detected.





Item 9B.
Other Information





None.




PART
III





Item 10.
Directors, Executive Officers and Corporate Governance





The
information concerning the directors, executive officers and corporate
governance of the Company is incorporated herein by reference from the sections
entitled “Proposal No. 1, Election of Directors”, “Executive Officers”,
“Section 16(a) Beneficial Ownership Reporting Compliance” and “Code of
Business Conduct and Ethics” contained in the definitive proxy statement of the
Company to be filed pursuant to Regulation 14A within 120 days after
the Company’s fiscal year end of January 31, 2009, for its 2009 annual meeting
of stockholders (the “Proxy Statement”).




Item 11.
Executive Compensation





The
information concerning executive compensation is incorporated herein by
reference from the sections entitled “Proposal No. 1, Election of
Directors” and “Executive Compensation and Other Matters” included in the Proxy
Statement.





Item 12.
Security Ownership of Certain Beneficial Owners and Management and
Related Stockholder Matters





The
information concerning the security ownership of certain beneficial owners and
management and related stockholder matters is incorporated herein by reference
from the sections entitled “Security Ownership of Certain Beneficial Owners and
Management” and “Executive Compensation and Other Matters” included in the Proxy
Statement.





Item 13.
Certain Relationships and Related Transactions, and Director
Independence





The
information concerning certain relationships, related transactions and director
independence is incorporated herein by reference from the sections entitled
“Proposal No. 1, Election of Directors” and “Certain Relationships and
Related Transactions” included in the Proxy Statement.





25





Item 14.
Principal Accountant Fees and Services





The
information concerning the Company’s principal accountant’s fees and services is
incorporated herein by reference from the section entitled “Proposal No. 2,
Ratification of Selection of Independent Registered Public Accounting Firm”
included in the Proxy Statement.





26





PART
IV





Item 15.
Exhibits and Financial Statement Schedules


(a)


(1)
            Financial
      Statements:


See Index
to Financial Statements on page F-1





(2)
            Financial
      Statement Schedule:





The
following financial statement schedule of the Company is filed as part of this
Report and should be read in conjunction with the Financial Statements of the
Company.


Schedule
              
              PageII
      Valuation and Qualifying Accounts
              
              S-1


Schedules
not listed above have been omitted because they are not applicable or are not
required or the information required to be set forth therein is included in the
Financial Statements or Notes thereto.





(3)
            Exhibits


The
exhibits required by Item601 of RegulationS-K are set forth below in
Item15(b).





(b)Exhibits:





The following exhibits are filed
as part of, or incorporated by reference into, this Annual Report on Form
10-K:





Exhibit
                  Number3.1(1)
                
                Certificate
      of Incorporation of the Company.3.2(17)
                
                Amended
      Bylaws.4.1
                
                Instruments
      defining the rights of security holders. Reference is made to Exhibits 3.1
      and 3.2.10.1(5)(2)
                
                1996
      Equity Incentive Plan, as amended and form of stock option agreements
      thereunder.10.2(6)(2)
                
                1996
      Employee Stock Purchase Plan, as amended.10.3(2)(7)
                
                Form
      of Indemnification Agreement, effective as of March 12,
      2001.10.4(3)(8)
                
                Postscript
      Software Development License and Sublicense Agreement between Adobe
      Systems Incorporated and the Company effective as of July 23,
      1999.10.5(3)(8)
                
                Master
      Technology License Agreement dated January 16, 2000 between Konica
      Corporation and Peerless Systems Corporation.10.6(8)
                
                Master
      Technology License Agreement dated April 1, 1997 between Kyocera
      Corporation and Peerless Systems
Corporation.




27





Exhibit
                  Number10.7(3)(8)
                
                Master
      Technology License Agreement between Oki Data Corporation and Peerless
      Systems Imaging Products, Inc.10.8(8)
                
                Master
      Technology License Agreement dated April 1, 2000 between Seiko Epson
      Corporation and Peerless Systems Imaging Products, Inc.10.9(3)(8)
                
                Nest
      Office SDK Development and Reseller Agreement Statement of Work 8 to BDA
      No. N-A-1 between and Novell, Inc. and Peerless Systems Networking
      effective as of August 17, 1999.10.10(3)(8)
                
                Amendment
      No. 1 to Nest Office SDK Development and Reseller Agreement Statement
      of Work 8 to BDA No. N-A-1 between and Novell, Inc. and Peerless Systems
      Networking effective as of August 17, 1999.10.11(8)
                
                Business
      Development Agreement by and between Novell and Auco, Inc effective as of
      September 6, 1996.10.12(9)
                
                Amendment
      No. 3 to Postscript Software Development Agreement by and between
      Adobe Systems Incorporated and the Company dated October 25,
      2002.10.13(3)(10)
                
                Amendment
      No. 4 to the Postscript Software Development License and Sublicense
      Agreement between Adobe Systems Incorporated and Peerless Systems
      Corporation, effective as of July 31, 2003.10.14(3)(10)
                
                Amendment
      No. 10 to the Postscript Software Development License and Sublicense
      Agreement between Adobe Systems Incorporated and Peerless Systems
      Corporation, effective as of July 31, 2003.10.15
                
                Intentionally
      omitted.10.16(3)(11)
                
                Amendment
      No. 8 to the PostScript Software Development License and Sublicense
      Agreement between Adobe Systems Incorporated and Peerless Systems
      Corporation, effective as of September 30, 2003.10.17(3)(11)
                
                Amendment
      No. 9 to the PostScript Software Development License and Sublicense
      Agreement between Adobe Systems Incorporated and Peerless Systems
      Corporation, effective as of September 15, 2003.10.18(3)(11)
                
                Amendment
      No. 12 to the PostScript Software Development License and Sublicense
      Agreement between Adobe Systems Incorporated and Peerless Systems
      Corporation, effective as of September 22, 2003.10.19(12)
                
                Amendment
      No. 5 to the PostScript Software Development License and Sublicense
      Agreement between Adobe Systems Incorporated and Peerless Systems
      Corporation, effective as of December 16, 2003.10.20(12)
                
                Amendment
      No. 6 to the PostScript Software Development License and Sublicense
      Agreement between Adobe Systems Incorporated and Peerless Systems
      Corporation, effective as of July 31, 2002.10.21(12)
                
                Amendment
      No. 7 to the PostScript Software Development License and Sublicense
      Agreement between Adobe Systems Incorporated and Peerless Systems
      Corporation, effective as of May 22, 2003.10.22(12)
                
                Amendment
      No. 11 to the PostScript Software Development License and Sublicense
      Agreement between Adobe Systems Incorporated and Peerless Systems
      Corporation, effective as of February 9, 2004.10.23(12)
                
                Amendment
      No. 14 to the PostScript Software Development License and Sublicense
      Agreement between Adobe Systems Incorporated and Peerless Systems
      Corporation, effective as of December 16, 2003.10.24(12)
                
                Amendment
      No. 15 to the PostScript Software Development License and Sublicense
      Agreement between Adobe Systems Incorporated and Peerless Systems
      Corporation, effective as of January 6, 2004.10.25(13)
                
                Amendment
      No. 16 to the PostScript Software Development License and Sublicense
      Agreement between Adobe Systems Incorporated and Peerless Systems
      Corporation, effective as of January 6, 2004.





28




Exhibit
                    Number10.26(13)
                  
                  Amendment
      No. 19 to the PostScript Software Development License and Sublicense
      Agreement between Adobe Systems Incorporated and Peerless Systems
      Corporation, effective as of April 1, 2004.10.27(14)
                  
                  Amendment
      No. 17 to the Postscript Software Development License and Sublicense
      Agreement between Adobe Systems Incorporated and Peerless Systems
      Corporation, Effective as of 15 October, 2004.10.28(14)
                  
                  Silicon
      Valley Bank Loan and Security Agreement between Silicon Valley Bank and
      Peerless Systems Corporation dated October 27,
  2004.10.29(15)
                  
                  Amendment
      No. 21 to the PostScript Software Development License and Sublicense
      Agreement between Adobe Systems Incorporated and Peerless Systems
      Corporation, effective as of January 1, 2005.10.30(15)
                  
                  Amendment
      No. 18 to the PostScript Software Development License and Sublicense
      Agreement between Adobe Systems Incorporated and Peerless Systems
      Corporation, effective as of January 1, 2005.10.31(15)
                  
                  Peerless
      Systems Corporation 2005 Incentive Award Plan.10.32(15)
                  
                  Amendment
      No. 23 to the PostScript Software Development License and Sublicense
      Agreement between Adobe Systems Incorporated and Peerless Systems
      Corporation, effective as of January 1, 2005.10.33(15)
                  
                  Peerless
      Systems Corporation Amended and Restated Transaction Incentive
      Plan.10.34(16)
                  
                  Amendment
      No. 22 to the PostScript Software Development License and Sublicense
      Agreement between Adobe Systems Incorporated and Peerless Systems
      Corporation, effective as of October 14, 2005.10.35(16)
                  
                  Amendment
      No. 24 to the PostScript Software Development License and Sublicense
      Agreement between Adobe Systems Incorporated and Peerless Systems
      Corporation, effective as of October 14, 2005.10.36(16)
                  
                  Amendment
      No. 26 to the PostScript Software Development License and Sublicense
      Agreement between Adobe Systems Incorporated and Peerless Systems
      Corporation, effective as of October 13, 2005.10.37(16)
                  
                  Amendment
      No. 27 to the PostScript Software Development License and Sublicense
      Agreement between Adobe Systems Incorporated and Peerless Systems
      Corporation, effective as of November 1, 2005.10.38(4)
                  
                  Letter
      dated December 7, 2006 from Adobe Systems Incorporated to Peerless
      Systems Corporation extending the term of PostScript Software Development
      License and Sublicense Agreement.10.39(17)
                  
                  Letter
      dated June 28, 2007 from Adobe Systems Incorporated to Peerless
      Systems Corporation extending the term of the PostScript Software
      Development License and Sublicense Agreement.10.40(18)
                  
                  Asset
      Purchase Agreement by and between Kyocera-Mita Corporation and Peerless
      Systems Corporation, dated as of January 9, 2008.10.41(19)
                  
                  Addendum
      dated as of June 23, 2008 between the Company and William
      Neil.10.42
      (20)
                  
                  Employment
      Agreement dated as of June 14, 2006 between the Company and William
      Neil.10.43(21)
                  
                  Amendment
      No. 30 to PostScript Software Development License and Sublicense Agreement
      dated July 23, 1999, as amended.10.44(22)
                  
                  Severance
      Agreement between the Company and Richard Roll, effective October 1,
      2008.





29





Exhibit
                        Number10.45(23)
                      
                      Lease
      Termination Agreement between the Company and Teachers Insurance and
      Annuity Association of America, dated January 30, 2009.10.46(23)
                      
                      Termination
      of Lease Agreement, between the Company and Continental 2361/2381 LLC,
      dated January 30, 2009.10.47(24)
                      
                      Employment
      Agreement between the Company and Edward Gaughan, dated as of December 3,
      2008.10.48(24)
                      
                      Addendum
      V to SOW 8 to BDA No. N-A-1 between the Company and Novell, Inc.,
      dated  April 7, 2009.21.1
                      
                      Registrant’s
      Wholly-Owned Subsidiaries.23.1
                      
                      Consent
      of Independent Registered Public Accounting Firm.24.1
                      
                      Power
      of Attorney. Reference is made to the signature page to this Annual Report
      on Form 10-K.31.1
                      
                      Certification
      of Principal Executive Officer Pursuant to Section 302 of the
      Sarbanes-Oxley Act of 2002.32.1
                      
                      Certifications
      of Principal Executive Officer and Principal Financial Officer Pursuant to
      Section 906 of the Sarbanes-Oxley Act of
  2002.




(1)
              
              Previously
      filed in the Company’s Registration Statement on Form S-1 (File
      No. 333-09357), as amended and incorporated herein by
      reference.(2)
              
              Management
      contract or compensatory plan or arrangement.(3)
              
              Subject
      to a Confidential Treatment Order.(4)
              
              Previously
      filed in the Company’s Current Report on Form 8-K filed on December 18,
      2006, and incorporated herein
    by reference.(5)
              
              Intentionally
      omitted.(6)
              
              Intentionally
      omitted.(7)
              
              Previously
      filed in the Company’s Amendment No. 4 to its Registration Statement
      on Form S-3 (File No. 333-60284), filed July 27, 2001, and
      incorporated herein by reference.(8)
              
              Previously
      filed in the Company’s Quarterly Report for the period ended July 31,
      2002, filed September 16, 2002, and incorporated herein by
      reference.(9)
              
              Previously
      filed in the Company’s Quarterly Report for the period ended
      October 31, 2002, filed December 16, 2002, and incorporated
      herein by reference.(10)
              
              Previously
      filed in the Company’s Quarterly Report for the period ended July 31,
      2003, filed September 15, 2003, and incorporated herein by
      reference.(11)
              
              Previously
      filed in the Company’s Quarterly Report for the period ended
      October 31, 2003, filed December 15, 2003, and incorporated
      herein by reference.





30





(12)
            
            Previously
      filed in the Company’s 2004 Annual Report on Form 10-K filed
      April 30, 2004, and incorporated herein by
  reference.(13)
            
            Previously
      filed in the Company’s Quarterly Report for the period ended
      April 30, 2004, filed June 14, 2004, and incorporated herein by
      reference.(14)
            
            Previously
      filed in the Company’s Quarterly Report for the period ended
      October 31, 2004, filed December 15, 2004, and incorporated
      herein by reference.(15)
            
            Previously
      filed in the Company’s Quarterly Report for the period ended July 31,
      2005, filed December 15, 2004, and incorporated herein by
      reference.(16)
            
            Previously
      filed in the Company’s Quarterly Report for the period ended
      October 31, 2005, filed December 15, 2004, and incorporated
      herein by reference.(17)
            
            Previously
      filed in the Company’s Current Report on Form 8-K, filed August 21,
      2007, and incorporated herein by reference.(18)
            
            Previously
      filed in the Company’s Current Report on Form 8-K, filed
      January 10, 2008, and incorporated herein by
    reference.(19)
            
            Previously
      filed in the Company’s Current Report on Form 8-K, filed
      July 14, 2008, and incorporated herein by
  reference.(20)
            
            Previously
      filed in the Company’s Current Report on Form 8-K filed on July 23, 2008,
      and incorporated herein by reference.(21)
            
            Previously
      filed in the Company’s Current Report on Form 8-K filed on September 18,
      2008, and incorporated herein by reference.(22)
            
            Previously
      filed in the Company’s Current Report on Form 8-K filed on October 14,
      2008, and incorporated herein
      by reference.(23)
            
            Previously
      filed in the Company’s Current Report on Form 8-K filed on February 3,
      2009, and incorporated herein by  reference.(24)
            
            Filed
      herewith.  Portions of this Exhibit  have been omitted
      pursuant to a request for confidential treatment being filed separately
      with the SEC.





31





SIGNATURES





Pursuant
to the requirements of Section 13 or 15(d) of the Securities Exchange Act
of 1934, as amended, the Registrant has duly caused this Report to be signed on
its behalf by the undersigned, thereunto duly authorized, on the 1st day of May,
2009.





PEERLESS
      SYSTEMS CORPORATIONBy:
                                  /s/
      William
      R. NeilWilliam
      R. NeilChief
      Financial Officer and Acting Chief Executive
  Officer




KNOW ALL
PERSONS BY THOSE PRESENT, that each person whose signature appears below
constitutes and appoints William R. Neil and Timothy Brog his attorneys-in-fact,
each with the power of substitution, for him in any and all capacities, to sign
any amendments to this Annual Report on Form 10-K, and to file the same, with
Exhibits thereto and other documents in connection therewith with the Securities
and Exchange Commission, hereby ratifying and confirming all that each of said
attorneys-in-fact, or substitute or substitutes may do or cause to be done by
virtue hereof.





Pursuant
to the requirements of the Securities Exchange Act of 1934, as amended, this
report has been signed below by the following persons on behalf of the
registrant and in the capacities and on the date indicated.





Signature
              Title
              Date/s/
      William
      R. Neil
              Chief
      Financial Officer and
                Acting
      Chief Executive Officer
              May
      1, 2009William
      R. Neil
              (Principal
      Financial and Accounting Officer and Acting
                Principal
      Executive Officer)/s/
      Steven M. BathgateSteven M. Bathgate
              Director
              May
      1, 2009/s/ 
      Timothy E. BrogTimothy E. Brog
              Director
              May
      1, 2009/s/
      Jeffrey A. HammerJeffrey A. Hammer
              Director
              May
      1, 2009/s/
      Simon Peter JamesSimon Peter James
              Director
              May
      1, 2009R. Rimmy Malhotra
              Director
              May
      1, 2009/s/ 
      Steven J. PullySteven J. Pully
              Director
              May
      1, 2009





32




PEERLESS
SYSTEMS CORPORATION


INDEX
TO CONSOLIDATED FINANCIAL STATEMENTS




PageReport
      of Independent Registered Public Accounting Firm
                                  
                                  F-2Consolidated
      Statements of Income
                                  
                                  F-3Consolidated
      Balance Sheets
                                  
                                  F-4Consolidated
      Statements of Stockholders’ Equity
                                  
                                  F-5Consolidated
      Statements of Cash Flows
                                  
                                  F-6Notes
      to Consolidated Financial Statements
                                  
                                  F-7




F-1





Report
of Independent Registered Public Accounting Firm





The Board
of Directors and Stockholders of Peerless Systems Corporation





We have
audited the accompanying consolidated balance sheets of Peerless Systems
Corporation as of January 31, 2009 and 2008, and the related consolidated
statements of income, stockholders’ equity, and cash flows for each of the three
years in the period ended January 31, 2009. Our audits also included the
financial statement schedule listed in the Index at Item 15(a). These
financial statements and schedule are the responsibility of the Company’s
management. Our responsibility is to express an opinion on these financial
statements based on our audits.





We
conducted our audits in accordance with the standards of the Public Company
Accounting Oversight Board (United States). Those standards require that we plan
and perform the audit to obtain reasonable assurance about whether the financial
statements are free of material misstatement. We were not engaged to perform an
audit of the Company’s internal control over financial reporting. Our audits
included consideration of internal control over financial reporting as a basis
for designing audit procedures that are appropriate in the circumstances, but
not for the purpose of expressing an opinion on the effectiveness of the
Company’s internal control over financial reporting. Accordingly, we express no
such opinion. An audit also includes examining, on a test basis, evidence
supporting the amounts and disclosures in the financial statements, assessing
the accounting principles used and significant estimates made by management, and
evaluating the overall financial statement presentation. We believe that our
audits provide a reasonable basis for our opinion.





In our
opinion, the financial statements referred to above present fairly, in all
material respects, the consolidated financial position of Peerless Systems
Corporation at January 31, 2009 and 2008, and the consolidated results of
its operations and its cash flows for each of the three years in the period
ended January 31, 2009, in conformity with U.S. generally accepted
accounting principles. Also, in our opinion, the related financial statement
schedule, when considered in relation to the basic financial statements taken as
a whole, presents fairly in all material respects the information set forth
therein.





/s/
      Ernst & Young LLPLos
      Angeles, CaliforniaApril
      30, 2009




F-2




PEERLESS
SYSTEMS CORPORATION


CONSOLIDATED
STATEMENTS OF INCOME





Years
      Ended January 31,2009
                                                                          
                                                                          
                                                                          2008
                                                                          
                                                                          
                                                                          2007(In
      thousands, except per share amounts)Revenues:Product
      licensing
                                                                          
                                                                          $
                                                                          7,144
                                                                          
                                                                          
                                                                          $
                                                                          17,809
                                                                          
                                                                          
                                                                          $
                                                                          21,758Engineering
      services and maintenance
                                                                          
                                                                          
                                                                          3,262
                                                                          
                                                                          
                                                                          
                                                                          10,632
                                                                          
                                                                          
                                                                          
                                                                          11,232Hardware
      sales
                                                                          
                                                                          
                                                                          —
                                                                          
                                                                          
                                                                          
                                                                          2
                                                                          
                                                                          
                                                                          
                                                                          393Total
      revenues
                                                                          
                                                                          
                                                                          10,406
                                                                          
                                                                          
                                                                          
                                                                          28,443
                                                                          
                                                                          
                                                                          
                                                                          33,383Cost
      of revenues:Product
      licensing
                                                                          
                                                                          
                                                                          5,477
                                                                          
                                                                          
                                                                          
                                                                          3,339
                                                                          
                                                                          
                                                                          
                                                                          4,612Engineering
      services and maintenance
                                                                          
                                                                          
                                                                          1,799
                                                                          
                                                                          
                                                                          
                                                                          6,554
                                                                          
                                                                          
                                                                          
                                                                          8,768Hardware
      sales
                                                                          
                                                                          
                                                                          —
                                                                          
                                                                          
                                                                          
                                                                          —
                                                                          
                                                                          
                                                                          
                                                                          670Total
      cost of revenues
                                                                          
                                                                          
                                                                          7,276
                                                                          
                                                                          
                                                                          
                                                                          9,893
                                                                          
                                                                          
                                                                          
                                                                          14,050Gross
      margin
                                                                          
                                                                          
                                                                          3,130
                                                                          
                                                                          
                                                                          
                                                                          18,550
                                                                          
                                                                          
                                                                          
                                                                          19,333Research
      and development
                                                                          
                                                                          
                                                                          1,430
                                                                          
                                                                          
                                                                          
                                                                          4,394
                                                                          
                                                                          
                                                                          
                                                                          6,706Sales
      and marketing
                                                                          
                                                                          
                                                                          1,616
                                                                          
                                                                          
                                                                          
                                                                          2,539
                                                                          
                                                                          
                                                                          
                                                                          3,040General
      and administrative
                                                                          
                                                                          
                                                                          7,209
                                                                          
                                                                          
                                                                          
                                                                          7,272
                                                                          
                                                                          
                                                                          
                                                                          6,746Gain
      on sale
                                                                          
                                                                          
                                                                          (32,912
                                                                          )
                                                                          
                                                                          
                                                                          —
                                                                          
                                                                          
                                                                          
                                                                          —Restructuring
      expense
                                                                          
                                                                          
                                                                          3,320
                                                                          
                                                                          
                                                                          
                                                                          —
                                                                          
                                                                          
                                                                          
                                                                          —(19,337
                                                                          )
                                                                          
                                                                          
                                                                          14,205
                                                                          
                                                                          
                                                                          
                                                                          16,492Income
      from operations
                                                                          
                                                                          
                                                                          22,467
                                                                          
                                                                          
                                                                          
                                                                          4,345
                                                                          
                                                                          
                                                                          
                                                                          2,841Interest
      income
                                                                          
                                                                          
                                                                          1,076
                                                                          
                                                                          
                                                                          
                                                                          833
                                                                          
                                                                          
                                                                          
                                                                          468Income
      before provision (benefit) for income taxes
                                                                          
                                                                          
                                                                          23,543
                                                                          
                                                                          
                                                                          
                                                                          5,178
                                                                          
                                                                          
                                                                          
                                                                          3,309Provision
      (benefit)for
      income taxes
                                                                          
                                                                          
                                                                          5,924
                                                                          
                                                                          
                                                                          
                                                                          (4,969
                                                                          )
                                                                          
                                                                          
                                                                          23Net
      income
                                                                          
                                                                          $
                                                                          17,619
                                                                          
                                                                          
                                                                          $
                                                                          10,147
                                                                          
                                                                          
                                                                          $
                                                                          3,286Basic
      earnings per share
                                                                          
                                                                          $
                                                                          0.99
                                                                          
                                                                          
                                                                          $
                                                                          0.59
                                                                          
                                                                          
                                                                          $
                                                                          0.19Diluted
      earnings per share
                                                                          
                                                                          $
                                                                          0.97
                                                                          
                                                                          
                                                                          $
                                                                          0.56
                                                                          
                                                                          
                                                                          $
                                                                          0.17Weighted
      average common shares outstanding — basic
                                                                          
                                                                          
                                                                          17,719
                                                                          
                                                                          
                                                                          
                                                                          17,321
                                                                          
                                                                          
                                                                          
                                                                          17,100Weighted
      average common shares outstanding — diluted
                                                                          
                                                                          
                                                                          18,072
                                                                          
                                                                          
                                                                          
                                                                          18,154
                                                                          
                                                                          
                                                                          
                                                                          18,912





The
accompanying notes are an integral part of these consolidated financial
statements.





F-3





PEERLESS
SYSTEMS CORPORATION


CONSOLIDATED
BALANCE SHEETS




January
      31,2009
                                                                    
                                                                    
                                                                    2008(In
      thousands)ASSETSCurrent
      assets:Cash
      and cash equivalents
                                                                    
                                                                    $
                                                                    44,689
                                                                    
                                                                    
                                                                    $
                                                                    23,136Trade
      accounts receivable, less allowance for doubtful accounts of $82 and $7 in
      2009 and 2008, respectively
                                                                    
                                                                    
                                                                    676
                                                                    
                                                                    
                                                                    
                                                                    2,784Unbilled
      receivables
                                                                    
                                                                    
                                                                    —
                                                                    
                                                                    
                                                                    
                                                                    845Income
      tax receivable
                                                                    
                                                                    
                                                                    3,343
                                                                    
                                                                    
                                                                    
                                                                    —Deferred
      tax assets
                                                                    
                                                                    
                                                                    2,673
                                                                    
                                                                    
                                                                    
                                                                    4,940Prepaid
      expenses and other current assets
                                                                    
                                                                    
                                                                    205
                                                                    
                                                                    
                                                                    
                                                                    949Total
      current assets
                                                                    
                                                                    
                                                                    51,586
                                                                    
                                                                    
                                                                    
                                                                    32,654Property
      and equipment, net
                                                                    
                                                                    
                                                                    46
                                                                    
                                                                    
                                                                    
                                                                    333Other
      assets
                                                                    
                                                                    
                                                                    1
                                                                    
                                                                    
                                                                    
                                                                    243Total
      assets
                                                                    
                                                                    $
                                                                    51,633
                                                                    
                                                                    
                                                                    $
                                                                    33,230LIABILITIES
      AND STOCKHOLDERS’
      EQUITYCurrent
      liabilities:Accounts
      payable
                                                                    
                                                                    $
                                                                    92
                                                                    
                                                                    
                                                                    $
                                                                    289Accrued
      wages
                                                                    
                                                                    
                                                                    86
                                                                    
                                                                    
                                                                    
                                                                    569Accrued
      compensated absences
                                                                    
                                                                    
                                                                    102
                                                                    
                                                                    
                                                                    
                                                                    731Accrued
      product licensing costs
                                                                    
                                                                    
                                                                    4,139
                                                                    
                                                                    
                                                                    
                                                                    1,609Other
      current liabilities
                                                                    
                                                                    
                                                                    505
                                                                    
                                                                    
                                                                    
                                                                    785Deferred
      revenue
                                                                    
                                                                    
                                                                    706
                                                                    
                                                                    
                                                                    
                                                                    914Total
      current liabilities
                                                                    
                                                                    
                                                                    5,630
                                                                    
                                                                    
                                                                    
                                                                    4,897Other
      liabilitiesTax
      liabilities
                                                                    
                                                                    
                                                                    1,511
                                                                    
                                                                    
                                                                    
                                                                    —Other
                                                                    
                                                                    
                                                                    —
                                                                    
                                                                    
                                                                    
                                                                    551Total
      liabilities
                                                                    
                                                                    
                                                                    7,141
                                                                    
                                                                    
                                                                    
                                                                    5,448Stockholders’ equity:Common
      stock, $.001 par value, 30,000 shares authorized, 18,815 and 17,657 shares
      issued in 2009 and 2008, respectively
                                                                    
                                                                    
                                                                    19
                                                                    
                                                                    
                                                                    
                                                                    18Additional
      paid-in capital
                                                                    
                                                                    
                                                                    55,493
                                                                    
                                                                    
                                                                    
                                                                    53,340Accumulated
      deficit
                                                                    
                                                                    
                                                                    (7,873
                                                                    )
                                                                    
                                                                    
                                                                    (25,492
                                                                    )Accumulated
      other comprehensive income
                                                                    
                                                                    
                                                                    16
                                                                    
                                                                    
                                                                    
                                                                    29Treasury
      stock, 1,813 and 150  shares in 2009 and 2008,
      respectively
                                                                    
                                                                    
                                                                    (3,163
                                                                    )
                                                                    
                                                                    
                                                                    (113
                                                                    )Total
      stockholders’
      equity
                                                                    
                                                                    
                                                                    44,492
                                                                    
                                                                    
                                                                    
                                                                    27,782Total
      liabilities and stockholders’ equity
                                                                    
                                                                    $
                                                                    51,633
                                                                    
                                                                    
                                                                    $
                                                                    33,230




The
accompanying notes are an integral part of these consolidated financial
statements.





F-4


PEERLESS
SYSTEMS CORPORATION


CONSOLIDATED
STATEMENTS OF STOCKHOLDERS’ EQUITY




The
accompanying notes are an integral part of these consolidated financial
statements.





AccumulatedAdditional
                  
                  
                  
                  
                  
                  
                  Other
                  
                  
                  TotalCommon
      Stock
                  
                  
                  Treasury
      Stock
                  
                  
                  Paid-In
                  
                  
                  Accumulated
                  
                  
                  Comprehensive
                  
                  
                  Stockholders’Shares
                  
                  
                  Amount
                  
                  
                  Shares
                  
                  
                  Amount
                  
                  
                  Capital
                  
                  
                  Deficit
                  
                  
                  Income
                  
                  
                  Equity(In
      thousands)Balances,
      January 31, 2006
                  
                  
                  17,041
                  
                  
                  
                  17
                  
                  
                  
                  150
                  
                  
                  
                  (113
                  )
                  
                  
                  50,939
                  
                  
                  
                  (38,925
                  )
                  
                  
                  21
                  
                  
                  
                  11,939Exercise
      of stock options
                  
                  
                  262
                  
                  
                  
                  —
                  
                  
                  
                  —
                  
                  
                  
                  —
                  
                  
                  
                  357
                  
                  
                  
                  —
                  
                  
                  
                  —
                  
                  
                  
                  357Share-based
      Compensation
                  
                  
                  —
                  
                  
                  
                  —
                  
                  
                  
                  —
                  
                  
                  
                  —
                  
                  
                  
                  612
                  
                  
                  
                  —
                  
                  
                  
                  —
                  
                  
                  
                  612Comprehensive
      income:Net
      income
                  
                  
                  —
                  
                  
                  
                  —
                  
                  
                  
                  —
                  
                  
                  
                  —
                  
                  
                  
                  —
                  
                  
                  
                  3,286
                  
                  
                  
                  —
                  
                  
                  
                  3,286Foreign
      currency translation adjustment
                  
                  
                  —
                  
                  
                  
                  —
                  
                  
                  
                  —
                  
                  
                  
                  —
                  
                  
                  
                  —
                  
                  
                  
                  —
                  
                  
                  
                  (11
                  )
                  
                  
                  (11
                  )Total
      comprehensive income
                  
                  
                  —
                  
                  
                  
                  —
                  
                  
                  
                  —
                  
                  
                  
                  —
                  
                  
                  
                  —
                  
                  
                  
                  —
                  
                  
                  
                  —
                  
                  
                  
                  3,275Balances,
      January 31, 2007
                  
                  
                  17,303
                  
                  
                  $
                  17
                  
                  
                  
                  150
                  
                  
                  $
                  (113
                  )
                  
                  $
                  51,908
                  
                  
                  $
                  (35,639
                  )
                  
                  $
                  10
                  
                  
                  $
                  16,183Exercise
      of stock options
                  
                  
                  354
                  
                  
                  
                  1
                  
                  
                  
                  —
                  
                  
                  
                  —
                  
                  
                  
                  472
                  
                  
                  
                  —
                  
                  
                  
                  —
                  
                  
                  
                  473Share-based
      compensation expense
                  
                  
                  —
                  
                  
                  
                  —
                  
                  
                  
                  —
                  
                  
                  
                  —
                  
                  
                  
                  960
                  
                  
                  
                  —
                  
                  
                  
                  —
                  
                  
                  
                  960Comprehensive
      income:Net
      income
                  
                  
                  —
                  
                  
                  
                  —
                  
                  
                  
                  —
                  
                  
                  
                  —
                  
                  
                  
                  —
                  
                  
                  
                  10,147
                  
                  
                  
                  —
                  
                  
                  
                  10,147Foreign
      currency translation adjustment
                  
                  
                  —
                  
                  
                  
                  —
                  
                  
                  
                  —
                  
                  
                  
                  —
                  
                  
                  
                  —
                  
                  
                  
                  —
                  
                  
                  
                  19
                  
                  
                  
                  19Total
      comprehensive income
                  
                  
                  —
                  
                  
                  
                  —
                  
                  
                  
                  —
                  
                  
                  
                  —
                  
                  
                  
                  —
                  
                  
                  
                  —
                  
                  
                  
                  —
                  
                  
                  
                  10,166Balances,
      January 31, 2008
                  
                  
                  17,657
                  
                  
                  $
                  18
                  
                  
                  
                  150
                  
                  
                  $
                  (113
                  )
                  
                  $
                  53,340
                  
                  
                  $
                  (25,492
                  )
                  
                  $
                  29
                  
                  
                  $
                  27,782Purchase
      of treasury stock
                  
                  
                  —
                  
                  
                  
                  —
                  
                  
                  
                  1,663
                  
                  
                  
                  (3,050
                  )
                  
                  
                  —
                  
                  
                  
                  —
                  
                  
                  
                  —
                  
                  
                  
                  (3,050
                  )Exercise
      of stock options
                  
                  
                  928
                  
                  
                  
                  1
                  
                  
                  
                  —
                  
                  
                  
                  —
                  
                  
                  
                  992
                  
                  
                  
                  —
                  
                  
                  
                  —
                  
                  
                  
                  993Stock
      based compensation expense
                  
                  
                  230
                  
                  
                  
                  —
                  
                  
                  
                  —
                  
                  
                  
                  —
                  
                  
                  
                  1,161
                  
                  
                  
                  —
                  
                  
                  
                  —
                  
                  
                  
                  1,161Comprehensive
      income:Net
      income
                  
                  
                  —
                  
                  
                  
                  —
                  
                  
                  
                  —
                  
                  
                  
                  —
                  
                  
                  
                  —
                  
                  
                  
                  17,619
                  
                  
                  
                  —
                  
                  
                  
                  17,619Foreign
      currency translation adjustment
                  
                  
                  —
                  
                  
                  
                  —
                  
                  
                  
                  —
                  
                  
                  
                  —
                  
                  
                  
                  —
                  
                  
                  
                  —
                  
                  
                  
                  (13
                  )
                  
                  
                  (13
                  )Total
      comprehensive income
                  
                  
                  
                  
                  
                  
                  
                  
                  
                  
                  
                  
                  
                  
                  
                  
                  
                  
                  
                  
                  
                  
                  
                  
                  
                  
                  
                  
                  
                  
                  17,606Balances,
      January 31, 2009
                  
                  
                  18,815
                  
                  
                  $
                  19
                  
                  
                  
                  1,813
                  
                  
                  $
                  (3,163
                  )
                  
                  $
                  55,493
                  
                  
                  $
                  (7,873
                  )
                  
                  $
                  16
                  
                  
                  $
                  44,492


F-5





PEERLESS
SYSTEMS CORPORATION


CONSOLIDATED
STATEMENTS OF CASH FLOWS




Years
      Ended January 31,2009
                      
                      
                      
                      2008
                      
                      
                      
                      2007(In
      thousands)Cash
      flows from operating activities:Net
      income
                      
                      $
                      17,619
                      
                      
                      $
                      10,147
                      
                      
                      $
                      3,286Adjustments
      to reconcile net income to net cash provided by operating
      activitiesDepreciation
      and amortization
                      
                      
                      266
                      
                      
                      
                      842
                      
                      
                      
                      906Share-based
      compensation
                      
                      
                      1,161
                      
                      
                      
                      960
                      
                      
                      
                      612Deferred
      income taxes
                      
                      
                      3,778
                      
                      
                      
                      (5,022
                      )
                      
                      
                      —Gain
      on sale of operating assets
                      
                      
                      (32,912
                      )
                      
                      
                      —
                      
                      
                      
                      —Asset
      impairment –
      restructuring
                      
                      
                      126
                      
                      
                      
                      —
                      
                      
                      
                      —Other
                      
                      
                      68
                      
                      
                      
                      19
                      
                      
                      
                      (11
                      )Changes
      in operating assets and liabilities:Trade
      accounts receivable
                      
                      
                      2,108
                      
                      
                      
                      (1,036
                      )
                      
                      
                      380Unbilled
      receivables
                      
                      
                      845
                      
                      
                      
                      3,166
                      
                      
                      
                      (979
                      )Income
      tax receivable
                      
                      
                      (3,343
                      )Prepaid
      expenses and other assets
                      
                      
                      1,093
                      
                      
                      
                      (212
                      )
                      
                      
                      (146
                      )Accounts
      payable
                      
                      
                      (197
                      )
                      
                      
                      56
                      
                      
                      
                      (246
                      )Accrued
      product licensing costs
                      
                      
                      2,530
                      
                      
                      
                      (1,426
                      )
                      
                      
                      (1,290
                      )Deferred
      revenue
                      
                      
                      (208
                      )
                      
                      
                      107
                      
                      
                      
                      99Other
      liabilities
                      
                      
                      (1,943
                      )
                      
                      
                      (707
                      )
                      
                      
                      760Net
      cash provided by operating activities
                      
                      
                      (9,009
                      )
                      
                      
                      6,894
                      
                      
                      
                      3,371Cash
      flows from investing activities:Purchases
      of property and equipment
                      
                      
                      (16
                      )
                      
                      
                      (131
                      )
                      
                      
                      (217
                      )Proceeds
      from sales of operating assets, net of expenses
                      
                      
                      32,723
                      
                      
                      
                      —
                      
                      
                      
                      —Purchases
      of software licenses
                      
                      
                      (88
                      )
                      
                      
                      (478
                      )
                      
                      
                      (353
                      )Net
      cash provided (used)by investing
      activities
                      
                      
                      32,619
                      
                      
                      
                      (609
                      )
                      
                      
                      (570
                      )Cash
      flows from financing activities:Purchases
      of treasury stock
                      
                      
                      (3,050
                      )
                      
                      
                      —
                      
                      
                      
                      —Proceeds
      from exercise of common stock options
                      
                      
                      993
                      
                      
                      
                      473
                      
                      
                      
                      357Net
      cash provided by financing activities
                      
                      
                      (2,057
                      )
                      
                      
                      473
                      
                      
                      
                      357Net
      increase in cash and cash equivalents
                      
                      
                      21,553
                      
                      
                      
                      6,758
                      
                      
                      
                      3,158Cash
      and cash equivalents, beginning of period
                      
                      
                      23,136
                      
                      
                      
                      16,378
                      
                      
                      
                      13,220Cash
      and cash equivalents, end of period
                      
                      $
                      44,689
                      
                      
                      $
                      23,136
                      
                      
                      $
                      16,378Supplemental
      disclosure of cash flow information:Cash
      paid during the year for:Income
      taxes
                      
                      $
                      5,387
                      
                      
                      $
                      11
                      
                      
                      $
                      54


The
accompanying notes are an integral part of these consolidated financial
statements.


F-6





PEERLESS
SYSTEMS CORPORATION


NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS





1.  Organization,
Business and Summary of Significant Accounting Policies:





Organization and Business:
Peerless Systems Corporation (“Peerless” or the “Company”) was incorporated in
the state of California in April 1982 and reincorporated in the state of
Delaware in September 1996. Peerless developed and licenses software-based
digital imaging and networking systems and supporting electronic technologies
and provides maintenance and support services to Original Equipment
Manufacturers (“OEMs”) of digital document products located primarily in the
United States and Japan. Digital document products include printers, copiers,
fax machines, scanners and color products, as well as multifunction products
(“MFP”) that perform a combination of these imaging functions. In order to
process digital text and graphics, digital document products rely on a core set
of imaging software and supporting electronics, collectively known as a digital
imaging system. Network interfaces supply the core technologies to digital
document products that enable them to communicate over local area networks and
the Internet.





On
April 30, 2008, the Company consummated the transactions contemplated by
that certain Asset Purchase Agreement, dated as of January 9, 2008, between
Kyocera Mita Corporation (“KMC”) and Peerless, pursuant to which the Company
sold substantially all of its intellectual property (“IP”) to KMC, transferred
to KMC thirty eight (38) of its employees, licensed the IP back from KMC on
a nonexclusive, worldwide, perpetual and royalty free basis subject to certain
restrictions, entered into a sublease pursuant to which the Company is
subleasing to a subsidiary of KMC 16,409 square feet of office space at the
Company’s executive offices for a period of forty (40) months at a monthly
rent equal to the allocable portion of the rent and common charges payable by
the Company under its lease for the property, and terminated substantially all
of the Company’s existing agreements with KMC. As consideration for the sale,
KMC assumed certain of the Company’s liabilities, and paid the Company
approximately $37.0 million, less a holdback amount of $4.0 million
relating to potential indemnification obligations. On January 30, 2009, the
Company terminated its obligations with respect to the property that the Company
had subleased to a KMC subsidiary in connection with the KMC asset
sale.  This property is now being leased directly from the landlord to
a KMC subsidiary.





Liquidity: As of
January 31, 2009, the Company had an accumulated deficit of
$7.9 million; however had cash and cash equivalents of $44.7 million
and net working capital of $46.0 million. The Company has no material
financial commitments other than those under operating lease agreements. The
Company believes that its existing cash and cash equivalents, any cash generated
from operations and cash from the sale of the IP will be sufficient to fund its
working capital requirements, capital expenditures and other obligations through
the next twelve months.





Principles of Consolidation and
Basis of Presentation: The consolidated financial statements include the
accounts of the Company and its subsidiaries. All significant intercompany
accounts and transactions have been eliminated.





Use of Estimates: The
preparation of financial statements in conformity with generally accepted
accounting principles requires management to make estimates and assumptions that
affect the reported amounts of assets and liabilities and disclosure of
contingent assets and liabilities at the date of the financial statements and
the reported amounts of revenues and expenses during the reporting periods.
Actual results could differ from those estimates.


F-7


PEERLESS
SYSTEMS CORPORATION
 NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)


The
Company provides an accrual for estimated product licensing costs owed to third
party vendors whose technology is included in the products sold by the Company.
The accrual is impacted by estimates of the mix of products shipped under
certain of the Company’s block license agreements. The estimates are based on
historical data and available
information as provided by the Company’s customers concerning projected
shipments. Should actual shipments under these agreements vary from these
estimates, adjustments to the estimated accruals for product licensing costs may
be required. In the fourth quarter of fiscal 2008, the Company had a
$0.3 million reduction of product licensing expense due to a change in
estimate. This reduction arose from a settlement of differences arising from a
third party licensing agreement review.  In the first quarter of
fiscal 2010, the Company amended one of its third party license agreements,
resulting in a reduction of the licensing cost owed to third
parties.  See Note 14.





The
Company grants credit terms in the normal course of business to its customers.
The Company continuously monitors collections and payments from its customers
and maintains allowances for doubtful accounts for estimated losses resulting
from the inability of any customers to make required payments. Estimated losses
are based primarily on specifically identified customer collection issues. If
the financial condition of any of the Company’s customers, or the economy as a
whole, were to deteriorate, resulting in an impairment of their ability to make
payments, additional allowances may be required. Actual results have
historically been consistent with management’s estimates.





The
recognition of the Company’s recurring product licensing revenues is dependent,
in part, on the timing and accuracy of product sales reports received from the
Company’s OEM customers. These reports are provided only on a calendar quarter
basis and, in any event, are subject to delay and potential revision by the OEM.
Therefore, the Company is required to estimate all of the recurring product
licensing revenues for the last month of each fiscal quarter and to further
estimate all of its quarterly revenues from an OEM when the report from such OEM
is not received in a timely manner. In the event the Company is unable to
estimate such revenues accurately prior to reporting financial results, the
Company may be required to adjust revenues in subsequent periods. Revenues
subject to such estimates were minimal for fiscal years ending January 31,
2009, 2008 and 2007.





Reclassifications: Certain
2007 and 2008 amounts have been reclassified to conform to 2009
presentation.





Cash and Cash Equivalents:
Cash and cash equivalents represent cash and highly liquid investments, which
mature within three months of purchase.





Fair Value of Financial
Investments: Cash and cash equivalents, accounts receivable, accounts
payable, and accrued liabilities are carried at cost, which management believes
approximates fair value due to the short term maturity of these
instruments.





Property and Equipment:
Property and equipment are stated at cost, less accumulated depreciation.
Depreciation on property and equipment is calculated using the straight-line
method as follows:





Computers
      and other equipment
              
              3
      to 5yearsFurniture
              
              10yearsLeasehold
      improvements
              
              Shorter of useful life or lease term





Maintenance
and repairs are expensed as incurred, while renewals and betterments are
capitalized. Upon the sale or retirement of property and equipment, the accounts
are relieved of the cost and the related accumulated depreciation, and any
resulting gain or loss is included in results of operations.





Long-Lived Assets: The
Company currently evaluates long-lived assets, including intangible assets, for
impairment when events or changes indicate, in management’s judgment, that the
carrying value of such assets may not be recoverable. The determination of
whether an impairment has occurred is based upon management’s estimate of
undiscounted future cash flows attributable to the assets as compared to the
carrying value of the assets. If an impairment has occurred, the amount of the
impairment recognized is determined by estimating the fair value of the assets
and recording a write-down to reduce the related asset to its estimated fair
value.


F-8


PEERLESS
SYSTEMS CORPORATION
 NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)


Capitalization of Software
Development Costs: The Company follows the working model approach to
determine technological feasibility of its products. Costs that are incurred
subsequent to establishing technological feasibility are immaterial and,
therefore, the Company expenses all costs associated with the development of its
products as such costs are incurred.





Revenue Recognition: The
Company recognizes software revenues in accordance with Statement of Position
97-2 “Software Revenue Recognition” as amended by Statement of Position 98-9.
For certain of the Company’s multiple element arrangements that do not directly
involve licensing, selling, leasing or otherwise marketing of the Company’s
software the Company applies the guidance under EITF 00-21 “Revenue Arrangements
with Multiple Deliverables.”





Development
license revenues from the licensing of source code or software development kits
(“SDKs”) for the Company’s standard products are recognized upon delivery to and
acceptance by the customer of the software if no significant modification or
customization of the software is required and collection of the resulting
receivable is probable. If modification or customization is essential to the
functionality of the software, the development license revenues are recognized
over the course of the modification work.





The
Company also enters into engineering services contracts with certain original
equipment manufacturers (“OEMs”) adapting software and supporting
electronics to specific OEM requirements.  The Company provides
engineering support based on a time-and-material basis. Revenues from this
support are recognized as the services are performed. The Company has no
engineering services contracts that are recognized on a percentage-of
completion basis.





Recurring
licensing revenues are derived from per unit fees paid by the Company’s
customers upon manufacturing and subsequent commercial shipment of products
incorporating Peerless technology and certain third party technology, of which
the Company is a sub-licensor. These recurring licensing revenues are recognized
on a per unit basis as products are shipped commercially. The Company sells
block licenses, that is, specific quantities of licensed units that may be
shipped in the future, or the Company may require the customer to pay minimum
royalty commitments. Associated payments are typically made in one lump sum or
extend over a period of four or more quarters. The Company generally recognizes
revenues associated with block licenses and minimum royalty commitments on
delivery and acceptance of software, when collection of the resulting receivable
is probable, when the fee is fixed and determinable, and when the Company has no
significant future obligations. In cases where block licenses or minimum royalty
commitments have extended payment terms and the fees are not fixed and
determinable, revenue is recognized as payments become due. Further, when earned
royalties exceed minimum royalty commitments, revenues are recognized on a per
unit basis as products are shipped commercially.





Perpetual
licensing revenues are derived from fees paid by the Company’s customers to use
the software indefinitely. The Company generally recognizes revenues associated
with perpetual licenses on delivery and acceptance of software, when collection
of the resulting receivable is probable, when the fee is fixed and determinable,
and when the Company has no significant future obligations. Associated payments
are typically made in one lump sum.





For fees
on multiple element software arrangements, values are allocated among the
elements based on vendor specific objective evidence of fair value (“VSOE”). The
Company generally establishes VSOE based upon the price charged when the same
elements are sold separately. When VSOE exists for all undelivered elements, but
not for the delivered elements, revenue is recognized using the “residual
method” as prescribed by Statement of Position 98-9. If VSOE does not exist for
the undelivered elements, all revenue for the arrangement is deferred until the
earlier of the point at which such VSOE does exist for the undelivered elements
or all elements of the arrangement have been delivered, unless the only
undelivered element is a service in which revenue from the delivered element is
recognized over the service period.





Deferred
revenue consists of prepayments of licensing fees, payments billed to customers
in advance of revenue recognized on engineering services or support contracts,
and shipments of controllers that have not been sold to end users. Unbilled
receivables arise when the revenue recognized on engineering support or block
license contracts exceeds billings due to timing differences related to billing
milestones as specified in the contract.


F-9


PEERLESS
SYSTEMS CORPORATION
 NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)


Research and Development
Costs: Research and development costs are generally expensed as incurred.
Costs to purchase software from third-parties for research and development that
have identifiable alternative future uses (in research and development projects
or otherwise) are capitalized and amortized over their expected useful
life.





Advertising Costs:
Advertising costs are expensed as incurred in accordance with Statement of
Position 93-7 “Reporting on Advertising Costs.” Advertising expenses are
recorded in sales and marketing expense and were immaterial to the results of
operations for all periods presented.





Income Taxes: The Company
accounts for income taxes in accordance with SFAS No. 109, “Accounting for
Income Taxes.”





Under
this method, deferred income taxes are recognized for the tax consequences in
future years resulting from differences between the tax bases of assets and
liabilities and their financial reporting amounts at each year-end based on
enacted tax laws and statutory rates applicable to the periods in which the
differences are expected to reverse. Valuation allowances are established, when
necessary, to reduce deferred income tax assets to the amount expected to be
realized. Income tax provision is the tax payable for the period and the change
during the period in net deferred income tax assets and liabilities. In February
of 2007, the Company adopted FASB Interpretation No. 48 “Accounting for
Uncertainty in Income Taxes — and Interpretation of FASB Statement No. 109”
(FIN 48). See Note 7.





Comprehensive Income: In
accordance with SFAS No. 130, “Reporting Comprehensive Income,” all
components of comprehensive income, including net income, are reported in the
financial statements in the period in which they are recognized. Comprehensive
income is defined as the change in equity during a period from transactions and
other events and circumstances from non-owner sources. The Company’s accumulated
other comprehensive income for fiscal years January 31, 2009, 2008 and 2007
consisted of net income and foreign currency translation gains and is reported
in stockholders’ equity.





Earnings Per Share: Basic
earnings per share (“basic EPS”) is computed by dividing net income available to
common stockholders (the numerator) by the weighted average number of common
shares outstanding (the denominator) during the period. The computation of
diluted earnings per share (“diluted EPS”) is similar to the computation of
basic EPS except that the denominator is increased to include the number of
additional common shares that would have been outstanding if dilutive potential
common shares had been issued. Potential common shares include outstanding
options under the Company’s employee stock option plan (which are included under
the treasury stock method) and any outstanding convertible securities. A
reconciliation of basic EPS to diluted EPS is presented in Note 8 to the ConsolidatedFnancial Satements.





Foreign Currency Translation:
The financial statements of the Company’s non-U.S. subsidiary are translated
into U.S. dollars in accordance with SFAS No. 52, “Foreign Currency
Translation.” The assets and liabilities of the Company’s non-U.S. subsidiary
whose “functional” currency is other than the U.S. dollar are translated at
current rates of exchange. Revenue and expense items are translated at the
average exchange rate for the year. The resulting translated adjustments are
recorded directly into accumulated other comprehensive income. Transaction gains
and losses are included in net income in the period they occur. Foreign currency
translation and transaction gains and losses have not been significant in any
period presented.





Recent Accounting
Pronouncements: In December 2007, the FASB issued SFAS No. 141
(revised 2007) (“SFAS No. 141R”),Business Combinations, which
replaces SFAS No. 141 and amends several others. The statement retains the
purchase method of accounting for acquisitions but changes the way we will
recognize assets and liabilities. It also changes the way we will recognize
assets acquired and liabilities assumed arising from contingencies, requires us
to capitalize in-process research and development at fair value, and requires us
to expense acquisition-related costs as incurred. SFAS No. 141R is
effective for the Company on, but not before, February 1, 2009, the
beginning of our fiscal 2010 reporting periods. SFAS No. 141R will apply
prospectively to our business combinations completed on or after
February 1, 2009 and will not require us to adjust or modify how we
recorded any acquisition prior to that date.


F-10




PEERLESS
SYSTEMS CORPORATION


NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)


On
February 1, 2007, the Company adopted FASB Interpretation No. 48
“Accounting for Uncertainty in Income Taxes — an Interpretation of FASB
Statement No. 109” (“FIN 48”). FIN 48 clarifies the accounting and
reporting for uncertainties in income tax law. This Interpretation prescribes a
comprehensive model for the financial statement recognition, measurement,
presentation and disclosure of uncertain tax positions taken or expected to be
taken in income tax returns. The Interpretation requires that the tax effects of
a position be recognized only if it is “more-likely-than-not” to be sustained by
the taxing authority as of the reporting date. If the tax position is not
considered “more-likely-than-not” to be sustained, then no benefits of the
position are to be recognized.  See Note 7.





In
February 2007, the FASB issued SFAS No. 159 (“SFAS 159”), “The Fair
Value Option for Financial Assets and Financial Liabilities”. Under SFAS 159,
companies may elect to measure certain financial instruments and certain other
items at fair value. The standard requires that unrealized gains and losses on
items for which the fair value option has been elected be reported in earnings.
SFAS 159 was effective for us beginning in the first quarter of fiscal 2008 and
the Company did not elect the fair value measurement option for any of its
financial assets or liabilities.   The adoption of SFAS 159 in
the first quarter of fiscal 2009 did not impact our consolidated financial
position, results of operations or cash flows.





In
September 2006, the FASB issued SFAS No. 157 (“SFAS 157”), “Fair Value
Measurements,” which defines fair value, establishes guidelines for measuring
fair value and expands disclosures regarding fair value measurements. SFAS 157
does not require any new fair value measurements but rather eliminates
inconsistencies in guidance found in various prior accounting pronouncements and
is effective for fiscal years beginning after November 15, 2007. In
February 2008, the FASB issued FASB FSP 157-2 which delays the effective
date of SFAS 157 for all nonfinancial assets and nonfinancial liabilities,
except those that are recognized or disclosed at fair value in the financial
statements on a recurring basis (at least annually), until fiscal years
beginning after November 15, 2008, and interim periods within those fiscal
years. These nonfinancial items include assets and liabilities such as reporting
units measured at fair value in a goodwill impairment test and nonfinancial
assets acquired and liabilities assumed in a business combination. Effective
February 1, 2008, the Company adopted SFAS 157 for financial assets and
liabilities recognized at fair value on a recurring basis. The adoption of SFAS
157 for financial assets and liabilities did not have a material impact on our
consolidated financial position, results of operations or cash flows. As of
January 31, 2009, the Company has financial assets that consist of cash and cash
equivalents, which are measured at fair value using quoted prices for the
identical assets in active market (Level 1 fair value hierarchy) in accordance
with SFAS 157.





In May
2008, the FASB issued SFAS No. 162, “The Hierarchy of Generally Accepted
Accounting Principles” (“SFAS No.162”). SFAS No. 162 identifies the sources of
accounting principles and the framework, or hierarchy, for selecting the
accounting principles used in preparing financial statements that are presented
in conformity with U.S. GAAP by nongovernmental entities. This statement is
effective 60 days following the Securities and Exchange Commission’s (“SEC”)
approval of the Public Company Accounting Oversight Board (“PCAOB”) amendments
to AU Section 411, “The Meaning of Present Fairly in Conformity With
Generally Accepted Accounting Principles.” The Company has not completed its
evaluation of the potential impact, if any, of the adoption of SFAS No. 162 on
its consolidated financial position, results of operations and cash
flows.





2.  Sale
of operating assets to KMC





On
April 30, 2008, the Company consummated the transactions contemplated by
that certain Asset Purchase Agreement, dated as of January 9, 2008, between
KMC and the Company, pursuant to which the Company sold substantially all of its
intellectual property (“IP”) to KMC, transferred to KMC thirty-eight
(38) of its employees, licensed the IP back from KMC on a nonexclusive,
worldwide, perpetual and royalty free basis subject to certain restrictions, and
terminated substantially all of the Company’s existing agreements with
KMC.   The Company initially sublet certain property to a
subsidiary of KMC, but this sublicense was later amended so that the property is
being leased directly from the landlord to the KMC subsidiary, and the Company
is no longer a party. As consideration for the sale, KMC assumed approximately
$0.4 million of the Company’s liabilities, paid the Company
$33.0 million and agreed to escrow an additional $4.0 million relating
to potential indemnification obligations that will be released to the Company in
two installments of $2.0 million less any holdbacks arising from the
transaction. The first and second installments from the escrow funds are
scheduled to be disbursed fifteen and twenty-four months, respectively, from the
close of the transaction. The Company recorded a pre-tax gain on the sale of
assets of approximately $32.9 million during the three months ended
April 30, 2008 which does not include the $2.4 million of additional
licensing costs associated with the restructured license agreements with
KMC.  The escrow funds, less any holdbacks, will be recorded as a gain
in the period that the funds are released and all contingencies for the release
of the funds are met.


F-11


PEERLESS
SYSTEMS CORPORATION
 NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)


3.  Stock
Option and Purchase Plan





The
Company has certain plans which provide for the grant of incentive stock options
to employees and non-statutory stock options, restricted stock purchase awards
and stock bonuses to employees, directors and consultants.  The terms of
stock options granted under these plans generally may not exceed 10 years.
 Options granted under these plans vest at the rate specified in each
optionee’s agreement, generally over three or four years.  An aggregate of
6.2 million shares of common stock have been authorized for issuance under
the various option plans.





On
February 1, 2006 the Company adopted the provisions of Statement of
Financial Accounting Standards SFAS No. 123(R) “Share-Based Payments,”
using the modified-prospective method. Under this transition method,
compensation expense recognized subsequent to adoption includes: a) compensation
cost for all share-based payment granted
prior to, but not yet vested as of adoption, based on values estimated in
accordance with the original provisions of SFAS No. 123, and b)
compensation cost of all share-based payments granted subsequent to adoption,
based on the grant-date fair values estimated in accordance with the provisions
of SFAS No. 123(R).





Upon
adoption of SFAS 123(R), the Company changed its method of attributing the value
of stock-based compensation expense from the multiple-option (i.e., accelerated)
approach to the single-option (i.e., straight-line) method. Compensation expense
for share-based awards granted through January 31, 2006 will continue to be
subject to the accelerated or multiple-option method, while compensation expense
for share-based awards granted on or after February 1, 2006 will be
recognized using a straight-line, or single-option method. The Company
recognizes these compensation costs over the service period of the award, which
is generally the option vesting term of three or four years. In determining the
fair value of options granted the Company primarily used the Black-Scholes
model and assumed no dividends per year.  During fiscal 2009, the
Company used a weighted average expected life of 3.73 years, expected
volatility of 62%, and weighted average risk free interest rate of
2.57%.  During fiscal year 2008, the Company used a weighted average
expected life of 4.12 years, expected volatility of 75%, and weighted
average risk free interest rate of 4.46%.  During fiscal year 2007,
the Company used a weighted average expected life of 4.40 years, expected
volatility of 76.7%, and weighted average risk free interest rate of
4.78%.





In fiscal
2009, 2008 and 2007 the Company recorded a total of $1,161,000, $960,000 and
$612,000 respectively in stock option expense related to stock options awarded
after the adoption of SFAS No. 123(R) and for stock options which were not
vested by the date of adoption of SFAS No. 123(R).





The
valuation methodologies and assumptions in estimating the fair value of stock
options that were granted in fiscal 2009 were similar to those used in
estimating the fair value of stock options granted in fiscal 2008. The Company
uses historical volatility of Peerless’ stock price as a basis to determine the
expected volatility assumption to value stock options. The Company used its
actual stock trading history over a period that approximates the expected term
of its options. The expected dividend yield is based on Peerless’ practice of
not paying dividends. The risk-free rate of return is based on the yield of a
U.S. Treasury instrument with terms approximating or equal to the expected life
of the option. The expected life in years is based on historical actual stock
option exercise experience. The Company had historically estimated forfeitures
at the time of grant and the adoption of SFAS No. 123(R) had no material
impact on forfeitures.





1992 Stock Option Plan:
During 1992, the Board of Directors authorized the 1992 Stock Option Plan for
the purpose of granting options to purchase the Company’s common stock to
employees, directors and consultants. The Board of Directors determines the
form, term, option price and conditions under which each option becomes
exercisable. Options to purchase a total of 1,055,000 shares of common stock
have been authorized by the Board under this plan.


F-12




PEERLESS
SYSTEMS CORPORATION


NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)


1996 Incentive Plan: In
May 1996, the Board of Directors adopted the Company’s 1996 Stock Option
Plan. The Company’s 1996 Equity Incentive Plan (the “1996 Incentive Plan”) was
adopted by the Board of Directors in July 1996 as an amendment and
restatement of the Company’s 1996 Plan. At that time, the Board of Directors had
authorized and reserved an aggregate of 1,267,000 shares of common stock for
issuance under the 1996 Incentive Plan. Additional shares of common stock
were authorized and reserved for issuance under the 1996 Incentive Plan in
June 1998, June 1999, June 2001, and June 2003 in the amounts of
1,200,000, 750,000, 750,000, and 700,000 shares, respectively.





2005 Incentive Stock Option
Plan: In June 2005 shareholders approved the Company’s 2005 Equity
Incentive Plan. The Board authorized and reserved 500,000 shares together with
the 289,000 shares remaining under the 1996 Incentive Plan which was terminated
as authorized by the stockholders.





The
2005 Incentive Plan provides for the grant of incentive stock options to
employees and non-statutory stock options, restricted stock purchase awards and
stock bonuses to employees, directors and consultants. The terms of stock
options granted under the Incentive Plan generally may not exceed 10 years.
The exercise price of options granted under the Incentive Plan is determined by
the Board of Directors, provided that the exercise price for an incentive stock
option cannot be less than 100% of the fair market value of the common stock on
the date of the option grant and the exercise price for a non-statutory stock
option cannot be less than 85% of the fair market value of the common stock on
the date of the option grant. Options granted under the Incentive Plan vest at
the rate specified in each optionee’s agreement, which is generally over 1 to
4 years.




The
following represents option activity under the 1992 Stock Option Plan, 1996
Incentive Plan, 2005 Incentive Plan, and certain employee options issued outside
these plans for the years ended January 31:





Weighted AverageWeighted
                
                
                RemainingAverage
                
                
                Contractual
                
                
                AggregateOptions
                
                
                Price
                
                
                Term (Years)
                
                
                Intrinsic Value(In thousands, except per share amounts)Beginning
      outstanding balance at January 31, 2006 January31,
    2005
                
                
                3,310
                
                
                $
                2.47Granted
                
                
                1,356
                
                
                $
                3.79Exercised
                
                
                (262
                )
                
                $
                1.36Canceled
      or expired
                
                
                (220
                )
                
                $
                4.79Balance
      outstanding January31,
    2007
                
                
                4,184
                
                
                $
                2.86Granted
                
                
                508
                
                
                $
                2.38Exercised
                
                
                (354
                )
                
                $
                1.34Canceled
      or expired
                
                
                (665
                )
                
                $
                4.01Balance outstanding
      January 31,
      2008
                
                
                3,673
                
                
                $
                2.73Granted
                
                
                297
                
                
                $
                1.90Exercised
                
                
                (928
                )
                
                $
                1.07Canceled
      or expired
                
                
                (1,994
                )
                
                $
                3.67Balance outstanding
      January 31,
      2009
                
                
                1,048
                
                
                $
                2.26
                
                
                
                6.23
                
                
                $
                232Options exercisable,
      January 31,
      2009
                
                
                743
                
                
                $
                2.23
                
                
                
                5.07
                
                
                $
                232





The
weighted-average grant date fair values of the options granted during the years
ended January 31, 2009, 2008, and 2007 were $0.90, $1.42 and $2.35,
respectively. During the twelve months ended January 31, 2009, the total
intrinsic value of stock options exercised was $821,000. Cash received from
stock option exercises in the twelve months of fiscal 2009 was $993,000. The
excess tax benefit was negligible for the year ended January 31, 2009. As
of January 31, 2009, there was $253,000 of total unrecognized compensation
cost related to nonvested share-based compensation arrangements


granted
under the 1992, 1996 and 2005 plans and certain employee options issued outside
these plans. That cost is expected to be recognized over a weighted-average
period of 4.0 years. The Company issues shares of common stock reserved for
such plans upon the exercise of stock options.


F-13


PEERLESS
SYSTEMS CORPORATION
 NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)




CEO Restricted Stock and Incentive
Stock Option Grant: On September 24, 2007, Richard L. Roll, the
former Chief Executive Officer of the Company, agreed to cancel an option to
purchase 400,000 shares of common stock that was granted to him, which was
scheduled to vest under certain market conditions, in exchange for 200,000
shares of restricted stock. The weighted-average grant date fair value of the
restricted stock was $2.16. As of April 30, 2008 the shares became fully vested
due to the KMC Transaction.





In
addition to the restricted stock, in December 2006 the Board of Directors
approved an equity incentive grant to Mr. Roll of a time-vested option to
purchase 600,000 shares of common stock, which was scheduled to vest over a
four-year period, with 25% vesting on the first anniversary of the effective
date of Mr. Roll’s employment with the Company, and with the remainder vesting
in 36 equal monthly installments, subject to Mr. Roll’s continued employment
with the Company. These options are included in the table and disclosures
above.





Effective
October 1, 2008, Mr. Roll entered into a severance agreement (the “Severance
Agreement”) with the Company, pursuant to which he resigned as Chief Executive
Officer, President and Director of the Company.  Pursuant to the Severance
Agreement, the Company agreed to (i) pay Mr. Roll $250,000, (ii) purchase from
Mr. Roll 200,000 shares of the Company’s common stock and (iii) pay six months
of COBRA premiums for Mr. Roll’s existing health care coverage subject to
certain conditions.  Under the Severance Agreement Mr. Roll is entitled to
exercise any and all vested options he holds within ninety (90) days of October
1, 2008. All unvested options, as of October 1, 2008, were
extinguished on such date.  All of Mr. Roll’s vested options
expired without any of them being exercised.




The
Company’s valuations are based primarily upon the Black-Scholes valuation model
and for options vesting at certain market conditions are based upon a binomial
valuation model. These option valuation models were developed for use in
estimating the fair value of traded-options, which have no vesting restrictions
and are fully transferable and negotiable in a free trading market. In addition,
option valuation models require input of subjective assumptions, including the
expected stock price volatility and expected life of the option. Because the
Company’s stock options have characteristics significantly different from those
of freely traded options, and changes in the subjective input assumptions can
materially affect the Company’s fair value estimates of those options, in the
Company’s opinion, existing valuation models are not reliable single measures
and may misstate the fair value of the Company’s stock options. Because the
Company stock options do not trade on a secondary exchange, recipients can
receive no value nor derive any benefit from holding stock options under the
plans without an increase, above the grant price, in the market price of the
Company’s stock. Such an increase would benefit all stockholders
commensurately.





4.
Property and Equipment:





Property
and equipment at January 31 consisted of the following:




2009
                                  
                                  
                                  2008(In
      thousands)Computers
      and other equipment
                                  
                                  $
                                  895
                                  
                                  
                                  $
                                  9,032Furniture
                                  
                                  
                                  100
                                  
                                  
                                  
                                  526Leasehold
      improvements
                                  
                                  
                                  —
                                  
                                  
                                  
                                  2,379995
                                  
                                  
                                  
                                  11,937Less,
      accumulated depreciation and amortization
                                  
                                  
                                  (949
                                  )
                                  
                                  
                                  (11,604
                                  )$
                                  46
                                  
                                  
                                  $
                                  333





Property
and equipment depreciation and amortization for the years ended January 31,
2009, 2008, and 2007 was, $266,000, $468,000, and $563,000,
respectively.


F-14




PEERLESS
SYSTEMS CORPORATION


NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)




5.
Other Current Liabilities





Other
current liabilities at January 31 consisted of the following:




2009
                                  
                                  
                                  2008(In
      thousands)Professional
      Service Fees
                                  
                                  $
                                  150
                                  
                                  
                                  $
                                  685Restructuring
      Charges
                                  
                                  
                                  217
                                  
                                  
                                  
                                  —Other
                                  
                                  
                                  138
                                  
                                  
                                  
                                  100Total
      other current liabilities
                                  
                                  $
                                  505
                                  
                                  
                                  $
                                  785




6.
Deferred Revenues:





The
Company may bill or receive payments from its customers for fees associated with
product licensing, engineering services, or maintenance agreements in advance of
the Company’s completion of its contractual obligations. Such billings or
payments, in accordance with the Company’s revenue recognition policies, are
deferred, and are recognized as revenue when the Company has performed its
contractual obligations related to the billings or payments.





Deferred
revenues consisted of the following at January 31:




2009
                            
                            
                            2008(In
      thousands)Product
      licensing
                            
                            $
                            250
                            
                            
                            $
                            270Engineering
      services and maintenance
                            
                            
                            456
                            
                            
                            
                            644$
                            706
                            
                            
                            $
                            914


F-15




PEERLESS
SYSTEMS CORPORATION


NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)


7.
Income Taxes:





The
income tax provision for the years ended January 31 consisted
of:





2009
                                          
                                          
                                          2008
                                          
                                          
                                          2007(In
      thousands)Current:Federal
                                          
                                          $
                                          1,030
                                          
                                          
                                          $
                                          —
                                          
                                          
                                          $
                                          —State
                                          
                                          
                                          1,016
                                          
                                          
                                          
                                          18
                                          
                                          
                                          
                                          14Foreign
                                          
                                          
                                          4
                                          
                                          
                                          
                                          9
                                          
                                          
                                          
                                          9$
                                          2,050
                                          
                                          
                                          $
                                          27
                                          
                                          
                                          $
                                          23Deferred:Federal
                                          
                                          $
                                          6,899
                                          
                                          
                                          $
                                          1,647
                                          
                                          
                                          $
                                          (307
                                          )State
                                          
                                          
                                          566
                                          
                                          
                                          
                                          (557
                                          )
                                          
                                          
                                          477,465
                                          
                                          
                                          
                                          1,090
                                          
                                          
                                          
                                          (260
                                          )Less:
      Change in Valuation Allowance
                                          
                                          
                                          (3,591
                                          )
                                          
                                          
                                          (6,086
                                          )
                                          
                                          
                                          260Income
      Tax Provision
                                          
                                          $
                                          5,924
                                          
                                          
                                          $
                                          (4,969
                                          )
                                          
                                          $
                                          23





Temporary
differences for the years ended January31, consisted
of:





2009
                                                                    
                                                                    
                                                                    2008(In
      thousands)Deferred
      tax assets:Net
      operating loss carryforwards
                                                                    
                                                                    $
                                                                    —
                                                                    
                                                                    
                                                                    $
                                                                    —Accrued
      liabilities
                                                                    
                                                                    
                                                                    65
                                                                    
                                                                    
                                                                    
                                                                    308Allowance
      for doubtful accounts
                                                                    
                                                                    
                                                                    33
                                                                    
                                                                    
                                                                    
                                                                    3Property
      and equipment
                                                                    
                                                                    
                                                                    770
                                                                    
                                                                    
                                                                    
                                                                    810Deferred
      expenses
                                                                    
                                                                    
                                                                    973
                                                                    
                                                                    
                                                                    
                                                                    224Deferred
      Tax Asset — FAS
      123R
                                                                    
                                                                    
                                                                    414
                                                                    
                                                                    
                                                                    
                                                                    195Tax
      credit carryforwards
                                                                    
                                                                    
                                                                    3,458
                                                                    
                                                                    
                                                                    
                                                                    10,185State
      income taxes
                                                                    
                                                                    
                                                                    355
                                                                    
                                                                    
                                                                    
                                                                    3Other
                                                                    
                                                                    
                                                                    28
                                                                    
                                                                    
                                                                    
                                                                    308Total
      deferred tax assets
                                                                    
                                                                    
                                                                    6,096
                                                                    
                                                                    
                                                                    
                                                                    12,036Deferred
      tax liabilities:—
                                                                    
                                                                    
                                                                    
                                                                    —Subtotal
                                                                    
                                                                    
                                                                    6,096
                                                                    
                                                                    
                                                                    
                                                                    12,036Valuation
      allowance
                                                                    
                                                                    
                                                                    (3,423
                                                                    )
                                                                    
                                                                    
                                                                    (7,014
                                                                    )Net
      deferred income tax asset
                                                                    
                                                                    $
                                                                    2,673
                                                                    
                                                                    
                                                                    $
                                                                    5,022




F-16


PEERLESS
SYSTEMS CORPORATION
 NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)


The
provision (benefit) for income taxes for the years ended January 31,
differed from the amount that would result from applying the federal statutory
rate as follows:




2009
                          
                          
                          2008
                          
                          
                          2007Statutory
      federal income tax rate
                          
                          
                          35.0
                          %
                          
                          
                          34.0
                          %
                          
                          
                          34.0
                          %State
      tax
                          
                          
                          5.1
                          
                          
                          
                          5.2
                          
                          
                          
                          4.6Foreign
      provision
                          
                          
                          —
                          
                          
                          
                          0.2
                          
                          
                          
                          0.3Research
      & development credits
                          
                          
                          (0.8
                          )
                          
                          
                          (25.4
                          )
                          
                          
                          —Stock
      based compensation
                          
                          
                          0.4
                          
                          
                          
                          4.8
                          
                          
                          
                          —Other
                          
                          
                          0.7
                          
                          
                          
                          0.8
                          
                          
                          
                          (2.2
                          )Change
      in valuation allowance
                          
                          
                          (15.3
                          )
                          
                          
                          (106.6
                          )
                          
                          
                          (36.0
                          )Provision
      (benefit) for income taxes
                          
                          
                          25.1
                          %
                          
                          
                          (87.0
                          )%
                          
                          
                          0.7
                          %





As of
January 31, 2009, the Company had tax credit carryforwards available to
reduce future income tax liabilities of approximately $5.5 million which
will begin to expire in fiscal year 2011. Utilization of the tax carryforwards
will be subject to an annual limitation if a change in the Company’s ownership
should occur as defined by Section 382 and Section 383 of the Internal
Revenue Code.





On
February 1, 2007, the Company adopted FIN 48. FIN 48 clarifies the
accounting and reporting for uncertainties in income tax law. This
Interpretation prescribes a comprehensive model for the financial statement
recognition, measurement, presentation and disclosure of uncertain tax positions
taken or expected to be taken in income tax returns. The Interpretation requires
that the tax effects of a position be recognized only if it is
“more-likely-than-not” to be sustained by the taxing authority as of the
reporting date. If the tax position is not considered “more-likely-than-not” to
be sustained, then no benefits of the position are to be
recognized.





There was
no cumulative effect of adopting FIN 48 to the February 1, 2007 retained
earnings balance. On the date of adoption, the Company had $2.0 million of
unrecognized tax benefits, all of which would reduce its effective tax rate if
recognized. A reconciliation of the beginning and ending amount of unrecognized
tax benefits is as follows:





(In
      thousands)Balance
      at February 1, 2008
                            
                            $
                            2,781Additions
      based on tax positions related to current year
                            
                            
                            —Subtractions
      for tax positions of prior years
                            
                            
                            (387
                            )Balance
      at January 31, 2009
                            
                            $
                            2,394





The net
amount of $2.4 million, if recognized, would favorably affect the company’s
effective tax rate. The Company does not anticipate a significant change to the
total amount of unrecognized tax benefits within the next
12 months.





Interest
and penalties related to income tax liabilities is included in pre-tax income.
The Company’s January 31, 2006 through January 31, 2008 tax returns
remain open to examination by the tax authorities.





In
assessing the realizability of deferred tax assets, the Company considers
whether it is more likely than not that some portion or all of the deferred tax
assets will not be realized. The ultimate realization of deferred tax assets is
dependent upon the generation of future taxable income or reversal of deferred
tax liabilities during the periods in which those temporary differences become
deductible. The Company considers the scheduled reversal of deferred tax
liabilities, projected future taxable income, and tax planning strategies in
making this assessment. The Company believes it is more likely than not that
certain foreign deferred tax assets will not be realized and has maintained a
valuation allowance of $3.4 million at January 31, 2009. For the
2009 fiscal year, the valuation allowances were adjusted for the expected
realization of timing differences during fiscal year 2010.  For fiscal
2008, the valuation allowances were reduced for the deferred tax assets utilized
on the gain on the 2009 KMC transaction.  For fiscal 2007 the
allowances were reduced for the utilization of deferred tax assets during that
year.


F-17




PEERLESS
SYSTEMS CORPORATION
 NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)


8.
Earnings Per Share:





Earnings
per share for the years ended January 31, is calculated as
follows:





2009
                    
                    
                    2008
                    
                    
                    2007Per
                    
                    
                    
                    
                    
                    
                    
                    
                    Per
                    
                    
                    
                    
                    
                    
                    
                    
                    PerNet
                    
                    
                    
                    
                    
                    Share
                    
                    
                    Net
                    
                    
                    
                    
                    
                    Share
                    
                    
                    Net
                    
                    
                    
                    
                    
                    ShareIncome
                    
                    
                    Shares
                    
                    
                    Amount
                    
                    
                    Income
                    
                    
                    Shares
                    
                    
                    Amount
                    
                    
                    Income
                    
                    
                    Shares
                    
                    
                    Amount(In
      thousands, except per share amounts)Basic
      EPSEarnings
      available to common stockholders
                    
                    $
                    17,619
                    
                    
                    
                    17,719
                    
                    
                    $
                    0.99
                    
                    
                    $
                    10,147
                    
                    
                    
                    17,321
                    
                    
                    $
                    0.59
                    
                    
                    $
                    3,286
                    
                    
                    
                    17,100
                    
                    
                    $
                    0.19Effect
      of Dilutive SecuritiesOptions
                    
                    
                    —
                    
                    
                    
                    353
                    
                    
                    
                    —
                    
                    
                    
                    —
                    
                    
                    
                    833
                    
                    
                    
                    —
                    
                    
                    
                    —
                    
                    
                    
                    1,812
                    
                    
                    
                    —Diluted
      EPSEarnings
      available to common stockholders with assumed conversions
                    
                    $
                    17,619
                    
                    
                    
                    18,082
                    
                    
                    $
                    0.97
                    
                    
                    $
                    10,147
                    
                    
                    
                    18,154
                    
                    
                    $
                    0.56
                    
                    
                    $
                    3,286
                    
                    
                    
                    18,912
                    
                    
                    $
                    0.17





The
Company had 352,000  1,841,000, and 472,000 common stock options
that are not included in the calculation of diluted earnings per share in fiscal
years 2009, 2008, and 2007, respectively. These common stock options were not
included because the effects are anti-dilutive.





9.
Restructuring:





In
connection with the sale of the IP to KMC, the Company formalized a plan
directed at reducing operating costs. The plan focused primarily on operational
and organizational structures, facilities utilization, and certain other
matters. As a result of the plan, the Company recorded approximately $3.3
million of restructuring charges during the twelve months ended January 31,
2009, of which $2.1 million related to exiting facilities, including lease
terminations,  $1.1 million related to employee severance costs,
and $0.1 million related to asset impairments.




A summary
of the activities related to these restructuring liabilities is as
follows:





Severance
                
                
                Facilities(In
      thousands)Balance
      at February 1, 2008
                
                $
                —
                
                
                $
                —Restructuring
      Charges
                
                
                1,103
                
                
                
                2,091Payments
                
                
                (906
                )
                
                
                (2,071
                )Balance
      at January 31, 2009
                
                $
                197
                
                
                $
                20




F-18


PEERLESS
SYSTEMS CORPORATION
 NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)









10.
Employee Savings Plan:





The
Company maintains an employee savings plan that qualifies under Section 401(k)
of the Internal Revenue Code (the “Code”) for all of the Peerless full-time
employees. The plan allows employees to make specified percentage pretax
contributions up to the maximum dollar limitation prescribed by the Code. The
Company has the option to contribute to the plan up to a maximum of $2,000 per
employee per year. Company contributions to the plan during the years ended
January 31, 2009, 2008, and 2007 were $105,000, $66,000, and $193,000,
respectively.





11.
Segment Reporting:





The
Company operates in one reportable business segment, Imaging. Peerless provides
software-based digital imaging and networking technology for digital document
products and provides directory and management software for networked storage
devices and integrates proprietary software into enterprise networks of original
equipment manufacturers.





The
Company’s long-lived assets are located principally in the United States. The
Company’s revenues for the years ended January 31, which are transacted in
U.S. dollars, are derived based on sales to customers in the following
geographic regions:




Years
      Ended January 31,2009
                            
                            
                            2008
                            
                            
                            2007(In
      thousands)United
      States
                            
                            $
                            2,141
                            
                            
                            $
                            2,894
                            
                            
                            $
                            3,055Japan
                            
                            
                            8,265
                            
                            
                            
                            25,535
                            
                            
                            
                            30,309Other
                            
                            
                            —
                            
                            
                            
                            14
                            
                            
                            
                            19$
                            10,406
                            
                            
                            $
                            28,443
                            
                            
                            $
                            33,383





12.
Commitments:





Operating Leases: The Company subleases its
offices and certain operating equipment under operating leases that expire in
fiscal year 2012. Future minimum rental payments under long-term operating
leases for the years ending January 31 are as follows:





Operating(In
      thousands)
                            
                            Leases2010
                            
                            $
                            492011
                            
                            
                            532012
                            
                            
                            62013
                            
                            
                            —2014
                            
                            
                            —Thereafter
                            
                            
                            —$
                            108




Total
rental expense, net of sublease income, was $956,000, $1,494,000, and $1,431,000
for the years ended January 31, 2009, 2008, and 2007,
respectively.





On
January 30, 2009, the company terminated its lease to certain properties in El
Segundo, California.  This lease had more than 7 years remaining on
its term.  As consideration, the Company agreed to pay the landlord a
termination fee of approximately $2.4 million and to forfeit its security
deposit in the amount of $110,000.   In addition, the Company
terminated its obligations with respect to the property that the Company had
subleased to a KMC subsidiary.  This property is now being leased
directly from the landlord to a KMC subsidiary.  An additional $0.3
million was paid to terminate a subsidiary’s leased  properties in
Kent, Washington.


F-19


PEERLESS
SYSTEMS CORPORATION
 NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)


Purchase Orders: The Company
has outstanding purchase orders of approximately $6,000 for materials and
services at the end of fiscal year 2009.




13.
Risks and Uncertainties:




Concentration of Credit
Risk: The Company had cash and certificates of deposit on deposit at
banks at certain times throughout the year that was in excess of federally
insured limits.





The
Company’s credit risk in accounts receivable (trade and unbilled), which are
generally not collateralized, is concentrated with customers which are OEMs of
laser printers and printer peripheral technologies. The financial loss, should a
customer be unable to meet its obligation to the Company, would be equal to the
recorded accounts receivable. At January 31, 2009, four customers
collectively represented 92% of total accounts receivable and at
January 31, 2008, four customers collectively represented 95%. For the
years ended January 31 the following customers, not necessarily the same
from year to year, represented greater than ten percent of total
revenues:





2009
                                
                                
                                2008
                                
                                
                                2007(In
      thousands)Customer
      A
                                
                                $
                                3,245
                                
                                
                                
                                32
                                %
                                
                                $
                                13,830
                                
                                
                                49
                                %
                                
                                $
                                15,766
                                
                                
                                47
                                %Customer
      B
                                
                                
                                2,399
                                
                                
                                
                                23
                                %
                                
                                
                                4,894
                                
                                
                                17
                                %
                                
                                
                                7,654
                                
                                
                                23
                                %Customer
      C
                                
                                
                                2,120
                                
                                
                                
                                20
                                %
                                
                                
                                —
                                
                                
                                —
                                
                                
                                
                                —
                                
                                
                                —Customer
      D
                                
                                
                                1,322
                                
                                
                                
                                13
                                %
                                
                                
                                —
                                
                                
                                —
                                
                                
                                
                                —
                                
                                
                                —
                                %$
                                9,086
                                
                                
                                
                                87
                                %
                                
                                $
                                18,724
                                
                                
                                66
                                %
                                
                                $
                                23,420
                                
                                
                                70
                                %




A
significant portion of the Company’s revenue is generated from the sale of block
licenses. Block license revenue represented 45%, 50%, and 50% of total revenue
for the fiscal years 2009, 2008, and 2007.





Litigation: The Company is
involved from time to time in various claims and legal actions incident to its
operations, either as plaintiff or defendant. In the opinion of management,
after consulting with legal counsel, no claims are currently expected to have a
material adverse effect on the Company’s financial position, operating results,
or cash flows.





14.
Subsequent Event:





During
the quarter ended April 30, 2009 the Company entered into an agreement amending
a third party technology license agreement.  This agreement reduces
the liability for technologies licensed by the Company to a
customer.  As a result of this amendment entered into subsequent to
January 31, 2009 the Company reduced the liability for third party licensing
costs by approximately $2.7 million.




SCHEDULE
II — VALUATION AND QUALIFYING ACCOUNTS




AdditionsBalance
      at
                
                Charged
      to
                
                
                
                
                
                Balance
      atBeginning
                
                Costs
      and
                
                
                
                
                
                End
      ofAllowances
      for uncollectible accounts receivable:
                
                of
      Period
                
                Expenses
                
                Deductions(a)
                
                Period(In
      thousands)Year
      Ended January 31, 2007Reserves
      deducted from assets to which they apply:Allowances
      for uncollectible accounts receivable
                
                $
                168
                
                
                $
                19
                
                
                $
                (168
                )
                
                $
                19Year
      Ended January 31, 2008Reserves
      deducted from assets to which they apply:Allowances
      for uncollectible accounts receivable
                
                $
                19
                
                
                $
                7
                
                
                $
                (19
                )
                
                $
                7Year
      Ended January 31, 2009Reserves
      deducted from assets to which they apply:Allowances
      for uncollectible accounts receivable
                
                $
                7
                
                
                $
                75
                
                
                $
                —
                
                
                $
                82




(a)
              
              Accounts
      written off, net of
recoveries.


F-20