Switch to color systems lifts Peerless shares from doldrums.

AFTER years of struggle, Peerless Systems Corp. is finally edging its way out of penny stock territory with a 317 percent jump in its share price.

Shares of the El Segundo-based digital imaging company, hit a high of $5.23 a share last week, up from $1.25 a year ago.

Howard Nellor, Peerless' president and chief executive, admits that the past three years have been "a tough mountain to climb."

For years, Peerless created technologies that are embedded in black-and-white office printers and copiers. But the growth in digital photography has caused a surge in demand for printers with high-speed color resolution. That, in turn, required new technologies to interpret commands for printer applications involving high-speed color--a far more complex process.

"I rallied the troops around, we spent $20 million on the technology, and now original equipment manufacturers are saying they want to talk to us more about what we're doing," said Nellor. "It makes life a lot easier for us, instead of pounding on doors. That's the kind of change we're seeing."

Evidence that its technologies are working came in March, when Japanese equipment maker Kyocera-Mita signed a three-year, $24 million engineering services agreement to incorporate Peerless' technologies into its printers and copiers. Under the agreement, Peerless will receive payments valued at $2 million per quarter and is eligible for performance bonuses and license fees.

David Lavigne, a principal at microcap research firm Edgewater Research Partners LLC, said some shareholders were bothered at how long it took the company to create new technologies for the color printing market.

"They spent a lot of time, money and effort--to the dismay of shareholders--and it made a lot of people mad for a long time," said Lavigne, who recently picked up coverage of Peerless with a price target of $8 a share.

Controlling volatility

In its switch to color printing, Peerless had to create new technologies that could deliver high resolution color at speeds in excess of 40 pages per minute. After years of investments, Peerless now delivers at speeds above 100 pages per minute, and it expects to get more design "wins" to put its technology in other OEMs.

Nellor's challenge going forward will be to reign in the company's volatile financial performance, since it has reported losses in six of the past 10 quarters. It has become profitable in its fiscal first and second quarters of 2006.

It reported second-quarter net income for the period ended April 30 of $414,000, compared with a net loss of $4.1 million for the like period a year earlier. Fiscal second-quarter revenues rose 107 percent to $7.2 million, up from $3.5 million a year earlier.

The company raised its fiscal 2006 revenue guidance to between $32 million and $36 million, and now expects full-year net income to exceed $2 million, up from a previous estimate of $1 million.

Lavigne said he thinks Peerless has gained some traction because of the way its products are now being priced. The company plans on selling turnkey systems rather than individual products, with an emphasis on middle-tier manufacturers like Konica Minolta, Ricoh Corp., Seiko Epson Corp. and Matsushita Electric Industrial Co. The first products with new Peerless technologies will enter commercial markets in the next fiscal year.

Nellor, an engineer who received an MBA from Pepperdine University, has plenty of experience building large-scale projects from his years at TRW's .Defense and Space Systems Group. He has hopes of capturing 25 percent market share, or $100 million of the $400 million market, in the next three to four years for high-speed color imaging technologies.

Peerless faces several competitors including Zoran Corp., based in Sunnyvale, and Electronics for Imaging Inc., based in Foster City.

The company's largest shareholders include the State of Wisconsin Investment Board, with an 11.7 percent stake, and Marathon Capital Management, with 9.8 percent.

Staff reporter Kate Berry can be reached at [phone], ext. 228, or at [e-mail].

Peerless Systems Corp.

[GRAPHICS OMITTED]

YEAR (Jan. 31)                2005     2004

Revenue (millions)           $23.1    $25.3
Total Expenses (millions)     28.8     31.0
Operating Loss (millions)    (5.7)    (5.8)
Net Loss (millions)          (5.8)    (4.9)
Loss Per Share              ($.37)   ($.31)

SUMMARY

Business: Software-based imaging systems
Headquarters: El Segundo
CEO: Howard Nellor
Market Cap: $87 million Dividend Yield: N/A
Total Liabilities: $6.5 million P/E Ratio: N/A
Long-Term Debt: $0