diff --git a/Android.mk b/Android.mk
index 67563a9..fcde4f5 100644
--- a/Android.mk
+++ b/Android.mk
@@ -628,6 +628,7 @@
     payload_generator/block_mapping.cc \
     payload_generator/bzip.cc \
     payload_generator/cycle_breaker.cc \
+    payload_generator/deflate_utils.cc \
     payload_generator/delta_diff_generator.cc \
     payload_generator/delta_diff_utils.cc \
     payload_generator/ext2_filesystem.cc \
@@ -940,6 +941,7 @@
     payload_generator/blob_file_writer_unittest.cc \
     payload_generator/block_mapping_unittest.cc \
     payload_generator/cycle_breaker_unittest.cc \
+    payload_generator/deflate_utils_unittest.cc \
     payload_generator/delta_diff_utils_unittest.cc \
     payload_generator/ext2_filesystem_unittest.cc \
     payload_generator/extent_ranges_unittest.cc \
diff --git a/payload_generator/deflate_utils.cc b/payload_generator/deflate_utils.cc
new file mode 100644
index 0000000..9dd3fa4
--- /dev/null
+++ b/payload_generator/deflate_utils.cc
@@ -0,0 +1,178 @@
+//
+// Copyright (C) 2017 The Android Open Source Project
+//
+// Licensed under the Apache License, Version 2.0 (the "License");
+// you may not use this file except in compliance with the License.
+// You may obtain a copy of the License at
+//
+//      http://www.apache.org/licenses/LICENSE-2.0
+//
+// Unless required by applicable law or agreed to in writing, software
+// distributed under the License is distributed on an "AS IS" BASIS,
+// WITHOUT WARRANTIES OR CONDITIONS OF ANY KIND, either express or implied.
+// See the License for the specific language governing permissions and
+// limitations under the License.
+//
+
+#include "update_engine/payload_generator/deflate_utils.h"
+
+#include <algorithm>
+#include <string>
+#include <utility>
+
+#include <base/files/file_util.h>
+#include <base/logging.h>
+#include <base/strings/string_util.h>
+
+#include "update_engine/common/utils.h"
+#include "update_engine/payload_generator/delta_diff_generator.h"
+#include "update_engine/payload_generator/extent_ranges.h"
+#include "update_engine/payload_generator/extent_utils.h"
+#include "update_engine/payload_generator/squashfs_filesystem.h"
+#include "update_engine/update_metadata.pb.h"
+
+using std::string;
+using std::vector;
+
+namespace chromeos_update_engine {
+namespace deflate_utils {
+namespace {
+
+// The minimum size for a squashfs image to be processed.
+const uint64_t kMinimumSquashfsImageSize = 1 * 1024 * 1024;  // bytes
+
+// TODO(*): Optimize this so we don't have to read all extents into memory in
+// case it is large.
+bool CopyExtentsToFile(const string& in_path,
+                       const vector<Extent> extents,
+                       const string& out_path,
+                       size_t block_size) {
+  brillo::Blob data(BlocksInExtents(extents) * block_size);
+  TEST_AND_RETURN_FALSE(
+      utils::ReadExtents(in_path, extents, &data, data.size(), block_size));
+  TEST_AND_RETURN_FALSE(
+      utils::WriteFile(out_path.c_str(), data.data(), data.size()));
+  return true;
+}
+
+bool IsSquashfsImage(const string& part_path,
+                     const FilesystemInterface::File& file) {
+  // Only check for files with img postfix.
+  if (base::EndsWith(file.name, ".img", base::CompareCase::SENSITIVE) &&
+      BlocksInExtents(file.extents) >= kMinimumSquashfsImageSize / kBlockSize) {
+    brillo::Blob super_block;
+    TEST_AND_RETURN_FALSE(
+        utils::ReadFileChunk(part_path,
+                             file.extents[0].start_block() * kBlockSize,
+                             100,
+                             &super_block));
+    return SquashfsFilesystem::IsSquashfsImage(super_block);
+  }
+  return false;
+}
+
+// Realigns subfiles |files| of a splitted file |file| into its correct
+// positions. This can be used for squashfs, zip, apk, etc.
+bool RealignSplittedFiles(const FilesystemInterface::File& file,
+                          vector<FilesystemInterface::File>* files) {
+  // We have to shift all the Extents in |files|, based on the Extents of the
+  // |file| itself.
+  size_t num_blocks = 0;
+  for (auto& in_file : *files) {  // We need to modify so no constant.
+    TEST_AND_RETURN_FALSE(
+        ShiftExtentsOverExtents(file.extents, &in_file.extents));
+    in_file.name = file.name + "/" + in_file.name;
+    num_blocks += BlocksInExtents(in_file.extents);
+  }
+
+  // Check that all files in |in_files| cover the entire image.
+  TEST_AND_RETURN_FALSE(BlocksInExtents(file.extents) == num_blocks);
+  return true;
+}
+
+}  // namespace
+
+bool ShiftExtentsOverExtents(const vector<Extent>& base_extents,
+                             vector<Extent>* over_extents) {
+  if (BlocksInExtents(base_extents) < BlocksInExtents(*over_extents)) {
+    LOG(ERROR) << "over_extents have more blocks than base_extents! Invalid!";
+    return false;
+  }
+  for (size_t idx = 0; idx < over_extents->size(); idx++) {
+    auto over_ext = &over_extents->at(idx);
+    auto gap_blocks = base_extents[0].start_block();
+    auto last_end_block = base_extents[0].start_block();
+    for (auto base_ext : base_extents) {  // We need to modify |base_ext|, so we
+                                          // use copy.
+      gap_blocks += base_ext.start_block() - last_end_block;
+      last_end_block = base_ext.start_block() + base_ext.num_blocks();
+      base_ext.set_start_block(base_ext.start_block() - gap_blocks);
+      if (over_ext->start_block() >= base_ext.start_block() &&
+          over_ext->start_block() <
+              base_ext.start_block() + base_ext.num_blocks()) {
+        if (over_ext->start_block() + over_ext->num_blocks() <=
+            base_ext.start_block() + base_ext.num_blocks()) {
+          // |over_ext| is inside |base_ext|, increase its start block.
+          over_ext->set_start_block(over_ext->start_block() + gap_blocks);
+        } else {
+          // |over_ext| spills over this |base_ext|, split it into two.
+          auto new_blocks = base_ext.start_block() + base_ext.num_blocks() -
+                            over_ext->start_block();
+          vector<Extent> new_extents = {
+              ExtentForRange(gap_blocks + over_ext->start_block(), new_blocks),
+              ExtentForRange(over_ext->start_block() + new_blocks,
+                             over_ext->num_blocks() - new_blocks)};
+          *over_ext = new_extents[0];
+          over_extents->insert(std::next(over_extents->begin(), idx + 1),
+                               new_extents[1]);
+        }
+        break;  // We processed |over_ext|, so break the loop;
+      }
+    }
+  }
+  return true;
+}
+
+bool PreprocessParitionFiles(const PartitionConfig& part,
+                             vector<FilesystemInterface::File>* result_files) {
+  // Get the file system files.
+  vector<FilesystemInterface::File> tmp_files;
+  part.fs_interface->GetFiles(&tmp_files);
+  result_files->reserve(tmp_files.size());
+
+  for (const auto& file : tmp_files) {
+    if (IsSquashfsImage(part.path, file)) {
+      // Read the image into a file.
+      base::FilePath path;
+      TEST_AND_RETURN_FALSE(base::CreateTemporaryFile(&path));
+      ScopedPathUnlinker old_unlinker(path.value());
+      TEST_AND_RETURN_FALSE(
+          CopyExtentsToFile(part.path, file.extents, path.value(), kBlockSize));
+      // Test if it is actually a Squashfs file.
+      auto sqfs = SquashfsFilesystem::CreateFromFile(path.value());
+      if (sqfs) {
+        // It is an squashfs file. Get its files to replace with itself.
+        vector<FilesystemInterface::File> files;
+        sqfs->GetFiles(&files);
+
+        // Replace squashfs file with its files only if |files| has at
+        // least two files.
+        if (files.size() > 1) {
+          TEST_AND_RETURN_FALSE(RealignSplittedFiles(file, &files));
+          result_files->insert(result_files->end(), files.begin(), files.end());
+          continue;
+        }
+      } else {
+        LOG(WARNING) << "We thought file: " << file.name
+                     << " was a Squashfs file, but it was not.";
+      }
+    }
+    // TODO(ahassani): Process other types of files like apk, zip, etc.
+    result_files->push_back(file);
+  }
+
+  return true;
+}
+
+}  // namespace deflate_utils
+}  // namespace chromeos_update_engine
diff --git a/payload_generator/deflate_utils.h b/payload_generator/deflate_utils.h
new file mode 100644
index 0000000..31082c3
--- /dev/null
+++ b/payload_generator/deflate_utils.h
@@ -0,0 +1,49 @@
+//
+// Copyright (C) 2017 The Android Open Source Project
+//
+// Licensed under the Apache License, Version 2.0 (the "License");
+// you may not use this file except in compliance with the License.
+// You may obtain a copy of the License at
+//
+//      http://www.apache.org/licenses/LICENSE-2.0
+//
+// Unless required by applicable law or agreed to in writing, software
+// distributed under the License is distributed on an "AS IS" BASIS,
+// WITHOUT WARRANTIES OR CONDITIONS OF ANY KIND, either express or implied.
+// See the License for the specific language governing permissions and
+// limitations under the License.
+//
+
+#ifndef UPDATE_ENGINE_PAYLOAD_GENERATOR_DEFLATE_UTILS_H_
+#define UPDATE_ENGINE_PAYLOAD_GENERATOR_DEFLATE_UTILS_H_
+
+#include <vector>
+
+#include "update_engine/payload_generator/filesystem_interface.h"
+#include "update_engine/payload_generator/payload_generation_config.h"
+
+namespace chromeos_update_engine {
+namespace deflate_utils {
+
+// Spreads all extents in |over_extents| over |base_extents|. Here we assume the
+// extents are non-overlapping.
+//
+// |base_extents|:
+// |               -----------------------        ------         --------------
+// |over_extents|:
+// |  ==========  ====    ==========  ======
+// |over_extents| is transforms to:
+// |                 ==========  ====    =        ======         ===  ======
+//
+bool ShiftExtentsOverExtents(const std::vector<Extent>& base_extents,
+                             std::vector<Extent>* over_extents);
+
+// Gets the files from the partition and processes all its files. Processing
+// includes:
+//  - splitting large Squashfs containers into its smaller files.
+bool PreprocessParitionFiles(const PartitionConfig& part,
+                             std::vector<FilesystemInterface::File>* result);
+
+}  // namespace deflate_utils
+}  // namespace chromeos_update_engine
+#endif  // UPDATE_ENGINE_PAYLOAD_GENERATOR_DEFLATE_UTILS_H_
diff --git a/payload_generator/deflate_utils_unittest.cc b/payload_generator/deflate_utils_unittest.cc
new file mode 100644
index 0000000..8774ef0
--- /dev/null
+++ b/payload_generator/deflate_utils_unittest.cc
@@ -0,0 +1,68 @@
+//
+// Copyright (C) 2017 The Android Open Source Project
+//
+// Licensed under the Apache License, Version 2.0 (the "License");
+// you may not use this file except in compliance with the License.
+// You may obtain a copy of the License at
+//
+//      http://www.apache.org/licenses/LICENSE-2.0
+//
+// Unless required by applicable law or agreed to in writing, software
+// distributed under the License is distributed on an "AS IS" BASIS,
+// WITHOUT WARRANTIES OR CONDITIONS OF ANY KIND, either express or implied.
+// See the License for the specific language governing permissions and
+// limitations under the License.
+//
+
+#include "update_engine/payload_generator/deflate_utils.h"
+
+#include <unistd.h>
+
+#include <algorithm>
+#include <utility>
+#include <vector>
+
+#include <gtest/gtest.h>
+
+#include "update_engine/common/test_utils.h"
+#include "update_engine/common/utils.h"
+#include "update_engine/payload_generator/extent_ranges.h"
+#include "update_engine/payload_generator/extent_utils.h"
+
+using std::vector;
+
+namespace chromeos_update_engine {
+namespace deflate_utils {
+
+TEST(DeflateUtilsTest, ExtentsShiftTest) {
+  vector<Extent> base_extents = {ExtentForRange(10, 10),
+                                 ExtentForRange(30, 10),
+                                 ExtentForRange(50, 10),
+                                 ExtentForRange(70, 10),
+                                 ExtentForRange(90, 10)};
+  vector<Extent> over_extents = {ExtentForRange(2, 2),
+                                 ExtentForRange(5, 2),
+                                 ExtentForRange(7, 3),
+                                 ExtentForRange(13, 10),
+                                 ExtentForRange(25, 20),
+                                 ExtentForRange(47, 3)};
+  vector<Extent> out_over_extents = {ExtentForRange(12, 2),
+                                     ExtentForRange(15, 2),
+                                     ExtentForRange(17, 3),
+                                     ExtentForRange(33, 7),
+                                     ExtentForRange(50, 3),
+                                     ExtentForRange(55, 5),
+                                     ExtentForRange(70, 10),
+                                     ExtentForRange(90, 5),
+                                     ExtentForRange(97, 3)};
+  EXPECT_TRUE(ShiftExtentsOverExtents(base_extents, &over_extents));
+  EXPECT_EQ(over_extents, out_over_extents);
+
+  // Failure case
+  base_extents = {ExtentForRange(10, 10)};
+  over_extents = {ExtentForRange(2, 12)};
+  EXPECT_FALSE(ShiftExtentsOverExtents(base_extents, &over_extents));
+}
+
+}  // namespace deflate_utils
+}  // namespace chromeos_update_engine
diff --git a/payload_generator/delta_diff_utils.cc b/payload_generator/delta_diff_utils.cc
index 2cef589..2050f14 100644
--- a/payload_generator/delta_diff_utils.cc
+++ b/payload_generator/delta_diff_utils.cc
@@ -41,6 +41,7 @@
 #include "update_engine/common/utils.h"
 #include "update_engine/payload_generator/block_mapping.h"
 #include "update_engine/payload_generator/bzip.h"
+#include "update_engine/payload_generator/deflate_utils.h"
 #include "update_engine/payload_generator/delta_diff_generator.h"
 #include "update_engine/payload_generator/extent_ranges.h"
 #include "update_engine/payload_generator/extent_utils.h"
@@ -189,14 +190,16 @@
   map<string, vector<Extent>> old_files_map;
   if (old_part.fs_interface) {
     vector<FilesystemInterface::File> old_files;
-    old_part.fs_interface->GetFiles(&old_files);
+    TEST_AND_RETURN_FALSE(
+        deflate_utils::PreprocessParitionFiles(old_part, &old_files));
     for (const FilesystemInterface::File& file : old_files)
       old_files_map[file.name] = file.extents;
   }
 
   TEST_AND_RETURN_FALSE(new_part.fs_interface);
   vector<FilesystemInterface::File> new_files;
-  new_part.fs_interface->GetFiles(&new_files);
+  TEST_AND_RETURN_FALSE(
+      deflate_utils::PreprocessParitionFiles(new_part, &new_files));
 
   // The processing is very straightforward here, we generate operations for
   // every file (and pseudo-file such as the metadata) in the new filesystem
diff --git a/update_engine.gyp b/update_engine.gyp
index 6877ac8..6f0a140 100644
--- a/update_engine.gyp
+++ b/update_engine.gyp
@@ -380,6 +380,7 @@
         'payload_generator/block_mapping.cc',
         'payload_generator/bzip.cc',
         'payload_generator/cycle_breaker.cc',
+        'payload_generator/deflate_utils.cc',
         'payload_generator/delta_diff_generator.cc',
         'payload_generator/delta_diff_utils.cc',
         'payload_generator/ext2_filesystem.cc',
@@ -530,6 +531,7 @@
             'payload_generator/blob_file_writer_unittest.cc',
             'payload_generator/block_mapping_unittest.cc',
             'payload_generator/cycle_breaker_unittest.cc',
+            'payload_generator/deflate_utils_unittest.cc',
             'payload_generator/delta_diff_utils_unittest.cc',
             'payload_generator/ext2_filesystem_unittest.cc',
             'payload_generator/extent_ranges_unittest.cc',