WWW.EXFILE.COM, INC. -- LIFEWAY FOODS, INC. -- FORM 10-QSB

0001072613-07-001924.txt : 20070814 0001072613-07-001924.hdr.sgml : 20070814 20070814172252 ACCESSION NUMBER: 0001072613-07-001924 CONFORMED SUBMISSION TYPE: 10QSB PUBLIC DOCUMENT COUNT: 6 CONFORMED PERIOD OF REPORT: 20070630 FILED AS OF DATE: 20070814 DATE AS OF CHANGE: 20070814 FILER: COMPANY DATA: COMPANY CONFORMED NAME: LIFEWAY FOODS INC CENTRAL INDEX KEY: 0000814586 STANDARD INDUSTRIAL CLASSIFICATION: DAIRY PRODUCTS [2020] IRS NUMBER: 363442829 STATE OF INCORPORATION: IL FISCAL YEAR END: 1231 FILING VALUES: FORM TYPE: 10QSB SEC ACT: 1934 Act SEC FILE NUMBER: 000-17363 FILM NUMBER: 071057009 BUSINESS ADDRESS: STREET 1: 6431 W OAKTON CITY: MORTON GROVE STATE: IL ZIP: 60053 BUSINESS PHONE: 7089671010 MAIL ADDRESS: STREET 1: 6431 W OAKTON CITY: MORTON GROVE STATE: IL ZIP: 60053 10QSB 1 form10qsb_15354.htm FORM 10-QSB FOR THE QUARTER ENDED 6-30-07 WWW.EXFILE.COM, INC. -- LIFEWAY FOODS, INC. -- FORM 10-QSB

UNITED STATES SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

FORM 10-QSB

(Mark One)

þ		QUARTERLY REPORT UNDER SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
		For the quarterly period ended June 30, 2007


o		TRANSITION REPORT UNDER SECTION 13 OR 15(d) OF THE EXCHANGE ACT
		For the transition period from to

Commission file number: 0-17363

LIFEWAY FOODS, INC.

(Exact name of small business issuer as specified in it charter)


Illinois		36-3442829
(State or other jurisdiction of incorporation or organization)		(IRS Employer Identification No.)

6431 WEST OAKTON, MORTON GROVE, ILLINOIS 60053

(Address of principal executive offices)

(847) 967-1010

(Issuer’s telephone number)

Check whether the issuer (1) filed all reports required to be filed by Section 13 or 15(d) of the Exchange Act during the past 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. Yes þ No o

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). Yes o No þ

APPLICABLE ONLY TO CORPORATE ISSUERS

As of August 3, 2007, the issuer had 16,823,526 shares of common stock, no par value, outstanding.

Transitional Small Business Disclosure Format (Check one): Yes o No þ

INDEX


PART I — FINANCIAL INFORMATION	3

ITEM 1. FINANCIAL STATEMENTS	4-7
ITEM 2. MANAGEMENT’S DISCUSSION AND ANALYSIS OR PLAN OF OPERATION	21
ITEM 3. CONTROLS AND PROCEDURES	24




PART II — OTHER INFORMATION	24

ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS	24
ITEM 5. OTHER INFORMATION	25
ITEM 6. EXHIBITS	25



SIGNATURE	26


EXHIBITS INDEX	27

- 2 -

PART I — FINANCIAL INFORMATION

LIFEWAY FOODS, INC. AND SUBSIDIARIES

CONSOLIDATED FINANCIAL STATEMENTS

JUNE 30, 2007 AND 2006

AND DECEMBER 31, 2006

- 3 -

LIFEWAY FOODS, INC. AND SUBSIDIARIES

Consolidated Statements of Financial Condition

June 30, 2007 and 2006 (Unaudited) and December 31, 2006

	(Unaudited)
	June 30,						December 31,
	2007			2006			2006
ASSETS

Current assets
Cash and cash equivalents	$	1,014,433		$	3,621,803		$	1,547,812
Marketable securities		8,424,516			8,581,674			8,491,363
Inventories		3,510,597			2,320,818			2,522,196
Accounts receivable, net of allowance for doubtful accounts of $39,460 and $45,000 at June 30, 2007 and 2006 and $80,000 at December 31, 2006		4,602,313			3,561,038			3,942,717
Prepaid expenses and other current assets		13,207			51,823			11,983
Other receivables		40,295			67,332			71,050
Deferred income taxes		73,168			116,544			32,234
Refundable income taxes		—			—			267,771
Total current assets		17,678,529			18,321,032			16,887,126

Property and equipment, net		8,819,215			7,762,286			8,580,716

Intangible assets
Goodwill		3,952,425			75,800			3,952,425
Other intangible assets, net of accumulated amortization of $439,982 and $125,484 at June 30, 2007 and 2006 and $278,710 December 31, 2006		3,423,514			317,154			3,578,928
Total intangible assets		7,375,939			392,954			7,531,353

Total assets	$	33,873,683		$	26,476,272		$	32,999,195


LIABILITIES AND STOCKHOLDERS’ EQUITY

Current liabilities
Current maturities of notes payable	$	1,130,316		$	542,089		$	1,131,336
Accounts payable		1,527,164			704,061			1,463,014
Accrued income tax		31,802			441,049
Accrued expenses		386,749			382,543			480,101
Total current liabilities		3,076,031			2,069,742			3,074,451

Notes payable		4,843,282			2,849,504			5,746,718

Deferred income taxes		466,673			343,619			449,619

Stockholders’ equity
Common stock, no par value; 20,000,000 shares authorized; 17,273,766 shares issued; 16,889,237 shares outstanding at June 30, 2007; 17,273,776 shares issued; 16,793,310 shares outstanding at June 30, 2006; and 17,273,776 shares issued; 16,897,826 shares outstanding at December 31, 2006		6,509,267			6,509,267			6,509,267
Paid-in-capital		1,086,591			104,036			1,080,911
Treasury stock, at cost		(2,085,666	)		(1,468,091	)		(1,334,313	)
Retained earnings		19,850,129			16,067,650			17,318,772
Accumulated other comprehensive income (loss), net of taxes		127,376			545			153,770
Total stockholders’ equity		25,487,697			21,213,407			23,728,407

Total liabilities and stockholders’ equity	$	33,873,683		$	26,476,272		$	32,999,195

See accompanying notes to financial statements

- 4 -

LIFEWAY FOODS, INC. AND SUBSIDIARIES

Consolidated Statements of Income and Comprehensive Income

For the Three and Six Months Ended June 30, 2007 and 2006 (Unaudited)

and The Year Ended December 31, 2006

	(Unaudited)						(Unaudited)
	Three Months Ended						Six Months Ended						Year Ended
	June 30,						June 30,						December 31,
	2007			2006			2007			2006			2006

Sales	$	9,715,262		$	6,367,397		$	18,737,506		$	12,370,420		$	27,720,713

Cost of goods sold		5,886,186			3,787,577			11,336,011			7,093,221			17,081,992

Gross profit		3,829,076			2,579,820			7,401,495			5,277,199			10,638,721

Selling Expenses		912,262			849,647			1,682,343			1,432,591			3,065,254
General and Administrative		1,155,527			800,019			2,156,375			1,508,083			3,343,341

Total Operating Expenses		2,067,789			1,649,666			3,838,718			2,940,674			6,408,595

Income from operations		1,761,287			930,154			3,562,777			2,336,525			4,230,126

Other income (expense):
Interest and dividend income		98,365			122,033			164,164			208,264			388,339
Rental Income		9,581			—			18,181			—			11,401
Interest expense		(109,283	)		(63,200	)		(218,812	)		(113,426	)		(345,525	)
Gain (loss) on sale of marketable securities, net		439,243			225,292			453,380			188,414			355,767
Gain on marketable securities classified as trading		343			2,549			951			3,061			791
Total other income (Expense)		438,249			286,674			417,864			286,313			410,773

Income before provision for income taxes		2,199,536			1,216,828			3,980,641			2,622,838			4,640,899

Provision for income taxes		803,510			466,784			1,449,284			978,136			1,745,075

Net income	$	1,396,026		$	750,044		$	2,531,357		$	1,644,702		$	2,895,824

Basic and diluted earnings per common share		0.08			0.04			0.15			0.10			0.17

Weighted average number of shares outstanding		16,875,905			16,799,536			16,885,586			16,795,473			16,829,601

COMPREHENSIVE INCOME

Net income	$	1,396,026		$	750,044		$	2,531,357		$	1,644,702		$	2,895,824

Other comprehensive income (loss), net of tax:
Unrealized gains (losses) on marketable securities (net of tax benefits)		(26,118	)		(65,256	)		238,834			210,281			(251,021	)
Less reclassification adjustment for gains (losses) included in net income (net of taxes)		(87,433	)		(88,574	)		(265,228	)		(110,222	)		504,305

Comprehensive income	$	1,282,475		$	596,214		$	2,504,963		$	1,744,761		$	3,149,108

See accompanying notes to financial statements

- 5 -

LIFEWAY FOODS, INC. AND SUBSIDIARIES

Consolidated Statements of Changes in Stockholders’ Equity

For the Six Months Ended June 30, 2007 (Unaudited)

and the Year Ended December 31, 2006

	Common Stock, No Par																	Accumulated
	Value 20,000,000					# of Shares												Other
	Shares Authorized					of												Comprehensive
	# of Shares		# of Shares			Treasury			Common		Paid In		Treasury			Retained		Income (Loss),
	Issued		Outstanding			Stock			Stock		Capital		Stock			Earnings		Net of Tax			Total

Balances at December 31, 2005		17,273,776		16,790,510			483,266		$	6,509,267	$	90,725	$	(1,024,659	)	$	14,422,948	$	(99,514	)	$	19,898,767

Issuance of treasury stock for compensation		—		4,666			(4,666	)		—		13,311		15,855			—		—			29,166

Issuance of treasury stock for acquisition of Helios		—		202,650			(202,650	)		—		976,875		323,125			—		—			1,300,000

Redemption of stock		—		(100,000	)		100,000			—		—		(648,634	)		—		—			(648,634	)

Other comprehensive income (loss):
Unrealized losses on securities, net of taxes and reclassification adjustment		—		—			—			—		—		—			—		253,284			253,284

Net income for the year ended December 31, 2006		—		—			—			—		—		—			2,895,824		—			2,895,824

Balances at December 31, 2006		17,273,776		16,897,826			375,950			6,509,267		1,080,911		(1,334,313	)		17,318,772		153,770			23,728,407


Redemption of stock		—		(75,000	)		75,000			—		—		(752,603	)		—		—			(752,603	)

Issuance of treasury stock		—		700			(700	)		—		5,680		1,250			—		—			6,930

Other comprehensive income (loss):
Unrealized gains on securities, net of taxes and reclassification adjustment		—		—			—			—		—		—			—		(26,394	)		(26,394	)

Net income for the six months ended June 30, 2007		—		—			—			—		—		—			2,531,357		—			2,531,357


Balances at June 30, 2007		17,273,776		16,823,526			450,250		$	6,509,267	$	1,086,591	$	(2,085,666	)	$	19,850,129	$	127,376		$	25,487,697

See accompanying notes to financial statements

- 6 -

LIFEWAY FOODS, INC. AND SUBSIDIARIES

Consolidated Statements of Cash Flows

For the Six Months Ended June 30, 2007 and 2006 (Unaudited)

and the Year Ended December 31, 2006

	(Unaudited)
	Six Months Ended						Year Ended
	June 30,						December 31,
	2007			2006			2006

Cash flows from operating activities:
Net income	$	2,531,357		$	1,644,702		$	2,895,824
Adjustments to reconcile net income to net
cash flows from operating activities, net of acquisition:
Depreciation and amortization		512,869			291,678			758,754
(Gain)Loss on sale of marketable securities, net		(453,380	)		(188,414	)		(355,767	)
Gain on marketable securities classified as trading		(951	)		(3,061	)		(791	)
Deferred income taxes		(5,303	)		(52,541	)		33,031
Treasury stock issued for services		6,930			29,166			29,166
Increase (decrease) in allowance for doubtful accounts		(40,540	)		10,000			45,000
(Increase) decrease in operating assets:
Accounts receivable		(619,056	)		(1,053,423	)		(1,190,448	)
Other receivables		30,755			(10,897	)		(14,615	)
Inventories		(988,401	)		(603,819	)		(585,563	)
Refundable income taxes		267,771			11,562			(256,209	)
Prepaid expenses and other current assets		(1,224	)		(42,679	)		35,032
Increase (decrease) in operating liabilities:
Accounts payable		64,150			277,808			638,999
Accrued expenses		(93,352	)		27,532			125,090
Accrued income taxes		31,802			441,049			—
Net cash provided by operating activities		1,243,427			778,663			2,157,503

Cash flows from investing activities:
Purchases of marketable securities		(3,274,563	)		(3,968,844	)		(7,509,692	)
Sale of marketable securities		3,750,770			3,230,866			7,285,071
Purchases of property and equipment		(590,096	)		(269,466	)		(680,174	)
Acquisition of Helios, net of cash acquired		—			—			(2,551,679	)
Purchases of organizational costs		(5,858	)		—			—
Net cash used in investing activities		(119,747	)		(1,007,444	)		(3,456,474	)


Cash flows from financing activities:
Purchases of treasury stock		(752,603	)		(459,287	)		(648,634	)
Repayment of notes payable		(904,456	)		(44,210	)		(858,664	)
Net cash provided by (used in) financing activities		(1,657,059	)		(503,497	)		(1,507,298	)

Net decrease in cash and cash equivalents		(533,379	)		(732,278	)		(2,806,269	)

Cash and cash equivalents at the beginning of the period		1,547,812			4,354,081			4,354,081

Cash and cash equivalents at the end of the period	$	1,014,433		$	3,621,803		$	1,547,812

See accompanying notes to financial statements

- 7 -

LIFEWAY FOODS, INC. AND SUBSIDIARIES

Notes to Consolidated Financial Statements

June 30, 2007 and 2006

and December 31, 2006

Note 1 – NATURE OF BUSINESS

Lifeway Foods, Inc. (The “Company”) commenced operations in February 1986 and incorporated under the laws of the state of Illinois on May 19, 1986. The Company’s principal business activity is the production of dairy products. Specifically, the Company produces Kefir, a drinkable product which is similar to but distinct from yogurt, in several flavors sold under the name “Lifeway’s Kefir;” a plain farmer’s cheese sold under the name “Lifeway’s Farmer’s Cheese;” a fruit sugar-flavored product similar in consistency to cream cheese sold under the name of “Sweet Kiss;” and a dairy beverage, similar to Kefir, with increased protein and calcium, sold under the name “Basics Plus.” The Company also produces several soy-based products under the name “Soy Treat” and a vegetable-based seasoning under the name “Golden Zesta.” The Company currently distributes its products throughout the Chicago Metropolitan area and various cities in the East Coast through local food stores. In addition, the products are sold throughout the United States and Ontario, Canada by distributors. The Company also distributes some of its products to Eastern Europe.

On August 3, 2006 the Company executed a Stock Purchase Agreement with George Economy, Amani Holdings, LLC and other shareholders (“the stockholders”) of the capital stock of Helios Nutrition, Ltd. (“Helios”) and Pride Main Street Dairy, L.L.C. pursuant to which the Company purchased all of the issued and outstanding stock of Helios from the Stockholders for a combination of an aggregate amount of 202,650 in shares of the Company’s common stock, no par value, $2,563,000 in cash, and a promissory note issued by the Company in favor of the Stockholders in the principal amount of $4,200,000. The Stock Payment, the Cash Payment and Promissory Note are subject to adjustment under certain circumstances in accordance with the terms of the Stock Purchase Agreement.

The final net purchase price for the assets was $8,063,000 including professional fees related to the acquisition. The following table summarizes the fair values of the assets acquired and the liabilities assumed at the date of acquisition.

Cash	$	11,321
Accounts Receivable Assumed		279,654
Inventories		219,634
Equipment, Building and Land		721,572
Prepaid Items		37,871
Trade Name - Intangible Asset		1,980,000
Formula - Intangible Asset		438,000
Contractual Backlog - Intangible Asset		12,000
Customer Relationships - Intangible Asset		985,000
Goodwill		3,876,625
Total Assets Acquired		8,561,677
Note Payable and Accounts Payable Assumed		(498,677	)
Net Assets Acquired	$	8,063,000

At closing, $2,563,000 was paid of the total purchase, $1,300,000 was paid in stock, with the balance due as a $4,200,000 note to be paid in sixteen equal installments over sixteen quarters. The goodwill is expected to be deductible for tax purposes.

- 8 -

LIFEWAY FOODS, INC. AND SUBSIDIARIES

Notes to Consolidated Financial Statements

June 30, 2007 and 2006

and December 31, 2006

Note 1 – NATURE OF BUSINESS - Continued

The following unaudited proforma information presents the results of operations of the Company as if the acquisition had taken place at the beginning of 2006:

	6 months ended June 30, 2006		Year ended December 31, 2006
Net Sales	$	14,992,929	$	30,804,309
Net Income	$	1,510,354	$	2,621,228
EPS	$	0.09	$	0.16

Note 2 – SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES

A summary of the significant accounting policies applied in the preparation of the accompanying financial statements follows:

Principles of consolidation

The consolidated financial statements include the accounts of the Company and its wholly-owned subsidiaries, LFI Enterprises, Inc., Helios Nutrition, Ltd., Pride of Main Street, L.L.C. and Starfruit, L.L.C. All significant intercompany accounts and transactions have been eliminated.

Use of estimates

The preparation of financial statements in conformity with accounting principles generally accepted in the United States of America 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 reported amounts of revenues and expenses during the reporting period. Actual results could differ from those estimates. Significant estimates made in preparing the consolidated financial statements include the allowance for doubtful accounts, the valuation of Goodwill and intangible assets and deferred taxes.

Revenue Recognition

Sales represent sales of Company produced dairy products that are recorded at the time of shipment and the following four criteria have been met: (i) The product has been shipped and the Company has no significant remaining obligations; (ii) Persuasive evidence of an agreement exists; (iii) The price to the buyer is fixed or determinable and (iv) Collection is probable. In addition, shipping costs invoiced to the customers are included in net sales and the related cost in cost of sales.

Cash and cash equivalents

All highly liquid investments purchased with an original maturity of three months or less are considered to be cash equivalents.

The Company maintains cash deposits at several institutions located in the greater Chicago, Illinois and Philadelphia, Pennsylvania metropolitan areas. Deposits at each institution are insured up to $100,000 by the Federal Deposit Insurance Corporation or the Securities Investor Protector Corporation.

Bank balances of amounts reported by financial institutions are categorized as follows:

	June 30,				December 31,
	2007		2006		2006
Amounts insured	$	240,374	$	340,460	$	432,678
Uninsured and uncollateralized amounts		1,185,137		3,792,076		1,412,560
Total bank balances	$	1,425,511	$	4,132,536		1,845,238

- 9 -

LIFEWAY FOODS, INC. AND SUBSIDIARIES

Notes to Consolidated Financial Statements

June 30, 2007 and 2006

and December 31, 2006

Note 2 – SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES - Continued

Marketable securities

All investment securities are classified as either as available-for-sale or trading, and are carried at fair value or quoted market prices. Unrealized gains and on available-for-sale securities losses are reported as a separate component of stockholders’ equity. Amortization, accretion, interest and dividends, realized gains and losses and declines in value judged to be other-than-temporary on available-for-sale securities are recorded in other income. Statement of Financial Accounting Standards No. 115, Accounting for Certain Investments in Debt and Equity Securities, Securities and Exchange Commission (SEC) Staff Accounting Bulletin (SAB) 59, Accounting for Noncurrent Marketable Equity Securities, and Emerging Issue Task Force Abstract 03-01 the meaning of other-than-temporary impairment and its application to certain investments, provide guidance on determining when an investment is other-than-temporarily impaired. This evaluation depends on the specific facts and circumstances. Factors that we consider in determining whether an other-than-temporary decline in value has occurred include: the market value of the security in relation to its cost basis; the financial condition of the investee; and the intent and ability to retain the investment for a sufficient period of time to allow for possible recovery in the market value of the investment.

Accounts receivable

Credit terms are extended to customers in the normal course of business. The Company performs ongoing credit evaluations of its customers’ financial condition and generally requires no collateral.

Accounts receivable are recorded at invoice amounts, and reduced to their estimated net realizable value by recognition of an allowance for doubtful accounts. The Company’s estimate of the allowance for doubtful accounts is based upon historical experience, its evaluation of the current status of specific receivables, and unusual circumstances, if any. Accounts are considered past due if payment is not made on a timely basis in accordance with the Company’s credit terms. Accounts considered uncollectible are charged against the allowance.

Inventories

Inventories are stated at the lower of cost or market, cost being determined by the first-in, first-out method.

Property and equipment

Property and equipment are stated at depreciated cost or fair value where depreciated cost is not recoverable. Depreciation is computed using the straight-line method. When assets are retired or otherwise disposed of, the cost and related accumulated depreciation are removed from the accounts, and any resulting gain or loss is recognized in income for the period. The cost of maintenance and repairs is charged to income as incurred; significant renewals and betterments are capitalized.

Property and equipment are being depreciated over the following useful lives:

Category		Years
Buildings and improvements		31 and 39
Machinery and equipment		5 – 12
Office equipment		5 – 7
Vehicles		5

- 10 -

LIFEWAY FOODS, INC. AND SUBSIDIARIES

Notes to Consolidated Financial Statements

June 30, 2007 and 2006

and December 31, 2006

Note 2 – SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES – Continued

Intangible assets

The Company accounts for intangible assets at historical cost. Intangible assets acquired in a business combination are recorded under the purchase method of accounting at their estimated fair values at the date of acquisition. Goodwill represents the excess purchase price over the fair value of the net tangible and other intangible assets acquired. Goodwill is not amortized and is reviewed for impairment at least annually. The Company amortizes other intangible assets over their estimated useful lives, as disclosed in the table below.

The Company reviews intangible assets and their related useful lives at least once a year to determine if any adverse conditions exist that would indicate the carrying value of these assets may not be recoverable. The Company conducts more frequent impairment assessments if certain conditions exist, including: a change in the competitive landscape, any internal decisions to pursue new or different strategies, a loss of a significant customer, or a significant change in the market place including changes in the prices paid for the Company’s products or changes in the size of the market for the Company’s products.

If the estimate of an intangible asset’s remaining useful life is changed, the remaining carrying amount of the intangible asset is amortized prospectively over the revised remaining useful life.

Intangible assets are being amortized over the following useful lives:

Category		Years
Recipes		4
Customer lists and other customer related intangibles		15
Lease agreement		7
Trade names		15
Formula		10
Customer relationships		12

Income taxes

Deferred income taxes arise from temporary differences resulting from income and expense items reported for financial accounting and tax purposes in different periods. Deferred taxes are classified as current or non-current, depending on the classification of the assets and liabilities to which they relate. Deferred taxes arising from temporary differences that are not related to an asset or liability are classified as current or non-current depending on the periods in which the temporary differences are expected to reverse.

The principal sources of temporary differences are different depreciation and amortization methods for financial statement and tax purposes, unrealized gains or losses related to marketable securities, capitalization of indirect costs for tax purposes, and the recognition of an allowance for doubtful accounts for financial statement purposes.

As of January 1, 2007, the Company adopted FASB Interpretation No. 48, “Accounting for Uncertainty in Income Taxes — an interpretation of FASB Statement No. 109” (FIN 48), which clarifies the accounting and disclosure for uncertainty in tax positions, as defined. Pursuant to FIN 48, the Company has analyzed filing positions in all of the federal and state jurisdictions where it is required to file income tax returns, as well as all open tax years in these jurisdictions. The only periods subject to examination for the Company’s federal return are the 2003 through 2006 tax years. The Company believes that its income tax filing positions and deductions would be sustained on audit and does not anticipate any adjustments that would result in a material change to its financial position. Therefore, no reserves for uncertain income tax positions have been recorded pursuant to FIN 48. In addition, the Company did not record a cumulative effect adjustment related to the adoption of FIN 48.

The Company’s policy for recording interest and penalties associated with audits is to record such items as a component of income before taxes. There were no such items during the periods covered in this report.

- 11 -

LIFEWAY FOODS, INC. AND SUBSIDIARIES

Notes to Consolidated Financial Statements

June 30, 2007 and 2006

and December 31, 2006

Note 2 – SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES – Continued

Treasury stock

Treasury stock is recorded using the cost method.

Advertising costs

The Company expenses advertising costs as incurred. During the year ended December 31, 2006 and for the six months ended June 30, 2007 and 2006, approximately $1,435,758, $764,805 and $658,409 of such costs respectively, were expensed.

Earning per common share

Earnings per common share were computed by dividing net income available to common stockholders by the weighted average number of common shares outstanding during the period. For the six months ended June 30, 2007 and 2006 and the year ended December 31, 2006, diluted and basic earnings per share were the same, as the effect of dilutive securities options outstanding was not significant.

Reclassification

Certain 2006 amounts have been reclassified to conform to the 2007 presentation.

Note 3 – INTANGIBLE ASSETS

Intangible assets, and the related accumulated amortization, consist of the following:

	June 30, 2007				June 30, 2006				December 31, 2006
	Cost		Accumulated Amortization		Cost		Accumulated Amortization		Cost		Accumulated Amortization
Recipes	$	43,600	$	31,792	$	43,600	$	20,892	$	43,600	$	26,342
Customer lists and other customer related intangibles		305,200		120,809		305,200		79,388		305,200		100,098
Lease acquisition		87,200		36,333		87,200		23,876		87,200		30,105
Goodwill		3,952,425		—		75,800		—		3,952,425		—
Loan acquisition costs		6,638		2,655		6,638		1,328		6,638		1,991
Customer relationship		985,000		75,243		—		—		985,000		34,924
Contractual backlog		12,000		12,000		—		—		12,000		12,000
Trade names		1,980,000		121,000		—		—		1,980,000		55,000
Formula		438,000		40,150		—		—		438,000		18,250
Organizational costs		5,858		—		—		—		—		—
	$	7,815,921	$	439,982	$	518,438	$	125,484	$	7,810,063	$	278,710

Amortization expense is expected to be as follows for the 12 months ending June 30:

2007	$	323,988
2008		323,325
2009		319,692
2010		314,605
2011		314,605
Thereafter		1,827,300
	$	3,423,515

Amortization expense during the six months ended June 30, 2007 and 2006 and the year ended 2006 was $161,272, $33,053 and $186,278, respectively.

- 12 -

LIFEWAY FOODS, INC. AND SUBSIDIARIES

Notes to Consolidated Financial Statements

June 30, 2007 and 2006

and December 31, 2006

Note 4 – MARKETABLE SECURITIES

The cost and fair value of marketable securities classified as available for sale and trading are as follows:

June 30, 2007	Cost		Unrealized Gains		Unrealized Losses			Loss on Marketable Securities Classified as Trading			Fair Value

Equities	$	3,256,941	$	353,339	$	(64,034	)		—		$	3,546,246
Mutual Funds		669,255		1,369		(27,125	)		—			643,499
Preferred Securities		1,571,498		55		(51,152	)		—			1,520,401
Private Investment LP		600,000		126,598		—			—			726,598
Certificates of Deposit		75,000		—		(1,242	)		—			73,758
Corporate Bonds		1,886,329		1,298		(121,258	)		—			1,766,369
Municipal Bonds		24,591		127		(980	)		—			23,738
Government agency Obligations		124,879		—		—			(971	)		123,908
Total	$	8,208,493	$	482,786	$	(265,791	)	$	(971	)	$	8,424,517

June 30, 2006	Cost		Unrealized Gains		Unrealized Losses			Loss on Marketable Securities Classified as Trading		Fair Value

Equities	$	2,846,117	$	312,995	$	(154,061	)		—	$	3,005,051
Mutual Funds		663,029		2,583		(50,827	)		—		614,785
Preferred Securities		1,629,157		1,081		(56,874	)		—		1,573,364
Private Investment LP		600,000		38,480		—			—		638,480
Certificates of Deposit		225,000		—		(6,278	)		—		218,722
Corporate Bonds		2,008,255		746		(85,388	)		—		1,923,613
Municipal Bonds, maturing within five years		61,275		403		(1,929	)		—		59,749
Government agency obligations, maturing after five years		547,562		—		—			348		547,910
Total	$	8,580,395	$	356,288	$	(355,357	)	$	348	$	8,581,674

- 13 -

LIFEWAY FOODS, INC. AND SUBSIDIARIES

Notes to Consolidated Financial Statements

June 30, 2007 and 2006

and December 31, 2006

Note 4 – MARKETABLE SECURITIES - Continued

December 31, 2006	Cost		Unrealized Gains		Unrealized Losses			Loss on Marketable Securities Classified as Trading			Fair Value

Equities	$	3,048,755	$	359,729	$	(69,950	)		—		$	3,338,534
Mutual Funds		522,492		3,248		(7,675	)		—			518,065
Preferred Securities		1,353,568		6,554		(11,347	)		—			1,348,775
Private Investment LP		600,000		71,632		—			—			671,632
Certificates of Deposit		225,000		2,190		(2,393	)		—			224,797
Corporate Bonds		2,185,982		2,408		(95,075	)		—			2,093,315
Municipal Bonds		160,757		2,937		(303	)		—			163,391
Government agency		134,776		—		—			(1,922	)		132,854
Total	$	8,231,330	$	448,698	$	(186,743	)	$	(1,922	)	$	8,491,363

Proceeds from the sale of marketable securities were $7,285,071, $3,750,770 and $3,230,866 during the year ended December 31, 2006 and for the six months ended June 30, 2007 and 2006, respectively.

Gross gains (loss) of $355,767, $453,380 and $188,414 were realized on these sales during the year ended December 31, 2006 and for the six months ended June 30, 2007 and 2006, respectively.

The following table shows the gross unrealized losses and fair value of Company’s investments with unrealized losses that are not deemed to be other-than-temporarily impaired, aggregated by investment category and length of time that individual securities have been in a continuous unrealized loss position, at June 30, 2007:

	Less Than 12 Months					12 Months or Greater					Total
Description of Securities	Fair Value		Unrealized Losses			Fair Value		Unrealized Losses			Fair Value		Unrealized Losses

Equities	$	1,110,156	$	(53,325	)	$	107,630	$	(10,709	)	$	1,217,786	$	(64,034	)
Mutual Funds		382,008		(19,500	)		109,451		(7,625	)		491,459		(27,125	)
Preferred Securities		951,675		(30,215	)		518,315		(20,937	)		1,469,990		(51,152	)
Certificates of Deposit		—		—			73,758		(1,242	)		73,758		(1,242	)
Corporate Bonds		181,650		(18,350	)		1,502,301		(102,908	)		1,683,951		(121,258	)
Municipal Bonds		—		—			19,025		(980	)		19,025		(980	)
	$	2,625,489	$	(121,390	)	$	2,330,480	$	(144,401	)	$	4,955,969	$	(265,791	)

Equities, Mutual Funds and Corporate Bonds - The Company’s investments in equity securities, mutual funds and corporate bonds consist of investments in common stock and debt securities of companies in various industries. The Company evaluated the near-term prospects of the issuer in relation to the severity and duration of the impairment. Based on that evaluation and the Company’s ability and intent to hold these investments for a reasonable period of time sufficient for a forecasted recovery of fair value, the Company does not consider any material investments to be other-than-temporarily impaired at June 30, 2007.

- 14 -

LIFEWAY FOODS, INC. AND SUBSIDIARIES

Notes to Consolidated Financial Statements

June 30, 2007 and 2006

and December 31, 2006

Note 4 – MARKETABLE SECURITIES - Continued

Preferred Securities - The Company’s investments in preferred securities consist of investments in preferred stock of companies in various industries. The Company evaluated the near-term prospects of the security in relation to the severity and duration of the impairment. Based on that evaluation and the Company’s ability and intent to hold these investments for a reasonable period of time sufficient for a forecasted recovery of fair value, the Company does not consider any material investments to be other-than-temporarily impaired at June 30, 2007.

Certificates of Deposit - The unrealized losses on the Company’s investments in certificates of deposit were caused by interest rate increases since the date of purchase. The contractual terms of these investments do not permit the issuers to settle the securities at a price less than the face value of the investment. Because the Company has the ability and intent to hold these investments until maturity, the Company does not consider these investments to be other-than-temporarily impaired at June 30, 2007.

Municipal Bonds - The unrealized losses on the Company’s investments in mutual bonds were caused by interest rate increases since the date of purchase. Because the Company has the ability and intent to hold these investments until maturity, the Company does not consider these investments to be other-than-temporarily impaired at June 30, 2007.

Note 5 – INVENTORIES

Inventories consist of the following:


	June 30,				December 31,
	2007		2006		2006
Finished goods	$	1,495,651	$	876,618	$	952,484
Production supplies		1,265,816		853,074		988,174
Raw materials		749,130		591,126		581,538
Total inventories	$	3,510,597	$	2,320,818	$	2,522,196

Note 6 – PROPERTY AND EQUIPMENT

Property and equipment consist of the following:


	June 30,				December 31,
	2007		2006		2006
Land	$	969,232	$	909,232	$	969,232
Buildings and improvements		6,726,538		6,516,018		6,713,743
Machinery and equipment		7,665,098		5,982,646		7,143,537
Vehicles		581,458		534,365		534,365
Office equipment		97,839		78,763		89,192
		16,040,165		14,021,024		15,450,069
Less accumulated depreciation		7,220,950		6,258,738		6,869,353
Total property and equipment	$	8,819,215	$	7,762,286	$	8 ,580,716

Depreciation expense during the year ended December 31, 2006 and for the six months ended June 30, 2007 and 2006 was $572,476, $351,597 and $258,625, respectively.

- 15 -

LIFEWAY FOODS, INC. AND SUBSIDIARIES

Notes to Consolidated Financial Statements

June 30, 2007 and 2006

and December 31, 2006

Note 7 – ACCRUED EXPENSES

Accrued expenses consist of the following:


	June 30,				December 31,
	2007		2006		2006
Accrued payroll and payroll taxes	$	52,695	$	105,898	$	139,367
Accrued property tax		273,359		271,155		269,435
Other		59,089		5,490		71,299
	$	385,143	$	382,543	$	480,101

Note 8 – NOTES PAYABLE

Notes payable consist of the following:

	June 30,				December 31,
	2007		2006		2006
Mortgage note payable to a bank, payable in monthly installments of $3,273 including interest at 7%, with a balloon payment of $416,825 due September 25, 2011. Collateralized by real estate.	$	449,870	$	457,605	$	453,355
Mortgage note payable to a bank, payable in monthly installments of $19,513 including interest at 5.6%, with a balloon payment of $2,652,143 due July 14, 2010. Collateralized by real estate.		2,870,749		2,933,988		2,905,988
Note payable to Amani Holding LLC, payable in quarterly installments of $262,500 plus interest at the floating prime rate per annum (8.25% at December 31, 2006) due September 1, 2010 secured by letter of credit		2,652,979		—		3,518,711
Total notes payable		5,973,598		3,391,593		6,878,054
Less current maturities		1,130,316		542,089		1,131,336
Total long-term portion	$	4,843,282	$	2,849,504	$	5,746,718

Maturities of notes payables are as follows:

As of June 30,
2007	$	1,130,316
2008		1,144,769
2009		1,146,698
2010		2,475,581
2011		76,234
Total	$	5,973,598

- 16 -

LIFEWAY FOODS, INC. AND SUBSIDIARIES

Notes to Consolidated Financial Statements

June 30, 2007 and 2006

and December 31, 2006

Note 9 – PROVISION FOR INCOME TAXES

The provision for income taxes consists of the following:

							For the
	For the Six Months Ended						Year Ended
	June 30,						December 31,
	2007			2006			2006
Current:
Federal	$	1,198,853		$	833,877		$	1,390,590
State and local		255,734			196,800			321,454
Total current		1,454,587			1,030,677			1,712,044
Deferred		(5,303	)		(52,541	)		33,031
Provision for income taxes	$	1,449,284		$	978,136		$	1,745,075

A reconciliation of the provision for income taxes and the income tax computed at the statutory rate is as follows:

							For the
	For the Six Months Ended						Year Ended
	June 30,						December 31,
	2007			2006			2006
Federal income tax expense computed at the statutory rate	$	1,353,416		$	891,480		$	1,577,226
State and local tax expense, net		191,071			125,850			222,667
Permanent differences		(95,203	)		(39,194	)		(54,818	)
Provision for income taxes	$	1,449,284		$	978,136		$	1,745,075

Amounts for deferred tax assets and liabilities are as follows:


	June 30,						December 31,
	2007			2006			2006
Non-current deferred tax liabilities arising from: Temporary differences -
accumulated depreciation and amortization	$	(466,673	)	$	(343,619	)	$	(449,619	)
Current deferred tax assets (liabilities) arising from:
Unrealized losses (gains) on marketable securities		(89,619	)		(383	)		(108,188	)
Inventory		146,489			98,342			107,382
Allowance for doubtful accounts		16,298			18,585			33,040
Total current deferred tax assets (liabilities)		73,168			116,544			32,234
Net deferred tax liability	$	(393,505	)	$	(227,075	)	$	(417,385	)

- 17 -

LIFEWAY FOODS, INC. AND SUBSIDIARIES

Notes to Consolidated Financial Statements

June 30, 2007 and 2006

and December 31, 2006

Note 10 – SUPPLEMENTAL CASH FLOW INFORMATION

Cash paid for interest and income taxes are as follows:

					For The
	For The Six Months Ended				Year Ended
	June 30,				December 31,
	2007		2006		2006
Interest	$	110,903	$	113,426	$	337,768
Income taxes	$	1,176,031	$	578,467	$	1,556,586

Note 11 – STOCK OPTION PLANS

The Company has a registration statement filed with the Securities and Exchange Commission in connection with a Consulting Service Compensation Plan covering up to 600,000 of the Company’s common stock shares. Pursuant to such Plan, the Company may issue common stock or options to purchase common stock to certain consultants, service providers, and employees of the Company. There were 468,000 shares available for issuance under the Plan at December 31, 2006 and at June 30, 2007 and 2006. The option price, number of shares, grant date, and vesting terms are determined at the discretion of the Company’s Board of Directors.

As of December 31, 2006 and at June 30, 2007 and 2006, there were no stock options outstanding or exercisable.

On February 12, 2004, Lifeway’s Board of Directors approved awards of an aggregate amount of 10,200 shares to be awarded under its Employee and Consulting Services and Compensation Plan to certain employees and consultants for services rendered to the Company. The stock awards were made on April 1, 2004 and have vesting periods that vary from six months to one year, depending upon the individual grantee. During 2005, 550 shares vested for a total expense of $11,512.

On May 23, 2005, Lifeway’s Board of Directors approved awards of an aggregate amount of 11,200 common shares to be awarded under its Employee and Consulting Services and Compensation Plan to certain employees and consultants for services rendered to the Company. The stock awards were made on June 1, 2005 and have vesting periods of one year. The expense for the awards is measured as of June 1, 2005 at $6.25 per share for 11,200 shares, or a total stock award expense of $70,000. This expense will be recognized as the stock awards vest in 12 equal portions of $5,833, or 932 shares per month for one year. During 2005, 7,534 shares vested and the Company recognized a related expense of $40,833. During the year ended December 31, 2006, 4,666 shares vested for an expense of $29,166.

On May 18, 2007, Lifeway’s Board of Directors approved awards of an aggregate amount of 8,400 shares to be awarded under its Employee and Consulting Services and Compensation Plan to certain key employees and consultants for services rendered to the Company. The stock awards were made on June 1, 2007 and have vesting periods of one year. The expense for the awards is measured as of June 1, 2007 at $9.90 per share for 8,400 shares, or a total stock award expense of $83,160. This expense will be recognized as the stock awards vest in 12 equal portions of $6,930, or 700 shares per month for one year.

- 18 -

LIFEWAY FOODS, INC. AND SUBSIDIARIES

Notes to Consolidated Financial Statements

June 30, 2007 and 2006

and December 31, 2006

Note 12 – FAIR VALUE OF FINANCIAL INSTRUMENTS

The estimated fair value of the Company’s financial instruments is as follows at:

	June 30, 2007				June 30, 2006				December 31, 2006
	Carrying Amount		Fair Value		Carrying Amount		Fair Value		Carrying Amount		Fair Value
Cash and cash equivalents	$	1,014,433	$	1,014,433	$	3,621,803	$	3,621,803	$	1,547,812	$	1,547,812
Marketable securities	$	8,424,516	$	8,424,516	$	8,581,674	$	8,581,674	$	8,491,363	$	8,491,363
Notes payable	$	5,973,598	$	5,973,598	$	3,391,593	$	3,385,569	$	6,878,054	$	6,878,054

A summary of the methods and significant assumptions used to estimate the fair values of financial instruments is as follows:

Investments - Investments are recorded at fair value in the accompanying financial statements. Fair value is determined based on quoted market prices.

Long-term Obligations - The fair value of long-term obligations approximates the carrying amounts in the accompanying financial statements. The carrying value of the debt approximates market based on current borrowing rates.

Note 13 – RECENT ACCOUNTING PRONOUNCEMENTS

In March 2006, the Financial Accounting Standards Board issued SFAS No. 156, “Accounting for Servicing of Financial Assets,” an amendment of FASB Statement No. 140. SFAS No. 156 requires an entity to recognize a servicing asset or liability each time it undertakes an obligation to service a financial asset by entering into a servicing contract. It requires all separately recognized servicing assets and servicing liabilities to be initially measured at fair value. SFAS No. 156 permits an entity to choose either an amortization or fair value measurement method for each class of separately recognized servicing assets and servicing liabilities. It also permits a one-time reclassification of available-for-sale securities to trading securities with recognized servicing rights. Lastly, it requires separate presentation of servicing assets and servicing liabilities. Adoption of the initial measurement provision of this statement is permitted as of the beginning of an entity’s fiscal year, provided the entity has not yet issued financial statements, including interim financial statements, for any period of that fiscal year. The adoption of this standard is not expected to have a material impact on the Company’s financial condition, results of operations or liquidity.

- 19 -

LIFEWAY FOODS, INC. AND SUBSIDIARIES

Notes to Consolidated Financial Statements

June 30, 2007 and 2006

and December 31, 2006

Note 13 – RECENT ACCOUNTING PRONOUNCEMENTS - Continued

In September 2006, the FASB issued SFAS No. 157, “Fair Value Measurements.” SFAS No. 157 defines fair value, establishes a framework for measuring fair value in accordance with U.S. GAAP, and expands disclosures about fair value measurements. The Statement clarifies that the exchange price is the price in an orderly transaction between market participants to sell an asset or transfer a liability at the measurement date. The statement emphasizes that fair value is a market-based measurement and not an entity-specific measurement. The statement establishes a fair value hierarchy used in fair value measurements and expands the required disclosures of assets and liabilities measured at fair value. Management will be required to adopt this statement beginning in 2008. The adoption of this standard is not expected to have a material impact on the Company’s financial condition, results of operations or liquidity.

In September 2006, the FASB issued SFAS No. 158, “Employers’ Accounting for Defined Benefit Pension and Other Postretirement Plans.” SFAS No. 158 amends SFAS No. 87, 88, 106, and 123(R). SFAS No. 158 requires employers to recognize in its statement of financial position an asset for a plan’s overfunded status or a liability for a plan’s underfunded status. Secondly, it requires employers to measure the plan assets and obligations that determine its funded status as of the end of the fiscal year. Lastly, employers are required to recognize changes in the funded status of the defined benefit pension or postretirement plan in the year that the changes occur with the changes reported in comprehensive income. The standard is required to be adopted by entities having fiscal years ending after December 15, 2006. The Company is a participant in a multi-employer defined benefit plan, which is not within the scope of this pronouncement. This standard is not expected to have an impact on the Company’s financial condition, results of operations or liquidity.

Note 14 - STOCK SPLIT

On June 8, 2006, the Board of Directors approved a two-for-one split of the Company’s common stock and an amendment to its charter to increase the number of common shares authorized from 10 million to 20 million. As a result of the stock split, each shareholder of record at the close of business on July 19, 2006 received one additional share of common stock for every one share held on such date. Upon completion of the split, the total number of shares of common stock outstanding increased from approximately 8,391,000 to approximately 16,782,000.

The earnings per share calculations as presented on the Consolidated Statements of Income and Comprehensive Income, the number of shares issued and outstanding per the Statement of Changes in Stockholders’ Equity and share amounts referenced throughout the Notes to the Consolidated Financial Statements have been adjusted to reflect split adjusted share amounts.

- 20 -

ITEM 2. MANAGEMENT’S DISCUSSION AND ANALYSIS OR PLAN OF OPERATION

Comparison of Quarter Ended June 30, 2007 to Quarter Ended June 30, 2006

The following analysis should be read in conjunction with the unaudited financial statements of the Company and related notes included elsewhere in this quarterly report and the audited financial statements and Management’s Discussion and Analysis contained in our Form 10-KSB, for the fiscal year ended December 31, 2006.

Results of Operations

Sales increased by $3,347,865, (approximately 53%) to $9,715,262 during the three-month period ended June 30, 2007 from $6,367,397 during the same three-month period in 2006. This increase is primarily attributable to increased sales and awareness of Lifeway’s flagship line, Kefir, as well as the acquisition of the Helios Organic Kefir line and the Pride of Main Street milk line. Helios Nutrition and its subsidiary, Pride of Main Street Dairy, which were acquired August 3, 2006, accounted for a total of $1,434,463 in sales, with the Helios kefir brand accounting for $1,197,703 in sales, and the Pride of Main Street line accounting for $236,760 in sales.

Sales for the existing Lifeway Foods line increased by $1,913,401 (approximately 30%) to $8,280,798 during the three-month period ended June 30, 2007 from $6,367,397 during the same three-month period in 2006. This increase is primarily attributable to increased sales and awareness of Lifeway’s existing drinkable dairy products including La Fruta, its flagship line, Kefir, as well as Lifeway’s new kids kefir drink, Probugs™.

Cost of goods sold as a percentage of sales for the Lifeway Foods line was approximately 61% during the second quarter 2007, compared to about 60% during the same period in 2006. The increase was primarily attributable to the increase cost of conventional milk, our largest raw material. Even though the cost of conventional milk was approximately 60% higher in the second quarter 2007 when compared to the same quarter in 2006, our cost of goods sold as a percentage of sales were similar. This is due to our continuing efforts to leverage our newly-acquired Helios Organic Kefir line by moving its production to our main, highly-automated facility in Illinois, taking advantage of economies of scale, and thereby bringing down our overall cost of goods sold as a percentage of sales component. The cost of organic milk used in both of our Lifeway Organic Kefir, and our recently-acquired Helios Kefir line was approximately equal in the second quarter 2007 when compared to the same quarter in 2006.

Operating expenses as a percentage of sales for Lifeway Foods were approximately 21% during the second quarter 2007, compared to about 26% during the same period in 2006. This decrease is primarily attributable to operating synergies gained by the consolidation of the recently-acquired Helios Nutrition into our overall operations, as well as our continuing efforts to increase efficiency.

Income from operations increased by $831,133 (approximately 90%) to $1,761,287 during the three-month period ended June 30, 2007 from $930,154 during the same three-month period in 2006. This increase is primarily attributable to operating synergies gained by the consolidation of the recently-acquired Helios Nutrition into our overall operations and our continuing efforts to increase efficiency.

Total other income for the second quarter 2007 was $438,249, compared with $286,674 during the same period in 2006. This increase is primarily attributable to a higher gain on the sale of marketable securities in 2007, when compared to the same period in 2006. Marketable securities are discussed in Note 4 of the Notes to Consolidated Financial Statements.

Provision for income taxes was $803,510, or a 36% tax rate during the second quarter 2007 compared with $466,784, or a 36% tax rate during the same period in 2006. Income taxes are discussed in Note 9 of the Notes to Consolidated Financial Statements.

- 21 -

Total net income for the group was $1,396,026, or $.08 per split adjusted share for the second quarter ended June 30, 2007, compared with $750,044, or $.04 per split adjusted share in the same period in 2006. This represents an 86% year over year increase.

Comparison of Six-Month Period Ended June 30, 2007 to Six-Month Period Ended June 30, 2006

Results of Operations

Sales increased by $6,367,086, (approximately 51%) to $18,737,506 during the six-month period ended June 30, 2007 from $12,370,420 during the same six-month period in 2006. This increase is primarily attributable to increased sales and awareness of Lifeway’s flagship line, Kefir, as well as the acquisition of the Helios Organic Kefir line and the Pride of Main Street milk line. Helios Nutrition and its subsidiary, Pride of Main Street Dairy, which were acquired August 3, 2006, accounted for a total of $2,754,494 in sales, with the Helios kefir brand accounting for $2,336,585 in sales, and the Pride of Main Street line accounting for $417,909 in sales for the first six months of 2007

Sales for the existing Lifeway Foods line increased by $3,612,590 (approximately 29%) to $15,983,010 during the six-month period ended June 30, 2007 from $12,370,420 during the same six-month period in 2006. This increase is primarily attributable to increased sales and awareness of Lifeway’s existing drinkable dairy products including La Fruta, its flagship line Kefir, and Lifeway’s new kids’ kefir drink, Probugsä.

Cost of goods sold, as a percentage of sales was approximately 60% during the six-month period ended June 30, 2007, compared to about 58% during the same period in 2005. The increase is primarily attributable to an increase in the cost of conventional milk, Lifeway’s largest cost of goods component. The average cost of conventional milk in the six-month period ended June 30, 2007 was approximately 35% higher when compared to the same period in 2006.

Operating expenses as a percentage of sales for Lifeway Foods was approximately 20% during the six-month period ended June 30, 2007, compared to about 24% during the same period in 2006. This decrease is primarily attributable to operating synergies gained by the consolidation of the recently-acquired Helios Nutrition into our overall operations, as well as our continuing efforts to increase efficiency.

Total other income during the six-month period ending June 30, 2007 was $417,864, compared with $286,313 during the same period in 2006. This increase is primarily attributable to a higher gain on the sale of marketable securities in 2007, when compared to the same period in 2006. Marketable securities are discussed in Note 4 of the Notes to Consolidated Financial Statements.

Provision for income taxes was $1,449,284 or a 36% tax rate during the six-month period ended June 30, 2007 compared with $978,136 or a 36% rate during the same period in 2006. Income taxes are discussed in Note 9 of the Notes to Consolidated Financial Statements.

Total net income for the group was $2,531,357, or $.15 per split adjusted share for the six-month period ended June 30, 2007, compared with $1,644,702, or $.10 per split adjusted share in the same period in 2006. This represents a 54% year over year increase.

Sources and Uses of Cash

Net cash provided by operating activities increased $464,764 to $1,243,427 during the six-month period ended June 30, 2007 from $778,663 during the same period in 2006. This increase is primarily attributable to the increase in net income during the first six months of 2007.

Net cash used by financing activities was $1,657,059 during the six months ended June 30, 2007, which is an increase of $1,153,562 compared to $503,497 of net cash used by financing activities during the same period in 2006. This increase is primarily attributable to the Company repaying $865,732 of the $4.2 million note issued in connection with the Helios acquisition in August 2006, which was absent in 2006. The Company also purchased 75,000 shares of its treasury stock at a cost of $752,603 in the first six months of 2007. In the first six months of 2006, the Company repurchased 37,494 shares of its treasury stock at a cost of $459,287.

- 22 -

Significant portions of our assets are held in marketable securities. The majority of our marketable securities are classified as available-for-sale on our balance sheet, while the mortgage-backed securities are classified as trading. All of these securities are stated thereon at market value as of the end of the applicable period. Gains and losses on the portfolio are determined by the specific identification method.

Liquidity

We anticipate being able to fund the Company’s foreseeable liquidity requirements internally.

Other Developments

On May 18, 2007, Lifeway’s Board of Directors approved awards of an aggregate amount of 8,400 shares to be awarded under its Employee and Consulting Services and Compensation Plan to certain key employees and consultants for services rendered to the Company. The stock awards were made on June 1, 2007 and have vesting periods of one year. The expense for the awards is measured as of June 1, 2007 at $9.90 per share for 8,400 shares, or a total stock award expense of $83,160. This expense will be recognized as the stock awards vest monthy in 12 equal portions of $6,930, based upon the vesting of 700 shares per month.

In connection with the Company’s acquisition of Helios, we issued 202,650 shares of our common stock and agreed to register such shares for resale. We filed a registration statement with the SEC with respect to such shares on Form S-3 on September 15, 2006. This registration statement, as amended, was declared effective on July 25, 2007.

Critical Accounting Policies

Lifeway’s analysis and discussion of its financial condition and results of operations are based upon its consolidated financial statements that have been prepared in accordance with accounting principles generally accepted in the United States of America (“US GAAP”). The preparation of financial statements in accordance with US GAAP requires management to make estimates and assumptions that affect the reported amounts of assets, liabilities, revenues and expenses. US GAAP provides the framework from which to make these estimates, assumptions and disclosures. Lifeway chooses accounting policies within US GAAP that management believes are appropriate to accurately and fairly report Lifeway’s operating results and financial position in a consistent manner. Management regularly assesses these policies in light of current and forecasted economic conditions and has discussed the development and selection of critical accounting policies with its audit committee of the Board of Directors. For further information concerning accounting policies, refer to Note 2 -- Nature of Business and Significant Accounting Policies in the Notes to Consolidated Financial Statements.

Forward Looking Statements

In this report, in reports subsequently filed by Lifeway with the SEC on Form 10-QSB and filed or furnished on Form 8-K, and in related comments by management, our use of the words “believe,” “expect,” “anticipate,” “estimate,” “forecast,” “objective,” “plan,” “goal,” “project,” “explore,” “priorities/targets,” and similar expressions is intended to identify forward-looking statements. While these statements represent our current judgment on what the future may hold, and we believe these judgments are reasonable, actual results may differ materially due to numerous important factors that are described in this report and other factors that may be described in subsequent reports which Lifeway may file with the SEC on Form 10-QSB and filed or furnished on Form 8-K, including but not limited to:

Changes in economic conditions, commodity prices;

Shortages of and price increase for fuel, labor strikes or work stoppages, or market acceptance of the Company’s new products;

Significant changes in the competitive environment;

Changes in laws, regulations, or tax rates; and

Management’s ability to achieve reductions in cost to realize production efficiencies and to implement capital expenditures, all at of the levels and times planned by management.

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ITEM 3. CONTROLS AND PROCEDURES

As of the end of the period covered by this report, we conducted an evaluation, under the supervision and with the participation of our principal executive officer and principal financial officer, of the effectiveness of our disclosure controls and procedures (as defined in Rules 13a-15 and 15d-15 of the Securities Exchange Act of 1934 (the “Exchange Act”) as of June 30, 2007. Based on this evaluation, our principal executive officer and principal financial officer concluded that our disclosure controls and procedures are effective to ensure that information required to be disclosed by us in reports that we file or submit under the Exchange Act is recorded, processed, summarized and reported within the time periods specified in the SEC rules and forms. There was no change in our internal control over financial reporting during our most recently completed fiscal quarter that has materially affected, or is reasonably likely to materially affect, our internal controls over financial reporting.

ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS

Our Annual Meeting of stockholders was held on June 22, 2007. Proxies for the meeting were solicited pursuant to Regulation 14A under the Exchange Act. There was no solicitation of proxies in opposition to management’s nominees as listed in the proxy statement and all of management’s nominees were elected to our Board of Directors. Details of the voting are provided below:

Proposal 1:

To elect six (6) members of the Company’s Board of Directors to serve until the 2008 Annual Meeting of Stockholders (or until successors are elected or directors resign or are removed).

	Votes	Votes
	For	Withheld

Ludmila Smolyansky	16,392,610	227,085

Julie Smolyansky	16,393,330	226,365

Pol Sikar	16,611,631	8,064

Renzo Bernardi	16,611,181	8,514

Juan Carlos Dalto	16,588,681	31,014

Julie Oberweis	16,606,625	13,070

Proposal 2:

	Votes For	Votes Against	Abstentions

To ratify the appointment of Plante & Moran, PLLC as our independent auditors for the fiscal year ending December 31, 2007.	13,109,178	32,103	3,478,414

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PART II — OTHER INFORMATION

ITEM 5. OTHER INFORMATION

On August 14, 2007, the Company announced its financial results for the fiscal quarter ended June 30, 2007 and certain other information. A copy of the Company’s press release announcing these financial results and certain other information is attached as Exhibit 99.1 hereto. The information contained in Exhibit 99.1 hereto is being furnished, and should not be deemed “filed” for purposes of Section 18 of the Securities Exchange Act of 1934, as amended, or otherwise subject to the liabilities imposed by that Section. The information contained in Exhibit 99.1 shall not be incorporated by reference into any registration statement or other document or filing under the Securities Act of 1933, as amended, except as may be expressly set forth in a specific filing. The press release filed as an exhibit to this report includes “safe harbor” language pursuant to the Private Securities Litigation Reform Act of 1995, as amended, indicating that certain statements about the Company’s business and other matters contained in the press release are “forward-looking.” The press release also cautions investors that “forward-looking” statements may be different from actual operating results. Finally, the press release states that a more thorough discussion of risks and uncertainties which may affect the Company’s operating results is included in the Company’s reports on file with the Securities and Exchange Commission.

ITEM 6. EXHIBITS

EXHIBITS


Exhibit
Number		Description

3.4		Amended and Restated By-laws (incorporated by reference to Exhibit No. 3.5 of Lifeway’s Current Report on Form 8-K dated and filed on December 10, 2002). (File No. 000-17363)

3.5		Articles of Incorporation, as amended and currently in effect (incorporated by reference to Exhibit 3.5 of Lifeway’s Quarterly Report on Form 10-QSB for the quarter ended June 30, 2000 and filed on August 8, 2000). (File No. 000-17363)

11		Statement re: Computation of per share earnings (incorporated by reference to Note 2 of the Consolidated Financial Statements).

31.1		Rule 13a-14(a)/15d-14(a) Certification of Julie Smolyansky.

31.2		Rule 13a-14(a)/15d-14(a) Certification of Edward P. Smolyansky.

32.1		Section 1350 Certification of Julie Smolyansky.

32.2		Section 1350 Certification of Edward P. Smolyansky.


99.1		Press Release dated August 14, 2007- “Lifeway Foods Reports Record 2^nd Quarter and First Half 2007 Results.”

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SIGNATURE

In accordance with the requirements of the Exchange Act, the Company caused this report to be signed on its behalf by the undersigned, thereunto duly authorized.

	LIFEWAY FOODS, INC.



Date: August 14, 2007	By:	/s/ Julie Smolyansky
		Julie Smolyansky
		Chief Executive Officer, President, and Director




		/s/ Edward P. Smolyansky
		Edward P. Smolyansky
		Chief Financial and Accounting Officer and Treasurer

- 26 -

EXHIBITS INDEX


31.1		Rule 13a-14(a)/15d-14(a) Certification of Julie Smolyansky.

31.2		Rule 13a-14(a)/15d-14(a) Certification of Edward P. Smolyansky.

32.1		Section 1350 Certification of Julie Smolyansky.

32.2		Section 1350 Certification of Edward P. Smolyansky.

99.1		Press Release dated August 14, 2007- “Lifeway Foods Reports Record 2^nd Quarter and First Half 2007 Results.”

- 27 -

EX-31.1 2 exh31-1_15354.htm 302 CERTIFICATION - C.E.O. WWW.EXFILE.COM, INC. -- LIFEWAY FOODS, INC. -- EXHIBIT 31.2 TO FORM 10-QSB

EXHIBIT 31.1

RULE 13A-14(A) / 15D-14(A) CERTIFICATION

I, Julie Smolyansky, certify that:

1. I have reviewed this quarterly report of Lifeway Foods, Inc. on Form 10-QSB;

2. Based on my knowledge, this report does not contain any untrue statement of a material fact or omit to state a material fact necessary to make the statements made, in light of the circumstances under which such statements were made, not misleading with respect to the period covered by this report;

3. Based on my knowledge, the financial statements, and other financial information included in this report, fairly present in all material respects the financial condition, results of operations and cash flows of the small business issuer as of, and for, the periods presented in this report;

4. The small business issuer’s other certifying officer and I are responsible for establishing and maintaining disclosure controls and procedures (as defined in Exchange Act Rules 13a-15(e) and 15d-15(e) and internal control over financial reporting (as defined in Exchange Act Rules 13a-15(f) and 15d-15(f)) for the small business issuer and have:

a. Designed such disclosure controls and procedures, or caused such disclosure controls and procedures to be designed under my supervision, to ensure that material information relating to the small business issuer, including its consolidated subsidiaries, is made known to me by others within those entities, particularly during the period in which this report is being prepared;

b. Designed such internal control over financial reporting, or caused such internal control over financial reporting to be designed under my supervision, to provide reasonable assurance regarding the liability of financial reporting and the preparation of financial statements for external purposes in accordance with generally accepted accounting principles;

c. Evaluated the effectiveness of the small business issuer’s disclosure controls and procedures and presented in this report my conclusions about the effectiveness of the disclosure controls and procedures, as of end of the period covered by this report based on such evaluation; and

d. Disclosed in this report any change in the small business issuer’s internal control over financial reporting that occurred during the small business issuer’s most recent fiscal quarter (the small business issuer’s fourth fiscal quarter in the case of an annual report) that has materially affected, or is reasonably likely to materially affect, the small business issuer’s internal control over financial reporting presented; and

5. The small business issuer’s other certifying officer and I have disclosed, based on our most recent evaluation of internal control over financial reporting, to the small business issuer’s auditors and the audit committee of the small business issuer’s board of directors (or persons performing the equivalent functions):

a. All significant deficiencies and material weaknesses in the design or operation of internal controls over financial reporting which are reasonably likely to adversely affect the small business issuer’s ability to record, process, summarize and report financial information; and

b. Any fraud, whether or not material, that involves management or other employees who have a significant role in the small business issuer’s internal controls.


Date: August 14, 2007		/s/ Julie Smolyansky
		Julie Smolyansky
		Chief Executive Officer, President, and Director

EX-31.2 3 exh31-2_15354.htm 302 CERTIFICATION - C.F.O. WWW.EXFILE.COM, INC. -- LIFEWAY FOODS, INC. -- EXHIBIT 31.2 TO FORM 10-QSB

EXHIBIT 31.2

RULE 13A-14(A) / 15D-14(A) CERTIFICATION

I, Edward P. Smolyansky, certify that:

1. I have reviewed this quarterly report of Lifeway Foods, Inc. on Form 10-QSB;

b. Any fraud, whether or not material, that involves management or other employees who have a significant role in the small business issuer’s internal controls.


Date: August 14, 2007		/s/ Edward P. Smolyansky
		Edward P. Smolyansky
		Chief Financial and Accounting Officer and Treasurer

EX-32.1 4 exh32-1_15354.htm 906 CERTIFICATION - C.E.O. WWW.EXFILE.COM, INC. -- LIFEWAY FOODS, INC. -- EXHIBIT 32.1 TO FORM 10-QSB

EXHIBIT 32.1

SECTION 1350 CERTIFICATION

I, Julie Smolyansky, certify, pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002, that the Quarterly Report of Lifeway Foods, Inc. (the “Company”) on Form 10-QSB for three month period ended June 30, 2007:

(1) fully complies with the requirements of section 13(a) or 15(d) of the Securities Exchange Act of 1934; and

(2) that the information contained in the report fairly presents, in all material respects, the financial condition and results of operations of the Company.

This written statement is being furnished to the Securities and Exchange Commission as an exhibit to such Form 10-QSB. A signed original of this written statement required by Section 906 has been provided to the Company and will be retained by the Company and furnished to the Securities and Exchange Commission or its staff upon request.


Date: August 14, 2007		/s/ Julie Smolyansky
		Julie Smolyansky
		Chief Executive Officer, President, and Director

EX-32.2 5 exh32-2_15354.htm 906 CERTIFICATION - C.F.O. WWW.EXFILE.COM, INC. -- LIFEWAY FOODS, INC. -- EXHIBIT 32.2 TO FORM 10-QSB

EXHIBIT 32.2

SECTION 1350 CERTIFICATION

I, Edward P. Smolyansky, certify, pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002, that the Quarterly Report of Lifeway Foods, Inc. (the “Company”) on Form 10-QSB for three month period ended June 30, 2007:

(1) fully complies with the requirements of section 13(a) or 15(d) of the Securities Exchange Act of 1934; and

(2) that the information contained in the report fairly presents, in all material respects, the financial condition and results of operations of the Company.


Date: August 14, 2007		/s/ Edward P. Smolyansky
		Edward P. Smolyansky
		Chief Financial and Accounting Officer and Treasurer

EX-99.1 6 exh99-1_15354.htm PRESS RELEASE DATED AUGUST 14, 2007 WWW.EXFILE.COM, INC. -- LIFEWAY FOODS, INC. -- EXHIBIT 99.1 TO FORM 10-QSB

EXHIBIT 99.1

Lifeway Foods, Inc.

For Immediate Release

Lifeway Foods Reports Record 2nd Quarter and First Half 2007 Results

-	Q2 Sales Up 53%

-	Q2 Gross Profit Up 48%; Operating Income Up 89%

-	Total Q2 EPS Doubles to $.08 in 2007 from $.04 in 2006

Morton Grove, IL—August 14, 2007—Lifeway Foods, Inc., (Nasdaq: LWAY), makers of a nutritious, probiotic dairy beverage called kefir, announced today for the second quarter ended June 30, 2007, total consolidated sales increased 53% to approximately $9,715,000 from $6,367,000 during the same period a year ago. This increase in sales was driven by another strong sales increase of Lifeway’s kefir line of 30% and the remainder coming from the sales of the Helios kefir line and Pride of Main Street’s milk line.

Second quarter 2007 gross profit increased 48% to $3,829,076 from $2,579,820 during the same period a year ago. Gross margins were 40% in the second quarter 2007. Second quarter operating income increased 89% to $1,761,287 from $930,154 during the same period a year ago. Operating margins were 18% in the second quarter 2007 compared with 15% in the second quarter 2006. Net income rose 86% to $1,396,026 in the second quarter 2007, from $750,044 during the same period a year ago. Earnings per share increased to $.08 per share for the second quarter 2007, up 100% from $.04 per share for the same three-month period in 2007.

For the six months ended June 30, 2007, total consolidated sales increased 51% to approximately $18,737,500 from $12,370,000 during the same period a year ago. This increase in sales was driven by another strong sales increase of Lifeway’s kefir line of 29% and the remainder coming from the sales of the Helios kefir line and Pride of Main Street’s milk line.

For the six months ended June 30, 2007 gross profit increased 40% to $7,401,495 from $5,277,199 during the same period a year ago. Gross margins were 40% in the first six months of 2007. For the six months ended June 30, 2007 operating income increased 53% to $3,562,777 from 2,336,525 during the same period a year ago. Net income rose 54% to $2,531,357 in the first six months of 2007, from $1,644,702 during the same period a year ago, while earnings per share increased to $.15 per share for, up $.10 per share for the same six-month period in 2007.

Edward Smolyansky, CFO commented, “We are extremely proud of our second quarter and first half 2007 results, one of the best periods we have ever had from top to bottom. Despite historically high conventional milk prices, and due to organic milk prices stagnating over the last year, we continue to see benefits from leveraging our recent acquisition of the Helios Organic Kefir line into our overall operations. In addition to the Organic Helios Kefir line, our own Lifeway Organic Kefir lines continue to outpace our conventional Kefir line in growth as we focus on products such as Probugsä Organic Kefir for kids.”

Smolyansky added, “Going forward, we believe that our focus on Organic Kefir will help mitigate the effects of historically high conventional milk prices on costs, and we hope these milk prices are temporary.”

About Lifeway Foods

Lifeway, recently named Fortune Small Business' 94th Fastest Growing Small Business, and one of only 20 companies to ever be named to the list three straight years in a row, is America's leading supplier of the cultured dairy product known as kefir, and now America’s largest supplier of Organic Kefir. Lifeway Kefir is a dairy beverage that contains Lifeway's exclusive 10 Live and Active probiotic cultures. While most regular yogurt only contains two or three of these "friendly" cultures, Lifeway kefir products offer more nutritional benefits. Lifeway

offers 12 different flavors of its Kefir beverage, Organic Kefir and SoyTreat (a soy based kefir). Lifeway recently introduced a series of innovative new products such as pomegranate kefir, Greek-style kefir, a children’s line of organic kefir products called ProBugs (TM) in a patented no-spill pouch in kid-friendly flavors like Orange Creamy Crawler and Sublime Slime Lime, and a line of organic whole milk kefir. Lifeway also produces a line of products marketed in US Hispanic communities, called La Fruta, Drinkable Yogurt (yogurt drinks distinct from kefir). In addition to its line of Kefir products, the company produces a variety of cheese products and recently introduced a line of organic pudding called It's Pudding!.

Live conference calls will now be on an annual basis to discuss fiscal full year results. For more information, contact Lifeway Foods, Inc. at (847) 967-1010 or e-mail at info@lifeway.net and visit http://www.lifeway.net .

This news release contains forward-looking statements. Investors are cautioned that actual results may differ materially from such forward-looking statements. Forward-looking statements involve risks and uncertainties including, but not limited to, competitive pressures and other important factors detailed in the Company's reports filed with the Securities and Exchange Commission.

	(Unaudited)						(Unaudited)
	Three Months Ended						Six Months Ended
	June 30,						June 30,
	2007			2006			2007			2006

Sales	$	9,715,262		$	6,367,397		$	18,737,506		$	12,370,420

Cost of goods sold		5,886,186			3,787,577			11,336,011			7,093,221

Gross profit		3,829,076			2,579,820			7,401,495			5,277,199

Selling Expenses		912,262			849,647			1,682,343			1,432,591
General and Administrative		1,155,527			800,019			2,156,375			1,508,083

Total Operating Expenses		2,067,789			1,649,666			3,838,718			2,940,674

Income from operations		1,761,287			930,154			3,562,777			2,336,525

Other income (expense):
Interest and dividend income		98,365			122,033			164,164			208,264
Rental Income		9,581			---			18,181			---
Interest expense		(109,283	)		(63,200	)		(218,812	)		(113,426	)
Gain (loss) on sale of marketable
securities, net		439,243			225,292			453,380			188,414
Gain on marketable securities
classified as trading		343			2,549			951			3,061
Total other income (Expense)		438,249			286,674			417,864			286,313

Income before provision for
income taxes		2,199,536			1,216,828			3,980,641			2,622,838

Provision for income taxes		803,510			466,784			1,449,284			978,136

Net income	$	1,396,026		$	750,044		$	2,531,357		$	1,644,702

Basic and diluted earnings per
common share		0.08			0.04			0.15			0.10

Weighted average number of
shares outstanding		16,875,905			16,799,536			16,885,586			16,795,473