10-Q 1 form10q_17500.htm FORM 10-Q form10q_17500.htm


UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, DC 20549
 
FORM 10-Q
 

 
(Mark One)  
   
x
QUARTERLY REPORT UNDER SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
 
For the quarterly period ended:  March 31, 2013
 
o
TRANSITION REPORT UNDER SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
 
For the transition period from __________ to __________
 
Commission File Number: 000-17363
 

 
LIFEWAY FOODS, INC.
(Exact Name of Registrant as Specified in its Charter)
 

 
Illinois
36-3442829
(State or Other Jurisdiction of
Incorporation or Organization)
(I.R.S. Employer
Identification No.)
 
 6431 West Oakton, Morton Grove, IL 60053
(Address of Principal Executive Offices, Zip Code)
 
(847) 967-1010
(Registrant’s Telephone Number, Including Area Code) 
 
Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days.   Yes  x   No  o
 
Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data file required to be submitted and posted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files).   Yes  x   No  o
 
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer or a smaller reporting company. See the definitions of “large accelerated filer,” “accelerated filer” and “smaller reporting company” in Rule 12b-2 of the Exchange Act.
 
Large accelerated filer o
Accelerated filer o
Non-accelerated filer  o
Smaller reporting company x
 
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).   Yes  o   No  x
 
As of May 13, 2013, 16,346,017 shares of the registrant’s common stock, no par value, were outstanding.
 


 
 
 
 
LIFEWAY FOODS, INC.
 
Table of Contents
 
 
PART I – FINANCIAL INFORMATION
 
Item 1.
Financial Statements.
3
Item 2.
Management’s Discussion and Analysis of Financial Condition and Results of Operations.
19
Item 3.
Quantitative and Qualitative Disclosures About Market Risk.
20
Item 4.
Controls and Procedures.
20
 
 
PART II – OTHER INFORMATION
 
Item 1.
Legal Proceedings.
22
Item 1 A.
Risk Factors.
22
Item 2.
Unregistered Sales of Equity Securities and Use of Proceeds.
22
Item 3.
Defaults Upon Senior Securities.
22
Item 4.
Removed and Reserved.
22
Item 5.
Other Information.
22
Item 6.
Exhibits.
22
 
Signatures.
23
 
Index of Exhibits.
24
 
 
 
 
 
 
 
- 2 -

 
PART I – FINANCIAL INFORMATION
 
ITEM 1.  FINANCIAL STATEMENTS.
 
LIFEWAY FOODS, INC. AND SUBSIDIARIES
Consolidated Statements of Financial Condition
March 31, 2013 and 2012 (Unaudited) and December 31, 2012

   
(Unaudited)
March 31,
   
December 31,
 
   
2013
   
2012
   
2012
 
ASSETS
                 
                   
Current assets
                 
Cash and cash equivalents
  $ 2,739,957     $ 1,156,539     $ 2,286,226  
Investments
    2,062,343       1,723,836       1,869,888  
Certificates of deposits in financial institutions
    250,000       300,000       450,000  
Inventories
    7,080,899       5,205,457       5,939,186  
Accounts receivable, net of allowance for doubtful
                       
accounts and discounts
    11,915,981       8,484,371       8,723,737  
Prepaid expenses and other current assets
    92,827       39,880       97,138  
Other receivables
    5,165       155,937       8,825  
Deferred income taxes
    295,701       357,963       234,687  
Refundable income taxes
    84,828       ---       84,828  
Total current assets
  $ 24,527,701     $ 17,423,983     $ 19,694,515  
                         
Property and equipment, net
    14,917,260       15,031,364       14,986,776  
                         
Intangible assets
                       
Goodwill and other non-amortizable brand assets
    14,068,091       14,068,091       14,068,091  
Other intangible assets, net of accumulated amortization of
                       
$4,020,598 and $3,276,645 at March 31, 2013 and 2012 and $3,842,756
                       
At December 31, 2012, respectively
    4,285,403       5,029,355       4,463,242  
Total intangible assets
    18,353,494       19,097,446       18,531,333  
                         
Other Assets
                       
Long-term accounts receivable net of current portion
    294,000       276,050       294,000  
Total assets
  $ 58,092,455     $ 51,828,843     $ 53,506,624  
                         
LIABILITIES AND STOCKHOLDERS' EQUITY
                       
                         
Current liabilities
                       
Checks written in excess of bank balances
  $ 0     $ 333,446     $ 0  
Current maturities of notes payable
    543,591       789,933       542,981  
Accounts payable
    6,465,801       4,597,466       4,256,725  
Accrued expenses
    1,197,883       755,187       1,155,677  
Accrued income taxes
    462,593       279,402       254,311  
Total current liabilities
    8,669,868       6,755,434       6,209,694  
                         
Notes payable
    4,820,160       5,363,750       4,955,945  
                         
Deferred income taxes
    2,909,134       3,394,957       3,028,518  
                         
Total liabilities
    16,399,162       15,514,141       14,194,157  
                         
Stockholders' equity
                       
Common stock, no par value; 20,000,000 shares authorized;
                       
17,273,776 shares issued; 16,346,017 shares outstanding at
                       
March 31, 2013; 17,273,776 shares issued; 16,390,417 shares
                       
outstanding at March 31, 2012; 17,273,776 shares issued; 16,346,017 shares
                       
outstanding at December 31, 2012
    6,509,267       6,509,267       6,509,267  
Paid-in-capital
    2,032,516       2,032,516       2,032,516  
Treasury stock, at cost
    (8,187,682 )     (7,783,580 )     (8,187,682 )
Retained earnings
    41,270,416       35,526,285       38,904,777  
Accumulated other comprehensive income (loss), net of taxes
    68,776       30,214       53,591  
Total stockholders' equity
    41,693,293       36,314,702       39,312,469  
                         
Total liabilities and stockholders' equity
  $ 58,092,455     $ 51,828,843     $ 53,506,626  
 
- 3 -

 
LIFEWAY FOODS, INC. AND SUBSIDIARIES
Consolidated Statements of Income and Comprehensive Income
March 31, 2013 and 2012 (Unaudited) and December 31, 2012

   
(Unaudited)
 
   
Three Months Ended
 
   
March 31,
 
   
2013
   
2012
 
                (as restated)  
                         
Sales
 
$
27,590,622
   
$
     
$
21,545,896
   
$
   
Less: discounts and allowances
   
(3,203,591
)
           
(2,148,699
)
       
Net sales
   
24,387,031
     
24,387,031
     
19,397,197
     
19,397,197
 
Cost of goods sold
           
15,402,875
             
12,906,722
 
Depreciation expense
           
394,125
             
399,045
 
Total cost of goods sold
           
15,797,000
             
13,305,767
 
Gross profit
           
8,590,030
             
6,091,430
 
Selling expenses
           
2,813,572
             
2,721,973
 
General and administrative
           
1,868,100
             
1,308,222
 
Amortization expense
           
177,842
             
188,705
 
Total operating expenses
           
4,859,514
             
4,218,900
 
                                 
Income from operations
           
3,730,517
             
1,872,530
 
                                 
Other income (expense):
                               
Interest and dividend income
           
15,009
             
11,573
 
Rental income
           
3,269
             
3,000
 
Interest expense
           
(36,299)
             
(50,186)
 
Gain (loss) on sale of investments, net
           
64,335
             
17,985
 
Other Expense
           
0
             
0
 
Total other income (expense)
           
46,314
             
17,628
 
                                 
Income before provision for
                               
income taxes
           
3,776,831
             
1,854,902
 
                                 
Provision for income taxes
           
1,411,192
             
759,913
 
Net income
         
$
2,365,639
           
$
1,094,989
 
Basic and diluted earnings
                               
per common share
           
.14
             
.07
 
Weighted average number of
                               
shares outstanding
           
16,346,017
             
16,397,998
 
                                 
COMPREHENSIVE INCOME
                               
                                 
Net income
         
$
2,365,639
           
$
1,094,989
 
                                 
Other comprehensive income
                               
(loss), net of tax:
                               
Unrealized gains on
                               
investments (net of tax)
           
51,535
 
           
29,000
 
Less reclassification adjustment for (gains)
                               
losses included in
                               
net income (net of taxes)
           
(36,349
)            
10,162
 
Comprehensive income
         
$
2,380,824
           
$
1,134,151
 
 
 
 
- 4 -

 
LIFEWAY FOODS, INC. AND SUBSIDIARIES
Consolidated Statements of Changes in Stockholders’ Equity
For the Three Months Ended March 31, 2013 and 2012 (Unaudited)
and For the Year Ended December 31, 2012
 
   
Common Stock, No Par Value
                                 
Accumulated
       
   
20,000,000 Shares
   
# of Shares
                           
Other
       
   
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, 2011
    17,273,776       16,409,317       864,459     $ 6,509,267     $ 2,032,516     $ (7,606,974 )   $ 34,431,296     $ (8,948 )   $ 35,357,157  
                                                                         
Redemption of stock
    0       (63,300 )     63,300       0       0       (580,708 )     0       0       (580,708 )
                                                                         
Other comprehensive income (loss):
                                                                       
Unrealized gains on securities, net of taxes
    0       0       0       0       0       0       0       62,539       62,539  
                                                                         
Net income for the year ended
                                                                       
December 31, 2012
    0       0       0       0       0       0       5,619,798       0       5,619,798  
                                                                         
Dividends ($.07) per share
    0       0       0       0       0       0       (1,146,317 )     0       (1,146,317 )
                                                                         
Balances at December 31, 2012
    17,273,776       16,346,017       927,759     $ 6,509,267     $ 2,032,516     $ (8,187,682 )   $ 38,904,777     $ 53,591     $ 39,312,469  
                                                                         
Balances at January 1, 2012
    17,273,776       16,409,317       864,459     $ 6,509,267     $ 2,032,516     $ (7,606,974 )   $ 34,431,296     $ (8,948 )   $ 35,357,157  
                                                                         
Redemption of stock
    0       (18,900 )     18,900       0       0       (176,606 )     0       0       (176,606 )
                                                                         
Other comprehensive income (loss):
                                                                       
Unrealized gains on securities, net of taxes
    0       0       0       0       0       0       0       39,162       39,162  
                                                                         
Net income for the three months ended
                                                                       
March 31, 2012
    0       0       0       0       0       0       1,094,989       0       1,094,989  
                                                                         
Dividends ($.07) per share
    0       0       0       0       0       0       0       0       0  
                                                                         
Balances at March 31, 2012
    17,273,776       16,390,417       883,359     $ 6,509,267     $ 2,032,516     $ (7,783,580 )   $ 35,526,285     $ 30,214     $ 36,314,702  
                                                                         
Balances at January 1, 2013
    17,273,776       16,346,017       927,759     $ 6,509,267     $ 2,032,516     $ (8,187,682 )   $ 38,904,777     $ 53,591     $ 39,312,469  
                                                                         
Redemption of stock
    0                       0       0               0       0       0  
                                                                         
Other comprehensive income (loss):
                                                                       
Unrealized gains on securities, net of taxes
    0       0       0       0       0       0       0       15,185       15,185  
                                                                         
Net income for the three months ended
                                                                       
March 31, 2013
    0       0       0       0       0       0       2,365,639       0       2,365.639  
                                                                         
Dividends ($.07) per share
    0       0       0       0       0       0       0       0       0  
                                                                         
Balances at March 31, 2013
    17,273,776       16,346,017     $ 927,759     $ 6,509,267     $ 2,032,516     $ (8,187,682 )   $ 41,270,416     $ 68,776     $ 41,693,293  

 
 
- 5 -

 
LIFEWAY FOODS, INC. AND SUBSIDIARIES
Consolidated Statements of Cash Flows
For the Three Months Ended March 31, 2013 and 2012 (Unaudited)
 
   
(Unaudited)
   
March 31,
   
2013
 
2012
           
Cash flows from operating activities:
         
Net income
 
$
2,365,639
   
$
1,094,989
 
Adjustments to reconcile net income to net
               
cash flows from operating activities:
               
Depreciation and amortization
   
571,967
     
587,750
 
Loss (gain) on sale of investments, net
   
(64,335
)
   
(17,985
)
Deferred income taxes
   
(192,090)
     
(185,805)
 
Bad Debt Expense
   
51,819
     
6,384
 
(Increase) decrease in operating assets:
               
Accounts receivable
   
(3,244,063
)
   
(526,979)
 
Other receivables
   
3,660
     
68,267
 
Inventories
   
(1,141,713
)
   
(250,982)
 
Refundable income taxes
   
0
     
41,316
 
Prepaid expenses and other current assets
   
4,311
     
39,750
 
Increase (decrease) in operating liabilities:
               
Accounts payable
   
2,209,076
     
211,227
 
Accrued expenses
   
42,206
     
201,462
 
Income taxes payable
   
208,282
     
279,402
 
Net cash provided by operating activities
   
814,759
     
1,548,796
 
                 
Cash flows from investing activities:
               
Purchases of investments
   
(1,271,516
)
   
(318,123)
 
Proceeds from sale of investments
   
1,170,271
     
404,028
 
Redemption of certificates of deposits
   
200,000
     
0
 
Purchases of property and equipment
   
(324,608
)
   
(231,243)
 
Net cash used in investing activities
   
(225,853
)
   
(145,338)
 
                 
Cash flows from financing activities:
               
Checks written in excess of bank balances
   
0
     
(258,594)
 
Purchases of treasury stock
   
0
     
(176,606)
 
Repayment of notes payable
   
(135,175
)
   
(926,869)
 
Net cash used in financing activities
   
(135,175
)
   
(1,362,069)
 
                 
Net (decrease) increase in cash and cash equivalents
   
453,731
     
41,389
 
                 
Cash and cash equivalents at the beginning of the period
   
2,286,226
     
1,115,150
 
                 
Cash and cash equivalents at the end of the period
 
$
2,739,957
   
$
1,156,539
 
 
 
 
 
- 6 -

 
LIFEWAY FOODS, INC. AND SUBSIDIARIES
Notes to Consolidated Financial Statements
March 31, 2013 and 2012
and December 31, 2012


Note 1 – NATURE OF BUSINESS

Lifeway Foods, Inc. (the “Company” or “Lifeway”) 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 a vegetable-based seasoning under the name “Golden Zesta.” The Company currently distributes its products throughout the Chicago Metropolitan area and various cities on the East Coast through local food stores. In addition, products are sold throughout the United States and Ontario, Canada by distributors. The Company also distributes some of its products to Eastern Europe.

 
Note 2 – SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES

A summary of the significant accounting policies applied in the preparation of the accompanying financial statements follows:
 
Basis of presentation
The accompanying unaudited financial statements of the Company have been prepared in accordance with the instructions to Form 10-Q.  Accordingly, they do not include all of the information and footnotes required by general accepted accounting principles for complete financial statements.  However, such information reflects all adjustments (consisting of normal recurring adjustments), which are, in the opinion of Management, necessary for fair statement of results for the interim periods.
 
Principles of consolidation
The consolidated financial statements include the accounts of the Company and its wholly-owned subsidiaries, Helios Nutrition, Ltd., Pride of Main Street, L.L.C., Starfruit, L.L.C., Fresh Made, Inc. and Starfruit Franchisor, 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 investment securities, the valuation of goodwill, intangible assets, and deferred taxes.

Revenue Recognition
Sales of Company produced dairy products 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. Discounts and allowances are reported as a reduction of gross sales unless the allowance is attributable to an identifiable benefit separable from the purchase of the product, the value of which can be reasonably estimated, which would be charged to the appropriate expense account.

Customer Concentration
Sales are predominately to companies in the retail food industry, located within the United States of America. Two major customers accounted for approximately 31 percent and 31 percent of gross sales for the three months ended March 31, 2013 and 2012, respectively.   These customers accounted for approximately 36 percent, 30 percent, and 30 percent of accounts receivable as of March 31, 2013, March 31, 2012, and December 31, 2012, respectively.

 
 
 
- 7 -

 
LIFEWAY FOODS, INC. AND SUBSIDIARIES
Notes to Consolidated Financial Statements
March 31, 2013 and 2012
and December 31, 2012


Note 2 – SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES – Continued

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.

Investments
All investment securities are classified as available-for-sale and are carried at fair value. Unrealized gains and losses on available-for-sale securities 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. All of the Company's securities are subject to a periodic impairment evaluation. 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. Balances expected to be paid beyond one year are classified as long-term.

Accounts receivable are recorded at invoice amounts, and reduced to their estimated net realizable value by recognition of an allowance for doubtful accounts and anticipated discounts. The Company’s estimate of the allowances for doubtful accounts and anticipated discounts are based upon historical experience, its evaluation of the current status and contract terms 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 is 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 is 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




 
 
- 8 -

 
LIFEWAY FOODS, INC. AND SUBSIDIARIES
Notes to Consolidated Financial Statements
March 31, 2013 and 2012
and December 31, 2012


Note 2 – SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES – Continued

Intangible assets acquired in business combinations
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 identifiable intangible assets acquired. Goodwill is not amortized, but is reviewed for impairment at least annually. Brand assets represent the fair value of brands acquired. Brand assets have an indefinite life and therefore are not amortized, rather are reviewed periodically for impairment. 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 per 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
 
7-10
Lease agreement
 
7
Trade names
 
15
Formula
 
10
Customer relationships
 
12

Income taxes
Deferred income taxes are the result of temporary differences that arise 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 investments, capitalization of indirect costs for tax purposes, purchase price adjustments, and the recognition of an allowance for doubtful accounts for financial statement purposes.

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 returns are the 2010 and 2011 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.

 
 
- 9 -

 
LIFEWAY FOODS, INC. AND SUBSIDIARIES
Notes to Consolidated Financial Statements
March 31, 2013 and 2012
and December 31, 2012
 

Note 2 – SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES – Continued

Treasury stock
Treasury stock is recorded using the cost method.

Advertising and promotional costs
The Company expenses advertising costs as incurred. For the three months ended March 31, 2013 and 2012 total advertising expenses were $606,398 and $755,666, respectively.

Earnings 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 three months ended March 31, 2013 and 2012, diluted and basic earnings per share were the same, as the effect of dilutive securities options outstanding was not significant.
 
Correction of Prior Year Amounts
Management has restated the unaudited statements of income and comprehensive income for interim period ending March 31, 2012.  During the period ending March 31, 2012, amounts related to costs of production of inventory were not presented as part of cost of goods sold and were erroneously included as general and administrative operation expenses in our previously issued financial statements (see Note 14).
 
There was no impact on previously reported income, consolidated balance sheets or consolidated statement of cash flows.
 
 
Note 3 – INTANGIBLE ASSETS

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

   
March 31, 2013
   
March 31, 2012
   
December 31, 2012
 
   
Cost
   
Accumulated Amortization
   
Cost
   
Accumulated Amortization
   
Cost
   
Accumulated Amortization
 
Recipes
  $ 43,600     $ 43,600     $ 43,600     $ 43,600     $ 43,600     $ 43,600  
Customer lists and other customer related intangibles
    4,504,200       2,137,640       4,504,200       1,666,438       4,504,200       2,025,736  
Lease acquisition
    87,200       87,200       87,200       87,200       87,200       87,200  
Customer relationship
    985,000       544,222       985,000       465,135       985,000       526,701  
Trade names
    2,248,000       915,936       2,248,000       766,068       2,248,000       878,469  
Formula
    438,000       292,000       438,000       248,200       438,000       281,050  
    $ 8,306,000     $ 4,020,598     $ 8,306,000     $ 3,276,645     $ 8,306,000     $ 3,842,756  


Amortization expense is expected to be approximately the following for the 12 months ending March 31:

2014
 
$
711,367
 
2015
   
711,367
 
2016
   
711,367
 
2017
   
682,166
 
2018
   
667,567
 
Thereafter
   
801,568
 
   
$
4,285,402
 

Amortization expense during the three months ended March 31, 2013 and 2012 was $177,842 and $188,705, respectively.
 
 
 
- 10 -

 
LIFEWAY FOODS, INC. AND SUBSIDIARIES
Notes to Consolidated Financial Statements
March 31, 2013 and 2012
and December 31, 2012


Note 4 – INVESTMENTS

The cost and fair value of investments classified as available for sale are as follows:

March 31, 2013
 
Cost
   
Unrealized
Gains
   
Unrealized
Losses
   
Fair
Value
 
                         
Equities
 
$
769,743
   
$
126,498
   
$
(8,861
)
 
$
887,380
 
Preferred Securities
   
100,005
     
0
     
(405
)
   
99,600
 
Corporate Bonds
   
1,070,867
     
13,355
     
(8,859
)
   
1,075,363
 
Total
 
$
1,940,615
   
$
139,853
   
$
(18,125
)
 
$
2,062,343
 

March 31, 2012
 
Cost
   
Unrealized
Gains
   
Unrealized
Losses
   
Fair
Value
 
                         
Equities
 
$
525,657
   
$
77,348
   
$
(3,519)
   
$
599,486
 
Mutual Funds
   
56,840
     
959
     
(105)
     
57,694
 
Preferred Securities
   
189,452
     
10,950
     
(5,152)
     
195,250
 
Corporate Bonds
   
870,671
     
11,312
     
(10,577)
     
871,406
 
Total
 
$
1,642,620
   
$
100,569
   
$
(19,353)
   
$
1,723,836
 
                         
December 31, 2012
 
Cost
   
Unrealized
Gains
   
Unrealized
Losses
   
Fair
Value
 
                                 
Equities
 
$
639,974
   
$
90,875
   
$
( 5,190
)
 
$
725,659
 
Corporate Bonds
   
1,135,064
     
16,212
     
( 7,047
)
   
1,144,229
 
Total
 
$
1,775,038
   
$
107,087
   
$
( 12,237
)
 
$
1,869,888
 


Proceeds from the sale of investments were $1,170,271 and $404,028 for the three months ended March 31, 2013 and 2012, respectively.

Gross gains of $66,218 and $22,349 and gross losses of $1,882 and $4,364 were realized on these sales during the three months ended March 31, 2013 and 2012, respectively.

The following table shows the gross unrealized losses and fair value of the 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 March 31, 2013 and 2012 and at December 31, 2012:

   
Less Than 12 Months
   
12 Months or Greater
   
Total
 
March 31, 2013
 
Fair Value
   
Unrealized Losses
   
Fair Value
   
Unrealized Losses
   
Fair Value
   
Unrealized Losses
 
                                     
Equities
  $ 138,409     $ (6,916 )   $ 33,371     $ (1,945 )   $ 171,780     $ (8,861 )
Preferred Securities
    99,600       (405 )     0       0       99,600       (405 )
Corporate Bonds
    519,549     $ (8,075 )     72,715       (784 )     592,264       (8,859 )
    $ 757,558     $ (15,396 )   $ 106,086     $ (2,729 )   $ 863,644     $ (18,125 )
 

 
 
 
- 11 -

 
LIFEWAY FOODS, INC. AND SUBSIDIARIES
Notes to Consolidated Financial Statements
March 31, 2013 and 2012
and December 31, 2012
 

Note 4 – INVESTMENTS - Continued

   
Less Than 12 Months
   
12 Months or Greater
   
Total
 
March 31, 2012
 
Fair Value
   
Unrealized Losses
   
Fair Value
   
Unrealized Losses
   
Fair Value
   
Unrealized Losses
 
                                     
Equities
  $ 20,346     $ ( 1,535 )   $ 3,184     $ ( 1,984 )   $ 23,530     $ ( 3,519 )
Mutual Funds
    0       0       3,073       ( 105 )     3,073       ( 105 )
Preferred Securities
    0       0       59,300       ( 5,152 )     59,300       ( 5,152 )
Corporate Bonds
    262,923       ( 10,577 )     0       0       262,923       ( 10,577 )
    $ 283,269     $ ( 12,112 )   $ 65,557     $ ( 7,241 )   $ 348,826     $ ( 19,353 )

 

   
Less Than 12 Months
   
12 Months or Greater
   
Total
 
December 31, 2012
 
Fair Value
   
Unrealized Losses
   
Fair Value
   
Unrealized Losses
   
Fair Value
   
Unrealized Losses
 
                                     
Equities
  $ 63,620     $ ( 3,745 )   $ 21,910     $ ( 1,445 )   $ 85,530     $ ( 5,190 )
Corporate Bonds
    301,229       ( 2,721 )     193,930       ( 4,326 )     495,159       ( 7,047 )
    $ 364,849     $ ( 6,466 )   $ 215,840     $ ( 5,771 )   $ 580,689     $ ( 12,237 )


Equities, Mutual Funds, Preferred Securities, and Corporate Bonds - The Company's investments in equity securities, mutual funds, preferred securities, and corporate bonds consist of investments in common stock, preferred stock and debt securities of companies in various industries. As of March 31, 2013, there were ten equity securities, one option on equity securities, one preferred equity security, and eight corporate bond securities that had unrealized losses. 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 did not consider any material investments to be other-than-temporarily impaired at March 31, 2013.

 
Note 5 – INVENTORIES

Inventories consist of the following:

   
March 31,
   
December 31,
 
   
2013
   
2012
   
2012
 
Finished goods
  $ 2,785,838     $ 2,091,004     $ 2,462,548  
Production supplies
    3,025,400       2,082,194       2,599,668  
Raw materials
    1,269,661       1,032,259       876,970  
Total inventories
  $ 7,080,899     $ 5,205,457     $ 5,939,186  

 
Note 6 – PROPERTY AND EQUIPMENT

Property and equipment consist of the following:
   
March 31,
   
December 31,
 
   
2013
   
2012
   
2012
 
Land
  $ 1,178,160     $ 1,178,160     $ 1,178,160  
Buildings and improvements
    11,972,226       11,656,233       11,904,919  
Machinery and equipment
    15,865,429       14,777,420       15,185,204  
Vehicles
    1,350,608       1,347,228       1,346,078  
Office equipment
    429,013       404,905       411,773  
Construction in process
    167,775       111,039       612,468  
      30,963,211       29,474,985       30,638,602  
Less accumulated depreciation
    16,045,951       14,443,621       15,651,826  
Total property and equipment
  $ 14,917,260     $ 15,031,364     $ 14,986,776  

Depreciation expense during the three months ended March 31, 2013 and 2012 was $394,125 and $399,045, respectively.
 
 
 
- 12 -

 
LIFEWAY FOODS, INC. AND SUBSIDIARIES
Notes to Consolidated Financial Statements
March 31, 2013 and 2012
and December 31, 2012

Note 7 ACCRUED EXPENSES

Accrued expenses consist of the following:

   
March 31,
   
December 31,
 
   
2013
   
2012
   
2012
 
Accrued payroll and payroll taxes
  $ 477,559     $ 490,137     $ 356,280  
Accrued property tax
    225,308       250,342       302,573  
Other
    495,016       14,708       496,824  
    $ 1,197,883     $ 755,187     $ 1,155,677  

 
Note 8 – NOTES PAYABLE

Notes payable consist of the following:

   
March 31,
   
December 31
 
   
2013
   
2012
   
2012
 
                   
Note payable to Private Bank in monthly installments of $42,222, plus variable interest rate, currently at 2.709%, with a balloon payment for the remaining balance. Collateralized by substantially all assets of the Company.  In May 2013, the Company refinanced this note under similar terms which extended the maturity date to May 31, 2018.
  $ 5,238,889     $ 5,745,556     $ 5,365,556  
                         
Line of credit with Private Bank at variable interest rate, currently at 3.25%. The agreement has been extended with terms allowing borrowings up to $2.0 million. Collateralized by substantially all assets of the Company.   In May 2013, the Company refinanced this Line of Credit.  The agreement has been extended with terms allowing borrowings up to $5.0 million and matures on May 31, 2014.
    0       250,000       0  
                         
Notes payable to Ford Credit Corp. payable in monthly installments of $1,778.23 at 5.99%, due July 2015, secured by transportation equipment.
    46,291       64,200       50,871  
                         
Note payable to Fletcher Jones of Chicago, Ltd LLC in monthly installments of $1,768.57 at 6.653%, due May 24, 2017, secured by transportation equipment.
    78,571       93,927       82,499  
Total notes payable
    5,363,751       6,153,683       5,498,926  
Less current maturities
    543,591       789,933       542,981  
Total long-term portion
  $ 4,820,160     $ 5,363,750     $ 4,955,945  

In accordance with the Private Bank agreements referenced above, the Company is subject to minimum fixed charged ratio and tangible net worth thresholds.

Maturities of notes payables are as follows:

Twelve Months Ended March 31,
   
       
2014
 
$
543,591
 
2015
   
544,573
 
2016
   
532,585
 
2017
   
526,879
 
2018
   
510,569
 
Thereafter     2,705,554  
Total
 
$
5,363,751
 

 
 
- 13 -

 
LIFEWAY FOODS, INC. AND SUBSIDIARIES
Notes to Consolidated Financial Statements
March 31, 2013 and 2012
and December 31, 2012
 

Note 9 – COMMITMENTS AND CONTINGENCIES

The Company leases four stores for its Starfruit subsidiary. Total expense for these leases was approximately $59,205, $58,264 and $379,348 for the three months ended March 31, 2013 and 2012 and for the year ended December 31, 2012, respectively. The Company is also responsible for additional rent equal to real estate taxes and other operating expenses. Future annual minimum base rental payments for the leases as of March 31, 2013 are approximately as follows:

       
2014
 
$
100,969
 
2015
   
44,469
 
2016
   
45,802
 
2017
   
47,176
 
2018
   
48,591
 
Thereafter
   
37,257
 
Total
 
$
324,264
 


Note 10 – PROVISION FOR INCOME TAXES

The provision for income taxes consists of the following:

       
   
For the Three Months Ended
 
   
March 31,
 
   
2013
   
2012
 
Current:
           
Federal
 
$
1,176,711
   
$
633,372
 
State and local
   
426,571
     
312,346
 
Total current
   
1,603,282
     
945,718
 
Deferred
   
(192,090
)
   
(185,805
)
Provision for income taxes
 
$
1,411,192
   
$
759,913
 

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

   
For the Three Months Ended
 
   
March 31,
 
   
2013
   
2012
 
   
Amount
   
Percentage
   
Amount
   
Percentage
 
Federal income tax expense computed at the statutory rate
 
$
1,284,123
     
34.0
%
 
$
630,667
     
34.0
%
State and local tax expense, net
   
281,160
     
7.4
%
   
215,169
     
11.6
%
U.S. domestic manufacturers’ deduction & other permanent differences
   
(154,091
)
   
(4.0
)%
   
(52,493
)
   
(2.8
)%
Change in tax estimate
   
0
     
0.0
%
   
(33,430
)
   
(1.8
)%
Provision for income taxes
 
$
1,411,192
     
37.4
%
 
$
759,913
     
41.0
%
 

 
 
 
- 14 -

 
LIFEWAY FOODS, INC. AND SUBSIDIARIES
Notes to Consolidated Financial Statements
March 31, 2013 and 2012
and December 31, 2012


Note 10 – PROVISION FOR INCOME TAXES - Continued

Amounts for deferred tax assets and liabilities are as follows:

             
   
March 31,
   
December 31,
 
   
2013
   
2012
   
2012
 
Non-current deferred tax assets (liabilities) arising from:
Temporary differences -
                 
Accumulated depreciation and amortization
                 
from purchase accounting adjustments
  $ (3,017,346 )   $ ( 3,562,647 )   $ ( 3,164,716 )
Capital loss carry-forwards
    108,212       167,690       136,198  
Total non-current net deferred tax liabilities
    (2,909,134 )     ( 3,394,957 )     ( 3,028,518 )
Current deferred tax assets arising from:
                       
Unrealized losses (gain) on investments
    (52,952 )     ( 35,329 )     ( 41,260 )
Inventory
    316,028       232,324       265,072  
Allowance for doubtful accounts and  discounts
    32,625       4,350       10,875  
Allowance for promotions
    0       65,249       0  
Capital loss carry-back
    0       91,369       0  
Total current deferred tax assets
    295,701       357,963       234,687  
Net deferred tax liability
  $ (2,613,433 )   $ ( 3,036,994 )   $ ( 2,793,831 )


Note 11 – SUPPLEMENTAL CASH FLOW INFORMATION

Cash paid for interest and income taxes are as follows:
       
   
For the Three Months Ended
 
   
March 31,
 
   
2013
   
2012
 
Interest
 
$
36,326
   
$
64,172
 
Income taxes
 
$
1,395,093
   
$
625,055
 


Note 12 – STOCK AWARD AND 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 1,200,000 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. 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, 2012 and at March 31, 2013 and 2012, there were no stock options outstanding or exercisable. There were approximately 940,000 shares available for issuance under the Plan at March 31, 2013.

 
 
- 15 -

 
LIFEWAY FOODS, INC. AND SUBSIDIARIES
Notes to Consolidated Financial Statements
March 31, 2013 and 2012
and December 31, 2012


Note 13 – FAIR VALUE MEASUREMENTS

Financial Accounting Standards Board (“FASB”) Accounting Standards Codification (“ASC”) 820, Fair Value Measurements and Disclosures, provides the framework for measuring fair value. That framework provides a fair value hierarchy that prioritizes the inputs to valuation techniques used to measure fair value. The hierarchy gives the highest priority to unadjusted quoted prices in active markets for identical assets or liabilities (level 1 measurement) and the lowest priority to unobservable inputs (level 3 measurements). The three levels of the fair value hierarchy under FASB ASC 820 are described as follows:

Level 1. Inputs to the valuation methodology are unadjusted quoted prices for identical assets or liabilities in active markets that the Company has the ability to access.

Level 2. Inputs to the valuation methodology include the following:
Quoted prices for similar assets or liabilities in active markets;
Quoted prices for identical or similar assets or liabilities in inactive markets;
Inputs other than quoted prices that are observable for the asset or liability;
Inputs that are derived principally from or corroborated by observable market data by correlation or other means.

If the asset or liability has a specified (contractual) term, the level 2 input must be observable for substantially the full term of the asset or liability.

Level 3. Inputs to the valuation methodology are unobservable and significant to the fair value measurement.

The asset or liability's fair value measurement level within the fair value hierarchy is based on the lowest level of any input that is significant to the fair value measurement. Valuation techniques used need to maximize the use of observable inputs and minimize the use of unobservable inputs.

Following is a description of the valuation methodologies used for assets measured at fair value. There have been no changes in the methodologies used as of March 31, 2013 and 2012.

The majority of the Company’s short-term investments are classified within Level 1 or Level 2 of the fair value hierarchy. The Company’s valuation of its Level 1 investments, which include mutual funds, is based on quoted market prices in active markets for identical securities. The Company’s valuation of its Level 2 investments, which include certificates of deposits, is based on other observable inputs, specifically a valuation model which utilized vendor pricing for similar securities.

The preceding methods described may produce a fair value calculation that may not be indicative of net realizable value or reflective of future fair values. Furthermore, although the Company believes the valuation methods are appropriate and consistent with other market participants, the use of different methodologies or assumptions to determine the fair value of certain financial instruments could result in a different fair value measurement at the reporting date.


 
 
 
 
- 16 -

 
LIFEWAY FOODS, INC. AND SUBSIDIARIES
Notes to Consolidated Financial Statements
March 31, 2013 and 2012
and December 31, 2012


Note 13 – FAIR VALUE MEASUREMENTS – Continued

The following table sets forth by level, within the fair value hierarchy, the Company’s financial assets at fair value as of March 31, 2013 and 2012 and for the year ended December 31, 2012. Assets and liabilities are classified in their entirety based on the lowest level of input that is significant to the fair value measurement:

   
Assets and Liabilities at Fair Value as of March 31, 2013
 
   
Level 1
   
Level 2
   
Level 3
   
Total
 
Cash
 
$
2,739,957
   
$
0
   
$
0
   
$
2,739,957
 
Certificate of Deposits
   
0
     
237,175
     
0
     
237,175
 
Stocks
   
887,380
     
0
     
0
     
887,380
 
Preferred Securities
   
99,600
     
0
     
0
     
99,600
 
Corporate Bonds
   
0
     
1,075,363
     
0
     
1,075,363
 
Notes Payable
   
0
     
5,363,751
     
0
     
5,363,751
 
 
 
   
Assets and Liabilities at Fair Value as of March 31, 2012
 
   
Level 1
   
Level 2
   
Level 3
   
Total
 
                         
Cash
 
$
1,156,540
   
$
0
   
$
0
   
$
823,093
 
Mutual Funds:
   
0
     
0
     
0
     
0
 
Equity Income
   
57,694
     
0
     
0
     
57,694
 
Bonds
   
0
     
0
     
0
     
0
 
Certificate of Deposits
   
0
     
280,482
     
0
     
280,482
 
Stocks
   
599,486
     
0
     
0
     
599,486
 
Preferred Stock
   
195,250
     
0
     
0
     
195,250
 
Corporate Bonds
   
0
     
871,406
     
0
     
871,406
 
Notes Payable
   
0
     
6,153,683
     
0
     
6,153,683
 
                                 
 
 
   
Assets and Liabilities as Fair Value as of December 31, 2012
 
   
Level 1
   
Level 2
   
Level 3
   
Total
 
Cash
  $ 2,286,226     $ 0     $ 0     $ 2,286,226  
Certificate of Deposits
    0       439,982       0       439,982  
Stocks
    725,670       0       0       725,670  
Corporate Bonds
    0       1,144,229       0       1,144,229  
Notes Payable
    0       5,498,926       0       5,498,926  
 
The Company’s financial assets and liabilities also include accounts receivable, other receivables and, accounts payable for which carrying value approximates fair value. All such assets are valued using level 2 inputs.

 
Note 14 – RESTATEMENT OF 2012 QUARTERLY CONSOLIDATED FINANCIAL STATEMENT
 
The consolidated statements of income for the year-to-date period ended March 31, 2012, that were previously included in our Quarterly Reports on Forms 10-Q filed in 2012, were restated as a result of erroneous presentation of production activity within general and administrative operating expenses.
 
These restatements result in increases in cost of goods sold and corresponding decreases in general and administrative operating expenses. These restatements had no impact on our previously reported net income, condensed consolidated balance sheets or consolidated statements of cash flows.
 
As detailed in the table below, these restatements impact the following consolidated statement of income line items:

   
(Unaudited)
Three Months Ended
March 31, 2012
 
   
As Previously Reported
   
Adjustment
   
As Restated
 
Income Statement
                 
Net Sales
 
$
19,397,197
   
$
   
$
19,397,197
 
COGS
 
$
12,637,386
   
$
668,381
   
$
13,305,767
 
Gross Profit
 
$
6,759,811
   
$
(668,381
)
 
$
6,091,430
 
Operating Expenses
 
$
4,887,281
   
$
(668,381
)
 
$
4,218,900
 
Income from Operations
 
$
1,872,530
   
$
   
$
1,872,530
 
 
 
 
- 17 -

 
LIFEWAY FOODS, INC. AND SUBSIDIARIES
Notes to Consolidated Financial Statements
March 31, 2013 and 2012
and December 31, 2012

 
 

Note 15 – LITIGATION
 
The Company is named a party to lawsuits in the normal course of business. In the opinion of management, the resolution of these lawsuits will not have a material adverse effect on the Company’s consolidated financial position or results of operations.

 
Note 16 – RECENT ACCOUNTING PRONOUNCEMENTS

In May 2011, the FASB issued ASU No. 2011-04, “Amendments to Achieve Common Fair Value Measurement and Disclosure Requirements in U.S. GAAP and IFRS.” This pronouncement was issued to provide a consistent definition of fair value and ensure that the fair value measurement and disclosure requirements are similar between U.S. GAAP and International Financial Reporting Standards (“IFRS”). ASU 2011-04 changes certain fair value measurement principles and enhances the disclosure requirements particularly for level 3 fair value measurements. ASU 2011-04 became effective for the Company on January 1, 2012. Management adopted this statement effective January 1, 2012.

 
Note 17 – SUBSEQUENT EVENT
 
On May 15, 2013, the Company entered into an agreement to acquire the Golden Guernsey dairy plant in Waukesha, WI.   The acquisition will increase the production capacity of Lifeway by approximately 170,000 square feet.   The purchase price is approximately $7.4 million and the acquisition is expected to close on June 10, 2013.
 
 
 
 
 
 
 
 
 
 
 
 

 
- 18 -

 
ITEM 2.      MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS.

Comparison of Quarter Ended March 31, 2013 to Quarter Ended March 31, 2012

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-K, for the fiscal year ended December 31, 2012.

Results of Operations

Total consolidated gross sales increased by $6,044,725 (approximately 28%) to $27,590,621 during the three-month period ended March 31, 2013 from $21,545,896 during the same three-month period in 2012.  This increase is primarily attributable to increased sales and awareness of the Company’s flagship line, Kefir, as well as ProBugs® Organic Kefir for kids and BioKefir™.

Total consolidated net sales increased by $4,989,833 (approximately 26%) to $24,387,030 during the three-month period ended March 31, 2013 from $19,397,197 during the same three-month period in 2012.  Net sales are recorded as gross sales less promotional activities such as slotting fees paid, couponing, spoilage and promotional allowances as well as early payment terms given to customers. The total allowance for promotions and discounts during the three-month period ended March 31, 2013 was $3,203,591 or 12% of gross sales, compared to the total allowance for promotions and discounts during the three-month period ended March 31, 2012 of $2,148,699 or 10% of gross sales.

Cost of goods sold as a percentage of net sales, excluding depreciation expense, were approximately 63% during the first quarter of 2013, compared to approximately 67% during the same period in 2012. The decrease was primarily attributable to the decreased cost of conventional milk, the Company’s largest raw material.  The total cost of milk was approximately 5% lower during the first quarter 2013 when compared to the same period in 2012.

Operating expenses as a percentage of net sales were approximately 20% during the first quarter of 2013, compared to approximately 22% during the same period in 2012.  This was primarily attributable to an increase in selling related expenses, which increased by $91,599, (approximately 3%) to $2,813,572 during the first quarter of 2013, from $2,721,973 during the same period in 2012.

The company reported income from operations of $3,730,517 during the first quarter of 2013, an improvement of $1,857,986 from $1,872,530 during the same period in 2012.

Provision for income tax was $1,411,192, or a 37% effective rate for the first quarter of 2013 compared to a provision for income tax of 759,913, or a 41% effective tax rate during the same period in 2012.  Income taxes are discussed in Note 10 to the Notes to the Financial Statements.

Total net income was $2,365,638 or $0.14 per diluted share for the three-month period ended March 31, 2013 compared to $1,094,989 or $0.07 per diluted share in the same period in 2012.

Liquidity and Capital Resources

Sources and Uses of Cash

Net cash provided by operating activities was $814,758 during the three-months ended March 31, 2013 compared to net cash provided by operating activities of $1,548,796 in the same period in 2012.  This decrease is primarily attributable to the increase of $1,997,849 in accounts payable in the first quarter of 2013 as compared to the prior year first quarter.

Net cash used in investing activities was $225,853 during the three-months ended March 31, 2013 compared to net cash used in investing activities of $145,338 in the same period in 2012. This decrease is primarily due to a increase in purchases of investments of $953,393 in the first quarter of 2013.

The Company had a net increase of cash and cash equivalents of $1,583,418 during the three month period ended March 31, 2013 compared to the same period in 2012 and an increase of  $453,730 as compared to the December 31, 2012 cash and cash equivalent balance.  The Company had cash and cash equivalents of $2,739,956 as of March 31, 2013 compared to cash and cash equivalents of $1,156,539 as of March 31, 2012.
 
- 19 -

 
Assets and Liabilities

Total assets were $58,092,455 as of March 31, 2013, which is an increase of $6,263,612 when compared to March 31, 2012.  This is primarily due to accounts receivable, net of allowance for doubtfulaccounts and discounts of $11,915,981 as of March 31, 2013, which is an increase of $ 3,431,610 when compared to March 31, 2012.

Total current liabilities were $8,669,868 as of March 31, 2013, which is an increase of $1,914,434 when compared to March 31, 2012. This is primarily due to a $1,868,335 increase in accounts payable.

Notes payable decreased by $543,590 as of March 31, 2013, when compared to March 31, 2012.  The balance of the notes payable as of March 31, 2013 was $4,820,160.

Total stockholder’s equity was $41,693,293 as of March 31, 2013, which is an increase of $5,378,591 when compared to March 31, 2012.  This is primarily due the increase in retained earnings of $5,744,131 when compared to March 31, 2012.

We previously held significant portions of our assets in investment securities. All of our marketable securities are classified as available-for-sale on our balance sheet.  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.

We anticipate being able to fund the Company’s foreseeable liquidity requirements internally. We continue to explore potential acquisition opportunities in our industry in order to boost sales while leveraging our distribution system to consolidate and lower costs.


ITEM 3.     QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK.

Not applicable.


ITEM 4.
CONTROLS AND PROCEDURES.

Evaluation of Disclosure Controls and Procedures
 
We maintain disclosure controls and procedures that are designed to ensure material information required to be disclosed in our reports that we file or submit under the Exchange Act is recorded, processed, summarized, and reported within the time periods specified in the SEC’s rules and forms, and that such information is accumulated and communicated to our management, including our principal executive officer and principal financial and accounting officer, as appropriate, to allow timely decisions regarding required financial disclosure. In designing and evaluating the disclosure controls and procedures, we recognized that a control system, no matter how well designed and operated, can provide only reasonable, not absolute, assurance that the objectives of the control system are met. Because of the inherent limitations in all control systems, no evaluation of controls can provide absolute assurance that all control issues and instances of fraud, if any, within a company have been detected.
 
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”)). Based on this evaluation, our principal executive officer and principal financial officer concluded that our disclosure controls and procedures were not effective at the reasonable assurance level as of March 31, 2013 in ensuring that information required to be disclosed by us under the Exchange Act is recorded, processed, summarized and reported within the time periods specified under the Exchange Act rules and forms due to the material weakness described below. As a result, we performed additional analysis and other post-closing procedures to ensure our consolidated financial statements were prepared in accordance with generally accepted accounting principles. Accordingly, management believes the consolidated financial statements included in this Form 10-Q fairly present, in all material respects, our financial condition, results of operations and cash flows for the periods presented.
 
Management's Report on Internal Control Over Financial Reporting
 
Management is responsible for establishing and maintaining adequate internal control over financial reporting as such term is identified in Exchange Act Rules 13a-15(f). Internal control over financial reporting is a process designed by, or under the supervision of, our principal executive officer and principal financial and accounting officer, and effected by the Board of Directors, management, and other personnel, to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for external purposes in accordance with accounting principles generally accepted in the United States of America. Our control over financial reporting includes those policies and procedures that:
 
 
- 20 -

 
pertain to the maintenance of records that, in reasonable detail, accurately and fairly reflect our transactions and dispositions of our assets;
provide reasonable assurance that our transactions are recorded as necessary to permit preparation of our financial statements in accordance with accounting principles generally accepted in the United States of America, and that our receipts and expenditures of the company are being made only in accordance with authorizations of our management and our directors; and
provide reasonable assurance regarding prevention or timely detection of unauthorized acquisition, use, or disposition of our assets that could have a material effect on our financial statements.
 
Internal control over financial reporting has inherent limitations which may not prevent or detect misstatements. Also, projections of any evaluation of effectiveness to future periods are subject to the risk that controls may become inadequate because of changes in conditions or because the level of compliance with related policies or procedures may deteriorate.

Management has evaluated the effectiveness of our internal control over financial reporting as of March 31, 2013. In making the assessment, management used the framework in “Internal Control –Integrated Framework” promulgated by the Committee of Sponsoring Organizations of the Treadway Commission, commonly referred to as the “COSO” criteria. Based on that assessment, our principal executive officer and principal financial and accounting officer concluded that our internal control over financial reporting was not effective as of March 31, 2013 because a material weakness existed in our internal control over financial reporting related to the classification of certain costs and expenses. Specifically, the Company and its auditors determined during the audit of our financial statements that, in connection with the preparation of the Company's Annual Report on Form 10-K for fiscal year ended December 31, 2012, certain post-closing adjustments were required with respect to our classification of certain direct manufacturing costs from general and administrative to cost of goods sold, primarily consisting of utilities, wage related expenses and overhead.
 
As a result, we performed additional analysis and other post-closing procedures to ensure our consolidated financial statements were prepared in accordance with generally accepted accounting principles. Accordingly, management believes the consolidated financial statements included in this Form 10-Q fairly present, in all material respects, our financial condition, results of operations and cash flows for the periods presented. This quarterly report on Form 10-Q does not include an attestation report of our registered public accounting firm regarding internal control over financial reporting.
 
Remediation of Material Weakness
 
In light of the material weakness described above, we took steps to remediate our material weakness. Management enhanced the review process by improving real time general ledger monitoring and wage detail in the financial statement functionality of our accounting software, allowing for improved internal review of the source information which goes in to the completion of the financial statements. More specifically, management has focused on improving specific coding of direct expenses as compared to general and administrative expenses.
 
Management is committed to continuous improvement of the Company’s internal control processes. Under the direction of the Audit Committee, management will continue to review and make changes it deems necessary to the overall design of the Company’s internal control over financial reporting, including implementing further improvements in policies and procedures and taking additional measures to address any control deficiencies.
 
Changes in Internal Control over Financial Reporting
 
Except as discussed above there were no changes in our internal control over financial reporting that occurred during the first quarter of 2013 that have materially affected, or are reasonably likely to materially affect, our internal control over financial reporting.
 

 
 
- 21 -

 
PART II – OTHER INFORMATION
 
ITEM 1.     LEGAL PROCEEDINGS.
 
Lifeway is not party to any material pending legal proceedings. Lifeway is from time to time engaged in litigation matters arising in the ordinary course of business none of which presently is expected to have a material adverse effect on its business results or operations.
 
ITEM 1A.   RISK FACTORS.
 
Not applicable.
 
ITEM 2.     UNREGISTERED SALES OF EQUITY SECURITIES AND USE OF PROCEEDS.
 
PURCHASES OF THE COMPANY’S SECURITIES
Period
 
(a) Total Numbers of Shares (or Units) Purchased
 
(b) Average Price Paid per
Share (or Unit)
 
(c) Total Number of Shares (or Units) Purchased as Part of Publicly Announced
Plans or Programs
 
(d) Maximum Number (or Approximate Dollar Value) of Shares (or Units) that May Yet Be Purchased
Under the
Plans or Programs
October 1 to October 31, 2012
 
0
 
$0
 
0
 
146,200
November 1 to November 30, 2012
 
0
 
$0
 
0
 
146,200
December 1 to December 31, 2012
 
0
 
$0
 
0
 
146,200
Total
 
0
 
$0
 
0
 
146,200
 
* On January 20, 2011, the Company approved a share repurchase program for up to 250,000 shares with a plan expiration date of one year from the date of the first purchase. On February 6, 2012, the Company approved a new share repurchase program for up to 200,000 shares with a plan expiration date of one year from the date of the first purchase. Lifeway repurchased 63,300 shares of the Company’s securities in 2012 pursuant to these programs at a total cost of $580,708. As of the date of this filing these plans were both expired. A new share repurchase program has not been approved for 2013.
 
ITEM 3.     DEFAULTS UPON SENIOR SECURITIES.
 
None.
 
ITEM 5.     OTHER INFORMATION.
 
On May 14, 2013 the Company,  The Private Bank and Trust Company (the “Bank”), Fresh Made, Inc. (“Fresh Made”), Helios Nutrition Limited (“Helios”), Pride of Main Street Dairy, LLC (“Pride”) and Starfruit, LLC (“Starfruit” and together with Fresh Made, Helios and Pride, the “Subsidiaries”) entered into a Seventh Modification ( the “Seventh Modification”) of that certain Loan and Security Agreement dated as of February 6, 2009 by and among the Company, the Bank, and the Subsidiaries, as amended by that certain First Modification to Loan and Security Agreement dated as of August 13, 2009, as amended by that certain Second Modification to Loan and Security Agreement dated as of November 12, 2009, as amended by that certain Third Modification to Loan and Security Agreement dated as of February 6, 2010, as amended by that certain Fourth Modification to Loan and Security Agreement dated as of April 20, 2011, as amended by that certain Fifth Modification to Loan and Security Agreement dated as of June 20, 2011, and as amended by that certain Sixth Modification to Loan and Security Agreement dated as of June 13, 2012 (as modified and amended, the “Loan Agreement”). Pursuant to the Seventh Modification, (i) the Revolving Loan Maturity Date is extended from May 31, 2013 to May 31, 2014, (ii) the Revolving Loan Commitment is increased to $5,000,000 from $3,000,000, (iii) the Term Loan Maturity Date is extended from February 6, 2014 to May 31, 2018.
 
ITEM 6.     EXHIBITS.
 
3.1   Articles of Incorporation, as amended.
     
10.1  
Seventh Modification to Loan and Security Agreement dated May 14, 2013, by and among The PrivateBank and Trust Company, Lifeway Foods, Inc., Fresh Made, Inc., Helios Nutrition Limited, Pride of Main Street Dairy, LLC and Starfruit, LLC.
     
31.1   Officer’s Certificate Pursuant to 15 U.S.C. 7241, as Adopted Pursuant to Section 302 of the Sarbanes-Oxley Act of 2002.
     
31.2   Officer’s Certificate Pursuant to 15 U.S.C. 7241, as Adopted Pursuant to Section 302 of the Sarbanes-Oxley Act of 2002.
     
32.1   Certification of Chief Executive Officer Pursuant to 18 U.S.C. Section 1350, as Adopted Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.
     
32.2   Certification of Chief Financial Officer Pursuant to 18 U.S.C. Section 1350, as Adopted Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.
     
99.1   Press Release dated May 15, 2013.
     
101   Interactive Data Files.
 
- 22 -

 
SIGNATURES
 
Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned, thereunto duly authorized.
 

 

 
LIFEWAY FOODS, INC.
 
     
       
Date: May 15, 2013
By:
/s/ Julie Smolyansky
 
   
Julie Smolyansky
 
   
Chief Executive Officer, President, and Director
 
       
       
       
Date: May 15, 2013
By:
/s/ Edward P. Smolyansky
 
   
Edward P. Smolyansky
 
   
Chief Financial and Accounting Officer, Treasurer, Chief Operating Officer and Secretary
 
 


 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 


 
 
- 23 -

 
INDEX OF EXHIBITS
   
   
3.1 Articles of Incorporation, as amended.
   
10.1
Seventh Modification to Loan and Security Agreement dated May 14, 2013, by and among The PrivateBank and Trust Company, Lifeway Foods, Inc., Fresh Made, Inc., Helios Nutrition Limited, Pride of Main Street Dairy, LLC and Starfruit, LLC.
   
31.1
Officer’s Certificate Pursuant to 15 U.S.C. 7241, as Adopted Pursuant to Section 302 of the Sarbanes-Oxley Act of 2002.
 
31.2
Officer’s Certificate Pursuant to 15 U.S.C. 7241, as Adopted Pursuant to Section 302 of the Sarbanes-Oxley Act of 2002.
 
32.1
Certification of Chief Executive Officer Pursuant to 18 U.S.C. Section 1350, as Adopted Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.
 
32.2
Certification of Chief Financial Officer Pursuant to 18 U.S.C. Section 1350, as Adopted Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.
 
99.1 Press Release dated May 15, 2013.
   
101
Interactive Data Files.
   

 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
- 24 -